A Word of Caution on Wall Street's New Favorite ETF Play

The "ETF boom" continues apace: a Reuters article this past week remarked upon the sudden surge of interest in MSCI Inc. (MSCI) among institutional investors, as many traders continue to favor a passive approach to the stock market.

"Stockpickers are jumping into the boom in passive investing by loading up on shares of index-provider MSCI Inc, whose products are the basis for dozens of popular exchange traded funds... Overall, 71 funds added a stake in the company to their portfolios in the last quarter, a 97 percent jump from the previous quarter, according to Morningstar data," writes the author -- who goes on to note that MSCI, with its heavy global exposure, is also capitalizing on a trend toward international indexes over their "expensive" U.S. counterparts.

And with the number of deep-pocketed players invested in MSCI roughly doubling in the recently concluded quarter, the stock's chart looks just about as impressive as you would expect. The stock tagged an all-time high of $115.77 in Friday's trading, and its uptrend in 2017 has been highlighted by near-textbook trendline support at its 10-day, 20-day, 50-day, and 80-day moving averages. Looking back over the last two years, meanwhile, MSCI's share price has very nearly doubled.

If the robust price action weren't enough to woo investors, there's also the lingering prospect of a buyout bid for MSCI. The stock's sharp mid-March spike was prompted by reports -- later denied -- that S&P Global was eyeing a takeover at $120 per share.

So while there's not much to debate in terms of MSCI's vigorous climb to new highs, there's some valid cause for contrarian concern here. Even as big-money investors are doubling down on their MSCI stakes, put open interest on the stock has dried up lately -- even by its own lightly traded standards. There are currently just 705 MSCI puts open, according to Trade-Alert, down sharply from the March 17 52-week high of 4,031. Meanwhile, MSCI call open interest stands at a comparatively ample 1,326 contracts.

This remarkably light accumulation of put open interest suggests that while institutional investors have been quick to snap up MSCI shares, they've been delinquent in acquiring hedges in the form of MSCI put options. At the same time, short interest on MSCI is moving higher from a near two-year low in July, having ramped up by 31% in the past two reporting periods.

And while these data points alone aren't sufficient justification for a bearish stance on MSCI, we'd argue that they leave the stock considerably more vulnerable than most to potential bursts of sharp, aggressive selling in response to any small sign of weakness on the charts. So for those intrigued enough by the equity's strong uptrend to consider a new long position on MSCI, we'd advise getting a leg up on the institutional crowd by ensuring those shares are fully hedged.