GameStop stock’s possible return to S&P 500 in hands of anonymous committee

Some traders are betting GameStop could take another leap higher if S&P Dow Jones Indices adds the stock to the S&P 500 when it is rebalanced later this year.

Getting a stock into the most widely watched index isn’t a straightforward or predictable process. Unlike indexes including the Russell 2000, whose makeup is primarily determined by criteria including market capitalization, the S&P 500 is constructed by a committee of human beings. The identities of the committee members, who are full-time staffers at S&P Dow Jones Indices, are kept anonymous.

“Entrance to the S&P 500 is a combination of both art and science,” said Art Hogan, chief market strategist at National Securities Corp.

Committee members have a few rules they follow when deciding to make changes in the S&P 500. Companies being added to the index must be highly liquid U.S. firms with a market capitalization of at least $13.1 billion, for instance. Moreover, the committee has leeway in deciding on changes.

The index committee has the final say on index constituents, which helps explain why the S&P 500 includes 500 of the largest publicly traded U.S. companies—but not necessarily the 500 largest companies.

That means even companies that meet the requirements for inclusion don’t necessarily have a quick or easy ticket into the index.

At first glance, GameStop might seem to be a possible contender.

The videogame retailer has been on a tear lately. Its shares are up more than 10-fold for the year, well above the S&P 500’s 20% gain.

The S&P 500 dropped GameStop from the index in 2016. In August this year, GameStop moved from the S&P 600 small-cap index to the S&P 400 midcap index.

The rally has pushed GameStop’s market capitalization to around $16 billion, meaning it easily satisfies the S&P 500’s minimum market capitalization requirement and is roughly three times the size of current index constituents such as NOV Inc., Perrigo Co. and Unum Group, according to FactSet.

GameStop is also highly liquid, with at least a quarter million of its shares having traded in each of the previous six months, according to Mr. Hogan. It has enough shares publicly available to trade to fulfill the S&P 500’s float requirement.

A possible deal breaker? Companies considered for index inclusion must have posted positive earnings for their most recent quarter. The sum of their past four quarters’ earnings must also be positive.

GameStop reported a loss for the first quarter of the year, as well as for the first three quarters of 2020. Because GameStop’s loss for 2020 was significant, it is unlikely it will pass the requirement that the sum of its past four quarters’ earnings be positive, no matter what its results wind up being for the second quarter. The retailer is scheduled to report earnings Sept. 8.

When reached for comment, a spokeswoman for S&P Dow Jones Indices parent S&P Global Inc. said the company couldn’t speculate on potential changes to the index.

Nicholas Colas, co-founder of DataTrek Research, said he thought the S&P index committee would be leery of putting GameStop or any other so-called meme stock in the S&P 500.

The biggest reason? “Its valuation isn’t supported by fundamentals,” Mr. Colas said.

That is not to say GameStop shares can’t stop rising—they very well could, Mr. Colas said. But if the index committee is interested in adding another retailer to the S&P 500, there are other contenders in the S&P 400 midcap index with comparable market capitalizations that they could consider, such as Restoration Hardware Holdings Inc. and Williams-Sonoma Inc.

Ultimately, the index committee would probably want to see GameStop prove it can maintain its market capitalization for a longer stretch of time before seriously considering the stock for inclusion in the S&P 500, Mr. Hogan said.

“While the company may check most of the boxes, it is hard to know how long that will be the case,” Mr. Hogan said.

Why does index inclusion matter? The S&P 500 is often cited by investment professionals as their go-to gauge for the share performance of large U.S. companies and the health of the U.S. economy. Some $13.5 trillion is either indexed or benchmarked to the index, according to S&P Dow Jones Indices, meaning that what goes in and out of the S&P 500 has ramifications for money managers globally.

New entrants to the S&P 500 have often experienced brief share-price boosts after being added to the index—although research suggests the gains are fleeting.

This story has been published from a wire agency feed without modifications to the text