Wow, Electronic Arts (ERTS seriously stunk up the joint with their big fat reduction in guidance last night, and the stock is getting creamed today, trading down to $23.43 as of the time I’m writing this.
EA also freaked out those who believed the video-game industry was relatively recession proof (count me in that camp but I’m beginning to wonder) with this excerpt contained in its press release:
“Considering the slow down at retail we’ve seen in October, we are cautious in the short term,” said John Riccitiello, Chief Executive Officer. “Longer term, we are very bullish on the game sector overall and on EA in particular. The industry is growing double-digits on the strength of three new game consoles and increases in the number of homes with broadband internet connections.
Let’s forget about what EA says about the long term, because video-game stocks are by their nature momentum stocks and thus shouldn’t be thought of that way. The key to successfully picking video-game stocks is to identity blockbuster title releases three to six months ahead of the crowd – not what will happen three years from now.
What happens when a video-game company delivers a great quarter? Estimates for the next few years go up. And when a company misses, estimates for the next few years go down. In reality, this process does not make much sense because of how unpredictable software cycles can be, and how easily a company’s fortunes can turn. For evidence, just look at THQ in 2006 vs. 2007.
The alternative strategy is to simply try to buy the stocks when they are extremely beaten down and when crowd sentiment is extremely negative. I thought EA’s guidance would be steady if not improved based on my research, but obviously I was proven wrong. I’m still short the Nov $22.50 put on ERTS, but I’m not adding to that position unless the stock creeps up higher. It is close to being in the money, which means I could be a happy ERTS shareholder on November 21, but I’m fine going long the stock at ~$21.60. ($22.50 minus the ~$0.90 premium I received)
I also remain long Activision (ATVI) and THQ (THQI), the latter of which I went long yesterday due to its dirt-cheap valuation and catalyst in the form of the upcoming UFC video-game title.
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Michael, nice blog, I like the new setup. I remember you from videos on The Street and from the Minyanville exchange. I will link to your site from my blog (www.thestocksurfer.blogspot.com), where I also have an article on the ERTS earnings fallout. I’ve been looking at THQ lately, but I may wait until their earning report which could be ugly. In contrast, I think ATVI’s earnings and guidance will be solid (although the market reaction is probably a coin flip).
What are your main sources for research on the video game sector?