Overview of Short Selling and Trading

What's up everybody? All right, so today we're going to talk about short selling. Traders often ask me a question, what is short selling and how do I short stocks? All right, so today we're going to go into day trading terminology and the term short selling. Now this also is going to require understanding a few other terms, so I'm going to walk you through those and we're going to jump right in here. All right, so to start with, short selling is the very simple process. of selling a stock and then buying it back at a lower price. Now most of us, we've got a long bias on the market. That means we look at the market and we see a stock and we want to buy it and sell it for a higher price. Well you can do just the opposite. You can sell a stock high and then cover it, buy back that position at a lower price. You sell high, you buy low. You can trade the market both directions, which is a really cool thing. But there are a few reasons why the market is structured to be long biased. So it's kind of like a house advantage. I think there's a long advantage when you're trading the market, and it's just because of a few regulations and a few ways that shorts are structured. All right, so we're going to go into that. But first, you need to understand that to short sell, you need a margin account. There are two types of accounts that you can open when you set up an account with a broker. You can have a cash account. or you can have a margin account. Now, in a cash account, you fund the account with $10,000, and you've got $10,000 cash in that account. Now, when you buy a stock, let's say for $8,000 and sell it, you now have to wait three days for that transaction to settle before you can trade with that money again. Now, when you apply for a margin account, it's an agreement between you and the broker, and they're going to say, you know what? Yes, that trade is going to take three days to settle. but we're going to go ahead and let you keep trading with your $10,000 because we know you're good for it. All right, so you don't have to wait settlement periods. You can start trading right away. And you can also borrow money from the broker. Now, when you trade on, you know, on margin or when you're trading while positions are settling, you essentially already are borrowing money from the broker. But when you start shorting stocks, you're going to be selling a position that the broker has. You sell shares that they have and you're basically selling it and then later you buy back and pay them back. So to start short selling, you need to have a margin account. As a day trader, we already use margin. We need margin because it's what allows us to trade 10 times a day. Even if you only have a $30,000 balance, you could trade $300,000 or $400,000 worth of stock in a single day. And that's thanks to having a margin account. All right, so short side trading or short selling. These are traders who are bearish on the market. They look at the market and they look for stocks that they think are really extended to the upside and need to reverse. They need to come back down. So when you short, when you take a short position, what you're doing is you're creating a negative share balance. All right, so I'm gonna show you what that looks like here. Basically what it means is that if you short 1,000 shares, you're gonna show up as in your. positions as having minus 1,000 shares. That's the same as when you buy a stock and you have plus 1,000. When you short a stock, you're going to have minus 1,000. All right, so let me show you here. This is our Fancy Stock Traders simulator. So we're going to do, let's do a sprint here. All right, so 1,000 shares. If I buy 1,000 shares, right, and let me just do this with a hotkey. I buy 1,000 shares, right, I'm long 1,000. I go ahead and sell it. I'm breakeven. Now I go ahead and short, and now I've got minus 1,000 shares. So I can trade the market both directions. I'm not restricted to only trading one direction, only trading to the long side. And that makes us much more agile as day traders. Now there are often times my primary strategy for shorting stocks is to look for stocks that are really extended to the upside, and then take the reversal. Take the short, waiting for the stock to come back to equilibrium. So I'm looking for those big extensions, and I find them using these stock scanners right here. So let's look at Autodesk. We traded this one yesterday. This is a stock that was really extended. And you can see this was a good reversal even today. You have this many consecutive green candles. So this is, let's see, 2, 4, 6, 8, 10, 12, 13 consecutive green candles. You know just statistically. This is just a matter of odds. that the more consecutive green candles you have, the higher the likelihood that the next one will be red. Right, so this is where a short seller would start to think, okay, I'm gonna take a short position and maybe I'll take it on the first candle to make a new low. If you take it on the five minute chart, you'd be short at 8067, and you would cover that position on the move down here towards 8013. So that's like a $600 winner with, you know, 1,000 shares. On the one minute chart, some traders will take an entry for the first candle to make a new low, and you can see that would have been right here. Pretty easy entry at 80.86. And then you get that move back down to 80.41 and then further down from there. Again, quick $400 with 1,000 shares. That's the power of short selling. Now, although you can do this on an intraday chart, you can also do it on daily charts, depending on your strategy. And so here we'll see the stock DRYS. This is a stock that went literally from $4 a share to over a hundred dollars a share in four trading sessions. Now this also exemplifies the risk of shorting because if you shorted a thousand shares of this right down here, you know, this could get very painful very fast. This could have been a one hundred thousand dollar loss and that's the thing with a shorting. Your losses are limitless because if this did go up to a hundred dollars or two hundred dollars a share and you're still short, Eventually, you need to cover the position, right? Your broker's gonna say, you need to cover this position, and the only way to do it is to buy. Now you have to buy the 1,000 shares. So if you've gotta buy them back at $500 a share, it doesn't really matter. Whatever it is is what it is. So the risk when you're trading to the long side is that the amount of money you've paid to buy that stock is the total amount that you could