Every trader wants to find trades that lead to fast profits. In stocks, that typically means getting into short-squeeze opportunities. The trick, of course, is to recognize clues to an impending parabolic move or rapid rise in price!
There are never any guarantees in investing, but it helps to have a plan for finding your ideal positions.
Clues to Find Short-Squeeze Stocks
The following are some factors that contribute to short squeeze stocks:
Low Share Count
A low share count is a critical starting point for finding the best short-squeeze stock opportunities. Short squeezes occur because the supply of stocks available for purchase is low relative to the number borrowed by short traders. When buying intensity picks up, shorts scramble to cover and stop-loss orders trigger. Computers hyper-ventilate and you see dramatic gaps in the chart. It also doesn’t take as much time for longs to accumulate shares at the bottom of the market with a low share count.
Image courtesy: CenterPoint Securities Short-Squeeze
Deep Price Discount
This point is true with any investment, but a deeply discounted price is necessary for a short squeeze. Shorts enter their positions at the top-end of price swings. Continuation of a bullish move could break through resistance and trigger stop-losses on those entries, but there is likely not a large enough short position to offer heavy follow-through on price. By the time there is enough short interest, those traders have a vested interest in protecting their positions. In doing so, they may leverage the short trader even more.
As shorts and sellers push the price down, momentum shorts join the fray (just as momentum buyers do on a bullish trend). Stock prices tend to fall more rapidly than they rise. Thus, it isn’t until price reaches an appealing low that shorts look to cover. The key at that point is whether the price discount attracts new buyers at a pace more rapid than the one at which shorts cover their positions.
Given that power players control the majority of trading, they take advantage of every major move in the chart. When bottom is reached on a short trade, they want time to cover those trades and accumulate fresh shares for the long position. This structure leads to periods of flat price-action, where accumulation occurs. When the sentiment shifts bullish, the price builds and a resistance break triggers stop-loss orders on short holdouts, which begins the squeeze process. Again, it is important that short positions remain, which are protected with stop-losses at various price levels. A short-squeeze is a process of cascading stop-loss triggers, which provide necessary volume and momentum to support the long effort.
Large Short Position
One of the most recognized clues to a short-squeeze is a large short position. Longs rely on shorts with stop-loss orders to provide carry through buy execution to support the volume of new buyers. Thus, a short-squeeze must commence before all shorts have decided to cover, or have had a chance to cover. “Days-to-cover” is a common ratio buyers look for in a short-squeeze opportunity. However, given delays in reporting on short interest, it is very difficult for retail traders to gain highly accurate insight into short activity. However, other short-squeeze clues identified here imply the presence of a leveraged short position.
Volume becomes very limited ahead of a short-squeeze. This development indicates that accumulation is nearing completion and that shorts satisfied with their gains have covered. It also shows market indecision on the next move. Shorts that remain believe the decline will continue as that is what they have become accustomed to seeing. If the bulls take over, the surprise element adds to panic covering, just like panic selling contributes to sharp price declines. The difference with panic on the short position is that shorts are more leveraged. Short trades are facilitated through the borrowing of shares, which means traders pay daily margin interest. Short squeezes typically come with high turnover on share count, meaning the volume exceeds the share count by a large multiple.
This last point is arguably the most important, but often the most overlooked component of a short-squeeze. In low-float stocks, retail traders have a greater ability to affect price-action than they would in stocks with a higher share count. For instance, 200,000 retail traders entering a stock with 3 million shares is far more impactful than the same number of traders entering a stock with 100 million shares.
When investing and finance media report on low-float stocks that have short-squeeze potential, the attention attracts interest from the retail market. Publishers also put out articles identifying specific stocks they feel are good short-squeeze candidates. Naturally, these articles appeal to retail traders who like the prospect of rapid profits sooner than later. Of course, the “elephant in the room” surrounding this point is the potential conflict-of-interest that exists if media have a “vested” interest in the stocks they cover.
You are likely aware of the short-squeezes that occurred in GameStop (#GME) and AMC Entertainment Holdings (#AMC) this past year. These stocks don’t necessarily match a lot of the short-squeeze criteria identified here. However, they show the collective influence of the retail trade supported by the power of social media, which was subsequently rejuvenated by the power of mainstream media attention. These types of short-squeeze opportunities are rare and hard to come by, though.
Conclusions and Recommendations
As mentioned, there are no guarantees in trading, but recognizing this mix of clues to short-squeeze stocks increases your odds of a quick payday. Your downside risk is modest with this strategy if you get good entry prices. Even if you hit on a low percentage of these types of trades, the payoffs are very compelling. A key challenge is finding the right time to enter when accumulation is wrapping up. Get in too early, and you may get stuck for a while. Enter too late, and you miss the fun!
I have put together an updated list of short-squeeze stock opportunities that you can bookmark and follow.
Share a comment with your reactions and ideas on finding short-squeeze stock candidates!