My recommended Encana (NYSE: ECA) short position was looking fairly solid yesterday around midday, with the stock off more than $1. But suddenly, the stock rallied strongly, hitting my recommended stop and generating a loss of roughly 11 percent in the process. The reason for the rally: A rumor hit around 2 pm EDT that Royal Dutch Shell was planning to purchase Encana.

While I’m not sure where this rumor started, it makes little fundamental sense. Shell has been expanding in a big way into liquefied natural gas (LNG). Encana’s reserves are located mainly onshore in North America–such reserves would be transported by pipeline, not by LNG tanker. A far more logical acquisition would be of a company with large stranded reserves of gas located far away from key markets like the US. Encana just doesn’t fit that description.

This morning, the rumor mill has moved on. Royal Dutch Shell was halted with news pending. And the rumor is now that they’re going to bid for Chesapeake Energy.

It’s likely that these rumors won’t pan out. I’d still like to recommend re-shorting Encana for the reasons I outlined in my Tuesday Flash Alert, however, it’s best to wait for Shell to quell these rumors for good. Stand aside from the stock for now; when the time is right, I’ll send out another flash alert.