lose. So 1,000 shares of a $4 stock is $4,000. The maximum amount you can lose on a short is unlimited. That's important. And this right here, this move on DRYS, exemplifies the fact that if you start shorting early, there are people that shorted this in the 20s, in the 30s, in the 40s, and they got squeezed all the way through this push. This is the type of move that can destroy a beginner trader who doesn't understand risk management. So short selling is an important concept to understand, but you always have to come back to managing your risk on every single trade you take. So now when we jump back here into the slides, what you can see is that when you short, you create that negative balance. So you sell the shares before you own them, and then you buy back to cover. So what you're doing is you're borrowing shares from your broker. And you'll probably hear short sellers talk about this. Oh man, I didn't have any shares available to borrow. You have to borrow them from your broker. But some brokers don't have shares of every stock available. In fact, brokers never have shares available of IPOs, right? A stock that does its initial public offering is almost never available for shorting. But even stocks that have been traded for years and years and years, some brokers just simply don't have shares available to borrow. So when you're a short seller, you're limited to shares that you can find. And that's why a lot of short sellers... We'll end up funding two, three, four, or even five brokerage accounts, hoping that between the five of them, they'll be able to find shares to borrow of almost every stock out there. All right. Now, once you've created your short position, which is simply by pressing the sell button, you're now negative shares. Well, what you have to do is you at some point have to close that position. We close that position by covering. All right. So to close a short position. you cover your position. You're buying back shares and you're basically repaying the broker. You cover the position and you give back the shares that you borrowed to the broker. Now, like alongside a trader, you can cover in small increments. You don't have to cover all at once. If you're up a thousand dollars, you could cover half of the position and hold the rest for a bigger move, cover another quarter, etc, etc. But you will have to cover the position. Now, you also have a limited number of days before you will be forced to cover the position. And this again is one of these, this is maybe the first example of why the market is structured towards long side trading and not short selling. There's no restriction on the number of days you can hold the stock to the long side when you buy it. But there are a number of days that you can only hold the stock when you're shorting it. Those are the days that you have to cover it. So days to cover. These could be 7 days, 14 days, 20 days, 30 days. It's a period of time, and if you have not covered your position by that date, the broker can do it manually. and they'll charge you a liquidation fee. Now, when you're a long-biased trader and you're trading a stock and it's just kind of trending up, moving up, moving up, we could look at Bank of America, you can just stick with it. And let's say you're in a stock that's been moving down for a while. Well, you could also stick with it and you could continue to add at a lower price and you reduce your average. Let's say you bought this stock at $16 thinking it would bounce right back. Well, it comes down to 15, you're still holding it, so maybe you add another 500 shares. You reduce your cost, right? Reduce your average cost. Well, it drops down more, down to 12, down to 13, whatever. You can add more, add more, and what you're doing is you're reducing your average price. You're increasing your position. This isn't something that I ever do, but let's just say for the sake of argument that you're doing this. Well, you don't have a limited number of days that you can hold this position. You can hold it for years if you want. If it takes years for it to bounce back up and go back into the green, you could hold through that. The same is not true for short selling. So let's say someone shorted this stock at $16. Well, here we are, you know, three weeks later, up at $22, and they're down significantly. And the thing is, they can't just keep holding and holding and holding. At a certain point, the days to cover is going to expire, and they're going to need to cover that position. And that's when, in this case, they'd be taking the loss. Now, it's also important to understand short interest. Short interest refers to the total number of shares that are currently being held as short positions against the stock. So let's say a company, they did their initial public offering and it was a 10 million share IPO. So they have a float of 10 million shares. And let's say 1 million of those shares are being held short. That stock has a short interest of 10%. When a stock has a short interest of 30%, 40%, or 50%, you can see some huge squeezes. This happens because so many people are short the stock that if it starts moving up, those people are going to be forced to cover. So let's just say, for instance, this stock had 50% short interest. 50% of the people holding this stock are now down, you know, suddenly 20, 30%, whatever it might be, and they're going to start covering. Well, how do they cover their position? They cover by pressing the buy button, right? And that means you're going to have lots of people pressing the buy button. That's going to make the stock go up even more. All right. So that's what creates that short squeeze. It creates a parabolic move. And we've seen stocks that just go almost straight up, like we just saw in DRYS, that example I showed you. But we've seen it on many stocks, HMNY. This is another one that went parabolic. You know, all of a sudden you start to get that squeeze. let's see what's that other one rgsc this is a stock that over the course of two days ran from a dollar 86 to eight dollars right that right there is an opportunity right but this is also a place where short sellers would have gotten smoked now they had their redemption on the back side right so once the stock put in the top and started to give confirmation of the reversal they have an opportunity to make that same profit coming right back down So this shows you can trade the market on both sides, both to the upside and to the downside. All right, so now you understand days to cover and you understand short interest. Well, that short interest is what