Making Money on Losing Stocks - When to Short Sell

Most all of us know, that we can make money by purchasing stocks then selling them when the price goes up. But, how many of us know that we can "purchase" stocks and then make money when the price goes down? If you want to profit from stocks going down, you need to short sell.

When you purchase a stock and plan to hold on to it for a long period of time in hopes that the value of the stock goes up, this is called a long position. And, if there is a long position, there is also a short position.

This is how it works. When you look at a stock and think the price is going to go down because of horrible financial statements or you believe they are making poor decisions that will decrease their value, this is the stock you want to short. You then tell your broker, or go to your online trading account and short the stock. The broker, or trading company, will then borrow that many shares of that stock from another customer that owns them, and sell them at the current price. Then they essentially pay you the money. Now, hopefully you are correct, and that stock will drop in price. When you feel the stock has gone down enough, you purchase the stock at the lower price and keep the difference. Your broker will then return the borrowed shares to the person they borrowed them from originally.

Okay, so this sounds easy enough right? Just remember, if the stock goes up in value, you will end up owing the broker. Don't forget to calculate any trading costs in when determining the profitability of the transaction you are considering. This includes the cost for the trade and any capital gains taxes you may incur if you turn a profit.

There is also a thing called buying on margin. This means that if you qualify through your trader, you can essentially borrow more money than what you have to invest. Normally it is a percentage of the money you are bringing to the table. It may be 40%. This means you can short 40% more shares than you have the cash for. Keep in mind, you do pay interest on the amount that you are borrowing. Also, if your stock goes up in price, then you may get what is called a margin call. This means, you need to add more of your own cash because the amount on margin is more than you are allowed to borrow. (And you wonder how the rich get richer.) Buying on margin is also available for long positions as well.

Now you can see why the stock market almost needs volatility. It's pretty well guaranteed that someone is making money off of it, no matter which direction it's going. So if you would like to do a little bit of "educated gambling" here's your chance to take advantage of the next time you hear someone say "I'd hate to own that stock."