5/3/2018 Update: Schwab is now paying retail 35% for Hard to Borrow on HMNY. That makes shorting even worse than article below.
The owner of MoviePass, (HMNY) has become extremely expensive to short. (HMNY) has been put on the hard to borrow list at Charles Schwab. Meaning, there is a low supply of shares available to short for HMNY stock, so Schwab is making a market for more shares by paying retail investors a very high-interest rate to borrow their long shares.
I have personally confirmed with Charles Schwab that they are paying an incredible 29% interest to long shareholders of HMNY. More incredible, this is ONLY ½ the interest Schwab charges to institutions for the shares. Schwab splits the interest charged to institutions with the retail investor 50/50. This means that some large hedge funds are paying an incredible 58% interest to short HMNY. (Note: this rate can change daily, the rep at Schwab was very careful to point out the rate can go up and down quickly based on Schwab’s demand for the shares)
Schwab offers this program to retail investors via their Securities Lending Fully Paid Program. This is a little-known program that only some big brokerages offer to retail investors. Ameritrade, for example, does not offer this program at all. The program offers the opportunity for retail investors to loan out their long shares for shorts to sell. Essentially the long shareholder is paid interest for the period of time the brokerage borrows the long shares for big hedge funds who want to sell the stock short.
It is a little tricky to wrap your brain around how risky this is for hedge funds. I am going to try and explain the math here, to give you an idea why a hedge fund would make such an expensive and risky bet. I will also show you how this can backfire badly for shorts, potentially causing a short squeeze.
First, let’s look at how expensive it is for Short Sellers of HMNY to pay the brokerage fees when the Hard to Borrow rate is at 58%. For this calculation, I used Ally Financial’s calculation
|Current Stock Price||2.28|
|Number of shares short||100,000|
|Hard to Borrow Rate||58%|
|Current Industry convention||1.02|
|Market Price * Current Stock Price||2.3256|
|(Per share collateral amount) x (share quantity)||$300,000.00|
|(trade value) x (annual hard-to-borrow rate)||$174,000.00|
|(annual hard-to-borrow fee) / (360 days) = Daily hard-to-borrow fee||$483.33|
What this calculation means is that a hedge fund that wants to short HMNY 100,000 shares has to pay $174,000 a year to fund that short at the current broker fee for this “Hard to Borrow” stock. Or put another way, they must pay a daily fee of $483.
Put this in perspective. If HMNY were to essentially stay flat to today’s trading price of $2.28 for one year, and the short position was not covered, the hedge fund would lose $174,000. By comparison, a long holder of HMNY would have zero loss, they would still own $228,000 shares of HMNY, and if they were with Schwab, they could have collected 29% interest on those shares amounting to a $66,120 profit.
Of course, if the stock of HMNY starts to rise, the potential loss for a short seller could theoretically rise to infinity, There is no cap on the potential loss amount for shorts.
A scary proposition for shorts, even a small rise in HMNY could have devastating losses. Consider if HMNY rose just .50 in share price to $2.78. That small jump in stock price would make that 100,000 short buy immediately $50,000 under water. The math on that is simple enough. 100,000 shares * $2.28 = $228,000 for shares sold short. 100,000 shares * $2.78 = $278,000 to Cover. The difference to cover the shares is owed =$50,000. This is already a significant loss. But the loss gets much harder to take when you add in the brokerage fees for the “Hard to Borrow” shares. If the short tried to hold on for the entire year – it would mean the total year’s loss would be $174,000 (for brokerage fees) + $50,000 (Cost to Cover) = $224,000. In this case, by comparison, the long investor would have 100,000 shares at $2.78 per share. Or a total investment now worth $278,000 on their $228,000 original investment – a $50,000 gain.
Now, why might any firm or person take on such a risky short play. The answer is that they believe the stock will be further pushed down in the short term and they can play the stock for a short-term gain on that downward trend. Here’s an example of how that can work in favor of short-term short sellers. Take our example again of 100,000 shares. The daily cost of holding those shares short (Daily Hard to Borrow fee in the above table) is $483.33. Now let’s say that a short makes a short-term bet for 5 days and the stock price goes down -12% or .2736 cents. If a short covered that decline and took their profits – that cover would gain them $27,360. (use same formula from above). While expensive, the 5 days of “hard to borrow fee” would be 5 (days) * $483.33 (daily hard to borrow rate) = $2416.65 for 5 days. Netting that short 5-day trade a nice profit of $25,213.35. Not bad for 5 days!
So you can see, the folks shorting this stock, desperately want the stock price to continue going down. Now here’s the rub. HMNY has a very small amount of total float of their 53M shares outstanding and has a very small market capitalization of only $120M. This makes the stock volatile. It is a flea-sized stock, and it trades more shares in a day than many companies 100 times its size. Any piece of news can send the stock swooning or jump depending on the news – good or bad. If a significant piece of good news comes to light the stock could quickly jump up, it could force short sellers to try and cover their outstanding short positions to minimize their losses. With such few shares available to cover, the shorts could be forced to pay very high prices to get out their positions.
Here is a list I have of things that could surprise short sellers and cause the stock to jump up.
- Completion of control of MoviePass, Ending the Proxy Ownership Problem, Changing the Brand Name of the Company, Changing the ticker of the stock symbol to MVP or like name,
- Announcing a partnership with a major theater chain like Regal or Cinemark
- Announcing a distribution deal with a major partner like Verizon
- Announcing a surprise subscriber number increase
- Announcing updated financial results with better than expected earnings – or smaller loss than expected
- Having either of the MP Venture films score big at the box office
- Any rumor of a potential acquisition
On the downside – shorts could be helped by these developments:
- Worse than expected losses
- Sub numbers not as strong as management has forecasted
I am bullish on MoviePass’ business model over the long-term. Please see my model and my other posts on www.bobvisse.com to see why I think the recent narrative of MoviePass not being able to sustain itself is a bad bet.
In summary – shorts stand to lose a lot of money even if the stock price for HMNY remains flat. At this price, it makes way more sense for HMNY investors to remain long. Any positive news event could send this stock into significant short squeeze.