How to Short Bitcoin and Other Cryptocurrencies
There’s an old saying in the investment community that says “bulls make money, bears make money, but pigs get slaughtered“. While the implication here is not to be greedy, it makes a good point about how there’s money to be made for investors if companies rise or if companies fall. If you think that a particular asset is going to lose value over time, you can short it. Let’s talk about that.
An Introduction to Shorting
Shorting is simply when you buy shares at today’s price and sell them to someone else. Let’s take an example of a stock called SUX which trades at $100 a share. Let’s say we short 100 shares. That means we sell 100 shares at 100 dollars which increases our cash position by $10,000 but also means we owe our brokerage firm 100 shares of SUX:
- CASH: $10,000
- SHARES OF SUX: -100
Then one month later when SUX loses half its value because John in Mumbai leaked all their customer records, you can buy the shares back at half the price (100 shares at $50 a share = $5,000) and you’re left with a profit of $5,000. That’s how shorting works. One question we get asked a lot is “well if you’re so sure that OTC stocks are going to fail then why don’t you short them?” Let’s talk about that.
Why You Don’t Short Assets
The thing about shorting is that you’re restricted by something called a margin. In our previous example, let’s say that SUX rose in price by 50% to $150 per share. In order to close out our trading position, we would need to buy 100 shares for $15,000 which means we would lose $5,000 on the trade. So how can the brokerage firm make sure we come up with the extra $5,000 dollars needed to close the trade out? Well, that’s something they call “margin” and it’s a form of credit extended to traders. If at some point the price of that stock exceeds our pre-determined margin limit, the trade will be automatically closed out and we’ll lose all our money. That’s why even if it is inevitable that a stock price is going to fall, it can always rise enough to take you out before it falls as you expected it to.
How to Short Cryptocurrencies like Bitcoin
Based on last month’s Nanalyze traffic, exactly 50% of our lovely readers come from the land of the free and the home of the brave. The rest hail from 181 different countries around the world including about a dozen people from Iraq (big shout out to our boys fighting on the front lines). If you fall into the lot of people who are citizens of the United States of America, then this is where you stop reading and start kicking rocks. For the rest of you, here’s how you can short 6 different cryptocurrencies.
Shorting ETR, BTC, DASH, XRP, LTC, and ETHEREUM
There’s a firm out there you probably haven’t heard of called eToro which describes itself as a “social trading and multi asset brokerage company with offices in Cyprus, Israel, and the United Kingdom“. Founded in 2007 by a couple of Israelis, eToro has taken in $72.9 million in funding to build a platform that lets people from around the world (except Americans) do things like trade stocks and foreign currencies, but also participate in more risky things like spread betting and copy trading. With more than 230 million trades conducted on their platform originating from the 6 million traders that use it, they’re fully regulated and your funds are kept safe in Tier-1 European banks. To be honest with you, you’re probably more likely to lose your own money than you are for them to somehow lose your money (that’s called systemic risk by the way).
Fortunately for us, one of our foreign correspondents was willing to pony up 500 euros (the minimum deposit) on his Cathay Pacific frequent flyers card so that we could test out the platform and he could get some frequent flyer points while doing so. Opening up an account was extremely easy. All we had to do was fill in a bunch of information about what sophisticated investors we are (how often we trade, our qualifications, our trading goals, etc.) and before we knew it a prompt appeared asking us to deposit some money. While they accept quite a few methods of payment including PayPal, we just used the Visa method and after a quick SMS verification, we were in with 500 euros to
piss away build our nest egg with. We wasted no time in going right to the cryptocurrencies section where we found 6 (ETR, BTC, DASH, XRP, LTC, and ETHEREUM):
We’re not experts on cryptocurrencies by any means but we would assume that these six currencies represent the most popular ones. One way to check that would be to check out the eToro Crypto CopyFund which is a diversified portfolio of all the popular cryptocurrencies out there. Here’s the breakdown of constituents:
We can see the same six names above and a little digging shows us that this fund is a weighted basket of crypto coins with a market cap above $1 billion and minimum average monthly trading volume of $20 million. Since it requires a minimum of $5,000 to invest in the fund, we’re going to just short the individual currencies. So which one do we short? We asked one of our MBAs who picked ETC because the name sounded kind of funny, so we pulled the trigger and shorted it:
Once we open the trade, it then appears in our portfolio so we can track how much money we’re losing:
We’re just going to let that trade stew for a bit until we finish writing this article and in the meantime tell you why we thinking shorting cryptocurrencies isn’t the brightest idea.
Why Shorting CryptoCurrencies is Risky
When most people talk about cryptocurrencies, they ball everything together into one big hot mess that represents everything from the most “stable” of cryptos (bitcoin) to the ones that are simply laughable (we’re looking at you again Paragon Coin). These fly-by-night initial coin offerings that you see popping up everywhere shouldn’t be in the same class as bitcoin or ethereum but they are. In a recent article we talked about how ICOs are not an investment or an asset class. Consequently, you should stay away from all that garbage unless you want to speculate (as we’ve done here). Even though the majority of ICOs will fail spectacularly, we know that there are more fools out there to drive the price up than money we have to throw at shorting (going back to our earlier lesson on why shorting isn’t the best idea). Speaking of which, let’s close out our trade:
Looks like we lost about $8 on the trade but we suck at speculating so we’re going to lick our wounds and stick to strategies like dividend growth investing. So now that you know how to short cryptocurrencies, all you need to do is open an account with eToro and go to town. Alternatively, you can also open an account and go long cryptocurrencies. eToro’s platform makes it very easy for you to trade the 6 most popular cryptocurrencies out there on the short or long side. Just don’t be a pig.
Blockchain technology has loads of potential but many pitfalls to avoid. While we think cryptocurrencies should be avoided like the plague, we're also holding bitcoin. Want to know why? Become a Nanalyze Premium subscriber and get unlimited access to all our premium articles immediately.