Stock Quotes in this Article: CERN, CPB, GRMN, KMX, KMI

  BALTIMORE (Stockpickr) -- When you’re looking for stocks with explosive upside potential, your first stop should be Wall Street’s “hate list.”

Of course, I’m talking about digging through the most heavily shorted names on the market. Stocks with massive short interest aren’t just good contrarian bets -- they’re also prime candidates for a short squeeze, the buying frenzy that erupts when short sellers are forced to buy back shares of a stock at a loss just to exit their trades. That increased demand for shares can cause shares of a “hate list” stock to skyrocket, fueling more buying from other short sellers.

Typically, short sellers tend to target smaller stocks that have obvious mispricing -- but that’s not always the case. Sometimes, large-cap names get heavy shorting pressure as well, creating an even more interesting opportunity for investors with a contrarian bent.

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After all, large-caps tend to have more mature financials, better access to funding, and more analyst eyes on them. As a result, they can snap back much more quickly than smaller names -- and spur on a short squeeze even easier. One of the best indicators of just how high a short-squeezed stock could go is the short interest ratio, which estimates the number of days it would take for short-sellers to cover their positions. The higher the short ratio, the higher the potential profits when the shorts get squeezed.

Naturally, these plays aren’t without their blemishes -- there’s a reason that these stocks are being heavily shorted. But for investors looking for exposure to a speculative play with a beefier risk/reward tradeoff, these could be powerful upside plays for the coming year.

Without further ado, here’s a look at our list of large-cap short-squeeze opportunities. And for another set of short-squeeze plays, check out "5 Stocks Poised to Pop on Earnings."

 

Kinder Morgan

The biggest name we’re looking at this week is Kinder Morgan (KMI), the $30 billion gas pipeline general partner that came back on the public markets through an IPO late last summer. Technically, KMI is merely a holding company that owns the general partner and incentive distribution rights for Kinder Morgan Energy Partners (KMP), an MLP; in other words, it’s an investment vehicle that’s designed to maximize distribution income for investors.

The firm’s 3.33% dividend yield is a good testament to that.

Frankly, I doubt that most of the shorting pressure on KMI comes from traders who truly hate this stock. With a major acquisition in El Paso (EP) expected to close later this year, much of that short interest is likely to come from merger arbitrage trades.

But ultimately, it doesn’t matter. Short squeezes aren’t fundamentally driven; they’re driven by market structure. That means that any pop in KMI could spur a short-squeeze regardless of shorts’ intentions in this stock.

A short interest ratio of 14.8 means that it would take close to three weeks of buying for shorts to cover their positions in KMI at current volume levels.

For another take on Kinder Morgan, it shows up on a list of 5 Stocks That Could Be Trampled.

CarMax

Used car behemoth CarMax (KMX) definitely boasts household name status right now -- the firm’s 110 megastores are spread throughout the country, giving CarMax reach that no other used car retailer can match. While the firm does have a small new car business, pre-owned vehicles make up the lion’s share of KMX’s income statement. A full 80% of sales are used cars, with a further 12% coming from a mix of secondary businesses.

CarMax has benefited from its positioning as a used car seller and from the aging car fleet on the road in the U.S. While new-car sales have been a major positive for the economy, there is still a massive contingent of consumers who aren’t comfortable buying spending the money to buy a new car. CarMax provides an in-between, selling high quality used cars that are backed (and warranted) by a $7 billion nationwide auto dealer. As a result, the firm managed to stomp its pre-recession revenues last year, and turned out record quarterly performance earlier this month.

Financially, CarMax is in solid shape. The car business is capital-intense, but CarMax has managed to fund store expansions while still maintaining ample balance sheet liquidity. With $442 million in cash at the end of the last quarter, KMX looks well positioned to handle the year ahead.

Short sellers disagree, pushing the firm’s short interest ratio up to 12.6. At that level, it would take almost three weeks for shorts to close their bets, making KMX a prime squeeze candidate.

I also featured CarMax recently in "7 Hot Stocks on Traders' Radars."

