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3 Earnings Short-Squeeze Trades - 11141 views
BALTIMORE (Stockpickr) -- Taking a long position in a stock that’s heavily shorted ahead of its earnings report can produce short-term profits that are hard to match in the markets.
Of course, this doesn’t mean that trading earnings reports is risk-free, but with great risk can come great reward. This is exactly what happened last week with two of my three earnings trade picks. Both Chipotle Mexican Grill (CMG) and Rackspace Hosting (RAX) soared and experienced notable short squeezes delivering the earnings and guidance that Wall Street was looking for.
In Chipotle Mexican Grill’s case, the stock soared from $250 a share before the report to a high of $275 on Monday. Rackspace Hosting jumped from around $36 a share before the report to a high of $40.62 a share last Friday. The only loser was Blue Nile (NILE), which dropped from around $61 a share prior to the report to a low of $54 a share on Friday.
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Buying either Chipotle or Rackspace prior to its earnings call produced huge returns in a very short time frame. Leading up to its report, each stock possessed the qualities that I like to see in an earnings short-squeeze candidate, including a high short interest, an uptrending stock ahead of the report and the chance for solid fundamental news. I thought Blue Nile also fit that criteria, but the company fell short on its first-quarter guidance, and Wall Street punished the stock.
Before we take a look at some potential earnings short-squeeze trades, let’s go over the basics. A short squeeze is a rapid increase in the price of a stock that occurs when there is a lack of supply and an excess of demand for the stock. Short squeezes happen when bears who’ve sold the stock short are forced to cover their position on a stock as it rises. Short sellers will cover their positions to avoid losses further losses.
Here's a look at a number of stocks that could experience big short squeezes when they report earnings.
My first idea for an earnings short squeeze trade is NetApp (NTAP), which is scheduled to report its results on Wednesday after the market close. This company is a provider of enterprise storage and data management software and hardware products and services in the U.S. and internationally.
NetApp is off to a decent start in 2011 with shares up around 6%. Wall Street analysts are looking for NetApp to report revenues in a range of $1.24 billion to $1.31 billion and earnings per shares of 48 cents to 55 cents.
NetApp has been doing a good job of competing against some of the heavyweights in the data storage industry, such as EMC (EMC) and IBM (IBM). Last quarter, the company reported earnings per share of 52 cents on revenue of $1.2 billion, which topped analysts’ estimates of 49 cents per share on revenue of $1.19 billion. I think the chances are strong that NetApp will report another solid quarter that could beat Wall Street estimates.
The reason I like NetApp’s chances is because the company has been increasing its product lines to meet the demand of virtualization storage software and infrastructure. NetApp has been achieving this through acquisitions and partnerships with companies such as Citrix (CTXS) and Cisco Systems (CSCO). I expect the fast move into the virtualization and cloud computing market to be a huge win for NetApp.
The current short interest as a percentage of the float for NTAP isn’t huge, but it’s worth mentioning at around 4.8%. That means that out of the 357 million shares that are available for trading, 17 million shares are currently sold short by the bears as of Jan. 31. I don’t expect NTAP to see a huge short squeeze like we had in Chipotle, but the stock could see some solid gains if the company reports what Wall Street is looking for.
From a technical standpoint, watch for NTAP to trade above some previous overhead resistance at around $60 to $61 a share on volume that’s above the three-month average trading activity of 5.2 million shares. If we get that kind of action prior to their earnings report, then I think this stock has a good chance of squeezing the shorts and seeing higher prices.
Another stock with the potential for an earnings short squeeze is Aruba Networks (ARUN), which is due to report its results on Thursday after the market close. This company provides distributed enterprise networks that securely connect local and remote users to corporate information technology resources worldwide.
Aruba is off to a blazing start in 2011 with shares up around 23%. Wall Street analysts are looking for revenue to come in between $87 million and $88.71 million and for earnings per share of 12 cents to 14 cents.
I think Aruba, a cloud-computing growth leader, has a very good chance of reporting strong earnings because the company is likely starting to eat Cisco's lunch. Aruba is a leader in wireless local-area networks and is second only to Cisco Systems in enterprise WLAN. Judging by Cisco’s most recent quarterly disappointment, I think it’s reasonable to assume that Aruba is making some real inroads into stealing some market share from the networking giant. Keep in mind that Aruba has reported triple-digit profits growth in seven of the past eight quarters. If this trend continues into the current quarter, then look for this stock to experience a massive short squeeze.
The current short percentage of the float for ARUN is a rather large 16.6% as of the most recent reporting period of Jan. 31. That means that out of the 90.89 million shares in the tradable float around 14.3 million shares are currently sold short by the bears. This is a very large short position on a stock with a reasonably low tradable float. This is exactly the type of situation that can produce a massive short squeeze if ARUN can deliver both bullish results and forward guidance.
From a technical standpoint, traders should watch for ARUN to get back above its breakout level of around $26 to $26.59 a share. If the stock can trade back above those levels on volume above the three-month average trading activity of 2.6 million shares, then the stock has a high probability of experiencing a nice short squeeze.
Another stock that could be gearing up for a large earnings short squeeze is SunPower (SPWRA), which is due to report earnings on Thursday after the market close. This company is a vertically integrated solar products and services company that designs, manufactures and markets high-performance solar electric power technologies.
SunPower is another stock that’s trending in the right direction so far in 2011 with shares up a whopping 28%. Wall Street analysts are looking for revenue to come in between $872.23 million to $990 million and for earnings per share to be in a range of 92 cents to $1.16.
I think that SunPower has a solid chance of reporting bullish numbers due to one major factor that should play into this quarter, and that should help to boost forward guidance. That factor is the rising price of brent crude oil which is now trading over $100 a barrel. Take a look at any of the solar stock charts and you’ll see a clear correlation to rising oil prices. As oil prices go up, consumers and corporations turn to solar companies such as SunPower to help them control their energy costs.
This stock is far from expensive, with shares trading at a forward price-to-earnings of 8.80. If this company can deliver decent results and bullish guidance, then I expect this stock to see a big short squeeze as momentum and value players jump in to snatch up cheap shares. Keep in mind that this stock once traded at over $160 a share, which is a far ways away from its current price of only around $16.50 a share.
As of Jan. 31, the current short interest as a percentage of the float for SPWRA is an extremely large 25.9%. That means that out of the 90.46 million shares in the tradable float around 14.3 million shares are currently sold short by the bears. What’s interesting here is that the bears have actually increased their short bets on this stock from the last reporting period by around 343,792 shares or about 2.5%.
From a technical standpoint, SPWRA has already started to breakout above some past overhead resistance at around $15.44 a share. This breakout occurred on huge volume of 5.3 and 2.7 million shares which is well above the three-month average volume of 2.3 million shares. This bodes well very higher prices since it demonstrates that big money is getting into the stock prior to their earnings report.
According to Karvy Global, SunPower is one of 11 solar stocks with upside.
To see more potential earnings short-squeeze candidates, check out the Earnings Short Squeeze Plays portfolio on Stockpickr.
At the time of publication, author had no positions in stocks mentioned.
Roberto Pedone, based out of Windermere, Fla., is an independent trader who focuses on stocks, options, futures, commodities and currencies. He is also an outside contributor to Beconequity.com and maintains the website Maddmoney.net, which he sold to Blue Wave Advisors in 2008. Roberto studied International Business at The Milwaukee School of Engineering, and he spent a year overseas studying business in Lubeck, Germany.