A:

In a short sale transaction, shares are borrowed from the lender by the short seller and sold in the market. The lender of these shares continues to maintain a long position, hoping the shares will go up in value.

If the lender wants to sell the stock, the implications for the short seller will depend on where the shares were borrowed from - generally either from the brokerage firm's inventory or from the margin account of one of the firm's clients. Margin accounts differ from cash accounts in that they allow the firm to use shares held in these accounts in various ways, including lending them for short sales. If the brokerage firm has taken the shares from its client's account, and that client wishes to sell the stock at some point while the short position is being held, the client is able to do so.

This sale by the client who was lending shares will usually have no effect on the short seller, as the firm will either borrow the shares from another firm or use other shares in its own inventory. For example, if Jack has 100 shares that are lent out to the short seller and Jack now wishes to sell the 100 shares, all he has to do is inform his brokerage firm. The firm will then look in its inventory, and if there are 100 shares, the firm will sell them on the market and put the proceeds into Jack's account. The brokerage firm will now be the one that is owed the shares by the short seller, Jill. However, what could hurt Jill is if the brokerage firm decides that it no longer wants to hold its position in the stock and it is unwilling to continue to lend the shares to her. The brokerage firm has the right to call any short seller to return the shares at any point in time. In this case, Jill the short seller will have to return the shares to the brokerage firm by purchasing them on the market, regardless of whether she ends up incurring a loss or a gain.

If you are the one whose shares are being lent out by your broker to a short seller, your part in the short sale transaction will have no effect on your ability to sell the shares. During the short sale, your shares are the ones currently being designated as lent out by the brokerage firm, but the broker essentially owes you shares. When you want to sell the shares, the broker is required to replace your shares so you may sell them on the market. In our current age of electronic-based shares and transactions, all of this is done without your knowledge and has little effect on the average client. (To learn more about short selling and margin trading, see our Short Selling Tutorial and our Margin Trading Tutorial.)

RELATED FAQS
  1. When short selling a stock, how long does a short seller have before covering?

    There are no general rules regarding how long a short sale can last before being closed out. A short sale is a transaction ... Read Answer >>
  2. How is it possible to trade on a stock you don't own, as is done in short selling?

    Understand how the process of short selling allows a person to sell a stock he or she doesn't technically own by borrowing ... Read Answer >>
  3. Why does my broker allow me to enter only day orders for short selling?

    Put simply, brokerage firms restrict short sales to day orders because of the complexity of the short sale transaction and ... Read Answer >>
  4. Does the party loaning shares in a short sale transaction benefit in any way other ...

    To answer this question, we first need to clarify who is doing the lending in a short sale transaction. Many individual investors ... Read Answer >>
  5. Please explain what a short seller is on the hook for when he or she shorts a stock ...

    Short selling is hard enough to get your head around without getting into all the particulars. If you have a basic understanding ... Read Answer >>
  6. Under what circumstances is short selling advisable?

    Find out when short selling a stock is profitable and what an investor should keep in mind before deciding to pursue a short ... Read Answer >>
Related Articles
  1. Investing

    The Basics Of Short Selling

    Short sellers enable the markets to function smoothly by providing liquidity, and also serve as a restraining influence on investors’ over-exuberance.
  2. Trading

    Introduction to Margin Accounts

    Find out what your broker is doing with your securities when you invest on margin.
  3. Investing

    Short Selling Risk Can Be Similar To Buying Long

    If more people understood short selling, it would invoke less fear, which could lead to a more balanced market.
  4. Financial Advisor

    The 5 Most Shorted NYSE Stocks (VALE, CHK)

    Understand what a short sale is and why people would want to initiate a short strategy. Learn about the top five most shorted stocks on the NYSE.
  5. Trading

    Short Sales For Market Downturns

    This strategy can help in market downturns, but it's not for inexperienced traders.
  6. Trading

    The Short Squeeze Method

    The short squeezed strategy can be risky - but also very rewarding - for those who master it.
  7. Investing

    Why Short Sales Are Not For Sissies

    Short selling has a number of risks that make it highly unsuitable for the novice investor.
RELATED TERMS
  1. Short Sale

    A market transaction in which an investor sells borrowed securities ...
  2. Rebate

    1. In a short-sale transaction, the portion of interest or dividends ...
  3. Short Selling

    Short selling is the sale of a security that is not owned by ...
  4. Short Market Value

    The market value of securities sold short through an individual's ...
  5. Short (or Short Position)

    A short position is the sale of a borrowed security, commodity ...
  6. Brokerage Account

    An arrangement between an investor and a licensed brokerage firm ...
Hot Definitions
  1. Ex-Dividend

    A classification of trading shares when a declared dividend belongs to the seller rather than the buyer. A stock will be ...
  2. Debt Security

    Any debt instrument that can be bought or sold between two parties and has basic terms defined, such as notional amount (amount ...
  3. Taxable Income

    Taxable income is described as gross income or adjusted gross income minus any deductions, exemptions or other adjustments ...
  4. Chartered Financial Analyst - CFA

    A professional designation given by the CFA Institute (formerly AIMR) that measures the competence and integrity of financial ...
  5. Initial Coin Offering (ICO)

    An Initial Coin Offering (ICO) is an unregulated means by which funds are raised for a new cryptocurrency venture.
  6. The Bernie Madoff Story

    Bernie Madoff ran a multibillion-dollar Ponzi scheme that is considered the largest financial fraud of all time.
Trading Center