The big story this week is Boohoo (BOO), after a report in The Sunday Times suggested workers in Leicester factories who made clothes for one of Aim’s big winners were being paid as little as £3.50 an hour. This was refuted in a statement to the market, but before the company could respond in full the article cratered the stock price from 387p to as low as 252p. Two weeks ago, I suggested a break of the all-time high as a long entry. The price didn’t get there, and so as we didn’t enter there are no losses.
Often, the market is aware of potential problems, and the price had been softening in the days before the report was released. We often see prices fall before placings are released, for example. And it is not uncommon for stocks to sell off on volume before a profit warning is announced. This is why pre-empting entry signals can be a bad idea, because to do so is to take a punt on something happening rather than trading something that is actually happening. Of course, were the Financial Conduct Authority to suspend stocks on announcinga fundraising, this would prevent insiders from shorting in advance and remove some of the value destruction that damages both confidence and capital in the market. Sadly, we remain in the palaeolithic age of regulation.
Boohoo’s big fall will be a shock to investors who rarely check their positions. Unfortunately, it is a costly mistake to not keep on track of updates on positions. In the long run, it always pays to remember that every position can go to zero pence tomorrow. Take NMC Health, for example, a former FTSE 100 company and another scalp of Carson Block (who was interviewed on our podcast last week), it did not take much time to fall before the equity was destroyed.
Were the market to be truly efficient, then we would assume that these accusations are relatively fresh and have not been occurring for very long. Boohoo has been a hugely profitable company and clearly had a source of competitive advantage. But it could also be that perhaps the magic wasn’t so magical after all. It remains to be seen what’s really behind the story, but one thing is clear: institutions are sellers; we can see that in the volume.
Moving on, SIG (SHI) is a UK-based distributor of building products in Europe. It’s the market leader in the UK, Germany, Ireland and Poland for insulation products. It’s also fallen a long way from its highs at the start of 2019, coming back to touch 15p – a 90 per cent fall over the period.
In mid-February the stock was in freefall(no doubt a real treat for shorters, but unlikely to have been a pleasant experience for investors). However, looking at Chart 1 we can see that it was only towards the end of February that the average volume increased in the stock. As we know, volume kills trends and can show signs of a reversal. It took several months for the stock to make a rounded bottom and then gradually the moving averages began to point north.
In early June, it was leaked that the company would undertake an equity raise to put it on a more stable financial footing. I am not a fan of such leaks because it can negatively impact a company’s share price, and thus mean that the placing participants ask for a bigger discount. This means that the company may either raise less cash, or dilute its existing shareholders more – neither of which are good.
That said, I will happily short any company on a rumour of a placing or on an actual leak. Just because I do not agree with it, does not mean I am happy to forego the chance of profits. So long as something is legal, traders should maximise and exploit any advantage they can. Last year, Bahamas Petroleum needed roughly $20m-$25m in order to sign its rig contract. When the broker sounding landed in my inbox, it described an ‘oil & gas company’ raising $20m-$25m. It was a fairly safe guess as to which company it was, and so I didn’t go inside and shorted the stock instead, with the goal of covering my short in the placing.
A similar type of trade also appeared in SIG. On 19 June 2020, the company finally announced its anticipated fundraising, and it included an open offer for all shareholders who were on the register on 17 June to take part at a price of 30p.
Looking at Chart 2, we can see how the price reacted over the past few months. I’ve also drawn an arrow where the open offer was announced. We can see the price was well above the open offer price of 30p and climbed nearly 25 per cent above this.
The open offer allocation was for 25 per cent of each shareholder’s existing holding. As I was a shareholder at the time – and still am – I should have shorted the equity. Unfortunately, I was not very sharp on this trade and should have been shorting the equity in the same size as my allocated open offer shares. This meant I would be short at a higher price than the open offer, yet I had the same amount of long exposure coming in at 30p. What I should have done is built a guaranteed profit into the trade, as I could have arbitraged the varying prices available to me in the equity.
If we think about it, when the price is well above the open offer level, the risk was to the downside, as there was no incentive for anyone to buy stock knowing that the open offer was being done at 30p. However, with the closing of the open offer on Wednesday at 11:00 this removed the reason for shorters to still be holding their positions. Therefore, I now believe the opportunity is to the upside. The company, in which I hold a long position, is now funded, and it is well off its lows at 15p, and I would like to add to my position on a break of the recent high at 43.5p.
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You can contact Michael and get your free copy of Ten Habits of Highly Profitable Traders from www.shiftingshares.com. Twitter: @shiftingshares
