What is a High Short Interest | Short Interest Ratio Explained
Discover what a high short interest is and how you can use it to find short squeezes.
What is a High Short Interest?
When the short interest is high, it means several traders and institutions are betting on the stock decreasing. Short interest refers to the number of shares that have been sold short but have not yet been covered or closed out. When traders short a stock, they profit when the price decreases.
The short interest helps measure market sentiment, indicating how many traders believe a stock's price will decline. A high short interest occurs when a large percentage of a stock's available shares (or float) are sold short.
While there's no specific threshold that universally defines "high" short interest, it's generally accepted that a short interest above 20% of a stock's float can be considered high. This indicates that many investors are pessimistic about the stock's future performance.
How to calculate short interest as a percentage of float
To determine the short interest as a percentage of the float, divide the number of shares sold short by the total number of shares available for trading (the float). Many traders use the shortsqueeze.com website to find the short interest of stocks quickly.
This percentage provides insight into the level of bearish sentiment surrounding a stock. A higher percentage indicates more investors betting against the stock, while a lower percentage suggests that fewer investors expect the stock price to decline.
How to use short interest
Although a high short interest means several traders are betting on a stock decreasing, the short sellers must eventually cover their positions.
When the short sellers close their positions, they use buy orders, which will cause the stock to move up. Therefore, traders may speculate that a high short interest will cause a short squeeze and send the stock higher.
Is a high short interest good or bad?
A high short interest isn’t necessarily good or bad, but it can present opportunities for investors, particularly those who take a contrarian approach. When many investors are bearish on a stock, it can create an environment ripe for a short squeeze.
High short interest can also signal potential trouble for a stock. It indicates that many traders believe the stock's price will decline, which could be due to various reasons, such as poor financial performance, negative news, or unfavorable market conditions. A high short interest can put downward pressure on a stock's price as short sellers continue to bet against it.
What is a good short ratio for a stock (days to cover ratio)?
The short ratio, also known as the days-to-cover ratio, measures the number of days it would take for all short positions to be covered or closed out based on the stock's average daily trading volume. To calculate the short ratio, divide the total number of shares sold short by the average daily trading volume.
A high short ratio indicates that it would take longer for short sellers to cover their positions, making a stock more susceptible to a short squeeze. Conversely, a low short ratio suggests that short sellers can quickly cover their positions, reducing the likelihood of a short squeeze.
There's no universally accepted "good" short ratio, but a higher ratio (e.g., 5 or more) may signal a greater potential for a short squeeze, while a lower ratio (e.g., 1 or 2) suggests less potential for a squeeze.
What is a short squeeze?
A short squeeze occurs when a stock's price rises, forcing short sellers to cover their positions by buying shares, which drives the price even higher. This can lead to substantial gains for traders who bought the stock before the short squeeze.
What was the largest short squeeze?
The largest short squeeze in recent history occurred in January 2021 with GameStop (NYSE: GME). The struggling video game retailer's stock price surged from around $20 at the beginning of the month to an intraday high of $483 on January 28, fueled by a group of retail investors on the Reddit forum r/wallstreetbets.
These investors noticed that GameStop had an extremely high short interest, with more than 140% of its available shares sold short, and decided to collectively buy shares and call options to drive up the price.
Chart of the GME Short Squeeze
As the stock price soared, short sellers were forced to cover their positions, further propelling the stock upward. At its peak, GameStop's market capitalization reached over $20 billion, and its rapid rise led to significant financial losses for some hedge funds that had taken large short positions in the stock.
The GameStop short squeeze also raised concerns about market manipulation and the potential risks posed by social media-driven trading, sparking widespread debate and regulatory scrutiny.
