Coinbase: Job Cuts Ignite The Bulls (COIN)

Earlier this month, I penned a piece on crypto marketplace Coinbase (NASDAQ:COIN), where I said we had signs of a tradable bottom. The stock has been obliterated since the peak just over a year ago, and for good reason. However, even beaten down stocks eventually find their footing, and I thought we might have something with Coinbase with the setup that was in place.

Shares are up 18.5% since then, with some help from job cuts that amount to a quarter of the company’s workforce, which is significant to say the least.

That round of job cuts, along with a chart that now looks quite different, means Coinbase is worth a fresh look to see if the long trade has now run its course, or if we’re in the early innings of another bull move.

Possible short squeeze?

Anyone that has read my work knows that I think the term “short squeeze” gets thrown around all too often. You need a truly perfect setup for a short squeeze to actually take place, and most heavily-shorted stocks never see anything like a squeeze. In fact, despite the fact that we hear about short squeezes often in the media, they’re actually quite rare. Indeed, heavily-shorted stocks are usually heavily-shorted for very good reasons. But sometimes, there are conditions that are ripe for a squeeze, and I’ll say that with Coinbase rallying strongly on heavy volume, I wouldn’t rule it out here.

Now, before we look at the chart, I am not suggesting a short squeeze is incoming on Coinbase. I’m simply pointing out that the conditions are coming together that could result in such an event, and I’ll explain below. Never, ever buy a stock because a short squeeze is possible. Like I said, squeezes are exceedingly rare and most of the time, possible short squeezes just fizzle out into more losses for longs.

Enough of the disclaimers; let’s get into the chart.

This is the same chart I posted earlier this month, with the buy setup noted on the PPO and the positive divergence it provided. You can read about the prior trade setup in the linked article, so I won’t go through it again.

The changes since that trade was setup are significant, so let’s instead focus there. First, the PPO is confirming this bullish move and is making a multi-month high. We’re still well below the centerline on the PPO, so there is much work to do for the bulls, but this is a very strong sign that the double bottom put in at $31 is looking more and more sustainable.

Second, the accumulation/distribution line has turned sharply higher, as the rally we’ve seen has been improving throughout the trading day, and on good volume. Those things are signs of accumulation, hence the rising A/D line.

Third, the 14-day RSI has cleared the centerline for the first time since October, which again is a significantly bullish sign. Stocks mired in downtrends tend to struggle to get their 14-day RSIs ahead of 60 on the 14-day RSI, and Coinbase finished yesterday with that metric at 56. Will it clear 60? If it does, that’s a great sign for the bulls.

Fourth, the 5-day RSI, which is a very short-term indicator, is in overbought territory for the first time since October. Again, stocks mired in downtrends tend to see this value remain well below overbought territory, so this is a positive sign for bulls.

I’ll note the 10-day rate of change in the bottom panel shows +21%, which is extended to say the least. The stock was up more than 12% just yesterday, so that’s no surprise. But based upon the indicators we’ve looked at, Coinbase’s move looks a bit overextended in the very short-term.

With all of that in mind, let’s take a look at short squeeze potential. In order to get a short squeeze, you need a stock that is heavily-shorted, clears key resistance levels, and is trading with high volume on that breakout of resistance.

Coinbase is heavily-shorted, at 24%, so we can check that box. Volume has been pretty good on this January rally, so while we cannot say it’s reaching squeeze levels, the pieces are in place. Finally, and most critically, it has to clear key resistance. In a short squeeze situation, the level that needs clearing is where the majority of shorts will start losing money. While we cannot know exactly where and when all shorts entered their positions, we can make an educated guess based upon the chart.

In my view, the declining 50-day simple moving average and the $46 level as noted on the chart above would signify a significant breakout to the upside that could send the shorts scrambling. I’ll say again there is never any guarantee a short squeeze will occur. However, I will say Coinbase has the pieces in place for such an event, if it can continue to rally.

Given the short-term overbought nature of the stock, my base case is that we see a rejection of the 50-day simple moving average, and a subsequent 20-day exponential moving average test, currently $38, but rising. We’ll see what happens, but it is my view that Coinbase is setup quite well for the bulls here, I just don’t think it’s going to continue higher indefinitely without some sort of breather.

