- Geron has had a very rough quarter due to FDA directives, yet none of the fundamentals of the company changed.
- Institutional interest in Geron has increased, despite the dramatic price drop in Q1 2014, indicating institutional belief in the fundamentals.
- Short interest significantly increased post-price collapse, obviously by unwise retail investors oblivious to an accounting-induced, imminent short-squeeze -- interestingly, not due to Geron actions per se.
Admittedly, it is difficult to write positively about a sub-$5 stock. As such, and to the disappointment of the Geron longs, this article is instead directed towards those retail investors who have effectively doubled their short positions in Geron (NASDAQ:GERN), and belatedly so.
It is one thing to have shorted GERN at the recent highs within the November to early March time frame. Yet, it is another to have shorted GERN after the price collapse in March that followed the FDA letter placing a hold on Imetelstat for the ET medical trial. Short-interest historical statistics suggest that most "investors" fell in this latter category.
Hence, what follows is a three-point thesis that outlines why it is my view that maintaining such a "short" position is a relatively short path to ruin!
Nothing Fundamentally Changed
To start with, the investment logic in any biotechnology stock is, and should always be, that the expected holding period for investors be very long. In essence, my prior analysis of a simplified discounted cash flow model for Geron suggested that no revenues are expected prior to 2020. As such, an FDA hold of a year or so -- admittedly an estimate that is on the longer side -- does not change much in that expectation, and hence, does not affect the financial analysis or the derived conclusion.
Further, any reasonable future revenue model for Geron should, in effect, take into account only the terminal variety of Myeloproliferative Neoplasms (MPNs). If anything, the FDA has little case, if any, to deprive patients of terminal MPN diseases, such as Myelofibrosis (MF), from a potentially effective therapy for fear of inflicting upon such patients mild elevations of liver enzymes. This would not make much sense! If anything, the fact that the Mayo Clinic MF study is continuing, albeit under partial hold, is a case in point that this FDA reluctance is real.
Why, then, is there an FDA hold? In reality, patients of Essential Thrombocythemia (ET), for which the initial full hold was placed, have much longer life expectancy than those of other myeloid diseases. Hence, anything other than a full and thorough documentation of the nature of such liver abnormalities, including documented reversibility, can be construed as a shortcoming in an official sense, and does create the regulatory grounds for a "pause." In the case of ET, it does make scientific and practical sense to require that all "i's" are dotted and all "t's" are crossed. After all, this is a disease that has other effective therapies and, to repeat, a long life-expectancy.
Hence, the hold is more of a procedural or a point-of-order call, and much more so than a scientific statement or a hint of the efficacy of Imetelstat.
If anything, the additional scientific information we received from Mayo Clinic was that Imetelstat, Geron's medicine, should be an integral part of addressing certain class of myeloid disorders. Additionally, the latest company presentation (the 2014 Bank of America Merrill Lynch Health Care Conference) seems to have restarted the same pre-FDA-hold enthusiasm.
In short, my first point can be summarized as there was neither a change in the science nor the potential patient population to justify a revision of the probability of success of Imetelstat as a medicine for that pool, nor a reduction of its potential financial returns to investors when used for that given patient pool. Further, the FDA hold, despite how unpleasant it may seem to an eager investor, did not affect reasonable and realistic expectations of no significant revenues before 2020. After all, the company has only recently become a changed company focused on Imetelstat, and medicines do take their sweet time, including the inevitable ups and downs, to achieve FDA approval.
The Institutions Are Buying
Clearly, when you cross-reference the latest institutional holdings numbers with those from my earlier article on the subject, you realize that, if anything, institutions have demonstrated more interest in the shares of GERN.
If you compare the official end-of-quarter statistics with the prior quarter, you will see that fresh buyers have outstripped sellers in both share numbers and sheer numbers. In particular, Geron, as of this latest round of filings, has 166 institutional owners with 86.4 million shares at their discretion. In contrast, the prior reporting period showed 156 owners with 58.9 million shares at their discretion. Similarly, this period shows a total institutional ownership of 55.1%, while it was 38.9% in the last period.
In essence, those with reduced positions between end of December 2013 and end of March 2014 were 61, for a total of 14.7 million shares. In contrast, those who increased holdings in this quite turbulent quarter were 81 institutions, for a combined 45.3 million shares. Clearly, the balance is in the favor of buyers over sellers.
Further, I have speculated in my earlier article on the subject that the actual institutional ownership is really well above 50%, that was around mid-February. My numbers were then derived from significant ownership declarations (Form 13G instead of Form 13F). If anything, these earlier mid-quarter estimates of mine are vindicated by the actual numbers at the end of March.
