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 condemning 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 sold short and see whether traders are blowing smoke or whether their worry has some merit.

Company

Short % Increase June 29 to July 15

Shares Short as a % of Float

Under Armour (NYSE: UA  ) 122.8% 18.1%
Navistar (NYSE: NAV  ) 51.5% 11.6%
Yum! Brands (NYSE: YUM  ) 29.4% 2.4%

Source: The Wall Street Journal.

We must protect this house!
Bet against Under Armour? Whatever you've been drinking, pass it right over here!

The surge in bets against Under Armour's stock is unmistakable as investors attempted to front-run what appeared to be a well-defined slowdown in apparel spending in Europe and the United States. We've already seen disappointing results from one of Under Armour's primary competitors, Nike (NYSE: NKE  ) , which investors stepped on after it widely missed Wall Street's EPS estimates in the fourth quarter. Nike blamed European slowness as well as rising raw-material costs for the shortfall.

Under Armour, on the other hand, would have none of that talk -- especially since it derives almost all of its revenue within the United States. When it reported its second-quarter results last week, it continued to leap over projections. For the quarter, revenue growth came in at 27%, and, more importantly, Under Armour raised its sales and operating income forecast for the remainder of the year. That's critical, because it shows rising raw-material costs are a negligible impact at the moment, and it shows incredible strength in the footwear segment which grew by 44%. Bet against Under Armour? In your dreams!

Out of gas
It's been a year to forget if you're a Navistar shareholder. The company, which manufactures trucks and engines within the U.S., has been embroiled in a battle with the Environmental Protection Agency over a new nitrogen-oxide, heavy-duty engine that it's developed that would potentially give it a competitive edge over its competitors Cummins and PACCAR (Nasdaq: PCAR  ) .

Unfortunately, with the EPA unrelenting in their stance, Navistar has been forced to piecemeal the certain technologies from that design and incorporate them in with other technologies their competitors are using. That didn't exactly please current shareholders, with the timeframe for these new engines looking out about another year.

To top this off, a sector slowdown appears to be looming. Cummins warned of weakening sales a few weeks back while PACCAR recently reported a 24% rise in second-quarter profits, but signaled that weakness in Europe and the U.S. would suppress vehicle sales for the remainder of the year. Falling sales, engine delays, and a management team that can't see past their own foreheads ... have fun, short-sellers. It's all yours!

Run for the border?
As short interest rises in Yum! Brands -- the name behind KFC, Pizza Hut, and Taco Bell -- investors are torn whether they should be buying more or running for the border. Unfortunately for investors, its peers' recent earnings report, nor its own in June, really made that any clearer.

Both Starbucks and McDonald's whiffed on their recent earnings reports as weakness abroad and unfavorable currency fluctuations affected results. As for Yum! Brands, it remains on track to report 12% earnings growth this year, excluding one-time items, and expects international markets -- specifically China -- to drive that growth. In its latest quarter, Taco Bell's recently expanded menu provided the biggest punch in the U.S., with sales up 13%.

However, Yum! won't be without its challenges. Rising food input costs and fickle spending habits in Europe threaten to further weaken same-store sales. Also, the company has aggressive plans to expand internationally, which could drive up costs concurrent with the rising cost of food. Really, Yum! Brands could go either way from here.

Foolish roundup
This week it's all about "Europe, you're down!" Companies with significant European and foreign currency exposure like Navistar and possibly Yum! Brands can expect to face significant headwinds over the next few quarters, while Under Armour, which generates most of its sales in the U.S., is probably on solid footing.

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 using the links below to add these stocks to your free and personalized Watchlist to keep up on the latest news with each company.

And if you'd like to avoid the potential pitfalls that high short interest can bring, I suggest you download a copy of our 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 Under Armour, McDonald's, Starbucks, and Costco. Motley Fool newsletter services have recommended buying shares of Under Armour, Nike, Cummins, PACCAR, McDonald's, Starbucks, and Costco, as well as creating a bear put spread position in Under Armour, a diagonal call position in Nike, and writing covered calls on Starbucks. 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 never needs to be sold short.


Read/Post Comments (2) | Recommend This Article (2)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On July 31, 2012, at 10:29 AM, Dieselralph wrote:

    One other reason to short NAV. There is a good chance that the EPA will issue its final ruling on NAV's engines that failed to meet the emissions standards. It is possible NAV might have to shut down production until it can meet emissions. That could be 6 months to a year. They have no outside engine supplier! No plan "B"! Their best bet is that in an election year, the President won't let the EPA shut them down. Doesn't hurt that the President is from Illinois and so is NAV!

  • Report this Comment On July 31, 2012, at 7:38 PM, unavailable1 wrote:

    Most accurate description of Navistar's plight on the web. However, when Navistar figures out the ICT+ interim solution, they are well ahead of competitors as far as the future emissions standards. I hate short sellers!!!

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