Concept I don't quite understand

[metalmaiden55 10]

One of my bosses was explaining to me that you can somehow sell a stock that you do not own. I can't even begin to grasp that explanation. Is it true what he tells me? or was he just pulling my leg somehow to make the stock market seem harder than it is? This matter has had me thinking for the last few days and researching.

[specmav 10]

Yes you can! It is called short selling. You borrow stock (mainly from your broker) and sell it back into the market in hopes that it drops in price so you can repurchase it.

 

An example:

 

I borrow 100 shares of XYZ at $1 a share

I sell it collecting the 100 bucks

If it goes down to .75 a share, I made 25%. This happens because I buyback the shares at $75 and return them to the broker. So I get to keep the $25.

 

Transaction costs are not included in this example and you will have to take them into account like any other business cost.

[Soultrader 12]

Couple rules you need to understand when shorting though. In the stock market, you can only short on an uptick. This rule does not apply in the futures markets.

 

If you ask your broker, they will give you a list of shortable stocks. It all depends on the inventory of your broker.

[chaostrader 11]

To the downside, a stock can only got to zero. To the upside, a stock can go to infinite. Although this will never happen in reality, you need to consider the possible loss when going short. Let's say you owned a stock at $1 and watched it go to zero. Your loss is $1 per stock. However, if you were short a $1 stock just to watch it go to $100, your loss is $99 per stock. This is just a simple example. I dont think any trader is stupid enough to hold onto a loss like that.

 

The good part about shorting is that stocks tend to fall faster than they rise. Money can be made more quickly in a downtrending market if you are short than an uptrending market if you are long. People panic in fear and rush to dump a stock causing swift declines.

[Wallstreet 10]

I wasn't aware of this concept which I now find very interesting.Making money while the stock value falls, that's brainy. But I guess there must be a few important factors like- timing as chaostrader has mentioned nobody is a fool enough to hold onto a falling stock longer. Someone who is constantly watching the market like the stockbroker can be a good guide and the companies to be indulged in short selling should not be prone to major fluctuations. That's quite a bit of learning for a day I guess

[ezduzzit 10]

Well WallStreet.. you would be absolutely amazed at how many people get that frozen deer in the headlights look in their eyes and begin rationalizing to themselves how they just need to hold on a little longer, and oh just maybe buy another few hundred shares as the stock is moving down a little further cuz they just KNOW it is soon going to reach its bottom and bounce up big time and at least get them out at breakeven! That happens every single day and is a sad commentary on trading at times. Let's hope none of us on this forum ever find ourselves in a similar situation and if we somehow do, let's hope we snap out of it and bail while we still have some trading capital left in our account.

 

Happy Trading

[artp01 10]

I must thank everyone here for helping a beginner like me to understand what to date I thouhgt is the toughest thing on earth.

 

I have a question here, when I return the shares to the broker, he takes back the Shares or the equivalent money value? I think it is the shares because I am a trader.

[Soultrader 12]

I must thank everyone here for helping a beginner like me to understand what to date I thouhgt is the toughest thing on earth.

 

I have a question here, when I return the shares to the broker, he takes back the Shares or the equivalent money value? I think it is the shares because I am a trader.

 

A short sale must be covered at some point. You are basically buying back the same amount of shares and returning it to your broker. If the price drops on the stock, you are able to buy it back at a cheaper price and profit from the difference.

 

In the futures market, you can hold on to a short as long as you like until you meet a margin call. In the stock market, brokers can not lend out stocks they do not have. So it is possible you might get a call to return the borrowed shares. Thus, you may need to cover your shorts.