Strategy and Risk of going short, Analyzed.

Lets talk about trading and shorting:

I will first go over basic concept of shorting (feel free to skip ahead if you already know), its risk involved, and why it is different from a traditional long position. Then, I will talk about short strategies and how hedge funds and traders use it.

Short concept explained:

Going short is essentially a bet that is profitable when price goes down. In order to short a stock or bitcoin, you must borrow the underlying asset from someone else. Instead of buy low sell high like a long position, you sell high buy low. So you sell the asset after you borrow. If the asset price drops, you profit because you can now buy it back for cheaper than you sold it for.

The risk for shorting compared to long:

  1. Markets price is negatively skewed; the fall is faster than the rise. The decline is fast and violent so timing the market for entry and exit becomes very important since timing window is narrow.
  2. Shorting has potentially unlimited loss. In reality, it’s likely your margin call requirement. That is why Bitfinex exchange offers insurance in the off chance that your loss is greater than the margin requirement.

It is very easy to understand the risk#2 because it is just math. However, the first risk is very difficult to grasp for a beginners. This is also subjective so it is best that I cover it with a few examples.