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Short selling is more common in the United States, and it accounts for close to forty percent of the dollar value traded. Many argue that short selling is the villain of financial markets, and this is false. Short sellers help in providing liquidity in the market and identifying overvalued companies. They help restore these companies to their accurate market prices. A short seller sells a company that they do not own at a high price now, if they believe it will decline in the future. They then proceed to buy back the stock at a low price in the future. Short selling is risky because the losses are unlimited.
Most short sellers have to conduct technical analysis and fundamental analysis to determine the current market value of a company. This analysis helps determine if the company is at the level they claim to be or if it is less valuable. The following are some of the signs that short sellers look out for.
- Financial reports
The most obvious sign a short seller can watch out for to determine the real value of a company is its financial reports. Some aspects to look out for include cash flow, earnings reports, and revenues over the past years. A company may have a certain market value, but looking at its financial records determines its actual level. If a short seller notices that the earnings and revenue in the company have grown steadily over time and the operating cash is positive, they will invest in the company. If not, they can move on to the next company because the risks are too much.
- Types of consultants hired
The type of consultant that a company hires tells a lot about its financial situation, organization, and management, and operations. If a company hires an organizational development consultant like the Dilan Consulting Group, it shows the company cares about its future and has invested in it. On the other hand, if a company hires an expense reduction consultant, it indicates weakness as the company is using shortcuts for short term profits. A short seller will look out for such consultants and determine if it is a red flag or not.
- Visiting the company
Seeing the company first-hand helps a short seller look out for warning signs and know the level the company is on. A short seller visits the premises of a company and speaks with the employers and customers at the company. Some of the signs that they look for include whether the sales floor is buzzing with customers or if it is empty if the merchandise used is of quality and offers a competitive advantage and how trained the employees are. A company where operations are running smoothly, employees are skilled, and sales are flowing is on the level it claims to be.
- Watch market trends
A company is usually affected by the overall market activity and the economy of a particular country. The performance of the company will be determined by government bills, amendments, and laws. A short seller can watch the news to see how the standard economic indicators affect the stock value of the company. The short seller will look at how the company grows in the value-based movement of the market indexes. This will determine the real value of the company.
Ultimately
A short seller can smell blood in the water by reviewing the above factors. This will help discover the potential risks and determine whether they are worth the investment or not.
