Short Selling Stocks – An Introduction

When you bet against stocks’ upward movement, it’s short selling. In this method, you must borrow stocks from your brokerage company, sell them at a higher price, and buy back at lower price. You (short selling traders) can benefit only when the market or a stock declines due to unexpected consequences.

The method is of short selling stocks is quite simple. You borrow stocks from your broker by paying a small fee (administration or financing fee), and give it back after selling the stocks at higher price and buying at lower price. Thus you make a profit without investing much. Probably the below mentioned example would make things clear.

Stocks of company XYZ is being traded at $20 per share. You learn the company doesn’t have surplus stocks, thus loss is inevitable. In such situation, you must borrow around 100 share at $2,000, and sell them when the price reaches $10 due to bad news. Thus you make a profit of $1,000, without investing any capital amount.

Shorts selling stocks always works well when the market is in decline. Consequently, traders who bought banks’ shares in 2008 earned a substantial profit in the following months. However, when the market is rising, short sellers are at loss, for an indefinite period.

A disadvantage of short selling stocks is you can earn limited profits. However, chances of incurring huge loss are pretty high as stocks can fall up to zero.

Consequently, the governing body banned naked short selling in 2009 in order to avoid market turbulence, and random movements. In such king of trading, an investor thinks about covering the stock, only after he has sold the stock. Today, investor has to borrow or buy shares instantly.

If you intend to short sell stocks, you must have genuine and reliable sources who would provide insider information. You must make your move before majority of people are aware about the news. Only then one can make profit from this method. Besides, as the magnitude of loss is broad, you must have buffer funds, in order to avoid unpleasant consequences.