- Short interest in AMD has spiked sharply going into this earnings season.
- 'Days to cover' is at near 52 week lows, limiting the risk from short covering in the event of a surprise.
- Great time to short AMD? Probably not. Here's why.
Sunnyvale, California-based AMD (NASDAQ:AMD) is due to report its Q3 number this Thursday, 20 October 2016. AMD shares have seen a sharp rise in short interest for two fortnights in a row now, and the stock is one of the most shorted stocks on the NASDAQ. As it turns out, average trading volumes have also risen sharply, bringing down 'days to cover' to near 52 week lows, reducing the risk from short covering. Sounds like a great time to short AMD stock? Probably, but here's why you shouldn't short AMD stock right now.
AMD Short Interest Surges Ahead Of Q3 Earnings
Shares of AMD have had a dream run in the last twelve months, piling on gains of over 244%. Not surprisingly, AMD’s stellar run seems to have caught the attention of the skeptics. Based on the latest available short interest data as of September end (released on 11 October), short interest in AMD has surged going into this earnings season. Short interest in AMD has now risen for the second quarter on the trot, after hitting a trough at the end of August this year.
Short interest has spiked to ~93.4 million shares or 14.4% of float, up from 80.6 million shares or 12.4% of float as of the previous fortnight. Short interest is up by nearly 16%, higher than the 14% rise in the preceding fortnight, after bottoming out for the year at the end of August, both in terms of the number of shares shorted (70.8 million shares) and short interest as a percentage of float (~10.9%).
Don't Bet On A Short Squeeze
Despite the surge in short interest since then, ‘days to cover’, which is the time needed to cover short positions, hasn’t risen commensurately, because average trading volumes have spiked lately. Traders will now need less time to cover their short positions, than they would have earlier in the year. The average trading volume for the fortnight ended 30 September, stood at ~46.9 million shares, up from ~43.4 million shares as of mid-September, and ~26.4 million shares as of August end. Due to the sharp rise in average trading volumes, ‘days to cover’ now stands at just under 2 days. That’s the lowest it’s been at in last one year, with the exception of the immediately preceding fortnight, when ‘days to cover’ stood at ~1.86 days.
Why does this matter? The less time it takes traders to cover their short positions, the lower the chances of a short squeeze. So, in the event that AMD's Q3 numbers do surprise the street, short covering won’t push up the stock price as much as it could have earlier in the year. So, for somebody who plans to short the AMD stock, the risk from short covering is at near 52 week lows.
Just to put things into perspective, AMD beat analyst estimates in its latest two quarters. And ‘days to cover’ on both occasions was significantly higher, at ~8.6 days in mid April, and ~2.6 days in mid July. Now let's look at the earnings reaction on day 1 following the two earnings announcements. AMD shares gained by a massive 52% on 22 April, and a sizeable 12% on 22 July. And it's safe to assume that some of these massive gains were driven, at least in-part, by a short squeeze.
Since day 1 data makes it appear as if the reaction was relatively tepid in July, it's worth noting that if you go beyond 22 July, AMD shares actually extended gains over the next couple of days, recording cumulative gains of ~34% in the three days following AMD's Q2 earnings release.
Great Time To Short AMD Stock? Probably Not
Though ‘days to cover’ is significantly lower going into this earnings season, shorting AMD right now might not be such a great idea.
For starters, AMD has beaten its own guidance quarter after quarter, for the last four quarters, over-delivering by an average 4%. For Q3, AMD expects to deliver 18% sequential growth, or revenue of $1.21 billion, at the midpoint of its guidance. Given that analyst estimates are also pegged at $1.21 billion, a beat won't come as a surprise.
What's more, AMD shares are still down by nearly 16% since September 6th, when the company announced its intention to raise equity and debt funding to restructure its long term debt. AMD shares subsequently fell from $8 a share to about $5.7 a piece, almost fully factoring in the risk of equity dilution. The stock hasn't recovered fully from that correction, and investors will likely use an earnings surprise as an opportunity to enter the stock.
AMD has consistently managed to claw back some of its lost share of the PC add-in-board GPU market from NVIDIA (NASDAQ:NVDA). And while market share estimates for Q3 aren't available yet, what we do know is that PC sales during Q3 were better than expected. Quoting from a VentureBeat report:
"IDC, meanwhile, found this quarter’s results to be better than expected. The firm’s outlook is rosier, pointing to PC vendors rebuilding inventory for the second half of the year and being more willing to compete aggressively."
Irrespective of the market share shift that's occurred in Q3, the point is that there's more demand than was anticipated. And it's likely that at least some of that demand has come AMD's way. When you put all of these factors together, this is not the kind of setup you want to bet against. More so, AMD has momentum on its side, after the recent announcement of its deal with Alibaba (NYSE:BABA), which will see the with Chinese e-commerce giant use AMD’s GPU’s in its global data centers. Following the deal, AMD shares rose sharply, gaining over 4% on unusually strong volumes of well over 66 million shares. That’s probably some short covering right there.
Also Read: Why AMD Inc Stock Has Bottomed Out For Now
Summing It Up
While this might come across as a great time to short AMD shares, given how the dynamics are shaping up, it's probably not such a great idea. Based on the factors we've discussed, AMD looks poised to beat earnings. That said, AMD still hasn't recorded positive free cash flows this year, something it aims to do in the coming quarters. Until that happens, and AMD manages some to register some profits, the stock might not be suitable for conservative investors. For now though, investors might be better off not betting against the stock either.
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