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Don’t Be Fooled By The Short Squeeze

By Alan Gula, CFA On November 18, 2015, KaloBios Pharmaceuticals Inc. ( OTCPK:KBIOQ ) announced that Martin Shkreli and a consortium of investors had acquired more than 50% of its outstanding shares. The stock, which had closed at $2.07 that day, traded above $10 the day after the announcement. The next day, shares rose above $23 and closed at $18.45. The following Monday, the stock miraculously traded for over $45 per share. In just six trading days, the market cap of KaloBios had risen from under $4 million to over $160 million. It was a blatant example of market inefficiency. But what could cause such an irrational spike? The answer is an acute “short squeeze.” A sharp rally in the price of a stock puts pressure on short sellers, who are betting the stock will fall. They may feel the need (or be forced) to close out their short sales by buying the stock. The buying pressure from this short covering causes the stock to move higher, compelling even more traders to cover their shorts. Over the past month, we’ve seen a bevy of short squeezes as the U.S. stock market has bounced along with the price of crude oil. These squeezes haven’t been as spectacular as the above example, but judging by how heavily shorted some of these stocks are, they’ve been very painful for the short sellers, nonetheless. The following table shows a few of the largest squeezes: The short interest ratio (SIR) is the number of shares sold short divided by the average daily trading volume. The average SIR for S&P 500 constituents is 3.3 times. At 9.5 times, the average SIR for these stocks is much higher – and for good reason. The risk of bankruptcy is very high for the companies on this list. Thus, they all have Standard & Poor’s credit ratings of CCC+ or lower. Two of the companies are already in selective default (SD). Others will eventually join them. Many of the stocks on this list will end up worthless. Risks notwithstanding, the short squeezes have been eye watering. Chesapeake Energy Corp. (NYSE: CHK ) shot up 208%. Linn Energy LLC (NASDAQ: LINE ) annihilated the shorts with a 398% maximum gain over the past month. In spite of these equity gains, though, many of these companies won’t have fairy tale endings. For example, the 6% bonds due 11/15/2018 for Peabody Energy Corp. (NYSE: BTU ) have rallied, but they’re still trading around $7 ($100 par). The bond market is saying that there won’t be much recovery for senior unsecured creditors, which means that equity shareholders will be left with approximately zero. The equity shareholders of the companies listed above are deluding themselves if they think the market cap reflects underlying fundamentals. It’s important to recognize that a sharp rally in a stock doesn’t necessarily signal all is well. In most cases, these stocks aren’t rising from the ashes. In fact, many of the companies with the most violent short squeezes will end up filing for bankruptcy, just as KaloBios had to do on December 30, 2015. Safe (and high-yield) investing. Original Post Editor’s Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.

