Why Does Short Interest Matter?

An All Star Options member recently asked me to explain what “short interest” meant.

This is a hot topic at the moment because there have been a few setups I’ve entered trades into recently, precisely because short interest levels are high.

So what is “short interest”?

According to chatGPT:

Short interest refers to the total number of shares of a particular stock that have been sold short by investors but have not yet been covered or closed out. When investors sell short, they borrow shares of a stock from a broker and sell them with the expectation that the stock's price will decrease. They then plan to buy back the shares at a lower price, return them to the broker, and pocket the difference as profit.

Short interest is typically expressed as a percentage of the total number of shares outstanding for a given stock. It is an important metric for traders and investors because it can provide insight into market sentiment. High short interest may indicate bearish sentiment, as it suggests that many investors are betting on the stock's price to decline. Conversely, low short interest may suggest bullish sentiment, as there are fewer investors expecting the stock's price to fall.

Traders often monitor short interest levels as part of their analysis when making trading decisions. High short interest can also lead to a short squeeze, where a sharp increase in the stock's price forces short sellers to buy back shares to cover their positions, further driving up the price.

I added the bold at the end, because that’s the piece that matters to me. When a stock is printing new relative highs (relative to where it's been over the past several months, at least), and a lot of people are holding short positions — all of those traders are losing money. Every tick higher increases their losses. The only way to end the pain is to buy stock.