Definition of Short Interest Ratio
What is the "short interest ratio"? Why is the "short interest ratio" important when evaluating a stock?
To calculate the short interest ratio (or short ratio) in a stock, simply perform this calculation:
Total Number of Shares Outstanding / Average Daily Volume
Let's look at Microsoft as an example.
As of January 29th, 2010, Microsoft had a total of 51.63 million shares short.
The average volume for Microsoft over the last three months have been 54,957,500 shares.
Divide 51.63 million by 54.96 million and you are left with:
So, according to this information, Microsoft has a short interest ratio of 0.94.
Stocks with high short interest ratios should usually be avoided, as it is a pretty good indicator that there are some major problems with the company.
On the other hand, if a stock with a high short interest ratio number posts some good news, the results can be fantastic. Due to the high concentration of shorts, the stock has the potential to go ballistic due to short covering.
If you are analyzing a stock and notice that it has a high short position relative to daily volume, my only advice is - do your due diligence. There can be some fantastic opportunities in buying beaten down and hated companies, but it can also be dangerous as well.
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