Trying to short a stock that's in an uptrend can seem like a dangerous idea.
Yet, if you choose the right option strategy and are very selective about where you put on risk, there are always a few setups that give you profitable opportunities.
Let's step through a recent example in Mastercard (MA) so you can see how to add this setup to your trading arsenal.
Key Fundamental Indicators
When it comes to analyzing the market structure of a stock, size does matter. The kinds of market participants and liquidity is completely different in a stock like GOOGL or GS compared to a highly shorted small cap stock.
If you want to short a stock in an uptrend, the fundamentals of the company actually do matter. You want a stock that can see growth... but not explosive growth.
And you definitely don't want the company to be a buyout target.
The best way to find stocks for this setup is to go with established, name-brand companies that have very large market caps and shares float.
Quantify Your Levels
It's not enough to eyeball a chart and place some trendlines on it.
You need to have some kind of statistical backdrop for your trade. If you don't, you may allow your ego to get involved in the trade, and odds are you'll be too early on the short side.
I have a cusom indicator called the IWO Turning Point. It allows you to get a statistical view of the rate of change on a stock.
Let's take a look at how MA was set up:
Over a 10 day window, the stock had rallied over 7.5%. This was coming into a 3rd standard deviation move relative to the past 3 months of price action.
Now this kind of move has happened in the past, but it tends to occur only after strong downside moves. To see this kind of extension into new all time highs was statistically significant and warranted a short biased trade.
Pick the Right Strategy
I would never want to go short stock straight up on a trade like this. I'd rather limit my risk, increase my odds, and get paid for taking risk off of someone else.
This is where a bear call spread comes into play, also known as a call credit spread.
A bear call spread profits as long as the stock sells off or drifts sideways. This is a great strategy for shorting large cap stocks because often times the stock doesn't actually sell off hard, but simply drifts sideways.
Get Good Executions
On a trade like this, it's foolish to go "all-in" when you first spot a short setup. Instead, focus on scaling into the trade.
That way if the stock continues to move against you, risk can be added to the trade without a ton of stress.
Sure, this means that you may miss out on going full size on a trade, but it also helps you sleep at night.
Here was the original trade setup I shared:
The stock is up 7.5% in a 10 day period, which doesn't happen often into range extensions. Expect this to correct and consolidate.
Expected Price: 127
Sell to Open MA Jul 130/135 Call Spread
Tier 1: Open at 0.70, Close at 0.20
Tier 2: Open at 1.00, Close at 0.70
Tier 3: Open at 1.30, Close at 1.00
The next day, the stock stretched just enough to get a Tier 1 fill. And then over the next week, the stock corrected hard into 120 per share, allowing an exit at 0.20.
That's a .50 gain on a risk of 430, for an 11% return on risk within just one week.
Keep It Simple
If you want to sell credit spreads successfully, it comes down to a few simple ideas:
- Pick your levels.
- Use limit orders.
- Scale in.
- Scale out.
With that framework, you can earn consistent returns in the market without losing sleep at night.
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