Stock Quotes in this Article: DRWI, ESS, LEN, SNX, SVU

BALTIMORE (Stockpickr) -- News events have the power to create big volatility in stocks, and the one event that can move them substantially higher or lower is an earnings release. Combine a bullish earnings report with a stock that’s heavily shorted, and you have the fuel to ignite a large short squeeze.

Short-sellers hate being caught short a stock that announces bullish earning and forward guidance. When this happen, we often see a tradable short squeeze develop as the bear rush to cover their positions and avoid huge losses. Even the most skilled short-sellers know that it’s never a great idea to stay short once an earnings event sparks a big short-covering rally.

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

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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 manage your risk accordingly. Sometimes the best play is to wait for the stock to breakout following the report before you jump in to profit from off a short squeeze. When you do this 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 will miss a lot of the move. That’s why it’s only worth betting prior to the report if you have a very strong conviction that the stock is going to explode higher.

Here’s a look at a number of stocks that could experience big short squeezes when they report earnings this week.

Supervalu

My first earnings short-squeeze play is grocery retailer Supervalu (SVU), one of the highest-yielding retail stocks, which is set to report its results on Wednesday before the market open. Wall Street analysts, on average, expect Supervalu to report revenue of $8.42 billion on earnings of 24 cents per share.

This company has been implementing a turnaround plan, closing stores and selling some of its business segments. Due to this change in operations, Supervalu could surprise to the upside if they were able to increase sales and keep costs under control as they righted the ship.

The current short interest as a percentage of the float for Supervalu is extremely high at 24.5%. That means that out of the 212.23 million shares in the tradable float, 51.44 million are sold short by the bears. This is a stock with a monster short interest, so any bullish news and forward guidance could easily set this stock off on a large spike higher.

From a technical standpoint, SVU is currently trading above both its 50-day and 200-day moving averages, which is bullish. This stock recently broke above its 200-day moving average of $8.33 a share on decent volume. The stock is now approaching some key breakout levels that could get taken out to the upside post-earnings.

If you’re bullish on SVU, I would get long after it reports earnings if the stock can manage to break out above $8.57 and $8.65 with volume. Look for volume that’s tracking in close to or above its three-month average action of 203,024 shares. If we get that action, then target a run back toward $9.50 to $10 a share or possibly higher if the bulls push this higher post-earnings.

I would get short SVU after earnings if the stock drops below $8 and then $7.75 a share (its 50-day) with heavy volume. A high-volume drop below those levels should set this stock up to re-test $7 to $6.88 a share post-earnings.

Lennar

Another earnings short-squeeze candidate is homebuilder Lennar (LEN), which is set to release results on Wednesday before the market open. Wall Street analysts, on average, expect Lennar to report revenue of $913.95 million on earnings of 17 cents per share.

During their last quarter, Lennar met Wall Street expectations after reporting net income of 11 cents per share. In the previous second quarter, this company beat Wall Street estimates by 3 cents. Revenue has trended down during the past four quarters, and profit fell 31% in the last quarter to $20.7 million.

The current short interest as a percentage of the float for Lennar is extremely high at 21.9%. That means that out of the 159.79 million shares in the tradable float, 32.78 million are sold short by the bears. The bears have also been increasing their bets from the last reporting period by 3.1%, or by about 983,000 shares.

From a technical standpoint, LEN is currently trading below both its 50-day and 200-day moving averages, which is bullish. This stock has been uptrending strong since it bottomed in October at $12.11 a share. During that uptrend, LEN has been consistently making higher lows and higher highs, which is bullish price action. This stock is now starting to challenge a big breakout level as we approach their earnings report.

If you’re looking to get long LEN, I would buy some shares after its earnings report if the stock breaks out above $21.44 to $22 with high volume. Look for volume that’s tracking in close to or above its three-month average action of 5,944,200 shares. If those levels are taken out with strong volume, then look for LEN to spike higher by 10% or more post-earnings.

I would avoid LEN or get short if after its earnings report the stock drops below its 50-day moving average of $18.46 with volume. A high-volume move below the 50-day should set this tock up to re-test its 200-day moving average of $17.03 a share. I would then add to any short positions if the stock takes out $17.03 with volume. Look for a drop back toward $16.31 or possibly much lower if all of those levels are taken out with high-volume.

Lennar shows up on a list of 5 Homebuilder Stocks With Bright 2012 Outlooks.

Synnex

An earnings short-squeeze trade in the computer peripherals complex is Synnex (SNX), which is set to release numbers on Tuesday after the market close. This is a business process services company, servicing resellers, retailers and original equipment manufacturers, in multiple regions globally. Wall Street analysts, on average, expect Synnex to report revenue of $3.82 billion on earnings of $1.14 per share.

