Long Vs. Short
Holding a “long” position doesn’t mean that you’ve owned it forever… or even that you intend to, and “short” doesn’t mean that you don’t have enough to make the trade. Stop guessing and understand what these terms mean and how to utilize them to increase your profits. “Long” and “short” are terms that refer to whether you have put your money on the price of a stock rising or falling.
When you hold or own a long position in a stock, you have bought the stock with expectation that the price will go up. While holding a long position, you take the risk of the price of the stock falling, and losing money on your investment. However, your overall risk is completely limited to the total amount that you invested. If you bought $2,000 worth of stock, then the absolute most you can lose is $2,000. The majority of traders and investors are holding long positions.
When you go long on a position, just place a buy order until filled, and wait for the price to go up. If it does (or even if it doesn’t), you are going to have a decision to make. Your gain (or loss) only exists digitally until you actually sell the shares. Wall Street refers to this as “profit taking.” You are able to sell and take your profits, bypassing the opportunity to increase profits if the price rises any higher. The other option is to hold the position expecting higher profits, taking the risk that the price may fall and possibly even turing your gain into a loss.
If you short a stock, you are doing the exact opposite: You have your money riding on the price of specific stock falling. To “go short” is considered more complicated that to go long.
First off, you have to borrow the shares of the stock from your broker. Not all stocks will have shares to borrow, and not all brokers will allow borrows on certain stocks.
Suretrader is one of the best brokers for short sellers, simply for the amount of shares they have available to borrow. Secondly, you have to sell those shares at the current market price.
As a example, say you sell (or short) that borrowed stock for $5 a share, and wait for the price to fall. If it does, you can buy back the same number of shares that you sold before, let’s say for $3 a share. You automatically return those borrowed shares to the broker. This is what is called “covering your short.” The lending broker gets back what they had, in addition to interest from you while you borrow the shares, and you make a profit of $2 per share.
In the end, long positions and short positions look similar on paper. In order for you to profit from either strategy, your sell price must be higher than your buy price. You just do them in a different order when you short a stock.
Risks When Short Selling
Shorting stocks can carry possible risks of epic proportions if the price goes up instead of falls. If you are going short a stock, you better know what you’re doing. Say that you sold the shares you borrowed for $5 and instead of the price falling, it goes up to $6 a share. Covering leaves you with a loss of $1 a share. If the stock goes bananas and shoots to over $10, your loss is $5 a share. Really, there is no limit to how much you can lose when shorting stocks, except for your account total. “Short sellers” that get stuck in this position have to make the decision whether to cover and take the loss, and miss out on the chance to profit if the stock crashes back down, or they can wait to cover in hopes that the stock will go back down, which only risks greater losses.