Trade Like an O'Neil Disciple: How We Made 18,000% in the Stock Market

6.1. THE GOLDEN RULES OF SHORT-SELLING

There are six basic principles and rules that govern our short-selling activities and provide the philosophical foundation upon which our O'Neil–style approach to short-selling is built. We refer to these as the six Golden Rules of Short-Selling and they refer primarily to what sorts of stocks we seek to short with respect to leadership status and liquidity, when we seek to short them, how we handle stop-loss points on short positions, and how we establish profit-taking rules.

Obviously, when the "big stock" leadership in any bull market begins to top and roll over, this has macro-implications for the general market and usually signals the onset of a bear market. By definition, the leadership that led the market on the upside will often lead it to the downside as money flows out of the stock market during a bear market. Therefore, we want to focus on short-selling in those few names that were big, winning stocks and that had huge price moves in the immediately preceding bull market. In a bear market, what has gone up the fastest often has the best chance of coming down the fastest. So we can establish our first two Golden Rules of Short-Selling:

1. Sell short only when the market is in a clear bear market trend, and as early in the bear market cycle as possible. If you are shorting late in a bear market, after the market has been trending lower over many months, you may very well be late to the party. Short-selling very late in a bear market ...