Naked Shorting

AAA

DEFINITION of 'Naked Shorting'

The illegal practice of short selling shares that have not been affirmatively determined to exist. Ordinarily, traders must borrow a stock, or determine that it can be borrowed, before they sell it short. But due to various loopholes in the rules and discrepancies between paper and electronic trading systems, naked shorting continues to happen.

While no exact system of measurement exists, most point to the level of trades that fail to deliver from the seller to the buyer within the mandatory three-day stock settlement period as evidence of naked shorting. Naked shorts may represent a major portion of these failed trades.

BREAKING DOWN 'Naked Shorting'

Naked shorting is illegal because it allows manipulators a chance to force stock prices down without regard for normal stock supply/demand patterns.

In 2007, the Securities and Exchange Commission (SEC) amended Regulation SHO to further limit possibilities for naked shorting by removing loopholes that existed for some broker/dealers. Regulation SHO requires lists to be published that track stocks with unusually high trends in "fail to deliver" shares. Some analysts point to the fact that naked shorting, albeit inadvertently, may help markets stay in balance by allowing the negative sentiment to be reflected in certain stocks' prices.

RELATED TERMS
  1. Short Selling

    The sale of a security that is not owned by the seller, or that ...
  2. Spotting Clues In Qs

    A method of selecting short-selling candidates based on identifying ...
  3. Regulation SHO

    A regulation implemented on January 3, 2005 that seeks to update ...
  4. Threshold List

    A daily public accounting of market settlement system failures ...
  5. Failure To Deliver

    An outcome in a transaction where one of the counterparties in ...
  6. Custody-Only Trading

    A system in which shares must be registered to the holder by ...
Related Articles
  1. Options & Futures

    The Truth About Naked Short Selling

    The media demonizes naked short selling, but in most cases it occurs in a collapse, rather than causing it.
  2. Active Trading Fundamentals

    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.
  3. Active Trading Fundamentals

    The Short And Distort: Stock Manipulation In A Bear Market

    High-quality stock reports needn't be confused with stock manipulators' dramatic claims.
  4. Active Trading Fundamentals

    Short Selling Tutorial

    Want to profit on declining stocks? This trading strategy does just that.
  5. Stock Analysis

    Investors Need to Stop Shorting GoPro. Here's Why

    Discover why investors should stop shorting GoPro. GoPro has been one of the fastest-growing companies since 2005 with many betting against more growth.
  6. Chart Advisor

    Stocks to Short...When the Dust Settles

    Four short trades to consider, but not quite yet. Let the dust settle and wait for a pullback to resistance for a higher probability trade.
  7. Stock Analysis

    3 Reasons to Short Monster Beverage

    Learn why, despite the popular perception of Monster Beverage as a high-growth stock, investors may be better off taking a short position on it.
  8. Trading Strategies

    Are You a Trend Trader or a Swing Trader?

    Swing traders and trend traders execute market timing strategies that require different skill sets.
  9. Investing

    Predictions For The Stock Market

    Learn different choices and strategies that can be used to create a profit regardless of what direction the market is going.
  10. Active Trading Fundamentals

    Looking to Go Short on China? Here's How

    Learn how to take short positions on markets in China by investing in long and short exchange-traded funds focusing on the Chinese equities market.
RELATED FAQS
  1. How does somebody make money short selling?

    Short selling is a fairly simple concept: you borrow a stock, sell the stock and then buy the stock back to return it to ... Read Full Answer >>
  2. How can an investor profit from a fall in the utilities sector?

    The utilities sector exhibits a high degree of stability compared to the broader market. This makes it best-suited for buy-and-hold ... Read Full Answer >>
  3. How can an investor profit from a decline in the real estate sector?

    Speculation enables investors to profit from a decline in the real estate sector. The most popular forms of speculation for ... Read Full Answer >>
  4. How can I evaluate if a stock is a short squeeze?

    To evaluate whether a stock is a short squeeze, traders should examine its fundamentals, short interest and price history. ... Read Full Answer >>
  5. What is the difference between a short squeeze and short covering?

    "Short covering" and "short squeeze" are different terms to describe a situation involving short positions. A short squeeze ... Read Full Answer >>
  6. How does days to cover a short position relate to a short squeeze?

    Days to cover a short position reveals the intensity and duration of a potential short squeeze. A short squeeze occurs when ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Alligator Spread

    An unprofitable spread that occurs as a result of large commissions charged on the transaction, regardless of favorable market ...
  2. Tiger Cub Economies

    The four Southeast Asian economies of Indonesia, Malaysia, the Philippines and Thailand. Tiger cub economy indicates that ...
  3. Gorilla

    A company that dominates an industry without having a complete monopoly. A gorilla firm has large control of the pricing ...
  4. Elephants

    Slang for large institutions that have the funds to make high volumes trades. Due to the large volumes of stock that elephants ...
  5. Widow's Exemption

    In general terms, a widow's exemption refers to the amount that can be deducted from taxable income by a widow, thereby reducing ...
  6. Wedding Warrant

    A warrant that can only be exercised if the host asset, typically a bond or preferred stock, is surrendered. Until the call ...
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!