Working on Shorting Skills.

One of the skills that I'm trying to learn/master is short selling. I must tell you that I've lost good, spendable money shorting or being in puts. But these losses have been my "tuition", and I'm getting better at it. Just as when one goes long and must have stops, you must do the same with shorting. Now, this is not a post to invite you or to teach you how to short. As I say frequently, take no advice from me regarding investing--but I have a myriad of other practical advice should you ever wish to pose a question!

Nevertheless, I want to tell you about some of the work that I've been doing and transactions that I've placed with good success. Like a hunter, you must stalk your short pray. I've been stalking short candidates. One of my real perplexions would be noticing huge spikes in stocks when they had some minor good news (or not so bad bad news) on their earnings release. (And of course the news would be that" investors welcomed the news and the stock went up X"). For the longest time, that never made any sense to me. But it began to make perfect sense to once I started reviewing the magnitude of short interest.

Just as a wholesale selling panic in a stock can lead to a wonderful oversold position where you can pick up good stocks cheap, a wholesale buying panic can lead to a potentially profitable short position. When you short a stock, you are selling something that you do not own. Eventually you will have to buy it and cure the share deficit. You hope, of course, that you will be buying it back cheaper than what you sold it for.

However......if you've levered up to sell something short, your broker will have margin requirement that you will need to meet. If you are short 1,000 shares of SRCL at $44 and it goes up to $56 (which it did recently) then that creates a wee bit of pressure in terms of a margin call. OR, and this is important, your broker may be forced to deliver some shares and seek you out to cough them up. (Someone correct me if I'm wrong on this, but I saw an experienced poster/trader on Real Money say this).

Your loss at this point is 56-44 or $12 (that is a percentage loss of 27% (12/44). As the price goes up, people panic or reach they're buy stops (obverse of sell stops) and the price goes parabolic. So the next time you see an anemic report met with extraordinary action, then look at the short interest. You can do that at this site.

I've been creating a list of these parabolic moves, and I've being stalking them. I get scared and bail too soon and such, but here are a few things that have been on my list:

FARO
TUP
SRCL
FAST
HWAY

Today I made money on SRCL, FAST, HWAY. I closed out positions way too soon on TUP--weenied out. Lost conviction. FARO, I sat on my thumbs and missed a great opportunity. But I weenied out. As with most things, you generally have to move fast and make sure that you know where your stops are so that you don't dither around.

You may ask, "Why does looking at the short position matter?" It matters two ways. First, if it is a very heavy short position, you may sell short and end up running around with your hair on fire as the stock continues to move up and up. I really recommend your being familiar with how a stock acts. In general, I've noticed that shorted stocks move with much buying pressure until about 10:10 a.m. or so. Heavily shorted stocks do they same thing except they catch their breath and move MUCH HIGHER. Here's a terrific example of SRCL:


Second, once the shorts have bought, who is really left to buy if there is but a tepid report on the company's prospects? Just has you have exhausted sellers, you have, in the case of panicked buyers, you have exhausted buyers. If you are long a stock that is heavily shorted and you are met with these lackluster results and are looking for a reason to sell optimally, you have one.

Again, none of this is a recommendation. Barry Ritholtz noted in one of his trader education series (The Apprenticed Investor--If you've not read this series, by all means do so on his The Big Picture Site) that one really needed to know how to short stocks. I'm a novice at this, but it is something that I want to do with greater skill and confidence. And I truly believe that you will become better at understanding a stock thesis if you can cup up with reasons to buy vs. reasons to short and weigh them with some consideration. It's worth noting that managing this stuff can make you frazzled--I'm feeling that way now. I'm really quite tired from managing the three open positions that I had. I closed out FAST, but I still have SRCL and HWAY. But I had a nicely green day on that work.

Because of what I believe to be hedge fund liquidations, I think we are seeing weak names go up. There was very anomalous (to my mind anyway) action in several stocks--FAST included. (I may re-enter this). Remember, a margin call means you have to close positions to raise cash. That means that if you are long you sell and if you are short you buy. When you short a stock it shows up as a negative in your account. If you've never shorted before, you might think that if you've sold the stock, they put cash in your account. They don't. So some of this furious, odd buying is what I believe forced liquidations.

I just try to make things make sense in Leisa-land. While I'm always successful with finding an answer, it may not be the right one. Perhaps I should say that I find an explanation but it may not be the answer.