Down 85% this year, short sellers are betting Zip shares will fall further.

Australia’s largest standalone buy-now-pay-later (BNPL) player is one of the most shorted stocks on the ASX. Almost one-in-ten shares are being sold short as of early June. Short sellers borrow shares and sell them in anticipation of the share price falling. They aim to pocket a profit by returning the share later at a lower price.

Shorts are positioning amid a shareholder bloodbath. Swapping hands for just over $7 in October, Zip shares closed at $0.62 on Thursday. Investors are crowding exits amid closer scrutiny from regulators, heavyweight competitors entering the sector , and fears an economic slowdown could curtail the shopping habits of Zip users.

Short sellers may be looking to profit off panic among the everyday investors who increasingly dominate Zip’s (ASX: ZIP) shareholder base, says Morningstar sector analyst Shaun Ler. Morningstar data reveals fund managers have deserted the company, with no fund globally holding a stake greater than 1.2%. Already nursing big losses, bad news may trigger further capitulations from retail traders.

“These short sellers may be hoping Zip’s shareholders who bought shares when they were very elevated and will sell in a panic as bad news rolls in,” he says, noting that a slowing economy and rising interest rates could lead Zip to disappoint on transaction volume and bad debts in the short term.

“These shorts may be using any jump in the share price to set up shorts in anticipation of bad news down the line.”

Short positions totalled 8.05% of all shares on 3 June, the last day for which data is available. Many shorts are likely to be sitting on big profits already given Zip shares are down roughly a quarter since then.

Shares tumbled 15% on Tuesday after news broke Apple planned to launch a rival BNPL product. A day later financial services minister Stephen Jones announced the Albanese government would regulate the sector under existing credit laws.

Jun Bei Liu, lead portfolio manager at Tribeca Investment Partners believes shorts are betting an economic slowdown will hurt Zip performance.

“The fintech space is directly linked to consumer discretionary spending,” she says. “It benefited enormously from the ecommerce transactions during the pandemic and is now facing further headwinds as the macro backdrop fades.”

Investors are turning their backs on a company that rode the pandemic boom in retail trading. Buoyed by enthusiastic day traders—Zip was Sharesight's second most popular trade last year—the company peaked just above $12 last February. Down 95% since then, buying interest has evaporated and investors are “very wary of falling knives”, according to Gemma Dale a director at broker Nabtrade.

Zip is joined atop the short-selling league table by other stocks fallen from grace after the pandemic boom, including Kogan, Afterpay-purchaser Block and EML Payments. All three have are down between 34% and 61% this year.

After spending the first half of 2021 warning Zip was overvalued, Ler believes selling is now overdone. Shares are trading at an 85% discount to his fair value of $4.30.