The latest short interest data for the period August 31, 2012, to September 14, 2012, was released recently. I always keep an eye on this data as it is an excellent way to find out the market sentiment on a particular stock.
Short interest is described as a percentage. Suppose a company has 10 million shares outstanding and 2 million shares have been shorted but not covered, the short interest on the stock is 20%. Another very important piece of data to keep an eye on is the short interest ratio or days to cover. This ratio is calculated by dividing the number of shares sold short with the average daily volume. With short interest ratio, you can find out how many days will it take for short sellers to cover their positions. The higher the number the more difficult it is for short sellers to cover their positions.
While short interest data provides a gauge of market sentiment on a particular stock, a very high percentage is something short sellers look to avoid. Short sellers make money when the price of a stock they have shorted falls, however, when price of a stock rises short sellers are forced to quickly close their positions by buying back the shares shorted. Now, if the short interest is not very high, short sellers can easily cover their positions. However, when a large percentage of outstanding shares of a particular stock have been shorted, short sellers will find it difficult to cover their positions. In such a case, the demand for the particular stock from short sellers looking to cover their positions will exceed supply, pushing prices even higher. This is where a very profitable but risky strategy, the short squeeze, comes in.
Traders using short the squeeze strategy look for stocks that have been heavily shorted and have a very high short interest ratio (generally over 8). So how do traders squeeze profit from this strategy? Let's just run through an example.
Suppose a particular stock has a short interest of 20% (generally considered high by short sellers) and short interest ratio of 8. Now if a trader expects price of this heavily shorted stock to rise (contrary to what short sellers are thinking) he will buy the stock. The short squeezer is anticipating a price rise probably because he expects some positive news or development related to the company to be released in the future. Let's say the stock in the above example is in the biotechnology sector and has heavily shorted ahead of a FDA review. Short sellers obviously think that the review will be negative and will drive down prices. However, the short squeezer is betting on a positive review. If the short squeezer is right, he could make a huge profit. Suppose the FDA gives a positive review, the stock would rise, forcing short sellers to cover their positions. However, since the stock has been heavily shorted, the demand would soon exceed supply. This is where the short squeezer would come into to sell.
Remember short sellers are most likely going to be astute investors so in most cases when they short a stock they are likely to be right. However, a stock with very high short interest and short interest ratio is something short sellers would avoid even if they are convinced that the fundamentals of the stock are weak. Therefore, keeping an eye on short and short interest data can help in determining candidates for short squeeze.
So now that we are through the basics, let us go through the latest short interest data and see if there are any candidates for short squeeze.
Pitney Bowes (PBI)
According to latest data, short interest fell 0.7% in Pitney Bowes between August 31 and September 14. Despite the marginal drop, short interest as of September 14 was 27.9% of the company's total float. This is the type of percentage short sellers don't like. Short interest ratio or days to cover as of September 14 was 20. Technically, PBI is an excellent candidate for short squeeze. However, it is important to look at the company's fundamentals to see if there are any positive surprises likely in the future that could push the stock price higher.
PBI is a provider of software, hardware and services to enable physical and digital communications. Last month, PBI reported its second-quarter financial results, posting a 5% drop in revenue. The drop in revenue was mainly due to weak performance of the Small and Medium Business (SMB) Solutions segment at PBI. Revenue in the SMB segment continued to decline in the second quarter. However, PBI's Enterprise Business Solutions segment has been doing well. In fact, the company is looking to focus more on Enterprise Business segment. However, PBI's results have been impacted by the weakness in Europe. With the outlook for Europe gloomy, it is no surprise short sellers are betting against PBI.
However, there is a very interesting thing with PBI, heavy insider buying. Insiders generally buy when they are bullish on their company's prospects. Insiders at PBI are likely expecting a shift towards enterprise to boost results going forward.
PBI also has a very high dividend yield (10.85%). In addition, the company has been increasing its dividend payout on a regular basis, albeit not by significant amounts.
So is PBI is a short squeeze candidate?
In terms of valuation, PBI looks attractive, but the company is seeing some weakness in its business and a turnaround is not likely anytime soon. However, the company may throw some positive surprises as it shifts towards enterprise business. Given, the high short interest and short interest ratio, I think PBI is an excellent short squeeze candidate right now.
Advanced Micro Devices Inc. (AMD)
AMD's short interest rose sharply yet again. Between August 31, 2012, and September 14, 2012, short interest in AMD rose 9.5% to 20.2% of the company's total float. Although short interest in AMD is quite high right now, the short interest ratio as of September 14 was 4. Given the gloomy outlook for the PC market, I don't expect any positive surprises from AMD in the near-term. So, although short interest is quite high, AMD is a risky short squeeze candidate.
AK Steel Holding Corporation (AKS)
The outlook for the steel industry is negative, given the weakness in the global economy. Earlier this month, AK Steel said that it expects to post a loss of between $0.60 per share and $0.65 per share in its third quarter. No surprise then that short interest in AKS rose 6.8% to 32.4% of the company's total float between August 31, 2012 and September 14, 2012. The short interest in AKS is very high. However, the short interest ratio as of September 14 was only 3. Even if there are any positive surprises (additional monetary stimulus from China), there is plenty of room for short sellers to cover their positions.