5 Costly ETF Mistakes You Can Easily Avoid

ETFs are becoming increasingly popular with investors due to their low cost, transparency, easy tradability and tax efficiency. The ETF revolution has made it possible for individual investors to get a convenient, diversified access to almost any investment strategy in virtually any corner of the investing world. Retail investors now have access to many investment opportunities that were earlier available only to sophisticated, high net worth individuals. Despite their widespread use, there are many misconceptions regarding ETFs leading to costly errors, which can be easily avoided. This article aims to help investors avoid some of those mistakes and become more successful ETF investors. Buying an ETF above Its NAV ETFs usually trade at fair prices, i.e. close to their intrinsic values or aggregate values of their holdings. But at times certain ETFs’ prices deviate from their NAVs and they can trade at a premium or discount to their NAVs. If you buy an ETF (or an ETN) when it is trading at a premium, you can incur losses if you sell after the premium crashes. The popular oil ETN, the iPath S&P Crude Oil Total Return Index ETN (NYSEARCA: OIL ), was trading at an almost 50% premium over its NAV for some time earlier this year. In fact, Barclays had issued a notification warning investors about ETN premiums. As expected, the premium plunged after some time, making investors vulnerable to unexpected losses. Investors should make sure to check the previous day’s closing indicative value on the sponsor’s website. They can also check the intraday indicative value on Yahoo Finance using the ticker for the ETF and adding “^” and “-IV” at the beginning and end. So, for OIL ETN, the ticker for intraday indicative value is ^OIL-IV. Avoiding Low Volume ETFs Many investors confuse low trading volumes with the liquidity of an ETF and some even avoid newer ETFs, which may have better strategies but low trading volumes, in favor of older, more popular products with higher trading volumes. ETFs are different from stocks in this area and their trading volume should not be interpreted like stock trading volume. The liquidity of an ETF is not determined by its trading volume but by the liquidity of underlying shares (ETFs’ holdings). At the same time, low volume does usually lead to wider bid-ask spreads, which add to the trading costs. So, these ETFs are not suitable for frequent trading. And it does make sense to use limit orders while trading in low-volume ETFs. Using Market Orders during Volatile Markets The market mayhem on Monday, August 24, last year (ETF Flash Crash) left some harsh lessons for ETF investors. Many ETFs fell 20% or more and some as much as 30%-45% that morning, even though their underlying stocks had not declined so much. Large dislocations in ETFs’ prices were seen not only in smaller ETFs but in some very large and popular ETFs such as the Guggenheim S&P Equal Weight ETF (NYSEARCA: RSP ) and the Vanguard Consumer Staples ETF (NYSEARCA: VDC ). While these discrepancies lasted only for a short period of time, none of the trades executed during that time were canceled. There were many factors that caused ETFs’ pricing problems. But the biggest mistake that ETF investors could have avoided was using “market orders” during those turbulent market conditions. Investors who had left a sell market order or a sleeping stop-loss sell order for one of the ETFs that had severe distortion in pricing probably saw their orders hit at worst possible prices, much below fair values. Ignoring the Contango Impact on Commodity ETFs While some commodity ETFs, mainly those tracking precious metals hold the physical commodity, most commodity ETFs use futures contracts to track the price of commodities due to high storage costs. These futures contracts are required to be rolled over when they are close to expiration. At times, futures price of the commodity is higher than the spot price – known as “contango” – which results in losses at the time of rolling over the contracts. Contango affects the performance of ETFs since the futures contracts’ return will be lower than spot price returns of the commodity. A recent article in WSJ highlighted this issue in the performance of ETFs that track the performance of oil using futures, including the PowerShares DB Oil ETF (NYSEARCA: DBO ), the United States Oil ETF (NYSEARCA: USO ) and OIL. While US crude futures were down about 20% through February 22 this year, oil funds fared much worse. Always Buying Currency Hedged International ETFs Currency hedged ETFs have been quite hot in the past couple years as the US dollar surged against most other currencies. By hedging out the currency exposure, through currency hedged ETFs, investors get access to pure equity returns in international markets. Investors should also remember that often stocks and currencies move in the same direction. That is, if an economy strengthens, its stock market as well as the currency will perform well. In such cases of positive correlation, hedging will actually work against investors. However in some cases, particularly in cases of export oriented economies, stocks and currencies have shown a negative correlation historically. That’s why currency hedged Japan funds performed so well in the recent past. That said currency hedging is not always a good idea. Take the example of Japan ETFs – while currency hedged products like the WisdomTree Japan Hedged ETF (NYSEARCA: DXJ ) outperformed the unhedged ones like the iShares MSCI Japan ETF (NYSEARCA: EWJ ) over the past couple years, as the yen weakened against the dollar, they have underperformed over the past 2-3 months, as the Japanese currency rebounded, thanks mainly to its safe-haven status and worse-than-expected stimulus measures announced by the BOJ. Original Post

