What Is Naked Shorting and Is It Evil?

Published August 24, 2021

If there’s one topic that gets our community riled up, it’s naked shorting.

So what is naked shorting?

Naked shorting is shorting a stock without having borrowed the stock in the first place.

Typically, when you short a stock, you do this:

  1. You borrow shares of a particular stock through your broker
  2. You sell those shares (the act of shorting)
  3. You hope to repurchase the shares at a lower price, leaving you a profit.

Naked shorting takes the borrowing part out of the equation – which makes the practice 100% unfair to you.

How Naked Shorting Works

Traders (typically institutions and dirty hedgies) engage in naked shorting when there are limited shares available to short. 

The traders take a short position anyway, by arranging to borrow them later with the help of an unscrupulous broker. 

This is not open to the average retail trader that wants to short a stock that is not available for borrow.

When exiting a naked short position, there is the risk of “failing to deliver,” and the short trade will remain open until a buyer is found. Failing to deliver is often the first indicator that naked shorting is taking place.

Why Is Naked Shorting Bad?

Well first, it’s unfair. 

We know what you’re thinking – life isn’t fair.

But naked shorting is illegal for good reason.

Naked shorting impacts the liquidity of a stock because it allows traders to take trades that should be technically impossible.

Naked short-sellers are literally manipulating supply and demand.

Could Naked Shorting Be a Good Thing?

Some clowns argue that naked shorting creates a more natural balance between shorts and traditional long investors. It allows more traders to express negative views on a stock.

That argument is BS because people should not be allowed to sell things they don’t own or borrow.

Like, you can’t short sell your brother in law’s mansion. 

Naked Shorting in GameStop (GME)

There are loopholes in the naked shorting regulations allowing the practice to be exploited today. Traditionally when lending shares, institutions must own or be able to locate shares. 

Naked shorting has allowed brokerage firms to gain unfair advantage by lending out artificial shares to traders with limited reporting and oversight. 

This past January, naked shorting created a short position in Gamestop of 140%, meaning there were more shares being sold short then in existence. 

Then, there was a big fat short squeeze and 1 million shares failed to deliver. 

How is this allowed to happen in 2021?

We can launch rockets to Mars and transplant human hearts. 

You’re telling me we can’t count shares?

The Bottom Line About Naked Shorting

It sucks.

Do you like it? Let us know in the comments.

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