How to make a profit when quotes fall. How to make money on falling stocks? Short. Trading on credit
In recent months, the global financial market has been in a state of constant unrest. Rare positive news, signaling the stabilization of the situation, give rise to only a slight increase. There were much more reasons for pessimism in the summer. Russian stock indices rolled back to the levels of two years ago. The response of financiers to the deteriorating market conditions was not long in coming - “reverse” products began to appear, allowing investors to earn not on the growth, but on the fall of the market.
Head to the ceiling
The slowdown in the growth of the world economy was not slow to affect the dynamics of the leading stock indices. Thus, since the beginning of 2008, the US stock index Dow Jones has decreased by 12%, the English FTSE 100 - by 15%, the German DAX - by 18%, and the Russian MICEX index - by 4.5% (data as of the end of June). The prevailing negative dynamics of stock indices was reflected in the disappointing performance of mutual investment funds (PIFs). According to the information portal Investfunds.ru, from January to May 2008, the average price of a share of an open mutual fund of shares fell by 4.4%, more than 100 funds (out of about 183) showed a negative trend in the value of net assets. Mutual funds investing in stocks have actually found themselves in a trap. In short, most of them have the opportunity to temporarily “go into the money”, that is, withdraw funds from shares, but the time for such “waiting” is again strictly regulated.
As a result, the collective investment market is experiencing one of the strongest strength tests in its history - in the first five months of this year, investors withdrew more than 8.9 billion rubles from open-end mutual funds.
Briefly about the main
Theoretically, due to the symmetry of the market, money can be made both on the growth of stock indices and on their fall. At the same time, making money on growth is much easier and, more importantly, more familiar. Many young Russian traders did not catch the 1998 crisis and studied in the "hothouse conditions" of the market that has been growing since the beginning of the new century. Now they need to change their consciousness and get used to the new realities.
When all stocks are up, there is no need to try too hard when choosing an object to buy. A well-built portfolio will show growth in the medium term. With a falling market, things are different. In fact, an investor who decides to make money on a fall in the value of securities can open a so-called short position("short"). This means, borrow paper from a broker and sell it on the market, so that when the paper falls in price, buy it back at a lower cost, return it to the broker, and record the difference as a profit.
For example, you sold a borrowed one share at a price of 10 rubles. You have 10 rubles left in cash and minus one share. Let's say everything went as expected and the price dropped to 9 rubles. You buy a share at 9 rubles, it is automatically returned to the broker, you are left with 1 ruble of money and zero shares. Thus, a profit of 1 ruble was obtained.
However, it is very difficult to work in a permanently falling market. The fact is that “short” positions are always more risky than “long” ones (that is, market growth-oriented, “long” positions). Such is human psychology: he perceives negative signals with more confidence than positive ones. That is why, when traders are tensely watching price movements at the top of an increase, minor events are enough to turn their purchases into a massive stock dump. Those who sold their papers first are joined by the next, and the market goes down sharply. According to statistics, the fall in the value of shares usually takes place on large volumes and at a greater speed than the growth.
At the same time, the economic law is such that there can be no endless fall, just like endless growth. Open short positions must be closed in order to profit from them, and therefore, after a collapse, as a rule, there is a bounce up. At the same time, if in the case of “long” transactions, shares are held by both short-term and long-term investors, then “short” positions remain the prerogative of speculators only, which means that the struggle for profit goes on for a split second.
Thus, short positions are only suitable for experienced traders who are able to make instant decisions and react to the market. It is obvious that strictly regulated portfolios of mutual funds for managing short positions will not survive, therefore the FFMS prohibits "short" operations for mutual funds.
Another detail that fuels the degree of risk of short transactions is the commission for obtaining securities on credit from a broker. It is about 25% per annum. A trader who has chosen "short" positions needs to make a profit that covers not only the general commissions, but also the fee for lending securities.
In addition to opening short positions, it is also possible to make money on a highly volatile market that constantly goes up and down through structured products that combine traditional and derivative securities (options, futures). The cost of the latter depends primarily on the volatility of the market, that is, on the degree of its volatility, and not on which direction the market is moving. Derivatives offer a trader the opportunity to buy a trade at a certain price in the future. If his forecast is correct, then he gets the difference between the price that existed at the time of buying the paper and the future price.
On the fall
All of the above operations, which allow traders to earn while stock market prices are flying down, carry a high risk and are difficult to implement.
