(Updates with closing prices.)
Feb. 17 (Bloomberg) -- The companies investors hated the most in 2011 have returned twice as much as the Standard & Poor’s 500 Index this year, burning speculators who bet stocks from Sears Holdings Corp. to Netflix Inc. would keep falling.
The 26 companies in the S&P 500 with the highest so-called short interest relative to shares available for trading rallied 18 percent this year, compared with 8.2 percent for the full index, data compiled by Bloomberg show. Speculators who borrowed Sears shares and sold them to profit from a drop got hammered as the stock surged 72 percent. Netflix, with short interest of 17 percent at the end of 2011, rose 76 percent.
Banks, commodity and industrial companies, the only groups to post losses last year, are leading stocks higher on signs the U.S. economy is gaining momentum. That’s forcing speculators to cut bearish wagers after pushing them to the highest levels since the market bottomed in 2009, according to a survey by International Strategy & Investment Group.
“It’s been a rotation back into fundamentally sound, economically sensitive companies that had been unduly punished in the second half of last year,” David Spika, who helps oversee $13 billion as an investment strategist at Westwood Holdings Group Inc. in Dallas, said in a telephone interview. “When the market turns, those shorts have to be covered and that creates momentum.”
Investors are shifting toward companies most-tied to economic growth as data on manufacturing, housing and jobs bolstered optimism in the world’s largest economy and European leaders stepped up efforts to contain the region’s debt crisis.
Financial stocks and commodity producers, the S&P 500’s worst-performing industries in 2011, have climbed more than 11 percent this year. Utilities and phone companies have the only losses among 10 groups in 2012 after rallying last year.
Analysts say bank and brokerage earnings will advance at an average rate of 12 percent this year and in 2013, while commodity profits may climb at the same pace, according to estimates compiled by Bloomberg. Income growth in the S&P 500 is forecast to average 10 percent.
“Everyone was fearful last year, buying the safety of dividends and predictable earnings,” said Gary Flam, who helps manage $6.5 billion for Bel Air Investment Advisors LLC in Los Angeles. “That has reversed now that we’ve got solid economic data and positive news flow out of Europe. People are getting more comfortable in picking better opportunities.”
Hedge funds, largely unregulated investment pools that aim to make money whether markets rise or fall, have trailed the S&P 500 for the last four months, according to data compiled for Bloomberg’s Active Index for Funds.
An ISI gauge of hedge-fund bullishness, which measures how much they’re betting on rising shares, rose to 47.4 this week, the highest level since Aug. 3. The gauge was at 42 at the end of November, the lowest level since two weeks before the S&P 500 reached a 12-year low in March 2009. A reading below 50 suggests a bias toward short bets.
“These hedge fund guys can’t seem to get a grasp on this basket of stocks and getting the direction right,” said Jason Cooper, who helps oversee $2.5 billion at 1st Source Investment Advisors in South Bend, Indiana. “This really put them behind the eight ball.”
Equity valuations have been stuck below the historical average since May 2010, the longest period since a 13-year stretch beginning in 1973, as stock prices failed to keep pace with profit growth. The S&P 500 trades for 14.1 times earnings from the past 12 months, below the average of 16.4 since 1954, data compiled by Bloomberg show.
While S&P 500 companies are on pace to exceed analysts’ profit forecasts for a 12th straight quarter, earnings-per-share have risen 4.9 percent for the 383 companies that reported since Jan. 9, the slowest growth since 2009, according to data compiled by Bloomberg.
“I don’t have a lot of faith in this rally continuing for much longer,” said Scott Armiger, a money manager at Christiana Trust in Greenville, Delaware, which has $11 billion in client assets. “There has been at least an equal amount of bad news as has been good news.”
Sears, based in Hoffman Estates, Illinois, was the most- shorted equity in the S&P 500 in December, with bearish bets reaching 38 percent of available stock as the shares plunged 56 percent in 2011. The largest U.S. department store chain rebounded this year even as S&P and Moody’s Investors Service cut its credit ratings on deteriorating sales.
Netflix’s short interest amounted to 9.1 million shares at the end of 2011 after the Los Gatos, California-based company slumped 61 percent during the year. The online and mail-order video-rental service has advanced more than any other S&P 500 company this year as Netflix contained a subscriber revolt in the fourth quarter and forecast improving margins for its streaming business.
First Solar Inc., the second-most shorted stock in the S&P 500 in December with speculators betting against 31 percent of its shares, jumped 7.3 percent today after the biggest maker of thin-film solar panels resolved a permitting issue with Los Angeles County for a $1.36 billion power project under construction. The Tempe, Arizona-based company is up 26 percent this year.
Harris Corp., based in Melbourne, Florida, has climbed 18 percent as the maker of military radios reported earnings that beat analysts’ estimates for the 14th consecutive quarter. Its short interest reached 13.1 million shares in December, or 11.4 percent of its total.
“It’s not just squeezing the short,” said Flam of Bel Air Investment Advisors. “There are a lot of quality companies that are also performing very well this year,” he said. “The pain trade is higher. The risk today appears to be defined as missing the next up move.”
--With assistance from Nikolaj Gammeltoft in New York. Editors: Chris Nagi, Michael P. Regan
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