Short sellers target ETFs as a hedge against negative sentiment

Well done the Belgians. They are the only country to offer positive macro news this week, raising 2011 growth forecasts to 2.2%. That aside, there was nothing but doom and gloom. Apart from the need to restructure the Greek bailout debt, there was plenty of central bank comment this week and most of it has been about rising inflation. European figures point to lower growth expectations on the back of weak manufacturing, whereas China and Japan felt the need to boost their bank’s capital requirements. We can look at the size of the short positions in the main Index tracking ETFs in the US, Europe, Japan and Taiwan as well as commodity exchange traded products to see how nervous investors have become.

People predicting that the next move for the S&P500 is down have taken their short positions in the SDPR (SPY) to their highest point since last July at 13% of total shares. There has been a spike in demand to borrow the iShares Russell 2000 this week but it is not near a semi-annual high. 

The picture is not as bleak in Europe, despite the woes of Greece this week. Short interest in the iShares S&P Europe 350 Index fund (NYSE:IEV) has held steady over the last month at over 6.5% of total shares.

In Asia, the noise from Japan about TEPCO’s reactor being in danger of complete collapse on top of news that they have forced banks to set aside 15% of net income as a capital buffer has led to renewed demand to borrow the iShares MSCI Japan ETF (NYSE:EWJ). This instrument is almost as heavily borrowed now as it was just after the earthquake with 6% of the issue value on loan. There has been short covering in Tokyo Electric Power (TYO:9501).

It’s worth highlighting Taiwan such that demand to borrow iShares MSCI Taiwan(NYSE:EWT) has trebled since mid April.

The other theme running through this week has been further drama in some of the commodity markets, led by a pricking of the bubble in silver. As can be seen from the attached chart, investors saw a correction coming and shorted many of the commodity related ETFs. Unfortunately, their timing was slightly off since many of these positions were reduced around April 20th just before the slump in sliver and oil.

The United States Oil Fund (NYSE:USO) shows short covering over the past week so investors presumably think oil is set to go higher.

In securities finance news, this week saw announcements that Egypt and Poland plan to open up securities lending in their markets as well as speculation by Reuters that EU ministers are about to ratify naked short selling curbs.

Investor nervousness about China’s dominance of the global market for Rare Earths was highlighted in a Financial Times profile of US producer Molycorp Inc (NYSE:MCP), which commands eye watering multiples and has been our most popular new brief recently.

Finally, US public short interest filings showed that short selling was up on NYSE but down on NASDQ. The Wall Street Journal reported that the Data Explorers LongShort Ratio surpassed a symbolic six year threshold, meaning that longs now outnumber shorts by a ratio of 13:1.