https://medium.com/market-protocol/the-value-of-shorting-3855265ee46dEveryone has heard the saying “buy low and sell high.” But what about selling high and buying low? Shorting allows a trader to take advantage of a price decline. By selling at a higher price and subsequently buying at a lower price, one is able to make a profit. The risk is that the price continues to increase. This forces the trader to buy back what he or she sold at a higher price, resulting in a loss.
MARKET Protocol (“MARKET”) enables users to create contracts that are derived or linked to the value of an underlying asset. This linking mechanism (learn more in our white paper) allows an exchange of risk without having to own the underlying asset. It is a financial representation of the price exposure. MARKET’s design allows trader to easily sell (short) or buy (long) contracts ensuring the exact exposure they want.
The Value of the Shorts
One of the most valuable aspects of being able to sell short is hedging. This is especially important in the crypto community. Many people want to consume the utility of the tokens they own without being exposed to so much price volatility. We talked about this in a previous post.
By trading assets that are overvalued, short sellers can make a market more efficient. Occasionally, an asset will become overvalued due to a speculative frenzy, recent hype or even just a large buy order. Short sellers may be able to identify this divergence from fair value and decide to sell it. This helps return the asset to fair value faster. Now others may be willing to buy it, allowing insightful traders to profit from market inefficiencies.
Additionally, by exposing questionable practices, fraud and weak projects, short sellers can make markets more efficient. It gives participants an incentive to seek opportunities that arise from these excessive valuations. As Warren Buffett famously said “Only when the tide goes out do you discover who’s been swimming naked.” It is a check and balance for the market.
Hedging and price discovery are two very valuable features of MARKET Protocol.
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