Sector ETFs To Benefit From Global Negative Interest Rates

The world is heading toward negative interest rates policies (NIRP) to stimulate sagging growth and prevent deflationary pressure. Most central banks, including the ones in Japan, Sweden, Switzerland, Denmark and Europe have adopted this policy. The central bank of Denmark was the first and foremost to set a negative tone for rates in mid 2012. It lowered its certificates of deposit ( CD ) rates to minus 0.20% from 0.05% in order to protect the krone’s peg to euro. Then the Danish central bank underwent a series of rate cuts in January and February 2015 going deeper into -0.75%. However, in January 2016, the bank raised the interest rates for the first time in almost two years by 10 bps to -0.65% (read: 5 Best Performing Country ETFs of 2015 ). The European Central Bank (ECB) joined the group in June 2014 by slashing the deposit rate from zero percent to -0.1%. The ECB then pushed the rates further to -0.3% in December 2015 and deeper to -0.4% on March 10, 2016. Switzerland introduced negative interest rates in December 2014, when the Swiss National Bank said it would charge banks 0.25% interest on bank deposits in an effort to curb its strengthening currency. The Swiss bank pushed the rates further into the negative territory to -0.75% in January 2015. Swedish Riksbank implemented negative rates in February 2015 when it cut repo rate to minus 0.1% from zero. The bank reduced the rates three times since then with the latest cut by 15 bps in February 11, 2016 to -0.50%. Last but not the least, Japan was the latest country to join the league in late January 2016 as the Bank of Japan set its benchmark interest rate at -0.1% (read: Japan ETFs to Buy on Negative Interest Rates ). NIRP: A Good or Bad? Though the negative rates policy has raised worries over the health of the banks and increased chances of default, it is actually a good for the economy and the stock markets. This is because the strategy would make lending cheaper and encourage spending, thereby leading to greater economic growth. In addition, it would make borrowing attractive for both consumers and business, driving demand for loans. As such, it will give a huge boost to sectors like real estate, housing and utilities. Further, NIRP would lead to capital outflows leading to depreciation of the currency, which will encourage exports and manufacturing. Investors should note that the NIRP policy has not been tested before and so, does not have any history. Given this, many investors want to reposition their portfolio to the sector ETFs that will benefit from NIRP. Below we have highlighted some of them: Vanguard Global ex-U.S. Real Estate ETF (NASDAQ: VNQI ) This fund offers a broad exposure across international REIT equity markets by tracking the S&P Global ex-U.S. Property Index. Holding 663 stocks in its basket, the fund is well spread out across components with none holding more than 3.3% share. European firms account for 26% of assets, while Japan makes up for 24% share, and Sweden and Switzerland getting 2% each. The product has AUM of $3.1 billion and average daily volume of 316,000 shares. It charges 18 bps in fees per year from investors and has lost 0.22% so far this year. WisdomTree Japan Hedged Real Estate Fund (NYSEARCA: DXJR ) This fund seeks to provide exposure to the Japanese real estate sector while at the same time offers hedge against any fall in the yen relative to the U.S. dollar. This is easily done by tracking the WisdomTree Japan Hedged Real Estate Index. In total, the fund holds 93 stocks with each holding less than 8.5% share. Expense ratio came in at 0.48%. The product has accumulated $145.8 million in its asset base and trades in a moderate volume of 63,000 shares a day on average. DXJR is down 4.8% in the year-to-date timeframe and has a Zacks ETF Rank of 2 or ‘Buy’ rating with a Medium risk outlook. iShares FTSE EPRS/NAREIT Europe Index ETF (NASDAQ: IFEU ) This product targets 96 companies engaged in the ownership and development of the developed European real estate market. It tracks the FTSE EPRA/NAREIT Developed Europe Index, charging investors’ 0.48% in expense ratio. The fund is less popular and less liquid in the European space with $64.3 million in AUM and average daily volume of around 23,000 shares. IFEU has lost 6.2% in the year-to-date timeframe. WisdomTree Global ex-U.S. Utilities Fund (NYSEARCA: DBU ) This fund follows the WisdomTree Global ex-US Utilities Index, which measures the performance of the dividend-paying companies in the utilities sector of the developed and emerging equity markets, excluding U.S. European firms account for 54% of the portfolio while Japan takes 5% share. With AUM of $14.4 million, the fund is diversified across 97 securities with none holding more than 2.5% share. It charges investors’ 58 bps in annual fees and trades in a paltry volume of 4,000 shares a day. The ETF has shed 0.5% so far this year. Link to the original article on Zacks.com