What is short selling in a prediction market?

The Ultimate Guide to Crowdsourced Forecasting

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As described in our prediction markets intro, the mechanics of a prediction market mimic that of a traditional stock market. In both types of markets, the most common activity of traders is to make "long" trades, which is to say that you are buying that stock. But, like a traditional stock market, prediction markets also support short selling.

Ultimately, short selling a stock is a bet against that stock -- a bet that the value of that stock will go down. In a traditional stock market, this typically involves borrowing shares which you immediately sell. In a prediction market, a short trade is a bet that the answer will ultimately be incorrect. 

Short trades can sometimes be easier to make as a participant. I may feel like I have no idea who is going to win the Super Bowl, making it difficult for me to decide who to buy in the market for who will win the Super Bowl. But I'm very confident that it won't be the Browns. I can make a short trade against the Browns and not have to worry about who is actually going to win, knowing that I'll get paid out so long as the Browns don't win.

When a market is resolved, the correct answer is paid out at $100/share. So if you bought shares of a stock (via a long trade), you are paid $100/share for each of those shares. Short trades work in reverse. Say you shorted 10 shares of the Browns. If the Browns win the Super Bowl, you win nothing and lose whatever you paid to short 10 shares. But if the Browns do not win the Super Bowl, then you are paid $100/share for your 10 short shares.

Typically, shorting a stock in a prediction market is more expensive than buying a stock. This is because, in effect, you are buying a small amount of every other stock in the market, besides the one you are shorting. So if you're shorting the Browns, you're effectively buying every other team.

If you're interested in testing out some short trades in a prediction market with "play" money, you can check out AlphaCast.

Go back to The Ultimate Guide to Crowdsourced Forecasting and Prediction Markets