What does shorting the pound mean and how can you short pound sterling?
Fluctuations are a certainty in the forex market – but this can be a good thing, as you can make a profit even when a currency declines in value. In this article, you’ll learn how to short the pound and benefit if it depreciates.
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What does shorting the pound mean?
Shorting (or ‘selling’) the pound means taking a position that will earn you a profit if the value of the pound goes down in relation to other currencies. Selling is the opposite of going long (buying), which means taking a position that makes profit if the pound’s market price increases.
Forex is traded in pairs, with a base currency (the first currency in the pair) and a quote currency (the second currency) in each pair. When you open a long (buy) position, you are in effect buying the base currency and selling the quote. If the base strengthens against the quote, you make a profit.
When shorting (selling) a currency pair, you are doing the opposite: you’ll profit if the base currency weakens against the quote currency.
So there are two ways to short the pound:
- sell a pair with the pound as the base currency
- buy a pair with the pound as the quote currency
Let’s use GBP/USD as an example. The price of GBP/USD is 1.22075 (so it costs $1.22 to buy £1) and you think GBP is going to decrease in value against USD – so you open a short position. If the price quote drops below 1.22075 by more than the spread, you will make a profit.
You can short currency pairs using derivatives such as spread bets and CFDs. These financial products enable you to go long and short on a market without owning the underlying assets. And, you only have to put up a small deposit (margin) to open your position. Note that trading on margin could magnify your profits, as well as your losses.
How to short the pound
- Research the forex pair you want to trade, for example GBP/USD
- Carry out analysis on that forex pair, choose a forex trading strategy and create a risk management plan
- Create an IG account or log in to your existing account
- Open your first position: click on ‘sell’ if GBP is the base currency or ‘buy’ if it’s the quote
Example of shorting the pound
Assume GBP/USD is trading at 1.22075, with a buy price of 1.22080 and a sell price of 1.22070. You think that the pound is set to lose value against the US dollar, so you decide to sell (go short on) GBP/USD at 1.22070.
Selling a single standard GBP/USD CFD is the equivalent of trading £100,000 for $122,070. You decide to sell three CFDs, giving you a total position size of $366,210 (£300,000). Your margin for this trade is $12,194.79 (3.33% of the trade value).
GBP/USD falls to 1.21420, and you close your position by buying three contracts at the new buy price of 1.21425. Your profit would be $1935 ($366,210 - $364,275).
1.22070 (USD original sell price) * 3 (contract) * 100,000 (unit) - 1.21425 (USD buy price) * 3 (contract) * 100,000 (unit) = $1935
Which currencies can you sell the pound against?
There are many currencies that you can sell the pound against, including USD, EUR, AUD and NZD. Or, using CFDs or spread betting, you can go long or short on any currency pair involving the pound.
Each currency pair is different and will be affected by different factors – it all depends on the countries involved. For example, GBP/USD will be affected by political events and monetary policy in both the UK and the US. Some forex pairs move in wider bands than others, which is why it’s important for traders to research both sides of the pair.
What factors influence the price of the pound?
A country's currency is affected by how easily and freely it can be traded and the demand and supply of the currency. This is determined by a number of factors, in the case of the pound including:
The UK's economic performance and outlook
The economic performance and outlook of a country is mainly determined by its gross domestic product (GDP) – a proxy for the size and health of a country’s economy, usually measured over a quarter or a year, as well as its consumer price index (CPI) and producer price index (PPI), on a monthly and yearly basis.
CPI is a measure of the average change over time in the prices paid by urban consumers for a basket of consumer good and services. PPI measures the average movements of prices received by domestic producers for goods and services sold on the domestic and/or on export markets over a given time period.
Interest rate expectations in the UK
Interest rates in the UK are set by the Bank of England. Interest rates play a major role in that, all things being equal, the currency of a country with higher interest rates - or anticipated higher interest rates - tends to rise against currencies of countries with lower interest rates.
The reason for this is because speculators and businesses will buy the higher interest currency and invest in its country in order to receive the higher interest. This is known as a carry trade.
These factors determine whether businesses, speculators and investors want to buy the pound (demand) or sell it (supply). Investors and businesses compare this fundamental data country by country and, importantly, look at their future expectations before deciding which currencies to invest in.
This information has been prepared by IG, a trading name of IG Markets Limited. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients. See full non-independent research disclaimer and quarterly summary.
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