Short Selling Basics
What does it mean to short a stock?
Borrowing shares and selling them, hoping to buy them back at a lower price.
What company’s 2021 short squeeze led to retail investors battling hedge funds?
GameStop (GME)
What happens to a stock’s price during a short squeeze?
It rises rapidly as short sellers rush to buy back shares.
A trader shorts a stock at $50 per share. The price rises to $75 before they cover. What is their loss per share?
$25 per share
What is required in a brokerage account to short a stock?
A margin account.
Which electric vehicle company had a massive short squeeze in 2020, forcing many funds to cover?
Tesla (TSLA).
What major risk do short sellers face in a short squeeze?
Unlimited losses as stock prices can rise indefinitely.
If a trader shorts a stock at $40 per share and later buys it back at $30, what is their profit per share?
$10 per share
What is a margin call?
A broker's demand for a short seller to deposit more funds when losses increase
What was the name of the hedge fund that suffered major losses in the GameStop squeeze?
Melvin Capital.
How to identify a short squeeze?
Large number of short sellers
Unusual trading volume
Positive news or other catalysts
Misinformation
A hedge fund shorts 100,000 shares of a stock at $60. The stock jumps to $120. How much total loss does the hedge fund suffer?
$6,000,000
What is the term for when short sellers must buy back shares due to extreme price increases?
A Short Squeeze.
In 2008, which German carmaker temporarily became the world's most valuable company due to a short squeeze?
Volkswagen (VW)
Why understanding short squeeze is important? (list all 3 reasons discussed previously)
(1) Market efficiency (Short squeezes force a rapid re-evaluation of a stock’s price)
(2) Risk management for short sellers (investors need to balance their exposure to avoid catastrophic losses - like example of Gamestop)
(3) More opportunities for traders (hedge fund companies with a long position would benefit from short squeeze)
If a stock has 50 million shares outstanding and 10 million are shorted, what is the short interest percentage?
20%.
What is the maximum profit a short seller can make on a stock?
100%, if the stock price drops to zero.
What biotech stock had a famous short squeeze in 1992, skyrocketing 400% in one day?
Piggly Wiggly
Is Short Squeeze illegal? Explain
Short Squeeze itself is not illegal. Market manipulation relating to short squeeze is illegal such as Coordinated effort (spreading false information or artificially inflating demand) , Naked short selling (short selling without borrowing the money first), and Pump and Dump schemes (hype up a stock with misleading claims to drive up price)
A stock’s daily trading volume is 2 million shares. If there are 10 million shares shorted, what is the "days to cover" ratio?
5 days