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A complete guide to short squeezes in trading

Published on: 13/06/2022 | Modified on: 29/07/2022

In trading terms, a short squeeze can be dramatic, unpredictable, and make or cost you a great deal of money. But what exactly is it and how does it occur? In this article, we’ll explain the meaning of a short squeeze, what causes it and why it has such a significant impact on the financial markets. We’ll also show you short squeeze examples from history, explaining why they happened — and importantly, how you can potentially predict when the next short squeeze is coming.

KEY POINTS

  • A short squeeze can make traders win — or lose — a lot of money very quickly
  • They occur when a stock rises unexpectedly and short sellers rush to exit their positions, selling the stock
  • The stampede often increases a stock price by hundreds of percentage points in one day to record levels
  • It’s possible to predict an upcoming short squeeze and take advantage
  • Notable short squeezes from the past include GameStop, AMC Entertainment and Volkswagen
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Chief Market Analyst
mhewson_CMC

What is a short squeeze?

A short squeeze is when traders who have ‘shorted’ a stock​ (for example, bet against it) see its price suddenly rise, forcing them to try to exit their positions as quickly as possible before they incur further losses. This flurry of activity — and sometimes panic — surges demand for the stock, sending its price ever higher. A stock experiencing a short squeeze will usually surge and then plummet in value extremely quickly.

Short squeezes can also occur in other financial markets, such as cryptocurrencies, but are usually referenced in terms of the stock market.

A breakdown of how one happens

  1. When traders begin shorting stocks, they are betting a stock’s value will go down. They borrow it from a broker to sell it, and if they are correct, they will watch the price drop. Then, when they think it’s bottomed out, they aim to buy the stock back at the reduced price and return it to the lender, thereby making a profit on the difference.
  2. However, if the trader is wrong and the stock instead goes up, the trader loses money so will try to limit the damage by buying the stock back as soon as possible — before the price rises any higher — so they can return it to the lender and exit their position. They could feasibly hang on and wait for the price to drop, but this is an enormous risk which, if the price keeps rising, could lead to catastrophic losses.
  3. The traders’ urgent demand to buy back stocks forces the share price to spike even higher. In many (though not all) cases, when the shorted shares are closed out, the demand drops, forcing the price to fall back down again, often almost as quickly as it rose.

What causes a short squeeze?

A short squeeze occurs when there is a sharp and unexpected change in price of a financial asset, usually caused by positive news release on a stock’s performance, an unexpectedly favourable earnings report or a macroeconomic factor that suddenly leads to higher demand, creating a localised stock market bubble​.

This may make short sellers want to abandon their bear market positions, but in turn, this only increases the demand for stocks to rise and supply to reduce. The pressure to rebuy the stock and close their positions can be damaging to their trading portfolio, however, as they will spend a far higher figure than the original value of the position in an attempt to close them.

Is it possible to predict?

Because a short squeeze happens so quickly, even the most experienced traders are often caught off guard. However, once you understand what causes one, there are indicators that can help you to predict a short squeeze, including the following.

  • High short interest. If a high proportion of your chosen stock is held by short sellers, that could suggest the next short squeeze. ‘Short interest’ means the percentage of overall stock held by short sellers. If that figure is over 20%, a short squeeze could be on the way. The higher that percentage climbs, the more likely a short squeeze will occur. You can check the high short interest ratio (SIR), which compares short interest to daily trading volume and represents the total number of days short sellers would need to exit their positions. The higher this number, the more likely a short squeeze.

  • Borrowing costs on the move. Short sellers have to pay interest to borrow the stocks they will sell. If that interest rate suddenly increases, it could indicate there are fewer shares to short, and a higher demand that potentially makes a short squeeze imminent. But be aware a sudden unexpected drop in the cost of borrowing could have the same effect, as it may mean a trader with a large short position has started to cover.

  • Announcements or news stories. Short squeezes frequently occur as a result of company information such as news stories, earnings calls or product announcements. Traders should keep on top of these and be as aware as possible of upcoming events. For instance, knowing when the company’s annual general meeting (AGM) is and examining the agenda for any clues about sudden developments.

How to find short squeeze stocks

  1. Look at short interest. If they have a short interest of 20% or over, and an average daily share volume of over 100,000, this pushes up the short interest ratio.
  2. Analyse company statistics. Short squeezes are more likely to occur in small-cap stocks with a market capitalisation of more than $300m and a price over $5, as retail traders often look for stocks that are underperforming in order to boost their performance (though not always).
  3. Apply technical indicators to your price charts. For example, the relative strength index (RSI) and stochastic oscillator may suggest if these stocks are oversold or overbought, meaning traders will expect their price to rise.


As with every other aspect of trading, there are no guarantees, but it is possible to identify assets with the potential to become short squeeze stocks by following the above steps. Create a live account with us to access 10,000+ shares that have the potential to create a stir in the future.

