Shorts Won’t Leave Industrial Stocks Alone as Economy Sows Doubt

  • Bearish bets on industrial stocks have tripled in one month
  • Industrials bearing brunt of economic worries, investor says

After a stellar run in the winter that made them among the market’s high fliers, industrial stocks have now seen investor euphoria all but evaporate.

Machinery makers and transportation providers, which in late April traded within points of a record, now have investors wagering on their demise. Short bets on an exchange-traded fund tracking the group nearly tripled in one month, according to Markit Ltd. data compiled by Bloomberg.

After a rally earlier this year pushed industrial shares 18 percent higher in three months, concerns about global growth have resurfaced. That’s made these companies favored by short sellers, after they were targeted in 2015. A looming interest-rate hike, the strengthening U.S. dollar and data signaling sluggishness for manufacturers worldwide have added to short sellers’ resolve this quarter.

“There’s still a lot of skepticism out there,” said Eric Marshall, president of Hodges Capital Management Inc., which oversees about $3 billion in assets. “There’s a perception that with rising interest rates, that means we’re late in the business cycle and manufacturing has been in recession for some time, so it’s very easy to get pessimistic.”

Many investors have done that, pushing up short interest as a percentage of shares outstanding for the Industrial Select Sector SPDR Fund. At 9.9 percent on May 31 -- the second-highest among 10 industry groups -- it’s now almost double that of the S&P 500 and behind only bets against raw-material producers. The ETF added 0.1 percent at 4 p.m. New York time.

Speculation that Federal Reserve policy makers could raise interest rates as soon as their meeting in two weeks has helped spur gains for the dollar. In addition, data showed manufacturing activity expanded at a slower-than-expected pace in April, then unexpectedly accelerated in May. Despite optimistic consumer-spending data, economists still see a 20 percent probability of a U.S. recession within the next year -- the same reading as February, according to the median estimate of those surveyed by Bloomberg.

Cyclical stocks, including industrials, are bearing the brunt of these “cross currents,” Marshall said. Industrial shares can be a bellwether. They were among the first to bottom back in January, nearly three weeks before the broader market -- a sign at the time that recession angst was overdone. Since April 27, when the industrial ETF traded within about $1 of its all-time high, the group has trailed the fund tracking the S&P 500.

“It makes sense that there’s some position squaring going on,” said Dave Lutz, the Annapolis, Maryland-based head of ETF trading for JonesTrading Institutional Services. “People are starting to build up a little more angst about some of these June catalysts that we have, whether it’s the Brexit vote or the Fed meeting.”

Norfolk Southern Corp. and American Airlines Group Inc. have tumbled at least 10 percent since late April, adding to the declines of heavyweights like Boeing Co. and General Electric Co. Meanwhile, Expeditors International of Washington Inc. and C.H. Robinson Worldwide Inc. have been attracting bearish bets in recent weeks.

While several Wall Street strategists remain bullish on the group, Deutsche Bank AG’s David Bianco is an outlier with his underweight recommendation. These companies will see “weak sales from weak global investment spending,” the chief U.S. equity strategist wrote in a May 16 report. 

The group is also among those most exposed to summer risks, he said. In fact, this month has tended to be tough for industrial stocks. The industrial ETF lagged behind the S&P 500 in nine of the last 11 Junes, by an average of 1 percentage point, data compiled by Bloomberg show.

Still, Hodges Capital’s Marshall cautions that “not all industrials are created equal.” He favors cement or concrete makers since they have domestic exposure and don’t compete with importers, mitigating the impact of a stronger dollar.

“Like all cyclical industries, most of the money is made at the point of maximum skepticism,” he said. “Usually when the near-term earnings and revenue picture is less-than-robust, that’s where those opportunities present themselves.”

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