Can investors short sell pink sheet or over-the-counter stocks?

A:

Short selling is an effective trading strategy that can be employed to hedge the risk of a loss on an off-setting position or to speculate on an equity's price movement. In essence, short selling entails selling a stock that you do not own. An investor does this by borrowing the stock and immediately selling it in the market. If the price of the stock goes down, the investor makes a profit by purchasing the shares and delivering them to the individual from which they initially borrowed them. The profit arises from the difference between the stock's price at the time it was borrowed and the price at which it was subsequently purchased.

In regards to pink sheet and over-the-counter (OTC) listed securities, short selling is allowed. An OTC security is one that is not traded on a formal exchange such as the New York Stock Exchange or the American Stock Exchange. OTC securities are often quoted on the OTC Bulletin Board (OTCBB). Pink sheet securities are very similar to OTC securities in that they are not listed on exchanges, but are quoted on a daily publication issued by the National Quotation Bureau. However, pink sheet securities carry much more risk because they do not require the companies to register with the SEC or stay current in their financial statements.

Although short selling is allowed on these securities, it is not without its problems. Short selling on OTC is extremely risky because these securities are often very thinly traded, which makes them very illiquid. This illiquidity can prove hazardous if an investor needs to cover an increasingly unprofitable short position. If the volume is very low, covering the position may become a very unlikely prospect. Another problem that has arisen with short selling in OTC securities is the use of pump and dump schemes. These schemes are done by con artists who use internet message boards and SPAM emails to heavily promote a thinly traded stock in which they have long positions. When this happens, the result is often a high spike in the price of the stock, followed by a fall. However, the initial spike will devastate any investor with a short position. These schemes often use OTC stocks because they are relatively unknown when compared to exchange traded stocks.

To learn more, see The Lowdown On Penny Stocks, Short Selling Tutorial and the Online Investment Scams Tutorial.

RELATED FAQS

  1. 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 ...
  2. 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 ...
  3. How is a penny stock created?

    Understand how penny stocks are issued and regulated, and learn how these sometimes rewarding but always risky investments ...
  4. What exactly is being done when shares are bought and sold?

    Most stocks are traded on physical or virtual exchanges. The New York Stock Exchange (NYSE), for example, is a physical exchange ...
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. Stock Loan Fee

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

    Interest paid by a stock lender to a borrower who has put up ...
  6. Short-Interest Theory

    A theory which holds that a security with a high degree of short ...
Related Articles
  1. What Does The Dow Jones Industrial Average ...
    Investing Basics

    What Does The Dow Jones Industrial Average ...

  2. Pick the Right Brokerage Account for ...
    Options & Futures

    Pick the Right Brokerage Account for ...

  3. Charging Bull-The Brass Icon of Wall ...
    Investing Basics

    Charging Bull-The Brass Icon of Wall ...

  4. Should You Invest In Fannie Mae Stock? ...
    Investing News

    Should You Invest In Fannie Mae Stock? ...

  5. What The Daily 1% Price Mean For ETF ...
    Mutual Funds & ETFs

    What The Daily 1% Price Mean For ETF ...

Trading Center