How to Beat the Street: Short-Selling

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In Beat the Street, when you select your stocks, you can buy stocks (long position ) and you can "short" stocks.

If you're interested in shorting stocks in Beat the Street or within your real portfolio, the following are few key lessons on the "short sale."

From How Short Selling Works:

Short selling is often looked at as a nefarious aspect of trading and investing. However, it is quite legal, serves a necessary function in the securities markets and can be a valuable tool for an investor -- whether on an individual or professional level.

Short selling provides investors with the ability to profit from the decline in a stock's price, hedge positions or portfolios, manage taxes and create arbitrage positions. Since short selling is complex and operates outside of the sight of many investors, short selling is highly misunderstood. So in this installment of The Finance Professor, I will offer a primer on short selling by covering the mechanics behind the short selling process, the account requirements and the federal regulations that govern the transaction.

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From Three Strategies Every Short Seller Must Know:

1. The Valuation Short

To review, fundamental research on a company will typically result in earnings estimates which then translate into a price target. When this is accomplished we can then compare our price target to the current stock price. If the stock is below its price target then we will usually be inclined to buy the stock. However, if the stock is above its price target we might avoid or sell the stock, if we owned it. In some instances, the price target is significantly lower than our price target and the short sale of that security might be in order. For example, say that you value a stock at $40 and it is currently selling at $50. According to your analysis, selling short the stock at $50 will yield a $10 profit if the stock hits your lower price target.

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From Three Risks Every Short Seller Must Know:

2. Capital Risk

Because of the unlimited loss potential associated with short-selling, the Federal Reserve requires these two important conditions:

Short-selling must take place in a margin account .

The short sale must be collateralized by the short sale proceeds plus 50% of the market value of the short sale. The short sale proceeds are posted as collateral for the "stock borrow." However, the 50% market value must be collateralized by cash or marginable securities.

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From Aggressive Stock-Picking: How to Squeeze the Shorts:

A heavily shorted stock has the potential to soar on any positive catalyst, because so many investors are placing bets against it. This creates an opportunity for aggressive buying -- in other words, betting against the "shorts" that the stock will experience a short squeeze.

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From How Do I Find Short Interest for a Stock?:

Anyone who takes a short position in a stock is entering an interesting situation: In order to exit the position, he or she has to "cover" or buy back the shares that are being shorted. So if a stock has a very high percentage of its shares being shorted, it means that there are more investors who need to buy shares at some point, whether the stock goes up or down.

This is interesting because those who have already taken a short position need those who own the stock (or are "long") to sell their shares and push the price lower.

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From The Top Big Board Short-Squeeze Plays:

Stockpickr has compiled Top Big Board Short-Squeeze Plays, a list of the heavily shorted stocks that trade on the New York Stock Exchange and have the greatest potential to rise based on their short ratios.

One of the NYSE stocks with the highest short ratios is Alleghany Y, a property and casualty insurance company with a short ratio of 30.4. The stock has a trailing price-to-earnings (P/E) ratio of 10.6.

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