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% of stocks -- nearly two-thirds -- 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 whether their worry could have some merit.

Company

Short Percentage Increase Dec. 30 to Jan. 13

Short Shares as a Percentage of Float

Denbury Resources (NYSE: DNR  ) 44.6% 4.0%
Saks (NYSE: SKS  ) 9.7% 34.3%
InvenSense (NYSE: INVN  ) 94.2% 10.1%

Source: The Wall Street Journal.

The vulture of oil companies
Denbury Resources, an oil pure-play that uses carbon dioxide to recover the remaining oil from wells, has attracted a lot of short interest in recent months. I think it's highly unwarranted.

If you want the quick rundown on why Denbury has a competitive advantage over its rivals, I strongly encourage you to listen to this short video put together by the Fool's own David Meier, who regards Denbury as his top energy play. One key takeaway, especially given the weakness in natural gas pricing right now, is that Denbury divested its natural gas business years ago, allowing it to focus on the higher-margin oil business. With lower costs than its peers and a very reasonable valuation, Denbury could wind up making mincemeat out of short-sellers before the year is over.

The end of high-end?
The demise of retail in general appears to be highly overrated at the moment. With expectations for same-store sales growth of 2% in January, retailers as a whole more than doubled that projection at 4.2%. What's more stunning is the 6.2% same-store sales jump in luxury retailers, with Saks leading the group at 10.5%. Are these figures bullish? Absolutely! My concern: Are they sustainable?

Luxury retailing is more inclined to wilder swings from peak to trough because of the pickier spending habits of its customer base. Even with unemployment figures tipping the scales at multi-year lows, the number of consumers still tightening their purse strings is historically very high. This just seems like too much of a risk to be taking on Saks, given that it trades at 22 times forward earnings and pays no dividend, yet is slated to grow sales by just 8% in fiscal 2012 and 6% in 2013. Because of its recently strong results, I wouldn't completely bet against the stock here, but I'd definitely say short-sellers have a reason to be skeptical.

Red rover, let InvenSense come over
InvenSense is relatively new to being publicly traded and its shares have more than doubled since it went public. The producer of micro-electro-mechanical systems gyroscopes (say that three times fast) for use in consumer electronics has also nearly doubled its short interest in just the past month. The reason for this seems pretty simple to me -- its peers aren't in great shape.

Analog Devices (NYSE: ADI  ) , which operates in a similar segment, has missed Wall Street's estimates for two straight quarters. Similarly, just last week, Atmel (Nasdaq: ATML  ) cautioned that its sequential revenue would fall by 20% as the demand for its products simply isn't there. I'm afraid the same fate could befall InvenSense eventually, despite its recently reported third-quarter beat. Plus, at 26 times forward earnings and 50 times cash flow, it is far from a compelling value. Short-sellers, she's all yours!

Foolish roundup
I hate to sound cliche, but sometimes it's as simple as keeping your expectations realistic. I doubt Saks can keep up its torrid same-store sales growth and I'm nearly convinced InvenSense can't avoid a sectorwide slowdown. Denbury, on the other hand, looks poised for years of growth.

What's your take on these three stocks? Do the short-sellers have these stocks pegged or are they blowing smoke? Share your thoughts in the comments section below and consider adding these stocks to your free and personalized watchlist to keep up on the latest news with each company.

Also, if you'd like to avoid the potential pitfalls that high short-interest can bring, I suggest you download a copy of our latest special report: "The Motley Fool's Top Stock for 2012." In it, our chief investment officer gives you the skinny on a company he has dubbed the "Costco of Latin America." Best of all, this report is completely free, but only for a limited time. Don't miss out!

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, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong. The Motley Fool owns shares of Denbury Resources and InvenSense. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy that's appropriately priced: free!


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