Your source for overpriced stocks

1. About short selling.

2. Still confused?

3. Why selling short?   A must read!!!

4. Short selling game rules.

5. Risks involved in short selling.

1.   About short selling.

Short selling means selling a security, contract or commodity not owned by the seller.  The seller is committed to eventually purchase the financial instrument previously sold.

Short sales are used to capitalize on an expected decline in the security's price.

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2.   Still confused?

Short selling has several uses, but its primary use is to allow investors to make a profit if a particular stock falls in price.

For example:

• Assume you know or have a reason to believe a camera, exactly the same as the one your friend just acquired, will be replaced by a newer model and will sell at lower prices anytime soon.

• You could borrow the camera from your friend and sell it immediately to a third person at the current retail price, say, $500.

• Next month when the camera’s price falls, you could buy it for $300 and "return" the newly purchased camera to your friend, replacing the one you borrowed from him.

• Since you sold your friend’s camera for $500 and purchased the same model a few weeks later for $300, you were able to profit by $200 on the transaction.

In the stock market short selling operates the same way. Your broker will lend you shares you can sell at a high price. Once the price falls, you can buy back those shares, replace them to your broker and pocket the difference.

The only difference between real-market short sales and the camera example is that, in order to borrow shares, you must maintain the proper "collateral" (capital) in your account .  Then, part of your money, and the money you get from the short sale, will be "frozen" by your broker until you buy back and replace those shares.

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3.   Why selling short?

Short traders have a psychological edge.

Fear and panic are more powerful feelings than greed and euphoria.  Price declines are, in average, 3 times faster than price increases.

An old rule: Bad news travel ten times faster than good news.

A panic sell-off is not necessary for a profitable short trade. Oftentimes, just buyers’ indifference is enough to cause a price decline.

Short trades assure better trading conditions.

By selling short, traders can make money even during negative market environments.

Following high-volume selling trends often leads to short-term massive gains.

Certain market situations allow for precise and profitable breakdown predictions:

• Friday’s profit-taking sell-off.

• Triple and quadruple witching.

• Fear before earnings conferences.

• Market indexes approaching prior resistance levels.

• Market indexes exhibiting technically overbought levels.

• Fear before government’s announcements.

• Market weakness during scandals and unrelated bad news.

• Industry group/sector under institutional disfavor or analysts’ downgrades.

Pattern recognition is far more accurate for sell signals at tops than for buy signals at bottoms.

Monitoring level II quotes allow speculating when and how institutions are selling certain positions.

Most brokers do not allow short sales on stocks under $5. That creates an intrinsic limitation against trading high-risk penny stocks.

Short trades are favored by certain market performance facts.

In the stocks universe, low-performance stocks are ubiquitous, while high-performance stocks are scarce.

"Bubbles", outrageously overvalued stocks, are present on almost any "hot" sector. Traders can make huge profits during both the bubble inflation and the final burst.

Many companies exhibit a fundamental "failure recipe" which is easily identified by our successful system before a major price decay . We continuously monitor those variables leading to major downtrends.

Bad news triggering a reversal often is just "the tip of the iceberg", driving to massive, long-term retracements on highly-priced stocks.

While uptrends don’t last forever, some downtrends do: Business failure, fraud, scandals, continued losses, stock dilution, insider selling, etc., create a negative situation that may ultimately lead to bankruptcy.

Brokers and analysts focus on what to buy, not what to sell, so the good news is more widely known than the bad news. When an analyst issues a sell recommendation on a stock, they find it much harder to get information from the company's investor relations department.  If a short seller predicts or discovers bad news, it might not yet be totally factored in to the current price of the stock.

Many institutions just won't do short selling, leaving unexploited short selling opportunities from which you can benefit.

Short selling is a positive market force.

By selling short, market participants may help others to identify overpriced stocks which are under the false impression of financial health. That represents an effective alert to avoid holding or increasing their positions in failing companies.

Short sellers ultimately cover their positions, restoring the market balance once the stock trades at a fair valuation.

Short sellers are often the first line of defense against analysts’ bias.

• While the conflicts of interest from investment banking keeps some analysts from giving completely unbiased research, work from short sellers is often regarded as being some of the most detailed and highest quality research in the market.

• Its been said that short sellers actually prevent crashes because they provide a voice of reason during raging bull markets.

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4.   Short selling game rules.

Not all stocks are shortable.

When you place an online order, your broker will inform you if your stock is shortable or not. The larger the broker, the better availability of shortable stocks.  Brokers maintain a list of hard-to-borrow stocks that are often unavailable for short selling

You can only sell short from a margin account

You must have a margin account, but remember, you are not obligated to trade on margin.

The uptick rule

You can sell short only on an uptick or a zero-plus tick. You cannot sell short on a downtick.

• Uptick: A trade at a price higher than the previous trade.

• Downtick: A trade at a price lower than the previous trade.

• Zero-plus tick: A trade at the same price of the previous trade, provided that the previous trade was an uptick.

The uptick rule made it hard to short stocks many years ago, when stock prices were discrete values in 1/8 point or 1/16 point increments. Currently, an uptick can be a price increment as small as 1 cent.

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5.   Risks involved in short selling.

The "unlimited loss" myth. Yes, a myth.

Short sellers must cover (buy back) their positions at a lower price in order to make a profit.  Theoretically, stock prices may increase to the infinite, and the loss involved in the covering process may be infinite too.

In the real world, this outcome is virtually impossible:

• In order to protect their capital, disciplined traders use stop orders. Stop orders automatically close a losing position at a certain predetermined acceptable loss.

• Brokers will prevent you to lose more than your principal. They either force you to close your losing positions or increase your capital by depositing funds. If you fail to do so, they may "liquidate" your account to protect their own interests.

The "unlimited obligations" myth. Yes, another myth.

Short sellers must pay dividends to the broker they borrowed shares from.

• Who dares to short a solid, fast-growth, dividend-paying company? Sure smart traders don’t.

If the company splits, say 2 to 1, you will be short on twice the shares.

• Yes, but those shares’ price will be half their original price.  Overall value does not change, unless the split is followed by an uptrend.

• Again, a split is usually the consequence of good performance. As short sellers, we focus on bad-performance, overpriced, companies.

The "short squeeze". The only real risk?

Overpriced companies, even those with extremely poor fundamentals, may experience a sudden gap-up, creating fear on those who "are short" on those particular securities.

By triggering protective stop orders and generating panic-driven buy orders, those gaps may initiate both price spikes and self-sustained uptrends, a.k.a. "a short squeeze".

This risk is greatly minimized by avoiding the following "squeezable" conditions:

• High short ratios.

• Low float.

• High percentage of short shares vs. float.

• Thinly traded companies.

• Extreme bullishness in the market participants’ sentiment.

• Prior short squeezes.

• Sustained uptrends.

The solution: Stop orders.

• Discipline is the key, use stops and adhere to them.

• Successful traders are not those who always win, but those who accept that losses are part of the trading game and know how to limit those losses.

• Our detailed reports will help you to avoid squeezable companies and to set and follow precise stops. We do all the research, you keep the profits. 

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