If investors are repelled only by the last circumstance, namely the complexity of transactions with them, then investment products that banks have developed for a falling market will suit them.
The first signs that signaled a new trend in the approach to investment were and indexed deposits bank KIT Finance with telling names - "RTS to fall" and "Oil to fall". These products represent a deposit, the interest on which depends on the value of the RTS index or the cost of a barrel of oil. However, as the name implies, the relationship is reversed. The lower the RTS (or oil), the higher the final rate on the deposit (for details, see "ND", June 2008).
In addition to the deposit, they offer general bank management funds(OFBU). Since July 2008, UNIASTRUM BANK has been launching a new series of “declining market” funds, which will make it possible to earn on the fall of Russian and world indices, real estate prices, gold and oil. In principle, other banking funds also use short positions. However, until now there have been no index "short" FBUs, in which the risk of management is reduced to zero.
A special case
New proposals, however, are not aimed at long-term profit in a declining market. Rather, it is a handy tool to "survive" the fall with an additional benefit, an alternative to "getting into the money", when an investor withdraws funds from the market and is exposed to inflationary risk, which is especially relevant at the present time. To this end, such tools must be used in conjunction with other investments.
Such "insurance" against the fall is also aimed at certain groups of investors. For the conservatives, an attractive instrument is a deposit “back-linked” to the cost of oil or a stock index. For those who want to take a risk, but also earn a large amount - "reverse" bank funds.
Correction in the US stock market may not be far off. Locally, the S&P 500 still has room to grow amid softening Fed rhetoric and progress in trade negotiations between the US and China. However, there is an important risk factor in the form of a global economic slowdown.
It is hardly worth panicking about this. This is only part of the investment process, which will enable purchases at more attractive levels. But what to do to protect the current portfolio, and how to capitalize on interesting movements?
Below we offer several options. The advantages and disadvantages of each method will be discussed. Since the topic is quite broad, let's start from the American market. At the same time, such steps will allow the portfolio of Russian shares (with access to foreign sites).
Stop Losses
The most effective use of a stop loss is obtained when the entry idea takes into account the technical picture: price levels, trends, indicators. Basically, these are short-term (rarely medium-term) speculative ideas based on trend movements, breakouts / rebounds from levels, the appearance of traces of large buyers / sellers, indicator readings, etc.
If the grounds for opening a deal are exclusively fundamental, then the closing of a position should take place only on the basis of the development of the situation without rigid reference to price levels. Stop loss at the price in this situation is not always suitable. If there are long-term long positions in anticipation of a correction, it is wiser to cut a part in order to buy back lower and hedge the remaining long positions by opening shorts or buying assets with an inverse correlation.
Short positions
Stock
Formally, everything is simple. We take separate papers and short them. As the great speculator Jesse Livermore said, focus on the group's weakest stocks. It was about chart analysis. You can also rely on papers with the highest beta. This indicator shows how much the stock is moving faster than the market. There is a method of pair arbitrage when longs on fundamentally strong stories are balanced by shorts on weak stories from the same industry. Such options are great for the automotive industry and banks.
A situation that contradicts the designated idea is possible. Weak shares have already fallen to important levels, winning back the risks of the issuer. In this case, in the future they may be late in falling. There is another option - overheated stocks, which are characterized by unjustified explosive growth, high multiples, weak financials or dubious prospects for their growth.
Advantages: the most intuitive approach; in the case of the right choice, it allows you to work out much more than the fall of the broad market.
Flaws: the difficulty of choosing stocks, taking into account the specifics of issuers, the need to pay for the use of short (margin lending), dividends are deducted from your financial result (at the same time, there is a gap down on the ex-dividend date).
Futures on indices
A bet on the fall of the broad market, which allows you to earn with leverage. The most common options are: E-Mini S&P 500 Future, E-Mini Nasdaq 100 Future. Exchange instruments derived from stock indices.
Advantages: are traded almost around the clock, allow you to earn several times more than the underlying asset, do not require payment for margin lending (only collateral is paid).
Flaws: higher risks due to trading with a sewn-in lever, when the futures expires, it has to be changed to the next (front).
Exchange Traded Funds are exchange-traded funds that invest in certain assets or their groups. In fact, they own underlying assets (stocks, bonds, commodity futures, foreign exchange, etc.) and issue securities on them. Ideally, they accurately repeat the changes in the underlying portfolio. According to the method of trading, ETF papers are similar to stocks.
