Short selling stocks explained: borrowing, costs, short squeezes and shorting with CFDs

Short selling is selling a share you do not own, by borrowing it first, with the aim of buying it back later at a lower price and returning it to the lender. If the price falls, the difference between the sale price and the buy-back price is a gain; if it rises, it is a loss, and because there is no ceiling on how high a share can go, there is no fixed ceiling on that loss.

Most retail traders in Europe and the UK go short through CFDs rather than by borrowing shares directly. The mechanics are simpler, but the underlying realities of shorting, including borrow costs, dividend payments and squeeze risk, still show up in the terms. This guide explains both.

How a traditional short sale works

The steps

1. Locate and borrow. Your broker finds shares that can be lent, usually from institutional investors such as pension funds or from other clients' margin accounts.
2. Sell. You sell the borrowed shares in the market and receive the proceeds, which are held as collateral.
3. Maintain the position. While the short is open, you pay a borrowing fee, pay the lender the value of any dividends, and must keep enough margin in the account.
4. Buy to cover. At some point you buy the same number of shares in the market and return them to the lender, closing the short.

Your result is the sale price minus the buy-back price, multiplied by the number of shares, minus fees and dividends paid.

Why someone would short

Short selling has several uses:

• Expressing a negative view on a company, for example one the trader considers overvalued or in decline.
• Hedging. A fund that owns shares in an industry might short a competitor or an index to reduce exposure to the sector as a whole. The hedging glossary entry explains the idea.
• Market making and arbitrage. Dealers who provide prices often go short temporarily as part of normal business.

Short sellers are sometimes criticised, but many market participants argue they contribute to price discovery and sometimes expose overvalued or fraudulent companies.

The rules around borrowing

Locate requirements and naked shorting

In the US, SEC Regulation SHO requires brokers to have reasonable grounds to believe the shares can be borrowed before a short sale is executed (the "locate" requirement), and imposes close-out requirements when trades fail to settle. Selling short without arranging a borrow, known as naked short selling, is restricted in both the US and the EU.

Short sale price restrictions

The US has a price test known as Rule 201, sometimes called the alternative uptick rule. When a share falls by 10% or more from the previous day's close, short sales in that share are generally allowed only at a price above the current best bid for the rest of that day and the following day. The rule is intended to stop short selling from accelerating a fall.

Disclosure in the EU

Under the EU Short Selling Regulation, holders of net short positions in shares must notify the national regulator once their position reaches 0.1% of the company's issued share capital, and positions of 0.5% and above are published. The 0.1% notification threshold has applied permanently since early 2022, having previously been 0.2%. These rules mainly affect funds rather than small retail positions, but the published data is one way to see which companies are heavily shorted. The UK has its own short selling regime, which has been revised since Brexit, so check the FCA's current rules if this matters to you.

What short sellers pay

Borrowing fees

Lenders charge a fee, usually quoted as an annual percentage of the value of the borrowed shares and charged daily. For most large, liquid shares the fee is small. For shares in high demand to borrow and short supply, called "hard to borrow", fees can be many times higher and can change from day to day.

Dividends

The person who lent you the shares is still entitled to the dividend. When a shorted share goes ex-dividend, the short seller pays an amount equal to the dividend. Our guide to dividends and corporate actions covers ex-dividend dates; a short held over one costs you the dividend amount, though the share price tends to drop by roughly the dividend on the ex-date.

Recalls and buy-ins

The lender can ask for the shares back. If the broker cannot find replacement shares to borrow, the short may be closed by buying shares in the market, possibly at a bad moment. This is more likely in heavily shorted shares, which are exactly the ones where a squeeze can occur.

Margin

Short positions require margin, and because losses grow as the price rises, the margin needed also grows. If the account falls below the requirement, you face a margin call or forced closure.

