I think it is absolutely important that one must keep enough powder in case the stock goes up 10 folds in matter of days or a week.
I would agree with that statement completely. I think we were probably making different points - but they clearly relate to each other. I meant enough powder to keep hitting the stock if it rises, without getting all nervous about how much you are "under water." You, I think, meant keeping enough to ensure that you can buy groceries next week if the worst happens. Both are important aspects of trading - your point more so than mine.
From a basic trading and risk management strategy, I would not generally advise letting a short position run to 10x. When I enter a short, I do so with a set of plans to add or stop out as it goes higher. For turds that are flying on hype, misinformation, or fraud, I will usually double my position at a price 20-30% higher, then add again at 60-80% above my first entry. For more technical or valuation-related trades on good (or at least decent) companies, I might set a stop at 10-15%. I will revise my strategy as I watch the stock if my position grows, and specific entry and exit points may be dictated by technical factors.
You should not ever be looking at holding through a 10x rise in my opinion. If this is ever an issue (and I'm not suggesting it would be for you Webby, I know you know better), then either you need to do better fundamental and technical analysis and pick better stocks to short and better entry points, or you need to manage your risk better. You must have a price level (maximum loss) at which you will stop out, no matter what. I usually set mine at about 2% of my portfolio, but for stocks that I am absolutely certain about the fundamentals on, I may go a bit higher. But never more than I am prepared to lose.
Having said that, you also have to be prepared for market oddities, such as market makers canceling your stop orders while you're on vacation (which they can do at will, at least on Nasdaq!), or absurdities like ADSP, a near-penny stock that ran on erroneous news reports on a semi-holiday when mostly amateurs (who generally long rather than short) were playing the market - hence no market discipline imposed by the pros. I can say with confidence that IBM is not going to go up 10x in a matter of days or weeks. But a $3 small-cap stock could go up 20x in a day or two. You need to manage around a realistic worst-case scenario...for IBM, maybe 30% or 40%, for a true penny stock, maybe 10,000%.
Risk management is the most essential element of successful shorting - a lesson I can tell you was a very expensive one for me to learn (and most traders I know who short regularly would agree). The key is to enter in the outset with at most about 1% of your risk capital, and usually less. If you start with a relatively small portfolio, as I did, it seems absurd to enter such puny orders for entry positions, but the fact is that it works. I have shorted single-digit numbers of shares on some stocks priced in the hundreds, and made money almost every time. You don't make big gains when the stock goes right down (although they add up quicker than you think). But if you guess wrong and it goes up 2x, 3x, or 4x before it tanks, you just keep on hitting it, up to your predefined exit point. And you only do this if you are absolutely sure you will win in the end and can endure the pain in the meantime. When you win with this strategy, you can win big, but typically you get lots and lots of singles and occasional doubles.
By the way, this strategy worked perfectly on ADSP. I watched it at the end of the day on the day before Thanksgiving with a small position (<1% of my portfolio). When it was climbing at the end of the day I got nervous because I knew Friday trading would be undisciplined, and decided the best thing to do was to box and reenter higher, because a gap of some sort was almost guaranteed for Friday morning (not a risk worth taking). When it opened in the 20s, it was clealry going to run a lot further. I sold more at 39 and unboxed my first position with a market order placed at 55 that got filled at 43 on the way down (wow!). I eventually covered it all in the 7s or 8s. Even if I hadn't boxed, I would have been OK and ultimately made a killing because I started small. I was partly lucky to box, but that only made the difference between it being a big win and a huge win. Those who had hit it with just 2% or 3% of their capital -- let alone 20% -- well, you know what happened to some of them. It is not a risk worth taking IMO - and I know you will agree!
Speaking of risk management, congratulations on KREM. I have not yet thrown in the towel (i.e. I am not ready to admit you were right and I was wrong lol) -- I am still convinced I will eventually be right, but I sure screwed up the timing, and underestimated how far a concept stock can rise into the troposphere beyond all rational reason before it tanks. If it breaks resistance at 80 I will hit my predefined exit points and take the loss (though I'll be back in February to make it all back when the lockup ends in April!). If it tanks from here, I will do well, but if not, I'm prepared to take the loss, which is by definition manageable. It doesn't happen often, and when it does, I look at it as paying the tuition on a class that will make me smarter the next time.
Regards,
Fund |
