Shorting Effect On Stocks | Podcast Episode #393

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Hey, I’m Ryan Mallory and this is my Swing Trading the Stock Market podcast. I’m here to teach you how to trade in a complex, ever changing world of finance.

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Learn what it means to trade profitably and consistently, managing risk, avoiding the pitfalls of trading, and most importantly, to let those winners run wild.

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You can succeed at the stock market and I’m ready to show you how. Hey everybody, this is Ryan Mallory with Swing Trading the Stock Market.

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In today’s podcast episode, we’re going to talk about what shorting a stock does to a share price. So pretty unique e-mail here.

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I don’t think I’ve ever actually addressed this topic before on the podcast so I thought it might be a good opportunity to do so, this e-mail writes Hi Ryan help.

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And before I forget, how can I forget this with each e-mail? I never use anybody’s real names.

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I always just give them a good healthy Florida redneck name. So for this podcast.

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So I’m giving him the old name of Lou and Lou writes hi Ryan. Does short selling drive down a stock price?

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I saw a comment on my feed regarding AMC. I know you love talking about this stock with the laughing emoji.

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I saw a potential short opportunity recently and I posted about it and I got a lot of feedback from someone who loves AMC.

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They said they are buying and holding because they want to support cinema into the future. And with that comment he also provided me with that little rolling the eye emoji, which I would

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agree with as well. He said that short selling drives stock prices down and companies into bankruptcy.

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Is this true? I can’t seem to find anything conclusive on the Internet.

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My broker only offers short selling through contract for difference CFD. From my understanding, CFD trading is a 0 sum market That doesn’t affect the stock because you are

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betting on the increase or decrease of a stock. If you could shed some light on this issue it’d be most appreciated.

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All right. So right out of the way, I don’t have any experience in CFDS.

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I don’t even think that stuff’s legal in the United States. But essentially I’m just reading off of a website.

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How does CFDS work? What is a CFD?

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It’s short for contract for differences. It’s a form of a financial derivative in which two parties agree to trade a contract based on an

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assets future price speculation. So in the US, the reason why it’s frowned upon is because it bypasses the regulatory agencies.

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But yeah, CFD is not gonna have any impact on the actual company itself because you’re not really trading the stocks itself.

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But if I’m looking at just shorting in general, does shorting drive a stock into bankruptcy? Now I’ve shorted plenty of things in my lifetime.

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I’ve shorted individual stocks, I’ve shorted indices, I’ve shorted futures, I’ve, I’ve done it all pretty much.

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But as far as like AMC, First off, one of the things I would say, I’d never short AMC.

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It’s a like, what, a $4.00 stock and it has immense headline risks. So you start getting down into the stocks that are trading at less than $10, you’re really setting

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yourself up for disaster because AMC could get bought out. It could. I mean, I don’t think it will, but it could. Plenty of companies I didn’t think would get bought out, and they have been over the years. It’s just matter of fact, somebody takes enough of an interest. Maybe Apple says, hey, you know what, alongside of Apple TV, we’re gonna start having some movie theaters as well. We’re gonna go ahead and buy AMC.

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They can buy it with pocket change practically at this point. And if they did, that stock’s gonna shoot through the roof.

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And if you’re short on it, you’re gonna be paying the the buyout price and that could be 6080 hundred, 200% higher than where it’s trading at.

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Who knows, but you’re gonna be responsible for it. So shorting a stock like AMC or anything that has incredible amounts of headline risk and especially those that are priced really low, the potential for disaster is extremely high. It’ll ruin your portfolio if you’re caught on the wrong end.

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I mean, look at the stuff that AMC has done. I mean, they’re constantly out there trying to figure out new ways to get their share price out of the seller.

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I mean then they just like split their stock up and create another stock symbol called APE last year or the year before that.

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So it’s really a dangerous thing when you start shorting these low dollar stocks.

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So the first thing I would say is never short stocks that are under $10. Just as a rule of thumb, I probably wouldn’t even trade or short anything that isn’t a large cap.

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I mean, if I was the ones that I like to short the most are the indices. Why?