This company has the opportunity to beat Wall Street estimates for the fifth consecutive quarter if it can manage to report bullish results. Synnex’s profit has trended higher year over year by an average of 15.6% over the past five quarters. This stock also just broke out above some near-term overhead resistance at $30.26.

The current short interest as a percentage of the float for Synnex is worth noting at 8%. That means that out of the 31.64 million shares in the tradable float, 1.99 shares are sold short by the bears. This is a notable short interest, so look for a big spike higher in this stock if Synnex can report solid results that please the bulls.

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From a technical standpoint, SNX is currently trading above both its 50-day and 200-day moving averages, which is bullish. This stock has been uptrending very strong since it hit a low in August at $22.56 a share. During that uptrend, shares of SNX have been consistently making higher lows and higher highs, which is bullish price action. The stock now sets up to trigger a breakout trade if it can clear some past overhead resistance levels post-earnings.

If you’re bullish on SNX, then I would look to be a buyer after they report earnings if the stock manages to break out above $32.06 and $33 a share with volume. Look for volume that registers near or above its three-month average action of 203,024 shares. If we get that move, I would target a run back towards $34.50 a share. I would then add to any high-volume move over $34.50 and look for a re-test of its 52-week high of $36.72 a share

I would avoid SNX from the long side if this stock fails to breakout post-earnings, and I would consider it a short candidate if it trades back below its recent breakout level of $30.26 with volume. I would then add to any short positions if this stock takes out its 50-day of $29.45 and its 200-day of $29.32 with heavy volume. Target a drop back toward $28 to $27 a share, or possibly lower if the bears smack this stock down post-earnings.

Essex Property Trust

An earnings short-squeeze idea in the real estate complex is Essex Property Trust (ESS), which is set to release numbers on Thursday after the market close. This real estate investment trust engages in the ownership, operation, management, acquisition, development, and redevelopment of apartment communities primarily in the West Coast of the U.S. Wall Street analysts, on average, expect Essex Property Trust to report revenue of $122.30 million on earnings of $1.52 per share.

If you’re looking for a stock that’s trending very strong heading into the quarter, then take a look at shares of Essex Property Trust. This stock is currently trading just 7 points off its 52-week high of $148.44 a share, with the stock changing hands at around $141.

The current short interest as a percentage of the float for Essex Property Trust stands at 6.9%. That means that out of the 33.61 million shares in the tradable float 2.3 million are sold short by the bears. This isn’t a huge short interest, but its more than enough to spark a big short-squeeze.

From a technical standpoint, ESS is currently trading above both its 50-day and 200-day moving averages, which is bullish. This stock recently hit a near-term low of $120.58 a share and has since then trended higher and is now approaching a big breakout trade.

If you’re bullish on ESS, I would wait until after it reports earnings and buy some shares if the stock breaks out above $145.55 with high volume. Look for volume that’s tracking in close to or above its three-month average action of 341,884 shares. If we get that action, I would then add to any long positions once ESS takes out its 52-week high of $148.44 with volume.

I would avoid ESS altogether or get short if after its report the stock drops below some near-term support at $137.06 with volume. I would then add to any short positions if ESS takes out $130 with volume. Target a drop back toward $127.50 to $120.50 a share if the bears hammer this name post-earnings.

One big bet on Essex in the most recently reported quarter comes from Ken Heebner's Capital Growth Management, which maintained a 695,000-share position in the stock.

DragonWave

One more earnings short-squeeze play is DragonWave (DRWI), which is set to release its numbers on Wednesday after the market close. This company developments broadband wireless backhaul and pseudowire equipment. Wall Street analysts, on average, expect DragonWave to report revenue of $13.59 million on a loss of 19 cents per share.

If you’re looking for a stock that’s been beaten down of late, then take a hard look at DragonWave ahead of their quarterly report. This stock has dropped from its November high of $5.50 a share to a recent low of $3.11.

The current short interest as a percentage of the float DragonWave is rather high at 8.2%. That means that out of the 33.66 million shares in the tradable float, 2.82 million are sold short by the bears.

From a technical standpoint, DRWI is currently trading below both its 50-day and 200-day moving averages, which is bearish. Since hitting that November highs of $5.50, this stock has been trending lower making lowers highs and lower lows, which is bearish price action. That said, the stock is trading very close to some near-term support zones at $3.25 to $3.11 a share.

If you’re bullish DRWI, I would wait until after its report and buy the stock once it breaks out above $3.55 with high volume. Look for volume that registers close to or above its three-month average action of 332,586 shares. I would target a run back toward its 50-day moving average of $4.12 if we get that breakout over $3.55 with volume. I would avoid this stock altogether after they report if it fails to ever take out $3.55 with volume.

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

-- Written by Roberto Pedone in Winderemere, Fla.

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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.