Not For the Faint of Heart: Short Selling Stocks
Shorting stocks is a common practice among some of the most well-versed investors. However, it can be very risky.
Wondering if short selling stocks is the right practice for you? We’ve summarized the benefits and risks of short selling stocks to help you understand whether you should be short selling.
The Basics of Short Selling Stocks: How to Short the Market
Short selling stocks is relatively simple in principle. By analyzing the stock market, you find companies that you believe are anticipating a crash.
Once you’ve found the company, you borrow stocks from a broker and then immediately sell them off. If the stock’s price drops significantly as you predicted, you buy back the stock and return it to the broker for the lower price.
The difference between the price you sold it for and the price you bought it back for is the profit you make. If stocks plummet significantly, you can make a huge profit.
It sounds simple enough, but buying and selling stocks in the hope of making a quick profit comes with its risks.
The Risks of Short Selling
The biggest risk in short selling stocks is pretty self-explanatory. If stocks go up instead of down you can lose a lot of money.
When you borrow stocks from a broker, you have an obligation to return the stocks at a certain time. If the stocks don’t drop significantly by the time you have to return the stock, you can lose a significant amount of money.
In fact, you can even go into significant debt over short selling. An increased stock price can cause you to owe a lump sum of money to a broker. If you don’t have any other funds saved up, it can put a serious damper on your financial health. The last thing you want is to need a loan for something with no return of investment!
To ensure the biggest return when short selling, make sure you do all your research on the market factors.
Who Should Short Stock?
Short selling is pretty risky and there can be a lot of money at stake.
You should only take the risk of short selling if you have significant backup funds. This will act as a safety net should the price of your shorted stock rise unexpectedly. Backup capital will allow you to keep investing and prevent unneeded debt.
For the average or beginner investor, short selling stocks is not a good practice and best avoided.
The Verdict: Short Selling Stocks Is Best for Advanced Investors
When weighing up the risks and benefits of short selling stocks, it ends up being a very risky investment. Although there are possibilities of quick profitable returns, it’s not for the faint of heart.
Short selling is not ideal for beginner to average investors who don’t have a large backup fund in case a stock skyrockets. Otherwise, there can be serious consequences. These include unnecessary, unprofitable debt and even bankruptcy.
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