5 Heavily Shorted Stocks Set to Soar on Bullish Earnings

DELAFIELD, Wis. (Stockpickr) -- Short-sellers hate being caught short a stock that reports a blowout quarter. When this happens, we often see a tradable short squeeze develop as the bears rush to cover their positions to avoid big losses. Even the best short-sellers know that it's never a great idea to stay short once a bullish earnings report sparks a big short-covering rally.

This is why I scan the market for heavily shorted stocks that are about to report earnings. You only need to find a few of these stocks in a year to help enhance your portfolio returns -- the gains become so outsized in such a short time frame that your profits add up quickly.

That said, let's not forget that stocks are heavily shorted for a reason, so you have to use trading discipline and sound money management when playing earnings short-squeeze candidates. It's important that you don't go betting the farm on these plays and that you manage your risk accordingly. Sometimes the best play is to wait for the stock to break out following the report before you jump in to profit off a short squeeze. This way, you're letting the trend emerge after the market has digested all of the news.

Of course, sometimes the stock is going to be in such high demand that you risk missing a lot of the move by waiting. That's why it can be worth betting prior to the report -- but only if the stock is acting technically very bullish and you have a very strong conviction that it is going to rip higher. Just remember that even when you have that conviction and have done your due diligence, the stock can still get hammered if Wall Street doesn't like the numbers or guidance.

If you do decide to bet ahead of a quarter, then you might want to use options to limit your capital exposure. Heavily shorted stocks are usually the names that make the biggest post-earnings moves and have the most volatility. I personally prefer to wait until all the earnings-related news is out for a heavily shorted stock and then jump in and trade the prevailing trend.

With that in mind, let's take a look at several stocks that could experience big short squeezes when they report earnings this week.

Zayo Group

My first earnings short-squeeze trading opportunity is bandwidth infrastructure solutions and communications provider Zayo Group  (ZAYO), which is set to release numbers on Wednesday before the market open. Wall Street analysts, on average, expect Zayo Group to report revenue of $335.20 million on earnings of 1 cent per share.

The current short interest as a percentage of the float for Zayo Group is notable at 4.2%. That means that out of the 69.26 million shares in the tradable float, 2.95 million shares are sold short by the bears. This isn't a huge short interest, but it's more than enough to spark a decent short-covering rally post-earnings if the bulls get the earnings news they're looking for.

From a technical perspective, ZAYO is currently trending above both its 50-day moving average, which is bullish. This stock has been consolidating and trending sideways over the last two months, with shares moving between $25.57 on the downside and $28.75 on the upside. Any high-volume move above the upper-end of its recent sideways trending chart pattern post-earnings could trigger a big breakout trade for shares of ZAYO.

If you're bullish on ZAYO, then I would wait until after its report and look for long-biased trades if this stock manages to break out above some near-term overhead resistance levels at $28.16 to $28.75 a share with high volume. Look for volume on that move that registers near or above its three-month average action of 630,238 shares. If that breakout develops post-earnings, then shares of ZAYO will set up to re-test or possibly take out its next major overhead resistance levels at $30.94 to its all-time high at $32.18 a share. Any high-volume move above $32.18 will then give ZAYO a chance to trend towards $35 a share.

I would simply avoid ZAYO or look for short-biased trades if after earnings it fails to trigger that breakout and then drops back below some key near-term support levels at $27 to $26.20 a share and then below $25.57 a share with high volume. If we get that move, then ZAYO will set up to re-test or possibly take out its next major support levels at $23 to $22.62 a share.

El Pollo Loco

Another potential earnings short-squeeze play is quick-service restaurants player El Pollo Loco  (LOCO), which is set to release its numbers on Thursday after the market close. Wall Street analysts, on average, expect El Pollo Loco to report revenue $88.49 million on earnings of 17 cents per share.

The current short interest as a percentage of the float for El Pollo Loco is extremely high at 31%. That means that out of the 13.45 million shares in the tradable float, 4.17 million shares are sold short by the bears. This is a large short interest on a stock with a very small tradable float. Any bullish earnings news could easily set off a monster short-squeeze for shares of LOCO post-earnings.

From a technical perspective, LOCO is currently trending above its 50-day moving average, which is bullish. On Monday, this stock spiked sharply to the upside right above its 50-day moving average of $26.43 a share. That spike is now starting to push shares of LOCO within range of triggering a major breakout trade post-earnings above some key overhead resistance levels.

If you're in the bull camp on LOCO, then I would wait until after its report and look for long-biased trades if this stock manages to break out above some key overhead resistance levels at $29 to $30.28 a share with high volume. Look for volume on that move that hits near or above its three-month average volume of 998,986 shares. If that breakout gets set off post-earnings, then LOCO will set up to re-test or possibly take out its next major overhead resistance levels $36 to $39 a share.

I would simply avoid LOCO or look for short-biased trades if after earnings it fails to trigger that breakout and then drops back below some key near-term support levels at $25.60 to $24.72 a share with high volume. If we get that move, then LOCO will set up to re-test or possibly take out its next major support levels at $23.34 to $22.51 a share, or even $20 a share.

Hortonworks

Another potential earnings short-squeeze candidate is enterprise software player Hortonworks  (HDP), which is set to release numbers on Tuesday after the market close. Wall Street analysts, on average, expect Hortonworks to report revenue of $18.22 million on a loss of 86 cents per share.

