What is Days To Cover
BREAKING DOWN Days To Cover
Days to cover is calculated by taking the number of currently shorted shares and dividing that amount by the average daily volume for the shares in question. For example, if a company has average daily volume of 1 million shares and 2 million shares are currently short sold, the shares have a cover rate of two days.
Days to cover is also referred to as the short-interest ratio, and it measures the future buying pressure on a stock that generally occurs as short sellers must buy back shares to close out the positions. If a stock's price begins to rise significantly, investors who have short sold the stock quickly begin to close out the positions by buying shares off the open market. Short sellers aim to purchase the shares back for the lowest price possible. Generally, signs that the share prices are about to rise will create buying pressure for the stock and drive the price up even more.
The longer the buyback process takes, as referenced by the days to cover metric, the longer the price rally continues based solely on the need of short sellers to close their positions.
The Short Selling Process and Days to Cover
Traders who short sell are motivated by a belief that the price of a security will fall, and shorting the stock allows them to profit from that decline in price. In practice, short selling involves borrowing shares from a broker, selling the shares on the open market and buying the shares back in order to return them to the broker. The trader benefits if the price of the shares fall after the shares are borrowed and sold, thus allowing the investor to repurchase the shares at a price lower than the amount for which the shares sold.
The days to cover represents the total estimated amount of time for all short sellers active in the market with a particular security to buy back the shares that were lent to them by a brokerage.
If a previously lagging stock turns very bullish, the buying action of short sellers can result in extra upward momentum. The longer the days to cover, the more pronounced the effect of upward momentum may be, which could result in larger losses for short sellers who are not among the first to close their positions.