Short Covering – A Powerful Market Dynamic

I’m sure you’ve heard the phrase “short covering” many times, but as with many of these “industry terms” you may not know / understand “exactly what that means” – or how it may affect you.

Not to insult anyone’s intelligence ( as many of you may know ), but “short covering” is a simple principle wherein traders who have taken a “short position” ( meaning that they are betting that the market will move lower ) see the market start moving against them ( so the market continues higher ) and then need to “buy back” the shares they originally “sold short”.

In this instance – for a loss.

These aren’t what you would call “new buyers” by any means. These are trades / traders that where originally “bearish” but then had the market turn against them, and in turn are “forced” to buy back the shares at a higher price – or risk even further losses should the market continue even higher.

A “short covering ┬árally” occurs when a few “shorts” start covering ( buying back the shares they sold short ) which manifests as “more buying” in the markets, pressuring more shorts to cover their positions, snowballing into a massive spike in “short covering” as bearish market participants jump ship as to “get out” before the market moves any further against them.

In this case, the “short covering rally” ( which we are clearly seeing today ) is merely a case of timid / frightened bears with little conviction – quickly buying back their shares for fear of greater losses, thusly “propelling” prices higher as the massive amount of shares “sold short” are quickly bought back.

A snowball effect if you will, quickly reversed as the larger macro trend re asserts itself.

Don’t be fooled.

This is not “renewed interest in buying”.

 

 

 

 

 

 

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