The Short Sellers Are Set to Hand Us Another Two Big Winners

One of my favorite technical tools is the 50-day moving average.

I look at it as an area of support and resistance, and I use its slope as an indication of where a stock is headed.

I also like to look at breakouts above the 50-day as a bullish indicator, as the 50-day typically demonstrates underlying strength that has some staying power and will likely continue at least in the short run.

This morning, I ran a scan for these breakout stocks and came up with a list of big profit opportunities, which I'm going to show you in a mintute.

While this indicator alone is usually sufficient for a bullish play, I naturally like to confirm a stock's profit potential by looking at short interest.

It's an extremely powerful, very accurate technical indicator, and when it serves to confirm a breakout above the 50-day moving average...

...that's when you know you've got the potential for high-profit bottled lightning on your hands...

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Breakout Stocks

To recap, high short interest tends to unwind when a stock rises, as the short players need to cover their positions. That can lead to an accelerated ascent, known as a short squeeze, because covering adds buying pressure to the stock.

So I further filtered the list you see at left here to find names that have - you guessed it - higher short interest.

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Here are two that I think you'll find very rewarding if you play the long side.

The first is Wisconsin-based Snap-On Inc. (NYSE: SNA), which manufactures and markets hand and power tools, as well as tool storage products for the professional market.

You've probably seen the red-and-white Snap-On trucks rolling through your neighborhood.

Snap-On has had a rough time so far in 2018. After hitting an all-time high in mid-January, the stock plummeted by nearly 24% before bottoming early in May. Since May 2, however, the stock has rallied nearly 6% to overtake that 50-day moving average I mentioned.

That's important, because the last time the stock rebounded to break above the 50-day (in September 2017, circled in chart below), the shares were just getting started on a 31% rally that lasted almost five months.

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What's more, short interest on SNA is strong, as one would expect given the stock's recent troubles. The number of shares short divided by the float - known as the short interest ratio - is around 7.4.

I consider any stock with a ratio reading above 6.0 as a candidate for a short squeeze.

Combining the recent technical strength with the short-squeeze potential, I've added SNA shares to my bullish watch list.

Short Selling

Next up on my list is grocery titan Kroger Co. (NYSE: KR). Like Snap-On, Kroger has struggled in 2018, dropping around 10% from the 2017 close. The stock underperformed during the broad market pullback that began in late January, plunging 27% compared to the S&P 500's 12% drop.

The stock has been grinding higher since its early March low, including a brief pop above and quick reverse below its 50-day moving average in April. Now the stock has logged three straight closes above this trendline.

What I like most about Kroger's chart, however, is that the shares are now trading above the 20-day and 200-day moving averages, which, along with the 50-day, are all bunched between the 24 and 24.50 levels. Trading above this congestion should clear the way for further upside.

Short interest on Kroger is on the rise. In fact, the current short interest ratio reading of 7.0 is the highest it's been in more than a year.

With the shorts betting heavily against the stock, continuing upward momentum will likely have the shorts covering their losing bets and adding buying pressure.

I'll be jumping aboard the Kroger train before that happens, though. I prefer riding the wave before it starts to break.

Short Selling

So watch the 50-day. It's a great indicator for spotting trends in a stock, especially when there's a break above it. This why my first Commandment of Trading is "The trend is your friend."

And the 50-day moving average is my best friend.

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About the Author

Chris Johnson (“CJ”), a seasoned equity and options analyst with nearly 30 years of experience, is celebrated for his quantitative expertise in quantifying investors’ sentiment to navigate Wall Street with a deeply rooted technical and contrarian trading style.

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