I decided to place a trade. I initiated a short position by placing a limit order at $34.05 for 100 shares. The order was filled at $34.11. When shorting, you borrow shares from the broker and sell the stock. This money gets deposited into your brokerage account. The goal is to buy back the stock at a lower price. This action of buying back the stock is known as buy to cover. The investor or trader pockets the difference after the commissions are accounted for. When the buy to cover order is executed, then the shares are returned to the broker.
On September 28, my buy to cover limit order was filled at $33.28.
Summary of First Trade
Selling Proceeds including commissions = $34.11*100-$5.30
Shares bought back = $33.28*100+$5.30
On September 29, I placed a limit order to short 100 shares of stock at $33.80 per share of Agnico Eagle Mines Limited on the Toronto Stock Exchange. I closed this position (buy to cover ) at $33.19 per share.
Summary of Trade #2:
Selling Proceeds including commissions = $33.80*100-$4.95
Shares bought back = $33.19*100+$4.95
Profit = $3375.05-$3323.95
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I was profitable on both of these trades. I started with none of my own money. Does this mean my rate of return is infinity? I came across the following formula on the internet (Source: http://thismatter.com/money/stocks/selling-short.htm)
Rate of Return on short sale = (Stock Sale Price - Dividends Paid - Stock Purchase Price) / (initial margin requirement)
The initial margin requirement is 1/2 the stock sale price. An initial margin requirement is required as a short seller must buy back the shares at some point and return them to the broker.
Rate of Return For Trade #1 =( $3405.70-$0-$3333.30) / (0.5*3405.70)
Rate of Return For Trade #2 = ($3375.05 -$0 -$3323.95)/(0.5*3323.95)
The risk on a short position is infinity as the price of the stock can keep going up and up. With this in mind, I used bracket orders for both of these trades. These bracket orders consist of a stop limit order and a limit order to sell the position. The stop limit orders caps my potential losses if the stock price keeps going higher.
PLEASE NOTE: Short selling as infinite risk as the stock price can go higher and higher. When in a short position, the short seller pays any dividends that are required to be paid. These dividends get paid to the broker and then the broker pays them to the required actual owner of the shares.
I am not a financial planner, financial advisor, accountant or tax attorney. The information on this blog represents my own thoughts and opinions and should NOT be taken as investment or business advice.
Every individual should do their due diligence to make their own financial decisions based on their financial situation and tolerance for risk.