Short Squeezes & Apple Juice

apple-juice

Have you ever found yourself between a rock and a hard place? How about caught in a vice? Being in a squeeze is an unpleasant experience, but in a market short squeeze, it all depends on one’s perspective. 

In mid-January, we couldn’t find more than a handful of optimistic perspectives on oil, industrial metals, emerging markets, or gold. It wasn’t for lack of looking. The consensus opinion was that the bear markets might never end. Prices would decline, and then decline some more. But since those lows Brazilian & Russian equities have jumped 35% and 28% respectively, oil has increased 38% while gold rose 22%. Aluminum producer Alcoa surged 54% with miner Freeport McMoRan running up 186%!  Why? Mainly because eventually everyone that wanted to sell at those prices got done selling. Then buyers that had been watching and waiting to take advantage of even lower prices, suddenly had to compete against each other. In market terminology, what happened is known as a squeeze. 

Imagine a market where each day apple growers bring apples to sell and where apple juice-makers purchase their daily supply. Suppose that one day one of the growers announces that she has had a plentiful harvest and needs to sell two full wheel barrows rather than her usual one. She begins reducing her price to sell the first load quickly. Some juice-makers buy the apples they need, but as the price continues to drop they also buy enough apples for tomorrow and then head back to the shop. But one juice-maker sees the price dropping and decides to wait for the arrival of the second wheel barrow, when surely he’ll be able to purchase all the apples he needs at even lower prices. The price continues to drop as other fearful apple growers reduce their prices. Afraid they may not be able to sell all of their apples, they hurry to sell as quickly as possible and are willing to accept lower and lower prices. Compounding this, many buyers have already left the market having bought as many apples as they could cart back. Anxious sellers, and dwindling buyers continue to drive prices lower. Then our original fortunate grower returns, wearing a long face and carrying just one small bucket. Birds have eaten her remaining apples while she was away, and she only has a few left to sell.

Of course, we know the rest of the story…she sells her remaining apples at a price dramatically higher than the original price. Our opportunistic (greedy?) juice-maker is squeezed! He has to outbid the rest of the market, regardless of price, in order to purchase the apples needed to run his business that day. The fortunate apple-grower has sold a few apples at a high price, but a whole wheelbarrow at low prices. Fearful apple growers have regretfully sold their production at losses, but some wise, value-sensitive juice-makers have ensured themselves of not one, but two profitable cycles of production.

The moral? Market participants should avoid competing with frenzied herds of either buyers or sellers. Buying value is wise, but trying to buy the bottom, or sell the top is hazardous.


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