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5 Earnings Short-Squeeze Plays

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.

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 very bullish technically 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 Wall Street doesn't like the numbers or guidance.

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, let's take a look at several stocks that could experience big short squeezes when they report earnings this week.

Rent-A-Center

My first earnings short-squeeze trade idea is rental and leasing services player Rent-A-Center (RCII) , which is set to release numbers on Monday after the market close. Wall Street analysts, on average, expect Rent-A-Center to report revenue of $686.47 million on a loss of 19 cents per share.

The current short interest as a percentage of the float for Rent-A-Center stands at 31%. That means that out of the 46.48 million shares in the tradable float, 14.42 million shares are sold short by the bears. The bears have also been increasing their bets from the last reporting period by 25.1%, or by about 2.89 million shares. If the bears get caught pressing their bets into a bullish quarter, then this stock could easily spike sharply higher post-earnings as the bears rush to cover some of their positions.

From a technical perspective, Rent-A-Center is currently trending below both its 50-day and 200-day moving averages, which is bearish. This stock has been downtrending over the last two months, with shares falling sharply lower off its high of $12.30 a share to its new 52-week low of $7.76 a share. During that downtrend, this stock has been making mostly lower highs and lower lows, which is bearish technical price action. That said, shares of Rent-A-Center have now started to rebound a bit off that $7.76 low, and it's beginning to trend within range of triggering a near-term breakout trade post-earnings.

If you're bullish on Rent-A-Center, then I would wait until after its report and look for long-biased trades if this stock manages to break out above its 20-day moving average of $8.67 a share and then above more near-term overhead resistance levels at $9 to $9.17 a share with high volume. Look for volume on that move that registers near or above its three-month average action of 1.56 million shares. If that breakout hits post-earnings, then this stock will set up to re-fill some of its recent gap-down-day zone that started near $10.50 a share. If that gap gets filled with strong volume, then this stock could easily tag its next major overhead resistance levels at its 200-day moving average of $11.56 a share to $12 a share.

I would simply avoid Rent-A-Center...


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