Which Was the More Potentially Profitable Short Sale Opportunity, The Dow Jones Industrials on October 9, 2007 or Colorado Pitcher Ubaldo Jimenez on June 29, 2010, And More Importantly, How is That Determined?
The most paramount attribute for any active trader or prospective trader to consider when trying to understand the behavior and mechanics of any marketplace is the fact that for every winner there has to be a loser. For every hundred, thousand, million or billion dollars gained, there had to have been the same amount lost somewhere by someone. Sometimes this is referred to as a ZERO SUM GAME. It is up to the exchanges, specialists, marketmakers, oddsmakers, etc. to make sure that this remains the constant environment in their particular context which is usually referred to as “maintaining a fair and orderly marketplace”. For this reason there are no infallible “systems” or “models” that can be relied on to churn out winning trades, wagers, or positions because if there was, everyone would use it and there would be no marketplace. This is why markets are dynamic (by definition) and are constantly being adjusted to satisfy the appropriate pricing based upon the supply and demand for bids and offers. It is because of these organic characteristics of the marketplace that TECHNICAL ANALYSIS (AND THE TOOLS APPLIED TO EFFECTIVELY USE IT) IS SUCH AN INVALUABLE ASSET FOR TRADERS/SPECULATORS TO DETERMINE WHEN THERE IS AN INNAPROPRIATE AMOUNT OF SUPPLY OR DEMAND ON THE BUY SIDE OR THE SELL SIDE AT ANY PARTICULAR TIME WHICH FORCES PRICES TO EXTREME LEVELS IN ORDER TO MAINTAIN AN EVEN MARKETPLACE. WITH THE ABILITY TO APPLY TECHNICAL ANALYSIS EFFECTIVELY, THE TRADER/SPECULATOR CAN GREATLY INCREASE HIS PROBABILITY OF CONSISTENT PROFITS.
With these facts in mind, we can confidently address the concept that a trader can profit the same amount (until zero is reached) by selling a stock/commodity/team, etc and the subsequent value decreasing as he can by buying a stock/commodity/team, etc and the subsequent value increasing. Sometimes this practice is referred to as “naked short selling”, which simply means (in stock market terms) that the trader borrows the shares of a stock that he assumes will decrease in value in the future. The trader then sells the shares and when the value of the stock goes down (hopefully) to the level that he presumed it would, he buys the shares back (covers) and returns them to where he borrowed them from. In more universal terms, “shorting” anything simply means that one believes that the value that has been assigned to that asset has been placed too high by the market and the trader assumes that the market value will decrease in the future or that the performance of that asset will be negative in the future.
With these basic concepts of “ naked short selling” or “shorting” now abundantly clear (they certainly should be for anyone who presumes to be trading), we can make a brief, but notable, comparison of two fairly recent examples of shorting opportunities. One example will come from equities trading and the other will come from sports gaming trading. Because the theme to be highlighted here is the correlation of theoretical trading concepts between two different market contexts, the terminology that is used will be interchangeable. However, in sports gaming it is important to remember that there is a duality to each wager/trade. In other words, if you are getting long/buying one side of a wager/trade, you are by definition getting short/selling the other side of the same wager/trade, and vice versa. Additionally, whenever a trader/bettor/speculator enters into a marketplace, the only thing that he is concerned with ultimately is return on investment (ROI). Because of this, we will determine the annual ROI of each of the two indicated scenarios and judge for ourselves which trade would have been more auspicious.
