Covering shorts made the right call at IBM

Short interest in IBM (NYSE: IBM) fell 10.5 million shares in July to 38.1 million. There was some real risk in the decision by these investors because IBM was already near a multi-year high, trading at almost $112.

So, there was a lot of air under the company's shares if earnings had been off even slightly.

But, they weren't. The company's shares moved up to well over $116 yesterday, a five-year high. The catalyst was IBM's software sales. While total revenue at the company was up 9% to $23.8 billion, software sales rose 13%, and that is where shorts had to make their bet.

IBM's old-line technology services business only has margins of 30%, although they are the largest division of the company. The company's large systems business has 37% margins.

But, software sales at IBM carry an 85% margin. Unless that segment of the company out-grows all other divisions, IBM cannot improve its net. IBM is also cutting people and moving jobs to India, which is bringing down R&D expenses.

The bet was still very simple. Software sales at IBM would out-pace overall revenue. And, it did.

Douglas A. McIntyre is a partner at 24/7 Wall St.