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Adam Mesh: Short Squeeze Will Save Stocks

By Adam Mesh   |   Thursday, 05 Mar 2009 11:45 AM

At the end of the day, the ONE thing that will cause the downfall of Wall Street will be the same thing that puts the Stock Market back on its feet.

GREED.

People became greedy and things became undone.

Right now, the best way for people to make money is betting against the market.

Eventually they will bet too heavily in that direction (GREED) and that will bring the market back up.

In fact, the bears will be leaning so far in one direction — trying to drive the stocks to zero — that there will be inevitable move in the other direction.

There will be a Short Squeeze.

Short Squeeze: "A rapid increase in the price of a stock that occurs when there is a lack of supply and an excess of demand for the stock. Short squeezes result when short sellers cover their positions on a stock. This can occur if the price has risen to a point where they simply decide to cut their losses and get out. Since covering their positions involves buying shares, the short squeeze causes an even further rise in the stock’s price, which in turn may trigger additional covering. ... Short squeezes are more likely to occur in stocks with small market capitalization and small floats, although can involve large stocks and billions of dollars." (Wikipedia)

In October of last year, Volkswagen (VOW.F) had the craziest short squeeze ever. The stock rose 800 points or 500% in two days.

For a time, it was the most valuable company in the world.

A short squeeze can be very powerful and move as if it's a tornado — lifting everything in its path.

I first saw the sheer force of a short squeeze in 1998.

The stock was KTEL.

I was a relatively new trader and watched in disbelief as KTEL surged from three dollars to forty dollars in a day.

It was at that point that I asked the question that a trader should never ask, "How much higher can it go?"

I began to sell it short (believing it would go down).

At forty five I sold more and was overwhelmed with the speed at which it was moving.

When it hit forty-nine I was down significantly and the head trader came over to my desk.

He said in a very calm voice, "If that stock hits fifty and you are not out of that position, you are fired."

I was out by fifty and it ended up being a very good thing — the stock went to eighty the next day.

We went out for drinks that night and the head trainer had me take a drink for every thousand I lost.

Let's just say — I learned the hard way what a short squeeze was.

The next time it happens — and it will happen — I will be on the right side of the trade.

I'll be riding the short squeeze tornado the same way a surfer rides a once-in-a-lifetime wave.

The key will be to identify when it is happening, what stocks it is happening in, and to take advantage of the opportunities.

Here are the three main reasons I believe a short squeeze is coming:

#1. There's a lot of arbitrage happening in the stock market right now. Funds and banks are selling the common stock of companies (what you trade) and buying the preferred stock. The preferred stocks have been severely beaten and they are considered safer because they pay dividends, and if the companies stop paying the dividends on the preferred they lose their ability to raise money. Citigroup has stopped paying the dividends on the preferred. They were running out of money — hence the huge government bailout.

However, there is lower-tier preferred stock and people can buy that and sell the common shares, which they have been doing. That's why the stock is at $1. At some point, the price of the common shares for many stocks (not saying Citigroup, saying others) will get so low that people begin to buy them up. The price will rise and then more people will buy them and then the people who are long the preferred will realize the dividend they are getting does not come close to covering the amount they are losing on the common they are short. Then the stocks will really shoot up.

#2. Everyone blames the downfall of the market on the subprime mortgage crisis. That began around 2003 and began to peak in 2005-2006. In July of 2003, the Dow was at 9,200. The Dow is now right around 6,700. That's a 27 percent drop from pre-subprime level. At this point, panic and emotion are dictating what happens in the market. The end result of that scenario is a stock market rally.

#3. I'm calling it a short squeeze because it's different than a rally. A rally would mean stocks were going up because their value was going up. I don't think that will be the case. So many institutions have been hit so hard — so fast — that it will take a long time for stable growth to continue. The rally will happen because stocks are oversold and the bears are over-exposed. This means that even if we rise up with the strength of a tornado, we can come back down — the end result of all short squeezes.

If we were just basing decisions on reasons #1 and #2, the decision would be simple: Buy stocks and hold them for the next twenty years.

Besides the fact that I hate buying and holding stock, #3 is why we can't do that.

To take advantage of the upcoming moves in the stock market, we will need to ride the waves up and then bail before they have a chance to bring us back down.

Then we'll do it again.

Read 1, 2 and 3 again.

If they all make sense to you, you should be left with one question: "How do I take advantage of #3?"

The answer: EXECUTION and DISCIPLINE

Get ahead of the crowd and start taking advantage of the stock market in the way that only a trained eye can.

Let's do this!

Adam Mesh

P.S. Get Ready Now Because There Is A Storm Coming

Adam Mesh

CEO and President, Adam Mesh Trading

www.adammesh.com

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At the end of the day, the ONE thing that will cause the downfall of Wall Street will be the same thing that puts the Stock Market back on its feet.GREED.People became greedy and things became undone.Right now, the best way for people to make money is betting against the...
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