New strategy for short covering squeeze

A few years ago, you could have borrowed shares from your broker without incurring any fees.  However, that has changed.  In the current low interest rate environment, brokerage firms are earning less interest income from their client's idle cash.  They had to turn elsewhere to make up for the revenue shortfall.  They found it with a new business model for lending stocks.  They are now charging their clients interest rate fees to borrow stocks for shorting.

You can take advantage of this new structural change by using this short covering squeeze strategy.  Brokerage firms are charging their clients interest rate payments for borrowing stocks.  There is no regulation for this practice and it can lead to abuses.  This is an opaque segment of the brokerage industry and very few newspaper reporters are aware of this practice.  So it is not widely known to the general public and you can use this to your advantage.  Here are the salient points of this brokerage industry practice:

  1. There is no cap on the interest rate.  There is no usury regulation here. They can charge you extremely high interest rate.  Rates that even make local loan sharks envious.
  2. You do not know the actual interest rate before you borrow the stocks.  The brokerage firms determine the interest rate after you borrow the shares.  The interest rate is then charged against you retroactively.
  3. They can raise the interest rate any time without prior notice.  It becomes effectively immediate retroactively.

Trading Insight:

By using the three structural themes above, you can spot stocks that are ripe for short squeeze.

First, you want to scan for charts where the stocks have been moving up and are stalling just below its resistance level.  When traders see this, they will be tempted to short the stock.  Make note of the interest rate that it will cost to borrow the stocks.  Some brokers will provide you with a daily estimated cost for borrowing stocks.  When you see a sudden jump in the interest rate in borrowing those stocks and the stock gaps up to trade above the its previous resistance level, you have a short squeeze in progress.

This is your signal to be buying the stocks.  The short squeeze usually last from 2 to 3 days.  It will take a couple of days for the traders who are stuck short to realize that they cannot hold onto their short position.  They will get sticker shock when they see the outrageous interest rate charges for borrowing the stocks.

Here are some examples of Outrageous Interest Rate costs for borrowing stocks:

Ticker Description Interest Rate
STSA Sterling Financial Corp-WA 114.59%
CPF Central Pacific Financial Corp 108.45%
FTBK Frontier Financial Corp 106.91%
CTBK City Bank-Lynnwood WA 105.49%
IFLG InfoLogix Inc 105.39%
ZN Zion Oil & Gas Inc 99.41%
HMPR Hampton Roads Bankshares Inc 96.72%
WPC WP Carey & Co LLC 86.22%
MIPI Molecular Insight Pharmaceuticals Inc 83.61%
TSTC Telestone Technologies Corp 80.99%
ABK Ambac Financial Group Inc 80.68%

What this means is that if you had shorted Ambac Financial Group Inc ( Ticker Symbol: ABK ), the stock price must fall by more than 80.68% before you can make a profit.  The sweet spot is when the stock initially cost 5% to borrow and then the interest rate jumps overnight to 25%.  After a couple days, the interest rate jumps again to 50%.  The shorts sellers will be capitulating to cover their short positions.  You want to get ahead of that and have available inventory to sell back to the short sellers during the short covering rally.

Keep in mind when you buy these stocks, you are playing a temporary short covering rally.  Do not fall into a mindset that you want to own these stocks for the long term.  Don't hold onto these stocks.  These stock are usually bad stocks with bad fundamentals and technicals.

You are relying on the abusive practices of the stock lending industry to present profitable trading opportunities.  You are aligning your interest to participate in a short covering squeeze with their interest to charge high fees for lending stocks.  There is no check and balances in this closed stock lending ecosystem.  The retail stock owners are not getting the high interest rate income on lending their stocks out.  In most cases, they don't receive any interest income at all.  There are no real supply and demand forces working here.  Retail stock owners would love to get double digits 50% interest rate returns versus the 0.75% interest rate they get at a bank.  They would buy any stock yielding over 100% interest rate and lend it out.  Unfortunately, the stock lending business is a closed ecosystem and it is not open to public participation.  You are relying on the abusive policy of charging high interest rate to force short sellers to buy the stocks back.



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