It seems that particles stop squashing and stretching at velocities greater than 10. Any slower and the particles will scale on the y axis.
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I was seeing this issue when messing with slow motion. Slowing time affects the velocity too. A particle with 10 velocity at normal playback speed will have a velocity of 1 at 10% playback speed and thus appear squashed.
So don’t use velocities lower than 10 if you don’t want your velocity-aligned particles to change size. More of a workaround than an answer. If you want to use lower velocities, you have to compensate by increasing the y size and then make sure the playback speed doesn’t change.