The idea is simple - short the SPDR S&P 500 ETF (SPY). This is an exchange-traded fund that invests in the stocks of the companies that make up the Index, which is made up of the top 500 US companies and is the generally accepted standard for reflecting the dynamics of the US stock market as a whole.
Another option is to short sectoral ETFs. In this case, cyclical sectors are more relevant, because they are more susceptible to weaknesses in macro statistics (as opposed to defensive ones). Also, when the market as a whole falls, technological ETFs, which are characterized by a high beta, go to the peak. You will find a list of possible securities in a special review
Advantages: unlike stocks, ETFs are more diversified, which reduces their exposure to the characteristics of an individual company; when a futures expires, it has to be changed to the next one (frontal); when working with ETFs, this is not required.
Flaws: as in the case of stocks, the need to pay for the use of the short.
Purchases
Gold futures
Gold is considered to be classic insurance against risks. The real value of investing in precious metals comes when you add them to a diversified portfolio, as they have a low correlation with stocks or bonds. Thus, in case of exacerbation of risks, especially geopolitical ones, in theory it is possible to invest in gold futures, for example, Gold - Electronic on COMEX.
Advantages: allow you to diversify your portfolio, trade almost around the clock, allow you to earn several times more than the underlying asset, do not require payment for margin lending (only collateral is paid).
Flaws: higher risks due to trading with leverage, when the futures expires, it has to be changed to the next (front); an implicit bet on the fall of stock assets does not always work (for example, raising Fed rates can be negative for gold).
-for gold
Alternatively, the purchase of SPDR Gold Shares (GLD) securities - the fund buys physical bullion for the amount of all available assets (minus expenses) and stores them. Useful material
- for bonds
US government bonds are considered to be a protective, almost risk-free asset. Alternatively, iShares 20+ Year Treasury Bond (TLT) papers. This is an ETF that invests in US government bonds with a maturity of more than 20 years. In fact, this fund reflects the yield of reliable long-term debt. It must be understood that if the fall in stock assets is provoked by the threat of a Fed rate hike, bonds may also undergo sell-offs.
- for volatility
The VIX "fear index" reflects traders' expectations of the S&P 500 broad market index for the next 30 days, or rather its implied volatility. The indicator is calculated on the basis of supply and demand quotes for index option contracts. VIX shows the state of the market, its direction and mood. The pattern of the indicator is such that when the market falls, the volatility index rises, and when the market rises, the volatility index decreases.
Market participants can work with the VIX in several ways. The leader in terms of turnover is iPath® S&P 500 VIX Short-Term Futures ETN (VXX) — based on an index consisting of short-term futures on the VIX. The dynamics of the VXX may seriously disagree with the behavior of the VIX. Possible delay. Apart from this, VXX is not suitable for a long-term position because VIX futures can decrease over time. This slow decline caused by rollover losses before expiration occurs when the futures are in contango (far contracts are higher than near ones). However, despite possible divergences from the VIX, the VXX is negatively correlated with the S&P 500 index.
There is an even more interesting tool. We are talking about VVIX. This is the volatility of the VIX index implied by one-month options, i.e. the “volatility of the volatility”.
- "inverted"
Buying such ETFs means selling the underlying asset short. Alternatively, Short S&P500 ETF (SH), which allows you to short the S&P 500. Short QQQ ETF (PSQ) will allow you to win back the fall of the Nasdaq 100 index, which includes non-financial, mainly technological, companies. The UltraShort S&P 500 ETF (SDS), a riskier option, allows you to short the S&P 500 with double leverage. If the index falls by 1%, the fund seeks to show growth by 2%.
Advantages: no need to pay for short; unlike stocks, ETFs are more diversified, which reduces their exposure to the characteristics of an individual company; in terms of commodity ETFs, as a rule, a certain basket is also formed; when a futures expires, it has to be changed to the next one (frontal); when working with ETFs, this is not required.
Flaws: in the first three cases, movements with the US stock market may not be synchronous in different directions; leveraged ETFs carry additional risks, and ETFs on the VIX are also dangerous in this regard, because a significant leverage is sewn into the underlying futures.
Dollar
In theory, the strengthening of the dollar, along with the growth of Treasury yields, means a tightening of financial conditions, which is so dangerous for the stock market. Moreover, the growth of the US currency is not beneficial for US exporters, which account for a decent part of US corporations from the S&P 500 index. Do not forget about geopolitical risks and other catastrophes. During such periods, the market moves into risk-free assets, including the dollar and Treasuries. So local ups in DXY against the backdrop of falling yields can be fully justified.
