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Real Questions from Real Subscribers

Q: Can you explain why high short interest is a potentially bullish indicator?

A: Dear Subscriber,

Short selling allows an investor to profit from a falling stock. Specifically, short sellers sell borrowed shares in hopes of buying a stock back at a lower price and pocketing the difference. Short interest is the number of shares that have been sold short but not yet “covered,” or bought back by investors.

On one hand, if a stock has a large or growing short interest, you can infer that some investors are bearish about its prospects. On the other hand, high short interest can be a bullish signal. That’s because if a heavily shorted stock begins to rally, short sellers may decide to cover their positions by buying the borrowed shares. In some cases, new buying leads to even more buying, which further boosts the stock price. 

Thanks for your interest,

Bob Sweet, CFA
Managing Editor, Dow Theory Forecasts

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