How short sellers run this market: Part 1
Sometimes you have to follow the short money. You have to recognize that there are gigantic bets being made at all times against stocks. When they work, they work big. When they fail, they are spectacular failures.
The last 48 hours have seen some of the greatest short gains I have ever seen and some just disastrous bets against companies that have produced herculean results against all odds.
Before I go over them, let me just say that, unlike almost any other time I can recall, it's the actions of the shorts that are determining pricing. They are the ones who are moving the stocks in either direction. I have no problem with that. Short selling is a vital part of this market. Shorts expose frauds and faults. They make money when companies falter or when shareholders capitulate to their fears, even if nothing really is wrong with the company. They lose money when the story turns out stronger than expected and they have to buy shares back that they shorted, sometimes well above where they made their bet against the company.
There's been tremendous money made shorting almost everything healthcare related. The forces against health care have coalesced to make the group entirely untenable to own right now, even as that could turn given that a historically expensive group has turned cheap. But think about all that has gone wrong.
First, there's the political hoopla. Not that long ago a hedge fund manager turn pharma executive bragged about how he had been able to jack up prices dramatically on older drugs because there's no competition. Both what he said and how he said it made him public enemy No. 1 in election season. The executive's comments got the attention of Hillary Clinton and she has taken the ball and run with it, saber-rattling against the whole industry, beginning with a tweet and then escalating into a stump speech. Every time she comes near a podium this group's shareholders shudder. It's going to be a long time until the election, so you know this issue isn't going away. It could just be beginning.
Second, the healthcare segment has seen its share of roll-ups (companies borrowing money in order to buy other companies). Some of the acquirers have used overseas tax regimes with much lower taxes to buy American companies and dramatically reduced the tax rates for them. Three in particular have drawn the attention of short sellers: Horizon, Allergan and Valeant. They have all been under heavy pressure ever since the market turned on these roll-up situations.
Plus, both Horizon and Valeant have been aggressive in putting through price increases, while Allergan has not been known for doing so. It doesn't matter there is heavy guilt by association. Until recently, Valeant had been known to buy and then slash research and development to boost earnings. The company, when it reported earlier this week, announced it would boost R&D. No matter. Too late. The combination of roll-ups and price increases has proven deadly and these shorts have worked successfully in a dramatic fashion.
It doesn't help that the holders are weak -- meaning fearful -- or that there's a short-selling outfit, Citron, that got short Valeant and then issued a paper insinuating that Valeant used Enron-like techniques, code words for fraud, to boost sales. Ever since the market turned on these stocks, Valeant has fallen to $88 from $264, Allergan to $252 from $339 and Horizon to $13 from $38. These are remarkable, scary declines. The biotechs, also known for their price increases, have been almost as hard hit. They can't seem to stabilize.
Then layer on the remarkable decline in hospital stocks, which had been the steadiest of the group because they had been seeing such increases in usage after the passage of the Affordable Care Act. All of a sudden these admission numbers, which had been spectacular, have turned south. First it was HCA, the largest company in the group, and then, today, Community Health Systems. Now there's no place to hide in the segment and everything is coming down.
The second group that's been hammered has been oil and gas with the decline in the price of crude and every time these stocks have rallied they have come under the pressure of the shorts. The selling makes sense. The numbers are too high. The pipelines have been particularly hard hit as one after another seems to misjudge how weak the market is. Last night Kinder Morgan cut its outlook for more dividend boosts and talked about how it was going to do some novel financing, not issuing equity, to maintain its company's growth. The company was opaque. The analysts didn't seem to like it and it caused some downgrades. The result? A disastrous retreat in the entire group, which trades like one big ETF anyway.
Finally, there's been a dislike of high-growth tech in part because of a belief that all of the businesses are peaking. The shorts have really pounced on the fast-growing semiconductor companies like Avago, NXPI and Skyworks, all of which are doing acquisitions to diversify their base. They have been ugly. And the selling's been nonstop. It's been a very fertile area for the shorts. And it hasn't seemed to end.
Part two -- the gainers -- is on Real Money now.