MannKind Corp. (MNKD)

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MannKind: Massive Short Interest Could Lead To Big Gains

Oct. 24, 2014 3:28 PM ET MannKind Corporation (MNKD)

Disclosure: The author is long MNKD. (More...)



Summary
•Short interest in MannKind is high and getting higher.
•I believe most of the short interest is owned by speculators who will not stick around for Afrezza sales results.
•I predict a run up as Afrezza's launch gets closer and as sales numbers follow soon after.

In the past three months, shares in MannKind (NASDAQ:MNKD) have dropped well below the prices they were trading at post-approval and post-partnership when shares were trading above $10. The stock closed Thursday at $5.65, which is a healthy 4.8% gain for the day.


However, the stock is still well below analyst price estimates and the potential value of the company. What is keeping the stock price relatively beaten down? I believe that short interest is keeping a lid on the stock price, which is why prices are still so depressed from previous levels. With no catalysts to buy the stock and therefore no reason for short sellers to cover, the stock price has been either falling or stagnant in the months between now and the partnership announcement (though shares have been having a good run lately after falling below $5 two weeks ago).


MNKD's lead product is an inhaled insulin drug known as Afrezza. The drug got FDA approval on June 27, 2014 and soon after the company announced a partnership agreement with Sanofi (NYSE:SNY) to market and sell the drug. Afrezza has huge potential both because it is much more convenient, physically and socially, than taking an injection, and because the insulin is absorbed into the bloodstream very quickly, making it optimal as a mealtime therapy. The diabetes market is massive and growing, leaving MNKD market and sales potential. For more on Afrezza and MNKD's future prospects, you can read my article on the topic here.

Short Interest

As of this Thursday, by percentage MNKD is the 63rd most shorted stock trading on either the NASDAQ or the NYSE. Short interest as of September 30 sits at 33.70%, which is 78.6 million shares sold short out of a total float of 250.7 million shares. Now it's not out of the ordinary for a biotechnology company to be on a list of the most heavily shorted stocks. After all, the value of many biotech companies doesn't come from revenue or earnings, but from potential drugs in development or in clinical trials.

It is logical to think that some people would believe in the drug and go long on the stock and that some people would have the opposite opinion and short the stock. But there is a distinction that must be made between this situation and MNKD's situation. Yes MNKD is a biotechnology company, yes MNKD's value does not come from earnings or revenue and yes some people believe in the drug's potential and some do not. However, Afrezza has already gotten approval, MNKD has gotten the backing of a pharmaceutical giant that has the best-selling diabetes product on the market in its portfolio and Afrezza is set to launch in early 2015, just 3 or 4 months from now. With these factors in mind, MNKD's rising short interest is anything but logical.

There is a huge market available for Afrezza to enter and the drug has legitimate, proven advantages over other similar drugs in that market. Sales potential is enormous, yet some investors are taking the risk of short selling the stock. It just doesn't make sense. Even stranger, it appears that as MNKD gets closer to succeeding, the short interest rises. The 78.6 million shares that are sold short now is nearly a 6% increase from the shares that were sold short in the previous month.


I believe what we are witnessing is a bandwagon effect. Initially, investors selling MNKD short were people who actually believed that the drug would fail. But last year MNKD's stock price wasn't moving around much and potential catalysts like the FDA advisory committee and actual FDA approval were months away. Speculative investors saw this as an opportunity to try and push the stock lower because there wasn't much risk of shares skyrocketing, considering it was a quiet period for MNKD.

Short interest has accelerated again now that the stock price has again settled down for a quiet period before Afrezza hits the market. Short sellers perhaps reason that as long as MNKD's valuation is all dependent on the future, the stock is vulnerable. However, I do not think that the speculative short sellers will stick around for Afrezza's launch because that event will entail MNKD's potential value turning into real value. At that point, covering a short position might be costly. Speculative short sellers will stay in the game to suppress MNKD's stock price for as long as the risk is low, but as soon as the risks starts running higher, the short sellers who are only looking for a quick buck will get out before it becomes too risky to be short MNKD.

It is for this reason that I anticipate a share price run up in late 2014 to early 2015. The investors shorting MNKD without conviction will get out before the company's value starts to become real, which will be around the time Afrezza rolls out. At that point and beyond, something like this will probably happen:


The left side of the chart shows that as shares in Tesla Motors (NASDAQ:TSLA) exploded, skeptical short sellers drove short interest way up. The stock eventually pulled back (between March and May) and many short sellers closed their positions, satisfied with the price drop. After this drop, shares rebounded as the company proved itself with real sales and earnings. Short interest dwindled.

Comparatively, MNKD's stock price started to rise as the partnership and FDA approval were announced, and short interest rose. The stock has now pulled back, but short interest is still rising. Now it's MNKD's turn to show that the company can prove itself by converting its potential value into real value.

MNKD's stock price will not be truly free from short sellers until Afrezza sales numbers are announced. Assuming the numbers are not disastrous, short interest should recede, as short interest in TSLA did after the company proved itself. I don't think a short squeeze is a likely outcome as Afrezza's launch approaches. There are simply no upward catalysts that can trigger a large number of investors to cover their positions. The more likely scenario is that speculative short sellers will slowly leave the stock leading up to Afrezza's launch, though a short squeeze may occur if Afrezza's sales numbers, which will probably be announced in mid to late 2015, are particularly robust.

Conclusion

I will be the first to admit that most of this article is speculation and guesswork. However, the short interest is so high and there's no significant justification for this, considering MNKD's potential. It is my opinion that this indicates that a lot of the short interest is owned by investors who will abandon their positions as MNKD's value shows signs of becoming real. It is with this assumption that I predict a share price run-up in late 2014 or early 2015.