Taking the shorters to the cleaners

Some earnings season share price movements highlighted the disruptive influence of short-sellers in the market.

Three incidents really annoyed me this week – what happened to JB Hi-Fi and CSL; plus a conversation I had with a middle-aged person thinking about retirement and discovering that downsizing may be replaced by larger dwellings for older people.

The JB Hi-Fi and CSL incidents underline just how the analysts acting on behalf of the big superannuation funds simply don’t understand how to look after clients. We are very fortunate in Australia to have strong self-managed funds to confine the fee gouging taking place at some large funds.

In the case of JB Hi-Fi the group announced a strong profit and the shares jumped sharply.

The reason for the big share price rise was only partly because of the results. The main factor in the rise in JB Hi-Fi shares has been the fact that earlier this year some 20 per cent of the stock was shorted.

The big Australian superannuation funds lent their share scrip to the shorters, which depressed the share price. On many occasions the capital required for the shorting comes from other superannuation funds who back hedge funds that take short positions. Long-term Eureka readers will know that I always rejoice when the shorters get taken to the cleaners. Clearly in this case those shorting the JB Hi-Fi stock had not looked closely enough at the fact that its main rival, Dick Smith, was in trouble and was set to go broke. And of course, JB Hi-Fi itself is extremely well managed.  

There are a series of other companies where the shorters have borrowed share scrip from superannuation funds to smash the worth of the customers of those funds. Companies where shorters have made big plays include Myer (about 16.1 per cent of the capital has been shorted), WorleyParsons (13.7 per cent), Metcash (13.5 per cent), Flight Centre (12.3 per cent), Western Areas (10.5 per cent), Monadelphous (10.4 per cent) and Cover More (9.7 per cent). It will be good for the nation if more shorters were taken to the cleaners.

In the case of CSL there is no question of shorting, but the stock ran up quite strongly before the result, and after the result it fell. Yet there was nothing in the CSL result that should have surprised anyone. The company had told the market that 2015-16 would be a year of consolidation and, given their profit forecast, that turned out to be accurate.

The first thing that worried the institutions was that although that company had taken the opportunity to become a global leader in influenza vaccines it acquired a loss-making business and it would take time to restore the fortunes of that business and integrate it into CSL’s influenza operation. CSL is quite open that although it bought the influenza business cheaply it will take five years before this business is producing strong profits. Such long-term planning is simply not on the institutions’ radar and yet we need to encourage our companies to make long-term investments because that is how we will get growth into our share portfolios.

CSL has been very skilled at making major acquisitions when the market is depressed. Here it contrasts with BHP Billiton, which in recent times has made its acquisitions in the boom which then forced it to write assets down. I don’t think the weak stockmarket will have any effect on CSL’s long-term thinking, but a company with a lesser reputation might be put off the long-term game and not acquire a loss-making business because it will affect results for two or three years. It is important for large companies not to burn the current business, but they do need to make long-term strategic decisions. Just as our institutions play around with short selling, so too are they not being mature enough in understanding the long-term, growth stocks we have on Australian equity markets.

By the way, in 2016-17 CSL will resume a strong upward profit path because products it started researching almost 10 years ago are now coming on the market. CSL currently puts about 10 per cent of its turnover into research, and it has always been Australia’s major private researcher. The institutions would love CSL to cut back its research because that would boost short-term profits. Who cares about the long term? But, as we all know, long-term share owners wanting retirement income want companies to know and plan what they are doing in the longer term.  

CSL has a lot more products in the pipeline, but talking with chief executive Paul Perreault it was clear that longer term the limiting factor on CSL’s growth ambitions might well be access to white blood cells. In the US, CSL has the most efficient plasma collection system in the world and this is the secret of its success. Again, it was set up by former CEO Brian McNamee in the early days of the company. CSL finds that there is a limited amount of countries where you can pay people to donate blood. For example it is very difficult to do in France and Spain.

CSL is developing a blood collection unit in Eastern Europe and Germany and its long-term ambition is to run a large blood collection operation in China. That is not a possibility at this point but the Chinese are beginning to understand the health benefits from the products that CSL produce, which are particularly important for haemophiliacs.

CSL is going to be a growth company for some time because it will be many years before the limits of its white cell production starts to hold it back.

And another thing...

Finally, I was yarning to a couple who are dismayed at what the Coalition government is proposing for superannuation. They simply will not be able to invest enough money into superannuation to gain a worthwhile income, so they are going to have to rely on the government pension.

But the means test for the government pension means that if they have too many assets those assets will be taxed heavily, first in conventional tax and secondly in pension reduction. The only tax shelter is the family home. If they reach 65 and decide to downsize their dwelling investment, given that the children have left home, they will then gain funds in their personal name, which will push down their pension entitlement in a horrendous way. So they have to stay in their big house and/or invest more in it, because the family home does not affect the pension.

This is a ludicrous situation and Scott Morrison needs to get someone outside of Treasury to make the superannuation reforms sensible for the retirement community and reduce reliance on the government pension.

Unfortunately the top bureaucrats in Canberra all have enormous government pensions and don’t really understand what it is like not to have a government guaranteed generous indexed pension.

As I have pointed out previously, the final legislation will be determined by the Senate. Already Morrison is starting to shift his ground and is discussing raising the limit to $750,000.