Shorts Are Piling Into These Stocks. Should You Be Worried?

The best thing about the stock market is that you can make money in either direction. Historically, stock indexes have tended to trend up over the long term. But when you look at individual stocks, you'll find plenty of stocks that lose money over the long haul. According to hedge fund institution Blackstar Funds, even with dividends included, between 1983 and 2006, 64% (nearly two-thirds) of stocks underperformed the Russell 3000, a broad-scope market index.

A large influx of short-sellers shouldn't be a damning factor to any company, but it could be a red flag from traders that something may not be as cut-and-dried as it appears. Let's look at three companies that have seen a rapid increase in the amount of shares currently sold short, and see whether traders are blowing smoke, or if their worries could have some merit.

Company

Short Percentage Increase Since Aug. 15

Short Shares as a Percentage of Float

ExxonMobil (NYSE: XOM  )

20.6%

0.9%

Silvercorp Metals (NYSE: SVM  )

62.2%

9.3%

Forest Laboratories (NYSE: FRX  )

33.6%

9.3%

Source: WSJ.

Oil and water
I'm not sure who in their right mind would short Big Oil, but I'm certainly not in that camp. Oil, a commodity that often trades bullishly when global economies are booming, but stumbles when economies weaken, has fallen off its highs recently. However, this doesn't mean that demand has dropped considerably. In fact, even in recessionary times, the demand for energy remains high. It's one of those staples we simply can't live without.

So whoever added 7.8 million short shares over the last two weeks of August absolutely has me perplexed. ExxonMobil is a beast. In the trailing 12 months, the company has generated $440 billion in revenue (before adjusting for excise taxes) and $38 billion in net income. Just as I chronicled in my tryst with Chevron (NYSE: CVX  ) , this sector is cheap, and you'd be ludicrous to bet against this cash flow.

Declaring shenanigans
Crying foul shouldn't be taken lightly, and every once in a while it's well-deserved -- but not always. Witness Silvercorp Metals, whose stock has been taken to the woodshed recently by allegations of fraud from an anonymous blogger. These allegations have caused near-term volatility, and the number of shares held short to spike. But is there any merit to the short-sellers' case? Probably not much, according to The Motley Fool's own precious metals maven, Christopher Barker.

According to Chris' research, Silvercorp repudiated both the notion that it had incorrectly reported its income to the SEC, and that it was improperly documenting its cash balance. Following the sell-off created from these allegations, Silvercorp now trades at a lower forward earnings multiple than rivals Hecla Mining (NYSE: HL  ) and Endeavour Silver (NYSE: EXK  ) . Checkmate, short-sellers.

If a tree falls...
If a pharmaceutical company falls off a patent cliff, and no one is around to see it, does it make a sound? Ask shareholders of Forest Labs next year, when its blockbuster antidepressant Lexapro is scheduled to lose patent exclusivity. Early estimates suggest that the company will lose about one-quarter of its revenue to generic competitors like Teva Pharmaceutical (Nasdaq: TEVA  ) . In addition, Forest Labs will lose patent exclusivity on its Alzheimer's drug Namenda in 2015.

Having successfully fended off billionaire investor Carl Icahn from sapping its board with potentially useful advice, Forest Labs has taken to an approach of purchasing drugs in late clinical trials with the hopes of cashing in on the next winner. In the meantime, revenue is expected to fall and costs could skyrocket. Short-sellers ... she's all yours!

Foolish roundup
Keeping your emotions in check can be tough to do, but it's a vital aspect to maintaining a healthy portfolio. Staying rational and using sound judgment based on facts and not the rumor mill is often a recipe for long-term success.

Fool contributor Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong. The Motley Fool owns shares of Teva Pharmaceutical. Motley Fool newsletter services have recommended buying shares of Teva Pharmaceutical and Chevron. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool's disclosure policy never needs to be sold short.

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