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 if their worry has some merit.

Company

Short Increase Dec. 31 to Jan. 15

Short Shares as a % of Float

AbbVie (NYSE: ABBV  )

7,922.8%

N/A

ArcelorMittal (NYSE: MT  )

101.8%

1.6%

Delta Air Lines (NYSE: DAL  )

64.1%

1.5%

Source: The Wall Street Journal. N/A = not available.

Putting the proper "spin" on this story
The new year started off with a bang for Abbott Laboratories' shareholders, who received a special dividend and shares of its newly spun-off branded drug company, AbbVie. However, AbbVie's had a lot of questions thrown its way with regard to advancing its product pipeline beyond its blockbuster rheumatoid arthritis drug, Humira, which will begin to lose patent protection beginning in early 2017. Thankfully for shareholders, it looks like two factors stand ready to make that steep drop more of a bump in the road.

To begin with, Humira is approved for multiple disease indications, not just rheumatoid arthritis. This means that while AbbVie will indeed begin to lose exclusivity on the drug with regard to certain ailments, it isn't going to lose nearly its entire revenue stream in one fell swoop. In addition, Humira is a complex drug that won't be easily copied by generic drug producers.

Secondly, AbbVie could be sitting on pipeline gold with its three-drug hepatitis C combo. In mid-stage trials, its drug trio, when combined with ribavirin, eliminated detectable levels of the hepatitis C virus in 97% of treatment-naive patients 12 weeks after treatment. That's an astounding number for this all-oral medication, which boasts far fewer side effects than the current standard of treatment involving medication given with interferon.

Standing in its way is Gilead Sciences (NASDAQ: GILD  ) whose lead hepatitis C drug, sofosbuvir, one-upped AbbVie's drug combo by producing a sustained virologic response, or SVR, in 100% of all patients 12 weeks after treatment. Keep in mind that Gilead's test group was less than a third the size of AbbVie's, so both were extremely effective in inducing an SVR. Overall, I believe the hepatitis C market is big enough for both drugs, and AbbVie's looks poised to capitalize on big investment dollars flowing to hep-C research.

Heavy metal
Metal stocks were among the biggest portfolio drags last year as Chinese demand for metals remained tepid and worldwide prices for most commoditized metals dropped significantly from their peaks. ArcelorMittal was unfortunately no exception. Following a big boost in short interest over the previous two weeks and Alcoa's earnings report, I have to wonder, is this pessimism justified? I'd say possibly, but I'm leaning more toward being optimistic than pessimistic with ArcelorMittal.

The bearish case to be made is pretty simple: European spending is dreadful due to regionwide austerity measures, and worldwide steel supplies aren't low enough to merit a boost in prices.

Conversely, I'd point out that Chinese fourth-quarter GDP growth rose for the first time in two years as the government is promoting infrastructure spending (primarily heavy infrastructure) in order to spur GDP growth back to its 30-year average of 10%. Likewise, Edmunds.com forecasts that auto sales will rise 4% in 2013. These are all sustainable growth figures for ArcelorMittal's steel business to build off.

Clearly, the company will need to monitor costs and tighten production as needed, but I don't have the guts to bet against this steel giant here.

Chipping away
Now Delta Air Lines has me shocked. How on earth are only 1.5% of all outstanding shares held short? I figured this number would be in the double digits for sure.

As I chronicled last week, there is a big shift under way in the airline sector that is pitting national carriers like Delta Air Lines against small regional airlines like Spirit Airlines (NASDAQ: SAVE  ) . Relative to Spirit, Delta is a giant and should be able, in theory, to squash Spirit's spirit like a bug. But that just hasn't been the case; in fact, I'd say it's the other way around.

Spirit Airlines, with its debt-free balance sheet, has been able to use extremely low promotional pricing and very-high-margin service fees, like those on baggage and food, to lure customers into flying with them as opposed to going with a major carrier like Delta. Spirit's still small enough that it can adjust its routes without too much flak from consumers. Delta, having numerous hubs around the U.S., simply can't stop flying a route if fuel prices rise or if there aren't enough passengers to buy seats that day.

The airline industry is coming down to a simple case of agility, and smaller is proving to be the way to go. Delta is a dinosaur that's gone bankrupt before, and I wouldn't allow its current profitability to lull you into being content. This is one I'd let the short-sellers have their way with.

Foolish roundup
This week it's all about "What can you do for me five years from now?" Both AbbVie's pipeline and China's emphasis on infrastructure projects for AcrelorMittal bode well for a rebound. As for Delta, it's slowly losing its relevance to regional airline companies and may not be sitting anywhere near as pretty in five years.

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.

Which is the better play: Abbott or AbbVie?
Wondering about that new position in your portfolio? For some Abbott Labs shareholders, the new year brought with it a new company called AbbVie. Formerly Abbott's branded pharmaceuticals business, shares of the new stock were distributed to investors on Jan. 2. To help investors better understand the situation, The Fool has created a brand-new premium report on both stocks. Inside, we outline all of the must-know opportunities and risks facing both companies, so make sure to claim this report by clicking here now.


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