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Alpesh B. Patel is one of the UK's best-known traders and financial journalists. He writes a regular column for the Financial Times, has written seven bestselling books on trading, and makes regular television appearances for Bloomberg, Sky Television, Channel 4, The Money Channel, and the BBC. |
Lessons in shorting
09/29/2003
I have written about the upside (very recently) and yet there is much which suggests we better prepare for the downside, that I thought I better cover that too using Universal Stock Futures.
Like any trader I am hedging my bets. Yes, we're doing well on the upside, but that does not mean I do not want to cover and be prepared for falls, indeed, it is exactly why I want to be protected on the downside.
There are 2 parts to this:
- Why we might want to prep for the downside
- How Universal Stock Futures work on the downside
The evidence is several:
- Corporate insiders (senior US executives) sold an average of $5 of shares for each $1 bought in August, the largest monthly reading in more than a decade. They know more about the US economy than most and they are selling.
- Despite stock rallies ? the dollar falls ? ie international players are not rushing to buy US stocks.
- US 'The Commitment of Traders' report which tracks the positions of commercial traders (the 'smart money' insiders) shows S&P (the major US index) are now more positioned for a market fall than they were at the September 2000 high. (This is revealed by 'net short' positions, it trades selling stock in anticipation of buying it back cheaper in the future as the price is expected to fall).
- This selling by the professionals despite a rally suggests that it is the public who is buying. Commercial insiders are historically on the correct side of future trend while the general trading public tend to be wrong.
- Another measure is "buying climaxes," (when stocks reach a new 52-week high but then close lower than the previous week.)
Despite indexes rallying to new highs, last week there were 456 buying climaxes. This was the second highest number of buying climaxes on record, and double the previous high in May 2002, which preceded the S&P 500 falling over 30% to new lows in October.
Using Universal Stock Futures for protection
So what might a stock futures trader do for protection? Remember that with stock futures you can sell first then buy back once the stock has fallen. For instance, if Vodafone stock falls 10p, then the stock future will mimic that drop. But since a stock future is the same as 1,000 Vodafone stock, a 10p drop is £100 profit from the fall.
That is what I mean by being prepared.
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