I do not want to argue with success of shorters, but shorting is not for most with the following pitfalls esp. to beginners.
* Could lose more than 100%.
* Need to pay dividends and interest.
* Need both fundamental and technical analyses.
* Your gains are subjected to short-term capital gains which are usually higher.
* Not all stocks can be shorted.
* Not allowed in retirement accounts. You can use contra ETFs for a group of stocks.
* Should avoid some sectors unless you have a good reason: drug, mine, bank (unless you know the quality of mortgages) and insurance.
* Timing. There is no perfect timing but perfect luck.
I find the best time to short is after the market plunge from peak and it usually lasts for at least half a year. Market peak could be the best, but it is too hard to determine the peak.
I try not to buy the stocks with short ratio over 10% of the float (= no. of stocks being shorted / No. of stocks available). The shorters have more rights than wrongs. I have seen some sound fundamental stocks lost most of the values by shorters like CROX. Unfortunately I was one of them and I doubled down.
Writing put options is similar to shorting a company with more advantages than disadvantages.
(c) TonyP4 2011. Written in 7/2/11. Updated 04/28/12.
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Disclaimer: All my posts are for informational purposes only. I'm not a professional investment counselor. Seek one before you make any investment decision.
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From a fellow blogger Freedoms Truth at seekingAlpha:
ReplyDeleteAn education on shorting - OK, the above comment is spreading FUD, and that comment about the dto-com bubble is so wrong, we need get some better education here about shorting.
1. I made my first million in the internet bubble, shorting stocks from 1999 to 2002. To say it wasnt obvious - well, for many smart investors who were wise to Wall St's scams and overselling, it was. And what made it profitable was PRECISELY because you had the retail trade and a bunch of institutions on the other side, buying and selling the hype. Contrarian investing is the ONLY way you can beat the market. It was obvious that many of the dot-com Icarus stocks would fall to earth.
Shorting the IPO lockup expirations, shorting after GS would goose a stock with a recommendation, but most importantly, shorting companies with great stories but lousy money-losing (or fraudulent) biz models - been there, done that. Not easy, but definitely "obvious" if you apply Graham-Dodd type fundamentals to the stocks. I decided to go big on this in late Feb 2000, when PALM ended up being worth more in an IPO than its parent company was as a whole. It rang clear as a bell that price and value were disconnected. (I arb'd the PALM/COMS spread, and made money mainly from PALM falling back down.) ...and btw, if everyone was doing it from the get-go there never would have been Naz 5,000. that's the point.
2. Shorting is NEVER easy. A worthless stock I shorted jumped 20% in a gap-up opening, then proceeded to rise another 20% in one trading session. You can lose BIG, temporarily, even if you are right on the valuation. That's one good reason it's not for the faint of heart or the uncareful with money management.
3. EVERY short is a valuation short. There is no other kind. Short relies on the fact that as time goes to infinity, the stock trends towards the 'true' value. Shorting is an arbitrage, when value and price are out of whack.
4. What can go wrong? The bubble can go on, the company can grow into the mispriced valuation, the market can keep going up.
5. ... the risk-reward for shorting is upside-down (only 100% gain versus unlimited risk, whereas going long its the opposite), so your investment thesis *and* your timing needs to be on target. Because of #4 and #2, shorting requires a good understanding of technical analysis.
6. I would be wary of shorting any fundamentally healthy and growing stock, even if their valuations are too high. I recall Forbes talking about how the valuations of some networking stocks were crazy-high. Back in 1995. Included Cisco on the list. And a few others that continued on to more triples. You do NOT want to short a stock that could be 10X bigger in 5 years. (Now that thinking help put dot-coms in the stratosphere, but the difference was the dot-coms that died werent making money.)
I made money shorting EBAY in 1999, but it was luck and a mistake, I got out at a small profit and just missed getting hurt badly.
7. The real money in shorting is in finding the "GTZ" or go-to-zero stocks that are losing money. Finding them is a far more profitable trade than big cap established company.
Given all this, I would suggest that NFLX is probably valuation-rich and an ok but not great short candidate. It looks like it is rolling over, and a small short (1/4 position) with wide stops (e.g. above $200) would make most sense if you want a position, and extend position if thesis is 'confirmed' with margins falling and lower price. Still, the short case is marginal IMHO, because NFLX does have opptys to still grow profitably and catch up to its price over time.
* There are two objectives to short a stock.
ReplyDelete1. Temporary dip.
2. The company is going to bankrupt.
Hence, two different sets of parameters will be used and timing is everything.
* A lot of important info such as product development, lawsuits pending... cannot be found in financial statements. You need to dig deeper.
Yahoo! board is is both informative but the information could be dead wrong sometimes. seekingAlpha is a good source. Fidelity.com has a lot of free evaluations from many sources. Value Line is a good source too.
As of 6/31/11, why Chipotle should be shorted:
ReplyDelete* High valuation at 50s P/E.
* No growth.
* Growth in Asia will not make a splash due to different taste and Mexican food is not popular over there.
* No insider buys in open market.
* A product that is copyable easily. Fresh ingredients is the sole selling point.
* Restaurant business is a trendy one.
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Will expect it to come down by Dec. or so 2011. Window dressing and the current market rally will be on their sides. However, when mutual funds are selling, you will expect big plunge in this stock price.