What is a Short Squeeze and How to Trade It?

However, it’s important to note that the business landscape is filled with unexpected developments and turnaround stories. For a highly shorted stock, if there is any positive news regarding the stock’s future, it can boost demand for the stock and ignite a short squeeze. Certain conditions have to be met for a gamma squeeze to manifest in the market. It starts with investors making assumptions about a particular stock’s price. Some stocks attract very high short interest, which can be viewed as the amount of shares sold short as a percentage of float, or how much stock has been issued that is available for trading.

• This is a rare case where somebody else—typically a broker who is concerned you may not be able to afford the buyback—can control your trading.
• That isn’t out of the ordinary but what is unusual is when a group of investors or a single large institutional investor starts buying up stock, resulting in a short squeeze.
• As noted, short sellers open positions on stocks that they believe will decline in price.
• However, if the price rises instead of falls, a short squeeze can occur.

While short squeezes are nothing new, this action is unprecedented. The action was certainly partly stock buying by the Reddit group wallstreetbets. In 2021, we saw a number of stocks make truly staggering jumps, doubling in price on consecutive days.

Volkswagen (VW) Short Squeeze

The initial increase in the stock price could lead to a short squeeze if it continues, sending the price higher and higher. The short-interest ratio measures the number of days it would take all short-sellers to exit their positions based on the average daily trading volume. The higher the short-interest ratio, the greater the chance of a squeeze.

This is definitely part of what was happening in GameStop (GME) stock. Volatility profiles based on trailing-three-year calculations of the standard deviation of service investment returns. This website is using a security service to protect itself from online attacks. There are several best forex broker actions that could trigger this block including submitting a certain word or phrase, a SQL command or malformed data. Some of these Redditors like DeepF—inValue are good at what they do. They are like underground poker players and have nerves of steel and also have less at stake.

Do not infer or assume that any securities, sectors or markets described in this article were or will be profitable. Historical or hypothetical performance results are presented for illustrative purposes only. Buying pressure, when it comes to stocks, can mean a multitude of things. However, a sudden pressure or increase in the number of shares bought can also lead to a short squeeze. It’s important to note that buying pressure alone may not be a substantial indicator that a short squeeze will occur, but it may be used in support of other indicators.

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In addition, Porsche’s unexpected announcement and major increase in its stake ownership in Volkswagen left very few available shares for short sellers to account for. This unforeseen event not only created a supply and demand issue, but caused short sellers to panic because they still needed to buy back Volkswagen stock to exit their positions. However, there was very little supply (shares to buy), which affected short sellers’ ability to close their positions.

What Is a Short Squeeze?

These brokerage services are offered by broker-dealers other than Public Investing, who may pay us a referral fee or other compensation. Please see Open to the Public Investing’s Fee Schedule to learn more. For example, let’s say ABC stock has been creating a buzz in the stock market, causing how to buy sushiswap buyers to invest in the stock because of its good performance and their prediction that it will continue to increase. On the contrary, it has also sparked interest in short sellers, who are predicting that ABC’s stock value will eventually decrease, and it’s only on a temporary upward trend.

The relative strength index (RSI) measures the extent of price changes to determine overbought or oversold conditions in the stock market. A low RSI means that a stock is oversold and is trading at a low price, while a high RSI means that a stock is overbought and is trading at a high price. An RSI below 30 means that the stock’s price will increase, which can signal a short squeeze. Another more recent example of a short squeeze was the January 2021 GameStop short squeeze. GameStop, a retail gaming company, was affected by a decrease in mall foot traffic, the pandemic, and competition. Naturally, short sellers had grown interested in the stock’s decline.

How a short squeeze happens

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The loss will increase as the price continues to rise, and this could continue indefinitely. The only way to stop the hemorrhaging is to close out the short position by buying the stock and settling your debt. Since a short seller’s buying decision for a stock makes a stock’s price increase, this ultimately leads to other short sellers buying to exit the position. In addition, a stock’s price increase may also encourage regular buyers to invest in the stock with the belief that the stock’s value will continue to increase. In spectacular situations, however, the stock may rise times in value, sometimes over just a few days.

Short Squeeze: Meaning, Overview, and FAQs

That is, naked shorting can force a price drop, which leads to some share sales to cut losses, allowing the market to effectively find balance. Contrarian investors may buy stocks with heavy short interest to exploit the potential for a short squeeze. A rapid rise in the stock price is attractive, but it is not without risks. The stock may be heavily shorted for good reason, such as a dismal future fusion markets overview outlook. By the end of the 2020, the heavily shorted stock caught the attention of an aggressive group of day traders from the /r/wallstreetbets community on the social platform Reddit. The online community realized that if they collectively and heavily bought GameStop stock, they could deal a huge blow to the hedge funds who were shorting the stock, and they could earn a profit along the way.

As more and more short-sellers are forced or decide to cover their positions by buying the stock, the price rises higher and higher. Sometimes a short squeeze convinces other investors to buy, sending the price up even further. This unexpected rise in the share price can signal to other short-sellers to exit the short, further driving the price up. Positive product news or earnings reports can quickly derail a short. Frantic buying can drive stock prices to rise out of control, squeezing the short-sellers out of their positions.

There were a bunch of Redditors who bought low, sat patiently, and sold high—they made a lot of money. And then there were Redditors who came in later, or who held on too long, and they would have lost a bunch of money, or made “paper profits” but did not sell at the right time to lock in profits. Technical traders also look at indicators such as the Relative Strength Index (RSI), which are intended to indicate overbought or oversold conditions in a market. A market is considered to be oversold when the RSI reading is below 20.