Readers of my columns know that one of the guiding principles of my trading is to follow short interest. In fact, one of my 10 Trading Commandments (No. 6, to be precise) is “Short sellers are usually a bull’s best friend.”
Why have I been so successful using short interest? It’s all about the “squeeze” that happens when a heavily shorted stock starts to rise.
That’s when short sellers are forced to “cover” their losing positions on a stock. This results in unusually strong buying volume that drives a stock price higher.
I filter the bi-weekly short interest data from the exchanges to identify stocks with unusually high short interest. What’s unusual? My Best in Breed (BIB) model searches for short-interest ratios (short interest divided by the average daily trading volume) above 6.0.
In addition, the model searches for increasing short interest, indicating that the shorts are adding to their bets against the stock.
Today, my BIB model told me that biotech is the most heavily shorted sector in the market right now. In fact, the SPDR S&P Biotech ETF (XBI) is the only ETF with a double-digit weighted component short interest ratio.
The current ratio of 10.7 is rare among ETFs, so I drilled down on the sector to look at individual stocks that are contributing to the elevated short interest.
While there are several stocks with high short interest, I filtered the results for those in a strong technical uptrend as defined by trading above their rising 50-day moving averages.
My models show that the odds of a stock moving higher double when the 50-day moving average is trending higher.
It’s this combination of high short interest (bearish sentiment) and bullish technical strength that creates a short squeeze situation and gives me the “best of the best” bullish stocks.
Running the filter produced two names that stood out, so let’s take a look at each one…
About the Author
Chris Johnson is a quant – he’s obsessed with building and perfecting mathematical models that allow him to predict, with startling accuracy, the direction of the markets, entire sectors, and individual securities. For the last year, he’s been researching and building a new system that lets him move swiftly in and out of the hottest stocks in the market for life-changing gains – entirely on his own terms. The results of his newly-minted Night Trader system are nothing short of amazing.
Chris also contributes to Money Morning as the Quant Analysis Specialist.