Stock Quotes in this Article: AMWD, AVAV, DSW, ZLC, PANW

DELAFIELD, Wis. (Stockpickr) -- Short-sellers hate being caught short a stock that reports a blowout quarter. When this happens, we often see a tradable short squeeze develop as the bears rush to cover their positions to avoid big losses. Even the best short-sellers know that it's never a great idea to stay short once a bullish earnings report sparks a big short-covering rally.

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This is why I scan the market for heavily shorted stocks that are about to report earnings. You only need to find a few of these stocks in a year to help enhance your portfolio returns -- the gains become so outsized in such a short time frame that your profits add up quickly.

That said, let's not forget that stocks are heavily shorted for a reason, so you have to use trading discipline and sound money management when playing earnings short-squeeze candidates. It's important that you don't go betting the farm on these plays and that you manage your risk accordingly. Sometimes the best play is to wait for the stock to break out following the report before you jump in to profit off a short squeeze. This way, you're letting the trend emerge after the market has digested all of the news.

Of course, sometimes the stock is going to be in such high demand that you risk missing a lot of the move by waiting. That's why it can be worth betting prior to the report -- but only if the stock is acting technically very bullish and you have a very strong conviction that it is going to rip higher. Just remember that even when you have that conviction and have done your due diligence, the stock can still get hammered if The Street doesn't like the numbers or guidance.

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If you do decide to bet ahead of a quarter, then you might want to use options to limit your capital exposure. Heavily shorted stocks are usually the names that make the biggest post-earnings moves and have the most volatility. I personally prefer to wait until all the earnings-related news is out for a heavily shorted stock and then jump in and trade the prevailing trend.

With that in mind, here's a look at several stocks that could experience big short squeezes when they report earnings this week.

Palo Alto Networks

My first earnings short-squeeze play is network security platform player Palo Alto Networks (PANW), which is set to release numbers on Monday after the market close. Wall Street analysts, on average, expect Palo Alto Networks to report revenue of $120.80 million on earnings of 7 cents per share.

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The current short interest as a percentage of the float Palo Alto Networks is very high at 12.6%. That means that out of the 48.86 million shares in the tradable float, 4.44 million shares are sold short by the bears. This is a large short interest on a stock with a relatively low tradable float. Any bullish earnings news could easily spark a sizable short-squeeze for shares of PANW post-earnings.

From a technical perspective, PANW is currently trending above its 50-day moving average and below its 200-day moving average, which is neutral trendwise. This stock has been uptrending a bit for the last few weeks, with shares moving higher from its low of $40.36 to its intraday high of $46.02 a share. During that move, shares of PANW have been making mostly higher lows and higher highs, which is bullish technical price action. That move has now pushed shares of PANW within range of triggering a big breakout trade.

If you're bullish on PANW, then I would wait until after its report and look for long-biased trades if this stock manages to break out above some near-term overhead resistance levels at $48.04 to $51 a share with high volume. Look for volume on that move that hits near or above its three-month average action of 1.04 million shares. If that breakout hits, then PANW will set up to re-test or possibly take out its next major overhead resistance levels at $56 to $62 a share.

I would simply avoid PANW or look for short-biased trades if after earnings it fails to trigger that breakout and then drops back below its 50-day moving average of $44.60 a share to more key near-term support at $43 a share with high volume. If we get that move, then PANW will set up to re-test or possibly take out its next major support levels at $40 to its 52-week low at $39.08 a share.

AeroVironment

Another potential earnings short-squeeze trade idea is unmanned aircraft and efficient energy systems player AeroVironment (AVAV), which is set to release its numbers on Tuesday after the market close. Wall Street analysts, on average, expect AeroVironment to report revenue $55.64 million on earnings of 7 cents per share.

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The current short interest as a percentage of the float for AeroVironment is pretty high at 8.7%. That means that out of the 18.93 million shares in the tradable float, 1.69 million shares are sold short by the bears. The bears have also been increasing their bets from the last reporting period by 2.7%, or by about 44,000 shares. If the bears get caught pressing their bets into a bullish quarter, then shares of AVAV could experience a big short-squeeze post-earnings as the bears rush to cover some of their positions.

From a technical perspective, AVAV is currently trending above both its 50-day and 200-day moving averages, which is bullish. This stock has been trending sideways for the last month, with shares moving between $27.01 on the downside and $28.60 on the upside. Any high-volume move above the upper-end of its recent range post-earnings could trigger a big breakout trade for shares of AVAV.

If you're in the bull camp on AVAV, then I would wait until after its report and look for long-biased trades if this stock manages to break out above some near-term overhead resistance levels at $28 to its 52-week high at $28.60 a share with high volume. Look for volume on that move that hits near or above its three-month average action of 172,040 shares. If that breakout hits, then AVAV will set up to enter new 52-week high territory, which is bullish technical price action. Some possible upside targets off that move are $33 to $36 a share.

I would simply avoid AVAV or look for short-biased trades if after earnings it fails to trigger that breakout and then drops back below some key near-term support at $27.01 a share with high volume. If we get that move, then AVAV will set up to re-test or possibly take out its 50-day moving average of $25.17 a share. Any high-volume move below that level will then put $24 to $23 into range for shares of AVAV.

Zale

Another potential earnings short-squeeze candidate is fine jewelry retailer Zale (ZLC), which is set to release numbers on Tuesday after the market close. Wall Street analysts, on average, expect Zale to report revenue of $362.42 million on a loss of 86 cents per share.

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The current short interest as a percentage of the float for Zale is pretty high at 7.8%. That means that out of the 30.41 million shares in the tradable float, 2.76 million shares are sold short by the bears. The bears have also been increasing their bets from the last reporting period by 2.6%, or by about 64,000 shares. If the bears get caught pressing their bets into a strong quarter, then shares of ZLC could rip sharply higher post-earnings as the shorts jump to cover some of their bets.

