Short selling profitable, but needs more capital
Can we sell a stock which we don’t have in our portfolio? For this, we need to first understand what derivative stands for
Can we sell a stock which we don't have in our portfolio? For this, we need to first understand what derivative stands for. In finance terminology, a derivative is a contract that derives its value from the performance of an underlying asset.
One can trade in indices like Nifty and Bank Nifty. Nifty and Bank Nifty index are future prices which derive its price from the spot price.
For example, a SBI future derives its price from its equity SBI share value. All future contracts basically derive their prices from the underlying asset. When we trade in commodities like crude oil, we trade in its future price.
We trade in gold futures based on the underlying asset of the gold price. All options are also future contracts based on spot price. The same applies to currency also.
For short selling, we need to buy in fixed lots. For example, the lot size of Nifty is 75 and Bank Nifty is 20. So we need to keep more capital.
We can't hold futures for unlimited period. Most of the future contracts we hold are for limited period of three months only. So we definitely need large capital than what required for equity.
If you are trading in options, we need to remember that there is an element of high volatility involved in it. Selling is generally used by traders with the purpose of hedging.
Suppose a trader has a position which is in loss and he wants to recover the loss, he takes a position contrary to what he holds. Some traders short sell only with the purpose of simple trading.
They speculate on the price and take a position. On April 14, there was an extension of the lockdown period. Let us consider one example here.
Because of the extension, several sectors will be affected. Real estate stock like Godrej properties will probably come down in the future price. In such a situation, one can short sell to make a profit in it.
Let us take one simple example. Assume that a stock X is sold at 100. Now if the price of the stock falls to 80 then the trader gets to make a profit of rupees 20 assuming that he has bought only one share.
Here, we need to note that in equity we can take a short sell position only in intraday. Only in futures and options, we can take a short selling position for delivery.
(The author is a homemaker who dabbles in stock market investments in free time)