One of the greatest things about the market is the ability to make money if the market is moving up, down, or sideways.
Upwards - Buying stocks, buying call option, selling cash secured put option
Down - Selling Short (borrowing shares), selling a put option, selling covered call option
Sideways - Selling Strangles, Condors, and Butterfly options to take advantage of no movement (see
Trading 101 - we buy shares of stocks we like in hopes that price rises over time
We may receive dividends, money based on the businesses performance, for holding our position or may leverage our shares to make additional money, called premiums, using the covered call strategy
General thoughts on buying stocks
Look for stocks that institutions are buying into (institutional ownership): What stocks do hedge funds hold/own?
Consider buying stocks only above the 200MA (200 day Moving Average)
Conservatively, people will say to buy only when a stock is trading above the 30MA. Be careful if a stock is above the 30MA, but below 200MA. This could be smaller move before trending back downward.
Always determine your risk:reward and your stops before you enter. If you cannot spot an exit or determine your risk:reward, then you should not enter into a position.
Yes, you can make money when a stock price goes down.
When we are shorting, we are hoping the market will move down
To short a share we sell a stock we do not own (opposite of buying a share)
Sell shares, we do not own (borrow); we get paid the current amount of the share and are charged interest on our position
We make a profit when we buy our shares for a lower price and lose money, or take a loss, when we buy shares for a higher price
To close our position, we need to buy shares
We short a share at $100 and buy it back for $75; profit is $25
We short a share at $100 and buy it back for $115; loss of $15
Shorts closing their position (aka buying a share) is the reason why price shows an initial reversal; shorts are closing their position to secure profits. That is why volume often proceeds a reversal into going long. Think about it, who would buy shares when price is free falling?
When to Short - Consider shorting when a stock drops below the 30MA and especially below the 200MA
Example:
You short 100 shares of a stock at $200 and receive $20,000 ($200 x 100 shares)
The stock drops to $150, you buy back your position at $150 ($150 x 100 = $15,000)
You would make the difference of the transaction: $20,000 - $15,000 = $5,000
Example 2:
You short 100 shares of a stock at $200 and receive $20,000 ($200 x 100 shares)
The stock rises to $250, you buy back your position at $250 ($250 x 100 = $25,000)
You would lose the difference of the transaction: $25,000 - $20,000 = ($5,000)
Example 2 is exactly what happened in 2021 with GME
Many hedge funds were shoring GME, a business that was experiencing some growth issues as a company
The short float (see Finviz Short Float%) was so high that it was short 130%+; 30% more shares than the company had issued to the general public
With investors wanting to hold onto their position with prices rising, shorts were down close to $6B in a matter of days
Since there are requirements of brokers to cover margins on losses, this was the saving grace of companies as the trading was halted and this caused GME to plummet back down to earth (from $400+ to $50)
Ordinarily we could look at our Short Ratio to see how many days it would take for shorts to buyback their position based on the average daily volume, but the halt effectively caused trading to slow and prices to fall.
Companies did lose millions and personal investors also lost $10's of thousands of dollars in the process, while some who are smart to exit quickly became millionaires overnight.
Similar to shorting, buying a PUT allows us to profit on the price dropping
The major differences between shorting shares and buying a PUT
Shorting charges interest, holds unlimited loss potential, but you get money up front to hold or invest
PUTS have an expiration date, subject to volatility, limited loss (cost of the contract), and gains and losses are exponential ($1 move changes the Put value by the amount of Delta)
You can make similar monies or more using options without the unlimited loss potential
Example: Shorting Shares
You short 100 shares of AAPL at $150 and collect $15,000 (to use on other investments or to hold until after we buy back our position)
We may be limited in how many shares we can short based upon our margin limit and requirements
Our max loss is unlimited as price can rise forever
AAPL drops to $100 and you buy back your position
You now pay back $100 x 100 shares or $10,000 leaving you with a difference of $5,000 for shorting
Example: Selling a PUT
We purchase a 40 Delta PUT contract for $200
Our max loss regardless of it going against us is $200
AAPL drops to $100; a $50 drop in price
Roughly, not taking into account the other greeks, your contract would now be worth $2,000 ($50 x 40)
If we purchased 3 contracts, we would have $6,000
Analysis
While it does seem that shorting may be better, you are capped on your ability to short based on your margin requirements and cash on hand
You are charged interest on holding a short position; you could argue that theta or time decay of options are also an interest
You need to determine if you prefer a controlled and limited liability or if you are comfortable with an unlimited loss potential
This is a high level position and understanding of options in order to take advantage of a sideways market. see Volatility