The quickest, most understandable description I can give shorting is that it's the process of making money when a stock goes down. It's more complicated than going long (the process of buying a stock to profit when it goes up) on a stock, because it involves borrowing, covering, I think it's a little bit too much work for most people.
If you want to short $1000, you will need to have $2500 in your account. You must always have 150% more than the amount you have shorted. This goes for when a stock you're shorting goes up (the more it goes up the more you need in your account) or down. So, you need a good deal of money and a heck of a lot of confidence if you really want to venture into shorting. So yes, you need 150% more money than the amount that's tied up in the stock you're shorting, and that's through all the volatility as well.
The downside of shorting is that the maximum profit you can make is 100%, whereas the amount you can lose is limitless. It's on a very rare occasion that a stock will go to zero in a reasonable amount of time after you short it (it can take quite a long time for a stock to go all the way to zero, it often sits on the pink sheets for awhile), so you'll rarely make 100% on the amount you short. When you go long on a stock, you know you can't lose more than 100% (assuming you buy stocks with money you have and don't borrow money, but let's not get that complicated), but there's no limit to the amount you can make.
To me, shorting is too complicated, takes too much time, and offers too little reward opportunity for me to put my money into it. I think sticking with buying quality companies at reasonable valuations is much easier and offers far more opportunity with a good return/work-put-into-it ratio. Here's more from Investopedia:
http://www.investopedia.com/university/shortselling/
http://www.investopedia.com/terms/s/shortcovering.asp
http://www.investopedia.com/terms/s/shortselling.asp
http://www.investopedia.com/terms/s/short.asp
In One Up On Wall Street, Peter Lynch gives what I think is the best description of shorting, “It's like borrowing with criminal intent.” Lynch tells the story of a man named Robert Wilson, who shorted a company called Resorts International at 70 cents a share. But, Mr. Wilson learned a very important lesson: the stock market will hardly ever – almost never – be on the same page as you. Lynch tells the rest, "However, the stock advanced from 70 cents to $70, a modest 100-bagger, leaving Mr. Wilson with a modest $20 or $30 million loss."
Tags:
investing, investopedia, peter lynch, short, shorting, stocks
Posted at: 09:15 AM | Add Comment
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