Scarcity of stocks in Volkswagen—after Porsche bought up nearly all the remaining free float—triggered a short squeeze that pushed VW's market capitalization above that of oil major Exxon Mobil at one point Tuesday.
VW shares rose almost 150 percent Monday after Porsche announced Sunday it held stock and options equivalent to 74 percent of Volkswagen. Short sellers then scrambled to cover positions.
On Tuesday, the volatile stock skyrocketed more than 90 percent to above 1,000 euros ($1,248) early in the morning and then closed 73.3 percent higher at 901 euros ($1,125), pushing the DAX index 10 percent up.
For a price of 1,000 euros per share, Volkswagen's market capitalization hit $364 billion, making it the most expensive company in the world. Exxon had a market cap of about $343 billion based on Monday's closing price.
But later, the stock pared its gains and was trading 30 percent up, at 680 euros ($850), while the DAX was more than 6 percent higher.
Traders were encouraged to short Volkswagen following an article in Barron's earlier in October citing Thilenius Management, Stuttgart institutional investor, who said the stock would fall sharply once Porsche got over 50 percent in the company, market sources told CNBC.
U.S. hedge funds especially may be on the short side trying to cover position, these sources added.
Early Tuesday, reports circulated that Goldman Sachs' stock was under pressure due to losses tied to Volkswagen trade. But sources inside Goldman Sachs told CNBC they have no significant losses tied to the trading. (See video at left for David Faber's report.)
As of last Thursday, according to consultant company Data Explorers, 12.9 percent of Volkswagen’s shares were on loan for investors to go short and bet on them falling -- the highest percentage of any German company, the Financial Times reported.
Volkswagen gained 146.6 percent Monday at the close, lifting the entire DJ Stoxx European autos index 50.5 percent despite double-digit losses in heavily weighted Daimler and heavy declines in every other peer.
If the free float in Volkswagen's ordinary shares were to fall below 5 percent, the Frankfurt Stock Exchange's index revision committee would automatically replace them in the DAX index with the top-ranked stock measured by free-float market capitalization and trading volume.
On Tuesday, Deutsche Boerse said it did not plan any changes in the DAX index.
(Watch Stefan Muller from Proprietary Partners Fund above for more analysis).
-- CNBC's David Faber, Steve Sedgwick and Reuters contributed to this story