Friday, January 16th, 2009
Random thoughts on short-selling stocks, Part I
I haven’t done as much short selling as buying. I’ve also only broken even shorting, whereas my long trades are overwhelmingly profitable in aggregate. It is true that short selling is harder than buying stocks – though there is nothing particularly mysterious about it. I also think it’s a really important tool to have in your arsenal. Here are a few random thoughts based on my experiences of short selling:
1. The best reason to short is the information and insight it gives you on the market. Ultimately bull and bear moves are made up of stocks going up and down. Looking for shorts allows you to analyse whether a bear move is going to be sustained or not.
2. When the market starts heading down, if there are few short set-ups, then the probability of further down moves are limited. At the moment the market is selling off, for example, but I can’t find good short set-ups so I’m skeptical we’re going to have a major sell off right now (Update: looks like I was wrong, but annoyingly I still can’t find high-probability short set ups).
3. The other reason to short, of course, is to hedge. Trend-trading aggressive-growth stocks during a bull market means I have to sit through big sell offs when the market corrects. That’s when the shorts kick in and provide a bit of a buffer and floor in my drawdown.
4. The best shorts are ‘spiv’ stocks — they’re run by shonks and spivs. Often they’re the high-flying stocks of a market boom. The problem is they begin their falls when everyone else thinks they’re still fantastic and they usually appear to be fundamentally strong – so shorting them requires going against the crowd.
5. The best tactic is to have a list of ‘spiv’ companies then use technical analysis to time your entry.
6. How do you identify spivs? I’ve been hanging around businesses since I could walk. I’ve also read about, studied and interviewed businessmen for years. So a lot of what I do is through intuition. There are certain characteristics of good businessmen that separate them from spivs and shonks. Good businessmen have an obsession with providing value to customers; they also usually are fairly frugal. They have a niche they know better than anyone else. They also tend to think longer term and are prepared to take risks that will deliver returns down the track. They are intensely focused on their business, but I don’t think I’ve met a really good business person that isn’t really interested in other people and the world. They are comfortable with themselves, and are usually fairly decent people who make you feel comfortable when dealing with them. (That doesn’t mean they’re not hard nosed and they usually don’t suffer fools gladly). Spiv CEOs give you a slightly creepy feeling.
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January 20th, 2009 at 11:28 pm
[...] recently outlined some thoughts on short selling stocks. Here’s part [...]
January 22nd, 2009 at 10:10 pm
I think there are always going to be some companies that appear to be strong when the markets are going up, but when you dig a little deeper beneath the surface you can see that it’s a house of cards that could be knocked down fairly easily.
I like the point you make about good businessmen generally having an obsession with providing value and a good sense of frugality.
I have worked in the financial services industry and I met some real wankers. One chap I had the unpleasant experience of working with lorded it up all day long, acting like he had loads of money, but in fact his business was on the edge of bankruptcy and he didn’t even own his own property.