A case in point, Fidelity's (FMR) 2/10/2014 13G form indicated a holding of 19.85 million shares. In contrast, the latest 13F form indicates a holding of 23.2 million shares. This is a 20% increase from the number I used to arrive at the 50% earlier estimate.
As such, my second point is that institutions were unfazed, if not enthusiastic, about the prospects of the stock, despite the severe price drop in mid-March. Hence, it is quite a fair conclusion that it is the individual investors who overexcitedly doubled their short positions.
Any market veteran would caution you against shorting a stock at the bottom. After all, this is no different than buying at the top. Both are a recipe for accumulating losses. In reality, a $2 stock can only go to $0, and in the case of Geron, with its $1/share money in the bank, that is highly unlikely -- at least not in the near future.
Further, any such market veteran would point out that shorting a stock with a high dividend yield or a significant payout is a recipe for disaster. After all, most shorts are lured by the relatively low capital requirements of going short. Historically, technology stocks in general and biotechnology in particular have delivered very low yield.
This has changed with the recent Geron announcement relating to Asterias Class A shares. After all, there is an announced record date of May 28, 2014, at which owners of Geron shares expect to see be proud owners of such Asterias shares. That is, if you are an owner of ten thousand Geron shares by the ex-dividend date of May 23rd, then you should expect a 416 Asterias Class A share payout to arrive in your account no later than end of July (the payout date), as per the above announcement. Note here that there is a Memorial Day, May 26, holiday in between the stated ex-dividends and record dates.
As such, a simple series of questions pose themselves to all investors with a GERN short interest: Did you secure a commitment for enough Asterias Class A shares to provide to your broker on the payout date? As Asterias shares are not yet publicly listed, do you have a source to procure these Class A (not Class B, mind you) shares to start with? If you did not, then are you quite sure that your broker will not close out your position on their own for fear that they themselves will be in default?
A similar series of questions impose upon the brokers, custodians and dealers of such shorters: Can you expect borrowers of GERN shares to provide you Asterias Class A shares in time? If not, where are you going to procure these shares so that your customers' default does not become a Securities Act violation or fiduciary violation on your part as a broker and lender of shares? Are you, as a broker, willing to become a trader and assume that you can withhold money from your client to buy the shares at an unknown future price?
What makes the above series of questions more intriguing is that Class A shares are for Geron owners only, based on prior releases from BioTime (NYSEMKT:BTX) and Geron. Hence, there will not be a market for such shares, regardless, unless the shares are distributed and in the hands of the May 28 on-record Geron owners. Even more so is the fact that the payout date was not fixed and is loosely referred to as "before the end of July."
An interesting paradox, to say the least!
Can it get even worse for the shorts? Well, if the institutions and the large individual holders instruct their brokers or respective custodians to not lend their GERN shares or to deliver such shares, and we know now that more than 55% of the stock is in the hands of such institutions and holders, then those holding the 24 million shares in short interest will have to compete for less than 70 million shares in the hands of individuals. After all, the true short ratio is one that is computed against the free float, with the long-term holdings of the institutions subtracted. In essence, the true effective short ratio of the stock is closer to 34% than it is to the 15% you are led to believe.
In "short," I am at a loss as to what arrangements were arrived at, anticipated, or for that matter even possible between the proud shorters of the almost 24 million Geron shares (as per the above referenced statistics) and their respective brokers - who have facilitated such short positions. After all, how can they guarantee that the corresponding - roughly - one million Asterias Class A shares, which are not yet publicly listed as of the writing of this article, are properly accounted for?
I am sure that if Asterias does not manage to get its Class A listed, or at least traded in some way or another before the payout date, then this whole accounting and legal mess will be an issue for the SEC and securities attorneys to unravel for quite a while to come.
The timing of the recent short-wave in GERN shares was at best off, and at worst disastrous, as the developments on the FDA front did not warrant more than a concern about a delay of the expected time of approval, nor any change relating to the anticipated target patient population. Nothing stated in the FDA letter points to changing the probability of such approval or requiring a review of the candidate patient population itself.
Further, the new developments amongst BioTime, Asterias and Geron have suddenly changed GERN into a dividend-paying stock, but with the significant twist of the dividends being (possibly) irreplaceable or impossible to trade, potentially creating a disastrous setup for holders of short GERN interest, as well as their respective brokers and dealers.
Hence, it behooves all those involved in significant short positions in GERN, traders and their dealers and/or lenders, to review, if not close, such positions before the ex-dividend date of May 23rd, 2014.