Case studies: GameStop, Volkswagen
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What is a short squeeze?
What is a short squeeze?
What Is a Short Squeeze?
The term short squeeze describes the pressure short sellers experience when they are forced to close their positions due to rapidly rising prices or difficulties in borrowing the shares they previously sold short. According to the definition provided by the U.S. Securities and Exchange Commission (SEC), this situation can occur when market conditions push short sellers to buy back shares quickly in order to limit their losses.
To understand this better, it helps to recall how short selling works. A short sale involves selling shares that you do not own, typically by borrowing them from your broker. Traders use this strategy when they expect the stock price to decline. If the price falls as anticipated, the trader can repurchase the shares at a lower price, return them to the broker, and keep the difference as profit.
However, if the stock price rises instead of falling, short sellers begin to incur losses. The higher the price climbs, the larger those losses become.
When a stock’s price suddenly increases, many short sellers may rush to buy back the shares they borrowed in order to close their positions. This surge in buying demand can push the stock price even higher. As the price continues rising, more short sellers may feel forced to exit their trades, creating a chain reaction that drives prices up even further.
Being caught on the wrong side of such a move can lead to significant losses for short sellers.
It is important to note that deliberately attempting to manipulate a stock’s price or restrict the availability of shares in order to trigger a short squeeze is considered illegal, according to financial regulators such as the SEC.
What is a short squeeze?
Case studies: GameStop, Volkswagen
GameStop, January 2021
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The GameStop Short Squeeze: What Happened?
Members of the online forum WallStreetBets, a community on Reddit, noticed that several institutional investors had built large short positions against the struggling video game retailer GameStop.
As this information spread through the forum, many members—including a large number of inexperienced retail traders—began buying GameStop shares in large volumes.
The surge in demand caused GameStop’s stock price to rise rapidly. As volatility increased, the New York Stock Exchange temporarily halted trading several times to stabilize market conditions.
Meanwhile, investors who had bet against the company—including well-known hedge funds such as Melvin Capital Management—faced mounting losses. To limit further damage, many were forced to close their short positions by buying back shares, which pushed the price even higher.
This wave of forced buying created an even stronger rally in the stock.
During the peak of the volatility, Robinhood and several other brokerage platforms temporarily restricted trading in GameStop shares, citing risk management and liquidity concerns.
Fraud or Market Manipulation?
At the time, many observers questioned whether the events represented fraud or market manipulation. The answer was not immediately clear.
Regulators, including the U.S. Securities and Exchange Commission (SEC) and officials in Washington, stated that they were closely monitoring the situation to determine whether any laws had been violated.
A Turning Point for Markets?
Regardless of the legal outcome, the event sparked a major debate about the changing dynamics of financial markets.
For many analysts, the GameStop episode demonstrated how large groups of retail investors coordinating through online platforms could influence markets in ways previously dominated by institutional players.
Volkswagen, 2008
- In late 2008, Porsche started buying up shares of German carmaker Volkswagen to gain more voting rights
- The stock price rose without no apparent reason, the stock seemed overvalued
- Hedge funds began shorting Volkswagen stock
- Porsche revealed that it had gained control of 74% of Volkswagen voting shares
- With Lower Saxony’s 20% stake, the shares available on the open market dropped to under 6%
- Half of the short sellers couldn’t close their positions
- The stock price skyrocketed, making Volkswagen the world’s most valuable company for a day. That unforgettable day was October 28, 2008.
- Porsche today holds a 53.3% stake in Volkswagen