Risky stocks are trending again as investors pile into tech's ultra losers

The stock is on pace to double in January, jumping sharply in volatile trading sessions. The moves are at complete odds with the broader gloomier outlook for the used-car industry, where prices for vehicles have been tumbling in recent months amid rising financing costs and consumer anxiety about an economic slowdown.    

“It seems like there’s a new rush of optimism and speculation in markets because of the strong start to the year,” said Callie Cox, an investment analyst at eToro Group Ltd. “This could be a case of a few investors feeling emboldened enough to take a chance on a beaten-down stock.”

The rapid gains in Carvana shares follow 2022’s relentless selloff that wiped out nearly 98% of the company’s market capitalization, sparking fears about a possible bankruptcy and leading Wall Street analysts to warn about “the path forward.” The rally also brings to mind the meme-stock mania of early 2021, when heavily shorted companies saw massive gains as they were bid up on social-media platforms. 

This year, the used-car industry has shown some initial signs of stability, even though the overall outlook remains cloudy.

“The combination of a slight improvement in the narrative around the used-car market in January, and a high short interest is driving this rally,” JPMorgan analyst Rajat Gupta said in an interview. “I don’t think any long-term or long-only investors are engaging right now,” he added. Gupta, who has the equivalent of a hold rating on the stock and a price target of $5, sees the risk of a bankruptcy as low.  

About 66% of Carvana’s free float is held short, according to data from S3 Partners.  

The stock has always had a fan following among retail traders, and data from Vanda Research showed net buys in the stock on Monday were the highest ever. However, Vanda’s Lucas Mantle said it is still too early to tell whether the fervor will continue or die down soon.

Meanwhile, options activity has also fired up, with more than 266,000 call contracts on the company changing hands Monday, the second-highest level ever. 

Carvana shares initially rose as much as 12% on Tuesday, but later erased the gains to trade down 6.4% at 12:05 p.m. Some 81,000 call contracts changed hands as of 12:03 p.m. in New York, more than twice the volume of put options, data compiled by Bloomberg show.