1. Profiting from Falling Stocks: Short Selling Techniques Chris Argyrople, CFA Concentric Investments

2. Mechanics of Short Selling Crystal Ball says stock is going to drop, how do you profit? Answer: Sell the stock “short” before you buy it, then re-purchase the stock later at a lower price How do you sell something that you don’t own?

3. Short Sale Mechanics

4. Benefits & Risks of Shorting Benefits: Can Profit from a Stock Price’s Fall Sell Stock, earning Interest Income (because you invest cash from sale) Risks: Borrow can be re-called at any time No Limit to How High Stock Can Rise

5. Long vs. Short Portfolio Mechanics LONG:SHORT:10% Opening Neg. 50%5% Weight15% Weight “Double Down”10% Weight30% Weight Neg. 50%5% Weight45% Weight Total LossLose 10%Lose 20%

6. Risk Controls on Short Side Due to “Double Down” Problem, Shorting is Approximately Twice as Risky as Equivalent Long Strategy Possible Risk Management Strategies: 1. Mechanical Method: Cover if you Lose a Set Amount Like 30% 2. Completely Diversify & Wait for your “Event”

7. Idea Generation on Short Side Areas Over-Financed by Wall Street In the Markets, the “Promoters” always win Venture Capitalists, I-Bankers, Brokers Company Management, Other Insiders Past Fads: Bagel Shops (Entry Barriers??, Theme Restaurants (Rainforest, Planet Hollywood) Fuel Cells, Golf Companies, Roll-Ups, Linux Internet: Browsers, Push Computing, B2C, B2B Satellites, etc.

8. Idea Generation on Short Side Possible Screening Tools: High Short Interest (Barron’s etc.) Huge Increase in Stock Price Insider Selling CNBC Factor: All Your Friends Talk About It Valuations Momentum Crowd: Janus, Pilgrim Baxter etc.

9. Characteristics of Good Shorts Good Shorts = Opposite of Good Longs: Bad Business Model (Give Product Out Free) High Debt Loads Deteriorating Fundamentals (Fading) Shrinking Fundamentals (Down Results) Valuations with Room on Downside Accounting Issues Bogus Management

10. Timing on Short Side Pay Attention to: Is Stock Price Rolling Over Cockroach Theory: Are Other Firms in Industry Blowing Up? Changes in Accounting Policy Insider Selling Float Lockup Expirations

11. Timing on Short Side Don’t Short on Valuation Alone: Valuation is a Necessary but not Sufficient Condition for a Short Sale Example: Short Amazon at $4 billion Market Value – the Stock Peaked above $30 billion What will spur a Change in Valuation?

12. Technical Indicators Timing Hints: How Does the Stock Do on Huge Down Days in the Dow or NASDAQ? If it is Strong, what is that telling you? Look for Changes in Investor Sentiment Example: Amazon Investors Changing Focus from Revenues to Profits

13. Tax Issues in Shorting Shorts are Always Short Term Gains: Short Term Gains are 35% Federal Rate (for top taxrate) PLUS 12% Massachusetts Holding Period Doesn’t Matter Don’t Cover “Busted Short” – they never resurrect themselves from the dead Consider Tax Breakeven & Portfolio Impacts

14. Short Squeezes What is a “Short Squeeze”? Large Percentage of Open Interest is Short Short Term: Buyers Overwhelm Sellers How & Why: Short Covering – Mechanical Risk Control Long Holders Recall Borrows to Squeeze

15. Takeover Possiblities Always Evaluate Potential Takeovers: What is the Risk that your Stock can be Acquired? Look at Potential Suitors Example: Didn’t Short Corel because RedHat had $20 billion market cap, an operating system, and no applications software

16. Chatrooms Should you Pay Attention to “the Chat”: There may be good info in Chatrooms as Short Sellers post info to disseminate bad news Be Careful, but there can be good info

17. Good Books & Sources Financial Shenanigans: Howard Schilit Asencio.com

18. Read Into Wall Street Sell Side Analysts Provide Hints: Examples: “Peoplesoft priced for perfection” We initiate XXXX with a strong buy, at 15X 2005 revenue Conservatively discounted back @ 15% Initiate with a Hold Rating

19. The Press Release Machine Too Many Press Releases are Bad: Be wary when Investor Relations keeps telling you about the next press release RedHat: 3 press releases / day for months RedHat: one time they released the names of 8 programmers on one of their teams Is the Culture Dependent on Press Releases?

20. Investor Relations & Stock Promoters Pay Attention to the Company’s IR: Legitimate Investor Relations Firms: Morgan Walke, Financial Relations Board Morgan Walke doesn’t take options Stock Promoters: Get a List of ALL of the companies they have represented How many options do they have? Example: Liviakis Financial – Agribiotech

21. Unproven Concept Stocks Don’t Bite their “Hook”: Needle-less Injection Systems The Hook: Needle Market is $ Billions Hook #2: Every Diabetic Will Switch This company has no competition OR they are the market leader Reality: Research will show tons of competitors How will they Sell it ?

22. Beware of Laser Companies Point the laser at: Hair: if it grows, then it is a hair removal laser Paint: if it peels, then it is a paint peeling laser Skin: if it peels, then it removes wrinkles

23. Chantal Pharmaceuticals Chantal Burnison, Founder: A Doctor Partner in a Major LA Law Firm Invented a Skin Cream that Reversed the Aging Process Has Patents (costs $6 to pull a patent) Stock went from $1 to $20 32 Years Old Smoking Hot Appearance

24. Canada & Vancouver Be Extra Careful with Canadian Stocks: Bre-X: Discovered Diamonds in Asia Can’t Really Verify this Independently Chief Scientist Fell out of a Helicopter, BY ACCIDENT Stock was Still Above $10 Pay attention to the variable that matters: is it the Diamonds or the Helicopter?

25. Sources of Future Frauds Mining CompaniesInternet Gambling Cancer CuresRollups & Acquis. Aids Cures Bio-Terrorism Bandwidth New Operating Systems Encryption Energy – this could be a big one

26. There’s Always a Story Bre-X: Diamonds in Asia Molten Metal: Neutralizes Nuclear Waste Safe Sciences: Cures Cancer Kendall Square Research: Supercomputers Biopure: Blood Substitute Agribiotech: Seeds PlugPower: Fuel Cells Pattern? Public Shareholders Get in “EARLY”

27. Check Out Management’s Past Where have they been? What happened to the stock price? Did they sell before they left? Why did they leave ? Who are they friends with? Try to get their “life’s story” – this is generally not scripted

28. Short Rebate a Function of Fed Funds Rate In 2001, Fed Funds rate was 6%, so there was a significant short rebate By 2003, Fed Funds rate dropped to 1%, leaving no room for a short rebate