One of the most common misconceptions about shorting that have raised a lot of attention since the GameStop saga is that most investors do not understand how the short interest can be over 100%. So, how can the short interest be more than 100%?
In this blog post, we will discuss in more detail what short interest is, how it works, and why it matters. We will also answer some common questions about short interest, such as "what is the maximum short interest?" and "what does 99% short interest mean?".
What is shorting?
While most investors have heard the term shorting they are not entirely sure how it works.
This is when investors believe a stock will go down in price and they borrow shares of the stock, sell it, and hope to buy it back at a lower price. They do this so they can return the shares to the person they borrowed them from and pocket the difference.
What is short interest?
Short interest is simply the number of shares that have been sold short and not yet repurchased, or covered. It is expressed as a percentage of the total number of shares outstanding. Simply put, short interest is the number of shares sold short divided by the number of shares outstanding.
How short selling works
To truly understand how the short interest can be higher than 100% we need to understand clearly how short selling works.
When a short position has been created the owner of the shares lends them to the short seller. The short seller proceeds to sell those shares which increases the temporary number of shares available.
Investor A lends short seller B 100 shares of XYZ, and the short seller proceeds to sell those shares short, another investor C will buy those 100 shares. This makes the number of shares available on the market increase by 100 shares.
How can more shares be shorted than exist?
It is possible for more shares to be shorted than the number of shares that exist if investors keep shorting the stock. When an investor sells the stock short he is adding to the number of available shares on the market.
So every time the stock is shorted, more shares are added, and this is how it is possible for the number of shares shorted to be greater than the existing shares.
What is the maximum short interest?
The maximum short interest is equal to the float of the company. The float represents the percentage of shares that are available to be traded on the market, but the short interest can even be higher than the float, as we explained in the image above.
This can create a short squeeze and send the stock price soaring. So, if you see a stock with high short interest, it's worth paying attention to. It could be ripe for a short squeeze and it can be a great trading opportunity.
What does 99% short interest mean?
It means that almost all of the available shares have been shorted. This could be because investors believe the stock price is going to drop. Either way, it's important to keep in mind that high short interest can sometimes mean there's more downside risk than upside potential.
How much is a lot of short interest?
If the short interest as a percentage of the float is greater than 10%, it is considered a high short interest. This is because it means that more than one in ten outstanding shares are being held short.
What is the average short interest?
The average short interest is usually around 1.5% to 3% for most of the stocks traded on the S&P 500.
How do you tell if a stock is heavily shorted?
There are a few ways to tell if a stock is heavily shorted. One way is to look at the "short interest ratio." This is the number of shares that have been sold short divided by the average daily trading volume.
A high short interest ratio means that more shares are being sold short than there are being traded each day. Another way to tell if a stock is heavily shorted is to look at the "days to cover" ratio.
This is the number of days it would take for all of the Short sellers to buy back their shares, based on the current trading volume. A higher number here means that it would take longer for all of the Short sellers to buy back their shares, and so this stock may be more heavily shorted.
You can also look at the "short interest" itself, which is the total number of shares that have been sold short. This number can be found in the company's most recent quarterly report. A high short interest means that more shares have been sold short than ever before, and so this stock may be more heavily shorted.
Lastly, heavy shorting can be a sign that something is wrong with the company. If there is a lot of shorting going on, it may be because investors are worried about the company's financial health or its ability to meet its obligations.
This is something to be aware of, but it's not always a sign that you should avoid the stock.
Is high short interest good or bad?
High short interest indicates that there is something inherently wrong with the company, or its business model. It usually means that investors have a very negative outlook on the company, and it could signal trouble ahead. However, short sellers can sometimes pile into crowded trades, or in this case a crowded short position. This could potentially push the stock’s market cap lower than its actual intrinsic value.
A high amount of short interest means that there are more potential sellers than buyers, which can make it easier to drive the price down. However, it's important to remember that a stock with a high amount of short interest can be volatile.
This is because if the stock starts to rise, then the short sellers will start to cover their positions, which can drive the price up even higher.
What happens when more shares are shorted than exist?
Market disruptions can occur when more shares are sold short than exist because it can create a shortage of shares. This is known as a "short squeeze." A short squeeze happens when the price of a stock starts to rise, and the short sellers are forced to buy back their shares at a higher price to cover their positions.
This can drive the price up even higher, and it can create a situation where the Short sellers are "squeezed" out of their positions. A short squeeze can be bad for short sellers, but it can be good for investors who are long the stock. This is because a short squeeze can drive the price up sharply, and so investors who are long the stock can see their positions appreciate in value.
Short squeezes can also be bad for the market as a whole because they can create a situation where there is not enough supply to meet the demand, and create very high levels of volatility. This can lead to market disruptions and even crashes. It's important to remember that a short squeeze is not the same thing as a stock going up in value.
A short squeeze happens when the price of a stock is rising, and short sellers are forced to buy back their shares at a higher price. A stock going up in value can happen for any number of reasons, and it doesn't necessarily mean that there is a shortage of shares.
Conclusion
Short interest is the number of shares sold short as a percentage of total shares outstanding. It is a good indicator of investor sentiment, and it can also be used to gauge the level of risk in a stock. High short interest is when a lot of people are betting against the company's success compared to the number of people who own the stock.
It's important to remember that a stock with high short interest can be extremely volatile.