Investors who make a living betting that stock prices will fall are
happy to forget 2013: The S&P 500 gained nearly 30 percent while
Credit Suisse's index of hedge funds with a dedicated short bias
lost 25 percent.
Buying the most heavily shorted stocks was a much better bet than
the S&P 500: A list of top shorted stocks from SunGard's Astec
Analytics beat the S&P 500 by 26 percentage points on average last
But with the Federal Reserve beginning to cut back on its bond
buying — in a withdrawal of the stimulus that underpinned the rally — there's hope for short sellers in 2014.
Jim Chanos, president and founder of Kynikos Associates and one of
the most prominent short sellers, said the market is primed for
people like him and as a result he has gone out to raise capital.
"Now I think is not a bad time to be raising capital for what we do.
When we got a rough going in the mid-90s, that was exactly the time
to raise capital," Chanos said, adding it was better to do this when
critics viewed him as "like the village idiot and not an evil
Already, there are signs 2014 may be different. Stocks haven't been
rising as a herd in the way they did in 2013, and some of last
year's high-profile winners are being re-examined.
Electronics retailer Best Buy Co shares suffered their worst day in
11 years on Thursday, falling almost 30 percent after disappointing
sales undermined the bullish thesis that helped the stock triple in
2013. It fell further on Friday.
The 50-day rolling correlation between the S&P 500 and its
components peaked last year in May at 0.73, soon after Fed Chairman
Ben Bernanke first broached winding down the stimulus.
It dropped to 0.5 in October before bouncing back late in the year,
but has since resumed its decline after the Fed announced cuts to
its monthly bond buying, according to data from Bespoke Investment
Group, a financial research firm based in Harrison, New York.
Bill Fleckenstein, president at Fleckenstein Capital Inc in Seattle,
a notable short-seller who closed his short fund around the time the
market bottomed in 2009, said he was about to start the process of
raising money for a new short fund.
"We're about done with the document and I'll be marketing it
officially very shortly, like within a week," he said.
That's not to say he is brimming with confidence — not yet.
"It's dangerous to be short still, but we might be building toward a
moment — whether it's two weeks from now or 10 months from now I
don't know, where the market becomes quite vulnerable," said
Don Steinbrugge, chairman of Agecroft Partners, a global consulting
and third party marketing firm for hedge funds, said "long/short"
equity — a strategy betting both on and against stocks — will see
the most demand among all hedge fund strategies this year.
Long/short equity represented more than 40 percent of the hedge fund
industry assets before 2008. The sector then experienced large
outflows to other hedge fund strategies including commodity trading
advisers (CTAs) and various fixed income-oriented strategies.
Its market share of industry assets bottomed out at approximately 25
percent in the beginning of 2013.
"Last year saw this trend reverse, and we expect very high demand
for long/short equity in 2014," Steinbrugge said.
In fact, 2013 saw record inflows to long/short funds of more than
$20.5 billion, up from $5.7 billion in 2012, according to data
compiled by Morningstar.
Neuberger Berman Group LLC is taking advantage of the environment.
The New York-based investment firm recently launched its second
mutual fund that employs external hedge fund managers to manage its
assets. The Neuberger Berman Long Short Multi-Manager Fund will
employ the "long/short" strategy.
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Long/short funds are slowly shifting toward the short side, though
for now they're still aligned bullishly.
Their long/short ratio sits at 55 percent, according to Credit
Suisse, down modestly from the beginning of the year. They had built
short positions late in 2013 and the ratio did fall to about 47 to
48 percent in mid-November, until the year-end rally caused hedge
funds to cover those positions.
UNDER THE MICROSCOPE
In the last week, S&P 500 companies that have seen the biggest
increase in shares borrowed for short bets according to Markit
include Borgwarner, BB&T Corp, and Best Buy, all of which recently
touched 52-week highs.
Internet retailers TripAdvisor Inc and Expedia Inc, big winners in
2013, have seen an uptick in interest as well.
"There's growing interest on (shorting) a number of stocks,
concentrated in areas that did well last year," said Brian Jacobsen,
chief portfolio strategist at Wells Fargo Funds Management in
Menomonee Falls, Wisconsin.
In 2013, just one of Astec Analytics' 10 most shorted stocks of the
year made it to Markit's list of top 20 performing North American
shorts — department store group J.C. Penney.
Still, going short Penney, whose sales collapsed after bad missteps
by management, was enough for some.
Suvretta Capital Management, founded by a former portfolio manager
for top investors George Soros and Steven A. Cohen, told clients
this week its bet against Penney shares helped contribute to solid
returns for its long/short strategy in the last two years.
"On the short side, we have now generated profits three times
(generating a total return of approximately 130 percent) in the past
two years with our J.C. Penney positions," Suvretta Chief Investment
Officer Aaron Cowen said in a client letter obtained by Reuters.
Ariad Pharma and Aveo Pharma, down 64 percent and 77 percent last
year, respectively, were also among the few bets that worked for
short sellers in 2013. Some see more opportunities in the sector.
"Biotech is in full bubble mode, meaning companies that have no
prospects of a drug continue to grind higher," said John Hempton,
chief investment officer and founder of Bronte Capital, a Sydney,
Australia-based asset management firm that often takes short
Short sellers say they believe bulls may be getting too confident.
The S&P 500's forward price-to-earnings ratio is at its highest
Goldman Sachs, in a recent note, expressed concern that investors
expect P/E multiples to continue to expand to a level that would
match the 1997-2000 technology bubble.
"Short selling over the last two years has been a hedge against
profits," said Douglas Kass of hedge fund Seabreeze Partners
Management Inc. But he said recent disappointments from companies as
varied as Ford, Intel, and Elizabeth Arden are signs that the "tide
might be turning."
(Reporting by Rodrigo Campos and Sam
Forgione; editing by David Gaffen, Jennifer Ablan, Martin Howell and
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