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Christmas Gift Guide
Tech Industry

Short sellers target Amazon

The number of Amazon shares that have been shorted is climbing along with the stock price, to 36 million in October from about 23 million in May.

Shares of Amazon.com have risen along with numerous other e-commerce companies, but many investors are betting that the shares are ripe for a fall.

Amazon shares have nearly doubled in value from about 42 in August. However, the number of Amazon shares that have been shorted has climbed along with the stock price, from about 23 million in May to 36 million in October.

While most investors buy shares in a specific company with the hope that they will rise in value, short sellers bet that the shares are at a high point and will soon fall. Short sellers borrow shares from a broker and agree to replace the shares later. For example, an investor who borrows 100 shares of a $50 stock immediately sells the shares and pockets $5,000. If the shares drop to $40, the investor can repurchase them for $4,000 and return them to the broker, making a profit of $1,000.

While short interest in Amazon has risen, it has fallen for other e-tailers such as CyberShop, eToys and Beyond.com.

More recent data on short sales involving Amazon stock will be posted on the Nasdaq Web site, possibly as early as Friday.

"Amazon's days as a golden child are gone," said Lise Buyer, an analyst with Credit Suisse First Boston. "In the third quarter, we saw some skepticism if they can turn their model around, although I'm betting that they can."

During its third-quarter conference call with analysts, Amazon said it planned to spend more money on advertising in the fourth quarter than was originally discussed. That raised skepticism that the company would ever achieve profitability, Buyer said.

Alan Mak, an analyst with Argus Research, said Amazon investors last holiday season created a lot of hype around the expected boom in online shopping. And although the company beat analysts' fourth-quarter estimates last year, investors had expected an even better showing.

This year may be a repeat performance, and that could be encouraging the short sellers. "When you see this kind of hype, people try to short," Mak said. "And even though Amazon is expected to do well this Christmas, we may have another falsely created expectation [because of the hype]."

High expectations last year pushed Amazon's shares to 92 on Jan. 11. Ten days later the shares were at 53. In late January the company reported that quarterly sales quadrupled, but losses doubled.

Possibly envisioning a similar scenario this year, some investors have been stepping up short sales of Amazon stock. In October the ratio of short interest in Amazon was 2.34.

The ratio is based on the number of shares that have been shorted and the average daily volume in the stock. That means it would take 2.34 days to absorb the Amazon shares that were shorted in October. In August that ratio was about 1.

The rising short ratio in Amazon shares contrasts with the declining ratio among other e-tailers. Beyond.com's ratio fell to 3.53 from 6.24, and eToys dropped to 5.28 from 7.12, according to Nasdaq data.

Shorting a stock is a risky proposition, particularly in the volatile Net sector. Last September, a number of short sellers were squeezed as eToys announced a new feature on its site that let customers read product information about the toys it sold.

"The short squeeze drove up eToys share price as the shorts covered," Mak said, meaning investors scrambled to repurchase the shares before the stock climbed even further. Shares in the online toy retailer jumped 10 percent to about 65 a share. eToys share price continued to rise to around 80 in early October, but has since fallen to around 60.

Amazon has made similar announcements that have squeezed short sellers.

On Nov. 8 the company issued a press release that said it would make "a significant announcement…that will impact the competitive landscape of online shopping."

Shares of Amazon shot up 20 percent to close at 78, with a whopping 32.3 million shares changing hands that day.

"When Amazon announced in a press release that it would [make a big announcement], the shorts got squeezed," Mak said. "The shorts didn't want to hang on, they just wanted to cover in case the announcement would involve a deal with Home Depot."

The following day, Amazon announced it would open four new stores--software, home improvement, video games and gift ideas--and would acquire Tool Crib. Home Depot was not part of the package.

Credit Suisse's Buyer cautioned investors not to read too much into short interest in a stock.

"Often the shorts are onto something, but not always," she said. "It would be incorrect for investors to react to short position information when it's released. But it's worth storing in the back of their minds."