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The Most Shorted Stocks Lead the Market in 2023: Can it Continue?
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If you have been paying attention at all you’ll know that the stock market has started 2023 very strong. The S&P 500 is already up 8.6% YTD, its strongest start in 21 years.
Well known stock market leaders such as Apple (AAPL - Free Report) , Alphabet (GOOGL - Free Report) , and Meta Platforms (META - Free Report) have participated in the rally. But a surprising group is really leading the charge. The best performing stocks of the year so far have been those with the largest short positions.
Some of the top performers have been Carvana (CVNA - Free Report) , the online car dealership up 178% YTD, the online furniture shop Wayfair (W - Free Report) , up 93%, and electric vehicle company Lucid Group (LCID - Free Report) up 70%.
What is Happening?
Many hedge funds who built huge short positions in these stocks during 2022 have been caught off guard by this big rally. While their thesis about these companies are likely correct, it seems many overstayed their welcome and have been forced to cover their levered short positions.
Some players were also clearly late to the game in shorting. Shorting a company near its top is going to be much less risky than shorting it when the stock is already down 60% or 70%, even if it is eventually going to zero.
Carvana in particular is a broken business model, low on profit, and high on stock-based compensation. CVNA is up nearly 200% on the year, but still down -95% off its high.
The path to zero for these stocks isn’t a straight line, and the larger the short float gets the more vulnerable they become to short squeezes, and that is exactly what happened.
“What do you call a stock that's down 90%? A stock that was down 80% and then got cut in half.”
Image Source: Zacks Investment Research
Implications
What does this mean for the broad market?
If the stocks that are leading the rally are those with broken business models, and no clear path to profitability does that seem positive?
In some ways it’s simply a mechanical unwinding of poorly positioned participants. They managed their risk poorly, and the market is bringing the pain.
On the other side, it may make some participants skeptical. It isn’t particularly reassuring if the companies leading the rally are the types of stocks that pumped during the euphoric period in 2021.
Buy This Not That
As exhilarating as trading one of these high-flyers may be, it is highly advisable to avoid such stocks. Sure some hedge funds got burned in the last month staying short, but these are the most shorted stocks in the market for a reason.
Plenty of quality stocks with proven business models are trading higher in this strong market. Meta Platforms is looking like it may have found its footing in this market. After getting crushed last year in the wake of “Metaverse” investments, the company has refocused, and sentiment around the company has reversed.
META also currently sports a Zacks Rank #2 (Buy), indicating its positive trending earnings revisions. Although at this point investors missed the opportunity to buy META shares at a one year forward P/E below 10, it is still somewhat reasonably valued at 20x forward earnings today.
Another stock with positive developments is Aflac (AFL - Free Report) , the supplemental health and life insurance company. Insurance may not be the most exciting industry to, boring is often conducive to good investing.
Aflac is a steady earner, with strong long-term returns and a 2.4% dividend yield to boot.
Image Source: Zacks Investment Research
Furthermore, Zack’s research currently has AFL as a top recommendation, with a Zacks Rank #1 (Strong Buy). AFL is receiving consistent positive earnings revisions from analysts across all timeframes.
Image Source: Zacks Investment Research
Conclusion
The market is going through some very interesting times. It’s not often you see failing companies rallying 100% in a month. Thankfully, the good businesses are rallying too.
It seems that the macroeconomic environment that challenged the stock market in 2022 is turning, and that is good news for the economy and market. If the Federal Reserve can stay the course, conquer inflation, and eventually bring interest rates back to an accommodative level the market can continue its long-term march higher.
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The Most Shorted Stocks Lead the Market in 2023: Can it Continue?
If you have been paying attention at all you’ll know that the stock market has started 2023 very strong. The S&P 500 is already up 8.6% YTD, its strongest start in 21 years.
Well known stock market leaders such as Apple (AAPL - Free Report) , Alphabet (GOOGL - Free Report) , and Meta Platforms (META - Free Report) have participated in the rally. But a surprising group is really leading the charge. The best performing stocks of the year so far have been those with the largest short positions.
Some of the top performers have been Carvana (CVNA - Free Report) , the online car dealership up 178% YTD, the online furniture shop Wayfair (W - Free Report) , up 93%, and electric vehicle company Lucid Group (LCID - Free Report) up 70%.
What is Happening?
Many hedge funds who built huge short positions in these stocks during 2022 have been caught off guard by this big rally. While their thesis about these companies are likely correct, it seems many overstayed their welcome and have been forced to cover their levered short positions.
Some players were also clearly late to the game in shorting. Shorting a company near its top is going to be much less risky than shorting it when the stock is already down 60% or 70%, even if it is eventually going to zero.
Carvana in particular is a broken business model, low on profit, and high on stock-based compensation. CVNA is up nearly 200% on the year, but still down -95% off its high.
The path to zero for these stocks isn’t a straight line, and the larger the short float gets the more vulnerable they become to short squeezes, and that is exactly what happened.
“What do you call a stock that's down 90%? A stock that was down 80% and then got cut in half.”
Image Source: Zacks Investment Research
Implications
What does this mean for the broad market?
If the stocks that are leading the rally are those with broken business models, and no clear path to profitability does that seem positive?
In some ways it’s simply a mechanical unwinding of poorly positioned participants. They managed their risk poorly, and the market is bringing the pain.
On the other side, it may make some participants skeptical. It isn’t particularly reassuring if the companies leading the rally are the types of stocks that pumped during the euphoric period in 2021.
Buy This Not That
As exhilarating as trading one of these high-flyers may be, it is highly advisable to avoid such stocks. Sure some hedge funds got burned in the last month staying short, but these are the most shorted stocks in the market for a reason.
Plenty of quality stocks with proven business models are trading higher in this strong market. Meta Platforms is looking like it may have found its footing in this market. After getting crushed last year in the wake of “Metaverse” investments, the company has refocused, and sentiment around the company has reversed.
META also currently sports a Zacks Rank #2 (Buy), indicating its positive trending earnings revisions. Although at this point investors missed the opportunity to buy META shares at a one year forward P/E below 10, it is still somewhat reasonably valued at 20x forward earnings today.
Another stock with positive developments is Aflac (AFL - Free Report) , the supplemental health and life insurance company. Insurance may not be the most exciting industry to, boring is often conducive to good investing.
Aflac is a steady earner, with strong long-term returns and a 2.4% dividend yield to boot.
Image Source: Zacks Investment Research
Furthermore, Zack’s research currently has AFL as a top recommendation, with a Zacks Rank #1 (Strong Buy). AFL is receiving consistent positive earnings revisions from analysts across all timeframes.
Image Source: Zacks Investment Research
Conclusion
The market is going through some very interesting times. It’s not often you see failing companies rallying 100% in a month. Thankfully, the good businesses are rallying too.
It seems that the macroeconomic environment that challenged the stock market in 2022 is turning, and that is good news for the economy and market. If the Federal Reserve can stay the course, conquer inflation, and eventually bring interest rates back to an accommodative level the market can continue its long-term march higher.