One investment strategy that has always worked in favor of investors in such volatile and largely irrational stock market is shorting Research In Motion Ltd (NASDAQ:BBRY) (TSE:BB).
Over the past few years, the shares of the Canadian company have been extremely volatile. From the peak of $70 in 2011, the stock has declined to around $6 in September along with the speculations that the company may not survive into 2013.
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The handset maker tried various things to turn the fortune around including management changes and introducing a completely new smartphone, the BlackBerry Z10, at the beginning of the year.
Presently, around 35 percent of the Research In Motion Ltd (NASDAQ:BBRY) (TSE:BB)’s 485 million outstanding shares are shorted compared to fewer than 3 percent shares of Microsoft Corporation (NASDAQ:MSFT), Apple Inc. (NASDAQ:AAPL) and Google Inc (NASDAQ:GOOG), says a report from Macleans by Tamsin McMahon.
What is shorting?
Shorting may be considered as a risky strategy. Investors sell shares in the open market without actually owing them expecting the price to decline. As the price declines, investors buy them back for less than they paid, and close their positions, in the process pocketing the difference.
However, if the share price of the shorted stock moves up, investors may suffer virtually unlimited losses as they will have to purchase the shares at a higher price. Also, the risk increases if many investors are shorting the stock.
For Research In Motion Ltd (NASDAQ:BBRY) (TSE:BB) whose almost one-third of stocks are shorted, a small appreciation in the share price will be enough to spread the panic among the shorts. This situation has fueled the speculation that Research In Motion Ltd (NASDAQ:BBRY) (TSE:BB) stock may be heading towards a “short squeeze.”
What is short squeeze?
Under short squeeze, as the share prices rise, then investors who have shorted the stock start buying shares in order to limit their losses. If this action is repeated by many investors then, the stock price will rise further forcing more shorts to buy to cover their losses. This again results in rocketing the share price.
Netflix was hit by a similar situation earlier this year, when the company announced that it gained 2.1 million new subscribers in the last quarter of 2012, and its income has fallen by 78 percent compared to the year before. At that time, almost 25 percent of the company’s stocks were shorted. The news though not so great sends the stock up 42 percent in four days.
For Tesla Motors Inc (NASDAQ:TSLA), at a time when it announced its first ever profit and news that it outsold General Motors’ Volt and Nissan’s Leaf, about half of its stock was shorted. The news pushed the price to $106 from $35, inspiring Wall Street Journal to term the incident as “The Mother of All Short Squeezes.”