Tesla: The Looming Short Squeeze

 |  About: Tesla Motors (TSLA), Includes: PCRFY, TM, VLKAY
by: Nicu Mihalache
I’m relatively new to investing, at least compared to many of my readers. One of the wonders I’ve seen during this short period was an awesome short squeeze of Volkswagen (OTCPK:VLKAY) during which the stock quintupled in two days. It probably became, for a very short time, the largest market capitalization in the world, as markets worldwide had already crashed.
During that time I had barely begun to experiment with option strategies. The dream of one day having a boatload of calls on a stock that blows away like that was so enchanting that it never went away completely, even as I matured option-wise. It turns out that I have a real shot at realizing something like that, as I already have many calls on Tesla Motors (NASDAQ:TSLA) for other reasons.
Click to enlarge
Volkswagen short squeezeClick to enlarge

Why TSLA? Why Now? The Volkswagen story is complicated, but basically there were very few free float shares (float shares in the hands of potential sellers, mostly retail investors) available when Porsche tried to take over using not only direct ownership, but also the options calls available to them. Softer short squeezes also happen when a stock is heavily shorted and there are serious reasons for a rally. Bears don’t want to be caught flat-footed, so they join the buying frenzy (the smart ones set stops to limit their potential loss). Before I start to explain the reasons for a possible blow-up of TSLA, please be aware that no one can predict exactly how or when a stock will move, let alone an outlier situation like the one I’m talking about, almost a black swan.
I believe the ingredients for a TSLA explosion are in place: small free float and large short interest. It just needs a spark. It could be the announcement of deal with Toyota (NYSE:TM) of about $1 billion (Tesla hinted about that during the last earnings call). Or it could be the event they’ve organized for October 1 to show the beta versions of the Model S (its electric sporty sedan) to reservation owners and the press. If a definite date for first delivery is announced (I suspect that they would want to wow everybody by being at least a bit ahead of schedule) or if press reaction is very positive, analyst upgrades would shortly follow. Retail investors will flock to the stock, followed by some institutions. If the latter is true, there would be no free float left. By my calculations (explanation below), the free float is only about 7M shares (6.8% of outstanding shares).
Short interest was 20.1M on August 15 (Nasdaq reports that number twice a month, with a typical delay of 10 to 15 days). The all-time daily volume average is 1.48M (10- day average is .84M and 50-day average is 1.21M), so the short interest represents more than two-and-a-half weeks of trading (13.6 days). Should those shares exchange hands during one or two days, fireworks would be guaranteed.
Most of the insider ownership looks like this.

Insider ownership

Kohler Herbert represents Blackstar Investco LLC, an affiliate of Daimler AG (Daimler), seen when one reads through these two documents (page five in the latter). From the latter, we also learn the number of shares owned by Toyota, and that now there are 104.02M outstanding shares (first page). The press release about Panasonic’s (PC) investment in Tesla provides the last information in the previous table. Again from Nasdaq’s website, we find that 47.7M TSLA shares are owned by institutions. A bit of detective work shows that none of those coincide with Toyota’s or Panasonic’s holdings. A short computation: 7.06M = 104.02M - 49.26M - 47.7M free float shares.
Further Remarks
  • I don’t think it‘s a good idea to invest due to a possible short squeeze. But it may be very interesting to know what it is and how to react if you are already long or short.
  • A short squeeze is a time-reversed bubble. First, a sudden explosion. Then, a slow deflation. Do not assume that the high price is there to stay. If you are long shares, slowly sell some of those while riding the wave. You may even sell some out-of-the-money covered calls if you want to keep your shares for the long run, but also want a bit of gain on the occasion (you may have to sell at a higher price, but you also keep the options time premium). Or buy out–of-the-money cheap puts to lock in some gains (for a while). If you already own calls that you want to keep, you can sell a spread, meaning that you increase the strike of the calls you own for cash (usually for deep–in-the-money call spreads, even leaps, the price can go up to 80% of the spread).
  • I haven’t considered the effect of open interest in call options on the short squeeze. Most calls are covered, so they shouldn’t have a huge importance. For those who want to dig a bit into this data, I have compiled a table with all calls available and their open interest (by historical observations, 2014 options should be available around September 15).
Acknowledgment. I would like to thank John Markuson for his help with English, grammar and style of this article.
Disclosure: I am long TSLA.
Additional disclosure: I leverage my investment using call options.