creates the short squeeze. All of the buying, lots and lots of buying, stocks moving up, and you get this massive imbalance between the buyers and the sellers. And we know that stocks move based on supply and demand. So stocks that are going to be really... Really primed for a short squeeze are going to be stocks that have two things. One is a low float, meaning the number of shares available to trade is less than 100 million shares. And stocks that have a float of 5 million or 10 million shares can be absolutely explosive. Those are the ones that can move 50 to 100 percent in a single day. But it's only when they have the second criteria, which is a catalyst, some type of news. Some type of news that catches all the short sellers off guard, right? A company that you thought was doomed for bankruptcy, everyone had a short bias on it, it's dropping, dropping, dropping. Suddenly they get, you know, a huge $20 million order that just really turns things around. Something like that can be all it takes for the momentum to shift. And when it shifts, it can move very, very quickly. Now it's also important to understand short sale restriction. And this is... another one of those areas where the market is really biased towards long side trading. There's no such thing as a long side restriction, but there is a short sale restriction. When a stock drops 10% or more in a single day, short sale restriction will be turned on. And that means a short seller cannot just market into the stock. They can only short when the stock is moving up or when it's giving an uptick. Sometimes it's called the uptick rule. So that means you can't have people just hammering the stock down. That helps prevent flash crashes, which is certainly good. But again, when a stock is squeezing up, There's nothing to prevent long bias traders from hitting market orders and just squeezing these stocks up. So this shows us that there really is this sort of institutional bias towards long side trading. All right. So the house advantage feels like, to me at least, that it's on the side of the bulls. All right. Now, the important thing to realize here with short sale restriction is that stocks that have short sale restriction turned on are going to be harder to short. That means if we have a stock, for instance, that dips down 10% when the market opens and then squeezes up 40%, even if people want to short it, it's gonna be harder for them to short it, even though it's squeezing up because you have short sale restriction turned on. And that can fuel that parabolic move because people that maybe do think it's extended are gonna have a hard time getting their short. Now, a couple other terms that are important to understand cost average, dollar cost averaging, and averaging up or averaging down. So your average cost, this is the price you pay for a stock, whether you're long or short. So let's say you buy a stock at $10, or let's say you short a stock at $10. You short a thousand shares at $10, and then you short another thousand shares at $9. Your average cost is $9.50, right? Now, dollar cost averaging, in that example I was showing you where someone was adding as the stock was going down, that's a strategy used oftentimes by investors. It's not really used by day traders. So the strategy there is, well, let's just say I put $20,000 into the market each month. I put in $20,000 here, I put in $20,000 here, $20,000 here, $20,000 here. So yeah, sometimes the market's up when you put in the money, sometimes it's down. But over the long haul, you're going to end up having an average cost. So your average cost is going to be somewhere in the middle. And that helps buffer out some of the big moves up and the big moves to the downside. Now, averaging up or averaging down, I avoid averaging down at all costs. If I'm in a bad position, whether it's a long position or a short position, I don't add more money to it. So if I got into a stock and I'm down $1,000. I have two options. One is that I sell and take the $1,000 loss. The other option is that I double my position. Now I'll still be down $1,000, but if the stock goes up just halfway to my entry, I'll be at break-even. So let's say I took 1,000 shares and the stock drops from $10 to $9 and I'm long. Well, if I double to 2,000 shares, my average is now 950, which means when the stock comes back up to 950, I'm break-even instead of down. $500. But of course, if it drops to $850, I'm now down a lot more, right? The loss has gotten bigger. I'm now down $2,000. And that's the risk with averaging down. The best trades work out pretty much immediately. And the worst trades, well, you're red on them pretty much immediately. So if you're red on the trade, you already know it's not going to be one of your best trades ever. So the decision to add more money to that position really is just adding more risk to a bad situation. The better thing for me, and I've always felt this way, is to cut the loss and then look for a better opportunity. Because you also have the opportunity cost. When you tie up your money and your energy into a bad position, it keeps you from finding the next good position, the next good trade. So you can see this is a stock that made the move from $2 to $8 and then right back down. I'm sure there are traders who, you know, on the short side got squeezed into the move up and on the long side, you know, got buried in the move down. So it's just a matter of understanding your risk on every trade. You have your max loss and you follow it. That's especially important when you're a short seller because of the fact that your losses can be unlimited. Now that's especially true when we're talking about these stocks that can move 300, 400. 500% in a single day. Traders with small accounts, one move like this can wipe out your whole account. That's the importance of having stops, knowing your max loss, and following the rules. Being successful at trading, it's really not that hard. It's just a matter of understanding the rules that have to be in play. Following those rules on every single trade, if you can do that, you can come out on the other side profitable day after day. All right, guys. So I hope this has been a helpful explanation of short selling. If you have any questions, please feel free to email me, ross at warrior trading dot com. Hey guys, I also want to remind you to subscribe to our YouTube channel. You can click by subscribing. That way you can get alerts when I upload new videos, like my teaching you how to day trade video, or the video where I turned $1,000 into $8,600 in one month. Thanks guys!

