Here are the basics of my short selling. This very simple system has served me well since I started rolling out of longs and into shorts back in late 2010.
For this to work, it is necessary to shake off some natural biases.
1.) Stocks are not like projectiles that get shot out of a cannon. They don’t necessarily reach a maximum altitude and then drop.
2.) There is no floor a stock in a downtrend will ever hit and cause it to bounce or reverse its trend.
Newton’s laws don’t apply to the stock market.
Stocks like AAPL are always a bad bet to short. If there is as expected huge bear market in the offing, AAPL might very well drop 50% but chances are that it will be among the last stocks to get hit. If the downturn doesn’t come, you are cooked shorting strong stocks. No stock has gone as high as it can possibly go.
Stocks like MDIC look like they have gone down as far as it is possible to go, but the opposite is actually true. Stocks in these kinds of downtrends frequently don’t recover at all. When a severe downtrend starts, the rate of decline in the “super weak stock” category is likely to increase. If the bear market doesn’t materialize as expected the dogs are likely to keep going down anyway.
How many stocks should be shorted? Always more than one and hopefully no less than five. Any time a stock breaks its long term downtrend line, cover it and rotate the money into something weaker. I look at diversification differently than most others. I diversify to make certain I participate in a move rather than to limit risk.
In the current stock market setting, very few investors trade in individual stocks. Exchange traded funds and derivatives have replaced stocks as the trading vehicle of choice. The investor who does trade stocks is at a distinct because he outside of the majority and can game what others are doing. When all of the world’s financial markets have cleared, I will reverse and start going long. Right now there are no asset classes that are not totally vulnurable to collapse, including gold. I well selected portfolio of short positions makes sense. This is the opposite of owning assets.