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May 2, 2017

S3 Research: Shorts Unimpeded as Evergrande Runs Out of Stock Buyback Bullets

Short interest in Chinese residential property developer China Evergrande Group (3333 HK) has risen 144% in 2017 even as the company’s share price increased 68% for the year. Evergrande’s short interest increased by $429 million this year, to $726 million. Evergrande is currently the 7th largest China/Hong Kong-traded Chinese short and 12th largest worldwide Chinese short.

Evergrande has $77.1 billion of net debt and a market cap of $14.3 billion, making it the most levered real estate developer worldwide. Besides using this debt to acquire properties in low-tier Chinese cities, Evergrande has been actively buying back its stock in order to increase its valuations prior to its backdoor listing on the Shenzhen exchange. Evergrande has bought back over 6.3 billion HKD, or $880 million, of its stock over the last month, leaving only 26% of its shares outstanding as tradable stock. With the H.K. Stock Exchange requiring that 22.04% of Evergrande’s shares outstanding remain as tradable float, there are only a small amount of stock buybacks left at the firm’s disposal.  
Short sellers have been consistently selling into this year long rally, losing $70.3 million in mark to market P/L, down 11.2%, on an average short balance of $631 million. But recently, with Evergrande not able to support its stock price with additional buybacks, its stock price dropped 14.7% from its year-to-date high of 9.25 HKD on April 25th. In the past week, short sellers were able to cut their full year losses in half, making $74.5 million in mark to market P/L, or 10.35%.
With Evergrande out of buyback bullets, it will be up to long shareholders to keep its stock price at historical highs. As we saw in the last week, they were not up to the task as long and short sellers drove Evergrande's stock price down unimpeded. Evergrande’s short interest is already at historically high levels and borrow rates have recently risen to the 3% fee level, but there is still sufficient stock loan availability to push Evergrande’s short interest over the $1 billion mark. Short interest increased by almost $250 million in April and if Evergrande’s stock price continues its slide we may see another $250 million of new shorts in May as well.

Want deeper insight into the above analysis? Contact:
Head of Research, S3 Partners
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