The short squeeze at Sirius XM Radio (NASDAQ:SIRI) is over, but the fireworks may be just getting started.

The satellite radio giant closed out the month of March with 181 million shares held short, a 12% spike from the nearly 162 million shares sold short as of the March 13 Nasdaq update. Bearish investors short shares by essentially selling borrowed stock first and buying back to cover the position later. It's a risky strategy, but one that can be lucrative if a stock is about to tank.

Some market watchers are weary of equities with heavy short interest. I am not one of them. I actually see buoyant shorting activity as a sign of a bubble of cynicism. The bigger the wading pool of shorts, the more powerful the gains will be when built-in flow of short covering takes place.

If you want the point illustrated, consider the nearly 272 million shares of Sirius XM that were sold short on January 30. Less than two weeks later, the stock bottomed out at a mere $0.05 a share. That was when Liberty Media (NASDAQ:LINTA) stepped up with the funds to keep the cash-strapped Sirius XM out of bankruptcy reorganization. The stock took off, and Sirius XM has been a whopping seven-bagger since its nickel day in early February.

A lot of the fuel in the rally came from shorts closing out their bearish wagers.

 

Short Interest

1/30/09

271.9 million

2/13/09

158.8 million

2/27/09

171.0 million

3/13/09

161.9 million

3/31/09

181.2 million

Source: Nasdaq (short interest updated twice a month).

In other words, bubbling short interest burned the bears two months ago. It could very well happen again.

Randy Newman wasn't necessarily right about short people
The uptick in bearish bets on Sirius XM isn't the Wall Street norm. Short interest actually fell by 4% across Nasdaq-listed stocks since its previous settlement in mid-March. Three of the four Nasdaq stocks with the largest short positions in terms of share volume -- Level 3 (NASDAQ:LVLT), Microsoft (NASDAQ:MSFT), and Intel (NASDAQ:INTC) -- actually shed shorts during the period. The fourth stock that bucked the trend? Sirius XM, of course.

Again, the contrarian in me sees this as a positive development for Sirius XM. The last time that Sirius XM saw a larger spike in short interest between Nasdaq settlements than it just did was in late January, and we already know how badly that panned out for the satellite radio naysayers.

That 181 million shares sold short may seem puny now, compared to the 272 million shares in January, but there's actually more money at play this time around. Sirius XM was trading at just $0.12 a share on January 30. The stock was at $0.35 by the end of March. In short, there's $63 million in bets against Sirius XM now. That number was just $33 million back in January.

The bears are practically doubling down on a company that has seemingly cleared all of the 2009 debt repayment milestones that threatened to fling it into bankruptcy court two months ago. Cynical investors can be a tough crowd to win over, that's for sure.

Taking a long walk with your short peers
I can't sugarcoat the Sirius XM blemishes. Liberty saved Sirius XM shareholders last month, but it has come at a dear price of massive stock dilution and even greater debt interest than the company was paying before.

If Sirius XM isn't able to generate far more than the projected $300 million in EBITDA that it is projecting for 2009 come 2010, it's going to have to do a lot more debt-repayment juggling next year.

However, there are also plenty of positive catalysts that may improve the company's fundamentals along the way.

  • The deal with Liberty opens up the door to bundle Sirius XM subscriptions with DirecTV (NYSE:DTV) satellite television contracts, since Liberty holds a chunky stake in both companies.
  • Sirius XM is releasing its first app for Apple's (NASDAQ:AAPL) iPhone this month. The move will help promote what is now a premium Web-streaming product, opening up growth beyond the stagnant auto market. There is a third-party app already on the market, but an official App Store entry will really ramp up the company's prospects in online radio.

So bears need to be careful, assuming that Sirius XM’s current state -- trading significantly higher today than it was earlier this year -- presents so much more room on the downside.

Bearish investors that may have cashed in as companies like Circuit City and Lehman Brothers imploded over the past year should realize that it's different here. Even when the world hated Sirius XM in early February, at least two media-giant suitors were stepping up to save it. If that isn't the market's version of "too big to fail," I don't know what is.

Short Sirius XM at your own risk.

Other ways to slice and dice satrad fandom:

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Longtime Fool contributor Rick Munarriz is a subscriber to both Sirius and XM. He does not own shares in any of the companies in this story. He is also a member of the Rule Breakers analytical team, seeking out the next great growth stock early in its defiance. The Fool has a disclosure policy.