Short Squeeze: How to predict a Bitcoin Short Squeeze?

what is a short squeeze in crypto

The primary indicators investors and traders can watch for include short interest, short interest ratio, open interest, funding rates, and much more. Plenty of technical indicators can also help support the setup of a potential short squeeze. For example, traders can also look for oversold conditions which could create an environment ripe for a short squeeze. Perhaps the most famous short squeeze in recent times was the GameStop GME situation in January 2021. GME shares climbed by more than 2,000% in a single month and made a spectacle of markets. Large businesses like energy producers regularly hedge against falling energy prices in this way.

But an extremely high reading could be a sign of a coming short squeeze, which could force the price higher. When identifying stocks at risk of a short squeeze, two useful measures are short interest and the short interest ratio. Short squeezes are high-risk/high-reward moves that typically get increasingly risky and less potentially profitable the longer they go on. Financial market technical analysis employs tools such as chart patterns, indicators, and trendlines to determine the best buying and selling…

what is a short squeeze in crypto

As short sellers close their positions, a cascading effect of buy orders adds more fuel to the fire. As such, a short squeeze is typically accompanied by an equivalent spike in trading volume. Since the cryptocurrency markets have borrowed a lot of concepts from traditional finance and the stock market, you shouldn’t be surprised to come across terms like short selling or short squeezes. Short interest is the percentage of total short positions when dividing the number of shorts versus the number of cryptocurrencies in circulation. Heavy short interest implies a crowded trade and a potential setup for a short squeeze. The next massive short squeeze happened on April 2, 2019, when Bitcoin price broke upward out of its downtrend resistance for a 22% move in just one day.

What is short selling?

Still, while there are countless examples of stocks that short squeezed after heavy short interest, there are also assets with high short interest that continue to fall in value. A short squeeze forces short-sellers to buy back in, pushes the price higher, and squeezes out more shorts. A short squeeze can also occur when there is a disruption to the supply or excess demand for an asset due to short-sellers liquidating their positions. Most traders are accustomed to making profits only when the market is bullish. A short position enables traders to benefit even when the prices are going down. The cryptocurrency space has borrowed so much from traditional finance.

what is a short squeeze in crypto

By avoiding high leverage, you can limit the likelihood of your short position being pushed over its liquidation threshold, protecting your solvency until the short squeeze inevitably fails. As you might expect, short squeezes are designed to be profitable. A short squeeze can result in extraordinary profits for those that participate early, and doubly so for those that instigate one. For some, short squeezes can represent incredible opportunities for profit.

Against this backdrop, short sellers were forced to buy back the shares they sold, which helped drive Volkswagen’s share price up to €999. Short sellers are betting that the price of an asset will decline. If the price rises instead, short positions start to amass an unrealized loss.

How Does A Short Squeeze Work? The Mechanics Behind A Short-Selling Showdown

Aggressively growing stocks are generally more susceptible to long squeezes, especially if the volume is very high. Focusing on investing in value is the best way to handle these squeezes. Undervalued assets will usually recover unless there was a more intrinsic reason for the sell-off. Being caught on the wrong side of a short squeeze can be devastating, and a great way to avoid being stuck in one is to place hard stops on all short positions. This can help protect your capital against sudden market movements in either direction.

  1. Investing in such assets solely on the short interest is probably a bad idea, especially since a significant portion of the market thinks it will fall in value.
  2. With the rise of automated trading systems, bots can quickly jump into low liquidity markets and exploit both long and short squeezes to profit.
  3. The stock price went from less than $5 a share to $325 in just a month.
  4. In markets as volatile as cryptocurrencies, the best way to avoid being liquidated is to manage the amount of leverage you’re using and adopt better risk management strategies.

However, several other important metrics can be measured and analyzed which can tip traders off that a short squeeze is possible. A heavily dominant short-side of the market, combined with soaring open interest, and prices at potential lows are all factors in any short squeeze setup. Because a short position closing results in a buy order, a large influx of short positions closing at once can push prices of the underlying asset up. When there is heavy short interest in the market, oftentimes a contrarian move will force short-sellers out of their positions, causing a short-covering rally.

Crypto Short Squeezes: How They Work and Avoidance Strategies

It only got a retest years later, during the coronavirus pandemic (also known as “Black Thursday”). If you want to avoid becoming liquidated or trapped in such moves, carefully assess the amount of leverage you’re utilizing. Generally speaking, short squeezes are brief events that last only a few hours or days at most.

It’s also imperative to understand that the crypto market is extremely volatile, and shorting is a high-risk strategy. Imagine a crypto exchange that has sold its depositors’ crypto into stablecoin, a big short. Then they might frantically try and cover that short and appear to hold the depositors’ crypto in the crypto the customers thought they had. Although short interest is the more important factor, how high open interest is as a whole matters. If open interest is low, there may not be enough short positions for a meaningful short squeeze. Short squeezes occur most frequently when open interest is rising, suggesting that more market participants are entering positions in anticipation of a breakout.

For most investors, it is unwise to participate in a short squeeze. But for those with a thorough understanding of how they work, including the conditions that lead to them, they can be incredibly profitable opportunities. Treasury think the mandatory government debt ceiling is going to be reached in days and it has laid in lots of funky mechanisms to stop the U.S. defaulting. Those money stashes, which are huge, may last until June before the government is out of money to pay the bills.

Short Squeeze In Crypto

It is calculated by dividing the total number of shorts by the average daily volume for that asset. When this metric pulls under the lower end of the range, it can signal an overvalued asset or that short-sellers are exiting due to price stability. Bullish investors view a high short interest as an opportunity to make money from the abrupt momentum shift.

During a squeeze, short-sellers decrease supply by scrambling to replace their borrowed assets. Since short squeezes tend to happen more often with smaller market cap assets, a supply bottleneck can quickly arise out of such situations. It’s practically impossible to predict a short squeeze every single time accurately, but by tracking heavily shorted assets, traders can quickly respond when one occurs. In these scenarios, holdings can also be traded like momentum assets, but it’s imperative to start small due to the highly volatile environment. During a sudden market movement, short-sellers will rebuy into an asset en masse, creating a momentum that pushes itself and the price ever higher. This squeezes the short-sellers from the market, and usually for a loss.

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