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Why Jim Chanos Shorted Gamestop

October 23, 2012 | About:

In April 2012, Jim Chanos revealed some value traps that his firm has shorted. One of the firms that he has persistently cautioned investors about is Gamestop (NYSE:GME).

Chanos' argument is that the video game retailer will face increasing competition from e-commerce. Similarly, companies like Best Buy (NYSE:BBY) and Radio Shack (RSH) have struggled with online competition from (NASDAQ:AMZN).

The key question is whether the anticipated slide in Gamestop's business has started. If it has, is the trend accelerating?

First of all, management expects the company to earn $3.10 in fiscal year 2012 which means that shares trade for 7 times earnings.

However, revenues are falling quickly. Sales of physical video games are down 20% year over year. New hardware sales declined 34% in the second quarter.

Bears should be careful because Gamestop is heavily shorted by the hedge fund community. Thirty-seven percent of the share float is short despite the fact that short-sellers are paying out 4% dividends.

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