Hertz, Chesapeake Energy Leading The 'Bankruptcy Bubble'

Stocks that have declared bankruptcy or are on the brink of bankruptcy have been among the best market performers in the past week. In his daily newsletter on Tuesday, Whitney Tilson warned investors of the seemingly obvious danger of buying shares of bankrupt companies.

A Bankruptcy Example: While a handful of bankrupt companies maintain some level of equity value for investors, the vast majority of bankrupt stocks ultimately go to $0. Auto, airline and other stocks have gone through bankruptcies in the past and still hold equity value today. However, part of their bankruptcy reorganization included delisting their previous stock and ultimately relisting news shares of the restructured company.

For example, General Motors Company GM filed for bankruptcy in 2009 and today has a $42 billion market cap. The old GM shares were delisted, renamed Motor Liquidation Company, and the ticker was changed to MTLQQ. In March 2011, MTLQQ stock was canceled and shareholders received no distribution or payment at all.

The GM route is fairly common among bankrupt companies given they typically have extremely high debt loads.

Bankruptcy Bounce: Tilson said the latest bubble in bankrupt stocks is much more surprising than other recent bubbles in alternative energy, cannabis and bitcoin.

“The bubble over the past week in bankrupt (or near-bankrupt) stocks may be the craziest thing I've seen since the internet bubble,” Tilson said.

On Monday alone, stocks of bankrupt or near-bankrupt stocks Chesapeake Energy Corporation CHK, Hertz Global Holdings Inc HTZ, Extraction Oil & Gas Inc XOG, Whiting Petroleum Corp WLL and Valaris PLC VAL all more than doubled. Bankrupt J C Penney Company Inc JCPNQ was also up more than 96%.

Tilson said each of those six stocks is more than just a bad investment. They will all likely end up completely worthless.

Tilson said day trading and speculation, particularly among Robinhood users, is fueling the crazy trading action.

“It saddens me to see this because while this bubble (so far, anyway) remains microscopic in size, it's still a few billion dollars that these investors are sure to lose – and I suspect these are losses these folks can't afford during these tough times,” Tilson said.

Benzinga’s Take: Investors should understand that short-term traders and algorithms are likely driving much of the bankruptcy bubble, and short covering could also be a major contributing factor. While all these dynamics create wild swings in stock prices in the short term, it’s difficult to find any credible arguments that any of these stocks will hold any value in the long-term.

Do you agree with this take? Email feedback@benzinga.com with your thoughts.

Related Links:

Here's How Much Investing $1,000 In Hertz Stock Back In 2010 Would Be Worth Today

What Chapter 11 Bankruptcy Filings Mean For Investors