Mesoblast Short Selling Has All But Stopped - this could lead to...

Mesoblast Short Selling Has All But Stopped - this could lead to a powerful rally on positive announcements

As I noted yesterday, and in answer to a few questions (including @Rooster100 - I get the short pool direct from the brokers who do prime broking). I have addressed most of these issues and more in previous posts - I deliberately try to keep my number of posts down so it is relatively easy to go through them. I write some in depth articles and so I try to keep from boring people by writing the same or similar things each time. Just do a search for ecoool2 (note the three o's).

The pool available to short fell to an insignificant 600,000 last week and gross and net shorting in February has all but dried up. This has led to lower traded volumes in the market and also to very low share price volatility. That is a very good thing in terms of estimating the cost of capital for MSB and also for shareholders' sanity - it is much easier to stay long a stock which is less volatile.

The graph below shows the daily gross shorting activity and the red dotted line is the 5 day moving average, which is right on its lows - even compared with the January holiday period:



Let's hope the shorts stay away and the volatility stays low and the share price gradually improves - that would be a much better outcome than the crazy swings we've seen in recent years. It is also likely to eventually generate a better take-out price in the long term if a big pharma gets interested and also to drive a better partnering deal in the short term if the company looks more stable (nobody wants to partner with a company that may go broke, and a volatile share price makes partners nervous).

Some people have asked about the big recent swing in the net short position of 3.6 million shares - first from a record high in the number of shares shorted (41.523m shares) and very close to a record % short at 8.33% of issued shares, then a fall in the net shorts to 37.918m on Feb 5th, then a rebound to 41.4m on Feb 6th then a fall back to 37.7m on Feb 7th. At first, I was careful to note that the 3.6m fall may have been an error. There have been many errors of this magnitude or more in the past and they usually correct within a couple of days - daily swings of 8m to 10m have occurred in the past - see graph below:



Interestingly, the broker I use has adjusted the Feb 6th rebound out of their net short numbers, even though Shortman and the ASIC website still have it.

I suspect there is a chance the big fall in the net shorts may have something to do with Capital selling around 2.7m shares in late January (my assumptions - see my previous note re Capital) and that the initial fall could have been stock which Capital's custodian had lent, then recalled so that they could sell their stock. The recall (if it happened) would mean that the shorter would deliver their stock back to the custodian - so the shorter would be buying back around the time that Capital was selling the same amount in the market and thus having no net effect on the share price. There was enough volume in the last 3 days of January to allow this to happen and the average selling price that Capital obtained of $1.215 was around the VWAPs on those days. The fall in the net short may not have been reported until 3-5 trading days later - but there are multiple instances of this short reporting being wrong or delayed and not tallying with volumes on days it is reported. The rebound in the short position on Feb 6th could therefore be the error and then it fell back to current levels on Feb 7th and has stayed stable since. This is all speculation on my part and is only one possible explanation for the big recent moves in the net short position.

Note that while this sale by Capital may have resulted in a reduction in the short position without any reaction in the share price (due to the possibility of Capital's selling offsetting the buying back of the short), other situations where major stock lenders recall their stock lending without selling would be likely to result in large increases in the share price (other things being equal). Furthermore, positive announcements by MSB which may cause large shorts to cover their positions would obviously also cause the price to rise - a partnership deal or approval of product candidates by the FDA would be major reasons for shorts to re-evaluate their very large positions.

The net short is still historically very large, it was very recently at a record high of 41.5m shares, and is still a very high 38.1m shares; it is the 21st most shorted stock in the Aussie market (even at the reduced 7.62% of issued shares) and is particularly dangerous in regards to the number of days to cover at current turnover levels, being the 5th most difficult stock to cover at 89.3 days.

Comparing the net short over time (and cleaning up some of the obvious errors in the data for the past 4 years - you get the picture before that) gives the following graph showing we have very recently been at almost exactly the same "net % short" level as the record high in October 2015:





Bottom Line

I think the short position could give the share price a powerful boost if there are positive announcements in the near term. This is because the short is close to a record high in % terms and close to a record high in terms of number of shares short - all at the same time as trading volumes have shrunk, leaving MSB as the 5th most difficult stock to cover in terms of days to cover the short.

