What is Short Selling? What it Means to Short a Stock

What does shorting a stock mean? Learn what short selling is and what it means to short a stock when trading.

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One of the terms you will come across in trading is short selling. Chances are if you are new to trading or you are not familiar with short selling, you may be asking yourself “What does shorting a stock mean?” So, to help you understand what this stock trading strategy means we’ll explain the answer to the ever so famous question: “What is short selling?”


Your Simple Role as a Stock Trader

The best way to understand short selling is to break it down in simpler terms. Stock prices go up and stock prices go down. If you are a trader your only real job is to guess correctly “Is the stock going to go up or down?”

If you feel a stock price is going to go up you buy a stock.

If you think a stock is going to go down you “short”  {also known as “short sell”} the stock. When you do this, you enter the trade believing the stock price is going to go down and you are betting against the other traders who think the stock is going to go up.

If you’re confused at this point, keep reading because we’ll explain the process of how short selling works.

How Short Selling Works

When you short sell a stock, you are technically borrowing a stock at a high price and then buying the stock back at a low price.

The part that confuses many people is that after you “buy the stock back” your transaction is over. You do not actually own any shares so you no longer have a “position”. A position simply means that you are either currently doing something with shares of stock or you are currently not doing anything with shares of stock. (By “anything” I mean buying, selling or borrowing shares)

So by now you may be saying “Wait a minute… I still don’t understand short selling!” The confusion is usually centered around this question: “What happens to the shares of stock that I borrowed?”

The shares are simply sold in the open market and you get to keep the profit that was earned if the stock price went down. Essentially you return the shares that you borrowed.

A Real World Example Of Shorting a Stock

Let’s break this down in a real world example you can understand.

Imagine your neighbor just purchased a brand new chainsaw in a box with the sales receipt attached for $300. He is kind enough to let you borrow it providing you take good care of it and return it to him. You agree but then you think of an idea. You remember seeing the same chainsaw on sale at another store for $200. So what you do is you return the chainsaw to where he bought it for $300. Next, you buy him a new one at the better sale price of $200. Last, you return the saw to him brand new in a box unused and you pocket the $100 you earned. You give him the new receipt and you part ways. Of course he is a little upset that you made a profit {and in a “real world example” I would hope you wouldn’t do this to your neighbors!} – but on wall street it is perfectly acceptable and normal.

Basically when you “short a stock” – you simply borrow the shares at the high price, sell these borrowed shares, and then buy them again at the low price and return the borrowed shares.


Imagine that chainsaw analogy in reverse. Imagine when you go to buy the new one for $200 the sales person tells you that they are sold out. You frantically search for that model only to find that there is a shortage. You call the manufacturer and they tell you the model has been discontinued. You explain the situation to your neighbor but he wants that same model back. At this point you place an ad in the paper and finally find a guy who is selling the same model in a box for $900. Since you have no other options and are desperate you pay the $900 and lose $600 on the deal.

On Wall Street and when trading stocks this example can get much worse. The price of a stock can go up indefinitely. This means if you are in a short position you will watch as your account balance goes down, down, down. It can go all the way down until your entire balance is wiped out so if you are in a short position you almost have to sit at a computer at all times and babysit your position and be ready to exit the position the minute you sense the price of the stock is about to sky rocket.

With that being said, you can make a fortune short selling. In an earlier article I mentioned that stocks can be “pumped”. This is when a stock is being promoted by professionals who write positive articles a.k.a. “spin or b.s.” and go into forums and predict that their stock price is going to go up exponentially. Professional traders who specialize in short selling can detect these types of stocks and they wait until the price gets really high and then short them all the way back down to where the stock belongs once the “hype” is recognized by the market.

If you want to learn how to short stocks, make certain that you are ready. Short selling is for professional traders so become a professional trader before you attempt it. At the minimum practice by making small trades before you risk large amounts of your portfolio. Remember any money you invest in the stock market is money you are willing to lose and that you should never rely on anyone else to influence your decision on whether to buy or short a stock. Do your own independent research and study, practice, and learn all that you can.

Do you have any questions about how short selling works or what short selling is? I’m happy to share any additional information that might be useful to you – feel free to ask your questions in the comments section below!

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