Why Chesapeake Energy Corporation (CHK) Stock Is a Good Short

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Monitoring short interest levels can tell investors a lot of things, though not always a clear indication of where a particular stocks is heading. A high level of short interest could indicate that a particular stock can fall. A high short interest, however, can also serve as a hedge, or counter-bet, for investors who are long the stock.

It’s Good To Be Short-Sighted

But in the case of the Chesapeake Energy Corporation (NYSE:CHK), which has seen its value fall 29% year to date and 82% in three years, it’s tough to ignore that short sellers have been the only ones making any money on CHK stock. If you’ve held Chesapeake over the past five years, you’re down more than 70%.

And seeing how dependent CHK is on energy prices — a stigma that has relegated the likes of Seadrill Ltd (NYSE:SDRL) to penny stock status — short sellers, who have gotten even more bold, have no reason to cover their positions anytime soon, especially given the fact that oil prices have shown no clear signs of direction.

As of the most recent settlement date, the short interest ratio, or short interest as a percentage of float on CHK stock, has almost doubled since the start of the year, climbing from around 12% in January to just under 23% as of July 18. According to data compiled by the Wall Street Journal, some 203 million CHK shares were sold short, up 6% from 191.8 million in most recent settlement date, ending June 30. That level ranks as the largest short position among the company’s covered, noted the Journal.

For those who are unfamiliar, “short” shares are borrowed and then sold in the hope that the share price will fall before the borrowed shares have to be purchased and replaced.

So far, these short bets on CHK, which entered 2017 at $7.20 per share and have since fallen to a 52-week low of $4.38, have been profitable. This marks a short profit of almost 40%. And here’s the thing: With CHK stock now trading at around $4.96, down some 30% since the start of the year, that marks a far more significant decline than the fall in crude oil and natural gas prices, which have fallen 10%.

Can CHK Stock Make a Comeback?

The extent to which Chesapeake can mount a meaningful recovery in a brutal environment for oil prices is the biggest factor affecting the company. Lingering concerns about global oil supplies caused WTI Crude to hover around $45 for almost a month, sending the Energy Select Sector SPDR (ETF) (NYSEARCA:XLE) down more than 12% this year.

And while this has also pressured shares of leading oil majors such as BP Plc (ADR) (NYSE:BP), Exxon Mobil Corporation (NYSE:XOM) and Chevron Corporation (NYSE:CVX), those big boys — which are more diversified — don’t have the financial headwinds to worry about.

The company’s high debt level of around $9.5 billion makes CHK highly speculative, unlike Exxon and Chevron. Plus, unlike natural gas peers such as Murphy Oil Corporation (NYSE:MUR) or Cheniere Energy, Inc. (NYSEMKT:LNG), Chesapeake expects to increase its 2017 capital expenses by almost 30% (midpoint), based on its target spending range of $1.9 billion to $2.5 billion, is highly reliant on the direction of oil prices.

For Chesapeake’s operating expense blueprint to make sense, it not only needs oil prices to rise above $50 per barrel, but those prices must also show stabilization. But it doesn’t appear as if industry improvement plans by OPEC (Organization of Petroleum Exporting Countries), including talks of production cuts, will immediately change the course. This is what short sellers have come to realize.

Looking ahead, Chesapeake will report second-quarter fiscal 2017 earnings results on August 3. Wall Street expects earnings of 15 cents per share on revenue of $2.31 billion. This compares to the year-ago quarter when the company posted a 14-cent loss on $1.62 billion in revenue. While these will mark significant improvements, it’s also because the company has a benefit of a lower comp.

Bottom Line for Chesapeake Stock

To be fair, Chesapeake CEO Robert Lawler has done a decent job managing the company’s cash flow. But with the company’s plans to increase capital expenses by almost 30%, while oil prices remain under pressure due to rising stockpiles, CHK stock — despite the appeal of its cheap price — is nonetheless too risky.

As such, investors who are looking to play a potential recovery in oil should consider Exxon and Chevron, which are not only better run and better capitalized, they also pay strong yields.

As of this writing, Richard Saintvilus did not hold a position in any of the aforementioned securities.


Article printed from InvestorPlace Media, https://investorplace.com/2017/07/chesapeake-energy-corporation-chk-stock-good-short/.

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