Have you ever wondered how to profit from falling stock prices, and want to give it a go yourself? In this guide, we explore how it works and how to get started.
Stock prices move up and down every day with supply and demand. Sometimes, these movements are just random noise. In many cases, however, stock prices fall following negative news about your focus company, the industry or the broader economy. If you think this will happen, short-selling can allow you to profit from downward movements in stock prices.
In this 3-step guide, we will explain how short-selling works and how to open a brokerage account that will allow you to short stocks.
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Our 3-step guide to shorting stocks:
Step 1: Choose the right broker for short-selling stocks
Before deciding which stock(s) to short, review our featured brokers to find one that's right for you.
Step 2: Learn how short-selling works
Short-selling can be a very profitable strategy. Learn how the process works and review the risks.
Step 3: Set up your account & get started
All set? Open an account, try your hand with a free demo account, do your research, and start trading!
Disclaimer eToro: 62% of customers lose money while trading CFDs.
Step 1: Choose a broker that allows you to short stocks
Before deciding which stocks, indices, or funds to short, you first need to open a brokerage account that will allow you to short stocks.
While most major brokers that offer direct stock trading also offer margin accounts, the requirements (in terms of minimum deposits and prior experience) can be quite high. The brokers know that short-selling is risky and may not want (or be legally allowed) to let you open a margin account unless you can show a sufficient degree of trading experience.
In addition, a lot of the most popular free trading apps do not offer short-selling, in part due to the difficulties for the broker to enable direct short-selling.
Fortunately, a myriad of online brokerages make short-selling much easier by allowing you to short stocks via CFDs (the difference is explained in Step 2).
Below are some of the most popular stock and CFD brokers allowing you to short stocks:
1. eToro: European leader in CFDs trading, with excellent tools for gauging market sentiment
eToro has grown exponentially in recent years, becoming one of Europe’s most popular brokers with over 5 million users. It also boasts of hosting thousands of financial instruments (Stocks, ETFs, Forex, Crypto etc.) available in CFDs.
Its web & mobile platforms are very intuitive, user-friendly, and will help you seamlessly keep track of your positions. eToro’s platform is rich in features, from charting tools to newsfeed and key statistics about companies. eToro does not charge commissions, instead relying on a bid-ask spread and overnight fees for multi-day positions.
Short-selling requires a blend of financial analysis and reading of market sentiment, and eToro offers a real edge to short-sellers thanks to its sentiment analysis tool. For each stock, you can see the percentage of eToro users who are trading it, and the percentage of people who are long or short the stock. You can also use the chat boards for each stock to see what people are saying and use eToro’s famous CopyTrading platform to understand who is long or short a stock. Together with your own analysis, leveraging the social features of eToro’s trading platforms will allow you to develop and refine your short ideas, whether you’re a trend surfer or a contrarian.
The signup process is quick and easy. After you create an account, you will be asked a series of questions ranging from personal information (address, phone, nationality) to financial knowledge, trading experience, risk averseness, and trading objectives. The questionnaire is simple and only takes a few minutes. Once done, you simply have to confirm your phone number, deposit money into your account (via credit card, PayPal, Wire Transfer, UnionPay and other options) and start trading.
Nonetheless, given the risk & complexity involved in short-selling, we recommend getting a good hang of the platform via eToro’s free demo account (no deposit required) before placing your first trades!
- One of the widest ranges of stocks offered via CFDs
- No commissions & competitive pricing
- CopyTrade platform & sentiment meters make it easier to trade & find ideas
- Stocks trading unavailable to US clients
3. CryptoRocket: New, easy-to-use broker with lightning-fast signup & ultra-tight spreads
CryptoRocket is a relatively new player in the market, offering a range of stocks, indices, currency pairs and a wide variety of cryptocurrencies to trade via CFDs. As a newcomer, CryptoRocket chooses to focus on extreme simplicity as a way to quickly carve itself a place in the market.
It is fully integrated to the MetaTrader 4 and Webtrader desktop, web and mobile platforms, offering a wide range of analysis & customization tools for traders of all levels.
Because CryptoRocket likes to keep it simple, it offers only one account type, a lightning-fast signup process with no cumbersome ID verification, a $10 minimum deposit (Visa, Mastercard, Wire Transfer or via a Bitcoin wallet), and an excellent 24/7 customer service.
