Hah! Since yesterday, I've already found information and read articles that prove me wrong...or something like that. Anyway, this is a learning experience...
This Seeking Alpha Article by Bob Rubin says:
When buying stock, two common rules are to keep away from very high
Price / Earnings ratios, and to keep away from very high Short Interest
(the percent of shares that have been sold short). High P/E means a
stock probably trades for more than it’s worth. High Short Interest
means many people expect the price to fall.
Now, this is pretty much what I had said before, except the part about the high Short Interest, which also makes sense. I learned yesterday that a Short Sale is when a person thinks a stock price will drop, so they borrow shares from a third party to sell at the current price. However, they have to return those shares to the borrower at a later date. So, when the price of the stock drops, the person buys the stock at a lower price and then returns those stocks to the third party. That's how a short sale works...if everything goes as planned. As I'm not really interested in getting involved with short selling, that's the extent of my knowledge with that...
Anyway, Rubin goes on to make the point that in a short sale, if the stock goes up, the short seller still has to buy the stock in order to repay their broker. Rubin explains:
When lots of short sellers get margin calls at
the same time, it creates a “short squeeze.” All those short sellers
buying the stock force its price up.
Rubin finishes the article, using LULU as an example:
Lululemon Athletica (LULU)
makes clothes for athletes. Its P/E is 51.95 and its Short Interest is
16.9%. It's traded above its 200-day moving average for over two years.
Interesting...however, it still sounds like a lot of risky business to rely on a short squeeze instead of real value to drive your stock price up. So...even more so, I'm thinking of getting out of LULU...because you figure at one point, if a stock is inflated, it will pop.
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