What Is the Short Interest Ratio?
The short Interest ratio takes the number of shares held short in a stock and it divides this by the stock's average daily trading volume. Simply put, the ratio can help an investor find out very quickly if a stock is heavily shorted or not shorted versus its average daily trading volume.
The term is sometimes used interchangeably with days to cover.
- The short interest ratio is a quick way to see how heavily shorted a stock may be versus its trading volume.
- The short interest ratio indicates how many days it would take for all the shares short to be covered or repurchased in the open market.
- The short interest ratio and short interest are not the same—short interest measures the total number of shares that have been sold short in the market.
- News or events may impact trading volumes and make the ratio expand or contract, so it should always be compared with the actual short interest and trading volumes.
The Formula for Short Interest Ratio Is:
Short Interest Ratio=ADTVSIwhere:SI=Short InterestADTV=Average Daily Trading Volume
What the Short Interest Ratio Can Tell You
The ratio tells an investor if the number of shares short is high or low versus the stock's average trading volume. The ratio can rise or fall based on the number of shares short. However, it can also increase or decrease as volume levels change.
Example of How to Use the Short Interest Ratio
The Tesla chart below shows the short interest ratio, the number of shares short, and the daily average trading volume. In the example, one can see that a rising short interest ratio does not always correspond to rising short interest.
In July and August 2016, the short interest ratio rose despite the number of shares short falling. That was because the daily average volume fell sharply during that time. Additionally, the short interest was steadily declining in 2018 despite short interest being elevated because the average daily volume was steadily rising on the stock.
The Difference Between a Short Interest Ratio and Short Interest
It is essential to remember that the short interest ratio and short interest are not the same. Short interest measures the total number of shares that have been sold short in the market.
The short interest ratio is a formula used to measure how many days it would take for all the shares short in the marketplace to be covered.
Limitations of Using the Short Interest Ratio
The short interest ratio has several flaws, the first being that it is not updated regularly. Short interest is reported every two weeks and is usually as of the 15th and the last day of the month. It takes several days before the information is published and by that time, the number of shares short in the market may have already changed.
Additionally, one must consider how news or events may impact trading volumes and make the ratio expand or contract. The ratio should always be compared with the actual short interest and trading volumes to get the full picture.