3 UK shares I’d avoid because hedge funds expect them to fall

Edward Sheldon highlights three UK shares hedge funds and institutions are betting heavily against. He sees these stocks as risky.

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One thing I always keep a close eye on as part of my investment research is the list of the most shorted UK shares. These are the shares that hedge funds and institutional investors are betting heavily against.

When stocks are heavily shorted, it pays to be careful. The hedge funds don’t always get things right yet, quite often, they do. Carillion, Thomas Cook, Debenhams… these were all heavily shorted stocks and look what happened to them.

Here, I’m going to highlight three UK shares being shorted heavily right now. Given the high level of ‘short interest’ on these stocks, I’d steer clear.

These UK shares look risky

One of the most shorted stocks on the London Stock Exchange right now is cinema operator Cineworld (LSE: CINE). According to shorttracker.co.uk, 9.7% of its shares are being shorted. That’s a worrying level of interest.

It’s not hard to see why the hedge funds are targeting Cineworld. For starters, 2021 is likely to be extremely challenging for cinema operators due to Covid-19 restrictions. Even after vaccines are rolled out, admission numbers are likely to remain depressed.

Secondly, Cineworld has a huge debt pile. In a recent trading update, the company advised it now has aggregate gross debt financing of $4.9bn. This makes the company vulnerable financially.

Overall, Cineworld is a short seller’s dream. The company faces huge challenges due to Covid-19 and has a very weak balance sheet. Given the high level of short interest, I’d avoid the stock.

Criminal investigation

Turning to the oil and gas sector, Petrofac (LSE: PFC) is another UK share I’d avoid. It’s currently the fifth most shorted stock in the UK, according to shorttracker.co.uk, with 7.9% short interest.

It’s quite obvious why this stock is being targeted. Currently, Petrofac is being investigated by the Serious Fraud Office in relation to bribery allegations associated with three historic contract awards in the UAE in 2013 and 2014.

Last week, Petrofac announced that a subsidiary employee has admitted additional charges under the UK Bribery Act 2010. This resulted in the company’s share price crashing more than 30%. Clearly, the hedge funds believe there’s more downside on the cards here. I’d steer clear.

Losing market share

Finally, Sainsbury’s (LSE: SBRY) is also a stock I’d avoid. It’s currently the third most shorted UK share and sports short interest of 9.3%.

Sainsbury’s doesn’t have obvious problems like Cineworld and Petrofac. However, digging deeper, there are some issues to be aware of.

The first is Sainsbury’s is rapidly losing market share to competitors such as Ocado, Lidl and Aldi. In January 2017, its market share was 16.5%. In December 2020, however, its market share was 15.7%.

The second is the supermarket giant has a large amount of debt on its balance sheet. At 19 September 2020, net debt was £6.2bn.

It’s also worth pointing out that Sainsbury’s shares have had a good run recently. Since the start of September, the stock has risen about 40%. Perhaps the short sellers see this share price rise as excessive.

Whatever the reason they’re short, I’m steering clear of this UK stock. When hedge funds are betting against a stock, caution is warranted.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Edward Sheldon has no positions in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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