He feels that PALM may be reversing from its current up trend to down trend soon. With that view formed, he asked when would be a good time to short stock.
My views are:
1. Most experienced traders usually trade along side with the market trend i.e. long stock in up trend, short stock in down trend.
2. Without a very strong reason, trading against a trending market, i.e. counter-trend trade, has a higher risk of being wrong. The experienced traders are likely to forego a small part of potential profit and wait for the trend to change before taking any position.
3. The "Regression trend channel" indicator may be used to assist traders in checking the trend.
4. To take a bearish position, one may either short stock or trade simple PUT option. The more sophisticated option traders may use various spread strategies to give them better chance in making profit.
To illustrate the above, let us look at PALM (see above chart). The "Price Osc" indicator shows that PALM may be ending its Elliot 5-wave up trend move soon. However, there is no confirmation that PALM has reversed to down trend yet. The likely moves for PALM in the near future are:
a. The current up trend momentum brings it towards 13.22 following the 3 lines regression trend channels,
b. It breaks the trend channels and falls towards 5.00 level.
Since my brother wanted to do a bearish trade, he could wait for the price of PALM to break the trend channel first, then short the stock or buy an equivalent put option.
Let us say PALM broke the channel and closed at $10.00, my brother could either short the stock or long a PUT option on the following trading session.
Shorting stock involves margin. Trader should check with the broker on that requirement. That is simple.
Trading option is slightly more complicated. My brother has never traded option. The conservative recommended size of options trade is by converting the intended share trade to option trade. 1 lot of 100 options is equivalent to 1000 shares. 2 lots of 100 options is equal to 2000 shares. Since my brother originally wanted to short only 1000 share, the equivalent option trade is to long 1 lot of 100 PUT options.
In this exercise, "PALM 7.5 PUT option (Aug 09)" is selected giving almost 3 months time to expiration. Other PUT options may be selected depending on trader's risk appetite.
I asked my brother if he had any plan to exit the trade after taking a trade position. He said he was willing to risk 15% loss to make 30% gain from the trade. I like his plan for stock trade. His plan needs modification if he chooses to trade option instead.
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