From AFR Liontown bid brings lithium armageddon upon hedge funds. Tuesday’s short squeeze in lithium stocks was one of the most brutal ever for hedge funds that took the other side of a popular retail trade. Tuesday was a day of delirium for shareholders in ASX-listed lithium hopeful Liontown Resources after it received a $5.5 billion bid from Albemarle. That bid, which was boldly rejected, was a 63 per cent premium to the last closing price, prompting an even larger 68 per cent jump in the share price. But in hedge fund land, it was a day of devastation. A massive 63 per cent premium on the Liontown bid is not an outcome many traders would have been prepared for. The Australian Financial Review’s rough calculations estimate traders lost around $300 million shorting five ASX-listed lithium stocks in one ugly session. Why? Liontown is one of the most shorted stocks on the ASX with about 200 million shares, or 10 per cent of the free float, loaned out to speculators. That makes it highly susceptible to a squeeze as the amount of capital seeking to close the trade might exceed the daily trading volume by many times. A short seller’s worst nightmare is to have short-sold stock that emerges as a takeover target from a credible buyer. The prospect of a takeover bid is a factor they have to accept is always possible. But an announced bid typically does not exceed a 30 per cent premium to the last traded price, even if it does ultimately go higher. A massive 63 per cent premium is not an outcome many traders would have been prepared for. Spreading the pain Hedge funds also typically spread their short bets if they’re taking a view on a sector rather than targeting concerns at a specific company. But the fact that Liontown rejected the bid – which meant other targets could be in play and rallied accordingly – meant a diversification strategy could not spare the pain. Heavily shorted lithium peers gained by double-digits, slugging hedge funds with losses. Analysis based on the last available short selling data suggests Liontown shorters lost $210 million on Tuesday, Pilbara Minerals shorters about $50 million, and bets against Core Lithium, Allkem and Sayona Mining were in the red by about $15 million to $20 million. Enthusiastic lithium investors, which include a large cohort of retail investors, will no doubt feel nothing but satisfaction. There has always been a large pile of money willing to bet against lithium stocks (hedge funds often line up against retail investors). Ironically, the conviction on the lithium short had only increased of late. The sliding lithium price as electric vehicle demand out of China waned logically suggested to hedge funds that the share prices of Australian lithium stocks would come under pressure. Prime broker desks questioned why the Australian equity market was unfazed by what they regarded as a clear directional move in the underlying commodity prices as Chinese producersGanfeng and Tianqi struggled. A further point of conviction was the sale by Chinese lithium battery manufacturer CATL of its stake Pilbara Minerals this year. Liontown was the top pick for the shorts because it was in the toughest part of its lifecycle as it graduated from concept stock to producer. The company was a long way from first production and the consensus is it would require additional equity to get there. When it did, the expectation among shorts was that further lithium supply coming on market would only work against, not for, the commodity price. That was the thesis playing out in 2023. Until Albemarle came along. “Where equities are discounting too low a commodity price corporates will act,” said Jefferies analysts as they declared the beginning of an M&A cycle. It’s not just short sellers that have been caught on the wrong side. Lithium stocks have become a bigger part of the small caps index but haven’t been popular among institutional long-only fund managers either. Those that didn’t own lithium instantly fell 2 per cent behind the index on Tuesday, just days before they rule off March quarter performance. So, the situation has set up intrigue for bulls and bears. The confidence of Liontown’s management and its shareholders that it’s on the path to emulating another great scourge of short sellers, Fortescue Metals Group, has only increased. But the hedge funds that survived lithium armageddon may just sustain their bet that the best returns for the sector are in the past.
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