Tencent’s $250bn tailspin a missed opportunity

If there’s an upside to a downturn, it’s that short sellers get to make a buck. By borrowing shares, investors can sell what they don’t own. If the price falls, they buy the stock back at a cheaper level and return it to the lender (with interest), pocketing the difference. Assuming the shares fall enough and borrowing costs aren’t too high, a short seller can make a tidy profit while other investors lose money.

Many company executives hate this process – and the people who engage in it. Yet if a large, high-flying and well-known company falls 44 per cent from its peak, you might expect to hedge funds and short sellers to celebrate. Except if that company is Tencent. Despite the fact that China’s predominant purveyor of social media lost more than $250 billion of market value in the past nine months, short sellers were few and far between.

It’s clear that short interest is waning. Sure, there’s been a small increase in the past couple of weeks, but the trend is clear.

Less than 0.3 per cent of all outstanding shares in Tencent are shorted, according to data compiled by Markit. The highest that level reached in the past year was a mere 0.48 per cent in November.

That is a lot of money left on the table by short sellers who could have made a killing.

If we take a look at the shorting action over a five-year horizon, something even more interesting is revealed: short interest peaked two years ago, after a roller-coaster period, and has been charting a straight line south since then.

One possible reason is rebalancing coupled with fund outflows from Hong Kong exchange-traded funds. Investment advisers, who manage funds on behalf of others, account for 35 per cent of disclosed holdings in Tencent, according to data compiled by Bloomberg. Another set of data tracked by Bloomberg shows that Hong Kong ETFs experienced a 13.3 per cent outflow over the past year.

Tencent occupies a unique position on investors’ radars. It’s a rare Greater China technology stock that is listed in a developed market but not the US. If your fund remit is to track tech, emerging markets, Greater China, big cap, or non-USlisted shares, then you probably need to put Tencent in your portfolio somewhere.

Throw in the internet giant’s “star power” of a year ago, and it wouldn’t be surprising to find some fund managers were overweight.

ETFs account for 16.6 per cent of the Tencent stock held by funds, a proportion that has risen by a third in the past three years. That is second only to emerging-market funds, which are also often passively managed, with holdings tied to an underlying benchmark.

The fact that Tencent has fallen so much this year while short sellers have been largely absent could indicate that the decline isn’t personal – active managers are reweighing their holdings while passive investors sell in line with fund flows. Short sellers can still profit by riding the escalator to the bottom.

Even if hedge funds didn’t have a negative view of Tencent, they still missed a short-sell party.