What is short selling?
In simple terms, selling short is selling assets that have been borrowed from another party. One will subsequently buy identical assets in future and return it to the party who provided them in the first place. The third-party who gives clients assets to short is usually a broker.
The broker does not have ownership rights over the assets in question. Brokers normally hold assets of different clients. They, therefore, provide a ready supply of securities. Such securities include stocks, mutual funds, futures, options and pension funds. Different securities have different characteristics. It is important to study the features of a certain financial instrument before proceeding forward to deal with it.
This practice is also called shorting. The opposite of shorting is going long. A person, who goes long, hopes the price of a certain asset will increase so that he can dispose the asset he holds at a profit. On the other hand, a person doing shorting hopes that prices decrease so that he can buy an asset to replace the asset which he borrowed and sold. Short or long positions can be taken via stock options as well.
How do you lose money, short sellling?
If prices increase, a person in a short position will encounter losses. There is no theoretical limit as to the level of loss that can be encountered. Profitability will be the case when an asset is bought back at a lower cost that was used to sell it. So as to make profits when engaging in this kind of activity, it is advisable to deal with securities that are overvalued.
Shorting activity is carried out with a bearish perspective in mind. On the other hand, going long involves having a bullish mindset. Having a bearish mindset involves having negative expectations about prices. This is because one wants prices to fall. Bullish thinking is positive because an individual desires prices to increase.
The amount being lost or made while shorting can be tracked in real time. This is because public securities are involved. Such securities are traded in the stock exchange. The stipulations of a certain stock exchange are not the same as that of another. Any security of a particular stock exchange can be used to replace the borrowed security. This is because public traded securities are considered to be fungible.
This term means that a particular amount of a certain instrument is the same as the exact amount of another instrument. Covering the positing is the term used to describe the act of acquiring an asset to replace the borrowed security.
Selling short is a speculative activity. This is due to the fact that one speculates on prices. The person who has taken a shorting position hopes that prices of a certain security while fall in future. If prices fall, he gains but he loses when there is a price increase.