If one only hears some pundits talk about E*Trade (ETFC) or looks to analyst opinions for investment guidance, one wouldn't know that E*Trade is this year's best brokerage stock, one of the very few financial stocks with a positive return, and one of the S&P 500 stocks that has double digit gains. Technically speaking, it also has another bullish component to support its positive price actions since January--volumes. E*Trade’s pattern of daily volume is high on rising days and low on consolidation days-–a classic bullish sign.
To close watchers, E*Trade, as a company, has definitely, albeit not widely reported, been on a strong cause of turnaround:
- The home loan portfolio, well the loan portfolio that remains since E*Trade sold off the most risky CDO portfolio in November 2007, has shown first signs of improvement as reflected in declining trend in new delinquent loans (as discussed in both the April Q1 Earnings Conference and again in the May Annual Shareholder Meeting);
- E*Trade’s overall cash position with its year end target of accumulating $1 billion excess cash will likely be achieved by this July 2008 quarter (see details in "Seeking E*Trade’s ‘Magic Moment"
- E*Trade’s risk capital ratio is among the highest nationwide, a close second to JPMorgan (JPM).
Just the other day, James Altucher from thestreet.com acknowledged the bullish trends affecting E*Trade and identified it as an “extreme stock” with a “Buy at $4, sell at $8” recommendation. In contrast, financial analysts have been so slow to respond to E*Trade’s “turn around.” A review of analyst upgrades and downgrades shows that the last activity was five months ago in December 2007. Quite the delay given recent developments.
What IS fast becoming the new consensus is E*Trade’s robust recovery in the online brokerage business: old customers are returning, new customers are signing up at close to a record high pace, and assets are growing again and at a faster pace than both TD Ameritrade (AMTD) and Schwab (SCHW). To E*Trade customers, this is of course no surprise, given E*Trades cutting-edge online trading platform: fast, reliable, and sophisticated, unlike some of its competitors who just last week had slow and stalled trading.
So, with these dramatic yet still little recognized fundamental developments, and with bullish volume and trading trends, WHO is going to trigger the "Magic Moment?"
Let's examine them one by one. (One word of caution, this is not a complete list and it can't be complete, for the Magic Moment, by definition, has an element of surprise.)
- Conventional Shorts?
- Box Shorts?
- Analyst Upgrade(s)?
- Fresh Buyer(s)?
Conventional Shorts: E*Trade has 111.4 million, which is over 22% of all outstanding shares, one of the top five most shorted Nasdaq stocks, in one word: HEAVY.
Of these heavy and numerous shorts, any sizable one can trigger the magic moment if it decides to wise up to the fundamental developments at E*Trade or gets nervous about the bullish trends and begins covering the short position. With volume at only 9.9 million shares yesterday, it would take 11 days for the short interest to cover. By behavioral finance, the worry of ‘WHAT IF “they” move before “me?”’ has extensive repercussions as 111.4 million shorts start to worry about their buddies.
Box Shorts: They are the special animal of shorts. There are no published data and none of the box shorts would do an ad for us telling us they have a box position. So we can only guess and estimate. By way of background, the 1997 Act has largely closed the DOMESTIC tax loophole in box shorting, but an overseas-based hedge fund can still use this technique, NOT for tax but for price manipulation.
Yes, manipulation. Some will argue criminal but it's used. Why? In depressed stocks such as ETFC, shorts know fully well that many other operators can push the price and trigger a squeeze any time. So some shorts also build long positions, hence the name box short, either to use them to cover their short margin calls or to sell them in hope of keeping the price low. In other words, their long positions are fighting tools. Once their long position is used up, they must buy and cover their remaining short interest.
Looking at Bloomberg mutual fund and hedge fund holders of ETFC, I noticed that one likely box short used to have over 20 million long shares but has cut half of them in the latest quarterly filing. What's left is only 10 million shares at their disposal in any potential future fight. Worth close watch indeed! If ETFC continues to warm up, those 10 million shares will NOT last very many DAYS, let alone weeks or months.
Analyst Upgrade(s): Let's just say there is no more downside in ETFC as far as analysts are concerned. Only one analyst that has a “BUY” rating on E*Trade, all other analysts have E*Trade at SELL or the Wall Street equivalent of SELL [HOLD] and none of them has yet to come out of the herd recognizing the many recent progresses that ETRADE has made. So, by default, there is only an upside to the analyst(s) position. Also, remember, for stocks like E*Trade upgrade to SELL from STRONG SELL, or from SELL to HOLD can be powerful, let alone an upgrade from SELL straight to BUY.
Fresh Buyer(s): If any of the first three types just discussed have an element of con and second guessing in them. In contrast, a “Fresh Buyer” is actually logical and easy to understand. As a company makes positive progress, has bullish indicators, and is yet still undervalued, some corners of the vast institutional world with assets under management in the trillions of dollars will start to give E*Trade some recognition by becoming a new large shareholder. According to Bloomberg data based on SEC filings, as of the latest quarter, Citadel has bought the most and is the largest holder. After Citadel, the heaviest buyers were names such as D E Shaw, Bridgewater, Davis Selected Advisers, Barclays Global, Deutsche Bank, and Vanguard.
Which will it be? Conventional Shorts? Box Shorts? Analyst Upgrade(s)? Fresh Buyer(s)? Only time will tell.
Disclosure: Long ETFC