Long squeeze: everything you need to know
A long squeeze in trading can mean good news for some, and bad news for others. Discover the ins and outs of a long squeeze, and find out how it can impact your open positions.
What is a market squeeze?
When a large number of traders are forced out of their positions due to sudden rising or falling prices, it is known as a market squeeze. Some high-volume markets are more susceptible to squeezes than others, but the general assumption is that it can happen in any market at any time.
Market squeezes can be either long or short. In this article, we’ll look at long squeezes.
What is a long squeeze?
A long squeeze is when the price of an asset suddenly drops more than anticipated. The decline can be brief, or it may last for some time. Regardless of the duration, it can be bad news for investors or traders who hold long positions.
When a significant price drop occurs, buyers are often ‘squeezed’ out of their positions – closing them in an attempt to limit any further loss. The squeeze adds to the downward momentum, as the balance between buyers and sellers shifts, and a bull market reverses to a bear market.
How to identify a long squeeze
To identify a long squeeze before it happens, many traders and investors will first look at the number of shares a company has in circulation – called the float. If there is a limited amount of shares available to the public, it means fewer people control the share price in the market (based on supply and demand). So, when a sell-off occurs, it will be more dramatic, resulting in a higher probability of a long squeeze.
A long squeeze could be imminent if a stock’s price has been increasing and buying volume is high. This is because the market becomes overbought and stocks can become overvalued. Once this happens, many people will try to sell before the market turns bearish.
Long squeezes will often catch the market off guard, and limited float and rising stock prices do not guarantee that a long squeeze will happen. The event that triggers the squeeze will depend on the market. For example, poor company earnings can cause stock prices to drop suddenly, while interest rate changes can trigger a long squeeze in the forex market.
Long squeeze example
A recent example of a long squeeze can be seen on the below West Texas Intermediate (WTI) oil price chart (US crude with IG). Between 9 April 2020 and 21 April 2020, the benchmark’s price dropped suddenly (-46%), creating a long squeeze. The price recovered slightly, but on 26 April 2020, another sharp drop (-22%) caught buyers off guard.
The squeeze was attributed to an overload of crude supply and fears over the capacity of oil storage facilities, caused by the Covid-19 pandemic.
Long squeeze vs short squeeze: what’s the difference
A long squeeze is the opposite of a short squeeze. In other words, a short squeeze will occur when the market price of an asset sees a sudden spike, causing panic among short sellers. As with a long squeeze, short sellers will often abandon positions when a short squeeze occurs to try and limit their losses. However, both traders and investors stand to profit from a short squeeze.
How to trade a long squeeze
To trade a long squeeze, you’d need to open a position that stands to profit from a decrease in an asset’s price. In other words, you’d open a position to sell (go short) using CFDs or spread bets. Both are traded on leverage, which means you can open a position with just a small deposit – called margin.
To start short selling using CFDs or spread bets, follow these simple steps:
- Open an IG trading account: it only takes a few minutes to open an account, and you’ll get access to our award-winning trading platform for desktop and mobile
- Find an opportunity: we offer various tools, including the IG market screener, to help you find what you’re looking for
- Place your trade: when you’re ready to trade, open your first position by selecting the market you want to short and choose ‘sell’ on the deal ticket
Note that investors can’t gain anything from a long squeeze, as they buy physical shares in the hopes that prices will go up. Declining share prices will result in a loss if they don’t sell the shares before the drop. However, they can hedge their investment by shorting the market using borrowed shares, covering losses with gains from a short position.
Long squeeze summed up
- A long squeeze is when the price of an asset falls quickly and unexpectedly
- It can have a negative impact on investors, and traders with long positions
- Long squeezes can catch traders and investors off guard – forcing them to close their positions in an attempt to limit losses
- You can trade a long squeeze by opening a short position using CFDs or spread bets
- Traders who have a short position open during a long squeeze stand to make a profit
This information has been prepared by IG, a trading name of IG Markets Limited. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients. See full non-independent research disclaimer and quarterly summary.
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