Short sellers are targeting software companies that may face challenges staying relevant with the widespread adoption of AI technology, said five sources following the situation.

SonicWall, Internet Brands, Consilio and Epiq are among the companies with leverage loans that market participants suspect short sellers have bet against, said some of the sources, who have been tracking trading activity in the names.

Business process outsourcers, IT servicers and hardware vendors may experience a decline in revenue as AI automation makes processes provided by these types of companies irrelevant, according to an industry analyst. On the consumer side, AI is forecast to usurp ad-supported internet content farm that rely on traditional search engines for traffic.

Francisco Partners-backed cybersecurity hardware vendor SonicWall is believed to have been targeted by a naked short seller, leaving a term loan issued by the company quoted at an artificially low price and some loan trades unsettled, Debtwire previously reported.

SonicWall’s USD 650m SOFR+ 500bps term loan due 2028 started moving down in mid-September with a sharp decline in October that sent the loan quotes as low as low to mid 80s. The loan was last quoted 86.9/88.9 on Markit, down from 96.78/97.78 on 17 September.

After certain SonicWall lenders notified brokers about unsettled trades, some of the trades were closed in late October, according to the first source.

Internet Brands’ first lien term loans also started to move down in October after staying in the 90s and high 80s since it was refinanced late last year.

The USD 2bn SOFR+ 425bps term loan due 2031 was last quoted 79.45/81.2 on Markit. The issuer’s USD 4.67bn SOFR+ 425bps term loan due 2028 was last quoted 89.99/91, down from around par at the beginning of the year and from mid-90s in September.

Investors have been weighing the potential impact AI may have on the market share of Internet Brands, the owner of a collection of content websites like WebMD, as reported.

Companies within Internet Brands are under pressure due to search engines losing traffic to AI chatbots, affecting advertising revenue, and competitors utilizing AI to develop more comprehensive product offerings.

Legal services provider Consilio’s USD 1.98bn SOFR+ 375bps term loan due 2028 has been on a mostly downwards trajectory since August, last quoted 85.46/86.86 on Wednesday (5 November), down from high 90s in mid-August, according to Markit.

The USD 1.2bn Sofr +400bps first lien term loan due 2029 for another legal services provider, Epiq, was quoted down from mid 90s in early September to a dip at 81.2/83.6 on 18 September on Markit. The loan recovered slightly and was last quoted 86.38/87.8.

Shorts have become topical in the loan market recently with Apollo Global Management’s well-publicized synthetic bet against First Brands Group’s capital structure before the auto parts company’s collapse in September.

Betting that debt prices will decline is much less common in the leveraged loan market than in high yield bond market, which tends to have more liquidity and faster trade execution.

Naked shorts can be risky since an investor sells an investment without first borrowing it or checking to see if it can be borrowed, leaving the investor exposed if the counterparty to the trade demands it be closed.

“[Naked shorting] is frowned upon in the loan market, but not illegal,” an attorney said.

“If it was a widespread practice, the BSL market would have no liquidity. So, the fund and the dealer engaging in this face reputational risk,” added the attorney, speaking generally.

Many asset managers refrain from the practice or don’t hold positions for a long time to avoid taking too much risk and upsetting counter parties, said the second source. Still, some funds do short loans, the source said.

Some of the companies believed to be targeted by short sellers have been actively working to join the AI wave to stay relevant and perhaps prove their critics wrong.

Internet Brands’ information service for medical professionals, MedScape, launched an AI tool that will also help search for and access medical journal information, executives have said. MedScape currently has an AI search on its website, labeled as “new”.

Stone Point Capital-backed Consilio has been looking for acquisitions to expand its legal technology services, as reported by Mergermarket.

The first image on Consilio’s website now reads: Introducing Aurora by Consilio. The new initiative aims to unify customers’ legal data portfolio with private cloud security, adding in AI features, according to the website.

Epiq’s website claims that the company leverages the Microsoft Azure AI service.

On the flipside of the AI disruption trade, some investors are embracing the hypothesis that the sky-high valuations of AI companies are pointing to a bubble.

Famed investor Michael Burry, who is well known for predicting the downfall of the housing market during the Great Financial Crisis, recently bet USD 1.1bn against AI leaders NVIDIA and Palantir Technologies using puts, according to SEC filings from his fund Scion Asset Management.

SonicWall and its sponsor Francisco Partners did not respond to emails seeking comment. Internet Brands and its sponsors KKR, Temasek and Warburg Pincus did not reply for comment. Consilio and its owner Stone Point Capital did not reply to include a comment. Epiq and its sponsors OMERS Private Equity and Harvest Partners did not respond to requests seeking comment.