Traders work on the floor of the NYSE.
NYSE
Short sellers on the ropes – or are they? Short sellers clearly chose the wrong names in January. The GameStop phenomenon – where buyers deliberately target stocks with strong short positions – is just the most recent development in a long line of short seller failures. But don’t count them out just yet.
Most short sellers lose money
The relentless upswing in the markets has not been good for short sellers for years. Despite all the attention given to superstar short sellers, most of these managers are losing money. Stock shorts lost $ 243 billion in 2020, a return of -26%, according to S3 Partners.
Their performance is even worse this month. In January alone, they are down $ 91 billion, according to S3.
And while traders often target stocks that made money for short sellers because they were in sectors that were out of favor (ExxonMobil) or had accounting irregularities (Luckin Coffee and Wirecard), most shorts fail.
In 2020, 57% of all securities lost a short position. Sixty-eight percent of every dollar bet has lost money.
“The biggest enemy of short sellers has not been the chat rooms Robinhood or Reddit, but the Federal Reserve and the stimulus that pushed most stocks up. It’s not a value market, it’s a momentum market, and they [short sellers] are on the wrong side of the momentum, ”Ihor Dusaniwsky of S3 Partners told me.
Given the overwhelming short sellers, it is not surprising that the dollar value of short sellers has hit its lowest level in several years compared to the dollar value of the S&P 500, according to Goldman Sachs.
Shorts are not a big part of the market
According to Dusaniwsky, short sellers have an average of $ 900 billion to $ 1.3 trillion in short bets in the market at any given time. That’s about 2% to 3% of the market capitalization of US stocks.
That may seem like a small amount, but short sellers play a very important role. They play a major role in calling up companies that may have questionable accounting, as was the case with Luckin Coffee and Wirecard last year.
They also provide covers for long wallets.
Their main function can be as a liquidity provider. They provide liquidity for the stock market and they provide liquidity for derivatives traders who are taking the other side of options trading.
That’s where the GameStop story comes into play. “Shorts provide liquidity at the back of rallies. If you’re a long seller at the top of a rally, the only ones buying your stock are shorts,” Dusaniwsky told me. “The shorts provide liquidity that many longs no longer offer.”
The end of shorts? By no means
Shorts certainly seem to be in a tough position. Academy Securities’ Peter Tchir said shorts are hit by a “one-two punch”: first the relentless rise in the market, but then: “Some traders are aggressively buying from the money call options. moment it seems to be an effective strategy. “
What will happen to the shorts? “Shorts will have to feel more comfortable with losing before being stopped,” Tchir told me. “And I suspect that the prices for call options will go up. Moves like [Monday] seems insane without the pricing of the options. It makes me nervous. “
If call option prices do indeed rise, Tchir warns that it could generate false signals to the market. If call options prices rise, it could push up the VIX, and traders may mistakenly believe fear is emerging. It may not be the time to be bearish, but it certainly may be the time to avoid highly volatile stocks. chat room favorites. “
Despite all the difficulties, Dusaniwsky has to laugh when I ask if this is a great blow to short sellers.
No chance, he told me, “Even with the shorts being killed off, new shorts are coming in, especially in the financial sector and even in the names that have had the greatest successes blowing out short sellers.”
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