When you sign up for an account, you can access our derivative trading products (spread bets and CFDs) that allow you to speculate on a stock’s price movement without taking direct ownership. This is particularly suited for short-term traders that don’t want to own a physical asset but instead enter and exit positions quickly with the aim of making small profits. Learn more about our account types​.

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What are some of the biggest short squeezes in history?

Piggly Wiggly short squeeze, 1923

Attempts to short squeeze a stock are nothing new. But there are few more ill-advised and ultimately calamitous short squeeze examples as that of one Clarence Saunders, who took on Wall Street to try to beef up stock in his grocery business — and lost.

Saunders’ retail chain Piggly Wiggly revolutionised shopping, introducing the world’s first ever self-service supermarkets, which proved such a hit that by 1922, he had sold 1,200 franchises across the US, earning the business a listing on the New York Stock Exchange. But when a number of those franchises folded, traders began to short Piggly Wiggly’s stock.

Saunders was incensed and decided to teach Wall Street a lesson. He borrowed $10m (about £150m today) to buy as many shares as possible to force the price up and ruin the short sellers. By March 1923, he had snapped up 99% and cunningly got his brokers to loan 42,000 of them to short sellers. Piggly Wiggly’s stock value duly trebled, and then he played what he saw as his trump card — recalling all the company’s shares from those short sellers.

Unfortunately for him, Wall Street realised that the only way for almost all short sellers to exit would be to buy from Saunders, who could name his price, so the NYSE launched an investigation. It ultimately suspended trading of Piggly Wiggly, saying such a “concentration of holdings” prevented free trade of the stock. Saunders was forced to do deals with the short sellers, which made him money — but nowhere near enough to cover his $10m outlay.

Just four months after the stock’s peak, he’d quit his role at Piggly Wiggly and within a year, he filed for bankruptcy.

Volkswagen [VW] short squeeze, 2008

When Porsche announced in 2006 that it wanted to boost its shares in Volkswagen to 31%, the German car maker’s stock started to rise. But VW was in serious debt and over the next year, many institutional traders/hedge funds believed the stock was overvalued and took short positions.

As the financial crisis hit and car manufacturing plummeted, many more joined them, confidently expecting VW’s price to crash — especially after Porsche strongly denied market rumours in early 2008 that it would be increasing its holding to 75%. But fast forward to October 2008, and Porsche revealed to a shocked market that it held 42% of VW shares and had options on a further 31%. As another company, Lower Saxony, held a further 20%, this suddenly meant less than 6% of VW voting stock was on the market.

Suddenly there weren’t enough shares available, short sellers panicked as they had to pay to close out their positions, and the resulting supply-demand imbalance led to a monumental short squeeze. VW’s price went from €210 to €1,000 per share in two days, a jump so high that it briefly overtook Exxon as the company with the world’s largest market capitalisation.

The following day, Porsche eased the pressure by releasing 5% of VW shares. Within three days, the stock had dropped 58% and by mid-November, it was down 70% from its peak. Scant consolation, though, for the traders who had lost thousands in the short squeeze.

Tesla [TSLA] short squeeze, 2020

Elon Musk has always been able to make the headlines — even a tweet will bounce Tesla’s share price up and down — but in August 2020 the company’s stock price, for no clear single reason, suddenly shot up 50%.

The stock had been gathering momentum, but even though there were a few reasons for this – Tesla was about to join the S&P 500 and had just announced a stock split – analysts were baffled by such a sudden, dramatic spike. The most realistic and probable cause is simply the work of short sellers.

That month, Tesla became the most shorted stock​ in the world, with Wall Street sentiment claiming the stock was overvalued and heading for a crash. But a run of good headlines and Musk’s innate talent for PR kept the upward momentum going — so much so that over 2020 as a whole, Tesla stock gained 743%. Not so much of a short squeeze as a slightly longer one — there was no panic, but that left the short sellers who doggedly and ill-advisedly hung on losing a total $40bn.

AMC Entertainment [AMC] short squeeze, 2021

The world’s largest cinema chain was in danger of rolling its final credits as the pandemic took hold, until a short squeeze and a smart reaction by its CEO changed its fortunes.

The lockdown closure of AMC’s 10,500 screens across the globe left the company facing bankruptcy, resulting in a flood of short selling. But in mid-2021, it had raised $500m by issuing common stock and restructuring its debt, ending the immediate threat of insolvency. As a result, a group of Reddit-based short sellers began buying back the stock and two days later, its price rocketed 300% to $20 a share.

But that was only the beginning. While the first short squeeze faded away, the new retail traders amassed enough shares to become the company’s major stakeholders, raising the price sufficiently for CEO Adam Aron to sell 4.3 million more shares at $10 each. That boosted the price further to $25 but the following day the retail traders, who called themselves ‘the ape army’, piled in again. Within a few hours the stock nearly trebled to $70 and 20 times its value the previous January.