So the idea is simple - we buy the dollar in case of increased risks. As practice shows, this rule is not universal. In particular, the protectionist attitude of Donald Trump and the high public debt of the United States can increase inflationary expectations, leading to a weakening of the dollar.
To assess the general trends, there is which shows the dynamics of the "American" against a basket of world currencies. USDX can be made available in various forms. For example, active trading takes place in exchange-traded investment funds (ETFs). In addition, transactions are made with the help of futures and options. There are two popular ETFs that instantly react to the strengthening or weakening of the US currency: UDN and UUP. The first of them involves working for a fall, that is, the sale of the USDX futures, the second allows you to take long positions during growth, providing an opportunity to earn on an increase in the dollar index. These ETFs are traded on the NYSE Arca.
Advantages: the idea is simple - we buy the dollar in case of increased risks.
Flaws: As practice shows, this rule is not universal.
Protective sectors
These traditionally include telecoms, manufacturers of essential goods, mature pharmaceutical companies and energy. Often, consumers are not able to choose whether to use such products, which is why companies are called "defensive". They are less dependent on economic cycles. Now the US is closer to the late stage of the economic cycle, although it has not yet entered there. If we talk about the future, in anticipation of a recession, investments in defense sectors will become relevant. In any case, such securities can diversify your investment portfolio.
If you decide to invest in the stock market and want to become a truly successful trader in the end, you need to know how to make money on falling stocks.
The stock market is constantly in motion, so to get a stable profit, you need to profit both from the growth of shares and from their fall.
Currently, there are a huge number of methods of earning on the fall of stocks. These methods differ from each other in terms of risk, as well as profitability. In this article, we will consider only the simplest ways that allow even novice investors to profit from falling stocks.
How to make money on a falling stock. Basic Methods
Novice investors who are wondering how to make money on falling stocks need to pay close attention to the following methods:
- Timely profit taking.
- Short sales of shares.
- Short selling futures.
- Purchase of put options.
- Implementation of put options.
Timely profit taking
In order to understand the basic principles of timely profit taking, it is necessary to consider a specific example. Let's say you opened a long position, the price rose for a certain time, but then began to fall.
In such a situation, the best way out is to close the position or take profits. Despite the simplicity of this decision, many novice investors, in the hope that the price will start to rise again, leave the position open and take losses.
Important: remember that it is better to lose some of the potential profit due to closing a trade than to suffer losses.
short selling stock
In order to receive income from falling stocks using this method, you must have some experience in the stock market. The essence of this technique is quite simple. At the very beginning, you borrow shares from a stock broker and sell them at the current price. Then you need to wait until the share price falls and buy it at a lower price, as a result of which you can not only return the borrowed shares, but also receive income.
The advantage of this method is that the size of your income directly depends on the depth of the fall in the stock price, since you do not have to wait until the price level starts to rise again.
Unfortunately, this method also has some disadvantages. The main drawback is that not every company provides the opportunity to borrow shares. Even if there is such an opportunity, then you can borrow only certain types of securities.
This strategy requires the investor to be able to correctly analyze the situation on the market. Since you will be charged a daily commission due to the use of borrowed shares, it is not profitable to hold them for a long time. If you do not have experience in the stock market, then this technique can cause serious losses.
Short selling futures
This technique is suitable for the derivatives market. Short sales of futures are carried out in the same way as short sales of stocks.
This technique also requires the ability to competently perform market analysis. Among the advantages of this method, the following should be noted:
- Unlike shorting stocks, when dealing with futures, you are much less dependent on the brokerage company.
- You do not have to pay a daily commission as in the case of stocks.
The main disadvantage of this method is that with a lack of experience and qualifications, you can suffer serious losses.
Purchasing a put option
Buying this option gives you the right to sell the futures at a fixed price for the duration of the option. After purchasing such an option, you need to wait until the price of the futures you are interested in starts to fall. When the price level falls low enough, you will sell the futures at the option price and buy at the current price.
On the one hand, this technique makes it possible to avoid significant losses, since they are limited by the option price, but on the other hand, your potential profit is reduced by an amount equal to the value of the option.
There is a second way to use the acquired option. At the moment when the futures price falls enough, you can simply sell the option at an inflated price and make a profit. This method is simpler but less profitable.