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Because you can’t really buy out the indices. Yes, you can have some headline events that drives it higher, but because there’s 500 companies involved like on SPY or 100 on the NASDAQ 100, it gets a little bit more diluted. Or if you’re gonna short Apple, fine.

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But how many people over the years had all that much success shorting Apple, especially from a long term standpoint or Microsoft or Tesla.

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Now I’m not saying go out and short these things. I’m definitely not saying that.

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Do your own due diligence, all that stuff. This is not investment advice, but from a personal perspective I’m gonna short a stock.

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It’s not gonna be something like AMC that could get bought out, that could have some crazy headline that spikes the stock two or three 100%.

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I mean, how many times have you seen a stock go up two or three, 100% over the last couple of years? It’s a lot.

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So with that out of the way, the short selling drive companies in the bankruptcy? No, they don’t.

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I mean really, what does short selling do? It’s essentially the exact opposite of what buyers do.

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Buyers buy and then when the stock price goes high enough, they sell. They don’t say, hey, you’re driving that company into bankruptcy for selling that stock after you’ve made 150% over the last 10 years.

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Nobody says that.

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But if you short a stock, you’re like, man, you’re gonna drive this company into bankruptcy and you’re not.

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You’re shorting the stock. You’re selling the stock first.

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That’s all you’re doing. You’re borrowing the shares from your broker and you’re selling it on the open market and then you have an obligation to buy them back.

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Now, nobody ever complaints when short sellers have to buy those shares back.

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And often times when you look at some of the great market bounces, you’ll see that they usually start with short sellers finally covering their positions in mass.

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And when they start covering it in mass, it creates this huge groundswell of a bounce in the market. And the markets start to finally put a bottom in because they’re not shorting again.

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And so you have all this buying sport, plus you have the legitimate buyers that are buying and then selling.

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They’re coming back into the market because they’re seeing all that buying. And then you’re having the short sellers covering, and then you have the buyers they’re buying and all of a sudden you have a huge freaking market, right?

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That’s why the biggest market rallies happen at the very beginning.

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Typically, I’ve seen a lot of crazy rallies here over the last few months, that’s for sure. But typically your biggest rallies will happen off of a new market low and that’s because you have such an influx of new buyers and people covering their short positions all at the same time.

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I mean, think about it.

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Ask yourself, where are you more likely to see a four or 5% move in the S&P 500? Are you going to see it when it’s making new all time highs?

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No, Usually it’s kind of like just putzing along at that point or are you likely to see it after the markets declined 30 or 40% and people are completely lost their minds and the market’s completely stretched then with very little sellers left because they’ve already been doing all their selling.

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That’s usually where you see the big market move.

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So when you see like these foreign countries, when these countries and you see it like in China and you see it in, you’ve seen in the United States, I remember in 2008 they were like, oh, you can’t short the banks anymore and what do you think?

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That’s never good for the market.

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And the reason why I say that is because the market needs short sellers. They provide a lot of liquidity for the market.

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And so when you take them out of the picture, well there’s nobody gonna be covering anything either, is there?

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You can blame it all you want on short sellers for why the market goes down, but then when you want the market to go back up, you don’t have those short sellers there to be covering their positions because you banned them from the market.

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So history shows banning short selling really isn’t a good thing.

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It definitely prolongs market sell offs because major market bottoms comes from the covering by short sellers.

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I mean just look at some of the price action of late.

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For instance, yesterday we had the CPI report come out, market sold off really hard, sold off all day long and then the S&P 500 down like a / 100 points at one point.

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And then by the end of the day in the last hour of trading we’re only down 70 points, still a lot.

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But why was it not more? It’s because the short sellers cover their positions.

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I’m going to go ahead and get long as well, plenty of those as well.

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But those short sellers, they’re covering their positions because they don’t trust the market not to bounce the next day because of self fulfilling prophecy and the market rallies, that’s what.

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Again, that’s why you see so many heavy sell offs with that end of day buying that takes place And yeah, sure you could have this big hedge fund, you could have Citron or you could have Bill Ackman come around and and just short a stock on the Russell 2000 until oblivion.

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Sure that’s possible. OK.