Now this also is going to require understanding a few other terms, so I'm going to walk you through those and we're going to jump right in here. All right, so to start with, short selling is the very simple process. of selling a stock and then buying it back at a lower price.

Now most of us, we've got a long bias on the market. That means we look at the market and we see a stock and we want to buy it and sell it for a higher price. Well you can do just the opposite.

You can sell a stock high and then cover it, buy back that position at a lower price. You sell high, you buy low. You can trade the market both directions, which is a really cool thing.

But there are a few reasons why the market is structured to be long biased. So it's kind of like a house advantage. I think there's a long advantage when you're trading the market, and it's just because of a few regulations and a few ways that shorts are structured.

All right, so we're going to go into that. But first, you need to understand that to short sell, you need a margin account. There are two types of accounts that you can open when you set up an account with a broker. You can have a cash account. or you can have a margin account.

Now, in a cash account, you fund the account with $10,000, and you've got $10,000 cash in that account. Now, when you buy a stock, let's say for $8,000 and sell it, you now have to wait three days for that transaction to settle before you can trade with that money again. Now, when you apply for a margin account, it's an agreement between you and the broker, and they're going to say, you know what? Yes, that trade is going to take three days to settle.

but we're going to go ahead and let you keep trading with your $10,000 because we know you're good for it. All right, so you don't have to wait settlement periods. You can start trading right away.

And you can also borrow money from the broker. Now, when you trade on, you know, on margin or when you're trading while positions are settling, you essentially already are borrowing money from the broker. But when you start shorting stocks, you're going to be selling a position that the broker has.

You sell shares that they have and you're basically selling it and then later you buy back and pay them back. So to start short selling, you need to have a margin account. As a day trader, we already use margin.

We need margin because it's what allows us to trade 10 times a day. Even if you only have a $30,000 balance, you could trade $300,000 or $400,000 worth of stock in a single day. And that's thanks to having a margin account.

All right, so short side trading or short selling. These are traders who are bearish on the market. They look at the market and they look for stocks that they think are really extended to the upside and need to reverse. They need to come back down.

