Short Squeeze

Investing 101: Understanding the Short Squeeze

What is a Short Squeeze and How is it Created?

A short squeeze occurs when short sellers, who have bet against a stock by borrowing shares and selling them, are forced to buy back those shares at higher prices.

This usually happens when the stock price unexpectedly rises, causing the short sellers to incur losses and scramble to cover their positions, further driving up the price.

The Mechanics of a Short Squeeze

Short sellers anticipate a decline in a stock’s price.

They borrow shares from a broker and sell them, with the goal of buying them back at a lower price to return to the broker, thus pocketing the difference.

However, if the stock price increases instead, short sellers face potentially unlimited losses and must buy back shares at higher prices, creating a short squeeze.

Example of a Short Squeeze

Imagine shorting Apple (AAPL) at $400 per share by borrowing 100 shares and selling them, putting $40,000 in your account.

If AAPL falls to $350, you can buy back the 100 shares for $35,000, keeping the $5,000 profit.

However, if AAPL rises to $450, you face a $5,000 loss, and as the price climbs, the pressure to buy back shares intensifies, further driving up the price and exacerbating the squeeze.

Identifying Short Squeeze Opportunities

To capitalize on short squeeze opportunities, follow these steps:

  1. Find High Short Interest Ratios: Look for stocks with a high Short Interest Ratio (SIR), which is the current short interest divided by the average daily trading volume. A SIR above 6 is typically considered high.
  2. Identify Bullish Trends: Focus on stocks in a strong bullish trend. Short sellers suffer when prices rise, so target stocks with an upward trend, indicated by a rising 50-day moving average.
  3. Determine a Trigger Price: Identify the price point where short sellers are likely to capitulate. Trigger prices often include new highs (52-week or all-time), round numbers like $50 or $100, where the psychological impact can be significant.

Recent Examples of Short Squeezes

  1. Archer Aviation (ACHR)
    • Recent Performance: Archer Aviation has seen significant interest with a price rise of 172% this year. The stock, currently around $5.30, has a short interest of 26%. Archer’s plans to commercialize eVTOL aircraft by 2025 and their contracts with the U.S. Air Force are key growth drivers.
    • Trigger: With robust business developments and expansion plans, Archer is a strong candidate for a short squeeze in the near future​.
  2. Lucid Group (LCID)
    • Recent Performance: Despite a 40% drop year-to-date and a current price of around $7.60, Lucid Group’s high short interest of 25% makes it a potential short squeeze target. The company has a liquidity buffer of $5.45 billion, which is expected to fund operations through the production launch of the Gravity SUV in late 2024.
    • Trigger: A turnaround in production growth guidance or improved financial performance could trigger a short squeeze.
  3. Blink Charging (BLNK)
    • Recent Performance: Blink Charging, trading around $2.50, has a 77% drop year-to-date but shows a short interest of 27%. The company reported Q3 2023 revenue growth of 152% and aims for EBITDA break-even by December 2024.
    • Trigger: Continued revenue growth and improving EBITDA margins are likely to drive a short squeeze.

Conclusion

Short squeezes create lucrative trading opportunities by forcing short sellers to buy back shares at higher prices, driving up the stock further. By identifying high short interest ratios, bullish trends, and trigger prices, traders can strategically position themselves to benefit from these market dynamics.

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