What Is Short Interest and What Does it Tell You?
Short sellers believe that the price of the security will fall, and they aim to profit by selling the security now and buying it back at a lower price in the future.
In order to benefit from their conviction, they borrow the security from somebody else, sell the borrowed stock 'short' in the hope of buying it back at a lower price so that they can return it to the person they borrowed it from, and pocket the difference.
The following article discusses the stocks that are most shorted at the moment and the characteristics of short squeezes.
What is a short squeeze?
A short squeeze occurs when a stock price rises and forces short sellers to buy back the shares they borrowed and sold short.
If there is a sharp rise in a stock, many short sellers find themselves in a losing position. While when buying a stock, the maximum an investor can lose is 100 per cent or all of her portfolio, when shorting a stock, losses can exceed 100 per cent by far.
This is because the upside on a position is much more than 100 per cent. As an example serves the short squeeze in Gamestop stock, where the Hedge Fund Melvin capital had to seek a bailout by Citadel and Point72 of over $2.75 billion to cover losses on their short position.
Understanding Short Interest
Short interest is defined as the number of shares of a particular stock that have been sold short by investors, but have not yet been repurchased to cover the short position.
Short interest is usually expressed as a percentage of the number of outstanding shares of the stock. For example, if a company has 1 million shares outstanding and 100,000 of those shares have been sold short, the short interest would be 10%.
The level of short interest can be a useful indicator for investors because a high short interest can indicate that there is a lot of bearish sentiment in the market about a particular security.
This can sometimes be a contrarian indicator, as a high level of short interest can mean that there are a lot of investors who are positioned for a fall in the price of the security, which could mean that the price is actually more likely to rise.
While a small amount of short interest can be healthy for a stock (it indicates that there are some bearish investors betting against the stock), a high level of short interest can also be a warning sign. After all, if a large number of informed investors are betting that a stock will go down, it could put downward pressure on the stock's price.
How does a short squeeze happen?
A short squeeze can be caused by a number of factors, including positive news about the company, dividend announcements, analyst upgrades or even a social media hype.
What all short squeezes have in common is that there is a sudden change in sentiment, something which can be monitored on the StockGeist.ai market sentiment platform. This short squeeze triggers buying in the stock. As a result, when the stock price starts to rise, short sellers start to cover their positions, driving up the price of the shares further.
This, in turn, creates a positive feedback loop which again creates even more demand for the stock, and the price continues to rise and so forth. Eventually, the price reaches a point where the shorts can no longer cover their positions, and they are forced to buy the stock at a loss.
A short squeeze can have a significant impact on a company's stock price and can also lead to a short squeeze on other stocks that are highly correlated with the stock that is rising.
What are the consequences of a short squeeze?
The consequences of a short squeeze can be severe for the short sellers, who face financial losses, but also for the company involved and the wider financial market.
Because some short squeezes can also be artificially created by illegal 'pump and dump' schemes, for example, in penny stocks; in such an instance, perpetrators of the 'pump and dump' scheme illegally coordinate to buy a stock at the same time in order to inflate its price.
In some cases, the company is unaware of what is happening, which can attract unwanted attention from the SEC or other regulatory bodies. While it offers the company the opportunity to raise funds at a higher share price, if a short squeeze is caused by fraudulent activity, it can lead to investigations and lawsuits.
As a consequence, this will almost certainly lead to an increase in negative sentiment - an important metric for traders and investors when analyzing the market. Find out what other market sentiment indicators can be utilized via StockGeist.ai.
Which Stocks Are Most Shorted as of 31/10/2022?
Short interest changes over time and is reported twice each month in US stocks. An up-to-date page with the most shorted stocks is available at Marketwatch.
As of 31/10/2022, the following ten stocks with a market capitalization above 1 billion US-Dollars have the highest short interest as a percentage of their free float:
- Beyond Meat Inc.: Beyond Meat is a plant-based meat company that makes products meant to replace animal meat.
- Carvana Co: Carvana is an online used car retailer that offers customers an alternative to traditional car buying.
- Upstart Holdings Inc.: Upstart is a lending platform that uses artificial intelligence to underwrite loans.
- MicroStrategy Inc.: MicroStrategy is a business intelligence company that provides analytics and decision-making tools. The company has also invested in Bitcoin.
- Nikola Corp.: Nikola is a trucking company that is developing electric and hydrogen-powered vehicles. Their founder and CEO has been convicted of fraud.
- NuScale Power Corp.: is a nuclear reactor design company. Its small modular reactors are designed to provide safe, reliable, and emissions-free power.
- Wayfair Inc. is an online retailer of home goods and furniture. It offers DTC brands, merchandise, and home goods through its website and mobile app.
- Arcimoto Inc. designs, manufactures, and sells electric vehicles.
- Revolve Group Inc. is an online retailer of women's clothing and accessories.
Fisker Inc. is an electric vehicle company. It offers electric vehicles, including the Fisker Karma, an electric luxury sports sedan, and the Fisker EMotion, an electric luxury SUV.
