Saturday School Homeroom: Why This Rally Isn't a Short Squeeze

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Is this a real rally or a short-covering rally? It's real, period. I'm reprising this piece from last March to remind you what a short-covering rally looks like.

* * * * *

Before I got in the business, I remember being completely mystified by the newspaper phrase "short-covering rally." All buying seemed like real buying to me, so what difference did it make whether it was buying to cover shorts or not?

Then one day, a few years after I had been trading for a while, I met an analyst who told me he felt the old

Noxell

(now owned by

P&G

) could disappoint in its current quarter.

As a young hedge fund operator I jumped at the chance to show my shorting colors. After all, hedge funds are supposed to be making bold stands against companies, and regularly try to profit from the shortfalls of others. Noxell, an expensive over-the-counter stock, seemed ripe for a whacking.

I relished the chance to earn my shorting stripes. After doing my homework I started shorting Noxell gingerly, 10,000 shares every half-point up, starting at about $50.

Two days later the stock was at $54, and I was short more than 80,000 shares.

I made more calls. Seemed that even Noxell was worried about how its low-end Clarion line was doing. Few analysts had conviction that Noxell was going to report anything robust.

I kept to my scale. The stock kept climbing. At $58 I was short more than 150,000 shares.

I stopped shaving with

Noxema

Medicated Comfort Shaving cream.

I remember brooding all weekend about how, in one week, I became the short-Noxell fund. Whenever it popped into my mind I could feel the flush coming over me, the perspiration bubbling up. What do I do, do I go long P&G to offset it? How about

Colgate

? How could I protect myself? Could I have been this wrong? This fast?

On Monday I figured Noxell would have to stop going up. I laid out 100,000 shares at $58 to try to bring my short average up.

On Tuesday the stock jumped to $60. I couldn't take it any more. I picked up the phone and began to call friends and acquaintances in the business and asked them whether they had heard anything about why Noxell kept going up day after day. I would always be candid and say, "Look, I am short the %^# thing and I am just looking for an explanation."

The next day the stock traded up to $63. I furiously began hitting trading wires, asking what was going on with Noxell. $64, then $65. Now I wasn't even bothering to put it out any longer. I was hung.

Finally, I broke down and got my then-fiancee, who was working at another firm, to make a call to someone at a major trading desk, someone she was friendly with from outside the office, someone who knew where the OTC bodies were buried -- heck, he had probably dug the graves. I told her I had a little short position in Noxell and wanted to know if I should cover because it kept going up.

The news I got chilled me. She said, and I will never forget these words as long as I live, "Some little hedge fund's been shorting the %@## out of it and now OTC guys are spreading word that P&G's going to bid $90 for it. He's got to capitulate. They're gonna put the little guy out of business or force him to cover. Get on board."

The little hedge fund guy was me.

Oh no, I thought. I am going to be put out of business. I frantically called a major trading desk and told them I had 250,000 Noxell to buy, now. With the stock at $64, I said I would pay up to $69 for it.

One hour later, battling a collective short squeeze of my own making, I took the biggest loss of my career.

Noxell 69, Cramer 0.

Like one of those lopsided NCAA gridiron contests.

Not long after, Noxell announced extremely disappointing earnings and broke to well below levels that would be considered a home run had I hung on.

Noxell later did go on to be bought by P&G, but Procter didn't end up paying much more than I paid for my stock, and that was years later.

* * * * *

Now you know what a short-covering rally looks like -- and it doesn't look like this.

James J. Cramer is manager of a hedge fund and co-chairman of TheStreet.com. At publication time his fund is long Procter & Gamble. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Mr. Cramer's writings provide insights into the dynamics of money management and are not a solicitation for transactions. While he cannot provide investment advice or recommendations, he welcomes your feedback, emailed to

Jjc@thestreet.com.