One of the quickest ways to make a profit in these markets is to find stocks about to be involved in a short squeeze. For those of you who don't understand this phenomenon, a short squeeze, in its basic definition, occurs when a stock starts rising, and people that are short the stock start to panic. As they scramble to cover their short positions, the stock can start rising, and very quickly. We've seen this recently with Sears Holdings (SHLD), as the company has started selling stores and trying to turn itself around. Especially in Sears' case, short squeezes have pushed the name up as much as $5 in less than an hour. But for this article, I'm only going to focus on names that have been beaten down recently. Sears is actually up over 100% in recent weeks.
Now be warned, these stocks I'm focusing on are down for specific reasons, which I will cover. I am just providing reasons I think that they are down too much, and think that a potential short squeeze could push them back up. Buying on the hopes of a short squeeze is a risky strategy, and is not for all investors. Before buying one of these names, make sure you do your own research on them.
Deckers Outdoor (DECK): Deckers is known most for its UGG brand footwear line, but sells other footwear such as Teva products. Deckers recently dropped after its guidance for 2012 was well below expectations. That sent the stock from $90 to just under $78. By Tuesday, Deckers was under $75. Now before I get into Wednesday's action, here is a simple table of the amount of shares short in this name in recent months.
Now you will notice that even as the price has come down, more shares are being shorted. As of the most recent report, Deckers had a little more than 37 million shares for its float, meaning that about 16% of the float was shares short. For a historical look at Deckers' short history, click here.
Now we get to Wednesday. Deckers was down 10% on two pieces of news. First, the company's earnings estimates were cut by an analyst. This is not news. We knew that analysts would be cutting estimates, as Deckers guidance was poor. Deckers expects earnings this year to be flat, and currently, estimates call for a less than 2% rise. When they reported, estimates called for a 14% rise. So basically, estimates have come down to where they should be. Deckers had already dropped more than $15 since the earnings, so this estimate cut shouldn't have had much of an impact on the stock.
The second issue was insider selling. A few of the company's directors sold some shares for tax purposes. Usually, when company executives sell shares, it is a red flag. You want them holding their own shares. But in most of the sales here, they were tax sales. What does this mean? Well, the executives had exercised stock options. When you exercise options, it increases your tax liability. To cover the extra taxes they were going to have to pay, the executives sold some shares, and it was just a few hundred. These executives sold about 5,900 shares of the roughly 568,000 they own. That's barely more than 1%. It's not a big deal, but the stock sold off.
I bought some shares today because I think this is an overreaction. When company executives exercise stock options, their yearly compensation increases, which means they have to pay more taxes. So they sold a few thousand shares to cover taxes. It's not like they sold a huge amount of these shares. Also, the analyst estimate cut should have been priced in. Given that the stock is now down $23 since earnings, and there are a lot of shorts out there, I would expect that this stock will quickly rebound. Any small move will force the shorts to cover, and I see a quick rebound to $75. At the current price, the stock trades for about 13 times this year's earnings. That is relatively cheap for a name known for high growth.
Molycorp (MCP): Molycorp is a producer and processor of rare earth minerals. The stock tends to drop after every earnings report, and that is what it did recently, even though earnings per share met expectations. Analysts now expect Molycorp earnings per share to decline this year, despite a 42% increase in revenue. For 2013, revenue is expected to increase by 78%, and earnings per share to triple. At current prices, Molycorp is trading at less than 6 times next year's earnings, which, for a company growing revenue this much, seems much too cheap for me.
Now let's look at Molycorp's short numbers in recent months.
As you can see, the number of shares short has risen quite substantially in the past few months. Molycorp trades at $25 per share right now. At the start of the year, it was around $23 at its low, but it rallied to $32 before falling back, with the latest leg down coming after earnings. Despite all of the analyst estimate cuts, price targets range from $27 to $81, with an average of $47. That's nearly twice today's price. Molycorp's float was only 57 million as of the latest update, meaning that more than 40% of the float is shorted. If this name starts to rise, it will do so very quickly. While I could see this name testing that $23 low, I think we are headed back to $30 in the next few months, and it is one name I am considering putting my own money into (I have been in the name in the past).