In order to avoid losses, you must correctly analyze the market and anticipate the upcoming fall in the price of options.
By knowing how to make money on falling stocks, you will be able to profit from working in the stock market, no matter which way the stock price goes.
After reviewing the methods described above, each investor can choose for himself the one that, in his opinion, is more suitable for receiving income from falling stocks.
Have you heard about the problems of the Greek financial system? What about the possibility of downgrading the US investment rating? Have you already been frightened by the return of the global crisis? And they scared me. Of course, we will not believe the clicks. But let's talk, nevertheless, about how to behave during periods of decline in the stock market (when prices for shares traded on exchanges go down). Moreover, the fall of the market does not mean the coming of the crisis. It is normal for the market to go up and down. Just in case, let me remind you - the stock market is called a growing market bullish (upward movement, as if the bull is raising someone on its horns). When the market goes down, it is called a bear market (the bear bends the bull by the horns to the ground).
It is quite easy to make money on a growing market - I bought shares cheaply, sold them expensively ... I invested the difference in MMM (just kidding). When the market falls, you can also make money. And you can earn in the course of the fall itself. There are several ways to do this:
- opening short positions (sell short);
- use of futures;
- use of options;
- purchase of bonds;
- when the stock falls, you can invest in commodity market instruments.
Experienced and/or successful traders (stock players) made good money even during the most difficult moments of the 2008-2009 crisis. However, it should be remembered that operations in a falling market are more risky than in a rising one.
Short position
So, how do you make money if the market is falling?
It is clear that under such conditions the “buy cheaper, sell more expensive” scheme does not work. What if parts of the circuit are reversed? It turns out "sell more expensive, buy cheaper." That's also possible. The rules of the stock market allow a trader to sell securities that he does not currently have in his account. Such a trade is called short selling or going short. Such an operation can be carried out by anyone with.
Let's say you think the price of a certain stock should go down. Then you put up a block of such shares for sale with a click of a computer mouse. It doesn't matter if you don't have them. Your broker will lend you the papers (this operation occurs automatically). At the same time, he himself can borrow the necessary shares from a third party. If after some time the price of the paper falls, you can buy exactly the same block of shares, spending only a part of the amount received from its sale. The rest is your income. Of course, if the securities did not fall in price, but rose in price, then buying a stake will cost more, which means that instead of profit, you will receive a loss. Moreover, if the price of paper rises, for example, 10 times, then it will have to be redeemed at a price 10 times higher than what was received from the sale. Therefore, you will get a 10x loss. And although in reality the broker will not let you bring the situation to such a state, but still, a short position is considered more risky compared to the usual “bought and sold”.
The easiest way to make money on a falling market
Step 1. You assume that N's stock will go down.
Step 2: You (click) order the broker to short you 1,000 shares.
Step 3. The broker borrows securities from the shareholder of company N, or from another broker, and sells 1000 shares for you at 120 rubles.
Step 4. 1000 × 120 = 120,000 rubles are credited to your account.
Step 5. The price of the selected securities really fell to 100 rubles.
Step 6. You order the broker to close the short position.
Step 7. The broker buys 1,000 shares after spending 100,000 from your account and returns the shares to the person who borrowed them.
Step 8. You have a profit of 20,000 rubles. (minus the broker's commission).
IMPORTANT If you made a mistake and the price of company N securities increased, for example, by 10 rubles, then the cost of your debt will be 130,000 rubles. and you will incur losses in the amount of 10,000 rubles.
Futures
This is an obligation to buy or sell after a specified time an asset (for example, a package of securities) at a predetermined price. This tool allows you to earn both on price growth (in a bull market) and on a fall (in a bear market). Today we will consider the second option.
A bearish futures trade is similar to opening a regular short position. If you predict the fall of a certain security, then you are selling, but not a package of securities, but an OBLIGATION to sell a package of securities at today's (or even a slightly lower price) in, say, six months. This obligation is a futures contract. On the other hand, the futures buyer undertakes to buy the package at the agreed price. If after the agreed six months the share really falls in price, it will turn out that the package should be bought from you at a price higher than its market value. But trading in futures is structured in such a way that no one sells paper to anyone. It's just that at the time of contract maturity, the futures buyer pays the seller the difference between the futures price and the momentary price of the package. Well, if the stock, on the contrary, has risen in price, then the seller pays the difference to the buyer.