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They have that potential to do that if they wanted to. But are they really doing that?

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No. I mean, I think they got bigger fish and fry.

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I think they’d rather, you know, buy or sell stocks at much larger companies. Can they do that to Apple?

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No. So if a company’s gonna go out of business, there’s usually a fundamental reason for why they’re going out of business.

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Short sellers realize that and they’re gonna pounce on it.

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But it’s not gonna be because you or me do it. It’s gonna be because the collective body of short sellers are doing it because there’s an opportunity there.

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If all the short sellers got together and said, hey, let’s go short, Apple probably wouldn’t make too much of A dent in that, and there’ll probably be way too many buyers.

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That any percentage point that you were able to send it down lower, there’d be probably plenty of buyers that would be willing to come in there and scoop it right back up again.

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And on the flip side, too, I think, especially on social media sites, the term short squeeze is way overused.

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Every rally now seems to be the bears are getting squeezed.

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No, sometimes it’s just a legitimate rally. Most of the time it’s a legitimate rally.

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Buyers are overwhelming the sellers. The short sellers are such a small percentage of the overwhelming market participants.

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Yes, they short squeezes happen. Yes, markets can go up because of the covering, just like I’ve already said.

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But is every rally because of a short squeeze? No.

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And that’s what you get. A lot of times you get everybody want to say the short squeeze, it’s taking place.

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They’ll even add it on the message boards. They’ll add like 15 ES to the squeeze.

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Thinking in that makes it even more pronounced. But that’s just not necessarily so.

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One thing that is necessarily so swingtradingthestockmarket.com. Check it out.

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And for those who don’t know what short selling is, maybe I should have talked about this in the very beginning.

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Short selling is essentially where you’re selling a stock 1st and then buying it back later.

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You’re borrowing it from your broker. And so on A platform like thinkorswim, it’s just a matter of hitting the sell button instead of the buy button.

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And it would be like if I borrowed a pair of sunglasses from you and I said, hey, let me borrow that pair of sunglasses.

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And then I found somebody while I was borrowing those sunglasses that was willing to buy them off of me for $100.

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I’m like, all right, sure, now I might not have to give you back those sunglasses for a couple months.

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Isn’t that what usually happens to you?

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Let somebody borrow something and you don’t see it for like another year or two or you had to make that awkward.

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We were like, hey, you know that that tool I let you borrow, You think I could get that back finally.

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And you’re like, yeah, yeah, I forgot all about that. Yeah, yeah, yeah, let me go get it.

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I didn’t forget about it. But nonetheless, when it comes to this pair of glasses, you sell it to somebody else.

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You still owe your friend that pair of glasses that he let you borrow. But you find that same pair of glasses on eBay for $60.00 and you give him back his sunglasses and

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he’s like, all right, great, Thanks for giving it back. Like you said.

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And you only had to pay $60 to get them those glasses back. So you profited 40 bucks from that.

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And it’s the same thing with stocks. You’re shorting a stock by borrowing the shares from your broker.

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You’re selling it on the open market, hoping that it goes down, and then you’re buying it back later on and giving it back.

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Now it can work against you. You know, those pair of sunglasses, maybe they become antique and all of a sudden they’re worth $300.00, and then all of a sudden you’re paying $300 to get to your friend’s sunglasses back.

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You’re gonna be paying $200, you’re probably gonna be getting a call from your brokers like, hey, what the heck are you doing here, man?

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You’re you better, you better give us some money or we’re gonna close out the position.

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But overall, do I think that short selling causes a company to go bankrupt? No, not really.

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But do I think it can drive down the stock price? Yeah, I mean, if you get enough short sellers, it can push the stock down.

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I mean, it’s laws of supply and demand. More sellers than buyers, stocks going to go down.

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I’d avoid the shorting the low dollar stocks though, like AMC, Man, that’s like a ticking time bomb.

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If they just have one good news piece, you could get in a margin call the next day.

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Remember, when we’re in these big market sell offs, it’s easy to blame the short sellers, but they’re also the same people that create the market.

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Bottom maybe enjoy this podcast episode. I would encourage you to give me a five star review on whatever platform you’re listening to.

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