Shorting Strategy

Built For

Instruments: Stocks
Trading Style: Scalping/Day Trading

Strategy Overview

This playbook focuses on shorting small-cap stocks that gap up sharply, usually driven by hype, thin pre-market volume, or promotional news rather than real business strength.

These stocks are often weak companies that use sudden spikes in liquidity to sell shares. In the past, many of these setups faded cleanly throughout the day. In recent years, increased volume and more traders have changed that behavior. Failed fades now often lead to sharp squeezes before the stock eventually moves lower.

This approach combines a systematic foundation, built on data and repeatable behavior, with controlled discretion such as time-based rules, behavior checks, and share recycling. This allows the strategy to adapt to current market conditions without trying to guess tops or relying on gut feel.

The objective is to:

• Avoid guessing tops on the front side.
• Stay protected during manipulation and liquidity traps.
• Capture profits from fades, ranges, and backside weakness.
• Reduce large losses through structured trade management.

Stock Selection Criteria

Only stocks that meet the following conditions are considered:

Market Capitalization

• Preferred: under $100M
• Maximum: ~$200M

Higher market cap stocks are avoided due to increased legitimacy and reduced pump-and-dump behavior.

Institutional Ownership

• Preferred: under ~40%

Higher institutional ownership often signals more stable companies that do not exhibit the same extreme fade behavior.

Extension / Gap Strength

• Focus on stocks with large percentage gaps
• Smaller moves (around 20–40%) are avoided, as recent market conditions have expanded volatility and range, making these moves less reliable.

Core Setups

Gap-Up Short with Fade Validation (ADF Behavior)

The stock gaps up strongly in pre-market, often on low volume, and holds its gains into the open to attract liquidity.

Entry Timing

• Entry is considered after the open, not in pre-market.
• The stock must begin fading and show weakness relative to the open price.
• The key confirmation comes from the 10:00 a.m. behavior check.

Primary Entry Condition

• The stock is trading below the open price by ~10:00 a.m.
• Volume is decreasing as the price moves lower.

Entry Execution

• Short entries are taken into pops or bounces once downside behavior is confirmed.
• Avoid shorting the exact low of a flush.

Invalidation

• If the stock holds above the open at 10:00 a.m., the setup is considered weak, and risk is reduced or removed.

Backside Parabolic Short (Primary Edge)

A stock has already made a large parabolic move. The goal is to avoid guessing the top and wait for confirmation that the move is failing.

Requirements

• A large move has already occurred.
• Signs of topping appear (upper wicks, failed pushes, slowing momentum).
• Volume begins to decline as price fades.

Execution

• Do not short the first sign of weakness.
• Wait for clear confirmation that the move is shifting from front-side to backside.
• Avoid shorting lows.
• Enter on bounces during the fade for better positioning.

Expectation

• Downside targets are based on historical pullbacks, often around 30–40%.
• The focus is consistency, not maximizing every move.

This setup works best earlier in the trading day.

Multi-Halt Exhaustion Short

Low-float stocks enter repeated up-halt sequences due to thin liquidity and aggressive momentum trading.

Entry Timing

• No entries are taken during the early halts.
• Entries are only considered after several up-halts, typically once exhaustion is likely.

Primary Entry Condition

• The stock has halted to the upside multiple times (commonly 4–5).
• Resume candles show brief dips followed by pushes, indicating forced covering.
• The overall extension is historically extreme.

Entry Execution

• Initial shorts are taken after halt exhaustion, not during early momentum.
• Entries are based on how far the stock has already extended, not on predicting the next halt.

Risk Awareness

• These trades can be volatile and illiquid.
• Position size must be kept conservative.

Risk Management Rules

Stop Logic

Pre-market highs are not used as stops:

Breaking pre-market highs often triggers short covering before price reverses.

