Our top ten news from 12 January 2017 to 19 January 2017 (ranked according to popularity).

-Miners increasingly awash with cash
-Potential nasty surprises for healthcare
-China's steel reduction supports iron ore
-UBS previews reporting season for emerging companies
-G8 Education a potential turnaround story 

By Rudi Filapek-Vandyck

Focus On Capital Management

How times have changed. It was only a year ago analysts and investors were speculating on which resources stocks might be about to breach debt covenants, and Whitehaven Coal ((WHC)) featured often on top of the list.

Now the boot is firmly on the other foot and the sector is enjoying almost unprecedented piles of cash flowing into miners' bank accounts, while those same analysts and investors are trying to figure out just how long exactly can this purple patch continue?

Now the biggest question in the sector is what to do with all that cash? Analysts at Citi point out the answer will be different for each miner. For example, BHP Billiton ((BHP)) likes to stonewall its single A credit rating, while Fortescue Metals ((FMG)) is aiming to reduce gearing to less than 40%. South32 ((S32)), on the other hand, is debt free and doesn't want to hold more than US$500m in cash.

So many options, so many possibilities.

On our observation, analysts have already started speculating about whether Rio Tinto ((RIO)) might pay out extra dividends, or maybe conduct a share buy back, why not both?

Analysis by Citi has identified Whitehaven Coal as the one with the biggest luxury problem. Key question: is the company first aiming at reducing debt to zero or will it start rewarding shareholders sooner?

Healthcare: Potential Surprises

It's not what we know that defines the year, it's what we don't know is about to happen. 2016 would be the perfect example.

Healthcare analysts at Morgan Stanley applied the principle to the sector in Australia and came up with five possible unaccounted for scenarios; only one would be a positive.

First the potential negatives:

1. A much stronger USD against EUR and GBP. While a stronger USD/AUD is beneficial for US profits, weakening currencies in Europe act as a negative. Ansell ((ANN)), for example, derives some 25% of revenues from Europe. For CSL ((CSL)) the percentage is 24% and for ResMed ((RMD)) the number is 29% of revenues. By the way: I think Ansell is not a healthcare stock, but that's a discussion for another time.

2. CSL and plasma collection cost inflation. It is the analysts observation plans to expand plasma collection centres would, if all executed, imply stronger growth than the market. This raises the prospect of over-supply. In the short term, however, Morgan Stanley notes the market is more likely to stick with the view that CSL stands out as a key beneficiary from mis-steps and supply chain issues among its competitors.

3. It is the analysts view that substantial capacity expansion in some of Healthscope's ((HSO)) key markets has compounded the earnings impact of volume weakness, but thus far, nobody else seems to be paying attention.

4. Cochlear ((COH)) shares are trading on lofty multiples but what if key competitor Advanced Bionics starts fighting back in 2017, grabbing back lost market share?

And here's the potential positive surprise:

5. Market rumours about a potential break-up of Primary Health Care ((PRY)) would, if executed, prove to be a positive for shareholders.

All in all, it is the analysts' view the healthcare sector was punished in 2016 for trading on too-high multiples. The severity of the relative underperformance is unlikely to be repeated in 2017, in their view, though any of the above mentioned scenarios can still have a major impact.

China Steel Reductions

China remains hell-bent on reducing steel production capacity and iron ore prices still trade above US$80/tonne. Go figure!

However, explain commodity analysts at UBS, things are not as contradictory as they might seem. China has an estimated steel manufacturing capacity of some 1.12bn tonnes per annum. The sector only produces 810m tonnes (UBS estimate). This implies idle capacity of no less than 310m tonnes.

To put that latter figure into context: idle capacity in China is larger than actual steel production in the USA and Europe combined.

For obvious reasons, when authorities target further reduction in capacity, it has no impact whatsoever on the steel sector's demand for iron ore and other inputs such as nickel, molybdenum, scrap steel, metallurgical coal, etc.

Ironically, suggests UBS, when idle capacity is closed China's steel sector becomes healthier, enjoying higher utilisation, higher margins and higher steel prices, which supports iron ore pricing. On UBS's projection, China's total steel production will remain stable (810m tonnes) for 2017. The government in Beijing reported 80m tonnes in capacity was closed in 2016.

Emerging Companies

Reporting season is approaching and analysts at UBS have dusted off their crystal ball and reviewed what's likely in store for "emerging companies" (their definition) in Australia for the season.

Cutting directly to the chase, the analysts have identified a few names that might disappoint with their financial performance as well as with their outlook. At risk of delivering such a double negative in February, according to UBS, are GBST ((GBT)), InvoCare ((IVC)), Monadelphous ((MND)) and TOX Free solutions ((TOX)).

The numbers are higher for companies likely to deliver a double positive: a2 Milk ((A2M)), Alumina Ltd ((ALU)), AMA Group ((AMA)), Bapcor ((BAP)), Costa Group ((CGC)), Cleanaway Waste Management ((CWY)), Freelancer ((FLN)) and freshly listed Ingham's Group ((ING)).

