A short squeeze is said to occur when a stock jumps distinctly high in a short period. As an investor, you should know how to identify and hedge against it. This article explains how you can do this.
If you ask an experienced, advanced trader, you’ll learn that investing is a skill. It involves several dynamics and calculated decision-making, such as identifying the movement of trends and stocks, reading analytical charts and patterns, and entering and exiting trades at the right time, among other things. One such market dynamic you should know about is a short squeeze. Let’s find out what is short squeeze and learn how to identify short squeeze stocks.
Short squeeze – definition and explanation
A short squeeze is defined as a share market dynamic, which occurs when the stock, share or any other market asset jumps dramatically higher in a brief period, typically for a few hours, or even a few days. When this situation occurs, traders who have bet that the stock’s price would fall are forced to buy the shares to forestall more significant losses in future. As they scramble to buy more stocks, it adds an upward pressure to the stock’s price, resulting in increased volatility. All stocks and assets, irrespective of whether they are from large, multi, or small-cap companies, are vulnerable to short-squeeze, especially those with low volumes. As such, it becomes essential for investors to know how to find a short squeeze.
How to find a short squeeze?
It is very easy for investors to get tangled on the wrong side of a short squeeze since it can seemingly occur out of nowhere. That said, several warning signs can predict an imminent short squeeze. Here are three ways to identify a short squeeze.
1. The first thing to remember is that shares or assets with sizeable short interest are generally the most susceptible to squeezes. If you notice a short interest over 20%, you should consider it as a potential red flag.
2. Stocks that have a small amount or volume of shares that are available for trading can also be potentially squeezed. This is because a sudden surge in the shares volume can cause a volatile swing in the upward or downward direction.
3. Another way of how to find short squeeze is if you notice that a stock is sharply rising, on a higher volume, in the absence of any company announcements or technical formations. This indicates that the chances of a short-squeeze occurring are high. If such a situation arises for a stock you’ve invested in, you must immediately understand and weigh your options.
Escaping a short squeeze
Having explained how to identify short squeeze stocks, you must know how to survive a short squeeze if you’re ever caught in one. Here are a few tricks
1. Determine if you can afford it – both on a financial and emotional level.
2. If you believe your margin account has enough funds and you can bear a short-term loss, you need to check if anything has changed on a fundamental level. If there aren’t any fundamental changes, you can wait it out.
3. You can also set up stop-loss so that a short squeeze does not overpower you. Setting up stop-loss triggers a buy order, which in turn, can help you exit the trade
4. Avoid shorting stocks without devising a clear exit strategy.
5. Hire an investment expert to manage your investments.
As mentioned above, a short squeeze typically lasts for a short-term. The gains or losses can last for a little while but can have significant ramifications on your investment so you should know how to find short squeeze. What’s more, it is impossible to predict how long the short squeeze will last. At Angel One, our investors can help you make informed investment decisions.