Rising Short Interest at Red Hat

This column was originally published on RealMoney on Nov. 29 at 11:24 a.m. EST. It's being republished as a bonus for TheStreet.com readers. For more information about subscribing to RealMoney, please click here.

Recent short interest data show a big jump in the number of investors betting against enterprise-software play Red Hat (RHAT Quote). As of Nov. 15, short interest as a percentage of float (total shares available in the market) had increased 29% from the month-earlier level, with 11.4% of available shares now being sold short.

This is a far cry from the near-40% short-interest level at Crocs (CROX Quote) that I noted earlier this month. However, it does illustrate the growing concern over Red Hat's ability to make headway vs. Novell (NOVL Quote), which teamed up with Microsoft (MSFT Quote) about a month ago, as well as Oracle (ORCL Quote), which announced its entrance into the Linux distribution business in late October.

Sometimes a rising short-interest level will create a buying opportunity for investors, as the balance between optimism and pessimism gets overly skewed toward the latter. But in this case, Red Hat's short bandwagon has room.

The Bulls' Case

Last week, W.R. Hambrecht initiated Red Hat with a buy rating, repeating the usual company line for Red Hat bulls. I believe 11% short interest isn't anything to get excited about, especially because this figure hasn't been below 7% since December 2005. In addition, we won't see the financial implications of the recent Novell and Oracle announcements until Red Hat's mid- to late-2007 financial results are reported.

Plus, some question Oracle's potential to significantly penetrate Red Hat's market. Oracle has numerous obstacles to overcome, including a lack of independent software vendor support and an unclear driver for convincing customers to switch suppliers. These reasons are enough to convince many investors that Red Hat's recent price declines are overdone and have created a buying opportunity.