What’s the first thing that comes to mind when you hear the term short squeeze?
You probably thought GameStop.
Almost everybody does.
I did some subliminal suggestion there, and maybe not even subliminal.
But here’s what everyone gets wrong about that trade. Reddit did not cause the GameStop short squeeze.
GameStop was already squeezing. Mechanically. Traders were getting pulled out of that stock before anybody posted anything.
One smart trader saw the mechanics, went to Reddit, and figured out he could get a crowd behind something that was already in motion.
Reddit made it blow higher but it didn’t start it.
GameStop was a once-a-decade event.
The thing that caused it shows up one or two times a week, on names few are watching, and even less to see it coming.
That changes for you right now.
Somebody borrows shares and sells them. That’s a short.
Unlike almost every other position you can put on, there’s no floor under the loss. If the stock goes to $8 they owe $8, and if it runs to $20 they owe $20.
So when it starts moving, the broker doesn’t call and ask how they feel about the fundamentals.
They are FORCED to cover.
They pay whatever the offer happens to be, because that offer is the only thing standing between them and getting blown out.
Nobody in that flow is buying because they want to.
Then the call buyers show up and light it on fire.
Traders see the stock moving and pile into calls, usually short-dated and way out of the money. Somebody has to sell them those calls, and the market maker who does is now short a pile of upside he has to hedge.
So he buys stock. Price ticks higher, his exposure grows, he buys more.
And every strike the stock runs through, a whole new batch of calls comes alive and the guy who sold those has to start buying too.
Again, it has nothing to do with being bullish.
He’s covering his own book, and he has to do it on the way up.
Two forced buyers in a stock that only has so many shares to go around.
Which is GameStop.
Short interest there was over 100% of the float. More shares sold short than existed. And in the first week of that January, calls were 66.6% of the entire option volume in the name.
Stock was $20 on January 4th and hit $483 intraday on the 28th.
Retail was buying $40 and $50 and $60 strikes with the stock at $20, and as it ran through each one, another wall of dealer hedging kicked in behind it.
Reddit got the credit. The mechanics did the work.
Now, why do I only work in cheap stocks?
Look at Bausch Health. This company has about $19.9 billion in long-term debt, negative shareholder equity, and patent litigation hanging over it. That’s why people were short it, and it wasn’t a crazy position to take.
July 30th they report. Earnings beat, revenue beat, and they raised the year.
Stock goes from under $5 to over $7 in two days. Up 26% in a single session. Call buyers were up triple-digit returns.
Again, all mechanical.
The debt is still there. So is the negative equity, and so is the lawsuit.
Nothing about that company got fixed. Earnings just weren’t as bad as the shorts needed them to be, and that was enough to make them buy.
A $4 stock can make a $3 move a lot easier than a $40 stock can go to $70. Moderna actually more than doubled today, but they basically had to cure cancer to do it.
That’s why I stick to low priced stocks because you see those squeezes more frequently.
Take Lucid as another example.
I’ve seen one of them in Austin, which tells you something, and I do not believe that company is going to be around in five years. The Street agrees with me. It’s one of the most heavily shorted names out there.
July 7th it was trading $7. By July 13th the shorts had hammered it below $2.50.
Then they got greedy. They didn’t take the profit, they pressed.
News comes out that the Saudis are investing. Shorts run for cover, and the stock goes from as low as $2 to as high as $8.50 inside a week.
300% in seven days on a company I just told you I think is dead in five years.
A squeeze is mechanical.
It’s the scale tipping, and it pays exactly the same whether the business ever recovers or not.
That story gets told after the fact, which does you no good at all.
So here’s one we caught in front of the move.
Western Union, August 4th. A $6.60 stock, sitting there, nobody paying attention.
At 12:02 in the afternoon I issued an alert to buy the August 21st $7 calls for 25 cents or less.
25 minutes later the second alert went out. Sell most of them at 55 cents or better, let a couple ride, this may keep going.
It kept going. The stock ran to $7.36 that day and the room was in it the whole way.
76 cents is nothing on a $30 stock, and on a $6.60 stock it’s the entire trade.
That one moved faster than I expected and most of them take two to five days. We were in it at noon either way.
So what did the engine see at 12:02?
4 things have to trigger before I go hunting.
One or two of them show up on plenty of stocks and mean nothing at all. When all 4 hit the same name in the same week, that’s when we move.
Tomorrow I walk you through every one of them, plus this week’s watchlist and when to use stock instead of options. Voz will be on with me.
Same place, 10:30 Eastern, and it’s free.
Your only option,
Mark Sebastian