Is this trick enough to totally prevent bankrupcy in a case of a crash?

Question

I have a trading scheme that is very profitable but is also really dangerous because it opens a lot of trades at the same time with high leverage and else.

So the trick is to open only short (sell) trades and no long (buy) so that if the symbol i'm currently bidding on crashes, i get money instead of losing it...

of course I lose half the opportunities but it is so profitable that it doesn't matter.

But on the other hand, I know there are some "inversed" crashes that happens when price goes up suddently. I'm aware of that, that's why i'm using quite high stop losses (or even no stop loss), because the price might go up, but it will never be as big of a change as a regular price drop i suppose...

So is this trick enough to be able to use the high risk scheme?

thanks for the advice guyz

Jeff

Answer 1

When you buy a stock, the worst case scenario is that it drops to 0. Therefore, the most you can lose when buying a stock is 100% of your investment.

When you short a stock, however, there's no limit on how high the stock can go. If you short a stock at 10, and it goes up to 30, then you've lost 200% on your investment. Therefore shorting stocks is riskier than buying stocks, since you can lose more than 100% of your investment when shorting.

because the price might go up, but it will never be as big of a change as a regular price drop i suppose...

That is not true. Stocks can sometimes go up significantly (50-100% or more) in a very short amount of time on a positive news release (such as an earnings or a buyout announcement). A famous example occurred in 2008, when Volkswagen stock quintupled (went up 400%) in less than 2 days on some corporate news:

Porsche, for some reason, wants to control Volkswagen, and by building up its stake has driven up the price. Hedge funds, figuring the share price would fall as soon as Porsche got control and stopped buying, sold a lot of VW shares short.

Then last weekend, Porsche disclosed that it owned 42.6 percent of the stock and had acquired options for another 31.5 percent. It said it wanted to go to 75 percent.

The result: instant short-squeeze. The German state of Lower Saxony owns a 20 percent stake in VW, which it said it would not sell. That left precious few shares available for anyone else. The shorts scrambled to cover, and the price leaped from about €200, or about $265, to above €1,000.

Answer 2

Your strategy fails to control risk.

Your "inversed crash" is called a rally. And These kind of things often turn into bigger rallies because of short squeezes, when all the people that are shorting a stock are forced to close their stock because of margin calls - its not that shorts "scramble" to close their position, the broker AUTOMATICALLY closes your short positions with market orders and you are stuck with the loss.

So no, your "trick" is not enough. There are better ways to profit from a bearish outlook.

Answer 3

Adding to the answers above, there is another source of risk: if one of the companies you are short receives a bid to be purchased by another company, the price will most probably rocket...