From a technical perspective, ZLC is currently trending well above its 200-day moving average and just below its 50-day moving average, which is neutral trendwise. This stock has been trending sideways for the last three months, with shares moving between $13.62 on the downside and $17.16 on the upside. Any high-volume move above the upper-end of its recent range post-earnings could trigger a big breakout trade for shares of ZLC.

If you're bullish on ZLC, then I would wait until after its report and look for long-biased trades if this stock manages to break out above its 50-day moving average at $15.36 and then once it takes out more resistance at $16.50 to its 52-week high at $17.16 a share with high volume. Look for volume on that move that hits near or above its three-month average action of 900,615 shares. If that breakout hits, then ZLC will set up to enter new 52-week high territory, which is bullish technical price action. Some possible upside targets off that breakout are $23 to $25 a share.

I would avoid ZLC or look for short-biased trades if after earnings it fails to trigger that breakout, and then drops back below some key near-term support levels at $14.36 to $13.62 a share with high volume. If we get that move, then ZLC will set up to re-test or possibly take out its next major support levels at $12 to $11 a share, or even $10 a share.

DSW

Another earnings short-squeeze prospect is specialty retailer of branded footwear and accessories DSW (DSW), which is set to release numbers on Tuesday before the market open. Wall Street analysts, on average, expect DSW to report revenue of $647.29 million on earnings of 58 cents per share.

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Just recently, Brean Capital reiterated its sell rating on DSW ahead of its third-quarter earnings report. The firm has a price target of $36 per share on the stock.

The current short interest as a percentage of the float for DSW is notable at 3.1%. That means that out of the 63.68 million shares in the tradable float, 2.22 million shares are sold short by the bears. The bears have also been increasing their bets from the last reporting period by 121.1%, or by about 1.21 shares. If the bears get caught pressing their bets into a bullish quarter, then shares of DSW could explode higher post-earnings as the shorts rush to cover some of their positions.

From a technical perspective, DSW is currently trending above both its 50-day and 200-day moving averages, which is bullish. This stock has been uptrending strong for the last six month, with shares soaring higher from its low of $35.36 to its intraday high of $47.23 a share. During that uptrend, shares of DSW have been mostly making higher lows and higher highs, which is bullish technical price action. That move has now pushed shares of DSW within range of triggering a near-term breakout trade post-earnings.

If you're bullish on DSW, then I would wait until after its report and look for long-biased trades if this stock manages to break out above its 52-week high at $47.23 a share with high volume. Look for volume on that move that hits near or above its three-month average action of 845,752 shares. If that breakout hits, then DSW will set up to enter new 52-week high territory, which is bullish technical price action. Some possible upside targets off that breakout are $55 to $60 a share.

I would simply avoid DSW or look for short-biased trades if after earnings it fails to trigger that breakout, and then drops back below some key near-term support at $45.09 a share with high volume. If we get that move, then DSW will set up to re-test or possibly take out its next major support levels at its 50-day moving average of $43.29 a share to $39.50 a share.

American Woodmark

My final earnings short-squeeze play is manufacturer and distributor of kitchen cabinets and vanities American Woodmark (AMWD), which is set to release numbers on Tuesday before the market open. Wall Street analysts, on average, expect American Woodmark to report revenue of $184.77 million on earnings of 39 cents per share.

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The current short interest as a percentage of the float for American Woodmark stands at 5.3%. That means that out of the 10.70 million shares in the tradable float, about 628,000 shares are sold short by the bears. The bears have also been increasing their bets from the last reporting period by 78.3%, or by about 275,000 shares. If the bears get caught pressing their bets into a strong quarter, then shares of AMWD could easily rip sharply higher post-earnings as the shorts rush to cover some of their positions.

From a technical perspective, AMWD is currently trending above both its 50-day and 200-day moving averages, which is bullish. This stock has been uptrending strong for the last few weeks, with shares moving higher from its low of $32.43 to its recent high of $37.98 a share. During that uptrend, shares of AMWD have been consistently making higher lows and higher highs, which is bullish technical price action. That move has now pushed shares of AMWD within range of triggering a big breakout trade post-earnings.

If you're in the bull camp on AMWD, then I would wait until after its report and look for long-biased trades if this stock manages to break out above some key overhead resistance levels at $37.98 a share to its 52-week high at $39.49 a share with high volume. Look for volume on that move that hits near or above its three-month average volume of 144,665 shares. If that breakout hits, then AMWD will set up to enter new 52-week high territory, which is bullish technical price action. Some possible upside targets off that breakout are $45 to $50 a share.

I would avoid AMWD or look for short-biased trades if after earnings it fails to trigger that breakout and then drops back below some key near-term support levels at $36 to $35 a share with high volume. If we get that move, then AMWD will set up to re-test or possibly take out its next major support levels at its 200-day of $34.43 a share to its 50-day at $34.13 a share. If those levels get taken out with volume, then AMWD could tag $32 to $31 a share.

To see more potential earnings short squeeze plays, check out the Earnings Short-Squeeze Plays portfolio on Stockpickr.

-- Written by Roberto Pedone in Delafield, Wis.


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

Roberto Pedone, based out of Delafield, Wis., is an independent trader who focuses on technical analysis for small- and large-cap stocks, options, futures, commodities and currencies. Roberto studied international business at the Milwaukee School of Engineering, and he spent a year overseas studying business in Lubeck, Germany. His work has appeared on financial outlets including

CNBC.com and Forbes.com. You can follow Pedone on Twitter at www.twitter.com/zerosum24 or @zerosum24.