Long Story Short on Short Interest Published: 2022-09-21
What Is Short Interest?
Short interest is a snapshot of the total short positions for a given stock as of a certain date. There is a significant lag in the data release. The important dates to keep in mind are the settlement date, due date, and publication date. The settlement date is most important as the short positions reported are as of that date. The reporting entities then have until the due date to report these data to FINRA
, the Financial Industry Regulatory Authority. Finally, the NYSE and NASDAQ release the data to the public on the publication date. It would be much better if the data were released at the end of the day every market day, in my opinion, but it is what it is.
The following dates are for the rest of 2022.
Settlement Date Due Date Publication Date
Why is short interest important?
Investors short stocks for many reasons. It may be that they consider the stock to be overvalued and a total piece of crap with terrible management and that its prospects are basically nil. Unless it's hard to borrow, a stock like this represents a great opportunity for a large firm because they can earn money on the short and on the rebate rate the broker pays them on their collateral. Investors may also short a stock as a hedge against an existing position in their portfolio. Many investors try to limit exposure one way or another and shorting stock can be a great way to do this. Also, market makers rely on short positions to hedge their positions as they are not actually speculating on the movement of a stock as a market maker. They are profiting off the spread or the difference between the buying and selling price. If a large sell order comes in for a stock, in order to maintain a liquid market they will buy those shares from the seller. This leaves them with a large long position that they will then hedge by selling shares short in that stock. Keep in mind that there are costs associated with short selling as detailed in this article
So that's the basic gist of how short interest works in a normally functioning market. That doesn't really answer the question: "Why is it so important?" It's because of abuse. The stock market is lightly regulated, shall we say. Firms engage in shady practices all the time and mostly get away with it. Shorting stock is risky because once in a while a position can go against you and if you're not properly hedged or if you're otherwise exposed you can literally lose everything. There have been a few high profile incidents in recent years. The short squeeze in Gamestop
cost many hedge funds dearly. White Square Capital, Melvin Capital, and Light Street Capital all suffered huge losses during the squeeze
. Most of the time, it's a profitable endeavor and they can get away with a lot of chicanery. There have been famous cases where stocks have had more than 100% of their outstanding stock shorted. This and other types of manipulative short selling abuses are detailed in this paper from the SEC.
It would be one thing if everyone could do this, but they can't. While the average investor can short stock in their regular brokerage account, it is almost always unavailable in a retirement account. Yes, shorting stock is risky, but investing overall is risky so that's not any more of a valid reason to not allow everyone to do it. It's especially risky, in my opinion, to only allow the average person to sell and go to cash and not be able to participate in general downward moves in the stock market.
Short interest is one important part of understanding the supply and demand of the market in a given stock. Yes, it is incomplete, but coupled with other information it can give important clues about future price movement. Every investor needs to pay attention to short interest as part of a larger due diligence effort.
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