A short position is taken when declines in the stock market are expected and they involve selling an asset that we have not bought before, with the idea that the price will fall and that we will be able to buy it in the future at a lower level. It is also known as a short sale.
By taking a short position, we will make money if the stock goes down and we will lose money if the stock goes up. In the past, to go short on an asset, what we did was find someone who had the shares we wanted, we borrowed them, we sold them, and we got the money.
After a time, previously agreed, when these shares fell, we bought them cheaper and returned them to their owner. The difference between selling and buying was profit. If those stocks had risen, we would buy them more expensive and still return them to their owner at a loss to the portfolio.
For years, thanks to new technologies, we can look for short positions if we access our broker and launch the order or otherwise, we enter the order through the investment platform provided by it. In order to access to sell assets at a price that we consider high or expensive and to be able to buy it in the future at a lower or cheaper price, we will need to open an investment account or also called a cash account. In it we will have to have enough balance to deposit the required guarantees on the asset in which it is desired to operate, in turn charging the values in the securities account associated with the cash account.
The type of instruments that, as a general rule, allow you to carry out short operations, are called financial derivatives, and have the peculiarity, regardless of the characteristics of each product, that they have the possibility of being able to be leveraged. With this concept, we will have to be careful, since there will be a margin call that will indicate to what extent you can leverage yourself.
Types of financial instruments to go short with
Generally, there are the following investment options for shorting an asset:
- Financial futures: The first is an option very similar to what was done in the past: selling futures. The future is a contract by which it is agreed to buy or sell financial assets (bonds, deposits, stock indices or currencies) or raw materials at a fixed price, on a certain future date. The difference with the option is that while it represents a right, which may or may not be exercised, the future is an obligation. In other words, when the contract expires, you have to buy (or sell) the share. The investor can contract a future as a buyer or seller (short or long).
- Warrants or options: These are financial products in which there is a right, not an obligation. It is an option on a security, commodity or index with a price and future date. The fairways make a profit when the asset goes up, the puts make a profit when the asset goes down.
- ETFs or "reverse" Hedge Funds, which win or lose contrary to what the market does. They replicate the opposite behavior.
- CFDs. Contracts for difference are a financial product through which two parties exchange the difference between the purchase and sale price in a financial transaction. With them you can trade on both the bullish and bearish sides. The operation is closed by paying the difference.
- Sale on credit through our broker. In this case, it will limit the leverage so as not to incur too much risk.
Short position example
Suppose we are at home and access our investment platform and carry out an analysis of the evolution of Banco de Santander shares. We think that, after a thorough study, stocks will fall and we believe that the falls will be short-lived. Quickly, we go to the Banco de Santander share price panel and click on the key that says Sale, which places the price at 6 euros. In the following two days, we verify that the stock is trading at 5 euros, so we decided to close the operation. In this example, we will obtain a profit of 1 euro per gross share, since we have to deduct the commissions that our broker charges us and the taxes related to the profits.
Another example can be found with the sale of a future of the S & P500 whose value per point is 50 dollars. Suppose we enter a sale or short position at 2,100 points and close the operation after a week at 2,080 points, the profit we would obtain would be:
B = (2,100 - 2,080) * 50 = $ 1,000