It was then that Aron made his smart move. He realised his company’s future was based on retail traders rather than institutional traders and switched his communications strategy to appeal to them using social media and YouTube. He gave away free popcorn, launched a programme called AMC Investor Connect to change shareholders into customers. Although the squeeze inevitably loosened, the price fell only to around $40 — still eight times its value at the start of the year, giving the company sufficient breathing space to consolidate as cinemas began to reopen. This example is not just of a short squeeze benefiting traders, but one that actually saved a company.

GameStop [GME] short squeeze, 2021

In January 2021, US video game and electronics retailer GameStop seemed in terminal decline. The pandemic had hit the company hard, and traders were so confident it was heading for the wall that at one point a mammoth 140% of its shares were shorted.

But then entered a group of retail traders who teamed up on a Reddit channel called WallStreetBets. They decided to try to force a short squeeze and started buying shares to increase GME’s value. The online buzz they created turned GME into the world’s first “meme stock” and were so successful that short sellers scrambled to cover their positions and buy back the stock at a significantly higher value — almost 200 times the original amount.

For three consecutive days at the end of January, the GME short squeeze accelerated, and its share price doubled. The stock, which was worth less than $4 five months earlier, had hit a pre-market value of over $500. Some major brokers then halted the buying of GME stock, claiming they could not provide the necessary collateral, and within days the price began to tumble to $40. Yet that wasn’t the end of the story. A backlash against the brokers followed and over the next few weeks the price jumped back up to $350 before then losing and regaining 50% of its value in 24 hours.

Examples of short squeeze stocks

Instrument Price Day Week Min spread Margin rate
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Are there any risks associated?

Trading on a short squeeze can bring an extremely high level of risk. If short selling traders are not able to offload their shares, there is no guarantee of how high a share price will rise after a fundamental event. Therefore, traders may be forced to buy more stocks at double the original value or even higher.

When trading with leverage, this magnifies the extent of losses. These risks should always be taken into consideration when spread betting or trading CFDs on the share market. Consult our money and risk-management guide​ for more information on using controls such as stop-loss and take-profit orders, which can help to protect your capital in losing positions.

However, the risks also come with benefits. For traders with long positions on a stock, a short squeeze can be an advantageous time to take profits. As the price of a stock jumps, and short sellers exit their positions while buying shares to recover losses, a trader could look to capitalise on these movements.

How to trade on a short squeeze with CMC

Once the short squeeze has begun, you can trade on it through our derivative products such as spread bets and CFDs on our Next-Generation trading platform. With derivatives, you do not actually own the underlying share, but rather speculate on its price movements. With traditional share trading, you are required to purchase and take ownership of the stock, whereas leveraged products give traders the advantage of placing a small deposit of the full value and receiving full exposure to the market. Remember that margin trading comes at a high risk and losses can surpass profits just as quickly.

At CMC Markets, we also have the educational tools and market insights to support your trades. Whether you’re using our website, our app or our other platforms, we will guide you through the features and tools available. We can give you access to market news and charts and help you place different order types, and we also offer a live help chat service. Our CMC dealers work with you to put into action your decisions and complete the trades you want to make.

Worried about the risks a short squeeze may bring to your share positions? Sign up for a risk-free demo account to practise with £10,000 worth of virtual funds first.

FAQs

How can you tell if a stock is heavily shorted?

To see if one is heavily shorted, you should check its short interest ratio. This type of information is available on various websites and a short interest of over 20% suggests that it is favourable with stock shorters, and could potentially lead to a short squeeze in the near future.

Who benefits from a short squeeze?

Retail traders can benefit from a short squeeze if they are able to predict the market’s movements before one happens, opening reactive buy and sell positions. You could also say that the company whose stock is being shorted may benefit, as investor attention helps to drive up the share price. For institutional traders and hedge funds who have a large amount of capital invested in a stock, it can be very damaging and amount to great losses, as seen with the GameStop [GME] short squeeze.

How long does one last?

Depending on the amount of stock shorted, a short squeeze can last anywhere between a few days and a few months. One way to calculate this is through the short interest ratio – dividing a company’s shorted stocks by its average daily trading volume. This gives you a number which is referred to as “days to cover” – the amount of time it may take for sellers to cover their short positions, although it may take less time if the squeeze is more aggressive than first perceived.


CMC Markets is an execution-only service provider. The material (whether or not it states any opinions) is for general information purposes only, and does not take into account your personal circumstances or objectives. Nothing in this material is (or should be considered to be) financial, investment or other advice on which reliance should be placed. No opinion given in the material constitutes a recommendation by CMC Markets or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person. The material has not been prepared in accordance with legal requirements designed to promote the independence of investment research. Although we are not specifically prevented from dealing before providing this material, we do not seek to take advantage of the material prior to its dissemination.

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