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How’s it going today guys so i have to say i’m really excited about this video because it’s something that i’ve always had a decent understanding of but i’ve never fully grasped the idea of short selling stocks simply because i’ve never done it i don’t think i ever will but i really wanted to talk about it because i feel like there’s so much confusion out there
As far as the theory behind short selling a stock and my goal with this video guys is i’m hoping that anybody who watches this video by the time you’re done with it you could go explain this to anyone i’m trying to make it as simple as possible and where’s that going to lead i wish i could lay this board out better because there are certain things i wanted to
Add but i just couldn’t fit it on there and i tried to work it a couple different ways but this is like the best way i could do it is like to have a pictorial diagram here have some notes on my paper so i really hope i’m delivering this in the best way possible but that’s what my hope is guys is that by the time you’re done watching this video if you didn’t
Understand short selling before you understand it now so make sure you guys let me know at the end if i’ve achieved that and if not i might even redo it because i really want this to be like the best video on shore selling as far as the very basics of it and i’m probably going to do a couple videos on this because it’s a very popular investment topic and i’ve
Had a lot of people ask me about it so i’m going to do another video on like the main risks of short selling but this is basically just how it actually works in a very simple way so if you’re looking for a more advanced video this is probably not the video for you this would be like the video if you don’t even understand what short selling is this is where you
Should start so basically guys let’s start off by looking at a traditional stock investment and how that basically works so with the traditional investment you have a company you have a stock broker and then you have you or the investor so basically the company is going to offer shares to raise capital and generally those are offered up and they’re traded on
A stock exchange through a stock broker and basically your stock broker facilitates the buying and selling of those shares and then you as the investor you buy a piece of ownership of the company through a broker or direct from the company now an example of this would be if you’re buying it through a stock broker those are shares that are traded on the stock
Exchange or if there’s no stock broker involved maybe you have employee stock options and you’re able to get shares of a stock in the company you work for without paying commission and without going through a stock broker so that might be an example of how you’re getting shares directly from the company if you’re an employee of that company but basically you buy
The shares or you buy the shares of your company or you buy it on the exchange and then you own the shares you own a piece of that company and that is a traditional stock investment that’s what’s called a long stock investment and when investors go long you’re basically anticipating a price rise in the future it’s what’s called a bullish investment you’re betting
On the stock to go up in value and that’s where they get the name short from because when you’re long on a stock you’re betting on the price to go up and when you’re short on a stock you’re betting on the price to go down you’re anticipating a price decrease in the future and that’s a bearish investment as compared to a bullish investment so bearish investors
Make money from falling stock prices bullish investors make money from rising stock prices and most traditional investing is a bullish investment bearish is kind of a more advanced investment many people will disagree with that statement but just from what i’ve seen and the people i’ve talked to most advanced people are doing short selling i’m not saying that
You as a beginner couldn’t short sell basically the principles are the same you’re just kind of doing it in a different way but there’s a lot more risk associated with a short sale and maybe at the end of the video you’ll understand why that is but i don’t want to get too deep i just kind of want to get to the theory of this so anyways that’s a traditional stock
Investment you’re buying a piece of ownership of the company either through a stock broker or through the company directly and then you’re part owner of that company you’re betting on that stock to go up in value you’re bullish on that investment now let’s look at short selling a stock there’s a little more going on with short selling stock and basically what is
A short selling what a short song of stock well when you short a stock you’re basically betting against that stock you’re bearish on that stock you’re betting that price will go down in the future and short investors are bearish and they make their money from falling stock prices like i said a short sale is the sale of a security that isn’t owned by the seller
But it is promised to be delivered so you’re basically selling borrowed shares and i’m going to explain you guys exactly how that works in this diagram here and it actually makes it pretty simple we’re going to go through the steps so first of all step one is the broker lends you shares and this is an ax margin account so this can’t be a traditional trading
Account it has to be a margin account in order to shore itself anyways the broker lends you shares you essentially borrow the asset so here’s your stock broker you lend you these assets and you become the short seller okay so the stock comes from the brokerage inventory or comes from a customer or comes from another stock brokerage so it’s pet but they do have
To have those shares they at least need to have those shares available to cover but they need to have the availability to get those shares where they need to be holding those shares in their inventory step number two is you sell the borrowed shares on the market so essentially right after you borrow these assets from your stock broker you sell them on the market
To a buyer okay and then the shares are sold to a buyer and the proceeds are credited to your account but at this point you never own those shares you borrowed those shares and because you did this in a margin account you’re now going to pay interest until the short is covered and by cover what we mean is to close the short by buying back the shares and hopefully
Buying them back at a higher but i’m sorry at a lower price at a later date so you’ve now basically borrowed the shares from your broker sold them to the market and now you’re sitting there paying interest on that margin account until you buy back the shares and cover that short so step number three is to buy back the same number of shares from the market at a
Later date hopefully at a lower price and at that point once you buy back dog shares from the market you return those assets to the stock broker who originally let you borrow them as well as any interest that you’ve been paying along so what the stock broker gets out of this is interest they let you borrow these shares in return for interest what you get out of
It is a price difference between what you borrow the shares for and then what you bought them back for so let’s look at two examples here example number one would be you’re buying the shares number two here so if you’re basically armed let me look here you borrow the assets okay and to share sell for $20 a share you sell the assets for $20 a share okay time
