Understand and Profit from a Short Squeeze

The term short squeeze is used to describe a rapid increase in a stock’s price due to the combination of short supply for the stock and excess demand. A short squeeze results when short sellers rush to buy a stock to cover their short positions and minimize their losses; as the price of the stock rises, short sellers choose to cover theses positions. Generally speaking, short squeezes are more likely to happen with small-cap stocks and stocks with smaller floats.

About Short-Selling

Short selling is a strategy in which investors sell stock they don’t own in anticipation of a price decrease for that stock. Short sellers seek to profit under this strategy that reverses the concept of “buy low, sell high”. In choosing to short a stock, the investor borrows that stock, usually from a broker, to sell and keep the proceeds. To make a profit, the seller must “close the position” by buying back the same number of shares (to “cover the position”). As long as the share price has fallen, the seller will make a profit. If the stock price has risen, however, the seller will lose money. Short selling is considered a risky strategy and is not encouraged for the average investor.

Profiting from a Short Squeeze

A short squeeze is what occurs when a rapidly rising stock has a large short interest and those who have shorted the stock (expecting it to decline) change their minds and seek to cover their positions. Numerous sources offer investors information about the extent to which any individual stock has been shorted and compare that ratio against its average daily trading volume. It is important to note that a large short interest ratio alone does not provide enough reason for most investors to take a long position in that stock. It does, however, present a good data point to be used in conjunction with other indicators that might point to a price increase.

Click here for NASDAQ short interest data

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The above information is educational and should not be interpreted as financial advice. For advice that is specific to your circumstances, you should consult a financial or tax advisor.

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