Given academic studies have found that short sellers tend to be informed traders, investors might want to know what stocks they are targeting in order to reduce the risk of holding onto a stock that underperforms, or worse, torpedoes their portfolio.
As Charles Ellis, author of Winning the Loser’s Game, put it: “Almost all of the really big trouble that you’re going to experience in the next year is in your portfolio right now; if you could reduce some of those really big problems, you might come out the winner in the Loser’s Game.”
Beware, however, that most sources of data on short sales get it wrong on Canadian stocks. That’s because a large number of Canadian stocks are interlisted on both U.S. and Canadian exchanges, yet most data sources report the short sales from one country, and neglect to sum short sales across both (after currency adjustments).
The Financial Times of London provided a recent illustration in its February 23 edition, with an interactive online table that underestimated the short positions of Canadian companies.
For example, Canada Goose Holdings Inc. was reported to have 16.6 per cent of its shares short, whereas S3 Partners, which sums U.S. and Canadian short sales, reported the figure at 37.7 per cent — as can be seen below in the 20 Most Shorted Companies by Percentage of Float.
Many of the companies on the table have been discussed in previous monthly updates. Here are a few highlights from the group not yet discussed:
Dye & Durham Co. Ltd., a provider of software solutions for legal and business professionals, recently addressed concerns over indebtedness, triggering a rebound in share price. Short interest also climbed (although we cannot say, without further investigation, if the escalation was due to heightened bearish sentiment or hedging of the company’s convertible debentures).
Dream Office REIT, which has a portfolio of office buildings, has been on the table of the most shorted companies for a while. In February, it finally succumbed to higher interest rates and a trend toward remote working by slashing its monthly payout by half.
AbCellera Biologics Inc. listed on the stock exchange in 2020 at a euphoric high after it became the first pharmaceutical company to deliver an antibody therapy treatment for COVID-19. With the fading of the pandemic and the long lead times of the drug discovery process, its stock has since been in a downtrend, even though the company has ample liquidity and a drug-discovery process reputed to be more capable than conventional methods.
**
Aside from tracking short sales to avoid underperforming or torpedo stocks, investors may also want to track them for stocks to buy. Of note are the stocks where short squeezes may arise (during a short squeeze, the price of a stock rises sharply when short sellers rush to cut their loses and hurriedly buy back borrowed shares to return them to the owners).
S3 Partners scores stocks for the likelihood of short squeezes, based on criteria such as elevated short interest, high borrowing costs and large unrealized losses for short sellers. Here are their top-five Canadian stocks most at risk.
There may also be bullish signals for a stock if short interest is declining. An early hint may be provided by a substantial decrease over a (30-day) month in the dollar value of short sales.
Conversely, a large increase in the dollar amount of short sales can be a bearish omen. An early sign is provided by a one-month (30-day) jump in short interest. If a short position keeps rising after one month, it could be more of a red flag.
Appendix: Some Methodological Notes
1) Some short positions may reflect, in part or whole, hedging/arbitrage positions – so they may not be entirely bearish bets. For example, the iShares S&P/ TSX 60 ETF is used by many institutional and professional investors to hedge out market risk from their portfolios. Many hedge funds also do pairs trading where they bet on the relative change in two stocks in an industry or other grouping by going long on one company and short on another.
2) If short selling becomes extreme, especially for individual stocks, it may trigger a short squeeze that sends the stock price higher.
3) Short positions in inter-listed stocks were summed across exchanges in Canadian dollars.
4) When an investor purchases stock that was sold by a short seller, it creates a synthetic long position; if these long positions are not included in the float count, the percentage-of-float-short metric can be overstated. However, most of the time, the magnitude is not significant.
5) The percentage of float short for ETFs is impacted by the mechanism for creating/redeeming units, which results in almost daily changes in the number of units issued. The percentage of float short for ETFs may thus be more volatile than for stocks.
Be smart with your money. Get the latest investing insights delivered right to your inbox three times a week, with the Globe Investor newsletter. Sign up today.