One of the most important lessons from 2017, is that it's important to monitor the list of stocks that are most shorted. These are companies that hedge funds want to see fail. A classic example last year was Carillion. It was (and still is) the most shorted stock in the UK. The shorters clearly detected something wasn't right and they were correct in their judgement. The company released back-to-back profit warnings and the stock lost 90% of its value over the year. The shorters cleaned up big time.
Today, I'm looking at another two stocks that are currently being shorted heavily. Don't say you haven't been warned.
Premier Oil(LSE: PMO) is an independent exploration and production company with oil and gas interests in the North Sea, South East Asia, Pakistan, the Falkland Islands and Latin America.
The stock, which is popular among UK small-cap investors, has soared from 44p in June to over 90p today. However, before you get too excited, there's something you should know.
The £520m market cap company is currently the fourth most shorted stock in the UK. According to shorttracker.co.uk, seven funds are currently betting against the stock. 13% of the shares are being shorted. That signals trouble to me. So what's wrong with the firm?
The most likely reason for the large short interest, is the company's mammoth debt pile. The oil explorer had net debt of $2.7bn at 31 December, an astronomical figure given its market capitalisation. The company had total equity of just $800m on the balance sheet last year.
A trading update this morning revealed that full-year production for 2017 will be in line with guidance and that output is expected to rise by more than 10% in 2018. The company also noted that the first oil had been achieved from its Catcher field "on schedule and under budget."
However, with such a large debt pile and considerable short interest, I'd be hesitant to invest in Premier Oil right now.
Another company with a heavy chunk of short interest is Internet of Things specialist Telit Communications(LSE: TCM). I was bullish on Telit at the start of last year, as the growth story looked compelling. However, in hindsight, I should have paid more attention to the shorters. CEO Oozi Cats was accused of fraud, and Telit's share price got walloped.
The stock has bounced almost 50% from its August lows, yet at the same time, it has climbed up the list of the most shorted stocks. It's now the fifth most shorted stock in the UK, with 11.6% of its shares being shorted.
The high level of short interest in understandable. For starters, the group released a profit warning in September, stating that it expects adjusted EBITDA for the year to be "materially below previous guidance."
There's also a lack of corporate governance here. For example, interim CEO Yosi Fait sold £1.5m worth of shares in June, two days before the company failed to meet one of its banking covenants. This was only revealed in August.
Lastly, it was revealed in November that the FCA was making preliminary enquiries into the company's disclosures.
All in all, Telit is a stock to steer clear well clear of, in my view.
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Edward Sheldon has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.