The company has made it very clear they are seeking partners for potential blockbuster indications in heart and back pain. Major pharma companies are looking for partners and upfront payments in the US of $US100m are well in the ballpark, plus further milestones and double digit royalties (see my earlier note).

A major partnering deal would make MSB cashflow self-sufficient, with sales from aGvHD likely to be contributing by 2020 (see previous notes). Royalty payments on blockbuster indications heart and back pain in the following years will justify the valuations of major analysts in the US, which currently average $A3.35 (based on an average $US price of $11.92) and range from $A1.82 to $A4.21.* (see Addendum).

The US analysts' ratings and 12-month price targets have come down with the share price fall and some disappointment after the NIH study into MSB's cells improvement of GI bleeding and heart function in patients with LVADs (as measured by temporary weaning from the LVAD) was misinterpreted according to MSB.

MSB stress that the study achieved its secondary target of significant reduction in major gastrointestinal (GI) bleeding episodes and related hospitalisations, a complication affecting up to 40% of LVAD recipients. They also recently noted that this study is a good indication of likely positive outcomes in MSB's major phase 3 heart failure study which recently completed enrolment of patients who are similar to the ischaemic patients in the NIH trial.

Under the RMAT designation already obtained from the FDA, Mesoblast received specific guidance from the FDA that reduction in major GI bleeding episodes and related hospitalisations in the trial is a clinically meaningful outcome with a high unmet need that could meet requirements for an approvable regulatory endpoint. In contrast, the FDA advised that the primary endpoint in the current trial of temporary weaning from full LVAD support is considered a biomarker and is not a clinically meaningful outcome in and of itself.

Results from the United States National Heart, Lung and Blood Institute (NHLBI)-sponsored trial were presented by the study’s independent lead investigator Dr. Francis Pagani, Surgical Director of the Adult Heart Transplant Program and Program Director for the Center for Circulatory Support, University of Michigan Medical Center, as a late-breaking trial at the prestigious 2018 American Heart Association Scientific Sessions in Chicago.
Dr. Pagani said: “This trial, like the previous pilot investigation, demonstrated that intramyocardial allogeneic MPC injections were associated with a significant reduction in GI bleeding, a major cause of morbidity and increased cost in LVAD patient management.” The trial also showed a significant improvement in LVAD weaning in the older, ischaemic patient group.

Far from being disappointed with the trial results, Dr. Silviu Itescu said: “We are very pleased by the results of this independently conducted trial. The clinically meaningful outcome achieved in these very high-risk patients provides a potential pathway to bring our heart failure product candidate MPC-150-IM to market sooner for these patients in great need. In addition, the ability to address inflammation and endothelial dysfunction, mechanisms central to the development and progression of heart failure, may have broader implications for the use of our cells in patients with advanced heart failure.”

The disappointment the market registered after the trial results could be reversed if there is a partnering deal on heart or if the phase 3 trial results reflect the phase two results - MSB has noted that those results are dependent on major cardiac events, not a fixed time frame, and that there may be enough major cardiac events in less than a year.

I believe that any positive announcements on partnering, FDA approvals (particularly for aGvHD in the next few months) or trial results in back pain and heart will cause a big share price rally, spurred by short covering.





* Addendum - US analyst ratings as of 17 Feb 2019:

Mesoblast has received an average rating of “Buy” from the eight ratings firms that are presently covering the stock, Marketbeat Ratings reports. One investment analyst has rated the stock with a sell rating, one has given a hold rating and five have issued a buy rating on the company. The average 12 month target price among brokers that have updated their coverage on the stock in the last year is $11.92. Several equities analysts have recently commented on the company. Zacks Investment Research lowered Mesoblast from a “buy” rating to a “hold” rating in a report on Wednesday, October 31st. HC Wainwright reaffirmed a “buy” rating and set a $6.50 target price on shares of Mesoblast in a report on Thursday, January 31st. Oppenheimer set a $15.00 target price on Mesoblast and gave the company a “buy” rating in a report on Thursday, December 13th. Maxim Group set a $16.00 target price on Mesoblast and gave the company a “buy” rating in a report on Monday, November 26th.