Extreme Short-Selling Becomes Even More Dangerous
(Bloomberg Gadfly) -- Short-sellers' favorite stocks to hate have been getting a lot of love lately.
Consider Bristow Group Inc., which provides helicopter transportation services to offshore oil rigs. As of the end of June, 12 million of Bristow's shares, or slightly more than half of its traded stock, were sold short, making it the ninth-most bet-against company in the Russell 2000 Index. Earlier this month, Bristow reported that it lost $31 million in the third quarter, but that was $2 million less than analysts' expectations. What's more, after some nifty accounting adjustments, the company said its real loss was closer to $12 million. Its stock shot up 44 percent, most likely giving short-sellers a strong bout of agita.
And it's not alone in bucking the market's buzz-kills. Hertz Global Holdings Inc. is another stock that has defied short-sellers recently. News of a partnership with Apple on self-driving car technology, along with its largest quarterly profit in two years in the third quarter, have pushed shares of the rental company up nearly 70 percent since the end of June. Weight Watchers, another company targeted by short-sellers, is up 302 percent in 2017.
There have been some exceptions, especially in retail. Short-sellers have been right about Sears Holdings Corp. and J.C. Penney Co., whose shares are down 57 percent and 60 percent respectively. But even in retailers, short-sellers have had missteps. Restoration Hardware's parent company RH Corp. was the most-shorted stock in the Russell 2000 in late July, based on its traded shares. Better results, though, boosted by a new membership program, have sent the stock up by more than a third since then.
Rising stock markets are always tough for short-sellers, but they are being punished more than usual in the stocks that appeared, at least to them, to be obviously safe to bet against. So-called extreme short-selling -- or bets against companies in which nearly half or more of their shares have been sold short -- has generally been a losing bet this year. In all, the shares of the 10 most heavily shorted stocks in the Russell 2000 are up an average of 21 percent in 2017, even greater than the market in general. The S&P 500 Index is up just more than 17 percent this year. It's also the first year of losses for extreme short-sellers in a while. The 10 most heavily shorted stocks fell 17 percent in 2016 and 14 percent the year before.
Richard Pearson, a short-seller who earlier this year flipped and began buying the shares of companies that had been heavily bet against, says a reason the companies have befuddled his former compatriots is the credit market. Many of the companies have a lot of debt. But interest rates have stayed low, and credit has continued to flow. That's made it easier for companies to maintain large debt loads. Slightly better results are amplified by high leverage. Second, it's another sign that there is perhaps too much money in hedge funds, often the source of most short bets. Pearson says the "2/20 guys" appear to be chasing the same investments and "doing no work."
Last, and perhaps ironically, the demise of some extreme shorts this year could be another sign that the market is overvalued. Even already expensive stocks of companies that clearly face tough times are rising. That may make short-sellers feel better about their bad bets long term, even as their returns get worse in the short run.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
Stephen Gandel is a Bloomberg Gadfly columnist covering equity markets. He was previously a deputy digital editor for Fortune and an economics blogger at Time. He has also covered finance and the housing market.
©2017 Bloomberg L.P.