In early 2020, Tesla was the most-shorted stock on the U.S. exchanges, with more than 18% of its outstanding stock in short positions. Transitioning from how a short squeeze operates to understanding its implications, it’s noticeable that short squeezes can lead to considerable price swings. This is very important to anyone who has a vested interest https://www.currency-trading.org/ in the stock as they could lose or gain significantly from the situation. These fluctuations don’t only affect the specific stock but the broader market indices as well, potentially attracting regulatory attention. One of the most notable short squeezes in recent history centers on the stock of European automaker Volkswagen (VWAGY -0.55%).
- Squeezes describe different types of financial and economic situations in which market pressures affect the value of investments or the availability of credit, among other impacts.
- When identifying stocks at risk of a short squeeze, two useful measures are short interest and the short interest ratio.
- Those who sold short near $5 are facing the biggest losses and will be frantically looking to get out because they are losing 80% of their investment.
- The stock’s momentum built on itself, and by the end of the month the stock had soared to more than $120 intraday – up some 60 times in price from just months before.
Buying into a company in the hope of lassoing a rocketing price is speculative at best. The offers that appear on this site are from companies that compensate us. But this compensation does not influence the information we publish, or the reviews that you see on this site. We do not include the universe of companies or financial offers that may be available to you. If you’re a long-term investor who happens to own a stock that’s getting squeezed, it’s probably not a good time to trade. Instead of acting on emotions, remember what got you to where you are in your investing journey—and where you’d like to be.
Terms connected to a short squeeze
A financing squeeze is when would-be borrowers find it difficult to obtain capital because lenders fear making loans. This often leads to a liquidity crisis if https://www.investorynews.com/ there is little cash on hand and not enough operating cash flow. Individuals can also face a financing squeeze if they need to borrow and are unable to.
The collapse of Silicon Valley Bank in March 2023 illustrated several types of squeezes. First the bank faced a profit squeeze due to poor returns from its investment portfolio. Then jittery depositors rushed to withdraw their money in a modern-day version of a bank run, forcing it to liquidate a substantial portion of its investments at a loss. That caused fears of a domino effect in which other banks would fail, creating a nationwide credit squeeze.
A short squeeze occurs when a stock moves higher and short sellers decide to cover their short positions or are forced to do so via margin calls. As these short sellers buy the stock, the price rises, potentially creating a situation in which more shorts have to cover. A short squeeze is an unusual condition that triggers rapidly rising prices in a stock or other tradable security.
Even relatively modest rises in the stock could stoke a squeeze. The Charles Schwab Corporation provides a full range of brokerage, banking and financial advisory services through its operating subsidiaries. Neither Schwab nor the products and services it offers may be registered in your jurisdiction.
The federal government quickly stepped in to assure depositors that their money was safe, even beyond normal Federal Deposit Insurance Corporation limits, which appeared to defuse the situation. GameStop’s stock price surged due to a short squeeze on major hedge funds that were short the stock and forced to sell to cut losses. The stock price went from less than $5 a share to $325 in just a month. Tactics like setting stop-loss orders, which essentially instruct a broker to sell a stock once it reaches a certain value or maintaining a diversified portfolio can help mitigate risks. Proactively staying informed can also shield investors from the risks of short selling and possibly leverage market volatility to their benefit. Panic-buying begets more panic-buying, egged on by speculators who know the situation the short sellers are in and actively try to put the screws to them.
Short sellers are being squeezed out of their positions, usually at a loss. If, for example, NoGood Co. reported better-than-expected earnings and its stock price jumped to $120, then panicked short-sellers might rush to close out their positions before the share price kept climbing. This sudden high https://www.forex-world.net/ demand could cause the stock’s price to rise even more sharply to $130 or $140 per share. The dramatic jump in price “squeezes” those who shorted the stock. The first predictor to look at is the short interest percentage—the number of shorted shares divided by the number of shares outstanding.
It slowly gathered momentum through the end of the year and started 2021 at more than $4 per share. Many investors thought the company was going broke and invested accordingly. One short seller had a huge position in the stock, and short interest was greater than the number of shares of outstanding stock.
Who Loses and Who Benefits From a Short Squeeze?
If something – anything – causes the stock to rise, it can quickly turn into a buying frenzy as the short sellers trip over one another to buy the shares so they can cut their losses and exit the trade. The higher the stock price goes, the more short sellers are forced to cut their losses by buying back the shares they sold. And their frantic buying drives the price even higher, forcing more short sellers to follow their lead. If a short seller thinks a stock is overvalued and shares are likely to drop in price, they can borrow the stock through a margin account.
A short squeezer must not only learn to predict and identify short squeezes, but also pick the right time to sell the stock, which is at or near its peak. In spectacular situations, however, the stock may rise times in value, sometimes over just a few days. These situations are sometimes called the “mother of all short squeezes” and they can be tremendously lucrative for long investors and ruinous for short sellers. One of the most famous recent examples of a short squeeze was the massive rise of GameStop stock in 2021.
What Exactly Is a Short Squeeze?
The short interest ratio is the short interest divided by the average daily trading volume (ADTV) of the stock in question. For instance, if you take 200,000 shares of short stock and divide it by an ADTV of 40,000 shares, it would take five days for the short sellers to buy back their shares. This is where the short squeezer comes in and buys the stock—while the panic-stricken short sellers are causing a further rise in price due to short-term demand.
The stock may be heavily shorted for good reason, such as a dismal future outlook. Short interest is generally expressed as a percentage derived by the ratio of shares sold short to the number of outstanding shares. This percentage offers investors insight into market sentiment towards a particular stock, serving as a valuable tool for predicting potential market movements.
In early 2023, the most heavily shorted companies included Coinbase Global (COIN), a cryptocurrency firm, and Occidental Petroleum (OXY). The term “squeeze” is used to describe a variety of financial and business situations, typically involving some sort of market pressure. In business, it can be a period when borrowing is difficult or when profits decline due to increasing costs or decreasing revenues. In the investment world, the term can describe situations in which short sellers purchase stock to cover losses or when investors sell long positions to take capital gains off the table.