So when you short, when you take a short position, what you're doing is you're creating a negative share balance. All right, so I'm gonna show you what that looks like here. Basically what it means is that if you short 1,000 shares, you're gonna show up as in your.

positions as having minus 1,000 shares. That's the same as when you buy a stock and you have plus 1,000. When you short a stock, you're going to have minus 1,000.

All right, so let me show you here. This is our Fancy Stock Traders simulator. So we're going to do, let's do a sprint here. All right, so 1,000 shares. If I buy 1,000 shares, right, and let me just do this with a hotkey.

I buy 1,000 shares, right, I'm long 1,000. I go ahead and sell it. I'm breakeven.

Now I go ahead and short, and now I've got minus 1,000 shares. So I can trade the market both directions. I'm not restricted to only trading one direction, only trading to the long side. And that makes us much more agile as day traders.

Now there are often times my primary strategy for shorting stocks is to look for stocks that are really extended to the upside, and then take the reversal. Take the short, waiting for the stock to come back to equilibrium. So I'm looking for those big extensions, and I find them using these stock scanners right here.

So let's look at Autodesk. We traded this one yesterday. This is a stock that was really extended.

And you can see this was a good reversal even today. You have this many consecutive green candles. So this is, let's see, 2, 4, 6, 8, 10, 12, 13 consecutive green candles.

You know just statistically. This is just a matter of odds. that the more consecutive green candles you have, the higher the likelihood that the next one will be red.

Right, so this is where a short seller would start to think, okay, I'm gonna take a short position and maybe I'll take it on the first candle to make a new low. If you take it on the five minute chart, you'd be short at 8067, and you would cover that position on the move down here towards 8013. So that's like a $600 winner with, you know, 1,000 shares. On the one minute chart, some traders will take an entry for the first candle to make a new low, and you can see that would have been right here. Pretty easy entry at 80.86. And then you get that move back down to 80.41 and then further down from there.

Again, quick $400 with 1,000 shares. That's the power of short selling. Now, although you can do this on an intraday chart, you can also do it on daily charts, depending on your strategy. And so here we'll see the stock DRYS. This is a stock that went literally from $4 a share to over a hundred dollars a share in four trading sessions.

Now this also exemplifies the risk of shorting because if you shorted a thousand shares of this right down here, you know, this could get very painful very fast. This could have been a one hundred thousand dollar loss and that's the thing with a shorting. Your losses are limitless because if this did go up to a hundred dollars or two hundred dollars a share and you're still short, Eventually, you need to cover the position, right? Your broker's gonna say, you need to cover this position, and the only way to do it is to buy.

Now you have to buy the 1,000 shares. So if you've gotta buy them back at $500 a share, it doesn't really matter. Whatever it is is what it is.

So the risk when you're trading to the long side is that the amount of money you've paid to buy that stock is the total amount that you could lose. So 1,000 shares of a $4 stock is $4,000. The maximum amount you can lose on a short is unlimited.

That's important. And this right here, this move on DRYS, exemplifies the fact that if you start shorting early, there are people that shorted this in the 20s, in the 30s, in the 40s, and they got squeezed all the way through this push. This is the type of move that can destroy a beginner trader who doesn't understand risk management. So short selling is an important concept to understand, but you always have to come back to managing your risk on every single trade you take. So now when we jump back here into the slides, what you can see is that when you short, you create that negative balance.

So you sell the shares before you own them, and then you buy back to cover. So what you're doing is you're borrowing shares from your broker. And you'll probably hear short sellers talk about this. Oh man, I didn't have any shares available to borrow.

You have to borrow them from your broker. But some brokers don't have shares of every stock available. In fact, brokers never have shares available of IPOs, right?

A stock that does its initial public offering is almost never available for shorting. But even stocks that have been traded for years and years and years, some brokers just simply don't have shares available to borrow. So when you're a short seller, you're limited to shares that you can find.

And that's why a lot of short sellers... We'll end up funding two, three, four, or even five brokerage accounts, hoping that between the five of them, they'll be able to find shares to borrow of almost every stock out there. All right. Now, once you've created your short position, which is simply by pressing the sell button, you're now negative shares. Well, what you have to do is you at some point have to close that position.

We close that position by covering. All right. So to close a short position. you cover your position.

You're buying back shares and you're basically repaying the broker. You cover the position and you give back the shares that you borrowed to the broker. Now, like alongside a trader, you can cover in small increments. You don't have to cover all at once.