In more general terms, stocks in the emerging companies space that UBS likes for the year ahead include Adairs ((ADH)), AMA Group, EclipX ((ECX)), Gateway Lifestyle ((GTY)), Infomedia ((IFM)), NextDC ((NXT)), TFS Corp ((TFC)) and Tassal Group ((TGR)).

Turnaround Potential At G8 Education

The new guy in charge of analysing childcare centre operator G8 Education ((GEM)) for stockbroker Ord Minnett has taken the view that new management seems poised to surprise the market, which would not be too difficult a task, one reckons, given the long history of negative surprises and perennial disappointments this former market darling has been accumulating in years past.

We note the share price has swiftly recovered from levels below $3 last year, but shareholders remain underwater if they bought in between April and August last year, not to mention the share price once upon a time was way, way, way higher.

Jules Cooper, as the new guy in charge at Ord Minnett is named, believes if the new CEO's strategy comes to fruition, there could be material upside from the current share price. Unsurprisingly, the present share price is not seen accounting for any such positive outcomes.

The analyst draws optimism from a likely stabilisation in margins, the arrival of the new CEO and from the fact that small improvements in occupancy rates can potentially support a double-digit increase in operational profits and valuation for the shares. Ord Minnett has thus suitably upgraded to Accumulate (in between Buy and Hold) with a new price target of $3.78.

The latter might surprise as the shares are currently trading around $3.62 which is not that far off the target, but then Jules Cooper is still not sure what exactly the future might bring. His advice is investors should make a clean assessment of the company and keep an eye out for early signals of improvement.

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Guide:

The Short Report draws upon data provided by the Australian Securities & Investment Commission (ASIC) to highlight significant weekly moves in short positions registered on stocks listed on the Australian Securities Exchange (ASX). Short positions in exchange-traded funds (ETF) and non-ordinary shares are not included. Short positions below 5% are not included in the table below but may be noted in the accompanying text if deemed significant.

Please take note of the Important Information provided at the end of this report. Percentage amounts in this report refer to percentage of ordinary shares on issue.

Stock codes highlighted in green have seen their short positions reduce in the week by an amount sufficient to move them into a lower percentage bracket. Stocks highlighted in red have seen their short positions increase in the week by an amount sufficient to move them into a higher percentage bracket. Moves in excess of one percentage point or more are discussed in the Movers & Shakers report below.

Summary:

Week ending January 12, 2017

Welcome to the first FNArena weekly Short Report for 2017.

As of next week, this Report will revert to its regular format of providing a week-on-week update of movements in individual short positions on ASX stocks. But as this particular Report is the first for the year after a one month summer hiatus, this particular Report makes note of short position movements over the period of that month.

As one might expect, there are many. A comprehensive list of notable movements appears below in Movers & Shakers, but here are some highlights:

Aconex is now the most shorted stock on the ASX.

After a seeming eternity as a 10% plus shorted stock and often right up there among the most shorted, Monadelphous is now only shorted by 8%.

Mayne Pharma is now shorted 7.8% when not appearing in the 5% plus table last year.

The infant milk formula debacle has seen shorters take profits on Bellamy’s Australia, but lift shorts on A2 Milk Company.

Other companies seeing notable decreases in shorts include Western Areas, Independence Group, Orocobre, Japara Healthcare, Mantra Group, G8 Education and Ozforex.

Companies seeing notable increases in shorts include Perseus Mining and Ardent Leisure.

Weekly short positions as a percentage of market cap:

10%+

ACX   16.6
MYR   16.1
TFC     12.0
WSA   11.9
SYR    11.0
VOC   10.7
NEC    10.2
MTS    11.5

In: VOC          Out: MND

9.0-9.9%

WOR
 
Out: VOC, ORE, BAL, JHC, HSO  

8.0-8.9%

NWS, HSO, FLT, NXT, MND

In: MND, HSO, NXT             Out: AWC, MTR, IGO, DOW                                  

7.0-7.9%

AWC, DOW, MYX, MYO, EHE, BAL, ISD, ORE, IVC

In: BAL, ORE, AWC, DOW, MYX, ISD     Out: NXT, OFX, BEN, GEM, GTY, CVO

6.0-6.9%

JHC, SGH, GTY, RWC, BEN, PRU, BKL, CTD, MTR, CSV, SEK, ILU, OSH

In: JHC, MTR, GTY, BEN, PRU, CTD, CSV          Out: ISD, IFL, MSB, PRY, RIO, MLX

5.0-5.9%

WOW, MSB, GEM, BGA, IFL, RIO, IGO, A2M, OFX, CSR, AAD, AWE, CAB, AAC, ORI, IPH, MLX

In: IGO, OFX, GEM, MSB, IFL, RIO, MLX, A2M, AAD, AAC, IPH     

Out: SUL, CSV, GXL, DMP, SPO

Movers and Shakers

Construction industry software provider Aconex ((ACX)) has seen its shorts increase to 16.6% from 14.3%, leapfrogging the stock over former most-shorted stock Myer ((MYR)) on 16.1%.

