What’s Short Selling?
Short selling is when you bet that a stock or another security will drop in price. It’s a pretty advanced move and not for beginners.
Here’s how it works:
- You borrow shares of a stock from a broker and sell them.
- Later, you hope to buy the same number of shares back at a lower price.
- You return the shares to the broker and pocket the difference.
But be careful: if the stock price goes up, you could lose a lot of money.
Why Do People Short Sell?
Investors short sell for two main reasons:
- To Speculate: They’re taking a calculated risk that a stock’s price will go down.
- To Hedge: This is like insurance to offset any potential losses in a similar investment.
The Risks of Short Selling
Short selling can be risky. Here’s why:
- There’s no limit to how much money you can lose. If the stock price keeps rising, your losses keep growing.
- You have to pay back the borrowed shares even if the price skyrockets.
- You’re using borrowed money, so if things go wrong, you’ll owe more than you started with.
Examples of Short Selling
- If you short-sold shares of a company thinking its price will drop, but the company’s stock price actually rises, you’d have to buy back the shares at a higher price, leading to a loss.
- If you nail it and the stock price drops, you can buy back the shares at the lower price, return them to the broker, and you’ve made a profit.
The Bottom Line
It’s tricky and not for everyone. While it can mean big wins if you guess right, you could also end up owing a lot of money if you’re wrong. So it’s crucial to really know what you’re doing before you try short selling.