What happened
Shares of used car dealer Carvana (CVNA 8.79%) are higher by 14.5% as of 3:34 p.m. ET Monday, according to numbers from S&P Global Market Intelligence. Investors are inferring upside from an industry-related report posted today, and at the same time, the stock may be benefiting from a short squeeze.
So what
Don't look for a company-specific reason Carvana shares are up again today. You won't find one. Rather, you should take a step back to inspect relevant headlines and then connect the dots. They're superficially bullish.
Perhaps the biggest of these dots is Monday's report from Cox Automotive. The automobile market research outfit's latest number-crunching analysis indicates that wholesale used car prices fell 10.3% year over year in June. This bodes well for Carvana since it means that the cost to purchase cars is falling, allowing for easier sales and wider profit margins.
At the same time, an article by Aparna Narayanan posted by Investors Business Daily earlier today points out that demand for traditional sedans is stronger than most truck and SUV-focused carmakers appear to appreciate. That puts Carvana in the envious position of being able to offer a wide array of such cars to consumers; eight of its ten best-selling models in the first half of 2023 were traditional sedans.
With all that being said, don't discount the possibility that at least some of Monday's oversized gains could be the result of a short squeeze.
As of mid-June, nearly 45% of outstanding CVNA shares and more than 68% of its public float was sold short (meaning investors are betting the stock will fall rather than rise), making Carvana one of the market's most heavily shorted stocks. Bearish investors will exit these trades at some point, but short positions can only be ended by repurchasing the stock. It's just a question of price. The higher a shorted stock flies, the bigger these traders' losses are once they finally make their exit. With shares already up 300% from May's low prior to the beginning of today's trading it's not a stretch to suggest the traders currently holding a short position in Carvana are getting nervous. They may now be repurchasing the stock to contain their losses.
The "squeeze" part of a short squeeze is this panic-induced buyback, which in turn drives the stock's price higher, which in turn incites even more panic, which then prompts buying that drives the price even higher still... you get the idea. The key is a triggering event that starts the cycle. Cox Automotive may well have provided that on Monday.
Now what
The scope of Carvana's bullishness is intoxicating. Indeed, it almost feels like shares may never stop soaring.
Don't fall into the fear-of-missing-out trap, however. If this rally is indeed at least a partial short squeeze, the bullishness will very likely fizzle out sooner than later. The only thing left to support the stock's new lofty price at that point is business results.
Yes, it seems like lower car costs benefit Carvana. Think about this, though -- wholesale used car prices may be falling entirely due to waning demand. Cox Automotive also notes that used car unit sales fell 4% from May's level in June, and were down 6% year over year.
Given the wobbly, impermanent basis for the current rally, today's strength doesn't look like a reason to buy. If anything, it's an opportunity to lock in gains and step back to the sidelines while the used car market's dust continues to settle.
