What is short selling of securities? What is short position/bearish strategy/aggressive strategy?

 

What is short selling of securities?

What is short position/bearish strategy/aggressive strategy?

How do I find a stock to short sell?

Is short selling a stock a good way to make a profit?

1. What is short selling?

The short position is the technique when an investor anticipates that the value of a stock will decrease in the short term and use this opportunity to make some profit. The investor borrows stock from a brokerage firm to sell to another investor at a contracted price in the future, which is usually higher.

At the due date when the price actually declines

The investor must return the borrowed stock. For this,

-The investor will sell the share at a contracted price which is usually higher

-Buy the share from the market at market price which is lower as he anticipates that it will decrease in the short term

-Return the borrowed stock along with (if any) dividend on the stock to the stockbroker

-The arbitrage gain= Contracted Price - Market Price

At the due date when the price actually rises

The investor must return the borrowed stock. For this,

-The investor will sell the share at the contracted price

-Buy the share from the market at market price which is higher as the investor's anticipation went wrong

-Return the borrowed stock along with (if any) dividend to the stockbroker

-The arbitrage loss= Contracted Price - Market Price

Conclusion

The short-selling or short position is the technique of making arbitrage gain by borrowing shares from a brokerage firm and selling to another investor at a contracted price (higher) with the anticipation that the price will decrease in the short term. The short-selling or short position or aggressive strategy or bearish strategy are interchangeably used.

2. When to short sell?

When the stock is overpriced and you anticipate that its price will decrease in the short term, it is the best time to short sell.

3. Why short selling?

Following are the reasons the investors prefer short selling of stock:

a)    The most obvious reason to sell a short is to speculate. Speculation means making a profit by borrowing overpriced stock and selling to another investor with the anticipation that the price will decrease in the short term.

b)    Another reason for short selling is to hedge. Hedging means nullifying or decreasing or offsetting the risk associated with other long positions. Hedging is one of the investing strategies of institutional investors.

4. What problems are encountered when selling a short?

Numerous problems are encountered when selling a short including:

a)    You have to sell a short on the size, price, and types of stocks which are predetermined. You cannot decide those on your own.

b)    Margin is required upfront and such margin varies depending upon the eligibility of the securities.

c)     It is an advanced or complex strategy that requires long experience and insights.

d)   Broker may charge interest or commission which needs to be accounted for.

e)     The regulatory bodies may set a minimum margin account called maintenance margin. If an investor's account falls below the maintenance margin more funds are required.

4. Pros and cons when selling a short?

Pros

a)    Possibility of high profit

b)    Little initial investment required

c)     Leveraged investment possible

d)   Offset/hedge risks involved in other investments

Cons

a)    It is a double-edged sword. The possibility of loss is also high.

b)    Unnecessary margin is required

c)     Interest on margin is also incurred

d)   Short squeezes may add more problems