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 if their worry has some merit.

Company

Short % Increase July 13 to July 31

Short Shares as a % of Float

Dolby Laboratories (NYSE: DLB  ) 79.6% 10.6%
DeVry (NYSE: DV  ) 67.8% 13.6%
Goldcorp (NYSE: GG  ) 43.4% 1.1%

Source: The Wall Street Journal.

License to profit
With about 85% of the company's revenue being derived from its licenses, patents, and copyrights, Dolby Laboratories may not be the most exciting company in many investors' eyes. But as I just highlighted last week, sometimes the best recurring revenue and surprises can be had with companies just like Dolby that rely on their patent troves to drive growth.

Dolby, known best for its digital audio patents that it receives licensing revenue for from DVDs and Blu-ray discs, reported a 5% dip in year-over-year revenue in the second quarter. The primary reason for the drop was a 22% fall in legacy product sales because of a weak economy and a 17% dip in service sales.

However, the real draw of Dolby isn't in its DVD and Blu-ray licenses but with the inroads it's made in the smartphone market. Its Dolby Digital Plus audio enhancement technology has been used in the Nokia N8, the LG Revolution and Spectrum, and a few select tablets. Dolby is also working its way into smartphone imaging technology and preserving the way we save high-definition photos. Dolby is also an intriguing play for its subsidiary, Via Licensing, which owns a treasure trove of near-field-communications patents. Dolby and NXP Semiconductor (Nasdaq: NXPI  ) are a perfect dual bet on NFC technology replacing credit cards over the next decade. I feel short-sellers are playing with fire betting against Dolby.

Higher education, lower earnings
For the sake of the students enrolling at DeVry's secondary schools, I sure hope they aren't taking anything that involves business management -- because the latest string of results has been far from textbook-worthy.

Sarcasm aside, DeVry limped into the fourth quarter two weeks ago after drastically reducing its guidance in late July. The company blamed a weak economic environment, students' unwillingness to take on loans, and its compliance with new education regulations as the reasons its net income fell by 56%. What's truly a head-scratcher is that operating expenses rose by 27%. DeVry apparently hasn't gotten the clue that when times get tough, it should pare back its spending.

The simple truth is that even with its reduced estimates, DeVry isn't going to find the going any easier. Government regulations on the for-profit education sector are only bound to get more stringent if student loan defaults rise, and DeVry could continue to find itself in the sights of short-sellers.

Mellow yellow?
Not even Goldcorp, arguably the leader in low-cost gold mining, can avoid the rising costs of operating a mine.

In Goldcorp's most recent quarter, it reported a 24% drop in EPS as it found a challenging mining environment at its two most important mines, Red Lake and Penasquito. Unfavorable ground conditions and lower ore grades at Red Lake led to a 33% drop-off in production, with a 62% rise in operating costs. At Penasquito, gold and silver production spiked, but a lack of water in June caused pit activity to slow to a crawl. These problem led Goldcorp to reduce its full-year production target to 2.35 million-2.45 million ounces of gold from 2.6 million ounces.

Although, now may not be the time to bet against Goldcorp. Despite the clear shortfall in production, Goldcorp's cash costs per ounce are still among the industry's best at $310 to $340. It also announced last week that production has commenced at Pueblo Viejo, which it owns in a joint venture with Barrick Gold (NYSE: ABX  ) . The mine is expected to yield 415,000-450,000 ounces for Goldcorp over the next five years at a cash/ounce cost of less than $350. Goldcorp's near-term outlook may not be pristine, but I wouldn't dare bet against this low cost miner.

Foolish roundup
This week's theme was to ignore the near-term fluctuations and look at the long-term game plan. Goldcorp's low operating costs and Dolby's smartphone-based patents should make both companies long-term winners, while DeVry's penchant for spending and increased government regulation may make the for-profit-education sector an area to avoid for quite some time.

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 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 Costco. Motley Fool newsletter services have recommended buying shares of Dolby Laboratories, NXP Semiconductors, and Costco. 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.


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  • Report this Comment On August 20, 2012, at 12:14 PM, jlynchslu wrote:

    I agree that shorting GoldCorp (GG) at this time is not a wise decision.

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