If we want to know about Short Squeeze, Firstly we need to know the Short selling. Short selling is an investor or trader or seller basically borrowing the stock from a broker or lender and sell the stock, when the price of stock fall again he buy back the stock and return it to the stockbroker or lender, for lending the stock lender or broker charges interest for that short period. For some reasons the stock price increases the margin call forces the short seller to close his position to protect from the very downside.
Get complete CFA Online Course by experts Click Here
A Short Squeeze is that they choose or forced to close the position after the margin call received, the short seller dump more money to secure or close the positions so that can push the stock price higher and the remaining short sellers to do the same process. This can continuously create the loop of buying and force the price to move higher high. This is the Short Squeeze so that the Short sellers are squeezed out of the market.
- Short Squeeze is illegal, the broker should allow the short squeeze could have to face legal issues
- Short Squeeze is only good for the call buy
- While protecting the short Squeeze we can place a Stop-loss or buy-limit order on a short position based on the risk-reward ratio or else we can hedge our short position along with a long position to take advantages of increased prices
- We can identify the short squeeze by the Short on Interest Percentage, Short Interest Ratio or buying pressure of asset or some predictive indicators like Relative Strength Index, Moving Averages.
Examples of Short Squeeze
Consider a company ABC has to short sell the stock of price 10rs of 100. If stock price declined or falls by 5rs then the short seller buys back the share and returns it back to the broker. The difference(500rs) is the profit of the short seller. If the stock price increases by 5rs then the short seller has to face losses(500rs). If the stock price increases rapidly the short seller price face the loss infinite and has to square off the position in loss. At that time the short squeezer enters and buys the stocks from short sellers.
Recent example the Gamestop Crop (GME) approximately has a price rise of 10$to 200$, have a short float of 140%. Some big investors have to stake on GME in January, which can attract the short sellers (institutional investors or hedge funds) to take a short on GME. Some of the REDDIT Group members are buying the stock and increases the stock price rapidly. They continue the process because for the short squeeze of the stock price hedge fund loss million dollars
Get complete FRM Online Course by experts Click Here
A short squeeze is a short-term trade, can achieve profits in a shorter period of the rapidly increasing stock price but this high reward potential faces high-risk factors. A trader who predicts the Short Squeeze should know about the technical predictive Squeeze indicators also calculate the short-interest ratio, short interest percentage, and daily Moving averages to reduce the risk.
Author: John Earla
About Author: Currently pursuing Financial Risk Management from GARP(US) and completed Graduation in Bcom computers. John is interested in finance and also Risk Analysis.