An important feature of the futures is that it provides market participants with the so-called "leverage". The futures itself (the obligation to buy or sell a block of shares) is worth significantly less than the block itself. As a result, if, for example, the shares "invested" in the futures you sold fell by 10%, then your profit from this futures can be 100%. On the other hand, if you made a mistake in your forecasts and the stock went up by 10%, then you will lose the full value of the futures. This is a simplified diagram, but gives an overall understanding of the leverage effect.
You can sell and buy futures at any time until maturity. Its price at each moment depends on the current exchange price of the shares used. Therefore, futures are suitable for speculation in short time periods. Actually, most often, this is what it is used for. As already mentioned, you can make money by speculation on both growth and fall.
Option
An option, in essence, is a contract to buy or sell an UNDERLYING ASSET (see below) in the future at a price fixed today, called the strike (strike price). Unlike a futures contract, an option can be canceled by paying a penalty.
The underlying asset is a block of shares or a block of bonds or a futures contract or a batch of an exchange commodity (metal, grain, oil, etc.). In the Russian market, options on futures have received the greatest development. It has to do with the nature of taxation. The most active transactions are with options for futures on: the RTS index, shares of Gazprom, LUKOIL, Norilsk Nickel, Sberbank.
There are two types of options: call and put. A call option (purchase option) gives one of the parties to the contract, called the option holder (holder), the right to buy the underlying asset (for example, a block of shares or futures) at a specified time in the future at a fixed price. This price is called the strike price or simply strike.
A put option (sell option) gives the option holder the right to sell the underlying asset at a specified time in the future at the strike price.
For the holder (buyer) of the option, the right to buy or sell is not an obligation, that is, he may not use this right. It is obvious that it will be unprofitable for the holder of a call option (purchase option) to exercise his right if by the specified time the market price of the underlying asset is lower than the strike price specified in the option. In the case of a put option, the situation is reversed. The possibility of refusal does not apply to the other side of the option contract (to the person who delivered the option). It is obligated to buy or sell the underlying asset at the strike price if the option holder decides to exercise his right. In table. 1 contains a summary of the above.
A trader who buys an option limits his losses to the size of the “forfeit”. On the other hand, the seller of an option formally has unlimited risk. That is why, by the way, many analysts try their best to dissuade their listeners and clients from trading options. For our part, we will note that you can play for a fall both by selling and buying options.
Oil, metals and more ...
Commodity prices often move differently than securities. For example, in the event of a political crisis, papers go down, while gold and oil go up. Therefore, during the fall of the stock market, it sometimes makes sense to invest in commodity market instruments. However, we are not talking about buying gold in bullion or oil in barrels. Investments mean futures already familiar to us for the purchase of a certain amount of metal, oil, etc. Futures contracts for gold, silver, oil, granulated sugar, etc. are traded on Russian exchanges. When the contracts are redeemed, there is no delivery of goods. The winning party to the transaction receives its income in cash.
There are many ways to make money in the stock market. Especially risky are those strategies that are aimed at making profit in a falling market. Simply put, those who like to "short" are at risk. But here we will not discuss riskiness, but, on the contrary, we will show how many opportunities for making money on a fall the stock market gives. Today we will talk about how to take advantage of such situations in your favor, earn good money and not expose yourself to big risks.
The first way is profit taking
Suppose we have a long position open. The market was going up, but suddenly something happened and the direction of the trend changed. Now the market is falling. What is in this case? The least risky thing here is to try to exit the game. Just sell your assets and take profits. After that, "sit on the fence" and wait for the market to show an upward trend again. This is the simplest scenario. And so do, basically, those traders who do not have sufficient experience in trading in the stock market. Such people, as a rule, believe the advice of a broker.
Example. Let's say you are an investor. Trade in the market. The market is going up, and just before it goes down, you have 100 shares worth $50 each. That is, in the event that you have a desire to sell them, then you can get $ 5,000 for all your shares. But if you wait until the share price drops to $40, then in this case, for the same money, you can buy not 100, but 125 shares. And when they again cost as much as before, their total cost will no longer be $5,000, as it was originally, but $6,250. Yes, you have to be able to wait. Because before this happens, it can take more than one month. And in the event that you choose the stocks incorrectly at all, then you may not wait for such a moment.
