What Exactly Is a Short Squeeze?

On Jan. 29, just weeks after the Reddit post gained attention, shares closed at $325. There’s the “short percentage of the float” – that’s the percent of the shares available for trading that are currently being held short. At one point, more than 100% of GameStop’s float was sold short – an excessively high number meaning that every share available was borrowed at least once to be sold short, but some were borrowed multiple times. When it comes to short selling and short squeezes, there are a couple of important data points to monitor. Short squeezes only happen when a lot of traders have shorted the same stock. Given that short squeezes can create those kinds of gaudy returns, it’s worth reviewing what exactly a short squeeze is.

• You borrow a stock via a brokerage firm and immediately sell it to someone else.
• When the percentage of the stock’s total shares that are currently sold short is significantly higher than the normal level, the likelihood of short squeeze is considered to be increased.
• Rather than attempting to profit from the bull market and company growth, instead, they look for negative market sentiments, known as trading the bear market​.
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• For months, short-sellers have lost billions at the hands of the Elon Musk-led company.
• Cushion theory argues that a shorted stock’s falling price will again rise as short-sellers eventually purchase shares to cover their short position.
• In the case of TSLA in 2020, there were some positive fundamentals underlying the short squeeze, including the company’s more consistent profitability and hopes of it being included in the S&P 500 Index .

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Who loses and who benefits from a short squeeze?

One is the short interest – the percentage of a stock’s total number of shares that are currently held by short sellers. When the percentage of the stock’s total shares that are currently sold short is significantly higher than the normal level, the likelihood of short squeeze is considered to be increased.

GameStop, a retail gaming company, was affected by a decrease in mall foot traffic, the pandemic, and competition. Naturally, short sellers had grown interested in the stock’s Short Squeeze decline. However, a Bloomberg reporter, Brandon Kochkodin, described a bull case for the potential of GameStop and predicted a turnaround for the company in a few years.

What’s a Short Squeeze and Why Does It Happen?

The combination of new buyers and panicked short sellers creates a rapid rise in price that can be stunning and unprecedented. When a stock is thinly traded or heavily shorted, this can trigger a short squeeze, as many investors have to close out their positions at once. When you short a stock, you’re essentially borrowing shares using a margin account. You then immediately sell the borrowed shares in hopes that the share price will drop.

Here’s how a short squeeze works, how it happens and the risks of trading during a squeeze. Any estimates based on past performance do not a guarantee future performance, and prior to making any investment you should discuss your specific investment needs or seek advice from a qualified professional. It’s important to always do your homework, and remember it’s never wise to go all in. A stock that’s in a short squeeze may still have a long way to climb, and if you don’t think the fundamentals support higher prices, then perhaps you should look elsewhere. If you’re buying a stock that seems to be in the throes of a short squeeze, especially at high levels, it helps to understand other potential reasons why the stock might be moving.

Examples of Short Squeezes

In early March 2020, Tesla’s stock finally fell, along with most others, during a market downturn. However, the stock eventually bounced back, leaving Tesla short sellers collectively nursing losses of more than $40 billion during the course of 2020.

• In addition, Porsche’s unexpected announcement and major increase in its stake ownership in Volkswagen left very few available shares for short sellers to account for.
• Opinions vary as to what constitutes a crowded trade, but most analysts believe that anything over 10 days indicates a prime target for a short squeeze.
• If the short seller’s prediction is correct, they will profit by pocketing the difference between the price they sold the stock for and the price they bought it back for.
• Read on to learn more about what happens during a short squeeze.
• Yes, you’re betting against yourself, in a way, but at least you lessen the damages of the losses and benefit from the price appreciation.

Contrarian investors also watch a stock’s short interest; contrarians choose to buy stocks with a heavy short interest in order to exploit a future https://www.bigshotrading.info/. This is also risky, as the short sellers might be correct and the stock will plummet in price. However, if a short squeeze occurs, then contrarians have the opportunity to make money off of the short sellers needing to repay their borrowed shares. SIR is a comparison of short interest to average daily trading volume. It represents the theoretical number of days, given average trading volume, short-sellers would need to exit their positions. The higher this number, the more likely a short squeeze is coming. Both short interest and SIR are on stock quote and screener websites such as FinViz.

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An enthusiastic tweet from Elon Musk cheered on the squeeze, and the next day, a wave of new retail investors jumped into the trade, buying more stock and call options. The heightened demand drove out more short sellers and pushed GameStop’s stock to an all-time intraday high of $483.

• The result was not only retail investors’ continued investments in GameStop stock and call options, but also a major increase in GameStop’s stock price in a matter of days.
• When a stock is thinly traded or heavily shorted, this can trigger a short squeeze, as many investors have to close out their positions at once.
• Traders can make huge profits by taking advantage of the short squeezes.
• Corporate fraud has frequently been uncovered in public reports published by short-sellers.
• An example of a notable historical short squeeze involves the German car manufacturer Volkswagen, in October 2008.
• Watch for any of the indicators that a short squeeze may be coming, which include increased buying pressure, high short interest, days to cover above 10, or an RSI below 30.
• However, a sudden pressure or increase in the number of shares bought can also lead to a short squeeze.

You can read more about our commitment to accuracy, fairness and transparency in our editorial guidelines. Savannah Hanson is an accomplished writer, editor and content marketer.