It turns out that even the most hated stocks get a bit of loving now and again, but it usually takes a bit of proving to investors why they deserve to be loved. Strong earnings growth is one way to do it, and appears to be exactly what is giving hated stocks like Chipotle Mexican Grill Inc. (CMG), Under Armour Inc. (UAA) and TripAdvisor Inc. (TRIP) the momentum to outperform the market. That at least is the conclusion of T.J. Thornton, managing director at Jeffries, who found that the most shorted stocks on the market are on course for a second consecutive quarter of outperformance versus the least shorted stocks, according to MarketWatch.
Outperformance of heavily shorted stocks doesn’t tend to last very long, according to Thornton. But when it does happen, it’s usually because overall earnings growth is moving upward. As Q2 earnings season gets underway, estimated earnings growth for S&P 500 companies is 18.9%, which would make this quarter the second highest since the first quarter of 2011. That definitely helps to explain why short sellers are losing their battles with the rising share prices of Chipotle, Under Amour and TripAdvisor.
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Looking for Love
Once weighed down by a number of food safety incidents, including outbreaks of E.coli and norovirus between 2015 and 2017, Chipotle is making significant gains, most recently on strong earnings. Shares of the restaurant jumped 10% at the end of April, after a solid first quarter earnings report. Chipotle reported earnings per share (EPS) of $2.13, compared to the $1.57 per share expected by analysts. Expectations for second quarter earnings stand at $2.68 per share. (To read more, see: Chipotle: Rise, Fall and Revival of a Wall Street Darling.)
After suffering from a two-year selloff that has seen the stock fall more than 70% from record highs, Under Amour has been slowly turning things around. Despite the past two quarters of breakeven earnings, the sports apparel store posted modest top line growth in its latest earnings report, as it struggles to compete with the likes of Nike and Adidas. Under Amour still has some work to do before it proves it is out of the hole, but it is moving in the right direction.
TripAdvisor, another stock that has lost the favor of investors over the past several years, is also making a bit of a comeback starting with a first quarter earnings beat of $0.09 per share compared to analysts’ expectations of $0.04 per share. If the online travel bookings market does grow at the annual 10.8% rate forecasted for the period between 2017 and 2023 by Research and Markets, TripAdvisor should continue to benefit from that growth as long as it can continue to retain market share.
Another positive factor for these three stocks, and the market more broadly, is that the median days-to-cover ratio for shorts in the Russell 3000 is at the “very low end of the range,” according to Thornton. Days-to-cover is a concept used to measure short interest in a stock, indicating how many days it would take all of the short positions in a stock to be closed out based on the average daily trading volume of those shares.
That ratio tends to be high as growth slows leading into a recession. The fact that it's relatively low means investors are not making very many short bets and are relatively optimistic about growth. That’s somewhat curious considering all of the recent worries about global economic growth slowing from geopolitical tensions and possible trade wars. (To read more, see: ‘Stealth’ Economic Slowdown Is Bad News for Stocks.)