Short sellers flee big financials

Short sellers are not willing to bet that bank stocks will take a sudden hit as they move into earnings season. On the contrary, they have decided to pull out of these shares and put their money elsewhere.

The "wisdom of the shorts" is yet another indication that the country's largest financial firms could have extremely good earnings as they move out from under the losses that they have had from toxic asset write-downs and a troubled mortgage market.

Share shorts in Citigroup (NYSE:C) dropped an extraordinary 34 percent to 118 millions shares for the period ending September 30, after a large drop during the period ending September 15. The short interest in both Wells Fargo (NYSE:WFC) and Bank of America (NYSE:BAC) each dropped a little over 4 percent.

The decline in short interest may be good news for the banks, but it is not necessarily good news for investors. Large short interests can drive stocks sharply higher when good news "squeezes" short sellers on days when bank stocks move up quickly. The shorts are forced to cover their positions by buying stock which magnifies the rapid rise in share prices.

If short sentiment is correct, Q3 bank earnings should be extraordinarily good, and probably better than expectations.

Data from NYSE and NASDAQ

Douglas A. McIntyre is an editor at 24/7 Wall St.

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