Understanding The Short Side

May 1, 2006

The subject of the Short Interest around satellite radio stocks often comes up. Investors who go to Nasdaq to look at the short interest in equities will see that in terms of the number of shares short that Sirius satellite Radio tops the list.

Investors need to look deeper though.

There are many reasons and strategies relating to why someone would decide to go short on an equity. Yes, the basic theory behind going short is that you believe that an equity will go down in price, but more elaborate traders can use shorting in conjunction with options to protect a profit.

The key is to look at how the number of shares short stacks up against the outstanding shares, and to understand the volume that an equity trades.

CURRENT SHORT INTEREST FOR SDARS:

Sirius - 119,096,014 shares
XM – 40,040,463 shares

As you can see, there are a lot more shares short on Sirius than there are on rival XM. This does not tell the whole story though.

DAYS TO COVER

Days to cover takes into account the volume that an equity trades. The “Days To Cover” in theory is the number of trading days that it would take to “wipe out” the short interest. The Days to cover for SDARS are as follows:

Sirius – 2.4 days
XM – 8.0 days

Because Sirius trades with more volume than does XM, the Days To Cover for Sirius is actually lower than XM

SHORT SQUEEZE

This is a term that you hear quite often on the message boards. Basically a short squeeze happens when an equity starts to go up in price. As the price per share increases, those with a short position are losing money. Because they are using “borrowed shares” for their position, and need to “repay” those shares, they need to9 buy the stock in order to close their position. The squeeze happens when the short side traders begin buying stock to cover. This buying activity helps drive the price even higher. As the price climbs, more and more on the short side feed the rise by purchasing shares.

For Sirius and XM the potential for a meaningful short squeeze is not really present. This is where the Days To Cover metric comes into play. In actuality, XM would, in theory, enjoy a bigger squeeze factor than would Sirius.

SHORT INTEREST RELATIVE TO FLOAT

A first glance at the number of shares short would seem to indicate that Sirius has a much bigger short interest than does XM. In fact, this is not at all the case when you consider how many shares are in the float. In simple terms, the relationship can be thought of as a pie. How big a piece of pie does the short interest represent?

Sirius – A slice representing 8.69% of the pie is short.
XM – A slice representing 16.12% of the pie is short

Yes, the short interest on SDARS equities can be considered high. These equities are still speculative by nature, and this generates investment opinions on both sides of the fence. The key here is to understand as much about the short position as you can, and not letting a snapshot statement about the amount of shares short, or a pending short squeeze drive your decisions.

Satellite Standard Group is not a Financial Advisor. SSG fully encourages readers to research equities themselves and to seek the advice of a Certified Financial Planner prior to making investment decisions.

The link to this write up is http://tinyurl.com/q4x39

5/01/2006 10:44:00 AM

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