Sell short

Selling short is a trading strategy that's designed to take advantage of an anticipated drop in a stock's market price.

To sell short, you borrow shares through your broker, sell them, and use the money you receive from the sale as collateral on the loan until the stock price drops.

If it does, you then buy back the shares at a lower price using the collateral, and return the borrowed shares to your broker plus interest and commission. If you realize a profit, it's yours to keep.

Suppose, for example, you sell short 100 shares of stock priced at $10 a share. When the price drops to $7.50, you buy 100 shares, return them to your broker, and keep the $2.50-per-share profit minus commission. The risk is that if the share price rises instead of falls, you may have to buy back the shares at a higher price and suffer the loss.

During the period of the short sale, the lender of the stock is no longer the registered owner because the stock was sold. If any dividends are paid during that period, or any other corporate actions occur, the short seller must make the lender whole by paying the amount that's due. However, that income is taxed at the lender's regular rate, not the lower rate that applies to qualifying dividend income.