What Is Long and Short in Trading?

In financial markets, traders use “going long” and “going short” to potentially profit from asset price movements. These foundational strategies allow participants to gain from either an increase or a decrease in an asset’s value.

Taking a Long Position

A long position involves buying an asset with the expectation its price will increase over time. This strategy is based on a bullish outlook, where the investor anticipates selling the asset at a higher price than initially paid. The profit is the difference between the selling price and the original buying price.

When executing a long position, various costs can be incurred. Many brokerage firms now offer commission-free trading for stocks and exchange-traded funds, which can significantly reduce transaction expenses. For brokers that charge commissions, these fees can range from approximately $5 to $15 per trade or 1% to 2% of the total transaction value, depending on the type of brokerage service. Minor regulatory fees, such as the FINRA Trading Activity Fee, also apply to sales of covered securities.

The tax treatment of gains from long positions depends on the holding period of the asset. If an asset is held for one year or less, profit is a short-term capital gain, taxed at the investor’s ordinary income tax rate. If held for more than one year, profit is a long-term capital gain, which benefits from lower tax rates. Brokerage firms provide tax documentation, such as Form 1099-B, for reporting to tax authorities. The maximum potential loss for a long position is limited to the initial amount invested, as an asset’s price cannot fall below zero.

Taking a Short Position

A short position involves selling an asset the trader does not own, with the intent to profit from an anticipated decline in its market price. This strategy is employed when an investor has a bearish outlook on a security or the broader market.

To initiate a short sale, a trader borrows shares from a brokerage firm and immediately sells them on the open market. The objective is to later “cover” the short position by buying back the same number of shares at a lower price, then returning them to the lender. Profit is the difference between the initial selling price and the lower buy-back price, minus any associated costs.

Short selling involves several fees and costs beyond standard trading commissions, which apply to both the initial sale and the subsequent buy-to-cover transaction. A significant expense is the borrowing fee, or stock loan interest, charged by the broker for lending the shares. This fee can vary widely, from negligible amounts for readily available stocks to high annualized rates for hard-to-borrow securities. Additionally, the short seller is obligated to pay the original owner any dividends distributed on the borrowed shares during the period the short position is open.

Executing a short sale requires a margin account as collateral. An initial margin, typically 150% of the short sale’s value, is required. A maintenance margin, generally 25% to 35% of the short market value, must be sustained. If account equity falls below this level, a margin call is issued, requiring additional funds or liquidation of the position.

Short selling is subject to regulatory oversight by the Securities and Exchange Commission (SEC), primarily through Regulation SHO. This regulation is designed to maintain market integrity and prevent manipulative practices. A core component is the “locate” requirement, which mandates that brokers must have reasonable grounds to believe shares can be borrowed before a short sale. This rule aims to prevent “naked short selling,” where shares are sold without being borrowed.

All sell orders must be appropriately marked as “long,” “short,” or “short exempt.” Gains from short sales are generally treated as short-term capital gains.

Comparing Long and Short Trading

Long and short positions differ fundamentally in market expectation and ownership. A long position anticipates a price increase, reflecting a bullish sentiment, while a short position expects a price decline, indicating a bearish outlook. A long position involves owning the underlying asset, whereas a short position involves borrowing an asset not owned by the trader.

These contrasting approaches present different profit and loss dynamics. For a long position, the maximum potential loss is limited to the initial capital invested, as an asset’s price cannot fall below zero. However, potential profit is theoretically unlimited. Conversely, a short position carries theoretically unlimited loss potential, as there is no upper limit to how high an asset’s price can climb. The maximum profit for a short position is limited to the initial selling price, occurring if the asset’s price falls to zero.

Due to unlimited loss potential and complexities like borrowing costs and margin calls, short selling is a higher-risk strategy than a long position. Long positions are favored in rising markets, while short positions are suited for declining market conditions.