European defense stocks have surged, fueled by expectations of increased military spending amid geopolitical tensions. Short sellers are rapidly unwinding positions, with SAABB, Rheinmetall, and Thyssenkrupp seeing significant short covering. Losses for short investors range from $1.2 billion to $1.55 billion per name. The evolving U.S. policy introduces new risks, potentially reshaping market positioning.

European defense stocks have recently risen by an average of 25%.

Shares in European defense companies have surged, driven by investor expectations that European governments will significantly increase military spending to enhance security.

This is partly due to ongoing tensions in Europe, including the war in Ukraine, which has raised concerns about defense readiness and infrastructure.

In response, investors have reduced their short positions in these stocks.

It appears that investors are covering their losing short positions, and in some cases, a squeeze is taking place, with no new short positions being established.

In SAABB, the stock rose so dramatically that the squeeze score reached 77.5, surpassing the critical 70 level (see left graph). Simultaneously, the short position dropped by 10% while the stock price increased—clear indicators of a squeeze, or at least significant short covering.

This pattern is also evident in Rheinmetall in Germany, Thyssenkrupp AG, and BEA in the UK.

On average, the short position has decreased by 10% in a single day. This is a substantial move for this sector. Short investors have lost between $1.2 billion and $1.55 billion per name, and this unwinding may continue over time, or investors may believe the move is overdone and begin shorting again.

The new U.S. administration has made bold, unprecedented moves, introducing risks for both long and short investors.

Historical patterns and data may no longer be useful for planning investments, and instead, investors may want to focus on reducing sector-specific risks or predicting upcoming market shifts.

The rapid short covering in European defense stocks underscores shifting market sentiment and geopolitical uncertainty. As military budgets expand and policy shifts unfold, investors face heightened volatility. While short positions have declined sharply, the potential for renewed short activity remains if valuations become overextended. Sector-specific risk management is now critical for institutional investors.

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