How "Shorting" a Stock Works

"Shorting" or short selling a stock is a confusing concept to grasp. I never fully got it until I actually executed a short sell trade. Being able to short sell a stock is mind-bogglingly exciting because you're able to make money as the stock price goes down.

It's best to remember the old mantra "Buy low, sell high," although it's more like "Sell high, buy low." I'll explain: When you short a stock you are selling off someone else's shares as a loan that you're agreeing to buy back, hopefully at a lower price. Whose shares? The sucker who has been convinced by his broker to buy and hold. They'll never even know the transaction took place because their broker is making commission on the secondary transaction on their long-term holdings. Bother you? Not me! Their apathy is my opportunity to make some serious cash.

THE BASICS:

Short sell - entry 

Buy to Cover - exit

AN EXAMPLE:

Let's look at a trade I made in November - BIDU. I short sold 10 shares at $202.5o. So that means that I took out a loan on BIDU for $2,025.00. Once the stock fell to $192.87 I bought to cover the same 10 shares for $1,928.70, making a profit of $94.30.

Here's the same information written in a different way:

Take out a loan for $2025.00, pay back the loan at only $1928.70 and you profit $94.30.

Yet another way:

Short sell 10 shares of BIDU at $202.50, buy to cover 10 shares of BIDU at $192.87 and you gain $94.30

And another:

(Short) sell high, buy (to cover) low

It's pretty amazing that even when we're in a bear market - you can make some real money. If you're still a bit hazy here's a real world analogy of what you're doing when you short sell.