Imagine waking up to a 40% surge in a stock's price, only to find out it's not due to a groundbreaking announcement, but rather a technical market event known as a short squeeze. This is exactly what happened to Infosys' American Depository Receipts (ADRs) on the New York Stock Exchange (NYSE) recently.
What is a Short Squeeze?
A short squeeze occurs when a stock that many investors have bet against (by short selling) suddenly rises in price instead of falling. This forces those investors to buy back the stock quickly to limit their losses, which in turn pushes the stock price up even more.
How Does it Work?
Here's a step-by-step explanation:
- Short selling: An investor borrows shares and sells them, expecting the price to drop so they can buy back cheaper later and pocket the difference.
- Price rises instead: If the stock price goes up, short sellers face losses.
- Forced buying: Brokers may issue margin calls, forcing short sellers to buy back the shares immediately.
- Feedback loop: This rush to buy pushes the price even higher, “squeezing” more short sellers out.
What Triggered the Infosys ADR Short Squeeze?
The Infosys ADR rally was sparked by a large institutional stock lender recalling a significant volume of lent shares. This sudden recall shrunk the available supply of Infosys ADRs in the lending market, caught short sellers off guard, and created a supply-demand imbalance in a stock that typically sees low daily trading volumes.
Why the NYSE Halted Trading
The extreme intraday volatility triggered the NYSE’s Limit Up–Limit Down (LULD) mechanism. Under LULD rules, trading is automatically paused when a stock moves too far, too fast, allowing information to disseminate evenly and preventing disorderly or panic-driven trading.
What are ADRs and How Do They Work?
ADRs, or American Depositary Receipts, allow US investors to buy shares of foreign companies without trading directly on foreign stock exchanges. Here's how they work:
- A US bank buys shares of a foreign company.
- The bank issues ADRs that represent those shares.
- ADRs trade on US stock exchanges (NYSE, Nasdaq) or over-the-counter, just like US stocks.
- They are priced in US dollars, and dividends are paid in dollars.
Remember, this is a perspective on a complex market event, not a prediction. Do your own research and consider your own risk tolerance before making any investment decisions.