The current short interest as a percentage of the float for Hortonworks is extremely high at 25.7%. That means that out of the 18.58 million shares in the tradable float, 4.79 million shares are sold short by the bears. This is another high short-interest and low-float situation stock. If this company can deliver the earnings news the bulls are looking for, then shares of HDP could easily explode sharply higher post-earnings as the bears are forced to cover some of their positions.

From a technical perspective, HDP is currently trending below its 50-day moving average, which is bearish. This stock recently formed a double bottom chart pattern at $19.60 to $19.50 a share. Following that bottom, shares of HDP have started to spike modestly higher and it's beginning to trend within range of triggering a major breakout trade post-earnings above some key overhead resistance levels.

If you're bullish on HDP, then I would wait until after its report and look for long-biased trades if this stock manages to break out above its 50-day moving average of $21.98 a share and then above some more near-term overhead resistance levels at $22.36 to $23.78 a share with high volume. Look for volume on that move that registers near or above its three-month average action of 344,644 shares. If that breakout materializes post-earnings, then HDP will set up to re-test or possibly take out its next major overhead resistance levels at $24.91 to $25.31 a share. Any high-volume move above those levels will then give HDP a chance to make a run at its all-time high of $29.83 a share.

I would avoid HDP or look for short-biased trades if after earnings it fails to trigger that breakout and then drops back below some key near-term support levels at $20 to its 52-week low of $19.50 a share with high volume. If we get that move, then HDP will set up to enter new 52-week-low territory, which is bearish technical price action. Some possible downside targets off that move are $17 to $16 a share.

J.C. Penney

Another earnings short-squeeze prospect is department stores player J.C. Penney  (JCP), which is set to release numbers on Wednesday after the market close. Wall Street analysts, on average, expect J.C. Penney to report revenue of $2.86 billion on a loss of 76 cents per share.

The current short interest as a percentage of the float for J.C. Penney is extremely high at 32%. That means that out of 291.78 million shares in the tradable float, 93.47 million shares are sold short by the bear. If this company can deliver the earnings news the bulls are looking for, then shares of JCP could easily soar sharply to the upside as the bears scramble to cover some of their trades.

From a technical perspective, JCP is currently trending above both its 50-day and 200-day moving averages, which is bullish. This stock has been uptrending a bit over the last few weeks, with shares moving higher from its low of $8.02 to its intraday high on Monday of $8.94 a share. During that uptrend, shares of JCP have been making mostly higher lows and higher highs, which is bullish technical price action. That move has now started to push shares of JCP within range of triggering a big breakout trade post-earnings.

If you're bullish on JCP, then I would wait until after its report and look for long-biased trades if this stock manages to break out above near-term overhead resistance levels at $9.20 to $9.50 a share with high volume. Look for volume on that move that hits near or above its three-month average volume of 12.49 million shares. If that breakout develops post-earnings, then JCP will set up to re-test or possibly take out its next major overhead resistance levels at $10.20 to its 52-week high of $11.30 a share.

I would simply avoid JCP or look for short-biased trades if after earnings it fails to trigger that breakout and then drops back below its 50-day moving average of $8.28 a share to more near-term support at $8.02 a share with high volume. If we get that move, then JCP will set up to re-test or possibly take out its next major support levels at $7.57 to $7.24 a share, or even $7 to $6.77 a share.

Arista Networks

My final earnings short-squeeze trading opportunity is cloud networking solutions provider Arista Networks  (ANET), which is set to release numbers on Thursday after the market close. Wall Street analysts, on average, expect Arista Networks to report revenue of $170.03 million on earnings of 37 cents per share.

The current short interest as a percentage of the float for Arista Networks is pretty high at 12.4%. That means that out of the 35.69 million shares in the tradable float, 4.44 million shares are sold short by the bears. The bears have also been increasing their bets from the last reporting period by 5.1%, or by about 216,000 shares. If the bears get caught pressing their bets into a strong quarter, then shares of ANET could easily jump sharply higher as the bears rush to cover some of their positions.

From a technical perspective, ANET is currently trending just above its 50-day moving average and below its 200-day moving average, which is neutral trendwise. This stock has recently formed a double bottom chart pattern at $63.65 and at $63.16 a share. Following that bottom, shares of ANET have started to trend higher with the stock now challenging its 50-day moving average of $67.55 a share. That move has now pushed shares of ANET within range of triggering a big breakout trade post-earnings above some near-term overhead resistance levels.

If you're in the bull camp on ANET, then I would wait until after its report and look for long-biased trades if this stock manages to break out above some near-term overhead resistance levels at $69.46 to $70.65 a share and then above its 200-day moving average of $71.64 a share with high volume. Look for volume on that move that registers near or above its three-month average action of 692,214 shares. If that breakout triggers post-earnings, then ANET will set up to re-test or possibly take out its next major overhead resistance levels at $74.52 to $80 a share, or even $85 to $90 a share.

I would avoid ANET or look for short-biased trades if after earnings it fails to trigger that breakout, and then drops back below some key near-term support levels at around $65 to $63.16 a share with high volume. If we get that move, then ANET will set up to re-test or possibly take out its next major support levels at $56.11 to its 52-week low of $55 a share.

This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.

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