Short squeezes can be very profitable, and with prices moving 10% to 20% in one day, the risk-to-reward ratio is tempting. However, picking stocks that are ripe for a short squeeze is hard and risky. Indeed, Foolish investors should never invest just to benefit from a squeeze.
Having said that, I personally will invest in a fundamentally solid company even if 50% of its stock is out on loan for shorting. So what are some of the most hated companies on the market right now, and do they offer potential for long-term profit?
A hated refiner
First up is Western Refining, Inc. (NYSE:WNR). With 44% of its total float on short, it seems as if the market really dislikes this company. Unfortunately, the first thing I notice is that the company’s president recently sold 500,000 shares at an aggregate price of $30.70 for a total consideration of $15.4 million. Still, moving on.
Western Refining, Inc. (NYSE:WNR) owns two refiners and 200 retail stations in the south of the country. The key risks here are the company’s dependence on one refinery that accounts for 85% of production and its dependence on light sweet crude. I believe this is the reason for the market’s strong dislike of the company. The dependence on what is effectively WTI means that the company cannot switch to heavier and cheaper oil from Canada and other regions that have become popular among refineries over the past year as the Brent-WTI differential has collapsed. Heavier crudes from Canada are usually priced at a discount to WTI, so there is more opportunity for profit.
Apart from that, there is little to suggest that Western Refining, Inc. (NYSE:WNR) deserves the market’s lack of faith in it. Since the company’s near-fatal purchase of Giant Industries in 2007, net debt has more than halved (the majority of this happened since 2011), shareholder equity has doubled, and the company has $250 million in cash on its balance sheet. In addition, during the past year alone, the company has been working hard to restructure debt, reducing cash interest expense by approximately 70% — more than $90 million annually. Western Refining, Inc. (NYSE:WNR) also increased its dividend by 50% recently and started buying back stock.
So overall, apart from the declining Brent-WTI spread, I see no particular reason to disregard Western Refining, Inc. (NYSE:WNR).
Next up, with 39% of its float short, is Arcos Dorados Holding Inc (NYSE:ARCO). Arcos owns and operates McDonald’s franchises in South and Latin America. The company is hated because of the political instability rising across the region. Couple this with deteriorating exchange rates, and Arcos Dorados Holding Inc (NYSE:ARCO) rapidly starts to look unattractive.