The asymmetry of short positions

When you buy a share at 50.00, the most you can lose is 50.00 per share, if it falls to zero. When you short at 50.00, the most you can gain is 50.00 per share, but the potential loss is not capped, because the price can in principle rise to 100, 200 or beyond.

That asymmetry has practical consequences:

• Losses can accelerate. As a short loses money, the position also gets larger relative to the account, because the exposure is the number of shares times a rising price.
• Gaps hurt. A takeover bid, strong earnings or a regulatory approval can send a share sharply higher overnight. A stop loss will be filled at the first available price, which can be far above your stop. Our guide to earnings season explains why reporting dates are a particular gap risk.
• Time can work against you. Borrow fees and dividends accumulate the longer the short is held.

Short interest and days to cover

Two common measures show how crowded a short is:

• Short interest: the number of shares sold short, often expressed as a percentage of the free float (shares available for public trading).
• Days to cover: short interest divided by average daily trading volume. It estimates how many days of normal volume it would take for all shorts to buy back.

Illustrative numbers: if 30 million shares are sold short and average daily volume is 5 million shares, days to cover is 30 ÷ 5 = 6 days. A high short interest and a high days-to-cover figure mean that, if many shorts tried to close at once, their buying would be large compared with normal trading.

In the US, short interest is reported periodically by FINRA and published by exchanges and data providers. It is not real-time data, so treat it as a snapshot.

Short squeezes

How a squeeze works

A short squeeze happens when a heavily shorted share starts to rise and short sellers rush to buy back, either because their losses hit their limits, their margin runs out or their borrowed shares are recalled. That buying pushes the price up further, which forces more shorts to cover, and so on. The rise can be far larger than anything justified by news about the company, and it can reverse just as quickly once the covering is done.

GameStop, January 2021

The best-known recent example is GameStop in January 2021. Short interest in the shares had been very high, by many accounts above 100% of the free float, which is possible because lent shares can be lent again. During January, heavy buying by retail investors, much of it coordinated on social media, and buying by short sellers covering their positions drove the share price up dramatically. According to the SEC's staff report on the episode, published in October 2021, the share price rose about 2,700% from its intraday low on 8 January to its intraday high of 483 dollars on 28 January.

On 28 January several retail brokers restricted customers from buying GameStop and some other heavily traded shares, citing clearing house collateral requirements, which caused considerable controversy. The SEC report found that short covering contributed to the price rise but that the rally continued after much of the covering was done, pointing to the role of positive investor sentiment. Some funds with large short positions reported heavy losses.

Two details are useful for anyone looking at charts today. First, GameStop later carried out a 4-for-1 split in 2022, so split-adjusted charts show the January 2021 peak at about a quarter of the price quoted at the time; see our guide to stock splits. Second, the episode was a reminder that crowded positions can move violently in either direction, and that the price swings hit buyers who arrived late as well as shorts.

Shorting with share CFDs

How it works

With a share CFD, going short simply means opening a sell position. You do not borrow shares yourself; you enter a contract with your provider that pays you if the price falls and costs you if it rises. The provider may hedge its exposure by shorting the real shares, in which case it faces the borrowing costs and recall risk described above, and it passes some of that through to you in its terms.

Costs and terms to check

• Overnight financing. Short CFD positions are usually adjusted daily by a benchmark interest rate minus or plus the provider's charge. Depending on the benchmark and the charge, a short may receive a small credit or pay a debit. Our guide to swap and overnight financing explains the principle.
• Borrowing charges. For hard-to-borrow shares, many providers add a separate borrowing fee to short positions, which can be substantial and can change.
• Dividend debits. Short positions are debited the dividend amount on the ex-date.
• Availability. Providers can decline to offer shorts in some shares, close existing shorts if the hedge is recalled, or restrict new shorts in volatile names.
• Leverage. Under ESMA rules, retail share CFDs are capped at 5:1 leverage, so 20% margin, with a 50% margin close-out rule and negative balance protection.

Worked example: a short CFD position

Illustrative numbers only. You sell a share CFD for 100 shares at 50.00.

