Short-selling is an important part of the stock markets. It gives investors an opportunity to make pessimistic bets alongside the usual optimistic ones, and to hedge their long positions.
Shorted shares also serve as a barometer of hated and controversial stocks. When share prices skyrocket for no good reason, short-sellers gather in big, cheering crowds --likewise when management makes huge missteps and Mr. Market overlooks the transgression.
Here's a look at two stocks that attracted lots of fresh short sales in December.
The name evokes lofty, breezy clouds, but Cirrus Logic (NAS: CRUS) was pretty earthbound in 2011. But everyone's an armchair quarterback on Wall Street, and lots of investors still think the stock is overvalued.
On Dec. 15, the Nasdaq reported that 5.1 million Cirrus shares sold short out of a 63.4 million public float. That's a bearish 8%. Two weeks later, Cirrus exited December with 800,000 more shares in the hands of serious critics. That 15% higher short interest now stands at 9.4%.
What did the audio processor specialist do to deserve this skepticism? Share prices were only 5% higher by the end of the month, hardly a reason for big bearish bets. In fact, the stock just barely edged out the Dow Jones Industrial Average benchmark of market sentiment. That's a sign of a rising tide lifting all boats more than any particular strength in the stock itself; Cirrus sure didn't have a lot of news to share in this period.
The next reckoning will be done after Friday's market close and should look very different. Cirrus shares jumped 26% on this side of the new year, mostly thanks to a very strong preannouncement of revenues. Most likely fueled by a tremendous holiday showing by Apple (NAS: AAPL) , Cirrus will beat the original Wall Street revenue target big time.
Call me crazy, but I wouldn't bet against a growth stock with a trailing P/E ratio of just 8 and a five-star CAPS rating (out of five). The short-sellers might expect Apple to pull the rug out under Cirrus and go with a different audio solution in future products. That's about the only logic that would lead reasonable investors to going short here.
Then there's Chinese online media giant Sohu.com (NAS: SOHU) . Already heavily shorted in mid-December, the negative bets grew by one-third to a 21% ratio on Dec. 30.
In this period, Sohu easily outpaced the market and beat other major China-based Internet stocks to a bloody pulp. The company poses a growing threat to local 'net titan Baidu.com (NAS: BIDU) , to the point where fellow Fool contributor Brian Stoffel cites the Sohu effect as a reason why he's not buying Baidu.
Alongside a 20% price drop over the last year, that enormous 21% shorting contingent set Sohu up for spectacular volatility. If Sohu does well, some shorts will cover to take profits, while others simply cash in their chips and run for the hills. And if not, the jockeying for lower prices continues. Don't forget that only 6% of the public float is in the hands of individual investors, with the rest under the control of financial institutions. You can bet that there's a ton of automated robo-trading going on here.
Do these volatile stocks and short-sale attacks scare you? Fear not, dear Fool. Our top analysts are happy to help you beat a retreat to ultra-safe dividend stocks instead.
At the time thisarticle was published Fool contributor Anders Bylund holds no position in any of the companies mentioned. The Motley Fool owns shares of Apple and Cirrus Logic. Motley Fool newsletter services have recommended buying shares of Apple, Sohu.com, and Baidu; we have also recommended creating a bull call spread position in Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinion, but we all believe that considering a diverse range of insights makes us better investors. Check out Anders' holdings and bio, or follow him on Twitter and Google+. We have a disclosure policy.
Copyright © 1995 - 2012 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.