A short sale occurs when a trader initiates a position by selling with the intention of repurchasing or “covering” it later at a lower price. Short sellers provide liquidity and help the markets to function and remain balanced.
Although short selling, or “shorting” is possible in the stock market, futures markets have certain advantages when it comes to playing the short side.
Going Short without Restrictions
What Are the Benefits of Short Selling Futures vs Stocks?
- No Added Costs: When you sell a stock short, you have to borrow shares from a broker and pay a “borrow rate” for the duration of the trade. However, in futures markets no borrowing is necessary and you can create short positions at any time with no extra cost.
- No Uptick Rule: The uptick rule, also known as the “plus tick rule,” requires short sales of stocks to be executed at a higher price than the previous trade. Established by the Securities and Exchange Commission (SEC), the uptick rule is intended to prevent sellers from driving down the price of a security already in decline. There is no such uptick rule in futures markets and a short seller can initiate a position without sacrificing a tick.
- No Pattern Day Trader Rule: The pattern day trader rule requires day traders of stocks and stock options to maintain a minimum of $25,000 in their margin accounts. A “pattern day trader” is defined as one who executes four or more round turn trades within 5 business days (on the same account). Since there is no such rule in futures trading, you can trade long or short multiple times a day or week without worrying about day trading restrictions.
- Near 24-Hour Access: Compared to stocks & ETFs which have a regular trading session of only 6.5 hours, futures products trade nearly 24 hours a day, 6 days a week. This allows for more trading opportunity and the ability to manage positions any time of day.
- No Additional Margin Required: Futures margin is the amount of money you must have in your brokerage account to protect against possible losses on an open trade. It generally represents a much smaller percentage of the contract, typically 3-12% of the notional futures contract value. There is no additional margin required for going short in futures markets, although margins are subject to increases at any time.
Understanding the Risks of Short Selling
All short selling involves “unlimited” risk potential, since theoretically price can rise indefinitely. As such, only risk capital should be used for futures trading and traders should employ risk management methods whenever possible. Check out these risk management tips for futures traders.
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