It seems as though Facebook has finally had the chance to regain a bit of its composure over the past few days as the snarling three-headed media monster’s attention has wandered a bit (for now, at least). I, like many others, admittedly do partake in this particular “guilty pleasure” of the investing world by keeping tabs on how the social network is faring in the market. Yesterday, I observed they closed at around $27 a share ($26.96, to be exact). So naturally, what was the first thing to come to mind? Shorting.
If only we could have foreseen the dramatic and untimely demise Facebook’s stock would inevitably meet over the course of just two weeks; a sizable gain could have been generated by shorting. For those who aren’t familiar with this practice, it is a strategy based heavily on speculation. Basically, if there is a company who’s stock you feel is grossly overpriced, and you are quite certain that it will in fact depreciate in value, you go ahead and “borrow” shares of that stock from a person or establishment who has purchased them prior. So, let’s say you borrow 100 of company “Xs” shares at $20 a share. Right away, you sell them off at face value for a total of $2,000 – then you wait.
A few weeks later, wouldn’t you know it, Xs stock does end up taking a tumble and is now worth a paltry $10 a share. So, you buy back your 100 borrowed shares and return them to who, or what, you originally obtained them from. You have now made a profit of $1,000. This is clearly an exaggerated layman’s version of the practice, but it demonstrates the basic principle.
So, if on Friday, May 18th as I scoffed at Facebook’s $38 opening price, I’d also simultaneously decided to borrow some 1,000 shares of it with plans to short the stock, I would have made a few dollars had I chosen to buy back and return them today (there are various fees that can be tied to shorting stocks that should also be factored in.)
But before you start kicking yourself for not doing this, there was so much hype, who could have really ever known for sure? And, there is always the notion that unlike formal stock investing where you can only lose as much as you put in, theoretically with shorting, you can lose drastic amounts of capital if the stock behaves opposite what you’d predicted and shoots up in value. Shorting is a risky business – is it worth it?
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