Short Squeeze Example Learn The Short Squeeze Definition At CAPEX

A short squeeze is an event that happens in the market. It causes traders to push up the value of a stock. For the short squeeze to occur, there must be a good amount of short sellers holding positions of that stock. It forces short sellers to buy the stock at an inflated price to minimise their losses. When the short sellers buy, this raises the share value and increases the return for the short squeeze traders. It can be a risky strategy, but, at CAPEX, we offer expert advice to guide you through.

Short sellers involvement in the short squeeze

So what is the short squeeze meaning concerning the stock market? If you’re a short seller, you know that stock prices have a timeframe that they can be traded in, especially if there’s an unexpected price rise. Short selling is a trading strategy that speculates on the decrease of a stock’s price. So they know they have to act fast and exit their positions if there is a drastic increase to limit their losses.

Price movement predictions

A short seller borrows the share of an asset that they think will drop in price so that they can buy them after the price falls. If the short seller’s prediction is correct, they return the shares of stock they borrowed and collect the profit they made. It would be the difference between the price they borrowed the share for and the actual sale price. However, if the short seller’s predictions are wrong, they would have to buy the stock at a higher price and pay the difference between what they borrowed and the sale price.

Why do short squeezes happen?

As we mentioned, a short seller focuses and holds positions of stocks that they predict will decrease. The traders could have heard a news announcement or seen company earnings to determine which stock is the next to decline.

However, if the chosen stock’s price increases instead of the opposite, then the short seller could be in trouble and face severe losses. That is why they’d sell their stock as soon as they can. But when it’s too late, short sellers need to buy to cover their short positions. So, every time a short seller buys at the higher stock price, it causes the price to go up, causing another short seller to buy and increasing the price further, creating the short squeeze definition, a lack of supply and an excess of demand for the stock.

GameStop Corp

We have seen this stock surge in price in the past. It is available on CAPEX as GameStop Corp (NYSE: GME). This stock is an American video game, gaming electronic and merchandise retailer based in Texas. We think it is one of the most significant examples of a short squeeze due to its impact on investors and traders.

It gained a lot of attention on the subreddit forum, r/wallstreetbets, because it was the target for investors and traders who wanted to take down corporate hedge fund short sellers. At the start of this year, the short squeeze on GameStop Corp occurred. It caused substantial losses for short sellers and major financial concerns for some hedge funds. A high percentage of GameStop shares had been short sold, so there was a rush to buy shares to cover the short positions as the price continued to rise.

Wallstreetbets

As briefly mentioned, the users of the subreddit r/wallstreetbets were the ones who initially triggered the short squeeze of GameStop. It then also gained the attention of hedge funds at the end of January this year, causing the stock’s price to reach a pre-market value nearly 30x its valuation at the beginning of January. (From $17.25 to over $500 per share approximately). This increase caused the price of many other stocks and even cryptocurrencies to increase, which we witnessed on our platform also.

It got to a point where some brokerages like Robinhood decided to stop trading GameStop and other stocks altogether, which received criticism from the media because it came across as a manipulation of the market from wealthy business people and prominent influences and politicians. Lawsuits have been filed against Robinhood in the US as a result of the stop squeeze. As of July 2021, the GameStop Corp price is around $183 where it has continued to recover from a loss back in March.

Tesla

Another short squeeze example and arguably the most famous is Tesla Inc (NASDAQ: TSLA). Tesla continues to be the stock with the most short sellers. CEO Elon Musk has a prominent influence in the financial world and on social media, where he has publicly gone back and forth with hedge fund managers, debating short selling. The share price has seen significant climbs over the past couple of years. In March of 2020, however, the price finally fell during a market downturn where short sellers made approximately $50 billion in a few days.

Similar to GameStop, in January this year, there was a notable increase in its price during the Robinhood situation. It led to traders buying a greater number of Tesla stock and hiking up the price even more. It is said that Musk has found common ground with the subredditors of r/wallstreetbets as he and many other companies are not fans of short sellers in general. It can be because they bring down the price of stocks and cause a rise in capital costs.

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To predict a short squeeze, you need the appropriate materials, such as moving average charts and calculating interest ratios and percentages. A level of statistical and technical analysis for trading goes into a successful short squeeze prediction, and we’ve highlighted some key points below that you’re able to perform on CAPEX.

Interest percentages

It would be a good idea to start by looking at the percentage first before the other predictors. The higher the short interest percentage is, the more likely short sellers will be rushing to repurchase the stock if the price starts to rise. You calculate the percentage by dividing the number of short seller shares by the number of outstanding shares. For example, if a company had 10,000 short seller shares and 100,000 outstanding shares of the same stock, the short interest percentage would be 0.1 or 10%.

Moving average charts

Moving average charts are indicators that can show you where a stock will be traded for a specific time every day. There are some charts like a 50-day average chart that will tell you whether or not there are peaks in the stock price and where they are over those 50 days. At CAPEX, you will be able to use our charting software to plot the peaks and monitor any trends.

Interest ratio

A short interest ratio is a formula of the short interest (SI) divided by the average daily trading volume (ADTV) for each stock you’re looking into. The ratio can help a trader find out promptly if the stock is heavily shorted or not compared to the average daily trades. The higher the ratio value, the more likely short sellers will help increase the stock’s price.

The short squeeze strategy can have a few advantages. These are included below:

Predicting company success

If you’re looking to try out the short squeeze, you need to understand the fundamental analysis of the stock in question. You’re able to monitor the trends and indicators of the stock and know when the right time to enter a position and exit will be. Many successful companies now had a buzz around. Such as rumours of product releases from the company. It helped traders and investors predict that the company would succeed and inevitably make the investors profit. An example is Tesla that has seen massive increases in its market price over the years.

Volatility

For a stock’s price to rapidly move upwards, there has to be a good level of volatility in the stock concerning the market. Short squeezes are good if you’re looking at assets known to have a history of movement. As popular stocks go through a short squeeze, others follow the trend because of how the market works. The trend could also cross over to other highly volatile assets, like cryptocurrencies, known to have rapid price movements.

Short selling

As mentioned previously, short sellers speculate on the decline in a stock’s price. It is a technique that is best suited for advanced traders and investors because it carries a lot of risks. It takes place when a trader borrows some shares and sells them on the market with the hopes to repurchase them at a lower value. It can generate a considerable return if the price of the stock decreases. But in the case of a short squeeze, losses can pile up if the price rises and the short seller is forced to get rid of their positions to cover those losses. They are essentially being squeezed out of their positions by this.

Short sellers effect on the market

Short sellers exiting their positions with buy orders actually push the stock’s price up. It can attract new buyers too, and the combination of both short sellers and new buyers can create a substantial rapid price increase. Short sellers are many companies’ nightmares because they find stocks that they believe are overvalued and predict their price should go down. They usually bet on prices to fail in the stock market, and when they do, short sellers are known to make generous amounts of profit.

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