To short means that you borrow stock from your broker to sell to a third party. The idea is to buy back the stock at a lower price, returning the shares to your broker while leaving the remaining cash in your account as a profit. A short seller does not own the stock before they sell it as they borrow it from another investor who already owns it. At a later date, the short seller buys back the stock they shorted and returns the stock to close out the loan. If the stock has fallen in price since they sold short, they can buy the stock back for less than they received for selling it. The difference is your profit. Please note that short selling is a transaction made on margin.

To initiate a short sale, you must place the order with your broker or online brokerage by determining the size and price at which the trade will occur. Your broker or brokerage company will check to see if shares are available in the specific stock selected or if they can borrow the shares. Once they are available or can be borrowed, they will be sold in the open market on the first plus tick or continuation of an up-tick also known as zero-plus tick (the stock must move up for the transaction to complete). To close the short position, the broker will purchase the shares using the original proceeds and return the shares to the third party.

As a short seller, you believe that the price of a particular stock will fall in value over time. For example: by establishing a short position for 100 shares in XYZ at $50, the broker will place $5,000 into your margin account. If the stock falls over the next few weeks and you decide to cover the short at $40, you will initiate a buy for 100 shares in XYZ using the money placed in your account when you sold short. The cost to buy back the shares in this example will be $4,000 or $1,000 less than the original short sale amount. This difference in price will result in $1000 cash that will now become your profit.

On the flip side, if the stock was to jump to $60, you would most likely cover your short or have your stop loss triggered, buying back the shares at this price. The cost would be $6000 or $1000 more than the original short sale, resulting in a 20% loss. The broker would take the additional $1000 from your cash account to cover the loss in the short sale. This is how you can lose money when shorting stocks. The higher the stocks rises, the more money you can lose, theoretically resulting with an infinite loss (excluding stop losses and broker margin calls).

If the stock rises in price or if the value of the stocks you are using as collateral goes down in price, you may be forced to add cash to your margin account or cover the short sale prematurely. Keep in mind that you must pay any dividends issued while you are short a particular stock.

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Is this stock a short candidate? Could we buy puts here?
Well, it topped several months ago and has violated several support levels (see chart as well):

• Price violates the 50-d m.a.
• Price violates the 200-d m.a.
• Price fails to recover the 200-d m.a.
• The 50-d m.a. crosses below the 200-d m.a.
• Another failure to recover the major moving averages

I have screened the stock numerous times as a strong buy as it trended higher from the initial coverage on August 11, 2005 at $9.41 but the outlook has changed.

Go back to this post in December 2006 to see the details and extensive coverage on the Knot.com: Listen to your Wife, KNOT

It had a great run; I never actually bought and was pissed because it could have been the perfect stock for my wife (as explained in the December post) and is now setting up a classic longer term short pattern.

Should I take the trade?

I may just leave this one alone because I feel a bit of revenge as I write. I missed the huge gain but covered it the entire time (that hurts). I see the potential for a short but I could be wearing blinders so I will present this for anyone else that may want a short trade. Longer term puts may do the job here.

Let me know your thoughts and have a great weekend!

I want to focus on four stocks that are leading the way for this blog in 2007 and in my own portfolio. As I mentioned in my interview with Dave over at Stockticker, I look for new growth stocks (IPO’s within a few years) that show increasing earnings and sales with charts that are trending.

I aim to take gains of at least 25% within a few months with a maximum loss of 7-10% (or less). I risk about 1% of my portfolio in each position and typically trade a risk-to-reward ratio of 3-to-1 or greater. As you can see, the stocks below (with the exception of HWCC) have all blasted to solid gains within the first few weeks of the initial trade.

Don’t get me wrong, I do have losing trades this year such as PTR (poor entry), ANDE, NYX and TWLL (my worst trade). I am currently showing a slight loss with my NMX options so don’t think I am this great trader that never loses. I win and I lose but my expectancy and overall performance is positive. As long as I cut the losers quickly, my winners will cover drawdowns and then some; giving me a smile on December 31, 2007.

