Short-Selling with the O'Neil Disciples. Morales Gil

nature of a pattern can also be observed on a single time-frame, such as the example of a smaller head-and-shoulders formation forming within the head of a larger head-and-shoulders formation. In this case, the fractal components can all be seen in one time-frame on the weekly chart. In any case, the use of fractal chart formations can be very useful in helping one exploit a top in a stock long before the large head-and-shoulders formation becomes obvious on the weekly chart. This also underscores why the sole use of weekly charts in short-selling, and in particular in trying to teach short-selling, is highly deficient. This book corrects all of that.

      The short-selling model book section in Chapter 10 of this book is also vastly different from the one in the 2004 book. This new model book section shows both weekly and daily charts, and both time-frames are annotated in detail. Each short-selling example also includes relevant notes, as well as space for readers to make their own notes as they engage in more detailed study. I highly recommend HGS Investor Software (www.highgrowthstock.com) as an excellent analytic and charting tool for use in studying the short side of the market. The great advantage of this particular product is that it allows one to easily scroll backward in time and therefore facilitates the study of a stock's historical price/volume action. This particular feature is also useful for studying the historical long side of the market as well.

      The final difference between this book and the 2004 short-selling book is that this time around I have the luxury of being backed up by Chris Kacher with respect to the research that went into this book. Because I am the only one between the two of us who actually sells short, I was the only one who could write and produce this book. That is why the book is written in first person by me, while the research backup and editing assistance of Chris Kacher keeps things tight.

      Finally, I think the material in this book is not only quite useful for would-be short-sellers, but also for investors and traders who stick to the long side of the market. The truth is that understanding short-selling is also all about understanding how leading stocks top. That sort of understanding not only helps short-sellers make money when “good stocks go bad,” but also helps those playing a leading stock on the upside and milking a strong uptrend optimize their long-only process by being able to recognize when their good stock has gone bad and the time to sell has finally arrived. When considering whether this book is right for you, this is an important factor to take into account.

      To me, short-selling encompasses all of the common sense methodology and wisdom that runs through the works of William J. O'Neil, Richard D. Wyckoff, and Jesse Livermore, or the OWL, as we refer to them. While the roots of my investment methodologies and philosophy lie in my tenure at William O'Neil + Company, Inc. from 1997–2005 as a vice president, internal portfolio manager, and head of O'Neil's institutional advisory business, my current work as a short-seller (and as a buyer of stocks on the long side) makes me more of an “OWL Disciple” than an O'Neil Disciple. Short-selling is a complicated game to play, and as I already noted, is much like a diamond with many, many facets. Thus it becomes a fascinating process that most certainly contributes to the element of self-discovery that every trader and investor experiences over time as they expand and refine their skills.

      As Chris Kacher and I wrote in our first book:

      Like athletes and thrill-seekers who engage in activities that seem extremely dangerous, almost to the point of the unthinkable, to those who live more normal lives, we as traders seek the “rush” that comes not from a successful trade, but from the experience of being entirely in the present as we operate “in the zone,” and a certain fluidity and calmness pervades our actions as we engage the markets in real-time. Ocean wave surfers experience this as the intensity of riding a powerful wave-form that forces them to focus on the matter at hand as a matter of sheer survival. Focusing on the matter at hand forces one to operate entirely in the present – there is no worrying about yesterday's problems, or tomorrow's challenges, there is only the “now.”

      Nowhere does this concept hold true more than when one is selling short and doing it well. Given the inherent risk and danger of short-selling, it might be considered the stock market equivalent of big-wave surfing. Certainly, as a trader, there is no greater satisfaction to be had than being “in the zone” on the short side and making big money during a period where the vast majority of investors on the long side of the market are losing their shirts. Good luck!

GIL MORALESPlaya del Rey, CaliforniaNovember 2014

      Acknowledgments

      The term “O'Neil Disciple” was first coined by our colleague Kevin Marder, who co-founded MarketWatch.com in the 1990s. In the book The Best: Conversations with Top Traders by Marc Dupee and Kevin N. Marder (M. Gordon Publishing Group, September 15, 2000), we are both interviewed in Chapter 1, titled “The Disciples.” When we wrote our first book in 2010, the use of the term “disciples” came up as something of an inside joke, and we eventually settled on calling ourselves “The O'Neil Disciples.” Ultimately, it is a very succinct and accurate description of what we are. Our methods are steeped in the literature and methods of Jesse Livermore, Richard D. Wyckoff, and William J. O'Neil, and it was O'Neil who was our real-life, real-time mentor back in the days when we worked for his organization as internal portfolio managers. As disciples, we have taken what we have learned from these masters and synthesized it into what we believe are far more concrete and precise methods on both the long and short sides of the market. We teach and discuss these methods in our books, media and tradeshow appearances, and our website, www.virtueofselfishinvesting.com. Thus, we feel that this is the right time to acknowledge the fact that Kevin Marder was the originator of the “disciple” moniker, and we thank him for providing this seed for what we later expanded to The O'Neil Disciples.

      We should also acknowledge that this work, as with all our works, was produced without the aid, cooperation, approval, or endorsement of the O'Neil organization.

      We gratefully acknowledge the role that our followers and subscribers have played with their questions and feedback in helping us to improve how we teach our methods as disciples of O'Neil, Wyckoff, and Livermore (the OWL). This book is no different in this regard.

      We would also like to acknowledge the help and support we have received from HGSI Investment Software, LLC (www.highgrowthstock.com) and its three main principals, George Roberts, Ron Brown, and the Big Kahuna himself, Ian Woodward. HGS Investment Software has become our “weapon of choice” when it comes to an equity analytics, screening, and charting software program, and the product includes many templates, screens, and chart views that are directly based on and related to our work and methods as discussed in our books and on our website. Their enthusiastic support in providing us the full use of their charts throughout our books, including this one, is a welcome endorsement of the validity and effectiveness of our methods and techniques, and for this we are deeply grateful.

      Finally, we would like to send a shout-out to the great staff at John Wiley & Sons who helped us with this project: Judy Howarth, Tula Batanchiev, Evan Burton, Kumudhavalli Narasimhan, Darice Moore, and Pamela Van Giessen. When you are working with the top publisher of financial books in the world, not much needs to be said. These individuals set the standard for the rest of the industry!

DR. CHRIS KACHERGIL MORALESPlaya del Rey, CaliforniaNovember 2014

Chapter 1

      Introduction to Short-Selling

      Reduced to its mechanics, short-selling is simply the act of identifying a change of trend in a stock from up to down and then seeking to profit from that change of trend as one rides the stock to the downside. To do this, the investor or trader sells the stock in question while not actually owning it, e.g., being “short” the stock, and pockets the proceeds of the sale with the idea of buying the stock back later at a lower price as the downtrend takes hold and extends to the downside. To go short, the seller must first