It is certainly no secret that between October 2007 and March 2009, the Dow Jones Industrial Average saw its greatest bear market sell off (points wise) in history, dropping from an all-time high of 14,164 on October 9, 2007 to a low of 6,547 on March 9, 2009. We can see this dramatic scenario graphically in the snapshot below:
During this 17 month span, the DOW gave up 7,617 points or 54% of its total. Of course history will blame the fundamental issues of “toxic assets”, “mortgage derivatives”, “credit default swaps”, etc for the unfathomable decline in the value of the DOW, and certainly all of those things played an extremely vital role in the whole affair. However, as the levels of 12 thousand, 13 thousand, 14 thousand and beyond were reached, TECHNICAL ANALYSIS INDICATORS were reaching outrageous levels of OVERVALUED and OVERBOUGHT that would have given proper advanced notice to the savvy technical trader that a remarkable selloff was certainly approaching the HIGH PROBABILITY RANGE, and we can see from the snapshot above that indeed a major bear market did subsequently occur. Of course, as we alluded to earlier, every market move sees its winners and losers and I can still hear the echoes of the bull market cheerleaders on all of your media outlets with their proclamations of DOW 20 thousand! 25 thousand!! 30 thousand!!! They spewed their irrational rancor like drunken frat boys at a striptease as they, and many others, fell victim to any speculator’s greatest enemy that is EMOTION. True savvy traders and speculators use the inappropriate emotion of the crowd to profit by taking the other side of that trade and see their savvy come to fruition when the market pricing returns to a more reasonable level. A time tested way to become free from emotional weakness and trade with raw analytical success is to use TECHNICAL ANALYSIS INDICATORS, as mentioned.
For purposes of congruity of comparison, as well as “real world” detail, we will examine this short sale opportunity by using the DIA (known as “the diamonds”) which is the tradable ETF (exchange traded fund) that mimics the Dow Jones Average at a 1/100 ratio and trades like an individual stock.
Consider these characteristics of the DJIA activity during the ten year time frame from 2000-2010 (present):
1) MEAN REVERSION ATTRIBUTES
The DJIA began the decade (where the vertical and horizontal indication lines cross on the chart above) at approximately 10,500 and vacillated between the high 9000s and low 11000s for close to two years. After that, the DJIA saw its previously stated high of 14,164 and low of 6,547, which would give us a mean average of 10,355 (high +low/2). Currently, we are back in the low 11,000 range (the DIA would be approximately 1/100 of these values). So basically, after much dramatic extension of market price to the upside as well as the downside, after ten long years the prices have simply returned to their previous level of congestion that was seen from 2000-2002. The purpose of this article is to probe into the short sale opportunity that presented itself in October of 2007, but if we were using the uniform principles of mean reversion and our mean target price was the approximate average of the congestion area from 2000-2002, it would have been fairly simple to establish a buying opportunity bottom (14,164+Z/10,500=2). That calculation would have determined our theoretical long position (solving for Z) at 6,836 which was only a couple of hundred points off of the bottom. So when the entire public thought that the sky was falling, the mean reversion practitioner could have established a long position at 6,836 and rode his position back up to our approximate mean of 10,500 for a 65% profit. But we are not interested here in the long opportunity at 6,836, we are interested in the short opportunity at 14,164.
2) RETURN ON INVESTMENT POTENTIAL OF A SHORT SALE
AT “THE TOP”
Determining the absolute top of the DJIA in October ’07 would have been a little trickier than the mean reversion method mentioned above that could have been used to determine the approximate “bottom”. However, with the appropriate use of TECHNICAL ANALYSIS INDICATORS the informed trader would certainly have determined a drastically overbought condition that would have warranted close scrutiny and establishing a short position in that area would have been indicated. For the purpose of comparison with the ROI of our sports gaming example we will presume that a short sale was made at the top with the DJIA at 14,164 (141 in the DIA). If the trader “got short” ten shares of DIA at the top on October 9, 2007 for a capital income of $1416 and then bought back those shares at the bottom on March 9, 2009 (covering his short position and thereby liquidating his position) for a capital outlay of $654 he would have realized a profit of $762 or 54%. However, since the time frame for this trade was 17 months we can determine that the ANNUALIZED RETURN ON INVESTMENT (not compounded) was 38% (54% X 12/17). Certainly if any fund manager could deliver annual returns of 38%, he would either be beatified or assassinated. All in all, this would have been an extremely favorable trade that could have been achieved by recognizing extremely “overbought” and then extremely “oversold” conditions, because the way to profit in any marketplace as we should know by now is to act at the times of extremes, when public perception of value has been distorted and inappropriately priced.
