What is Days To Cover?
Days to cover, also called short ratio, measures the expected number of days to close out a company's issued shares that have been shorted. It measures a company's issued shares that are currently shorted and divides that by the average daily trading volume to give an approximation of the time required, expressed in days, to close out those short positions.
Understanding Days To Cover
'Days to cover' is calculated by taking the number of currently shorted shares and dividing that amount by the average daily trading volume for the company in question. For example, if investors have shorted 2 million shares of ABC and it's average daily volume is 1 million shares then the days to cover is 2 days.
Days to Cover = Current Short Interest ÷ Average Daily Share Volume
'Days to cover' can be useful to traders in the following ways:
- It can be a proxy for how bearish or bullish traders are about that company which can aid future investment decisions. A high 'days to cover' ratio might be a harbinger that all is not well with company performance.
- It gives investors an idea of potential future buying pressure. In the event of a rally in the stock, short sellers must buy back shares on the open market to close out their positions. Understandably, they will seek to purchase the shares back for the lowest price possible, and this urgency to get out of their positions could translate into sharp moves higher. The longer the buyback process takes, as referenced by the 'days to cover' metric, the longer the price rally may continue based solely on the need of short sellers to close their positions.
- Additionally, a high 'days to cover' ratio can often signal a potential short squeeze. This information can benefit a trader looking to make a quick profit by buying that company's shares ahead of the anticipated event actually coming to fruition.
- Days to cover, also called short ratio, measures the expected number of days to close out a company's issued shares that have been shorted.
- Days to cover is calculated by taking the number of currently shorted shares and dividing that amount by the average daily trading volume for the company in question.
- A high 'days to cover' ratio can often signal a potential short squeeze.
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 higher 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.