Secret No. 1: Avoid using physical sell stops on thinly traded stocks.
If daily volume is less than 100,000 traded on a particular stock, it is very easy for market makers to see the “sell stops” of long-side traders and the “buy stops” of short-side traders.
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Despite whatever has been touted by regulators, stock manipulation is alive and well… and it is used every day to exploit what is supposed to be a fair and orderly market.
If you are on the right side of a thinly traded stock (be it long or short), use mental stops instead of physical stops. That way, you won’t give the market markers the opportunity to fashion an “unexplainable intraday move” that cleans out all the stop orders before the stock resumes its previously defined trend (be it up or down).
Secret No. 2: Never use market orders on the Amex.
There is a reason traders call the Amex “The Curb.”
This place is like the island of misfit toys. I’ve walked the floor of the Amex and I can tell you that most of the floor traders I came in contact with shower only once every couple of weeks. It’s hard to find a full set of teeth.
There is a certain foregone conclusion by veteran Wall Street traders that if you conduct business on the Amex at the market, you should expect to get at least “a little screwed” by those castaway, NYSE-wannabe floor traders.
If Johnny Depp is looking to do another sequel, he should play the lead in Pirates of Manhattan: Life on the Amex.
Secret No. 3: A large short position deserves much respect.
As we all know, there are two sides to every trade, yet only one side can be right. It is human nature for most people to be optimistic and, therefore, to look for positive stories to trade off of; especially in an up market.
Shorting stocks requires that you to go against human nature. In an up market, it takes real fundamental conviction to go short. When shorting is done in size, be assured that someone has done some in-depth research and found one or more major negative components that call into question the underlying fundamental story of whatever stock is being traded.
The short side of the market is smarter than the long side. Therefore, when you see a company with more than 10% of its stock shorted out, do your homework. Learn what the short argument is before you decide to go long.
A short squeeze is always exciting to get in on, but there is a reason you don’t hear about them much. They simply don’t happen all that often.
Bryan Perry is the editor of Tactical Trader, an options trading advisory newsletter, and is a contributor to the Options Zone Web site.