First, what is a short?
The first concept to understand is you sell to open, and buy to close.
Your brokerage will lend you x amount of shares and sell them on your behalf on the market. That you is selling to open the short position.
When you cover your position you buy to close the position.
Let’s say you short GME at $15.80 for 1000 shares and the price drops to $12. You would borrow 1000 shares from your broker that are sold on the market at $15.80, you decide to close your position at $12 where you would then buy those 1000 shares at $12/share and give them back to the broker. You would profit $3.80/share so $3800.
But what if the price goes up? Well, you have cover that position. So if you short GME at $15.80 and it goes up to $16.20 you are already in the hole $0.40/share.
Key Point: Shorting happens on a margin account. That means, it’s not actually your money either. It’s the brokerages. If you are losing enough money you will go into what is called a house call which essentially will force you to cover your position.
Moral of the story, if you drive the price up, you will force short positions to either cover or double down.
The case of GME is extremely interesting because there is over 100% short interest, meaning there are more shorts than actual volume.
THIS is what causes a short squeeze. This is also why you can’t expect it to happen over night.
Short Position A might be Bob from Kentucky who has a $350,000 margin account and he shorted at 15.80, once it gets to 16.50 we wants out because he’s already losing so much and it’s not worth the risk.
Short Position B might be Bank of A lot of Power who has a $4BN margin account and can wait years for it to fail, so they have no need to cover their positions unless it’s looking really bad long term. (Like if this Cohen thing happens)
As shorts cover their positions, they are forced to buy at a higher price than they shorted, driving the stock price up. This will lead to more short positions covering driving the price up some more, leading to more short positions doing the same. All the way up to the whales who have massive short positions.
GME has over 100% short interest, has formed a cup and handle, and the potential Cohen takeover is right around the corner. A squeeze will happen.
Hope this helps!
EDIT:
Regarding GME specifically. The earnings call on 12/8 has two possible outcomes.
- Cohens letters are addressed and either GME begins moving forward and meets his demands or he gets a controlling position in the company.
- Cohens letters are ignored.
If case 2 happens there are two possible outcomes.
- Cohen initiates a hostile takeover
- Cohen gives up the fight and sells his shares (this is the risk of this play, every other circumstance leads to a squeeze, this one leads to the shorts winning and GME heading for the toilet, however this is unlikely, it’s not like GME wants to go out of business, so it’s very unlikely Cohen and his public letters are ignored)