For the second half of this ROI comparison study, we will move to another marketplace, the sports gaming marketplace, and examine the performance of The Colorado Rockies baseball team when Ubaldo Jimenez was the starting pitcher. When trading (wagering on) baseball, the starting pitchers are a large determining factor for the pricing of the relative strength relationship and subsequently the odds that will be applied by the market (this is also true with goalies in ice hockey). In fact, many people who enter the baseball wagering marketplace exclusively use starting pitching as their criterion for making a trade (wager). It is not uncommon to hear someone describing their wager as “I took Jones over Smith” as opposed to “I took the Cardinals over the Cubs”.
This brings us to the trading (wagering) opportunity that was presented by Jimenez on June 29, 2010. The young right hander was the sensation of the major leagues in the first three months of the season with the Rockies winning 15 of 16 of the games that he had started. We can see this dramatic scenario graphically displayed in the snapshot below:
Certainly there were fundamental factors that could have been considered after his start on June 28, most notably his team’s win/loss record in games that he had started the previous 4 seasons, but it is the PROPRIETARY TECHNICAL ANALYSIS INDICATORS AT SPORTSACTIONCHARTS.COM THAT WOULD HAVE GIVEN THE SAVVY TRADER/BETTOR IN THE SPORTS GAMING MARKETPLACE THE INDICATION THAT JIMINEZ WAS HIGHLY OVERVALUED AND A RIPE CANDIDATE FOR A SHORT SALE.
Because of the improbable performance of the Rockies in the games that Jimenez started up to and including June 28, the team would see its price/odds inappropriately distorted by the public crowd for the remainder of the season.
As seen in the chart, a net win/loss differential of +14 would prove to be A LEVEL OF STRONG TECHNICAL RESISTANCE and a trade/wager against the Rockies (short the Rockies/long whoever their opponent was) in the games that Jimenez started after their win on June 28 would appropriately profit off of the irrational mispricing of the public crowd (the Rockies were heavily favored in all of his remaining starts).
In fact, in the remaining 17 games that Jimenez started, the Rockies were 7-10, and the $ win/loss for a short position would have broken down as follows:
So ultimately what we see here is a $935 net profit that could have been realized from a Jimenez short sale starting on July 3 (his first game after June 28) and ending on October 2 (his final game of the season), which is basically 3 months. To correlate this to a stock position and considering the duality of the sports gaming trade, we must look at it from the long side or purchase side so for comparison we will refer to the purchase of/wager on the Rockies opponents (it is irrelevant who they were). If we looked at each game as a trading period and our capital outlay as $100 per game, this scenario would be very similar to purchasing a stock at $17 and seeing the value increase to $26.35 (for approximate dollar value comparison purposes to the DIA example we will assume that 100 shares of stock were purchased, resulting in a capital outlay of $1700 and a value increase to $2635) over a given period of time, we would recognize a capital appreciation of 55%. If we transfer this RETURN ON INVESTMENT back to our Jimenez time frame of 3 months and extrapolate that return out over an entire year, we will come to an annualized return of 220% (non-compounded). Certainly, a 220% annual ROI is even more garish than the 38% that would have been obtained from SHORTING THE LARGEST POINT SELLOFF IN THE HISTORY OF THE DJIA, but the source for the two short sale profit opportunities is the same. BECAUSE OF PREVIOUS PERFORMANCE ACTIVITY, THE PUBLIC CROWD PUSHED THE MARKET VALUATIONS OF A PRODUCT TO EXTREMELY OVERBOUGHT LEVELS WHICH WHEN USING THE PROPER TECHNICAL ANALYSIS TOOLS AND THEIR APPLICATION A TRADER COULD PROFIT TREMENDOUSLY WHEN THE PRODUCT IN QUESTION RETURNED TO A MORE APPROPRIATE LEVEL BY VIRTUE OF MEAN REVERSION PROBABILITY! In other words, the profit comes from taking advantage of the emotional follies of the marketplace whether it is when trading/betting the Dow Jones Industrials (DIA) or when trading/betting Major League Baseball games (starting pitchers).
