Originally posted on The Sydney morning Herald (Source: Here)
By Vensa Poljak
More than $1 billion of bets against the Australian retail sector will be tested when the earnings season gets under way this week, underlining a difficult year for the stocks with the most to lose from Amazon’s entry.
Short exposure to Harvey Norman, JB Hi-Fi, Metcash and Myer is tracking at about $1.3 billion collectively, according to the latest data provided by the securities regulator. With double-digit short positioning for all of those names, including Myer where 16.5 per cent of the company is in the hands of shorts, any surprises could trigger a squeeze.
Amazon’s arrival has amplified short interest in Australian retail, much of it believed to come from offshore.
Increased price volatility has been a notable feature of recent earnings seasons. However, the stakes are higher for retailers whose outlook has been clouded by Amazon’s arrival, as well as nervousness linked to the housing market. The online giant has just settled on a former Bunnings distribution centre in Melbourne and it is said to be eyeing a purpose-built Goodman Group lease at Eastern Creek to service Sydney.
Fund managers say that the divergence of views in the retail sector makes it one of the few pockets of the market where consensus and reality are potentially misaligned. The shorts were vindicated when Myer downgraded forecasts earlier this month in an otherwise mild confession season that yielded upgrades from Adairs and Kogan.
Hysteria
“Going into reporting season the biggest stock price surprises are going to come from the most shorted stocks in the market,” said investor Reece Birtles from Martin Currie Australia. “Retailers have already performed strongly since peak hysteria from the Amazon threat in mid-June on the back of anecdotes of strong sales performance in categories like electronics and furniture.”
In spite of this, short interest in discretionary retail is more than double its long-run average.
Overall, S&P/ASX 200 Index companies are heading for earnings per share growth of 13.1 per cent for 2016-17, fuelled by a recovery in resources, and 6.6 per cent for 2017-18. Industrials stocks still managed to eke out 7.8 per cent growth in the past year, according to Morgan Stanley’s analysis of consensus estimates.
The Australian sharemarket is ahead 0.65 per cent year to date, closing at 5702.81 points on Friday.
Big names to report this week include Rio Tinto, Suncorp, Crown Resorts and Tabcorp.
The extent of short positioning in highly regarded names is baffling to some investors. For example, 13.6 per cent of JB Hi-Fi is held short and the stock is down 9 per cent this year.
“We think JB Hi-Fi is a well-run, efficient company,” said long-short manager Tim Carleton from Auscap Asset Management. “They operate in a retail sales environment that is always competitive. As a new competitor, Amazon may well have an impact but we suspect the market’s reaction to the threat has been excessive.”
Brokers have tried to figure out how much damage Amazon will do based on its experience in the US, UK and some parts of Europe. Citigroup expects Amazon to grab 8 per cent of the consumer electronics market within five years of its Australian debut and 11 per cent in 10 years. Long-term earnings forecasts have been downgraded accordingly.
But Merrill Lynch analyst David Errington believes the market has swung too far and the “de-rating” in share prices was not supported by fundamentals. Retailers have been competing against eBay for years.
History is on the side of the longs. For the past seven years, the top 10 per cent of shorted stocks have outperformed the market 80 per cent of the time by an average of 2 per cent, Deutsche Bank equity strategist Tim Baker concluded in a report last week. But this is largely a trading strategy because outperformance fades quickly and is eroded within two months.
Fund manager Romano Sala Tenna from Katana Asset Management observes that hedge funds tend to be able to hold on longer than anyone realises.
“Some of these shorts might be found wanting but the short sellers seem to have a fairly high risk tolerance and a propensity to hold positions. To date they haven’t blinked,” he said.
“In a range-bound market the short sellers are still pretty comfortable. If we head into a market with a genuine breakout, then that gets more interesting.
“Metcash for example, if they’re on 20-something times it’s one thing, but if you’re on 12-times earnings compared to your peer group there’s a miscalculation there, especially given that they are number two now in hardware,” Mr Sala Tenna said. About 12 per cent of Metcash is held short, and the stock has advanced 14 per cent this year.
The Katana investor disagrees that more volatility, as the old adage suggests, is a gift for long-only managers.
“In theory it’s good because the bigger the dislocation the greater the opportunity, but in reality misplaced volatility’s not good for anyone.”
The retailers are heavily targeted but the biggest shorts, according to ASIC’s data, remain Orocobre at 19 per cent, Western Areas at 18 per cent, and Syrah Resources at 17.8 per cent. Nickel stocks, including Western Areas and Independence Group, have been suffered from on-again, off-again offshore production restrictions. Mr Birtles argues nickel “is one of the most undervalued commodities”.
Amazon shares hit a record high in the US last week where its results showed another quarter of booming sales and heavy reinvestment.
