InvestorQ : Is it true that short covering pulled the markets up during the first two trading days of this week?
Dhwani Mehta made post

Is it true that short covering pulled the markets up during the first two trading days of this week?

Khushi Patel answered.
3 years ago

You are broadly correct. Short covering is when traders have entered into short positions in futures (sold without having delivery) and worry that the price may rise sharply. That is when they rush to cover the shorts and that gives a big boost to the markets. This week it does appear to be short covering for 4 reasons.

· The 2 months since June end has seen 70% of the stocks seeing price target downgrades by the analysts. That is hardly a situation when investors would go in and buy aggressively in the market. That is when short covering works best for the markets when shorts are accumulated in the market.

· There were already aggressive shorts that were built up by traders and proprietary books especially in the sectors like banks, financials, metals and FMCG. These were the sectors that saw an aggressive pull back on Monday and Tuesday supporting the claims that this could be short covering.

· FPIs or the foreign portfolio investors have been net sellers on both the days and normally when there is aggressive buying in the market there is positive net flows from FPIs. On Monday and Tuesday, the FPIs net sold nearly Rs.1800 crore worth of equity and that raises the possibility that the rally was driven by short covering.

· Lastly, this is the last week of the month and the F&O expiry comes up on Thursday 29th August 2019. Normally, traders tend to buy in futures and also sell lower put options to reduce their cost of shorting in the market. When the last week approaches, a lot of traders sell of their short options to release margins and that means they logically cover their short futures position also to avoid holding naked positions in the market. That also gave a fillip to the markets.

While it is hard to say for sure that it was short covering, one can broadly gather that from the reduction in the open interest and also the lack of institutional participation.