If you're up a thousand dollars, you could cover half of the position and hold the rest for a bigger move, cover another quarter, etc, etc. But you will have to cover the position. Now, you also have a limited number of days before you will be forced to cover the position. And this again is one of these, this is maybe the first example of why the market is structured towards long side trading and not short selling.

There's no restriction on the number of days you can hold the stock to the long side when you buy it. But there are a number of days that you can only hold the stock when you're shorting it. Those are the days that you have to cover it. So days to cover. These could be 7 days, 14 days, 20 days, 30 days.

It's a period of time, and if you have not covered your position by that date, the broker can do it manually. and they'll charge you a liquidation fee. Now, when you're a long-biased trader and you're trading a stock and it's just kind of trending up, moving up, moving up, we could look at Bank of America, you can just stick with it. And let's say you're in a stock that's been moving down for a while.

Well, you could also stick with it and you could continue to add at a lower price and you reduce your average. Let's say you bought this stock at $16 thinking it would bounce right back. Well, it comes down to 15, you're still holding it, so maybe you add another 500 shares. You reduce your cost, right? Reduce your average cost.

Well, it drops down more, down to 12, down to 13, whatever. You can add more, add more, and what you're doing is you're reducing your average price. You're increasing your position. This isn't something that I ever do, but let's just say for the sake of argument that you're doing this. Well, you don't have a limited number of days that you can hold this position.

You can hold it for years if you want. If it takes years for it to bounce back up and go back into the green, you could hold through that. The same is not true for short selling.

So let's say someone shorted this stock at $16. Well, here we are, you know, three weeks later, up at $22, and they're down significantly. And the thing is, they can't just keep holding and holding and holding.

At a certain point, the days to cover is going to expire, and they're going to need to cover that position. And that's when, in this case, they'd be taking the loss. Now, it's also important to understand short interest. Short interest refers to the total number of shares that are currently being held as short positions against the stock. So let's say a company, they did their initial public offering and it was a 10 million share IPO.

So they have a float of 10 million shares. And let's say 1 million of those shares are being held short. That stock has a short interest of 10%. When a stock has a short interest of 30%, 40%, or 50%, you can see some huge squeezes.

This happens because so many people are short the stock that if it starts moving up, those people are going to be forced to cover. So let's just say, for instance, this stock had 50% short interest. 50% of the people holding this stock are now down, you know, suddenly 20, 30%, whatever it might be, and they're going to start covering. Well, how do they cover their position? They cover by pressing the buy button, right?

And that means you're going to have lots of people pressing the buy button. That's going to make the stock go up even more. All right. So that's what creates that short squeeze.

It creates a parabolic move. And we've seen stocks that just go almost straight up, like we just saw in DRYS, that example I showed you. But we've seen it on many stocks, HMNY.

This is another one that went parabolic. You know, all of a sudden you start to get that squeeze. let's see what's that other one rgsc this is a stock that over the course of two days ran from a dollar 86 to eight dollars right that right there is an opportunity right but this is also a place where short sellers would have gotten smoked now they had their redemption on the back side right so once the stock put in the top and started to give confirmation of the reversal they have an opportunity to make that same profit coming right back down So this shows you can trade the market on both sides, both to the upside and to the downside. All right, so now you understand days to cover and you understand short interest. Well, that short interest is what creates the short squeeze.

All of the buying, lots and lots of buying, stocks moving up, and you get this massive imbalance between the buyers and the sellers. And we know that stocks move based on supply and demand. So stocks that are going to be really... Really primed for a short squeeze are going to be stocks that have two things.

One is a low float, meaning the number of shares available to trade is less than 100 million shares. And stocks that have a float of 5 million or 10 million shares can be absolutely explosive. Those are the ones that can move 50 to 100 percent in a single day.

But it's only when they have the second criteria, which is a catalyst, some type of news. Some type of news that catches all the short sellers off guard, right? A company that you thought was doomed for bankruptcy, everyone had a short bias on it, it's dropping, dropping, dropping. Suddenly they get, you know, a huge $20 million order that just really turns things around.

Something like that can be all it takes for the momentum to shift. And when it shifts, it can move very, very quickly. Now it's also important to understand short sale restriction.