The leverage offered here ranges between 30:1 for stocks and 500:1 for forex & commodities. CryptoRocket offers competitive spreads on all its available assets, no deposit fees, and no commissions.
Before starting to trade, particularly before entering short positions, we recommend you to use CryptoRocket’s free demo account to get a feel of the platform and the tools it offers!
Despite CryptoRocket’s popularity as a CFD broker, it is important to note that it is headquartered in St. Vincent and Grenadines and is not regulated in the US or the EU+UK.
- Very fast & easy signup process
- Integration with MT4 and Webtrader makes trading frictionless
- Tight spreads
- Smaller range of Stocks despite strong Crypto offering
- Offshore broker (unregulated)
Step 2: Learn how to short stocks
What is short-selling?
Short-selling (“shorting” or “going short”) stocks is the practice of borrowing a stock to sell it today (at a high price) and repurchase it later (at a lower price) to give it back. It is a bet that a stock price will fall, sometimes significantly.
If you are right and the stock indeed falls, you can cash in a hefty profit: the difference between the price at which you sold & the price at which you repurchased.
How is short-selling beneficial to the stock market?
Short-selling is essential to the functioning of financial markets.
First, short-selling can exert downward pressure on share prices (when there are more sellers than buyers), helping price discovery and preventing bubbles.
Second, a large short interest (shares currently sold short/total shares floating in the market) can act as a signal to investors that a company may be in trouble.
Third, the presence of short-sellers can have a disciplining effect for managers of public companies, by reminding them that bad decisions will be punished by the markets.
What are the main types of short-sellers?
There are three primary types of short-sellers.
The first are day traders and short-term investors, who frequently use short-selling as a way to profit from temporary price drops.
They will typically short the stocks of companies expected to miss earnings, to announce project delays, or to be subject to a short-term price drop for any other reasons. These traders usually keep their shorts open for a few hours or a few days, and seldom maintain week- or month-long positions.
The second are “thesis-driven” investors, typically hedge funds, who think that a company (or a security) is fundamentally overvalued and bound to experience a significant price loss.
These investors can spend months or years researching companies, looking for false narratives, fraud or any other evidence of unjustified overvaluation. When they are convinced of their case, they usually publish their findings publicly and initiate significant short positions, waiting for their thesis to realize.
Famous examples include Steve Eisman’s (“Mark Baum” in The Big Short) bet against CDOs & the American housing market in 2007-08, Fahmi Quadir’s assault on Valeant Pharmaceuticals (as seen in Netflix’s Dirty Money) or Carlson Bock’s recent high-profile battles against Casino, TAL Education, or eHealth.
Last, a large number of investors (typically hedge funds) will use short-selling as part of their trading strategy, typically for hedging purposes. Long-short portfolios can be useful to increase the profits or hedge the risks of larger trading strategies (e.g. betting-against-beta, momentum etc.), without necessarily having a specific view on each shorted stock.
How to short stocks?
There are two main ways retail investors can short stocks: directly, or via Contracts-For-Difference (“CFDs”).
Shorting directly
Shorting directly means borrowing shares, selling them at their supposed overvalued state, and repurchasing them later on after the price has dropped and returning them to the lender after making a profit. In order to directly short-sell, you need to open a qualifying account (typically called a “Margin Account”) with your broker. You will then have to fund the account, and your broker may require a high minimum amount (the “margin requirement”) either in absolute value or as a percentage of the value of your short.
When you want to short, your broker will lend you the shares for a fee (typically annualized and pro-rated) and will sell them for you. The short position is now opened.
Your broker will then continuously monitor the value of your position and compare it to the amount of money deposited in your margin account.
When you decide to close your position, your broker will repurchase & return the shares for you. If the share price has declined enough for you to cover the transaction & shorting fees, you then walk away with a profit.
To learn more about trading stocks in general, have a look at our Online Stock Trading Guide.
Shorting stocks via CFDs
Shorting via CFDs is much simpler than shorting directly and could even cost you a lot less. All you need is a basic account with a CFD broker and some money for the margin requirement.
When you want to short, simply place a “sell” order via CFD. Your broker does not actually borrow & sell shares for you but merely takes the other side of the bet (there are no shares changing hands).
