Going short - the basics

Selling short is selling that stock which you do not own ! The very fact that you are selling something that is not owned by you puts off many a trader. In the bargain, a highly profitable trading strategy is neglected for the want of understanding the basics ! Unlike other commodities, stocks offer you a dual advantage. Buying when rising prices are seen and short selling when prices plumb lower. If you neglect short sales, imagine the opportunities you have lost since year 2000 when the markets melted !!! In our opinion, selling short is atleast as profitable ( if not more ) than going long. You have the forces of gravity and investor inertia on your side which pulls stock prices down. The risks are also very high. You are not backed by deliveries of shares that you can give if prices rally past your short selling levels. Selling short or not will depend on your risk appetite and comfort levels. If you are a nervous and impatient person, you should probably lay off shorting. In selling short, the importance of setting stop losses cannot be emphasised enough.

However, setting stop-losses is an art rather than a mathematical function. Setting a simple stop-loss is not enough. We therefore advocate setting trailing stop losses. Let's take a hypothetical example -

1. Suppose you short a scrip XYZ at Rs 100.

2. You set a stop loss of Rs 10 ( exit at Rs 110 )

3. The price starts moving below Rs. 100 and hits 90

4. You should modify your stop loss to trail the price - now the stop loss is at 100 - your capital is safe

5. The price of XYZ goes to 80, your stop loss trails to 90 - your capital has appreciated already. At this stage you can let your brokers computer take over the trade, while you divert your attention elsewhere - another trade, a movie or a holiday ! If the stop loss is "hit" you still make money, if the price keeps falling, so does your trailing stop loss and get you assured profits.

Happy trading

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