Advertisement - Disclosure

Shorting Stocks

The process of "Shorting" a stock is another strategy in the life of the Markets.

It is most important that you read your study material carefully on this subject.

Basically, it requires your Broker to first borrow a quantity of stock from the target company. Most Brokers maintain a library of borrowed stocks for this purpose.

You would then sell the stock, called "Sell Short", through your normal order process remembering to set the Order Type category to "Sell Short". Now, you are technically borrowing that stock from the target company, through your Broker. Keep in mind that you will pay a nominal fee, per share, for borrowing the stock. Read your Brokers agreement before doing this.

Now, here comes the really risky part of the process. By Selling Short, you are betting that the price of the stock will go down so that you can buy the stock back, "Buy to Cover", thus returning the borrowed stock to the Broker/target company and pocketing the difference minus the commission and the Short fee.

The profit formula would appear as:

(Selling Short Price - Buy to Cover Price) - (Commission + Short Fee) = Profit

What's the risk, you say? Well, pay close attention because this can either make you money or make you bankrupt.

The risk is that if the stock price goes up instead of down you may be forced to "Buy to Cover" at a higher price instead of a lower price. Thus, you will owe money to the Broker instead of pocketing money.

The loss formula would appear as:

(Buy to Cover Price - Selling Short Price) + (Commission + Short Fee) = Loss

What's this you say, "you'll just wait for the price to come back down." Ohhhh Noooo my friend. There are many stories of people who did just that and who are now totally broke and working the rest of their lives in menial jobs just trying to pay back the debt.

Often, but not always, if a Broker sees that the stock price is going too high he may force a "Buy to Cover" for you without your permission. Oh, yes. Read your Broker's agreement, he has that right at any time to liquidate your account so as to limit his risk. Even if the stock price went down later, the Broker had to Cover the stock to limit the risk. The fact that the stock price went down later is irrelevant.

Remember: You and you alone are responsible for your actions. You and you alone are responsible for any trades that you make.

You will see much talk and hype in the chat rooms about Shorting Stocks. Be careful. As easy as it my sound, it carries more risk than the basic process of buying a stock and hoping it will go up.

How do you identify the right time to Short a stock? Well...that can be tricky, however, one method that is commonly in use is to watch the chat rooms for Over Hyped stocks then research its Historical chart plus watch it's Intraday chart.

If the Historical chart shows that the price has remained fairly steady but, would spike up on heavy buying, then, immediately drop, that stock is a good candidate.

Next, as the buying occures, watch the Intraday chart and the volume of stock traded. As the price on the Intraday chart starts to rise watch it carefully, at some point the price will start to flatten out, just briefly, then, start to fall. Your goal is to spot the point of the leveling off. Be careful, the leveling could be a fake and the stock could rise somemore before reaching it's peak. There is no magic formula for determining the peak point. Just practice in comparing the charts with the price and volume. That's why you should Paper Trade at first.

If Shorting stock stikes your fancy, it might be a good idea to monitor the chat rooms and find a person that appears to be successful at it. Remember, he or she, will be the one that is doing the least hyping about the stock. That person will put out basic information and occasional comments but, not a continual stream of hype. The followers of this person will probably do most of the hyping so as to make themselves appear to be the "Top Dog Shorter". Remember, hyping is an ego trip for many people.

One poster on Silicon Investor posted the following about Short Traders. Suprisingly, it's pretty close to describing most Shorters. Knowing how a lot of shorters act on message boards will help you stay away from their influence.

They most always remain anonymous.
They use 10% fact and 90% suggestion in their posts. Facts give credibility, while suggestions "sell".
Let others "help" you learn about a stock thereby developing rapport and a support base.
They use multiple handles and develop a unique style for each.
The use multiple ISPs.
They start each new handle slowly to build acceptance.
Occasionally, they use two handles and "discusses" an issue between the two.
The do not show all their cards at once when slamming a stock. It's a war - it's ok to lose a battle as long as you save enough ammo to win the war.
Know your enemies - they will end up being your best weapons.

They slam until the tide starts to turn. Let doubt carry the stock back with the tide.
They maintain an appearance of being open minded and will slant in either direction.
They never appear meek. No one follows the meek.
They strike just as their opponent starts to gather momentum, but not before or they lose their sting.
They don't worry if people peg them for a slammer. The doubt will remain and that's what they are after.
If pegged, they put up a brief fight, then lets you feel you've won. This puts your guard down then, within a few days their other handles take over from there.
When slamming a stock, their intent is to minimize its rise, not to create an instant plunge.
They slam a stock to kill the dream; not the company.
They use questions to invoke critical thinking and use statements to reinforce.
The can be liberal in their questions, but specific and precise in their statements.
Don't lie. They do enough of it for everyone.
When slamming, encourage research beyond calling the company.You know people are far too lazy and it's only doubt you are after, not confirmation.
When slamming, they discourage people from taking the company's word. They encourage them to seek outside proof.
If the company's history is bad, they point them there.
When slamming, they refer to missed deadlines and weak financials.
When slamming, if the price rises, they blame it on a temporary mass reaction to a press release rather than real interest in the stock. They point out low volume and emphasize the selling.
They pretend to share the same concerns by learning what they want to hear.
Above all else, they are unpredictable.

Rookie's Blog

Shorting Stocks