Goes by and then you essentially buy the shares back from the market at five dollars a share well this fifteen dollars here in orange that’s all your profit because that’s the price difference between what you sold the shares for and then what you bought them back for now in a not-so-good situation where you shorted the stock and the stock went up in value and
You had to close your position or basically cover your short that would be where you bought your shares okay so basically you’ve got your shares from your broker sold them for $5 a share to a buyer then the stock price went up and then you had to cover your short and buy them back from the market at $20 a share meaning all this blue area here is how much money
You’ve lost now maybe you’re starting to see the big danger with shorting a stock but we’ll talk about that in a little bit because there’s a few more things i want to mention with this first of all after step two two things can happen one of them is very uncommon but it is something to understand that this is something that your broker can do once you’re on the
Wrong side of each you so what happens after step two so after you sell the borrowed shares and you’re basically just paying interest in your margin account for the borrowed shares two things can happen number one is that you hold the short as long as you want and just pay interest because it’s a margin account obviously the longer that short is the more you’re
Paying an interest the second thing that can happen is that investors can get called away when the broker asks for shares back or money to cover them as well as any dividends while this is a very uncommon scenario it has happened in the past and it’s very common when there’s many short positions on a stock so it’s possible that you could be shorting a stock okay
The value of the stock goes up it goes against what you expected and next thing you know you get called away from your broker to you either need to buy those shares or come up with the money to pay for those shares at the current market value and that’s where you can potentially lose a ton of money so those are two things that can happen after step 2 you either
Hold the shares are basically you hold the position and you pay interest or there’s a possibility that you’ll get called away and you have to basically come up with the money or the shares at that point and that’s that’s going to be money from somewhere else either if you have shares in your account that you can liquidate or you’re putting money into your trading
Account so that’s not a good situation to be in for sure but anyways next we’re going to be going over two scenarios of a good day short position and then a bad day with a short position all right now the last thing we’re going to look at here is short selling on a good day and i’m short selling on a bad day and let me just say guys short selling in a good day
That could be a very good day for you i mean what i’m saying a good day it takes longer than a day and a day in most cases but uh when you’re having a good time short selling versus having a bad time would be a better way to describe this but when you’re having a good time short selling let me tell you it can be a great time there’s a lot of money to be made
But when you’re having a bad time short selling it’s a it’s a bad time in most cases so let’s walk through the numbers here just to get an example of this so you’re having a good time short selling abc stock is $100 a share you believe that the stock is going to go down so you have a short position of 1000 shares and in your margin account that’s 50% basically
You have to have 50 percent of that so $50,000 invested $50,000 on margin so that’s how you have your $100,000 you have $50,000 basically on loan from your broker so your total short position is $100,000 one year later abc stock is now trading at $10 a share you were right the sheriff’s just plummeted in value so you basically now cover at $10,000 or basically
Buy back 1,000 shares at $10 a share and then you pay $2,500 in interest basically 5% interest on a margin account for one year and so your profit would be $100,000 minus your $10,000 covered – your $2,500 in interest so your profit is eighty-seven thousand dollars $87,500 on a $50,000 investment you’re pretty happy with that investment that is a great return
But let’s look at what happens when you’re wrong and you short a position and it goes against you so abc stock hundred dollars a share you short a thousand shares and get one year later though abc stock is that $250 a share it didn’t go down in value it went up in value and now all of a sudden your broker decides to write a call order and basically call on those
Shares and say hey give me the money or give me the shares at this point you buy back a thousand shares at 250 a share for a total cost of $250,000 you pay $2,500 in interest so your profit is $100,000 – $250,000 to cover – $2,500 in interest so wait a second all of a sudden on a $50,000 investment you lost 150 $2,500 that is the danger of shorting the stock guys
You your losses are infinite you can lose an infinite amount of money if this stock was 500 hours of share it would be double that you know it’ll be 300 thousand dollars plus the interest you can lose an infinite amount of money when shorting a stock and that is why shorting can be very dangerous and you really need to know what you’re doing while the gains can be
Wonderful and fantastic you can you can make a ton of money you can also lose an unthinkable amount of money when you’re shorting stocks and i know these numbers probably don’t make sense but just for examples sake i wanted to use them to show you guys how much you could potentially lose ideally somebody who was in a short position like that they sure they would
Have covered their position long before that stock climbed to 250 so you know it’s all based on your strategy but it just goes to show guys your losses are infinite there’s an infinite potential to lose money when you’re short sell a stock and that’s just what i wanted to show you guys right here anyways guys like i said this was a very basic video on just the
Theory behind short selling stocks and i’m planning on doing another video probably a couple videos on short selling when i’m is going to be what risks are involved with shorts on the stock because there’s more than one it’s not just this infinite loss of money i want to go through those other risk factors involved that’ll be another video though i didn’t want to
Drag this thing out too long but if you guys enjoyed this video please leave me a comment if this was explained well please let me know as well because if not i would reconsider redoing it because i really want this to be a great video on short selling stock so make sure you guys provide me with your feedback if you have any ideas for future videos about short
Selling stocks or any of the topics that cover on this channel drop me a comment as well i would appreciate if you drop a like on this video if you enjoyed it and if you are new to the channel please subscribe to be notified of any future uploads and as always i thank you guys for watching this video
Transcribed from video
SHORT SELLING STOCKS 📈 The Basics Of Short Positions Explained By Ryan Scribner
