The following is from The Motley Fool:
You initiate the process of shorting a stock by first borrowing shares from a current
shareholder. This may sound difficult, but it isn't; your broker does this for you
automatically. In the very next breath, you sell these borrowed shares at the current market
price. Then you sit and wait, rooting the stock downward. While you wait, you have to pay
dividends to the person who actually owns the stock you borrowed, and you also pay
margin interest to the brokerage, just as if you had borrowed money.
When you're ready to cash out of your investment -- whether for profit or for loss -- you
close out the position by buying the stock back at the then market price, so that you can
return your borrowed shares to the lender -- another thing your broker does for you
automatically. That's it.
Example One: You decide clandestinely to short 100 shares of the corporation you work
for, Overrated Technologies (NASDAQ: FALL), at $56 1/2. You just call up your broker
and say, "Harry, I want to sell short 100 shares of Overrated." Harry will borrow 100
shares for you and then sell them immediately at $56 1/2. Three months later, when the
stock has dropped to $46 1/2, you want to cash out. You'll place an order to buy 100
shares of FALL at the market price ($46 1/2), enabling Harry to return these newly bought
shares to the lender.
So what have you made? Well, you sold 100 shares in the first place at $56 1/2, meaning
your sale came to $5650. Then, to close out, you bought 100 shares back at $46 1/2, or
$4650. Your profit was $1000. |
