Fidelity's Wright: The UK's Most Shorted Stocks - And Why I Own Two Of Them

Alex Wright, portfolio manager of the Fidelity Special Situations fund and Special Values PLC, reveals the UK's most shorted stocks - and why he owns two of them.

Contrarian investors go against the herd, buying unloved stocks shunned by the broader market. Some stocks might be unloved, but there are a select few that are hated with a large proportion of investors shorting a stock (betting on a decline in its share price).

As a contrarian, I like to invest in stocks which are deeply out of favour with other investors. When the market consensus becomes negatively skewed towards a company, behavioural biases mean investors can be slow to react to positive change, which is what gives us a chance of getting ahead of the market. 

A clear indication of a company being viewed negatively by the market is a large proportion of investors shorting a stock (betting on a decline in its share price).

High short interest provides a contrarian nudge - a prompt to investigate the stock in case negative sentiment is obscuring positive change.

I would not advocate investing purely on the basis of a company being highly shorted. High short interest means a cohort of investors believe something is seriously wrong with the business, and when they are right, shareholders can sometimes experience significant loss of capital.

If a company I am interested in is highly shorted, I make sure I understand the reasons, and the negative scenario that others are expecting to play out. We can test this short 'thesis' with in-depth research and due diligence.

By speaking to customers, competitors, suppliers and industry experts, we may be able to come to a different view of the company's future, one which suggests that recovery is more likely than deterioration.

While I might share the market's negative outlook towards many of these highly shorted companies, in the case of Ultra Electronics and Pearson, I believe that while both companies have had major issues in the past, they have a more positive future ahead of them.  

Pearson

FTSE 100 education provider Pearson had a succession of profit warnings between 2015 and 2017, as a result of a declining physical textbook market and lower number of enrolments into education programmes amid rising employment.

This has left many investors believing the company is in a prolonged structural downturn.

Today as much as £500m worth of shares are being borrowed by short sellers. What I believe they are missing is the enormous investment Pearson has been making into digital education services and the positive effect this could have on the company.

While the transition away from physical text books towards digital services will take time and will have further ups and downs, investors willing to be patient could see a transformation of the value of their shareholding.

While the UK market lacks many technology leaders, in Pearson it may soon be able to boast the world's leading digital education provider.

Ultra Electronics

Ultra Electronics is a FTSE 250 defence equipment company, and among the top 10 most shorted UK stocks.

Those shorting the company have argued that the company pursued aggressive accounting policies under the previous CEO, exaggerating profitability, and that company can't grow organically. 

However, the latest set of results suggest that these accounting policies can be unwound, key markets are improving meaningfully, and organic growth is returning.

In time, I expect scepticism towards the company to recede, and more attention to be given to the high-quality portfolio of defence assets the company owns.