And this is... another one of those areas where the market is really biased towards long side trading. There's no such thing as a long side restriction, but there is a short sale restriction. When a stock drops 10% or more in a single day, short sale restriction will be turned on.

And that means a short seller cannot just market into the stock. They can only short when the stock is moving up or when it's giving an uptick. Sometimes it's called the uptick rule. So that means you can't have people just hammering the stock down.

That helps prevent flash crashes, which is certainly good. But again, when a stock is squeezing up, There's nothing to prevent long bias traders from hitting market orders and just squeezing these stocks up. So this shows us that there really is this sort of institutional bias towards long side trading.

All right. So the house advantage feels like, to me at least, that it's on the side of the bulls. All right.

Now, the important thing to realize here with short sale restriction is that stocks that have short sale restriction turned on are going to be harder to short. That means if we have a stock, for instance, that dips down 10% when the market opens and then squeezes up 40%, even if people want to short it, it's gonna be harder for them to short it, even though it's squeezing up because you have short sale restriction turned on. And that can fuel that parabolic move because people that maybe do think it's extended are gonna have a hard time getting their short.

Now, a couple other terms that are important to understand cost average, dollar cost averaging, and averaging up or averaging down. So your average cost, this is the price you pay for a stock, whether you're long or short. So let's say you buy a stock at $10, or let's say you short a stock at $10. You short a thousand shares at $10, and then you short another thousand shares at $9.

Your average cost is $9.50, right? Now, dollar cost averaging, in that example I was showing you where someone was adding as the stock was going down, that's a strategy used oftentimes by investors. It's not really used by day traders.

So the strategy there is, well, let's just say I put $20,000 into the market each month. I put in $20,000 here, I put in $20,000 here, $20,000 here, $20,000 here. So yeah, sometimes the market's up when you put in the money, sometimes it's down.

But over the long haul, you're going to end up having an average cost. So your average cost is going to be somewhere in the middle. And that helps buffer out some of the big moves up and the big moves to the downside. Now, averaging up or averaging down, I avoid averaging down at all costs. If I'm in a bad position, whether it's a long position or a short position, I don't add more money to it.

So if I got into a stock and I'm down $1,000. I have two options. One is that I sell and take the $1,000 loss.

The other option is that I double my position. Now I'll still be down $1,000, but if the stock goes up just halfway to my entry, I'll be at break-even. So let's say I took 1,000 shares and the stock drops from $10 to $9 and I'm long.

Well, if I double to 2,000 shares, my average is now 950, which means when the stock comes back up to 950, I'm break-even instead of down. $500. But of course, if it drops to $850, I'm now down a lot more, right? The loss has gotten bigger. I'm now down $2,000.

And that's the risk with averaging down. The best trades work out pretty much immediately. And the worst trades, well, you're red on them pretty much immediately. So if you're red on the trade, you already know it's not going to be one of your best trades ever.

So the decision to add more money to that position really is just adding more risk to a bad situation. The better thing for me, and I've always felt this way, is to cut the loss and then look for a better opportunity. Because you also have the opportunity cost. When you tie up your money and your energy into a bad position, it keeps you from finding the next good position, the next good trade.

So you can see this is a stock that made the move from $2 to $8 and then right back down. I'm sure there are traders who, you know, on the short side got squeezed into the move up and on the long side, you know, got buried in the move down. So it's just a matter of understanding your risk on every trade. You have your max loss and you follow it. That's especially important when you're a short seller because of the fact that your losses can be unlimited.

Now that's especially true when we're talking about these stocks that can move 300, 400. 500% in a single day. Traders with small accounts, one move like this can wipe out your whole account. That's the importance of having stops, knowing your max loss, and following the rules. Being successful at trading, it's really not that hard. It's just a matter of understanding the rules that have to be in play.

Following those rules on every single trade, if you can do that, you can come out on the other side profitable day after day. All right, guys. So I hope this has been a helpful explanation of short selling.

If you have any questions, please feel free to email me, ross at warrior trading dot com. Hey guys, I also want to remind you to subscribe to our YouTube channel. You can click by subscribing. That way you can get alerts when I upload new videos, like my teaching you how to day trade video, or the video where I turned $1,000 into $8,600 in one month.

Thanks guys!

Transcript for:Overview of Short Selling and Trading

Transcript for:
Overview of Short Selling and Trading