• Exposure: 100 × 50.00 = 5,000.
• Margin at 20%: 1,000.

Daily financing: assume an annual benchmark of 4.0% and a provider charge of 3.0%, so a short receives 4.0% − 3.0% = 1.0% a year.

• Daily credit: 5,000 × 1.0% ÷ 365 ≈ 0.14.

Now assume the share is hard to borrow and the provider adds a borrowing charge of 5.0% a year.

• Daily borrow charge: 5,000 × 5.0% ÷ 365 ≈ 0.68.
• Net daily cost: about 0.68 − 0.14 = 0.54, or roughly 16 over a 30-day month.

If the share pays a dividend of 0.40 while you are short, your account is debited 100 × 0.40 = 40.

Now the price moves:

• If the share falls to 45.00, the gain is 100 × 5.00 = 500, before costs.
• If it rises to 65.00, the loss is 100 × 15.00 = 1,500, which is more than the 1,000 margin. Long before that point, your margin level would have fallen to the close-out level and the provider would have closed the position. The margin call and stop-out guide explains how that works.

The instruments profit and loss calculator can show the result of any price move on a share CFD position.

Sizing a short

Because of gaps and squeezes, position sizing for shorts deserves extra care. Size from the distance to your stop as usual, as in our guide to position sizing, then ask what would happen if the share gapped well beyond it, for instance on a takeover bid. If that loss would be unacceptable, the position is too large.

Shorting an index instead

Shorting a stock index CFD spreads exposure across many companies, so a single takeover or squeeze has less effect. Index shorts still face dividend adjustments on price indices and the long-run tendency of broad indices to rise over time, which works against a short held for long periods. Leverage on major index CFDs is higher (20:1 for retail under ESMA), which magnifies both directions.

Common mistakes

• Treating a short as the mirror image of a long. The loss on a short is not capped by the share falling to zero.
• Ignoring holding costs. Borrow charges, dividend debits and financing add up, especially on hard-to-borrow shares.
• Shorting a crowded name without checking short interest. High short interest can fuel a squeeze.
• Holding a short through earnings or a known catalyst. Gaps can jump far beyond a stop.
• Assuming the provider will always let you keep the position. Shorts can be restricted or closed if borrow becomes unavailable.
• Adding to a losing short. As the price rises, the position grows relative to the account, and averaging up increases the damage if the squeeze continues.

Frequently asked questions

Can you lose more than you invest when short selling?

With a traditional short, yes: the loss is not capped because the price can keep rising. With CFDs, retail clients in the EU and UK have negative balance protection, so the account cannot go below zero, but you can still lose your entire balance, and losses can exceed the margin on the position.

What is a short squeeze?

A short squeeze happens when a heavily shorted share rises and short sellers buy back to limit losses or meet margin calls. Their buying pushes the price higher, forcing more shorts to cover. The resulting rise can be large and fast, and can reverse sharply once the covering ends.

What happened with GameStop in January 2021?

GameStop shares, which were heavily shorted, rose about 2,700% between 8 January and their intraday high of 483 dollars on 28 January 2021, according to the SEC's later staff report. Retail buying and short covering both contributed. Several brokers restricted buying on 28 January, and some funds with short positions lost heavily.

Do I pay dividends if I am short a share CFD?

Yes. On the ex-dividend date your short position is debited an amount equal to the dividend, mirroring what a short seller of the real shares must pay the lender.

Why can't I open a short on some shares?

Providers restrict shorts when the underlying shares are hard to borrow, when the share is very volatile, during corporate events, or when regulators impose temporary short-selling bans. Restrictions can apply to new positions only or, in some cases, to existing ones.

Is short selling legal?

Yes, in most major markets, subject to rules such as locate requirements, restrictions on naked short selling, price tests like the US Rule 201 and disclosure of large positions. Regulators can and occasionally do impose temporary bans during periods of market stress.