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Short selling - maximum possible loss? - BrilliantHighlights14 - 04-08-2014 04:26 AM
Needing some help on a homework problem.
"Suppose you short sell 300 shares of Facebook, now selling at $61 per share. What is your maximum possible loss?"
My answer is the maximum possible loss is infinite because loss comes from the stock price rising above the price at the time of the short sale and a stock price can infinitely rise.
Am I right?
Thanks in advance.
- Donut Tim - 04-08-2014 04:34 AM
Yes, you are correct.
There is no cap on the possible loss when selling short.
(However, "infinite" may not be the best word here.)
When you short sell a stock, your broker will lend the shares to you. The shares are sold for you and the proceeds are credited to your account.
But you have only "borrowed" the shares and then sold them. Sooner or later, you must close the short by buying back the same number of shares and returning them to your broker. If the price drops, you can buy back the stock at the now lower price and make a profit on the difference. If the price of the stock rises, you must buy it back at the higher price, and you lose money. There is no specific limit to how high the price may go or how much you can lose.
. .
- Greg - 04-08-2014 04:38 AM
You are technically correct. You can only close the short sale by buying stock. If no one is selling, you're losing as the stock goes up in price.
- Ray - 04-08-2014 04:42 AM
Theoretically you are right (if the short is uncovered)
- A Nobody - 04-08-2014 04:51 AM
Theoretically you are correct when you are short your loss is unlimited.
In the real world, as the stock goes up you will receive margin calls or be forced to deposit additional cash and/or securities into your account, these additional deposits can and could be taken away from you as the short market value increases. Eventually as your losses keep climbing, your brokerage firm will close out your short position or the lender may demand their stock back
Donut Tim - in a short sale, the brokerage firms borrows the stock, not for the customer but for themselves, so that the firm does not carry an aged Fail to deliver.
- The Old Guy - 04-08-2014 04:58 AM
When you are short your loss is wide open.
When the market value of yourshort increase, your loss will keep increasing until either you or your brokeage firm closes out the short.
Donut Tim - you have no idea what your talking about.
Customer who short DO NOT have to borrow stock, it's the brokerage firms problem, when a short seller covfer their short, the borrowed stock is returned by the brokerage firm