Anyway, take a look at some of the recent plays we have made on this blog:

Learning about New Oriental Education (EDU)
EDU has been trending higher in a smooth consistent fashion; the exact type of pattern I like to see when trading a trend. The stock is now up 35% in three months and hasn’t flashed any signs of slowing down. The stock is rated a hold with new accumulation areas near the trendline on the chart.

Is Mastercard Priceless
Mastercard blew past earnings and now has a 30% gain in one month on some very heavy volume. The stop has been placed to guarantee profits but I will look to ride this trend higher if it allows. Ride your winners and give them some room to breathe. Stocks like this can end up being one of the few home runs you should hit each year. Current rating is hold.

Baidu.com (BIDU) buy Opportunity
This stock was a pure speculation play prior to earnings and it worked as it is now sitting with a 23% gain in two weeks. This is a trade that I will close immediately if a red flag flashes to ensure a 20% gain and nothing less. I will not close the trade for “a lack of reason” and will allow it to grow if it doesn’t violate my stop area. The stock does seem to have potential but it worries me more than my other positions. My current rating is hold (protect profits).

Houston Wire and Cable Company (HWCC)
This stock is only up about 8% since the case study on the blog but it has consolidated into an area that seems to be ideal for adding shares. Looking at the chart, the $26 area seems to offer support on the long term trendline which sits just above the 200-d moving average. My current rating is “add-shares” for this stock.

Stock of the Day
Sears Holding Corp.
Wednesday’s Intra-day Price: SHLD - $177.96

I’ve wanted to own shares for a long time now and have not had the chance to pull the trigger. With the stock currently consolidating towards the 200-day moving average; I am starting to determine if now is the time to grab shares (for a long term perspective).

The stock has been trending higher over the past fourteen months since the lows set just above $110 per share. I had an opportunity to enter last summer during the dip to $134 but I never pulled the trigger. We are considerably higher but that doesn’t concern me as buying high and selling higher is something I accept for quality stocks.

What concerns me is the possible shortfall in revenue due to competitors such as Wal-Mart (WMT) and Target (TGT). Revenue should decrease due to weaker same-store sales and the closure of underperforming stores. A slower US housing market will also limit the sales of appliances and electronics in Sears outlets while apparel looks to hold the stock steady across the K-mart stores.

Standard and Poor’s states that merger-related cost synergies and the repurchase of up to $604 million shares can help elevate earnings heading into fiscal year 2008.

So what does this all mean? It means that I am still bullish on a solid organization and will look to accumulate shares carefully along the long term 200-day moving average. This will be a position that will accumulate shares for a long term perspective (multiple years) which is different from my typical trend trading and swing trading strategies. See the charts for current ideal accumulation areas and past opportunities.

Next Earnings Date: 5/31/07
Sector: Consumer Discretionary
Industry: Department Stores
52-week Range: $195.18 - $134.56

Institutional Analysis:
Held by Institutions: 88.04%
Money Market: 415
Mutual Fund: 568
Other: 27

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All stocks, case studies and general market analysis that appear on this blog are entered into my public list of annotated charts over at Stockcharts.com. I update the annotations from week to week and sometimes from day to day for specific stocks. The list currently contains 83 real time charts with stocks I own, stocks I am researching, stocks I watch, stocks I have sold and stocks that interest me. It also contains charts for the major market indexes, commodity comparisons, currency comparisons, ticks, oil, gold, highs, lows, etc…

The best part is that these charts contain market data that is updated every 15 minutes from the stockcharts database or content provider. As the market data feeds into the charts, my annotations move along with time and clearly show how well the analysis is panning out (or poorly in some cases).

Feel free to visit my public stock charts list and definitely vote for it if you enjoy the work I am doing. I don’t get anything for the vote except maybe a smile for work well done!