A lifting of the Indonesian nickel export ban has sent the prices of Australian nickel miners diving and prompted profit-taking from shorters. Western Areas ((WSA)) shorts have fallen to 11.9% from 13.5% and Independence Group shorts have fallen to 5.6% from 8.0%.

The oil price recovery has prompted a revival in the fortunes of Monadelphous ((MND)), which has seen a fall to 8.1% from 10.1%.

A US antitrust lawsuit filed against Mayne Pharma ((MYX)) has seen shorts jump from under 5% to 7.8%.

We all know the Bellamy’s Australia ((BAL)) story. Shorts have fallen to 7.3% from 9.0% on profit-taking. Shorts in peer A2 Milk Company ((A2M)) have risen to 5.3% from under 5% prior.

The share price of mining darling du jour – lithium miner Orocobre ((ORE)) – has lately being flying around all over the shop. Shorts have fallen to 7.3% from 9.1%.

There was some relief in the residential aged care space, regulatory-wise, late last year. Shorts in Japara Healthcare ((JHC)) have fallen to 6.7% from 9.0%. Shorts in peer Estia Health ((EHE)) are hanging in there at 7.6%.

Perseus Mining ((PRU)) disappointed late last year with a list of problems at its gold mines in Cote D’Ivoire. Shorts have risen to 6.3% from under 5% prior.

The post-US election period has not been a joyous one for property trusts. Hotel and resort REIT Mantra Group ((MTR)) has seen its shorts fall to 6.2% from 8.3% on profit-taking.

The share prices of both child care centre operator G8 Education ((GEM)) and international payments processor Oxforex ((OFX)) have stabilised recently after a tough year. G8 shorts have fallen to 5.8% from 7.1% and Ozforex to 5.5% from 7.8%.

We also all know the Dreamworld story. Ardent Leisure ((AAD)) has popped into the bottom of the 5% plus shorted table at 5.3%.
 

ASX20 Short Positions (%)

To see the full Short Report, please go to this link

IMPORTANT INFORMATION ABOUT THIS REPORT

The above information is sourced from daily reports published by the Australian Investment & Securities Commission (ASIC) and is provided by FNArena unqualified as a service to subscribers. FNArena would like to make it very clear that immediate assumptions cannot be drawn from the numbers alone.

It is wrong to assume that short percentages published by ASIC simply imply negative market positions held by fund managers or others looking to profit from a fall in respective share prices. While all or part of certain short percentages may indeed imply such, there are also a myriad of other reasons why a short position might be held which does not render that position "naked" given offsetting positions held elsewhere. Whatever balance of percentages truly is a "short" position would suggest there are negative views on a stock held by some in the market and also would suggest that were the news flow on that stock to turn suddenly positive, "short covering" may spark a short, sharp rally in that share price. However short positions held as an offset against another position may prove merely benign.

Often large short positions can be attributable to a listed hybrid security on the same stock where traders look to "strip out" the option value of the hybrid with offsetting listed option and stock positions. Short positions may form part of a short stock portfolio offsetting a long share price index (SPI) futures portfolio – a popular trade which seeks to exploit windows of opportunity when the SPI price trades at an overextended discount to fair value. Short positions may be held as a hedge by a broking house providing dividend reinvestment plan (DRP) underwriting services or other similar services. Short positions will occasionally need to be adopted by market makers in listed equity exchange traded fund products (EFT). All of the above are just some of the reasons why a short position may be held in a stock but can be considered benign in share price direction terms due to offsets.

Market makers in stock and stock index options will also hedge their portfolios using short positions where necessary. These delta hedges often form the other side of a client's long stock-long put option protection trade, or perhaps long stock-short call option ("buy-write") position. In a clear example of how published short percentages can be misleading, an options market maker may hold a short position below the implied delta hedge level and that actually implies a "long" position in that stock.

Another popular trading strategy is that of "pairs trading" in which one stock is held short against a long position in another stock. Such positions look to exploit perceived imbalances in the valuations of two stocks and imply a "net neutral" market position.

Aside from all the above reasons as to why it would be a potential misconception to draw simply conclusions on short percentages, there are even wider issues to consider. ASIC itself will admit that short position data is not an exact science given the onus on market participants to declare to their broker when positions truly are "short". Without any suggestion of deceit, there are always participants who are ignorant of the regulations. Discrepancies can also arise when short positions are held by a large investment banking operation offering multiple stock market services as well as proprietary trading activities. Such activity can introduce the possibility of either non-counting or double-counting when custodians are involved and beneficial ownership issues become unclear.

Finally, a simple fact is that the Australian Securities Exchange also keeps its own register of short positions. The figures provided by ASIC and by the ASX at any point do not necessarily correlate.

FNArena has offered this qualified explanation of the vagaries of short stock positions as a warning to subscribers not to jump to any conclusions or to make investment decisions based solely on these unqualified numbers. FNArena strongly suggests investors seek advice from their stock broker or financial adviser before acting upon any of the information provided herein.

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