The hardest part about trading short is forecasting. How accurately you can guess the moment the market starts moving down and the depth of its movement will depend on how much you can earn on this fall. The importance lies in the fact that other market participants do not start selling in bulk. And even if you correctly guess the moment of the beginning of the market fall, then you will also need to exit it in time. Because if mass sales begin, then prices will be significantly reduced, and you will lose part of the profit, and perhaps even lose profit altogether.
Advantages:
You risk almost nothing when you close your positions at the beginning of a fall.
You get the opportunity to significantly increase the value of your investment portfolio due to the fact that you will buy assets "at the bottom" of the market
Flaws:
Potential profit is limited by the current value of the asset portfolio
You need to carefully understand the signals of the market. If you miss the beginning of a strong downward movement, you can also miss a significant part of the profit
If you open on time when the market falls, this does not mean that everything will be fine. Because if this drop lasts too long, then you will not be able to make a profit for that long.
Such a strategy will not allow the use of many stock market analysis tools, with the help of which a trader could have more different options.
The second way is to short sell stocks.
In the event that you already have enough experience in trading securities, and do not want to wait for a new wave of growth to begin in order to start making profit again, then you can put into practice the short selling strategy. The meaning of this operation is as follows. First, you borrow an asset from a broker. You get rid of this asset at the current market price and start waiting for the price of this asset to fall. After this happens, you sell your asset and return it back to the broker, due to which you receive income. Such a strategy takes place, according to Alexei Belyaev, deputy director of the Internet trading department of the Socrates investment group. What is special about this strategy? First of all, there is no need to wait for the market to start showing growth again. All that is needed here is for the market to fall as low as possible. This will determine the amount of profit we receive.
Example. Suppose you decide to act according to this scheme. Then you borrow shares from the broker and then sell them on the market for $5,000. Then you start waiting for the market to go down. It will not just go, but will start to fall normally. Ideally, it would be to wait for the situation when the price reaches the “bottom of the market”. After the market has fallen, the investor buys the same number of securities, but at a lower price - $3,000. After that, the securities are returned to the broker. As a result, the profit from this transaction will be $2000. Of course, here you also need to take into account the commission that you will need to pay to the broker.
But with all the seemingly advantages of this strategy, it has a number of disadvantages. First of all, the problem is that not every broker will be able to offer you such a service. For example, in Ukraine only a few banks provide such a service. The problem is that it must be automated, convenient for the client, technological, and, therefore, it is quite expensive, and therefore not all banks practice its use. Among other things, this system requires a well-developed risk management system.
And, of course, it is worth remembering that this whole system will cost a lot of money. Therefore, even if the broker provides such services, they will cost quite a lot. First of all, the problem is that you will not be able to borrow all types of securities, but only some. And the second. For the use of securities will have to pay daily. For one day of using the assets, you will have to fork out for 0.07% of the amount of securities taken for use per day. That is why if you open positions according to this scheme, then it is not advisable to keep them open for a long time.
Advantages:
A great opportunity to take advantage of the moment when the market is falling. Moreover, the more it falls, the greater the potential profit.
Flaws:
In order to find and trade in the market using the short selling technique, you also need to find a broker that allows you to trade in this way. Another problem is that even if you want to trade a large number of stocks, you are unlikely to succeed, because the broker will provide the opportunity to trade only a limited number of instruments.
Each day you use the promotions must be paid by you. In simpler terms, you need to pay a commission for the use of securities
The technique of short selling does not always mean making a profit. Often this also means that you are risking a lot of money.
The third way is to short sell the futures.
It happens that you are already trading through a broker, and then decide that you need to change your sales strategy. Then you can go and try your hand at the derivatives market. In this market, you can open short positions not on stocks, but on futures. The peculiarity of futures trading is that for this it is not at all necessary that they be in your portfolio. The very first thing is that you will receive dividends from futures trading almost immediately. And the second is that if the stock index continues to move down, then you will also receive additional variation margin. After some time, you will still have the opportunity to purchase a similar future at a lower price, and thereby close the position.
Example. The market is starting to fall. An investor opens a short position by selling a futures contract at a price of $2,000. At the same time, he receives $400, because. margin equals 20% of the futures price. The market continues to fall, and gradually the price reaches $1600. It turns out that now, if desired, the investor can buy this futures at a price of $320. That is, he can close his position, and at the same time receive $80 profit. And if all this is done not for one futures, but for ten, then we can get ten times more profit.
