Trading the Trend - searching for cheap stocks that could bounce sharply

This week has been interesting to say the least. Fortunes have been made and fortunes have been lost as stock market participants continue to pit their wits against each other. In normal times, consensus agreement is relatively easy to reach, and volatility isn’t huge.

However, when nobody has a clue what is going on, then volatility is off the charts. It reminds me of the Joker’s quote in The Dark Knight: ‘a truckload of soldiers will be blown up, nobody panics, because it’s all “part of the plan”. But when I say one little old mayor will die, well then everyone loses their minds’.

This crash certainly wasn’t in anyone’s plans. Very few people were prepared, and it has wreaked destruction across pensions, ISAs, and leveraged spread bet accounts.

But life goes on, and the stock markets remain open for business. I’ve seen many wheel out the old ‘blood on the streets’ quote with a smiling picture of Warren Buffett. Whilst Warren Buffett wasn’t buying the AIM garbage that often accompanies said quote, it is a sentiment I agree with. Opportunity is around us. For those of us who are going to go the distance, it is indeed time to go to work.

There are many stocks that have been shorted all the way down, and it’s getting to the point where the percentage in profit is so high that it’s almost pointless holding for more. A stock that goes to 0p is paid out in full, but it often costs full margin in order to hold the position and takes months, if not over a year to be paid out. My short on Restaurant Group from around 75p, which Jack covered in yesterday’s Small Cap Value Report, was pretty much the same at 25p as it was at 30p.

I now think there are several opportunities for short squeezes. These are short and sharp moves upwards as stocks are bought by shorters covering their positions, and also traders who want to add more buying pressure knowing that there will be shorters closing.

Restaurant Group

This stock has fallen heavily, and at £117m market cap it is not yet priced to go bust. However, a 50% rice would only take this to around £180m, and so a rise is not unlikely.

The group expects to retain “a minimum of £75m of cash liquidity through the remainder of the 2020 financial year.” It also mentions that “in the event that the entire group is in shutdown for a period in excess of that assumed above, then the adverse impact of cash would be no more than £15m for each further month of shutdown”.

I take this to mean that the group can afford to remain in hibernation for at least five months. That’s quite a long time, and in reality I doubt we will be all locked down in nearly six months’ time after the summer. Who knows though? Not me!

Looking at the chart, RTN has had a steep fall. There could be a reversion to the mean long trade here. As of yesterday, there was only 2.3% of stock loaned out, but those are the ones that have disclosed. It’s worth a close eye.

Yesterday, we saw volume spike hugely, and the chart put in a spinning top candle. It’s showing a lot of indecision, but it also shows the fall has halted. This stock is highly volatile, and so I wouldn’t recommend piling in – but watch out for any upwards movement as motion creates emotion. A quick moving stock will see traders piling in and pushing the price higher.

William Hill (WMH)

Gambling stocks have also been hammered, due to the shutdown of big-ticket events. I have no idea whether this stock has been unfairly sold off – and it’s not my job to either. My job is to trade the price action, and this stock is looking ripe for a move.

It's not often you see well-known names moving like penny stocks, but it is fun (unless you’re on the wrong side of the move).

How’s this for a fall?

Does this chart look familiar? Green close, large volume, spinning top candle. This is another stock going on the watchlist for a bounce. Short positions are also not high here, though they have quadrupled in recent weeks. Source: Shorttracker.co.uk

Dart Group

Dart is an example of just how apocalyptic this crisis really is. A few weeks ago, it was a darling of the stock market, and a highly profitable business in an earnings upgrade cycle. But now, it faces the reality that it could go bust. Yesterday, the chief financial officer bought just over £60,000 of stock. It's not a meagre amount (though this is always relative to net worth), but it is surely a call option now on the equity being worth anything other than 0p.

Let’s refer back to the Warren Buffett quote: if now is such a good time to buy, then why aren’t we seeing big groups of directors greedily getting their wallets out and hoovering up stock?

There are two reasons for why this might be: 1) Directors are not great at timing the market and are falling for the human flaw of allowing emotional biases to creep into their personal financial decision making

2) They don’t believe the stock is a great buy at the current price

It is a director’s job to know the business and very few people should understand the business as well as them. If they’re not buying – I see no reason why anyone else should either.

Dart did put in a bounce yesterday, and it put in a red hammer candle. This isn’t as bullish as a green once, but again volume was high. Volume is important because it shows interest in the stock. I think there is potential for a long trade here – and a trade only. The company released a further Trading Update where it revealed it couldn’t quantify the effects of the crisis. Surely, anyone buying for an investment, is gambling that the effects won’t be as bad as priced into the market? There is money to be made doing that if you’re right, but unless you have a proven edge it is just a gamble. Go to William Hill instead – it’s cheaper. According to shorttracker, there are no positions disclosed here (they don’t track below 0.5%).

Two examples of short squeezes

Here are two examples of a proper short squeeze. Cineworld – which was already debt laden and looking sick before the crisis – is surely going to 0p. But that doesn’t mean you can’t take money out of it for a trade.

Cineworld rose 150%+ from the lows yesterday.

Another one was Elementis:

See the pattern in all of these? Increased volumes, and increased volatility.

As I posted on Twitter yesterday, I believe we are due a bounce. How high this bounce will go, and what will happen afterwards, are two questions I do not know the answers to, but stocks are beginning to slow their fall, and many have now fallen so much that by the time the warning comes they’re not moving a huge amount as it is already priced in.

I think we’re in for another few months of pains, as people are still thinking about buying stocks. When stocks are universally hated by everyone, and the charts are starting to make bottom bases, then maybe we might be able to see the bottom.

You can download Michael’s free trading handbook from his website at www.shiftingshares.co