Elon Musk might not be able to put the brakes on Tesla Inc. (TSLA) short sellers – but the stock loan market and Chief Risk Officers might be able to slow down the onslaught. Short interest in Tesla increased by almost 400,000 shares on May 3rd , bringing total shares shorted over the 40 million share mark for the first time in Tesla’s history. Even though Tesla’s stock price subsequently rallied, short sellers are discounting Elon Musk’s “short burn of the century” and shorting over 500,000 additional shares today. With Friday’s upward price move and additional short selling, Tesla short interest continues to inch towards the $12 billion level.
If short selling demand continues to grow at this pace, short sellers will feel the angst that Tesla Model 3 buyers are feeling – with demand outstripping supply. Not all long shares are in stock lending programs and we estimate that the total amount of stable lendable Tesla stock is approximately 47 million shares, of which 40.5 million have already been taken down. That leaves approximately 6.5 million shares left to short which may decrease if long shareholders in lending programs begin selling their shares.
One of the signals that incremental stock loans are beginning to scrape the bottom of the barrel is an increase in stock loan rates. In October 2017, short interest was just over 26 million shares and stock borrow fees were between 5/8% to 3/4% fee, today with shot interest over 40 million shares stock borrow fees are nearing 4.00% fee. If and when short interest nears 45 million shares, stock borrow fees will be over 10% fee and more likely in the 20%’s and 30%’s. At some point, traders will have difficulty locating stock to borrow to support short sales and short interest will stabilize.
In addition to not being able to locate stock, the stock that is located may be such a drag on Alpha that the Tesla short trade might no longer be that attractive. In October, when stock borrow rates were below 1% fee, the total financing cost of the Tesla short was less than $200,000/day. Today with rates on the existing 40 million shorts at 3.69%, it is costing short sellers $1.2 million/day to finance their short Tesla positions. If short selling continues to increase and rates hit the 10% fee level it will cost between $2 and $4 million/day to finance the entire Tesla short book.
In addition to a potential tightness in stock borrow supply and expensive borrow costs eating away at profits, the overall size of the Tesla short will put many traders up against their single stock concentration risk limits. Hedge funds and trading desks implement dollar trading limits per desk, trading strategy and security in order to diversify risk and minimize the possibility that a single bad trade can decimate a fund’s performance. With over $11 billion of total short interest in Tesla, many traders are either at or close to their risk limits and will not be able to increase their positions substantially. In effect, Portfolio Managers and Chief Risk Officers will do what Elon Musk cannot do – stop short sellers from selling.
We see evidence of this when Tesla’s stock price increases and shorts cover some of their shares. This is not because they are losing their short conviction – they are merely buying back shares to get back below their dollar risk limits. On the other hand, when Tesla’s stock price declines, we see additional short selling because there is now room to short more shares and still remain below their dollar risk limits.
As Tesla’s short interest increases, there will be external forces putting the brakes on large moves on the short side. Lack of stock loan supply, increased stock loan costs and tapped out risk limits will eventually curtail short selling in Tesla. As we get closer to this happening, Tesla’s stock price will be more and more dependent on long shareholder buying and selling – the shorts will be on autopilot and the long’s will be in the driver’s seat.
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Managing Director Predictive Analytics, S3 Partners, LLC
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