What are the ramifications of shorting a stock in the stock market,and how does one make money by doing so?Break this down in English Please?
Short selling a stock is an investment tool involving a high degree of timing that can, if successful, return a profit when a stock price in falling.
When you “sell short”, you ask your broker to borrow shares on your behalf and to immediately sell them at the current market price. You are then obligated to purchase and return the shares borrowed to the original owner in the future at whatever the market price is at that time. One makes money with this technique if the stock price goes down and you are able to buy the replacement shares for less than the amount you received from your initial sale. Don’t forget that there will be commissions and expenses applied to both trades.
This technique is a very risky way to make a profit from a stock you expect will be going down. The risk lies in the fact that you could face unlimited losses if the price of the stock does not behave as expected. Should the market value of the stock increase you will eventually have to cover your short sell by buying at a higher market price, whatever that may be. There is, therefore, no way to predict how much you could lose.
Short selling is very common. As previously mentioned, it is basically selling so it moves the market down which is opposite to buying.
If you are a swing trader like I am, then you are both long and short stocks. Short selling is not very much different in risk than buying long. As a stock goes up someone with a long position makes dollar for dollar times the margin for every dollar the stock goes up. When you short a stock, you make dollar per dollar for every dollar the stock goes down times your leverage. All of these are less any commissions and money lost on poor fills but are still pretty minimal.
Now one difference is that all shorts are done in a margin account and brokers often have additional requirements before they allow a person to short stocks.
One can also buy puts or sell calls to bet on a stock going down. These are option plays and while they don't seem to directly affect the stock market, they do have an affect on the market when they are unwound on or around option expiration.
One can also play strait vertical bear put or call spreads. Bear back spreads are also another good way to play directionally down (or up for that matter). You can play both ways.
Options require a bit of knowledge as you will play with time and perception (implied volatility) in addition to direction. There are a few others but these are the most important.
To make a long story short, you can make when the stock market goes up or down.
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