Short Futures Position

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Short Futures Position

The short futures position is an unlimited profit, unlimited risk position that can be entered by the futures speculator to profit from a fall in the price of the underlying.

The short futures position is also used by a producer to lock in a price of a commodity that he is going to sell in the future. See short hedge.

Short Futures Position Construction
Sell 1 Futures Contract

To create a short futures position, the trader must have enough balance in his account to meet the initial margin requirement for each futures contract he wishes to sell.

Unlimited Profit Potential

There is no maximum profit for the short futures position. The futures trader stands to profit as long as the underlying asset price goes down.

The formula for calculating profit is given below:

  • Maximum Profit = Unlimited
  • Profit Achieved When Market Price of Futures

Unlimited Risk

Heavy losses can occur for the short futures position if the underlying asset price rises dramatically.

The formula for calculating loss is given below:

  • Maximum Loss = Unlimited
  • Loss Occurs When Market Price of Futures > Selling Price of Futures
  • Loss = (Market Price of Futures – Selling Price of Futures) x Contract Size + Commissions Paid

Breakeven Point(s)

The underlier price at which break-even is achieved for the short futures position position can be calculated using the following formula.

  • Breakeven Point = Selling Price of Futures Contract

Example

Suppose June Crude Oil futures is trading at $40 and each futures contract covers 1000 barrels of Crude Oil. A futures trader enters a short futures position by selling 1 contract of June Crude Oil futures at $40 a barrel.

Scenario #1: June Crude Oil futures drops to $30

If June Crude Oil futures is trading at $30 on delivery date, then the short futures position will gain $10 per barrel. Since the contract size for Crude Oil futures is 1000 barrels, the trader will net a profit of $10 x 1000 = $10000.

Scenario #2: June Crude Oil futures rises to $50

If June Crude Oil futures instead rallies to $50 on delivery date, then the short futures position will suffer a loss of $10 x 1000 barrel = $10000 in value.

Daily Mark-to-Market & Margin Requirement

The value of a short futures position is marked-to-market daily. Gains are credited and losses are debited from the future trader’s account at the end of each trading day.

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If the losses result in margin account balance falling below the required maintenance level, a margin call will be issued by the broker to the futures trader to top up his or her account in order for the futures position to remain open.

Synthetic Short Futures

An equivalent position known as a synthetic short futures position can be constructed using only options.

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Short (Short Position)

What is a Short (or Short Position)

A short, or a short position, is created when a trader sells a security first with the intention of repurchasing it or covering it later at a lower price. A trader may decide to short a security when she believes that the price of that security is likely to decrease in the near future. There are two types of short positions: naked and covered. A naked short is when a trader sells a security without having possession of it. However, that practice is illegal in the U.S. for equities. A covered short is when a trader borrows the shares from a stock loan department; in return, the trader pays a borrow-rate during the time the short position is in place.

In the futures or foreign exchange markets, short positions can be created at any time.

Long Position vs. Short Position: What’s the Difference?

Long Position vs. Short Position: What’s the Difference?

When speaking of stocks and options, analysts and market makers often refer to an investor having long positions or short positions. While long and short in financial matters can refer to several things, in this context, rather than a reference to length, long positions and short positions are a reference to what an investor owns and stocks an investor needs to own.

Understanding a Long Position vs. a Short Position

Long Position

If an investor has long positions, it means that the investor has bought and owns those shares of stocks. By contrast, if the investor has short positions, it means that the investor owes those stocks to someone, but does not actually own them yet.

For instance, an investor who owns 100 shares of Tesla (TSLA) stock in his portfolio is said to be long 100 shares. This investor has paid in full the cost of owning the shares.

Key Takeaways

  • With stocks, a long position means an investor has bought and owns shares of stock.
  • On the flip side of the same equation, an investor with a short position owes stock to another person but has not actually bought them yet.
  • With options, buying or holding a call or put option is a long position; the investor owns the right to buy or sell to the writing investor at a certain price.
  • Conversely, selling or writing a call or put option is a short position; the writer must sell to or buy from the long position holder or buyer of the option.

Short Position

Continuing the example, an investor who has sold 100 shares of TSLA without yet owning those shares is said to be short 100 shares. The short investor owes 100 shares at settlement and must fulfill the obligation by purchasing the shares in the market to deliver.

Oftentimes, the short investor borrows the shares from a brokerage firm in a margin account to make the delivery. Then, with hopes the stock price will fall, the investor buys the shares at a lower price to pay back the dealer who loaned them. If the price doesn’t fall and keeps going up, the short seller may be subject to a margin call from his broker.

A margin call occurs when an investor’s account value falls below the broker’s required minimum value. The call is for the investor to deposit additional money or securities so that the margin account is brought up to the minimum maintenance margin.

Key Differences

When an investor uses options contracts in an account, long and short positions have slightly different meanings. Buying or holding a call or put option is a long position because the investor owns the right to buy or sell the security to the writing investor at a specified price.

Selling or writing a call or put option is just the opposite and is a short position because the writer is obligated to sell the shares to or buy the shares from the long position holder, or buyer of the option.

For example, an individual buys (goes long) one Tesla (TSLA) call option from a call writer for $28.70 (the writer is short the call). The strike price on the option is $275 if TSLA trades for $303.70 on the market.

The writer gets to keep the premium payment of $28.70 but is obligated to sell TSLA at $275 if the buyer decides to exercise the contract at any time before it expires. The call buyer who is long has the right to buy the shares at $275 at expiration from the writer if the market value of TSLA is greater than $275 + $28.70 = $303.70.

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