Shorts Are Piling Into These Stocks. Should You Be Worried?

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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 of stocks that lose money over the long haul. According to hedge fund institution Blackstar Funds, even with dividends included, between 1983 and 2006, 64% (nearly two-thirds) of stocks underperformed the Russell 3000, a broad-scope market index.

A large influx of short-sellers shouldn't be a damning 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 take a look at three companies that have seen a rapid increase in the amount of shares currently sold short and see if traders are blowing smoke or if their worry could have some merit.

Company

Short Percentage Increase, Sept. 30 to Oct. 14

Short Shares as a Percentage of Float

Schlumberger (NYS: SLB) 18.9%1.4%
Weight Watchers International (NYS: WTW) 53.6%20.6%
LinkedIn (NYS: LNKD) 23.9%32.1%

Source: Wall Street Journal.

Sunrise or sunset?
Based solely on the action of short-sellers recently, you'd think the global outlook for oil consumption is poor. Schlumberger's third-quarter results nearly three weeks ago speak otherwise.

Despite Schlumberger's missing consensus estimates by $0.03 per share and similar earnings misses from sector rivals Halliburton (NYS: HAL) and Baker Hughes (NYS: BHI) , Schlumberger's prospects still appear bullish to me barring a catastrophic global economic collapse. Revenue rose 49.4% for the quarter, with international demand being the primary driver. As long as energy prices remain high, the demand for the company's oil-field services should remain robust, and these temporary price dips could serve as wonderful buying opportunities. The clouds appear to be lifting, and short-sellers could be in for a rude awakening sooner than later.

Shed some pounds, and some profit
I haven't exactly danced around the fact that I don't care for the weight management sector one bit. It has nothing to do with the product that companies offer as much as the highly cyclical nature of the business. Consumers have very little loyalty to weight management companies and are more than willing to jump ship or drop the programs altogether if their personal finances don't make it work. This is the reason shorts are pouncing on Weight Watchers, and I couldn't agree more with them.

All we need to do is look toward Weight Watchers' rivals to get an inside edge on what's going on in the sector. Herbalife (NYS: HLF) lowered its profit outlook last week, while Medifast (NYS: MED) also reported less-than-stellar third-quarter results, highlighted by its second consecutive quarterly earnings miss. These results are an indication that things in this sector are heading south, and at 17 times forward earnings, Weight Watchers simply has too much risk built into its stock price.

Caveat emptor
The circus came to town last week, and the star attraction was LinkedIn's quarterly report. The online professional networking service that has become the poster child for irrational exuberance in the IPO market reported a gain of 15.4 million accounts for the third-quarter as sales more than doubled to $139 million.

Unfortunately, the company's rapid expansion plans are sapping profits as well as investors' patience. LinkedIn's revenue gains weren't enough to save the company from its first quarterly loss since late 2009. It doesn't bode well, either, that the company decided to bring another $100 million worth of shares to market in the form of a secondary offering. Despite its impressive growth rate, with some pegging the company's forward earnings multiple at nearly 270, all I can say is "caveat emptor."

Foolish roundup
Keeping an eye on the earnings reports of rival companies to what you own in your portfolio can often give you an inside edge to changing trends within a sector. If things begin to turn south, and the fundamentals no longer support your investment thesis, don't be afraid to sell.

What's your take? Do these shorts have these stocks pegged or are they blowing smoke? Share your thoughts in the comments section below and consider adding Schlumberger, Weight Watchers International, and LinkedIn to your free and personalized watchlist to keep up on the latest news with each company.

At the time this article was published Fool contributor Sean Williams has no material interest in any companies mentioned in this article. He's very thankful for his fast metabolism and its ability to deal with double cheeseburgers on a regular basis. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy that never needs to be sold short.

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