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Why Carvana Shares Popped 15% Wednesday

By Daniel Miller – Feb 19, 2020 at 5:18PM

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It's possible that short-sellers are covering shares heading into the company's fourth-quarter earnings next week.

What happened

Shares of Carvana (CVNA -8.80%), an online car buying and financing platform also known for its giant car vending machines, were surging 15% higher Wednesday with no direct news about the company. Here's why a short squeeze could be happening.

So what

Carvana has been an intriguing company from the get-go, and its soaring stock has made it even more interesting. It's up 881% in just under three years as a publicly traded company. While that's made many investors happy, it's also brought out plenty of short interest.

When short-sellers borrow and then sell a company's stock at what they believe to be an overvalued price, they're required to buy those shares back later. If the short-sellers later believe they made a mistake as the stock they shorted continues to rise, they could buy the shares back in a panic to avoid further losses.

As short-sellers cover their position, the short-term boost in demand will propel Carvana's stock higher -- 54% of Carvana's float is sold short, and its short interest ratio is approaching 12. Here's a detailed breakdown of how those two ratios work, but suffice it to say there is plenty of short interest for a short squeeze to be happening Wednesday. Short-sellers might be concerned that Carvana's Feb. 26 fourth-quarter earnings results could send its shares even higher, a risk some aren't willing to take.

A Carvana car vending machine

One of Carvana's car vending machines. Image source: Carvana.

Now what

Carvana is currently focused on expanding its business quickly, and it's been successful. In its most recent quarter, it reported retail units increased 83% compared with the prior year, and it recorded its 23rd consecutive quarter of triple-digit revenue growth.

But Carvana's rapid growth is expensive, and investors will eventually want to see the company take steps to turn a profit. Investors should take short squeezes, and similar drops, with a grain of salt. Carvana is a young company with immense potential, albeit in a competitive industry. And there will be a decent amount of uncertainty as its top line continues to expand rapidly and its losses continue to mount. 

Daniel Miller has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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