The broker will still ask you to put up a percentage of the transaction value as collateral. Since your position is marked-to-market, the margin requirement & margin call dynamics are the same as for a direct short. The margin requirement may, however, be lower.
Much like a direct short, there are daily fees for short positions. While your broker may charge a wider bid-ask spread than if you bought & sold real shares, several CFD brokers will credit your account with daily interest on your open short positions.
To learn more about CFDs, visit our CFD Trading Guide!
Risks of short-selling stocks directly vs CFDs
There are several risks associated with shorting, directly or through CFDs.
- Price rise and/or wrong timing: If the stock price goes up a lot, you will be asked to put more money in your account (a “margin call” up to a certain % of the value of your position) as a way for the broker to make sure you have enough money to sustain the losses. A stock cannot fall below zero, but can go up indefinitely, making the margin calls too heavy to bear (a “short squeeze”). Even if you are right eventually, if your timing is wrong, the margin calls may force you out of the position before it pays off.
- Short-selling bans: In situations of severe market volatility (e.g. in 2008 or during the Covid-19 crisis), governments may impose short-selling bans that can force short-sellers (direct and even via CFDs) to close their positions at the wrong time.
- High fees for hard-to-borrow stocks: Further, some heavily shorted stocks may come with significantly higher borrowing fees, increasing the amount by which the stock will have to fall for you to make a profit.
- Dividends: Last, if the stock you’re currently shorting pays a dividend, you are responsible for paying it to the party you borrowed the stock from (the lender for direct shorts, your broker for CFD shorts).
Other methods
In addition to the above, investors can profit from a fall in share prices via other instruments, such as options or swaps etc., although these tend to not be widely available to retail investors. It is worth noting that virtually any security (stocks, bonds, ETFs etc.) can be shorted, with varying degrees of difficulty. Follow this link to learn more about how ETFs work.
Step 3: Set up your account and get started
Now that you have chosen a broker and learned how to short stocks, let’s look at how to place your first trade. We will use the extremely popular eToro trading platform as an example.
First, let’s set up an account by signing up. You simply need to provide basic information and a valid phone number to get started.
You will then have to fill a short questionnaire before starting to trade.
eToro will first ask you for more personal information, such as address and occupation. You will also be asked about your net worth, your investment style, and your trading experience.
Once you are through with the questionnaire, you can get started trading. In order to unlock the full potential of the platform, you will need to submit your identification documents to verify your account.
Before doing so, however, you can use eToro’s free “Virtual Portfolio” to get a feel for the platform:
Above, you can see the stocks in your watchlist, their recent trajectory, the bid-ask price, and some basic sentiment data.
To short a stock, search for it, select it, and click “Trade”. Choose “Sell”, select your order type, amount, and the leverage you want to use. You will see the daily fees for your position at the bottom of the window. When you are ready, click “Set Order” to confirm your trade.
Once you are comfortable with the platform and ready to trade with your money, the last step is to fund your account and get started.
The Bottom Line
In this guide, we explained how short-selling works and how to get started with the right broker.
Shorting stocks is not easy and carries some risks, but it can be a very profitable strategy if done correctly. Don’t forget that getting the timing right is just as important as actually being right. Happy trading!
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FAQs
What does short-selling mean?
Short-selling typically means borrowing a stock to sell it now, and repurchasing it at a later date to return it to its owner. You profit if the stock price falls, by selling high and repurchasing low.
What does it mean when a stock is Hard to Borrow?
Hard to Borrow (HTB) means that there is a limited supply of the stock to borrow. Usually, this means that the stock is heavily shorted, and can result in much higher borrowing fees for direct shorting.
How do margin calls work?
When you are short a stock that moves up a lot, your broker may decide that you dont have enough money in your account to cover your possible losses. The broker will then require you to put more money in your account (the margin call). If you cannot, the broker will liquidate your position.
What happens when dividends are paid on a stock I shorted?
If the stock you shorted pays a dividend, you are required to pay the dividend amount to the stock owner.
How do short-selling bans work?
In rare occasions, governments may temporarily ban short-selling. In this case, short positions may have to be closed, and short-selling is no longer possible including via CFDs.
What types of fees can I face when short-selling stocks?
Short-selling fees will typically include transaction costs, spreads and borrowing fees (annual, pro-rated daily).
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