Ultimately we can conclude several valuable theoretical trading/wagering concepts from the two examples of marketplace activity that have been studied here. These include:
1) A SHORT SALE IS EXECUTED WHEN A TRADER/BETTOR/SPECULATOR BELIEVES THAT THE FUTURE PERFORMANCE OF AN ASSET WILL BE NEGATIVE IN THE FUTURE AND HE WOULD PROFIT OFF OF THAT NEGATIVE PERFORMANCE
2) BECAUSE OF THE NATURE OF THE SPORTS GAMING MARKETPLACE, THE WAY TO EXECUTE A “SHORT SALE” WOULD BE BY WAGERING ON THE OTHER SIDE OF THE ASSET (TEAM, PITCHER, TOTAL, ETC) THAT WOULD BE EXPECTED TO UNDERPERFORM IN THE FUTURE. THIS IS THE DUALITY OF SPORTS GAMING.
3) THE ANNUALIZED RETURN ON INVESTMENT IF A TRADER WOULD HAVE “GOTTEN SHORT” AT THE ABSOLUTE TOP OF THE MARKET (IN THE DIA) IN OCTOBER 2007 AND COVERED IN MARCH 2009 WOULD HAVE BEEN 38%
4) THE ANNUALIZED RETURN ON INVESTMENT IF A TRADER/BETTOR WOULD HAVE “GOTTEN SHORT” THE COLORADO ROCKIES WHEN UBALDO JIMENEZ WAS THE STARTING PITCHER ON JUNE 29, 2010 AND REMAINED IN THAT POSITION UNTIL THE END OF THE SEASON WOULD HAVE BEEN 220%.
5) BOTH OF THESE VERY FAVORABLE TRADING OPPORTUNITIES COULD HAVE BEEN DISTINGUISHED BY A TECHNICAL TRADER WITH PROPER ANALYTICAL TOOLS (AS WELL AS THE DJIA APPROXIMATE BOTTOM OF MARCH, 2009). THE OVERVALUED EXTREME THAT WAS ESTABLISHED BY BOTH ASSETS FOLLOWED THE RULES OF “MEAN REVERSION PROBABILITY” AND THEIR ENSUING PATH TOWARDS THE MEAN AFTER THE HIGH WAS ESTABLISHED WOULD HAVE RESULTED IN GAWDY, EMOTIONLESS PROFITS.
6) A “TECHNICAL RESISTANCE LEVEL” AT +14 ON THE NET WIN/LOSS DIFFERENTIAL FOR COL/JIMENEZ WAS VERY OBVIOUS AND STRONG, UNABLE TO BE BREACHED ON 4 SEPARATE OCCASIONS.
7) PROPRIETARY PATENT PENDING TECHNICAL ANALYSIS TOOLS THAT SCAN, ISOLATE AND ALERT CLIENTS TO THESE EXTREME AND POTENTIALLY PROFITABLE SCENARIOS IN THE SPORTS GAMING MARKETPLACE (E.G. THE WOLFLINE) ARE EXCLUSIVELY AVAILABLE AT WWW.SPORTSACTIONCHARTS.COM.
The next time that you choose to enter the sports gaming marketplace, be the wolf and not the sheep
OF COURSE ALL OF THE PATENT PENDING PRODUCTS THAT THE SERIOUS SPORTS WAGERING ANALYST AND TRADER NEEDS ARE AVAILABLE AT WWW.SPORTSACTIONCHARTS.COM
THE SPORTS ACTION WOLFMAN