But, as in all previous methods, the investor also risks here. And its risk, first of all, is connected with the correct assessment of the market. Short selling futures is just one of the many varieties of trading. Using this strategy is similar to using the bullish strategy. First, we do an analysis, then we wait for the market to reach the point we need, open a position, wait until the price rises to a certain level, and close the position. That's all.
And if you evaluate the market correctly, then everything will be fine, and you will earn your money. But when opening a long position, the trader still risks less. Because when the market falls, it may happen that there are not enough funds to secure the position. This can happen when opening a long position, but when trading short, this can happen much faster. It turns out that if the futures price rises, then it will be necessary to purchase assets that have risen in price in order to close the position.
Advantages:
When you use the short selling technique with stocks, you will be dependent on your broker. But when you use the technique of short selling in relation to futures, then you will not depend on the broker
No need to pay commission for transactions
Flaws:
You need to be able to correctly analyze and predict the market. If you do not, then theoretically your loss can be infinitely large.
The fourth way is to buy a put option
The variety of assets allows potential investors to diversify their trading strategies. For example, when options appeared on the Ukrainian derivatives market, investors got an excellent diverse opportunity to carry out trading operations. It really is. With options, you can apply a wide variety of strategies, the number of which is limited only by your imagination. If the market shows a downtrend, then two basic strategies can be used here.
1. Acquisition of a put option, or an option to sell a standard asset. With this option, you will be able to open a short position on the futures at a price you have chosen in advance for the full life of this asset. If the index of Russian stocks goes down, then the futures price on the stock exchange will automatically go down. That is, you do the following. First, wait until the market starts to really fall. Then, when the price reaches an acceptable value for you, you get rid of it at the price specified in the option. All the funds that will remain in the end - this will be your profit. It turns out that you will not lose more than what you paid for the option. But in this case, your possible profit will be limited to the strike price of the option minus the option premium and the current price of the futures in the market.
Example. The investor waited until the market began to fall, and right at the beginning of this turning point in the market, he purchased an option for 10 futures contracts, where the strike price was $2,000 for each futures. When he bought these assets, he paid a premium of $600. Some time passes, and the futures price on the market is no longer $2,000, but $1,600. You are now purchasing 10 futures. Of course, you will have to pay for this guarantee, which is $3200. And then you get rid of them at the price at which the option will be exercised. As a result, you will receive $4000, that is, the profit will be $200.
True, this is not the only possible scenario. There is one more. When the price of the underlying asset falls, the price of the put option will rise. And this means that this option can be sold at an inflated price, and in this case, you do not need to do anything with futures. But there is a small minus here. The profit in this case will also be small.
Advantages:
You have the opportunity to make money when the market is falling, or you can protect your funds when the market is trending down
You risk only the premium on the put option.
Flaws:
In this case, you will not be able to make big money. You can only earn a small amount
Such a strategy is not available to everyone and everyone, because it requires serious preparation and experience in trading in the stock market
Fifth way - selling a call option
If we compare the sale of a call option, we can see some similarities with the purchase of a put option. The only difference is that in this case, the risks and potential opportunities for traders are completely different. When you short a call option, you will not only have the right, you will be obliged to sell the futures at the price that will be set in advance. In the event that the value of the futures on the market decreases, the trader who buys these assets from you will no longer require you to exercise the option. This is because now he has the opportunity to purchase the underlying asset on the market at a lower price. As a result, it turns out that the amount of your profit will be equal to the premium on the option.
Example. The trader decides to sell a $2,000 call option for $500. But when the time came for the contract to be executed, the value of the underlying asset dropped to $1,800. As a result, it turns out that the call option can no longer be exercised. The trader in this case will earn $500.
But here, as always, it is very important to be able to predict the market. And the size of your profit or loss will depend on how correctly you do it. If you do not guess the direction of the market movement, then the price of the futures will rise and you will already be forced to sell it at the strike price. In the event that you already have a futures contract, then all your losses will be only the difference between the strike price and the market price. That is, the price at which you could have opened a long position on the futures if you had not gotten rid of the option. But if for some reason you do not have a futures contract, then you will be forced to purchase it at the price that will be relevant at the moment on the market. And in this case, you can lose an unlimited amount of funds.
Advantages:
If an investor correctly predicts the market movement, he will make a profit almost instantly. And this profit will be equal to the option premium
Flaws:
If an investor incorrectly predicts the market movement, then in fact his loss has no ceiling. And this is especially true when selling uncovered options.
But the profit will have a limit - the size of the option premium.