Games Workshop (GAW) is a stock that people love to hate. Its customers are routinely referred to as 'nerds' – a derogatory term for those who, amongst other pursuits, enjoy painting miniature fantasy figures and conducting epic battles.
I can see the appeal as I used to enjoy waging war with large armies on real-time strategy games, and although I do my daily battles now with market makers and the irritating algorithms that frequent the London Stock Exchange’s SETS platform, it is a regret that I didn’t pledge my allegiance to Games Workshop in the form of an extended ownership of shares, rather than fleeting visits.
Games Workshop shareholders have had the last laugh, though. In 2016, the share price was a lowly 600p, yet four years later the stock traded above 7,000p. The company has been a great value builder for those who spotted the market opportunity and stuck with the trend. It’s a stock that I’ve traded frequently, though, and I’ve been offered many opportunities as it’s consistently beaten its market forecasts and put out regular statements highlighting trading “ahead of expectations”. Companies that can do this often see strong short-term moves in their stock prices within the bigger long-term uptrend, which is great for traders like myself.
This phenomenon is known as ‘post earnings announcement drift’. Next time you notice an “ahead of expectations” phrase in a morning RNS watch how the stock reacts. It’s a great pattern to trade, because of its high probability and also the fact that it is buying into strength and momentum. One can trade these stocks several times a year, as I highlighted in my recent article looking at Greggs (GRG) (‘Greggs offers two bites of the pasty’, IC, 12 March 2020). The other beauty of these stocks is that liquidity is often not an issue. For traders, identifying these stocks that are on what is known as an ‘earnings upgrade cycle’ can be a tried-and-tested source of alpha generation.
In Chart 1, we can see that the stock appeared to show signs of a struggle after such an advance. Many (including myself) were looking for signs of a breakdown as an opportunity to go short, as the stock tussled with the 200-day moving averages and threatened to take out the low at 2,800p. For a few months, it seemed that the trend may have been coming to an end.
However, in April 2019 the business released a strong trading statement to the market and it gapped up in the opening auction. There was a big follow-through in the price, and the stock broke out of the prior high (indicated by the red line drawn on my chart) and powered on. In one single statement, any ideas of a short trade were crushed. This is why pre-empting a trade can be dangerous, because unless the price action confirms the trade then it is a gamble. Furthermore, shorting a strong stock on the basis that it is ‘overvalued’ is frequently a very foolish game.
Fast forward nearly a year, and Games Workshop announced that all stores, headquarters, factories, and warehouses would be closed. No guidance was given to the market. On 28 April, the company reported that it expected profit before tax for the year to be no less than £70m for the year to 31 May 2020. A sluggish start to 2021 is pretty much a given, given the slow reopening of an economy that has been brought to a grinding halt.
However, Games Workshop has other strings to its bow, which should help it through the crisis and keep investors and traders interested for a long while. In 2019, the company’s online store accounted for a fifth of sales, and it’s not unreasonable to expect demand through this channel to have spiked as its customers have remained stuck inside over the past few months.
But the real potential kicker for the share price is Games Workshop’s royalty income. Its Warhammer brand, in particular, has become increasingly valuable, and by licensing this brand to other parties it can make lots of money with very little work – a very high-margin business. Shareholders are no doubt hoping for lots of mega media deals, which would bring prominence to the brand and more importantly more profits.
Indeed, earlier this month we saw one such agreement between Games Workshop and Frontier Developments (FDEV) to publish a real-time strategy worldwide on PC, console and streaming platforms, by licensing the former’s Warhammer brand. Frontier has been another star of the stock market itself, and has produced several successful games including the Elite series. Its earnings are lumpy, and it relies heavily on each new release, which is perhaps why Games Workshop investors are anticipating huge royalties as a result. True, they may be a few years away yet, and the quantum unknown, but it’s enough of a prospect to keep any shorters away for now.
In Chart 2, we can see how the stock has rebounded in recent weeks since the licensing news. Note also the increase of volume around the bottom of the price range – this shows increasing demand, and volume is a great indicator for traders to keep an eye out for, as very often where there is volume there is volatility.
The fact that volumes have remained strong in the past few weeks suggests both an increase of trading in the stock and accumulation. Since the middle of March, the stock is almost back up to its pre-Covid-19 highs.
The previous all-time high is 7,377p, and with the stock approaching it we may see that as resistance. In any strong move, there is often profit-taking, and nobody could blame anyone for banking gains of almost 100 per cent in the recent trend.
Should the stock break out of this high, I would like to take a long position and try to capture a new trend.
You can contact Michael and get your free copy of Ten Habits of Highly Profitable Traders from www.shiftingshares.com
Twitter: @shiftingshares
New subscribers to SharePad can claim a free month of data with the code: Michael
