How does short work?

this is going to be a dumb question since i’m already a level 3 candidate, how can someone sell a security that is borrowed? isn’t the lender still the owner?


So, at some time in the future, the borrower must purchase identical securities and return them to the lender.

would that be a breach of contract?

A breach of what contract?

if i borrow some books from a library and sell them on craigslist, wouldn’t i be violating the agreement with the library?

Books are unique; shares of stock aren’t.

If you borrow 1,000 shares of GOOG and later return 1,000 shares of GOOG, there’s no breach.

In most circumstances, the one you borrowed the stocks from is unaware that their stock was lent. Remember that if the stock pays dividends, you are obligated to pay those dividends (so the cash flow by the owner is exactly the same). If the owner decides to sell their stock, the broker can return the stock and borrow it from someone else.

edit: a better analogy that may be familiar to you is banking. When you deposit your money with a bank, that money is typically lent to someone else. In most cases, you can withdraw your money at any time. The bank “borrows” your money to lend it someone else and earn interest. If you decide to withdraw your money, the bank can simply “borrow” money deposited by others and return it to you.
Much like stocks, the dollars in the bank are indistinguishable* from one another.

*this is not technically true. each dollar has a serial number and information on where it was originally printed and the year. Those details are irrelevant most of the time.

Very interesting analogy, never crossed my mind!

Let me elaborate a little on the previous reply about shorting.

Few securities are held in the name of the actual owner. Instead, they are held in the name of the brokerage house. That enables them to be sold much more easily because the financial institution doesn’t have to track down the owner of the securities and get her/him to sign off on the sale.

The brokerage house then sells the securities. It holds the proceeds in a special account. When the short-seller wants to cover his/her short, those proceeds are used for the purchase. If the proceeds from the sale exceed the cost of the repurchase, the difference is profit, and it is remitted to the account of the short-seller. If the proceeds are insufficient, the short-seller has to cough up enough money for the short to be covered.

I hope I have explained this clearly. Please don’t hesitate to ask questions or point out any errors I might have inadvertently made.

this topic is getting interesting after $GME