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Tesla Motors (NASDAQ:TSLA) is due to report earnings on May 8, and any positive news (or even meeting expectations) is likely to result in significant short covering. As of April 15, short interest was 30.7 million shares, near 50% of the float. Hence, significant short covering could propel the stock higher very quickly. Probably the most important thing to note about Tesla right now in relation to a short squeeze is that the high hard to borrow fees make it very difficult for shorters to wait for bad news.

Tesla's Hard to Borrow Fee and What It Means

Tesla has a hard to borrow fee of around 50% currently from my brokerage. Other brokerages may have slightly different fees, but Tesla's is certainly extremely high. That 50% is an annual rate that translates into about 4% per month, and is based on the current value of the stock. As such, the rate relative to the original proceeds from shorting the stock is higher for those who shorted when the price was lower.

At the current price of $54, the 50% hard to borrow fee translates into $27 per share shorted per year. As the short interest has remained relatively constant over time (from around 25 to 32 million shares shorted), it is probable that much of the current short interest is from people who entered into their short positions when Tesla was $40 or under.

As a result, many people are now paying an annual hard to borrow fee that is close to their original proceeds from shorting the stock. For example, for someone who shorted at $30, the $27 per share annual hard to borrow fee represents 90% of their proceeds.

Price Shorted At

Effective Annual Hard To Borrow Fee

$30

90.00%

$35

77.14%

$40

67.50%

$45

60.00%

$50

54.00%

$55

49.09%

As Tesla increases in price, the cost to short shares also becomes increasingly higher if the 50% borrow rate stays the same. The annual cost to hold one share short becomes $35 if Tesla reaches $70. This is psychologically a huge amount for someone who shorted at $30 to $40. Even if they are absolutely convinced that Tesla is eventually doomed, the cost for them to wait for that to happen is prohibitive and over time negates any potential gains from shorting the stock.

What Happens if Tesla's Earnings Call Is Positive?

If there is a significant beat in Tesla's earnings call, or perhaps more importantly, revised guidance upwards, then there will be major short covering in the days ahead. As mentioned, as the stock price rises, the cost to continue shorting the stock also increases, creating a double hit for those shorting Tesla. When faced with increasing losses on their short position, plus hefty charges for continuing to short the stock, the result may be a stampede to avoid being caught holding at the end of the short squeeze.

What Happens if Tesla's Earnings Call Is Neutral?

Even news that meets expectations and results in no change to the stock price can trigger short covering, although probably over a longer period. If Tesla meets expectations and reaffirms guidance, then shorts will need to wait for issues such as manufacturing problems or a major recall to significantly bring the price down. The problem is that such events may or may not happen and the timing of such events is unknown.

If Tesla's price hovers around $50 and goes sideways for a long period of time, the hard to borrow fees start to add up to a significant amount. The below table illustrates the costs of continuing to short one share at current hard to borrow rates.

Time Shorted

Hard To Borrow Fee Per Share

One Month

$2.08

Three Months

$6.25

Six Months

$12.50

One Year

$25.00

Two Years

$50.00

I can see people potentially waiting a few months to see if any bad news comes out in a sideways scenario. By that point though, the costs of shorting have added up to $6.25 per share, and people may start throwing in the towel. This more orderly exit should cause a gradual upward trend in the stock price.

Conclusion

Any positive or neutral earnings news is likely to cause short covering. Positive news is likely to cause a short squeeze, while neutral news will cause short covering over a longer period of time if Tesla trades sideways. The high cost of continuing to short the stock means that shorters pay an increasingly high price to try to wait for something bad to happen. If there are no red flags in the earnings report, then the opportunity for something bad to happen is reduced to unpredictable events such as potential recalls and manufacturing problems. If the hard to borrow fee remains at 50% though, the capacity to wait for such events to occur is quite limited.

Source: Tesla: The High Cost Of Shorting Increases Chances Of Short Covering