One Economic Concept Per Day: Short Sell

Following the amazing story about GameStop stock

Short means that we are missing something. what is missing? In the case of a short sale, the intention is to sell a share that we do not own. Yes, you heard right. In the investment world we are allowed to sell a stock that we do not own. But how do you sell something we do not own? We can borrow the thing we want to sell, sell it, and when the time comes we promised to return it we will buy it in the market and return it to the lender.

The product in question is a share, meaning a partial ownership of a company. Lenders are usually brokers, who have access to either their own or their clients’ shares, and this whole game is a time-based game. The broker will lend the stock today to the investor who wishes to short sell. The investor will sell it in the market today, and at the time he undertakes to return it he will purchase it in the market to return the stock to the lender. The broker agrees to the transaction for a fee, and the investor bets that the profit from the consideration of selling the stock today less the price he will pay in buying the stock tomorrow will be greater than the payment to the broker.

If you know that a share price has dropped in the future, then shareholders should sell it today at a high price and get a high return, and in the future buy it on the market at a low price. This will also create a financial profit and will also retain ownership of the stock. If we do not own a stock you can borrow the stock for a limited time to participate in this game. The profit will be between the high price we receive today and the low price paid in the future, less the payment to the share lender. This will create a monetary gain without ownership of a share. Note that there is a big risk here, because if the price of the stock does not go down, or goes up, there will be a loss that is actually unlimited in amount, because the obligation is to buy the stock at any price to get it back. Keep in mind that in the stock market no one can predict what will happen to a stock price in the future so this is a gamble as much as a gamble that can reach huge amounts of loss.

GameStop is a chain of video game stores that could have expected a sharp drop in revenue due to the Corona. The big funds estimated that the value of the GameStop Shop stock will drop as a result. But the information about the funds’ stakes was present in the market, and the technology allowed masses of small investors to cooperate and raise the share price by high demand and buying, assuming that the funds that bet that the stock price went down, borrowed it, pledged to return it. This activity raised the share price from about $ 16 per share to about $ 347 per share. Of course the small investors who held the stock and exercised it at the high price made a profit while the large funds that had to buy the shares at an exorbitant price to repay the loan they borrowed lost billions of dollars. The share price later plummeted to   $ 52 so even those who bought it while the price increased, lost a significant portion of its investment.

The story allows us to identify the huge risk inherent in the shorting device, which can yield an unlimited loss to those who use it. This is different from the risk of buying a regular stock, in which we risk the amount we paid but not beyond that.

* The statement here should not be seen as an investment recommendation. In order to make investment decisions one should consult with advisory license holders, who adapt the investments to the personal situation of the investor. What is said here is only for the purpose of learning concepts.

The price of a gamestop share from the Yahoo Finance website