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 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 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 their worry has some merit.

Company

Short Increase Aug. 31 to Sept. 14

Shorts Shares as a Percentage of Float

Nokia (NYSE: NOK  )

28.1%

8.5%

LeapFrog Enterprises

(NYSE: LF  )

66.6%

11.6%

Direxion Daily Gold Miners Bull 3X ETF (NYSE: NUGT  )

244.9%

N/A

Source: The Wall Street Journal; Yahoo! Finance. N/A = not applicable; ETF share counts are subject to constant change.

Breaking bread
The dramatic rise in short interest in Nokia probably has little to do with Nokia's actual performance lately and everything to do with the release of Apple's (Nasdaq: AAPL  ) iPhone 5, the next best thing since sliced bread.

Nokia's cell phone and services revenue in the second quarter rose 45% as consumers welcomed newer versions of its Windows-based smartphone, the Lumia, with open arms. However, that momentum may come to a grinding halt, even with an October release of the news Windows-8-based Lumia smartphones, thanks to the introduction of the iPhone 5.

Apple's iPhone 5 sold through its entire initial allotment of 5 million smartphones over the first weekend and appears to be ceding sales to its peers only because it can't meet the incredible amount of demand for the product. Under those circumstances, I do understand the negativity surrounding Nokia. Then again, as I opined in a recent debate with my Foolish colleagues Alex Planes and Travis Hoium, the sum of Nokia's parts is worth much more than its current value.

In spite of Apple's strength, short-sellers would be wise to tread lightly around Nokia.

Looking back, leaping forward
If someone could explain the negativity surrounding LeapFrog, I'd love to hear it, because everything keeps indicating that the company and its key product, the LeapPad, are chugging along.

Initially, I pointed out that LeapFrog's management saw the potential for app-based competition from Google (Nasdaq: GOOG  ) with regard to its plans to expand into the field of premium app downloads on its child-focused LeapPad. This seems unlikely in the meantime, with Google focused on maximizing the value of its Motorola purchase and expanding its mobile-advertising business.

LeapFrog's LeapPad and its international push are also moving the company slowly but surely away from being cyclical. Aside from the hiccups associated with tech cycle product upgrades and replacements, short-sellers will soon no longer be able to dog-pile onto LeapFrog for its quarterly inconsistencies.

There's also the fact that LeapFrog has handily topped Wall Street's forecasts for nine straight quarters and shown impressive growth internationally in its most recent quarter. At 11.4 times forward earnings, this high-growth tablet provider isn't one I'd recommend betting against.

Fool's gold
Even if you're like me and you see incredible value in gold mining companies that have, up until now, greatly underperformed the yellow metal's upward climb in recent years, buying into or betting against levered ETFs that bet for or against gold miners isn't the way to go.

I just shake my head when I see speculators actively piling into a triple-levered gold-mining bull ETF like the Direxion Gold Miners Bull 3X ETF. Although the bet is likely to pay off in the end, as triple-levered ETFs usually sink due to daily rebalancing, the chance that a short-seller could be crushed by a rapid move lower in gold miners is too great to risk. I'd suggest keeping things simple and targeting individual miners or gold itself if you want to place your bets against gold.

Foolish roundup
This week's theme is "Look before you leap." Nokia and LeapFrog have their challenges, but their products and potential make them suitable investments and poor shorts by my estimations. As for triple-levered ETFs, they should be avoided in all respects -- period.

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.

Is Apple's iPhone 5 really the greatest thing since sliced bread? Find out the answer to this question and much more by getting your copy of our latest premium research report on Apple. Packed with in-depth and unbiased analysis on the opportunities and threats facing Apple -- and complete with a year of regular updates -- this report will give you the tools needed to make smart long-term investing decisions. Click here to claim your investing edge.

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 Apple and Google. Motley Fool newsletter services have recommended buying shares of Apple, LeapFrog Enterprises, and Google, as well as creating a bull call spread position in Apple. 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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