article: short sellers are good for markets

[OS]

link

 

[acemcmac]

very interesting

 

[dullard]

Breaking news: people who sell and buy items are good for markets in which things are bought and sold.

 

[mrkun]

Originally posted by: dullard
Breaking news: people who sell and buy items are good for markets in which things are bought and sold.

Hehe. This is an interesting take on anotherwise seemingly straightforward issue however.

 

[Syringer]

"buyers are good for markets"

 

[JeffreyLebowski]

I still don't understand how selling for less than they got it for makes money.

 

[dullard]

Originally posted by: JeffreyLebowski
I still don't understand how selling for less than they got it for makes money.

You make money on trades (ie I'm not going into dividends) in four ways:
1) Buy low, sell high.
2) Buy high, sell higher.
3) Sell high, buy low. This is the same effect as #1.
4) Sell low, buy lower. There are often rules against this method. The article discusses rules against #4.

They are doing #3 and if allowed #4.

Let me discuss #3 in concrete terms.
[*]Suppose you have $1000 worth of stock and $0 of cash. That stock is 100 shares, each worth $10.
[*]Starting point: You have 100 shares and $0.
[*]Suppose you sell all of that stock, you now have $1000 in cash.
[*]Suppose the stock value falls to $5.
[*]Suppose you buy those 100 shares back. That cost you 100*$5 = $500. You have $500 left over.
[*]Ending point: You have 100 shares and $500.

You made $500.

 

[OS]

Originally posted by: JeffreyLebowski
I still don't understand how selling for less than they got it for makes money.

a short seller borrows shares from a brokerage and immediately sells it, pocketing the money. However, the borrower now owes the brokerage X share of Y.

If the value of the share falls, the borrower then buys back shares on the market at the prevailing lower price to repay the shares he owes.

 

[lokiju]

Copy & Paste?

I don't have a login.

EDIT:

WTH? I can get to the article now without a login 😕

 

[dullard]

Originally posted by: lokiju
Copy & Paste?

I don't have a login.

Neither do I, but I could read it. That's odd. I could read it a few times, and now I can't.

 

[vi edit]

Originally posted by: JeffreyLebowski
I still don't understand how selling for less than they got it for makes money.

Short "selling" is hard to understand.

Basically, a broker has a number of shares available that they are able to loan out. This varies on a number of factors.

When somebody "shorts" a stock, they are essentially taking out an IOU on a stock with hopes of that stock dropping in value. They receive the current market value of that stock in their margin account and then start gaining more and more value as the price of that stock goes down.

The more it goes down, the less they have to repay for the borrowed shares.

Conversely, if the price of that stock goes up, they start loosing money because they now have to pay a premium for what they are borrowing.

With a short stock position, you can only make as much money as the difference between the current stock price and $0. If it is trading at $50 a share, the most they can make is $50 a share(if it drops to $0).

On the flip side, risk is infinite. If they borrow against it at $50 a share, and it rockest to $200 a share, they have to cough up the additional $150 a share. Assuming they don't close out their position earlier.

You aren't guaranteed a short sale position if the broker doesn't have any shares to lend, plus you are typically paying a hefty margin interest fee on that margin balance.

 

[Miramonti]

The article doesn't mention a very evil tactic of shorting that apparently happens in some very small cap stocks. The seller shorts the absolute crap out of the stock, even more shares than are outstanding, until its trading for only pennies, then the company's credit lines dry up and it goes out of business. And the seller never needs to buy them back.

A link was posted here a couple years ago about it. Apparently the only way a company can fight it (since the SEC is generally useless) is for the company and shareholders to call back their actual stock certificates for the shares they own, thus requiring the short seller to come up with all of his short shares within 5 days (causing him to buy many or most of them back within that time frame.)