There are many different ways investors can make money. One of the great things about investments is that it is essentially an open-world video game where your decisions and actions impact your future position and how likely you are to "win" the game.
How does one beat the game?
Well, you'll need a combination of two things: luck and knowledge.
With regards to luck, there isn't much you can do to get that without being somewhat superstitious. But with knowledge, this is entirely up to you to attain it.
I've been trading stocks now for OVER 11 years, and in this post I'll give a detailed overview and explain the difference between short vs long trades in the stock market.
Short Vs Long Trades
Keeping yourself informed about the many tricks and techniques investors use to play the game is just part of actually playing the game.
This is why we, have arrived at the two very common but very powerful techniques investors use to benefit themselves with the stock market -- the methods of long and short selling.
By the end of this post, you'll learn:
- What Are Short Trades (Or Shorting A Stock)
- What Is Long Selling
- The Main Differences and Similarities Between Them
- How you can use them both to earn a pretty penny!
What is Short Selling?
Whereas taking a long position on a stock means you expect the stocks value to increase, taking a short position, also known as Short Selling or "going short" on a stock, means you fully expect a stock's price to plummet any time soon.
Investors use this to their advantage by borrowing the stocks they feel will depreciate and selling them at current value.
When the stock's price decreases, the investor will then buy the stocks back for cheap. The difference between the price he sold them for and the price at which he bought them back is the profit. This turns a potentially negative market scenario into a possible win for an investor who was able to predict it.
As an example, let's use you and ABC Co. again. The value of ABC Co.'s stocks has been in an upwards climb for quite some time now -- in fact, you feel like it is irregular and that the stocks cost more than they're worth.
Perhaps, you might even have Intel that a competitor is coming out with a product that will send ABC. Co.'s products to obsoletion.
You decide you can capitalize on this by borrowing 100 ABC Co. stocks and selling them at their current market price of $70 each -- $7000 ($70 x 100) in total.
Your predictions turn out to be true and ABC Co.'s competitor releases their new, better product. ABC Co.'s stocks start to decline in value until the current price is now $50 for each stock. You decide that this is enough and you sell all 100 stocks for $5000 ($50 x 1000). Considering you sold them for $7000, and bought them back for only $5000, you are actually $2000 richer.
This scenario is ideal when you are going short. The truth is it's very risky considering you are banking on a company's downturn. What is, for example, ABC Co.'s stocks never depreciate in value but only continue to increase. You sold your borrowed stocks hoping to buy them back for cheaper but now it seems you are incurring loss and, unless you act soon, might even be owning the brokerage some money. This is one reason why, when shorting, your intel and powers of prediction must be full-proof.
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What is Long Selling?
To put it simply, Long Selling, also known as "taking a long position" or "going long", is when you establish ownership over securities for a long period of time -- with the express intention of selling it later on when the value has increased. These securities could be anything from stocks, mutual funds, or even currencies. Some investors even go so far as to take go long on derivatives like options or futures contracts.
In all actuality, this is probably the more common principle people have in mind when thinking of buying stocks. You buy a stock or share of a company, wait for that company to grow larger and more profitable -- increasing the value of the stocks you own, then sell those stocks and earning a profit as a result. It's basically the guiding principle the stock market operates on.
To set an example. imagine that you have a belief that ABC Co. will expand its market share and become quite profitable in the future. Perhaps they are a tech company with a potentially revolutionary product. They are relatively new though so their stock only costs $50 each. You decide to buy 100 stocks (paying $5000) and wait for ABC Co. to launch its new product. This, in investor's terms, means you are long 100 stocks in ABC Co. That is, you have taken a long position with the stocks in the belief their value will rise.
Sure enough, they unleash a new gadget which the people go crazy for. You see the value of ABC Co.'s stocks increase to $60 each. You decide to bide your time and see how far you can walk away with. The value of the stocks increases to $70 each. Now, not wanting to push your lock, or perhaps you caught wind of some intel that ABC Co.'s competitors are coming out with an even more advanced gadget, you decide to sell all your 100 stocks at their current value of $70 each -- $7000 in total ($70 x 100). Considering that you bought the stocks for $5000 and sold them for $7000, you have now grown $2000 richer thanks to your long position.
All sounds nice and good but there are also risks involved. Imagine if ABC Co. stocks did not actually increase in value but began to decrease instead. You would end up losing money on a position you intended to go long with. The success of a long position solely depends on how likely your prediction will come true, hence the need for research.
The Main Differences and Similarities Between Them
The first and foremost difference between long and short selling is the position they take with regards to a companies health and future profitability. Taking a long position means you are banking on the company's health and ability to grow in the market. Taking a short position you are taking success on a companies devaluation or, at the very least, feel that the price for a company's stock is conflated and will likely lower some time soon.
Neither position is right over the other, they are simply ways investors have found to use the market's climate to benefit them. They drive financial activity and provide the financial industry the much-needed liquidity in order to carry out its other financial functions.
Another difference the two have is the amount of time it takes for each one to yield profits. In taking a long position, you are in it for as long as it takes for the stocks' value to rise. Even when it does right, it is up to you whether or not you'd like to sell continue to bide your time to try and get a larger payout. That means some long positions have become viable long-term investments. All that considered, many investors do not want to be tied up to stocks long-term and, with the volatility of the market, stock prices can freefall in a matter of hours and render your stocks worthless.
A short position does not take up much of your time. Ideally, you only take a short position when you expect the stock prices to drop very soon. This means it's a quicker way to earn a large sum of profit. That being said, you will be taking a very risky position with an infinite potential for loss. You can expect that companies are doing all they can to maintain the value of their stocks so investing in the devaluation of a company will require some serious research and intelligence. Even then, you would also do with some luck on your side.
How do Investors use Either or Both?
With long selling, the only goals are to earn profit. It is a simple act of investing in a company's future and selling the stocks later on when their value is at its peak -- or at least high enough for you to not risk it going the other way.
With a shorting position, profit is also the goes but investors can also use short positions to hedge other investments. Using short selling, you can benefit from a negative situation while also account for the devaluation of the worth of your other investments -- an experienced investor's way of using his or her investments to offset each other.
The main takeaway from everything of the things discussed so far is that research and keep on top of the news are essential things to do for the success of investments.
These are the kinds of investments that require your time and attention.
The market moves so quickly that a positive can easily turn into a negative if you don't pay close attention and make good judgment calls.
Doing so will definitely result in you playing the game and winning it every time.