Trading Secrets

ASX Short Sell - February 2001

(Appeared in Daryl Guppy's Newsletter - March 2001 www.guppytraders.com)

There is much debate whether candlesticks work, but there is ample evidence to prove that used at the appropriate time, candlesticks are uncannily accurate (Andrew Doig, Shares Magazine March 2001, The Secret of Candlestick Charting Book Review).

As with all technical analysis signals, there will be times where the trigger for entering a position provides a false signal. For this reason, the careful application and execution of stops is essential. Let’s review the ‘perfect’ candlestick set-up for a recent trade that I made, and my exit strategy.

ASX had been in an established medium term downtrend which represents an ideal hunting ground for a short-selling opportunity. Short-selling is similar to buying a share, only the buying/selling order is reversed. Instead of buying a stock and then selling it, you sell the stock first and then buy it back at a later time. In effect, you borrow shares that you do not own, sell them with the expectation that the share price will drop, then buy them back at a later date. Your profit or loss is the difference between your sell price, and your buy price – so if the share price drops, you make a profit. If the price increases, you will incur a loss. It is actually quite a simple concept. With knowledge of this method, you need never fear a bear market again.

A bearish engulfing pattern formed in the ASX chart along the downtrend line, suggesting that future share price decreases were likely in the short-term. I entered the short-sell trade on January 22^nd, 2001, at the price of $12.74. I calculated that my stop loss should be at $13.22, above a previously established range of congestion. Unfortunately the trade did not co-operate with my initial view, and the downtrend did not hold. I exited the trade on February 20^th, 2001, at $13.23 towards the end of the day.

Even the most terrific indicators will provide a false signal from time to time. Make sure that you set your stops carefully and adhere to them without question. Consider a ‘stop and reverse’ strategy – ie if you are provided with an exit signal, exit your initial trade and buy the share if you had initially shorted it, (or short-sell if you had initially bought the share.)