How Short Selling Works and How to Take Advantage of It (Part 2)

How Does Short Selling Work in Forex?

Shorting a dollar, another currency, or security has a number of nuances. A broker does not lend you money for free. For example, you borrow U.S. dollars from him and pay a fee every day while the position is open. This is called a margin loan. Leveling the costs is relatively simple - usually, the broker does not charge for the first day of credit, so if you close the position quickly and do not carry it over to the next day, you will be able to avoid additional costs.

Also, forex short has some collateral. This is the amount in your account that will be blocked as collateral until you close the trade. That is, until you pay back the loan to the broker, so he protects himself. For a trader, the most important indicators are the initial margin and the minimum margin. Initial is the collateral required to open a trade, it is calculated by the formula: asset value x risk rate. The minimum margin is the number of funds on the account required to support the opening of a transaction, this margin is 0.5 of the initial margin.

When opening a short on the exchange, you need to consider the value of the liquid portfolio, which is calculated by the formula: the value of assets on the client's account - debt to the broker. If the portfolio is not liquid enough, the broker will not lend funds or forcibly close the position if it is already open.

Finally, leverage and risk rate. Leverage (leverage) determines the potential for a loan. For example, with a leverage of 1:5, a trader with $100 can borrow another currency or stock from a broker for $500. The amount of leverage is determined by the risk rate (it is also taken into account when calculating the initial margin). The risk rate is the probability of a change in the value of an asset. The indicator is constantly recalculated by the broker, based on market realities. The lower the volatility of an asset, the lower the risk rate and the greater the leverage.

Example of a dollar short:

It is more profitable to open dollar shorts on ECN and STP accounts. We will discuss them in more detail below, now suffice it to say that they are characterized by super-fast execution of orders. This is extremely important for shorting the dollar or any other currency.

So, a trader analyzes the market and understands that the dollar against the euro is about to fall. He borrows $1,000 from his broker, with leverage of 1:3, providing them with euros from his account. Immediately he sells the dollars at $1 for 0.93353 euros. Two hours later, the price of the dollar falls sharply to 0.85334 euros, and the trader buys $3,000 to return it to the broker (after all, he borrowed $1,000 with leverage of 1:3).

In total, immediately selling credit dollars, the trader received 2,800.59 euros. Then he bought $3,000, spending 2,560.02 euros. The dollars are returned to the broker, and the trader's profit is 2800.59 - 2 560.02 = 240.57 euros.

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