What is Squeeze
Squeeze is used to describe many financial and business situations. In business, it is a period when borrowing is difficult or a time when profits decline due to increasing costs or decreasing revenues. In the financial world, it is used to describe situations where short sellers purchase stock to cover losses or when investors sell long positions to take capital gains off the table.
BREAKING DOWN Squeeze
A squeeze is used liberally in finance and business and describes any situation where people are realizing losses, taking gains or finding credit financing difficult. The four types of squeezes are explained below.
A profit squeeze is realized by a business when its profit margins have decreased or are decreasing. This type of squeeze happens when a company's revenue declines or its costs rise. The underlying causes of a profit squeeze are numerous but commonly consist of increased competition, changing governmental regulations and expanding producer and supplier power.
A credit squeeze describes any situation where it becomes difficult to borrow money from banking institutions. This type of squeeze normally happens when an economy is in a recession or when interest rates are rising. The issuance of bad debt, such as in the case of the 2008 financial crisis, often causes a recession and a credit squeeze. Rising interest rates occur because the Federal Reserve deems the economy is healthy enough, and consumer confidence is high enough, to assume a higher rate of interest. Therefore, a credit squeeze can occur in a down market and an up market.
A short squeeze is a common scenario in the equities market where a stock's price increases and its purchase volume spikes because short sellers are exiting their positions and cutting their losses. When an investor decides to short a stock, he is betting the price declines in the short term. If the opposite occurs, the only way to close the position is to go long by purchasing shares of the stock. This causes the stock's price to further increase, resulting in further action by short sellers.
This type of squeeze occurs in a strong financial market when there are sharp price increases and investors who are long a stock sell a portion of their position for a gain. This normally happens because investors place a stop-loss order to mitigate risk and ensure they are protected against any price declines. Even when prices are increasing, they often do so with volatility, and short downward swings can trigger the sell order.