Investors Should Short Amazon Inc (NASDAQ:AMZN)’s Stock

Amazon Inc (NASDAQ:AMZN) has had a rollercoaster of a year since the start of 2014. Since the beginning of the year, the company’s stock has fallen quite a bit from its near all time highs.

The explanation for Amazon’s underwhelming performance this year? There are multiple offers on the table.

Perhaps there was an correction in the overall market? No, the S&P 500 has increased by 8 percent YTD.
Could there be investor apathy toward the industry? This could be possible. While retail has generally reported mixed results on its year, Amazon has reported severely lower numbers than its peers in the industry.
Maybe investors were just taking the profits after Amazon reached its all time high in the beginning of the year? While this seems plausible at first, it’s September already and we are still seeing severe pressure downwards.

While a few of the above reasons are potential explanations for the company’s lackluster performance, it seems like the sustained selling that we have seen just points back to a more fundamental issue – investor confidence. Apparently investors have begun to change their ways of thinking now that a few of Amazon’s faults are becoming more visible to investors.

The first issue in question is the short interest in the stock. The number of Amazon shares being traded has grown to more than 1.5 million shares since the start of the 2014 year.

As a percentage of that floating share count, that translates into 2 percent, which is an increase of 1.7 percent from January of this year. This is not actually a huge difference, and actually shows a shockingly small portion of the float, given the expensive prices that Amazon trades at based on valuation. However, it seems that after the company hit rock bottom during the first quarter, it seems like short interest is on the rise now. This would place even more selling pressure on the stock. There is still a large amount of room for people who short the stock to get in on it when you look at the company’s historic short interest, so that’s always something to keep in mind.

An additional point is that the confidence of analysts have crumbled over the last year as the estimates for the company’s current year earnings had dropped significantly.

While the downward earnings per share estimates were revised and the growing short interest aren’t really red flags for concern themselves, the all lead back to what seems to be a shift in the overall attitude towards the company. What was once regarded as a stock with sky high potential has been brought back down to reality as analysts and investors realize that at the end of the day, it is the bottom line that really matters. And in this category, Amazon has not exactly performed well on.

Financial Issues

Earlier this September, Amazon disclosed that it had gotten a credit facility with Bank of America (NYSE:BAC) that totaled $2 billion. The terms of this deal are actually quite beneficial to Amazon.

Under the credit agreement between Amazon and Bank of America, the initial interest rate for the outstanding balances is the London interbank offered rate, plus an additional 0.625 percent. There is also a commitment fee of 0.06 percent on the undrawn part of the credit facility. Additionally, if Amazon’s credit ratings are lowered, the rates could grow to be more than LIBOR with an additional 1 percent and as much as 0.1 percent.

The competition

The competing firms in the ecommerce industry has grown incredibly over the past few years. The number of Amazon’s rivals appear to be growing, and they seem to be becoming more expansive and diverse with each passing quarter. Of course, the usual candidates include Walmart (NYSE:WMT) and eBay (NASDAQ:EBAY) are in the running, but there is also Google (NASDAQ:GOOG) (NASDAQ:GOOGL) and its Google Shopping branch. While Google Shopping still has a long way to go to becoming one of the top competitors in its space, it is only a matter of time before the firm takes advantage of the incredible number of people who use its services. It would be foolish to write Google Shopping off as a blow off, simply because it has so much room for potential that Google has not yet taken advantage of.

Alibaba (NYSE:BABA) is also another formidable rival to keep in mind. With the Chinese ecommerce company’s upcoming initial public offering that is on track to break records, the company is in a prime position to use the cash that will be raised as well the media attention in the United States. After dominating the ecommerce space in China, there is no question that Alibaba will venture its way into the United States to try and steal some of the market share from Amazon. Similarly, Amazon has tried to enter the Chinese market and take away some of that market share from Alibaba. But what does this mean for Amazon? Most likely the company will experience margin suppression, if not compression. And all of this means little or no profit for the American online retail company.

Alibaba has already reported some impressive numbers for its profits, which many investors and current shareholders of Amazon will find appealing. It is likely that some institutional investors will sell a good portion of their stake in Amazon so that it will release some cash to buy some shares in Alibaba. This selling in large volumes would put more downwards pressure on Amazon’s stock. The scale of the pressure largely depends on the time and magnitude of the selling.

Conclusion

From a fundamental view, Amazon appears to be a great candidate to short the stock. Over the past five years, Amazon has consistently traded at huge valuations based on its price to earnings ratios. Even if the online retailer meets analyst predictions for the 2015 year, the company’s stock would still trade at prices that are 172 times the company’s earnings. While the chief executive of Amazon has managed to convince investors that the company will eventually start pulling in profits and that the most important thing to focus on is continuing to increase its top line without much concern for the bottom line. If investors continue to show confidence in the chief executive’s strategy, then these largely inflated levels of valuation will continue, and that would not bode well for short sellers.