When investors short a stock, they have to borrow it from other investors, that are willing to lend them. However, the lender of the shares can have them back, and they do it by issuing a share recall.
In this article, we will explain what a share recall is, and how it works.
What is share recall?
A share recall happens when the lender of securities, requires the borrower to return them. This is not a very common practice in financial markets, although it happens from time to time.
A share recall is also dependent on the agreement between the lender and the borrower, and this is typically a standardized practice that brokers implement for their customers. In most of the arrangements, the owner of the shares has the right to recall its shares at any time.
A share recall is one of the major risks short sellers face, because when the lender requests his shares back short sellers are forced to cover their short positions, and they can find themselves in a situation where they can’t cover the short position.
How does a share recall work?
A share recall is always requested by the lender of the securities and can be done on most broker platforms. Here is how a share recall works step-by-step:
- The lender asks for a share recall
- Short sellers are notified
- Short sellers are forced to buy back the stock and cover their short position
- The shares are returned to their rightful owner
What happens when an investor recalls shares?
When shares are recalled, the short sellers are notified and are forced to cover their short positions. Once the shares are recalled, your broker will not be able to lend the shares to short sellers.
If you are a short seller and you have been notified of a share recall, you will be forced to buy the shares.
Who can do a share recall?
A share recall can only be requested by the lender of the shares. This means that every investor that owns stock that was loaned to short sellers can request a share recall. This is also dependent on the agreement between the investor and the broker, but most of the time, the rightful owner of the shares has the right to recall the stock.
What causes a share recall?
There are various reasons why an investor would recall shares, but it is a measure that is typically used when stocks are heavily shorted. Some of the largest short squeezes in history have taught us that share recalls can be used to trap short sellers.
Why investors recall shares
If you own a large stake of a stock that is heavily shorted, you can allow short sellers to borrow shares from you. While this happens they will sell short those shares, but if you keep buying and recall your shares, short sellers will also be forced to cover their shorts.
One of the instances where this strategy was used was in the KaloBios short squeeze. Martin Shkreli purposely let short sellers borrow the stock, and then issued a share recall of his shares. This forced short sellers to abruptly cover their short positions and pushed the stock even higher.
What are the benefits of share recall?
The main benefit of a stock recall is that it creates buying volume because short sellers that have borrowed the stock are forced to close their short positions. If the stock moves a lot it can even trigger margin calls by brokers who forced their customers to close short positions.
How do you recall loaned shares?
The way to recall shares varies depending on the broker you have, but most brokers allow you to use the trading platform to request a share recall. You will be notified that the process started, and your broker will notify the borrower of the shares.
With some brokers, you might have to contact them directly through the phone to let them know of your intention of recalling shares.
Is a share recall good or bad?
A share recall tends to have a positive influence on the stock price because short sellers are forced to buy the shares and cover their short positions.
If the shares recalled are a large percentage of the outstanding shares, the stock price can go up a lot because short sellers are all forced to cover their shorts in a short period of time.
While share recalls can be great news for an investor that is long the stock, it can be the complete opposite for short sellers that are forced to buy the shares and cover their shorts.
Share recalls are one of the largest risks for short sellers.
Conclusion
Although share recalls are not very common, investors should be aware that they might happen. Especially short sellers that are borrowing shares, and could see their short positions turn into losses due to a stock recall.
If you want to short a stock make sure you understand the risks associated.