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Shorts suffer in the rally

For many money managers who bet exclusively that securities will fall, July may go down in history as their personal Waterloo —  .

When performance data is announced in the next few days, the numbers will show high single-digit or even double-digit losses at so-called dedicated short-sellers, industry analysts and investors forecast.

“Every few years short-sellers have their day in the sun,” said Brad Alford, founder of Alpha Capital Management, an advisory firm that invests in hedge funds. “Then things revert to normal where the markets rise and life becomes so difficult for them that many just go out of business,” he added.

Short-sellers began having a bad year as soon as the stock market began to turn around when fears about the global downturn eased. In the first six months of 2009 they lost 9.38 percent, compared with the 9.55 percent that other hedge funds gained.

And with the Standard & Poor’s 500 stock market index last month recording its best gains for July since 1997, returns for short-sellers will be nothing short of a blood bath, analysts predicted.

To anyone considering hedge fund investments in the coming months, the data will illustrate that these managers who cashed in on last year’s financial markets crash now rank as the $1.4 trillion hedge fund industry’s worst performers.

And ironically short-sellers may have even helped fuel a recent rally in newspaper stocks by shorting shares of Gannett Co, which were the S&P 500′s top gainer in July, rising 96 percent. Short-sellers that sold Gannett shares in the belief they would drop in price were instead forced to reverse course and cover positions by buying the stock, analysts said.

Taking care of your hedges

Insight director of UK equities Andy Cawker, manager of a long-short Ucits III fund, tells me he has been changing the way his fund hedges its market exposure as market conditions change.

His Absolute Insight UK Equity Market Neutral fund, which uses pairs trades to produce a largely market neutral portfolio, has shifted from hedging mostly against the index two years ago to now hedging predominantly against individual stocks.

Why? And why does it matter?

Well, it’s a good reflection of market conditions.

In summer of 2007, just before the onset of the subprime mortgage crisis, M&A activity, and more importantly M&A rumours, were at a peak. It seemed like almost any company that was trading poorly could become a target for private equity funds — then at the height of their power — and the share price could actually rise.

So hedging against individual stocks is a bit risky. You could rightly identify that a company will trade poorly yet lose out on the short. So hedging against the index was the path Cawker took.

Roll on 18 months and the world has changed. The subprime crisis has turned into the credit crisis, which has turned into a recession. Suddenly companies that aren’t as good as they were cracked up to be in the boom times are found out, producing great opportunities to short individual stocks.

Short and Curlies

The Longpigs were one of the lesser lights of Britpop, best known for a number 16 hit with She Said and for launching the career of Richard Hawley. Now though, apparently, short pigs are all the rage.

News reaches us of exciting developments in the world of ETFs where the market is seeking out ways to play swine flu. ETF Securities has seen a surge in volumes and returns of its Short Lean Hogs ETC after the World Health Organisation (WHO) raised its pandemic alert for swine flu to the second highest level last Wednesday.

No word on Short Fat Hogs, but we are reliably informed that the surge in short interest in their slimline cousins has put them in the top 5 of short ETC’s by returns in the year to date. The porkers must be feeling particularly perky at outperforming the MSCI World by some 74 percent since September last year.

ETF Securities reckons the interest shows investors are using Short ETCs to benefit from an anticipated fall in demand for lean hogs on the swine flu outbreak. It notes that U.S. pork import bans have been enacted by Russia, China, the Philippines, Serbia, Kazakhstan and South Korea since the end of last week — while lean hog prices have seen sustained pressure as farmers have culled pigs, increasing supply as high feed costs and falling returns have pressured margins.  

Any Hedgies out there making this play, then get in touch.