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Taking Some Reader Questions

Boeing and High Short Interest Stocks

We have always enjoyed engaging with our readers, and we are taking that up a notch with our new firm, HX Research!

We are actively using our social media to reach out to YOU – our readers – to get your thoughts and questions.

This past week, we asked for questions from readers and were flooded with many interesting topics.

With the stock market closed today for Good Friday, we thought we would tackle a few of them…

What is going to happen with Boeing? Is it a risk for the stock market? Is it a risk to fly their planes?

James W

The recent (and not so recent) problems at airplane manufacturer The Boeing Company (NYSE: BA) have received much media attention.

We doubt any of you are NOT aware of the issues, but recently, there was a plane where a piece of the aircraft flew off mid-flight. Investigations into this issue brought up some other manufacturing issues at the company.

This is on the back of several issues, including fatal crashes back in 2018/19.

As a result of these problems, there has been another round of aircraft groundings, delayed and canceled orders, and—most recently—a complete turnover of Boeing management.

Unsurprisingly, the stock has been hit hard. Here is a 10-year chart of the stock…

You can see the stock got crushed during COVID-19 (and in the aftermath of those crashes) and has traded in a wide range ever since. Before these recent problems, it was trading near its five-year high but is down 25% year-to-date.

Boeing is a big company and important for our economy, but it is not nearly as big or important as it was decades ago. 

The current $117 billion market cap makes it the 83rd largest company in the S&P 500, dwarfed by the big technology companies. However, it is one of the 30 companies in the Dow Jones Industrial Average, making up slightly more than 3% of the index.

Either way, the stock is unlikely to impact the overall market significantly.

What is going to happen to the company?

We recently read several articles saying that flyers were rebooking flights to avoid Boeing planes and fly Airbus instead. Here is one of these articles…

We appreciate folks' emotional reactions, but this is nuts!

While the manufacturing issues are genuine, it remains true that on a major US airline, you are FAR more likely to be killed by lightning than die in a plane crash…

As far as the company, we think the problems are fixable. Much of it has come from a change in the focus in management away from aeronautic engineering and to financial engineering.

Ultimately, this has decreased their ability to produce at the quality levels for which they were previously known, but they are STILL producing very good products. They just need to be better.

We would not buy the stock, but we don't think the company will disappear. Overall, Boeing is a big story for the media. Still, we don't think much of a story for the economy or the stock market.

How do you view stocks with a very high short interest? How does that factor into your thinking?

Mike M

The answer is that it depends!

First, you need to figure out WHY a stock has a short interest. There can be many reasons, and not all of them are because a bunch of investors are bearish on the shares…

When a company issues a convertible bond, many of the investors who buy that security will short the company's stock. These investors are short the stock, but not because they have a negative view of it.

Also, they will not panic if the stock rallies because they own exposure via the convertible bond. 

Whenever we see an abnormally high short interest, one of the first things we do is check to see if a convertible bond exists.

If there is no convertible and the stock still has a high short interest – the next thing we do is check out the "cost to borrow."

This is the cost that the brokerage houses are charging to get the shares to short.

There isn't an easy way to do this, but if you go into your brokerage account (if it is set up to short stocks), you should be able to determine the cost of borrowing.

A very high cost to borrow tells you that the short is "tight". This means that it is hard to short more shares. This can be important and make the shares much more likely to get squeezed higher.

Looking across ALL the high short-interest stocks we have seen in 30+ years of investing (and active short selling), we would make the following observations... 

In the long term, high short interest is an excellent indication of problems at a company. If there are legitimate short sellers involved, then almost inevitably, the company has—or is going to have—significant issues.

Some companies recover, but many (most) do not, and these can be significant long-term shorts.

The short-term performance, however, can be a MUCH different experience.

Companies with high short interest – and exceptionally high borrowing costs – can be volatile.

This can create great trading opportunities.

Generally, we don't EVER like going long with companies we don't like or think are doing poorly. If it goes against you, you have no one to blame but yourself.

Occasionally, though, we see emerging turnarounds, and high short interest can accelerate that recovery. It can also turbocharge stocks where there is legitimate controversy and where you might have an alternative view of the fundamentals.

For our trading strategies, it can sometimes act as an extra catalyst for one of our ideas. It would never be the primary catalyst, but it could be one to consider.

Like many other factors such as valuation, free cash flow, and insider buying, the relevancy of this data point depends. Still, SOMETIMES it can be a very useful one to know.

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