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Travelzoo ( TZOO) has been trading in another stratosphere, climbing from $30 to $71 since April on ever-increasing volume.

One of the key metrics we use when selecting stocks for our Stocks Under $10 service is the Alpha Factor. And since we launched in May, readers have frequently been asked why we need an Alpha Factor. This activity in Travelzoo offers a concrete example of the role Alpha Factor can have on stocks, and we wanted to take this opportunity to elucidate our approach to these Alpha stocks.

Let's take a quick look at Travelzoo's business. The company is the largest Internet publisher of sales and specials directly from travel companies, and is driven by advertising sales. It partners with the big airlines, online travel sites, hotels, cruise and car lines to bring consumers together with the company that can best meet its travel needs, and forecasts call for the company to earn roughly $5.3 million this year on sales of about $30 million.

Those numbers aren't spectacular, but they certainly aren't awful in a market in which the consumer is spending on travel and the Web is the most attractive place to shop for travel. Yet the market is treating this marginal travel player like it is the next Microsoft ( MSFT) or, dare we say, Taser ( TASR), valuing the stock at 255 times 2004 earnings estimates and 38 times sales. Yahoo! ( YHOO)), by contrast, a premier Internet player, is trading at 102 times earnings and only 18 times this year's sales estimates.

Enter Alpha

Is the middle man really that valuable? The shorts don't think so. And as they recite in concert that the "fundamentals are so out of line with the stock price," many traders are putting big money behind their belief that this is a home run short candidate, and more than 33% of the float is currently sold short. So the short story is just that -- a plain vanilla, logical call on valuation and sentiment. But the Alpha Factor tells us why this stock has been a supernova and has made it so that every day for the last two weeks we have turned on our terminals and said we would be buyers of the stock no matter where it opened.

First, Travelzoo has an almost infinitesimal float. There are 15.448 million shares of Travelzoo outstanding, but only 1.93 million of those shares are in the float (the other 87.5% of the company is controlled by Chairman, President, CEO and CFO Ralph Bartel). Yet the average day has seen 2.4 million shares trade. To put this in perspective, Sun Microsystems ( SUNW) has 3.34 billion shares outstanding and a float of 3.277 billion shares, and trades an average of 34 million shares per day.

Second, only one analyst on the Street is following this name (Brean Murray Securities, which has had a sell on the stock since July 1). That means every share of this stock is being traded back and forth every day with no sales force behind it. You can bet the brokers are looking for an angle to be able to start pushing this huge mover -- and commission generator -- to their clients. In addition, more than 33% of the float is short, so you have the juice for a further move higher when shorts decide to cover.

This is a supply/demand imbalance in a stock, not a trade on the fundamentals of the business. These are samples of the kinds of characteristics we seek out in our Alpha rating, which is 15% of the equation we look at when picking stocks for the Under $10 portfolio.

For the record, the causative agent that set this stock moving was the company's first quarter. Travelzoo crushed estimates and that, combined with the catalysts listed above and its move to the Nasdaq National Market from the Nasdaq Small-Cap Index, turned a near-penny stock into a billion-dollar company. And that triggered the very painful cycle of shorting and covering that has left those who claim stocks prices can only reflect the value of the underlying company battered and bruised.

Trading Alpha Stocks

So how do you know when to sell these stocks?

We spent some time looking at dozens of historical gainers like Travelzoo, including the aforementioned Taser and Iomega ( IOM). Alpha stocks tend to top out with an extreme volume spike that doesn't move the stock, but causes an increase in news coverage. This is a sign that the individual investor is now chasing the move, and the smart money steps back to sell it to them.

In April, Travelzoo shares were trading an average of about 25,000 shares a day. Yesterday, the stock changed hands more than 4 million times. That means the stock traded 160 times its April daily volume yesterday alone. While this may sound extreme, it's not when you compare it with stocks like Mace ( MACE) and the other security plays that rallied on terror fears earlier this year. And this stock has a smaller float than any of the other names we looked at for a comparison, meaning the stock will continue to go as long as the demand can stay high.

While we see no sign of this stock letting up yet, even with the volume spike, we are not suggesting anyone buy the stock. There's too much danger here, but that's why we gauge the Alpha Factor before we buy.
The TSC Investment Team is William Gabrielski and David Peltier.

Gabrielski is a research associate at TheStreet.com and is accredited with a Series 7 license. In keeping with TSC's editorial policy, he doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Gabrielski welcomes your feedback and invites you to send your comments to william.gabrielski@thestreet.com.

Interested in more writings from Gabrielski? Check out Stocks Under $10. For more information, click here.

Peltier is a research associate at TheStreet.com In keeping with TSC's editorial policy, he doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Peltier welcomes your feedback and invites you to send your comments to david.peltier@thestreet.com.

Interested in more writings from Peltier? Check out his newsletter, The Save Safe Plan. For more information, click here.