Another shorting Forbes article:
While Hammond and Frazer were looking for the
mispricings they knew were there, they watched the few
remaining skeptics still trying to make money selling short.
Why were these managers doing so badly? Sure, the
averages were racing, but there were also plenty of
individual stocks crumbling from their highs-America
Online, Micron Technology and Broderbund Software, to
name a few. Short-sellers should have been profiting. Why
weren't they?
The former traders made an interesting discovery. For the
past five years or so, traditional short-selling strategies
have produced disastrous results because investors didn't
understand a key point: The fundamental analysis they use
to identify overpriced stocks does not work with
momentum stocks-in essence, stocks that rise because
they've been rising. The bandwagon folks buying these
shares care nothing about fundamental analysis and
traditional methods of valuing stocks. So these companies'
shares do not trade on a fundamental basis. The companies
that most appeal to short-sellers, the partners concluded,
are those no one should dream of shorting (see "Hands off"
table).
Hammond and Frazer are amazed that so few short-sellers
recognized that they have been banging their heads against
a wall. What's more, the money managers argue that folks
who short-sell momentum stocks actually wind up feeding
the frenzy. That's because when the stocks don't go down
short-sellers are often forced to cover their positions,
driving share prices higher. "People who short momentum
stocks," says Frazer, "effectively become momentum
players themselves."
As momentum investing gained credibility and investors
thronged to the strategy, Hammond and Frazer became
more certain a portfolio could be constructed capitalizing
on the group think.
After eight months of tinkering with a database of 9,400
stocks, the two constructed a portfolio of 100 stocks with
poor prospects that trade strictly on fundamentals, not
momentum. These stocks would be safe to short, and they
deserved to be.
Turning up such candidates in today's roaring market isn't
easy. Hammond and Frazer begin their screening process
by exempting from their portfolio high-momentum stocks.
Then the two scrutinize analysts' recommendations, looking
for declining expectations on Wall Street for the companies
in question. An increase in genuine short interest in a
stock-not the shorting that an arbitrager might employ,
such as a hedge against a convertible bond holding-is
another characteristic the two look for (see "Okay to
short" table).
This was from 11/96
Points:
1) Agree with avoid shorting momentum stocks, not matter how rediculous the valuations, e.g. AMZN and other internets. I would think poor relative strength, such as in IBD or 26 week performance, would help avoid high flyers.
2) Looks like they use recent analysist's downgrades. Zacks uses this in their rankings. Could probably find a similar group of stocks with Zacks #5's like banjoman does.
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