Take Advantage of this Breakaway Stock

While the fundamentals of this name are solid, a near-term short-covering rally could give traders a quick hit

   

Most investors have heard the name Moody’s (NYSE:MCO).  The company provides ratings on debt obligations and entities that issue debt in markets worldwide for everything from private to government entities.  Its competitors are names like  Dun & Bradstreet (NYSE:DNB) and private firms Standard & Poors and Fitch Ratings.

As you can imagine, folks at Moody’s have been extremely busy during the last few years monitoring and changing their ratings to adjust for the volatile economic environment.  I like busy as it often translates into fundamental strength for a company.

In MCO’s case, the bottom line reflects some strength as year-over-year earnings, despite some mixed results, have grown.  Last quarter, the company announces earnings per share of 75 cents compared to analyst expectations of 64 cents.  The 75 cent EPS result translated into a 31% increase on a year-over-year basis.  Currently, the upcoming quarter is expected to see EPS results of 66 cents compared to 43 cents a year ago, a 53% increase.  Like I said, the rating business has been good lately.

Now, I like to invest in fundamentally strong stories like MCO, but I love to invest in these stories even more when it’s apparent that The Street is ignoring the opportunity.  This usually results in a situation in which the “crowd” winds-up chasing the stock higher once they wake-up to how strong a stock has performed.  According to a few sentiment indicators, it appears that this would be the case now on MCO.

First, let’s take a look at the short interest on MCO.  The most recent short interest data showed a slight decline in the short interest ratio (the number of days to cover short positions) on MCO, but this ratio remains high, indicating a high likelihood that a short covering rally will take place if the stock breaks higher.

Second, I like to monitor the analyst recommendations on stocks to get a feel for sentiment.  Low analyst ranks equal a higher possibility that a strong stock may see upgrades, which drive prices even higher.  Currently, only 50% of the analysts covering MCO have it ranked a “buy.”  Another quarter of beating expectations and strong EPS growth will get the analysts upgrading their outlook on the stock, causing the “crowd” that follows their upgrades to buy the stock.  We like that you can get in now ahead of these upgrades.

Looking at the charts, MCO shares have spent the second half of 2012 drawing a 45 degree angle from the left to right (that’s a clever way of saying it’s gone up quickly).  The shares were trading at $34 in July and are now one of only 16% of companies in the S&P 500 that are breaking to fresh 12-month highs.  New highs often initiate short-squeeze pops.

MCO 12 20 12 Take Advantage of this Breakaway Stock For now, MCO shares are still a “buy” for traders that are looking to outperform the market.  The next earnings announcement is slated for the first week of February, and I expect that the stock will continue its course until then, especially as the break above $50 will attract attention of the shorts, technical buyers and the analyst community.

I’m targeting a move above $55 by the end of January, which would result in a 7%-plus return from current prices.  At this point, I  would suggest a stop-loss trigger of $48, which would result in the shares breaking below their 20-day moving average, a trendline that has been supportive for much of the run since July.

We can’t reveal the source of this trade. But who is Trader X?

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