What is ‘Days To Cover’
Days to cover is a measurement of a company’s issued shares that are currently shorted, expressed as the number of days required to close out all of the short positions and calculated by taking the number of shares that are currently shorted and dividing that amount by the average daily volume for the shares in question. For example, if a company has average daily volume of 1 million shares and 2 million shares are currently short sold, the shares have a cover rate of 2 days (2M/1M).
Explaining ‘Days To Cover’
Also referred to as the short-interest ratio, the days to cover measures the future buying pressure on a stock that is virtually certain to happen as short sellers must buy back shares to close out the positions. If a stock’s price begins to rise significantly, investors who have short sold the stock quickly begin to close out the positions by purchasing shares off the open market. This occurs because short sellers aim to purchase the shares back for the lowest price possible. Signs that the share prices are about to rise create buying pressure for the stock and drive the price up even more. The longer the buyback process takes, as referenced by the days to cover, the longer the price rally continues based solely on the need of short sellers to close positions.
Short Selling Process and Days to Cover
Short selling involves borrowing shares from a broker, selling the shares on the open market and buying the shares back in order to return them to the broker. The hope is that, once the shares are borrowed and sold, the price of the shares fall, allowing the investor to repurchase the shares at a price lower than the amount for which the shares sold, resulting in a monetary gain.
Example Days to Cover in the Stock Market
In May 2015, Microsoft Corporation (MSFT) was listed with the days to cover metric listed as 2.58 days, while the average across all of the securities on the Down Jones Industrial Average was showing a days to cover of 3.74. This led shares of MSFT to become the 17th most shorted security in the marketplace as positive news regarding Microsoft Corporation activities could cause stock prices to raise sharply while short sellers work to close their positions.
Further Reading
- Days to cover and stock returns – www.nber.org [PDF]
- Trends in park tourism: Economics, finance and management – www.tandfonline.com [PDF]
- Economic deregulation: Days of reckoning for microeconomists – www.jstor.org [PDF]
- The economic value of ensemble forecasts as a tool for risk assessment: From days to decades – rmets.onlinelibrary.wiley.com [PDF]
- Tax-induced trading around ex-dividend days – www.sciencedirect.com [PDF]
- The economics of small business finance: The roles of private equity and debt markets in the financial growth cycle – www.sciencedirect.com [PDF]
