Please explain what a short seller is on the hook for when he or she shorts a stock (i.e. dividends, rights offerings, etc.).

By Investopedia Staff AAA
A:

Short selling is hard enough to get your head around without getting into all the particulars. If you have a basic understanding of short selling, then you probably know that as a short seller, you are required to make up for any benefits a long investor would receive if he or she had actually owned the stock.

When you short a stock, you are borrowing the stock from an investor or broker, then selling those shares on the open market to a second investor. Even though you borrowed and sold the shares to another investor, the transaction between you and the lender is still listed on the books as if the lender is still long on the stock and you are short on the stock (even though that person no longer owns the stock).

Because that original investor who was kind enough to lend you the stock is no longer an actual shareholder with the company, the short seller is required to make up for any benefits the investor would have received had he or she actually still owned the stock.

In other words, if a company pays a dividend to shareholders, the second investor who bought the shares from the short seller would get the dividend check from the company. But because the original investor is no longer a shareholder of record (because the second investor owns those shares now), then the short seller must pay the dividend out of his or her own pocket.

Finally, when the short seller decides to close out the short position, he or she buys shares on the open market (from a third investor) and then gives the shares back to the original investor, who closes out the short position and puts everything back to square one.

For further information on short selling, please see our Short Selling tutorial.

RELATED FAQS

  1. What metrics should I evaluate when looking for high-yielding dividend stocks?

    Evaluate high-yield dividend stocks to determine if they are a good investment to produce steady income. Learn what questions ...
  2. What metrics should I evaluate when looking for high-yielding dividend stocks?

    Evaluate high-yield dividend stocks to determine if they are a good investment to produce steady income. Learn what questions ...
  3. What's the difference between a long and short position in the market?

    Understand long and short positions for stocks and option contracts; combine long and short positions for added leverage ...
  4. What's the difference between a cash account and a margin account?

    Compare and contrast margin and cash accounts. Margin accounts offer short-term loans, leverage on existing portfolios, and ...
RELATED TERMS
  1. David Einhorn

    Known for his short selling strategy, activist investor David ...
  2. Short Call

    A type of strategy regarding a call option, which is a contract ...
  3. Long-Short Ratio

    The amount of a security available for short sale compared to ...
  4. S&P 500 Dividend Aristocrats

    Companies that have had an increase in dividends for 25 consecutive ...
  5. Stock Loan Fee

    A fee charged by a brokerage firm to a client for borrowing shares. ...
  6. Stock Loan Rebate

    Interest paid by a stock lender to a borrower who has put up ...
Related Articles
  1. How did investors select worthy alternatives so quickly given the majority of the assets were liquidated at a break neck pace following Gross’ resignation?
    Investing

    Why BOND Still Might Be In A Class Of ...

  2. How can you keep more of what you make or made when you retire? Minimize the taxes from short-term trades and taxable interest income.
    Investing

    Keeping More Of Your ETF Capital Gains ...

  3. Short selling -- selling borrowed stock in hopes the price goes down -- was unregulated until the Great Depression.
    Investing Basics

    Why Is Short Selling Legal? A Brief ...

  4. Steps to pick the right options brokerage account depending on your needs, style of trading, etc. It should be unbiased - This article is mainly for a trader who does not know how to pick a option brokerage account
    Options & Futures

    Pick the Right Brokerage Account for ...

  5. Investing Basics

    Investor, Know Thyself: Choose A Stock ...

Trading Center