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short selling https://www.marketindex.com.au/short-selling

Short (Sell)

Going “short” is the opposite; you profit when the share price goes down.

• You believe a companies share price will fall
• You sell 1,000 "borrowed" shares at $58
• The share price falls to $42
• You buy 1,000 shares (to close the trade) at $42
• You made a profit of $16 per share

How can you sell shares you don’t own?

The most common way is called “Covered Short Selling” and it involves “borrowing” the shares from someone else (organised by your stockbroker).

To open a trade: You borrow shares and sell them at the current market price.

To close the trade: You buyback the same number of shares and return them to the original shareholder.

Another way is to “Naked Short Sell” and it involves a stockbroker placing a sell order on your behalf, even though you haven't borrowed any shares (hence the term "naked"). To close the trade you must buy back the exact number of shares that you originally sold.

Remember that everything is done on a computer. You’re not actually buying and selling a tangible asset; all that’s required is that the numbers in the regulator’s computer “even out” at the end.

Why would someone allow their stock to be short sold? Lenders can charge a borrowing fee which is passed on to the short seller. This is also why short sale positions tend to be shorter in investment duration than long trades.

Short Selling Advantages

1. Profit in a falling market

You can make money when share prices are falling.

2. Hedge your portfolio to reduce drawdown

A portfolio can be hedged with “short” positions to reduce drawdowns in down trending markets. Should the stock market turn negative, any profit made in the “short” trades will help counteract the losses made in the long trades.

Disadvantages

1. Difficulty to participate

Few Australian stockbrokers have the ability to short sell and those that do often have many obstacles. Additional paperwork, collateral requirements, pre-authorisation per trade, higher fees and a minimum trade size of $50,000 may be set.

2. Risk is unlimited

With traditional share investment your risk is limited to the amount you spent on the initial purchase (a share price can’t go below zero). With short selling a trade isn’t closed until you buyback the original number of shares sold, so your risk is unlimited (there is not upper limit to how high a share price can go).

For example, in 2008 Volkswagen was involved in a massive short-squeeze.

Short sellers panicked because the share price was rising and they were losing money. To close their trades they needed to buyback the original number of shares they sold.

A "snowball" effect ensued with all short sellers trying to close their trades at the same time, driving the share price even higher.

The Volkswagen share price rose from €200 to over €1,000 in just over a month.

3. Limited number of approved ASX companies to sell

There is a limited number of ASX companies that are allowed to be sold short. Leveraged equities publish a list of approved companies along with the collateral requirements.

Why is Short Selling Allowed?

Short selling provides liquidity and brings price efficiency into the market.

In 2008, ASIC placed stricter controls on covered short selling and banned naked short selling outright in an attempt to bring order to the market turmoil. Although it could easily be argued that the ban reduced fear and reduced the number of people “sitting on the sidelines”, studies have found that the consequence was higher volatility and decreased liquidity.

How to "Go Short" in Australia

Short selling ASX companies should only be conducted by experienced investors. You will need to shop around for a stockbroker who is able to facilitate short trades.

Alternatively, you can profit from a falling market by purchasing an Exchange Traded Fund (ETF) that specialises in short selling.


The Q I would like to know about is that If you borrow shares to short sell and the result is the price goes down and you hand back to the shares to the original owner whcy would the owner be motivated to have the share price fall? Are they thinking that after the short attack the share price will rise again? Are they paid for borrowing the shares if so to what extent?