Tired of losing money buying stocks in a weak market? Here’s a simple strategy to start profiting from swing trading the short side of the market.
As trend traders, the top rule of our trading strategy is to continually put the odds in our favor by trading in the same direction as the overall stock market trend.
As such, Morpheus focused exclusively on Buy setups when the NASDAQ Composite and S&P 500 were in confirmed uptrends throughout 2021.
However, with the NASDAQ living below its 50 and 200-day moving averages in recent weeks, we have flipped to selectively swing trading the short side of the market.
In this article, we show you our simple "short the bounce" strategy to help you profit in a weak market. Continue reading to discover how our recent Meta Platforms (NASDAQ:FB) short trade quickly led to a +10% gain–with minimal and clearly-defined risk.
Shorter holding periods on the short side
As with the long side of the market, we run several, rule-based Wagner Daily stock scans to locate low-risk swing trade entries on the short side.
When scanning for Buy setups, we look for gains of 20-40% or more, with an average holding period of several weeks to months (depending on strength of the trend). But when scanning for Short setups, we target smaller gains of 10-20%, with a shorter average holding period of just one to three weeks.
Markets tend to fall much faster than they rise because fear is a more powerful emotion than greed. As such, we typically focus on a much shorter time horizon when trading on the short side.
Short the bounce setup: +10% gain in 6 days on FB short
We recently alerted Wagner Daily PRO members in the Swing Trader Room of an ideal short setup in FB (Meta) after a two-day bounce off the lows.
Our recent short setup in FB was a simple trade setup that looks for weak, down trending stocks that can only manage to bounce for 2 to 3 days before resuming their downtrends.
FB first grabbed our attention as a potential short candidate when the stock closed 26% lower in reaction to earnings on Feb. 2.
Normally, such a huge gap down would not immediately put the stock on our radar for short entry because massive gap downs often just chop around for a month or two while the stock price digests the move. But in this case, FB continued selling off for several days after the gap down, before eventually bouncing.
The FB short setup entered our radar while scanning for weak stocks in a two to three-day countertrend bounce. The daily chart of FB below shows the exact setup that led to our short entry point:
Point "1" on the chart shows the first day where FB started to bounce after its huge gap down.
Point "2" shows the stalling action and closing price near the intraday low (on the second day of the bounce).
Notice that volume declined during both days of the bounce attempt (bearish).
Point "3" shows the FB short entry point, after the price fell below the prior day’s low of $226.70.
The weak close at Point "2" is the key to this setup, as our short scan only returns stocks that have closed in the bottom half of the day’s range.
After triggering on the short side at Point "3," FB swiftly resumed its downtrend. It fell back to its prior low just one day later, then broke down to form another "lower low" last week.
So far, FB has dropped 9.7% over six days since our Feb. 12 short call. This is in line with our previously mentioned goal of short setups–a +10-20% gain within 1 to 3 weeks.
Keeping the risk/reward ratio in line
Although we look for gains of +10-20% when trading on the short side, each trade is different. For example, the initial stop price on the FB trade above was roughly 3.5% wide (above the high of the second bounce day). When trading in the direction of the trend, we aim for a profit target of at least 2 to 3 times initial risk (minimum 2:1 reward/risk ratio). Accordingly, a decline in the 7-10% range (already achieved) was a valid profit target for FB.
After your short trade is showing a gain of +7-10%, you may then decide to exit the full position or lock in gains on partial size and continue holding the rest as long as the price continues trending lower.
Simple summary of short scan
When scanning for short setups, we only consider stocks greater than $15 per share, and with an average daily volume of at least 1.5 million shares. These stocks should also be in a confirmed downtrend, with the 20-day MA below the 50-day MA. Current price should also be below the 20 and 50-day MAs.
The short entry trigger is a move below the low of the second bounce day, with a protective stop placed above the high of the same day.
The best short setups generally tend to follow through right away, and our initial stops our typically tight.