Short stop

One night in the 1850s, a well-known Wall Street speculator named Daniel Drew appeared at the Union Club on Fifth Avenue, a place frequented by stockbrokers. Drew, a devout Methodist and teetotaler, looked anxiously about, sweating profusely. As he mopped his brow with a handkerchief, a piece of paper dropped to the floor. One of the brokers quickly put his foot on it.

Daniel Drew in 1872.
Daniel Drew in 1872.

After a few minutes, Drew left, and the brokers gathered around to read the paper. It was an order to Drew’s broker in his own hand. “Buy all the Oshkosh you can get, at any price you can get,” the note said. The next day, volume in Oshkosh was massive as the brokers bought, but the stock tumbled.

Drew was, of course, selling the stock, not buying, and most likely covering a short position. When you go short, you borrow shares from other brokers and sell them. To unwind the position, you have to buy shares, ideally at a lower price than what you sold them for. If you sell 100 shares at $90 and repurchase them at $70, you have a $2,000 profit.

One of the worst positions to be in on Wall Street is a “short squeeze.” Say you’ve borrowed 100 shares of Amalgamated Gadget at $80 per share, and the stock soars to $150 on news that it has found a way to teleport packages. If you had shorted, say, General Electric, you’d have no problem buying back shares. But if Amalgamated Gadget is thinly traded, you might have to pay dearly for the shares you need to cover your short.

Drew even wrote a little poem about it, which has passed into Wall Street legend:

He who sells what isn’t his’n

Pays it back or goes to priz’n.

This is what passed for humor on Wall Street in the 19th century.

"Ursus arctos - Norway" by Taral Jansen/Soldatnytt - originally posted to Flickr as Landskonferansen 2010. Licensed under CC BY 2.0 via Wikimedia Commons -
“Ursus arctos – Norway” by Taral Jansen/Soldatnytt – originally posted to Flickr as Landskonferansen 2010. Licensed under CC BY 2.0 via Wikimedia Commons –

Back in the 21st century, the New York Stock Exchange publishes lists of the companies with the highest level of short sales. At one, time, total short interest was a useful contrarian indicator. If short interest were particularly high, it could be a good time to buy stocks. After all, the crowd is usually wrong at peaks of bearishness. And sooner or later, all those bears would have to buy stocks to cover their positions.

That indicator has gone out of favor, primarily because there are so many other ways to make bets against the market, including futures, options and bear-market exchange-traded funds. But on an individual stock basis, short interest does provide some interesting guidance.

In terms of the number of shares sold short, AT&T stood out as the most hated stock, with 320,482,751 shares outstanding as of May 15, the latest data available. At AT&T’s average daily volume, it would take 11 days to cover all those shares sold short. That’s a lot of short-covering — and AT&T stock has gained 2.8% since May 15.

But the stock that Wall Street really, really hates is Gamestop, which at May’s level of short selling, would take traders 38 days to cover all its short interest. The stock has soared 12% since May 15, as its earnings topped expectations and, presumably, prompted a scramble by the shorts to cover their positions.

You shouldn’t buy anything on the basis of one indicator alone. But checking a stock’s short interest is probably a good idea. Sometimes, it helps you be smarter than the average bear.

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