Stock rebates are part of a short-sale transaction, an investment strategy in which the investor anticipates that the stock's price will drop. A short-seller borrows stock, usually from a broker, then sells it to complete the transaction. The short seller buys an equal amount of the same stock at market value and returns it to the lender. The rebate on the stocks involved in a short sale is the amount of interest and dividends that the lender returns to the short seller, and functions to regulate the securities lending market.
1. Open a margin account with a broker. A short-sale transaction involves borrowed stock and is governed by the Securities and Exchange Commission's (SEC) rules regarding margin trading. This means your margin account must hold at least 150 percent of the value of each short-sale transaction.
2. Research stocks to find ones whose value you believe may drop. Indicators such as short interest, which measures the number of open short-sale positions on a stock, can indicate a bullish or bearish outlook. Rising short interest positions may indicate investors feel bearish about a stock.
3. Open a short-sale position with a lender by borrowing shares of a stock, and the proceeds will be deposited in your margin account. Your lender will disclose the interest payments and fees associated borrowing each stock, as well as the rebate to which you are entitled. Stocks that are in high demand for short-selling are often difficult for investors to acquire, which means they are often more expensive to short and have a lower rebate.
4. Close your position by buying the number of shares you borrowed on the open market, then returning them to your lender. Ideally, the price of the stock will have fallen, and you will have realized a profit -- but that isn't always the case. Short-term traders may also decide to close a short-sale position when the stock's price drops enough to offset the fees paid to the lender, essentially making a small profit from the stock's rebate.
- Short-sale transactions are possible with currencies, commodities and other types of securities and options -- not just stocks.
- Prolonging a short-sale position increases the amount of fees you pay to your lender -- though you still will collect a rebate. It also increases your exposure to recall risk and stock splits.
- Not all short-sale transactions qualify for a rebate. Some brokers only offer rebates to clients who have account balances higher than $50,000.
Items you will need
- Margin trading account
- Securities lender
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