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Stay Away From These Four Heavily Shorted Stocks

Stocks in this article: RAD CHK FB SVU AMD PCX HGG ACI

4. Facebook (FB)

After a disappointing debut, shares of this huge initial public offering staged a decent short-term rebound, as I anticipated would happen in mid-June .

Nearly a month ago, I suggested shares would get a lift from a fresh wave of research reports from the company's underwriters in late June. But I also cautioned that actual second-quarter results, set for release later this month, might be fairly tepid. "This suggests booking profits if shares rebound in coming weeks," I wrote back then.

Some short sellers think that's much too passive a strategy and they see a compelling short play emerging. In just the two weeks ended June 29, the short position in Facebook rose a hefty 33% to 60 million shares.

Such a large short position implies that the stock will make a big move when second-quarter results are released, as results will have been as weak as the short-sellers anticipate, or good enough to make the shorts cover and trigger a short squeeze. If you have a strong feeling either way, then puts and calls may be the best way to capture any near-term move.

Risks to Consider: As an upside risk, any heavily shorted stock can post a massive quick gain -- if the short sellers are wrong in their assumptions and are forced to cover their positions.

Action to Take: The market feels winded, having dropped on most trading sessions this month. That may have led to some profit-taking by short-sellers, though the real action will come when second-quarter results are released for each of these stocks. There are times to go against short sellers (for example, a rising market could trigger squeezes). But this is not one of those times. It may be wiser to steer clear of any heavily shorted stocks right now.

David Sterman does not personally hold positions in any securities mentioned in this article. 

StreetAuthority LLC owns shares of CHK in one or more if its "real money" portfolios. 

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

This contributor reads:
Barry Ritholtz
Paul Kedrosky
Brad Delong
Joshua Brown
On Twitter, this contributor follows:

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