LemonTrades
TL;DR
- To short a stock, you borrow shares through a margin account, sell them, and hope to buy them back cheaper later.
- Your gain is capped, since a stock can only fall to zero, but your loss has no limit, since a stock can keep rising.
- Inverse ETFs and put options let you bet on a fall with a limited loss, or no need to borrow shares.
- LemonTrades alerts you to sharp moves with the likely cause, which matters most when you’re short.
Short selling lets you profit when a stock falls. It’s also one of the riskiest things a retail investor can do. Here’s how it works.
How to short a stock, step by step
- Get a margin account. You apply through your broker. US rules generally require at least $2,000 in the account for margin trading.
- Check that shares can be borrowed. Your broker has to find shares to lend you. Heavily shorted stocks can be hard to borrow and costly.
- Place a “sell short” order. The shares are sold and the cash is held as collateral, with margin on top.
- Set a stop. Decide in advance where you’ll get out if you’re wrong.
- “Buy to cover” to close: you buy the shares back and they go back to the lender.
A worked example
| You short 100 shares at $100 | Stock falls to $70 | Stock rises to $150 |
|---|---|---|
| Sold for | $10,000 | $10,000 |
| Bought back for | $7,000 | $15,000 |
| Profit or loss, before costs | +$3,000 | −$5,000 |
The most you can make is $10,000, if the stock goes to zero. There’s no limit to what you can lose.
What it costs
- Borrow fee: a yearly rate on the shares, tiny for most big stocks, but it can be very high for hard-to-borrow ones.
- Margin interest, if you borrow money from your broker.
- Dividends: if the stock pays one while you’re short, you pay it.
- Margin calls: if the stock rises, your broker can demand more money or close your position at the worst moment.
What is a short squeeze?
When a heavily shorted stock rises, short sellers buy to limit their losses, which pushes it higher and forces more of them to buy. In January 2021, GameStop went from about $20 to an intraday high of $483 within weeks, and some short sellers took enormous losses.
The rules to know
- Margin: Regulation T generally requires 150% of the short sale’s value at the start: the sale proceeds plus 50%.
- The alternative uptick rule (Rule 201): when a stock falls 10% in a day, shorting is restricted to prices above the best bid for the rest of that day and the next.
Simpler ways to bet on a fall
| Way | How it works | Most you can lose |
|---|---|---|
| Inverse ETF | Rises when an index falls; resets daily. Example: TZA | What you put in |
| Put option | The right to sell at a set price by a set date | What you paid |
| Selling what you own | Just reduce your position | Nothing extra |
If you’re short, a sudden headline can hurt fast. See why is Tesla stock up? for how fast a stock can turn on news, and try it first with fake money on our trade simulator.
Sources
Education, not financial advice. Short selling can lose more than you invested. See our disclaimer.
