Short Interest Continues To Soar

My colleague Gary Smith sent me this graph of short interest on the NYSE over the last several years.

You can see that not only has it been steadily increasing, but it has recently accelerated. There are many reasons for this, one of which has been the ballooning of hedge funds employing absolute return strategies.

These strategies have garnered a huge share of fund inflows in the last several years (since the bear market), and now even mutual funds are being created to mimic these strategies. But if we get to a point where the market rallies strongly and these funds begin to meaningfully underperform traditional long-only funds, I think we could see a reversal in fund flows.

These shorts need to be covered at some point, and a prolonged or outsized rally in the market could easily spark round after round of short covering. My colleague and I call this MOASCR (mother of all short covering rallies).