Long Trades vs. Short Trades: Which Should You Use?

Photo:

The Balance / Hilary Allison

Long trades are those intended to profit from rises in a security’s price. Short trades are those designed to profit from drops in a security’s price. Often, long trades involve buying shares and selling them at a profit, while short trades involve borrowing shares to sell now, then buying them back later, hopefully at a lower price than the initial sale.

Key Takeaways

Long trades involve buying then selling assets to profit from an increase in the asset’s price.
Short trades involve selling a borrowed security and buying it back at a lower price profit from the decrease in its price.
Short trades can be much riskier than long trades, so they should be left to experienced investors.

What’s the Difference Between Long Trades and Short Trades?

Long Trades	Short Trades
Buy shares to sell later	Borrow shares to sell, then buy them back later
Profit from increases in a security’s price	Profit from decreases in a security’s price
Limited risk	Theoretically unlimited risk

How To Complete the Trade

Both types of trades involve buying and selling a security, although executing a long trade and a short trade requires a slightly different process.

Going long on a security uses the process that most investors are familiar with. You purchase a security and hold it for a period, hoping for its price to increase during that time. At a later date, you sell the security, hopefully for a profit.

Note

You might also hear options trades referred to as long or short positions based on how the trader will profit from the options, based on movements in the underlying security’s price.

Shorting, by contrast, involves selling a security first. To start a short trade, you must first borrow shares from someone else, typically your broker. You then sell those shares on the market. You receive cash from the sale but owe a debt to whoever lent you the shares.

Later, you must buy the shares that you borrowed and return them to your lender to repay your debt. When you do this, you complete the short trade. Ideally, you’ll buy the shares for a lower price than you received when selling the borrowed shares, allowing you to keep the difference as profit.

Another important difference between long and short trades is the use of margin. You can place long trades on stocks using your regular brokerage cash account. To carry out short trades or short selling, you need to have a margin account with your broker. The margin account allows you to borrow stocks from your broker.

How To Profit

The greatest difference between long and short trades is how they generate profit.

Long trades profit when the security involved increases in price. Short trades profit when the security involved decreases in price.

For example, if you want to go long on XYZ stock, you could buy 100 shares at $50 each for a total of $5,000 (100 x $50). If XYZ rises to $55 per share, then the value of the shares you own rises to $5,500 (100 x $55). If you sell, you would profit $500 ($5,500 - $5,000) on the trade. If XYZ fell to $45 per share, your shares would be worth $4,500 (100 x $45) and you’d lose $500.

If you decided to short the XYZ stock, you’d need to borrow 100 shares from your broker. Now suppose you agree to sell those shares for $50 a share. That would mean you would receive $5,000 (100 x $50) in exchange for those shares. Only, you don’t own those shares. To return the shares to your broker, you would need to buy 100 shares.

If the share price of XYZ drops to $45 per share, you can buy the 100 shares for $4,500 (100 x $45). Since you only spend $4,500 but receive $5,000, your profit would be $500. However, if the price of XYZ stock rises to $55 per share, you would need to spend $5,500 (100 x $55) and you’d be spending more than you make on the trade, leading to a loss of $500.

Risk

It’s very important to understand the difference in risk between long trades and short trades. The risk for a long trade is limited. If you buy a stock for $20, the worst-case scenario is that its price falls to $0 and you lose $20. The price cannot be negative, meaning your total risk is the amount you invested.

When you short a security, your potential risk is unlimited. Eventually, you must repurchase the stock you sold short. There is no limit to how high a stock’s price can rise. If you short sell a share for $20, it could rise to $40, $100, $100,000, or even higher, so you could wind up losing much more through shorting than through long trades.

Special Considerations for Shorting

One important thing to consider when using a short trading strategy is that the SEC places some restrictions on short sales. Large-scale short sales can drive down a stock’s price quickly, which led the SEC to impose the alternative uptick rule in 2010.

This rule states that if a stock’s price drops 10% or more from its previous closing price in one day, short sales will be limited. They can only occur if the stock’s price is above the current highest price at which an investor is willing to buy the stock.

Note

The SEC has warned investors about potential stock manipulation occurring on social media and websites. Some malicious actors may encourage people to short (or go long) on a stock in efforts to manipulate the market, which can cause victims to lose significant amounts of money.

Which Is Right for Me

Long and short trades fill two different niches. If you believe that a stock’s price will rise, go for a long trade. If you think it will fall, a short trade will let you profit from that price movement.

However, for most investors, long trades will generally be the better way to go. They’re less risky, and shorting stocks can be complicated. Only consider short trades if you’re an experienced trader and can handle the high risk.

The Bottom Line

Long trades and short trades are two strategies that traders can use to profit from movements in a stock’s price. Long trades are more commonly used by investors who want to buy and hold a stock in hopes that it appreciates in price. Short selling is popular with day traders but exposes investors to much greater risk.

Frequently Asked Questions (FAQs)

How long do long trades take to settle?

The U.S. stock markets operate on a T+2, or trade date plus two days, settlement cycle, which means that in general, it takes two days from the time a long trade occurs for those trades to settle.

What is short selling?

Short selling is a transaction where the trader hopes to profit from a decrease in the price of a security. It involves borrowing a security from someone (normally, your broker), then selling it on the market. You would need to buy the security to return the shares to your broker. If the price of the security decreases, you would buy the security at a lower price than you already agreed to sell it, and the difference would be the profit.

How do you make money shorting stocks?

Short sellers make money by betting that a stock’s price would go down. If you borrow a share and sell it for $50, then buy it back for $40 and return it to your lender, you get to keep the $10 difference as profit. However, since the price of a stock can keep increasing theoretically, short sellers face unlimited risk.

Was this page helpful?

Thanks for your feedback!

Tell us why!

Sources

The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.

U.S. Securities and Exchange Commission. “Stock Purchases and Sales: Long and Short.”
Charles Schwab. “Short Selling: The Risks and Rewards.”
Fidelity Investments. “Margin and Selling Short.”
U.S. Securities and Exchange Commission. “Key Points About Regulation SHO.”
U.S. Securities and Exchange Commission. “SEC Approves Short Selling Restrictions.”
U.S. Securities and Exchange Commission. “Thinking About Investing in the Latest Hot Stock?”
U.S. Securities and Exchange Commission. “Key Points About Regulation SHO: What Is Meant by T+2?”
U.S. Securities and Exchange Commission. “Short Sale Restrictions.”