SodaStream (SODA): This name is the company that produces the machines allowing you to make your own soda at home. The stock ran up into last quarter's earnings report, which caused a sell-off after the report. The main reason was that soda machine unit sales slowed down a bit, but the company provided 2012 guidance that was well ahead of expectations. The stock dropped from $47.50 to $41, and is now below $35. It has seen support in the low $30s.
Now lets look at the short numbers.
The amount of shares short isn't up that much in the past three months, but is up a bit in the past two. With only 13.2 million shares in the float, over 60% of this name is short. That can create a tremendous short squeeze, once this name gets going.
SodaStream isn't going to grow as fast in 2012 as it did in 2011, but that is because revenue is higher, and the company is maturing. Revenue is still expected to grow at nearly 30%, with earnings per share rising at roughly 40%. There was no reason for this name to lose 25% after earnings, and I think a rebound is coming soon. We should see it easily back to $40 before long.
Polypore (PPO): Polypore is defined as an industrial equipment and goods company, in the broadest sense. This company's shares plunged after it appeared that one if its largest customers was going to build a plant that essentially would rival Polypore. For a good overview of the reasons behind the drop, read this great article.
Now Polypore is rumored to be making materials for the Chevy Volt, and General Motors (GM) recently announced it would halt production of the Volt for a few weeks. Polypore sold off on this news, but Volt's aren't exactly selling like mad. Now let's look at the short numbers.
Polypore's float is about 46 million, meaning that about a quarter of the shares are short. Now analyst estimates recently have come down only from $2.92 to $2.52 (for this year), but shares have dropped from the upper $50s to just $36. To me, that is an overreaction. When this name plunged earlier this year, it dropped to under $37, but rallied more than $10 in less than two weeks. It has the ability to rise quickly, and if GM starts production of the Volt soon, and if Polypore is in fact a supplier, we'll easily see $40 again, if not $45 in the next couple of months. Everyone ran away from this name, but it could easily get back to its pre-drop levels.
First solar (FSLR): First Solar is a very interesting case, which is why it is last on my list. The stock tumbled after a terrible earnings report, and has fallen to new lows this week after news broke that the SEC is investigating disclosures related to its failed Topaz project. Usually, these investigations do not have positive outcomes, and there is the chance that First Solar could drop tremendously if any wrongdoing is found on the company's behalf.
So why am I including this name if it is so risky? Well, the risk is what makes it potentially appealing. Let's look at the short interest data.
Strangely enough, the number of shares short has been going down. Why? Because investors felt that solar names, like First Solar, were close to bottoming and that conditions in the sector were starting to level off, or possibly improve. Recently, it has been all downhill, which is why this name has traded down from the $160 or so it was at last year, which is why First Solar rallied from a $30 low to over $50 on February 9.
But it has lost half of its value since then, and even with the SEC news, I tend to think it could rally from here. I mentioned after that terrible earnings report that I believed it would drop below $30 (at that time it was down $3 to $33), and it has, plus some. While the SEC news is troubling, we've seen the solar names have huge days in recent months on barely any news. One analyst upgrade, or one company speaking positively, and some of these names have jumped 25% in a day. There are a lot of shorts in these names, with about a 30% short ratio of float for First Solar at the latest update. When these shorts cover, the solar names jump, and fast. I just don't see this company dropping much more, before buyers come in again, and the shorts are forced to scramble.
Now like I said, betting on a short squeeze is not exactly a foolproof strategy. Polypore and First Solar could have serious issues at the moment, which is why I listed them as my two bottom names. I am much more confident in a rebound in the other three, and I put my money behind Deckers today. Should I get a quick pop in this name, I will move on to one of the other four. Again, before jumping into these names for a quick trade, do your own research, especially if you've never heard of one of these names. Some of these aren't exactly the most well known names out there, and that is an investment risk in itself. The short-interest data I've provided is only as of 2/15, so be aware that these numbers can and will have changed since then.
Disclosure: I am long DECK at time of writing, but could exit position at any time. I may also initiate a position in FSLR, MCP, SODA, or PPO over the next few days.