Cerner

Health care IT firm Cerner (CERN) is focused on harnessing the tailwinds from the transition to digital medical records. The firm’s Millennium software platform is marketed to everyone from pharmacists to physicians as a holistic approach to patient management, from medical data to financial records. The firm’s short interest ratio comes in at 10.8.

Cerner’s offerings cut down the administrative steps needed to get practices and hospitals paid. Because of that, there’s a major incentive for health care professionals to invest in the cost of a health care IT package.

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Right now, there are two key areas for growth in Cerner: overseas and small practice. More than 80% of CERN’s sales come from the U.S., leaving significant room for expansion abroad, particularly in other countries where regulators are pushing digital medical records.

Smaller practices have typically lagged on the technology front, reluctant to spend the money needed to implement an HIT system like Cerner’s Millennium. To combat that, Cerner’s PowerWorks Practice Management software offers a less robust option for physicians who can’t justify the costs of the company’s flagship offering. More targeted products for smaller practices should help Cerner capture a bigger chunk of that niche -- and provide upselling opportunities to pricier software packages.

Cerner’s balance sheet is spotless, with a small debt position that’s more than offset by $775 million in cash. That financial wherewithal should help the company cope with any business hiccups for the foreseeable future.

Campbell Soup

Campbell Soup (CPB) is a blue-chip packaged food stock that’s no stranger to shorting; right now, the firm sports a short interest ratio of 10.2. In spite of that, Campbell owns a portfolio of some of your grocer’s biggest food brands, ranging from the eponymous Campbell’s Soup brand to Pace salsa, Prego, Swanson and Pepperidge Farm.

With more than 60% of domestic soup sales under its belt, Campbell owns an enviable portion of what’s essentially a staple item in consumers’ pantries. That business has spawned Campbell’s slew of other grocery shelf offerings, and it should continue to do so in the future -- the margins that Campbell earns are league-leading in the packaged food business.

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It’s a good thing too. One of the biggest black clouds overhead for Campbell shareholders has been the impact of rising input costs on profitability. In general, deep margins should give Campbell enough time to react to cost changes that the business doesn’t erode value from shareholders.

Also because of those deep margins, Campbell throws off considerable free cash, cash that’s used to pay a hefty 3.44% dividend yield right now. The combination of a large dividend payout and short squeeze potential makes Campbell worth watching ahead of its third quarter earnings on May 21.

Garmin

Garmin (GRMN) is another high-yielding name that’s getting heavy attention from short sellers right now. The firm’s shares currently yield 3.53%, and sport a short interest ratio of 15.2. But in spite of those similarities, Garmin’s business couldn’t be different.

Garmin is one of the biggest manufacturers of global positioning system devices in the world, with product lineup that ranges from units that give you driving directions to advanced aviation navigation and flight control systems. The in-car offerings fuelled much of Garmin’s growth in years past, but high competition and little in the way of technical innovation have done away with the segment’s attractiveness -- it’s also one of the major reasons that so many short sellers have pulled up Garmin in their crosshairs.

Ultimately, Garmin’s exposure to aviation and marine navigation give it an edge that rivals can’t match; because Garmin spends considerable R&D cash developing offerings like the G1000 avionics suite, it lays claim to an impressive store of patents and tech that can (eventually) trickle down to consumer products.

Meanwhile, the firm boasts one of the best balance sheets in the consumer electronics business, with no debt and around $12.30 per share in cold hard cash. Fiscal first-quarter earnings on May 1 could be the catalyst shares need to squeeze out the shorts in Garmin.

To see these plays in action, check out the Large Cap Short-Squeeze portfolio at Stockpickr.

And to find short-squeeze plays of your own, be sure to check out the Stockpickr Answers community for insights and investment ideas.

-- Written by Jonas Elmerraji in Baltimore.

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At the time of publication, author had no positions in stocks mentioned.

Jonas Elmerraji, based out of Baltimore, is the editor and portfolio manager of the Rhino Stock Report, a free investment advisory that returned 15% in 2008. He is a contributor to numerous financial outlets, including Forbes and Investopedia, and has been featured in Investor's Business Daily, in Consumer's Digest and on MSNBC.com.