Using Short Interest in your Trading and the Days to Cover ratio

Short interest is the selling of a security that the seller does not own. It can be strange to think, ‘how can I sell something I don’t own’. However, this is how it works:


So, some traders will monitor the amount of short interest in a stock as a sentiment indicator. When lots of people are selling the stock it shows that sentiment is negative. They track this by looking at an indicator known as ‘Days to Cover’. Brokerage firms must report their short positions on the 15th of each month  and a public report comes out 8 days later. The way it is calculated is like this:
Aggregate monthly short interest/average daily share volume = Days to Cover ratio.
The ratio can also be used as a contrarian indicator too. So, for example, if the Days to Cover ratio is high (indicating bearish sentiment), but some positive news comes out those short sellers will suffer losses. They may decide to cover their shorts by buying back shares of the company and thereby adding to the buying pressure for the stock.
The NASDAQ website provides short interest data for stocks listed on the NASDAQ exchange. You can search for a specific stock and view its short interest data. Here is an example of Microsoft’s short interest with the Days to Cover ration on the right hand side.