All investments carry some measure of risk. That’s why they say not to invest what you can’t afford to lose. While you and I might be out of our depth to lean into the nuances of investing, the professional investor types generally know how to minimize their risks and make money in most any situation. It is their job, after all, and the whole game is rigged in their favor, so they usually crush the little guys along the way.
But occasionally the little guys win, and that brings us to our discussion of short selling. Specifically, what is it, and how does it potentially bite the big boy investors?
Here are Five Fast Facts (and an example!) on short selling:
- 🎲 The Definition - Short selling is an investment strategy that predicts a stock’s downward value. There are a couple of reasons for doing this, but it’s a strategy that only savvy investors should do because of the high level of risk. If you don’t know what short selling is, don’t try to do it.
- ☝️👇 How It Works - It’s a bit convoluted, but hang with us here. To short sell a stock, the investor first borrows the shares at a certain price (usually from a broker-dealer), then sells those borrowed shares to someone else. They will have to then turn around and buy actual shares in order to “return” them to the broker-dealer who they borrowed from. If that purchase happens at a lower price, the investor makes money!
- 🤞 Hedge Your Bets - The first reason for short selling is to hedge against losses. This is the more conservative reason, and basically seeks to balance risk against loss over longer terms by locking in prices on stocks without selling them.
- 💰 Speculate This - The other reason for short selling is speculation for the sake of generating profits. This happens if an investor thinks the stock of a company is going to go down. The more the stock goes down, the more profit the investor makes.
- 🤔📉 The Risk - The big risk with short selling is if the stock being shorted doesn’t actually go down. When an investor buys stock, the most they can lose is 100% of what they spent (meaning if the stock value drops to $0). However, in short selling, there is no limit to what the investor can lose because there is no limit to how high the stock’s price can go up. At some point, the investor will have to “get out”, meaning they will have to buy actual shares at whatever the new price is, and if it’s higher than they borrowed at, they will lose the difference. The higher the stock purchase price compared to the borrowed price, the more they lose.
- 🤯 Gamestop Gambit - Let's talk about the epic saga of Gamestop. This video game giant was on the ropes, and big-shot investors smelled blood in the water. But then, a band of everyday heroes on Reddit decided to stick it to the man. They pumped up Gamestop's stock price to the moon, leaving those bigwigs with their heads spinning and their wallets lighter. Several big investment firms lost a total of at least $20 billion dollars, probably more, and lots of little guys made millions. Talk about turning the tables!
🔥Bottom line: Gamestop taught us that sometimes David can take down Goliath, especially when there's strength in numbers. It's a reminder that even us little guys can make waves in the financial world. So, who's ready to play the Gamestop game?
Do you know anyone who scored big short selling?
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