The Dangers of Shorting SHLD and BBY Stock

by Lawrence Meyers | March 13, 2014 6:00 am

The Dangers of Shorting SHLD and BBY Stock

If you’ve read my other articles, you know that one of the mantras I regularly bring up is: “Set stop losses.” This is extremely important for trading, and it has saved my rear end from a terrible whacking numerous times.

EddieLampert The Dangers of Shorting SHLD and BBY StockYou can set a price trigger called a “stop” on any position, such that if the price of a stock falls below (or rises above) a certain price, it will trigger a trade. That’s the important lesson of this article, but there’s another, and it has to do with shorting big names like Best Buy (BBY[1]) and Sears Holdings (SHLD[2]).

Because, while BBY stock and SHLD stock may seem like obvious stocks to short, things aren’t always that simple.

Both of these companies are, in my opinion, headed for bankruptcy. It won’t happen today or tomorrow, but it will happen. Best Buy is simply not a viable company anymore. People can shop in Best Buy to get a good look and feel for a given product and then price compare it on the spot with any number of online retailers — Amazon (AMZN[3]), of course, being the obvious choice.

Because brick-and-mortar stores have way more overhead than online operations, and because most online retailers are legit (the phony ones get outed pretty quick), you can get items as much as 35% cheaper online. Price-matching won’t work because stores would have to operate at a loss. Physical retailers can never match infinite selection of an online retailer, either. The excitement over a “turnaround” for BBY stock faded with lousy earnings in January.

One of the problems with shorting BBY stock is that the company still has $3 billion in cash on hand. Its $1.6 billion in long-term debt is manageable even if it reports losses, because it can pull from its cash hoard.

The real problem with shorting, however, is that there are still a lot of “true believers” out there, and they rode BBY stock up significantly in 2013. If you were short, you were unhappy. So while BBY stock is a short candidate, you have to be careful about when to go short.

SHLD stock is in a similar position. In this case, you have a brand that has been dying for some time. Again, this is a brick-and-mortar play that is undermined by the internet. The CEO has no vision. The notion of a department store, in which a company tries to be all things to all people, has been changed thanks to Target (TGT[4]). Now there’s an example of a store that reinvented itself for a new age.

Sears is a behemoth that can’t afford to stay in business. SHLD’s balance sheet is falling apart — losses, negative free cash flow, $2.6 billion in debt accruing 9.5% interest. And yet, the market has bid SHLD stock up to $48, and as high as the $65.80 late last year.

Which brings me back to the dangers of shorting these stocks. I did short SHLD stock at $37, and got stopped out in February at $41 when the stock blew through it. Why? Because there will always be forces you cannot control in the market.

Some people believe Sears will survive. If there is a series of bids, SHLD stock rises, stops get taken out, and the short squeeze begins. That’s why you use stop-loss orders. It’s also why the timing of a short play is so important.

So, even if SHLD and BBY stock are doomed in the long-term, make sure you know the risks before shorting either stock.

As of this writing, Lawrence Meyers[5] was long AMZN. He is president of PDL Broker, Inc.[6], which brokers financing, strategic investments and distressed asset purchases between private equity firms and businesses. He also has written two books[7] and blogs about public policy, journalistic integrity, popular culture, and world affairs[8]. Contact him at pdlcapital66@gmail.com[9] and follow his tweets @ichabodscranium.

Endnotes:
  1. BBY: http://studio-5.financialcontent.com/investplace/quote?Symbol=BBY
  2. SHLD: http://studio-5.financialcontent.com/investplace/quote?Symbol=SHLD
  3. AMZN: http://studio-5.financialcontent.com/investplace/quote?Symbol=AMZN
  4. TGT: http://studio-5.financialcontent.com/investplace/quote?Symbol=TGT
  5. Lawrence Meyers: mailto:pdlcapital66@gmail.com
  6. PDL Broker, Inc.: http://www.pdlcapital.com/
  7. written two books: http://www.investorplace.com/author/lawrence-meyers/
  8. blogs about public policy, journalistic integrity, popular culture, and world affairs: http://www.ichabodscranium.com/
  9. pdlcapital66@gmail.com: mailto:pdlcapital66@gmail.com

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