Despite the fact that selling short sounds like it involves a short amount of time, it has nothing to do with the time frame. If you are coming from an investment background, you know that when an investor opens a long position, it means they buy a stock expecting it to gain value in the future. On the other hand, opening a short position implies expected share value decline. The stock market is one of the few places where you can sell something you do not actually own. Understandably, for many people it takes a little bit of getting their head around the idea of how sell short order works, the idea of buying something that is not yours in the first place with a view of selling it back afterwards.
If you are willing to make a short selling order, your broker simply lends you the assets taking them from their own portfolio; in some cases they borrow from other clients or a separate brokerage but it happens extremely rarely (only when there are too many open short positions). You need to borrow the stock, sell it and when a certain amount of time passes, buy it back (if your predictions were correct, you will buy at a smaller price). A seller opens a short position creating a negative balance and then closes it; the difference between a buying and selling price constitutes speculator's profit or loss. As you are not an actual owner of the shares, you will have to compensate the dividends which were missed until the moment of return.
If you have a reason to believe a market is sliding and going to slide further, buying the stock seems unreasonable. For example, Microsoft is trading $30 a share and you predict that it is going to fall lower. You make a sell short order of 200 shares ($6,000). You broker agrees to lend you this amount of Microsoft shares for $30 apiece. Normally, you can hold a short position as long as they please; but if you deal with margin accounts, you would have to pay interest on the loan, which can be quite expensive. After a while the price indeed drops to $20 and you decide to cash your short position. The broker returns the shares to their owners. As a result, your profit is calculated according to the price difference - $10 per share times 200 amounting to $2,000.
Some of the most active short sellers are hedge funds, which use short positions for certain securities and certain business sectors in order to hedge long positions in other shares. Short sellers are often portrayed as rigorous traders focused on profiting and almost willing to drive a company to bankruptcy. Moreover, many investors consider short selling orders to be a dangerous tactic because the market is going to grow in the long-term and in theory, a share can gain value endlessly. Admitting that these claims are valid and short sales are certainly risky, they are also helpful: firstly, they are liquidity providers; secondly, they test how well potentially overpriced stocks hold up, especially during a market bubble. If it was not for short sell traders, stock prices would skyrocket during busy periods and after inevitable correction investors, who bought them on the rise, would suffer severe losses.
A lot of the times, these operations are regulated by the government and brokers are not allowed to open short positions on certain securities. If there is a critical condition on the market, regulating authorities sometimes introduce a temporary ban. Even if the conditions are favorable, you might not always be in the position of buying because if the market is moving down, you understandably do not place purchase orders. In most cases, short positions bring more profit and the results come much quicker. This is due to the fact that prices fall faster than they rise – it is much easier to pull things down than to try pushing it up. Many investors are set in their ways and let other opportunities slide by. However, knowing when to sell is as important as knowing when to buy. If you manage to learn how to trade in both bull market and bear market, you will know what to do regardless of the market direction.
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