Many commentators have ascribed the recent move in the market to a change in sentiment by investors, fed by recent positive economic news that indicated that the economy has stopped contracting and may be entering an expansion phase late in 2009 or early 2010.
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Another less-discussed reason may be buying by investors who were short the market, as they were either forced or felt the need to buy stocks to cover outstanding short positions. This buying has been accelerated as the S&P500 broke through several technical resistance levels over the last few months.
Despite this heavy short covering, there still are some heavily shorted stocks in which investors are still convinced that they might retest its lows. These might be candidates for short squeezes, whereby short sellers are forced to buy back stock suddenly to cover positions. This leads to a sharp upward move in price.
The short interest as a percent of the float is defined as the total number of shares of a stock sold short divided by the float.
The days to cover ratio or short interest ratio is defined as the number of days of trading volume needed to cover that short interest, using as the denominator the average volume over a certain period of time.
High Short Percent Of Float
The Bank of the Ozarks (Nasdaq:OZRK) has 4.7 million shares of its shares sold short, which is 31% of its float. It would take almost 16 days of trading volume to cover this short position. This high short ratio is down considerably from 37 days reached at the end of 2008. The Bank of the Ozarks was added recently to the S&P600 Small Cap Index, which might have caused some buying from index funds.
Synaptics Incorporated (Nasdaq:SYNA) has one of the highest percentages of shares sold short at 45% of the float, and days to cover is 12 days. It would seem that both Bank of the Ozarks and Synaptics might move higher if short sellers went to cover short positions suddenly.
The prospects of a short squeeze may not be likely for these next two stocks, as both have washed out many of its short sellers since the beginning of the year.
Blue Nile (Nasdaq:NILE) has 4.6 million of its shares sold short, representing 39% of the float. While this may seem high, it is only nine days of volume for the stock, and is the lowest short interest ratio for the stock in a year. The peak short interest ratio was 41 days at the end of 2008. Blue Nile's forward price to earnings ratio is 50, so some investors may still be betting against its valuation.
The same trend of short selling appears for World Acceptance Corporation (Nasdaq:WRLD), which has 5.2 million shares sold short, or 33% of the float. This is only six days of volume. At the end of 2008, the short ratio was 38 days.
The Bottom Line
Many shorts have sought to limit losses or book profits and have covered short positions by buying stock back, possibly forcing the market higher. There are still some heavily shorted stocks, and investors should look for possible short squeeze candidates if they conduct short term trading operations. (For further reading, take a look at Profiting From The Squeeze.)