Short-selling, the practice of selling a stock that you do not own, and making profit when the price falls, is not new in India. Retail investors have been doing it in the spot market for long. However, there were no proper procedures to execute and regulate the transactions.
Not any more though. Starting Monday, 21 April, a new set of guidelines and procedures, for both institutional and retail investors, have been put in place by market regulator Securities and Exchange Board of India (Sebi), stock exchanges and brokers, to execute the transaction.
The conventional way of profiting from the market is by buying a stock at a lower price and selling it when the price is higher. The same rule applies in short sales as well, but with a difference. The transactions here happen in the reverse order—the shares are sold first, without actually owning them. The sales are covered later by purchasing the shares when their prices fall.
Long-term investors can earn short-term income by lending shares. But it won’t be a completely risk-free way
Betting right on negative news—events that can pull a stock down—is what earns the profit. Of course, an increase in the price would result in a loss to the short-seller.
So far, retail investors had to cover the shares they sold short—that is, without owning them—by the end of the day they execute the transaction. The new system provides for borrowing shares for a seven-day period and using them to settle the sale of shares within a T+2 (trading day + two days) deadline. The stock exchanges will give an automated platform for an hour everyday to facilitate borrowing and lending of shares, and you will be allowed to sell short only after you enter into a deal to borrow the shares. Till now, the lack of a proper system to borrow shares was a big impediment for short-selling. Understandably, short-sellers are not very popular and are often accused of causing huge market fluctuations. But, they are also credited as the ones who ring the warning bells—they trade on expecting negative news. James Chanos, the hedge fund manager who profited by anticipating the fall of Enron Corp., said during a hearing on the US energy giant’s collapse: “While short-sellers probably will never be popular on Wall Street, they often are the ones wearing the white hats when it comes to looking for and identifying the bad guys.” And, for you, betting on the bad news would require continuous monitoring of the market and the events that affect it.
We give you answers to some frequently asked questions on short-selling:
Can I sell short any stock listed on a stock exchange?
Initially, short-selling will be permitted only in 227 stocks that are also traded in the futures and options segment, where deals can be entered into for making transactions at a future date. Later, the stock exchanges may decide to extend short-selling to a larger universe of stocks.