Job cuts are a necessary evil

We’ve seen countless companies, particularly in tech industries, cut jobs in the past several months. Nobody wants to see people lose their jobs, and there is a real and significant cost to the impacted individuals. However, the fact remains that companies tend to hire too many people during good times, and then have to cut the excess when business slows down. Coinbase certainly appears to have been guilty of hiring sprees that were unsustainable, but the recent round of job cuts makes it appear the company has taken a hard look at its priorities, and that’s a good thing.

Coinbase is reducing staff by 25%, or just under a thousand people. It’s been obvious for some time that the crypto boom of 2021 ended a while ago and that sees retail trader interest in crypto fall off a cliff. That cliff was – and still is – unkind to Coinbase, and it is finally rightsizing for the market conditions it finds itself in.

The cuts won’t impact 2022 results, but the company expects some efficiencies to be gained with the job eliminations. It’s taking ~$150 million in restructuring charges, which include cash severance and benefits payments, as well as stock-based compensation that is being vested on an accelerated basis for the impacted employees. These charges will hit Q1 results, so expect a real stinker when the company reports those results in a few months.

On the plus side, this will result in a 25% reduction of SG&A costs, which has averaged $544 million per quarter over the last 12 months. We’re therefore looking at very significant savings, particularly on stock-based compensation, going forward. That’s a welcomed development as Coinbase’s operating income was -$470 million last quarter. Headcount reductions will significantly lower the bar for if/when the company can see revenue rebound in terms of getting back to breakeven, and eventually, profitability.

In addition, the company said it was shutting several projects that had low chances of success, which is good not only in a tangible sense of saving those dollars, but also in that the company is taking a hard look at where and how it’s spending. I mentioned companies tend to get carried away during good times, and this suggests Coinbase was guilty of that. However, Coinbase is putting that right and that’s a good thing.

In short, I never want to see companies cutting jobs because there are real human beings being impacted very negatively. However, it’s a part of the business cycle and in this case, it’s probably long overdue. Coinbase is rightsizing, and that’s a very good thing for those bullish on the stock.

Other considerations

We all know crypto trading volume has fallen off a cliff in the past year, and that’s because retail traders of crypto tend to get very involved during bull runs, and then disappear during bear markets. However, this bear market in crypto is looking fairly long in the tooth, and Coinbase is still #2 in market share, with Binance dominating. However, Coinbase is a significant enough player that if/when volume and interest returns to crypto, it stands to benefit mightily. With a now-reduced workforce, operating leverage on higher revenue would theoretically be significant, and profitability could ramp quite quickly.

Coinbase also has the resources to weather this crypto bear market for a long time to come, as it has about $5 billion in cash on the balance sheet against $3.4 billion in long-term borrowings. It’s still unprofitable, so the amount of cash it has is important in terms of funding deficits until such time as it can fund itself through operations.

Perhaps the biggest problem Coinbase has, and indeed why it has cut so many jobs, is that revenue continues to decline.

The company has seen almost continuous cuts to revenue estimates as the bear market in crypto drags on and on, and until these turn around, the stock is facing a significant headwind.

I’ll note the cuts have slowed in terms of intensity recently, which is indicative of the early signs of a bottom. But I’ll be clear that we’re not there yet, so I’m not suggesting Coinbase has seen its revenue estimates hit their absolute bottom yet. When they do, the stock will almost certainly be off to the races, but it’s simply too early to suggest that.

The bottom line

Coinbase’s recent round of job cuts are painful for all involved, but a necessary step given the company clearly overinvested in talent in the past couple of years. Q1 results may be the “kitchen sink” quarter that could see the stock finally shed the bear market it’s been mired in for over a year, but it’s a bit early to know that at the moment.

What I see now is a stock that made its tradable bottom, has positive news flow on reduced operating expenditures, and is putting in some very bullish signs on the chart. It is possible we get a short squeeze on Coinbase, so that’s something to keep in mind if you’re taking the other side here and looking to short, from a risk management perspective.

The 50-day simple moving average and the $46 price level should provide some resistance to the bulls, so I would not be surprised to see a pullback and test of the 20-day exponential moving average. However, after the current short-term overbought condition is resolved, I’m having a hard time making a bear case for Coinbase. If the stock fails the 20-day exponential moving average whenever the next pullback occurs, I’ll reassess, but for now, the job cuts appear to have ignited the bulls, and I’m not one to fight such a move.