Fixed Percentage Wide Stops:

• Stops are set at a fixed percentage from entry
• Wider stops reduce the chance of being stopped out by manipulation
• The goal is staying in the trade, not tight precision

Trade-Off

• Higher win rate
• Larger individual losses
• Focus is on the overall profit factor, not the textbook risk-to-reward ratios

Outlier Risk Awareness

• Low liquidity and halts can push prices beyond expected levels
• Position sizing must stay controlled
• No single trade should put the account at risk

Trade Management Rules

10:00 a.m. Behavior Rule

• Below the open: downside continuation is more likely
• Above the open: reduce risk or consider exiting

30-Minute Validation Rule

• If the trade is working after ~30 minutes, holding makes sense
• If the price is reclaiming or stalling, reassess the position

Ongoing Context Checks

Throughout the session, evaluate:

• Volume behavior.
• Signs of manipulation.
• Overall strength or weakness in small caps.
• Sympathy moves in other gappers.

Recycling Framework

Many small-cap stocks move in ranges instead of clean fades. Recycling allows multiple profit opportunities while limiting damage when prices chop.

Method

• Take partial profits into sharp drops near support.
• Re-enter shorts on bounces near prior support that becomes resistance.
• Repeat within a defined range.

Benefits

• Increases total profits.
• Reduces losses on failed fades.
• Lowers locate costs by reusing shares.
• Builds a profit cushion that reduces emotional pressure.

When to Use Recycling

When a stock grinds against the position and stops trending cleanly, the focus shifts from directional conviction to managing risk and minimizing damage.

Time-of-Day Rules

Preferred Window

• Pre-market through early morning (4:00 a.m. – 10:00 a.m.)
• Earlier setups have more time to play out.

Reduced Edge

• After ~12:00 p.m., edge decreases.
• Crowding and manipulation increase.
• Less time remains for patterns to work.

Trading is usually reduced or stopped after midday.

Pros and Cons of the Strategy

This Strategy is designed to deliver high-quality, repeatable setups — but like any trading strategy, there are key things to understand before using it.

Note: The cons listed here aren’t disadvantages. They are things to be aware of — important characteristics that require patience, discipline, and proper management to make the strategy work effectively.

Pros

• Proven, data-backed edge.
• Clear and repeatable framework.
• Less reliance on intuition or tape reading.
• Flexible enough to adapt to market changes.

Cons

• Requires regular backtesting and review.
• Wide stops feel uncomfortable to many traders.
• Hard-to-borrow fees can reduce profitability.
• Broker choice is important.
• Risk of extreme moves in illiquid stocks.

Trade Breakdown

Trade Example: CRCL — Multi-Day Backside Short

Market Context

CRCL was in the middle of a multi-day run and had become very extended. This was no longer a front-side momentum trade. The focus was on a backside short once the price showed signs of exhaustion.

Because of how extended the move was, the goal was to wait for confirmation that momentum was shifting, rather than trying to guess the top early.

Setup

Backside Parabolic Short

Entry

• Price reached an area where the move began to stall.
• Momentum shifted, with multiple red candles appearing
• Selling pressure became visible, confirming a change in behavior

A short position was taken after the shift in price action, not during the initial run.

Trade Management

• No immediate profits were taken on the first push down.
• The position was held as downside momentum continued.
• A prior day’s close was identified as a level where a bounce was likely.

At this level, partial profits were taken to:

• Lock in gains.
• Reduce risk.
  

Recycling

• After partial profits were taken, the price bounced.
• Shorts were re-entered on the bounce into resistance.
• Additional profits were taken on the next sell-off.

This process was repeated to extract more profit from the same range instead of relying on a single entry and exit.

Result

The trade was profitable due to:

• Waiting for the backside confirmation.
• Respecting key levels.
• Using recycling rather than holding for a single move.

Key Takeaway

Once a stock is extended and on the backside, patience and recycling can outperform a single-entry, single-exit approach. Managing the trade around key levels reduced risk and increased overall profitability.