0

As I understand it, shorting works by borrowing stocks from someone (usually a broker). Then you sell those stocks to someone else. Later if the price of stock goes down, you buy the stocks at cheaper price to return them to the broker. And this is how you make money. Of course you would lose money if the price of the stock goes up.

But what I don't understand is what benefit does the other side (the broker) get from lending you their stocks. It seems to me that they would of made the same loss or profit either way if they had held to their stock.

1
  • 1
    Interest payments. When you borrow things you pay interest.
    – quid
    Mar 7 at 8:49
1

When someone shorts a stock, they pay a borrow fee to the lending broker. Some brokers share a portion of that borrow fee with the owner of the loaned stock. Lending fees can be as low as 0.25% a year and I have seen a few as high as 900%.

Some brokers still charge commissions so for those that still do, there's that benefit.

The borrowed shares result in another transaction (shorter and 3rd party buyer) so there are bid/ask spreads to be made, possible payment for order flow, etc.).

Since the shorter receives a cash credit to his account, his broker earns interest on the cash balance and this is a major source of revenue for all brokers.

5
  • 900% of the price of the actual stock? Then, Why not buy the stock instead of borrowing it?
    – gbd
    Mar 7 at 18:23
  • @gbd, 900% annual is like 2.5% per day. It's a short term borrow expected to fall faster than 2.5% per day.
    – quid
    Mar 7 at 18:45
  • @gbd 51 - The purpose of borrowing the stock is to short it because you think that share price is going to drop. Buying it is a different game. Mar 7 at 19:17
  • @BobBaerker, can the broker demand their stocks back whenever they want or can I keep it as long as I want?
    – gbd
    Mar 7 at 20:16
  • @gbd - The broker can demand their stocks back whenever they want. This would occur if the lender wanted to sell the stock and his/her broker could not borrow the shares elsewhere. Mar 7 at 20:49
0

The easiest way to answer this is:

MOST of the time, when you short a stock, the broker is loaning you shares held by the brokerage in their own accounts, and since they're charging you a fee to borrow the shares, they make money on stock they can still resell to someone else later once you cover the short position. This can be very lucrative for the broker.

Don't forget that when you hold a short position, the brokerage is going to continue assessing a fee for the duration of the short - it isn't necessarily a one-time fee. If you hold a short position beyond the end of the month, for instance, the brokerage might charge you another fee to continue the position into the new month, which obviously deducts from your anticipated profits when covering.

By the way, just because you're shorting a stock doesn't mean you're selling it to someone else. You're borrowing shares you don't own, or more precisely, the VALUE of those shares at the time the short position is created. What you're anticipating with the short is that the stock's price will fall and you can then "buy" the shares back at the lower price, pocketing the difference (minus fees) as profit.

Good luck!

3
  • By the way, just because you're shorting a stock doesn't mean you're selling it to someone else. you may want to elaborate on exactly what you mean here.
    – quid
    Mar 8 at 6:36
  • A couple of sketchy points: 1) When you cover the short, the buyer is likely to be at another brokerage firm. 2) Borrow fees are assessed daily, based on the closing price of the stock). If the broker's policy is to accrue then the deduction occurs monthly. 3) When you short, you are not borrowing the VALUE of those shares. You are absolutely selling the physical shares that you have borrowed from a third party. Mar 18 at 23:26
  • " The borrowed shares may be coming out of another trader's margin account, out of the shares being held in the broker's inventory, or even from another brokerage firm. It is important to note that once the transaction has been placed, the broker is the party doing the lending, not the individual investor. So, any benefit received (along with any risk) belongs to the broker." - See investopedia.com/ask/answers/05/shortsalebenefit.asp. Point is, shorting doesn't ALWAYS include a third party, ergo my original post.
    – RiverNet
    Mar 18 at 23:49

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service, privacy policy and cookie policy

Not the answer you're looking for? Browse other questions tagged or ask your own question.