Trading term

What is Naked short?

A naked short is selling shares short without first borrowing or locating them to borrow. In US equities, Regulation SHO's locate requirement makes it generally prohibited — not merely risky, but against the rules.

An ordinary short sale starts with borrowing: your broker has to have reasonable grounds to believe the shares can be borrowed and delivered before it lets you sell them. Regulation SHO's locate requirement is what makes that step mandatory in US equities. A naked short skips it — the seller sells shares that were never borrowed or located, with nothing standing behind the sale.

That's why naked short selling isn't just a more aggressive version of an ordinary short — it's a practice regulators have moved to stop. When a naked short can't deliver the shares it sold, that's a failure to deliver, and Reg SHO requires the broker to close it out within a set deadline. Stocks with persistent failures to deliver can get placed on a restricted list until the fails clear. The locate requirement, the close-out rule, and the restricted list all exist because of naked shorting specifically, not because of short selling in general.

For example

An ordinary short of 1,000 shares starts with a locate: the broker confirms it can borrow them, so the shares are there to deliver on settlement day. Sell the same 1,000 shares with no locate behind them and settlement day arrives with nothing to hand over — that's a failure to deliver, and Reg SHO makes the broker buy the shares in the market to close it out within a set deadline.

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Why it matters to you

Confusing naked short selling with ordinary short selling is a common misunderstanding, and it matters because the two are treated very differently by regulators. Ordinary short selling, done through a proper borrow, is a legal and regulated trade. Naked short selling is generally prohibited, and understanding the locate requirement is what separates the two.

⚠ It's not just risky — it's against the rules

It's tempting to describe naked short selling as an aggressive or reckless version of shorting, but that undersells what it is. The locate requirement exists precisely to prohibit selling shares nobody has arranged to borrow, so a naked short isn't a riskier trade within the rules — it's a trade the rules don't allow.

Frequently asked questions

What is a naked short sale?

It's a short sale made without first borrowing or locating the shares to borrow — selling shares that were never actually arranged to be delivered. It's different from an ordinary short, which requires a broker to locate borrowable shares before the sale.

Is naked short selling legal?

It's generally prohibited in US equities: Regulation SHO's locate requirement obliges your broker to have reasonable grounds to believe the shares can be borrowed and delivered before it executes a short sale, and skipping that step is what makes a short naked. There's a narrow carve-out for market makers doing bona fide market making, so a naked short isn't automatically a violation — but outside that exception, it isn't allowed.

What happens when a naked short can't deliver shares?

It's called a failure to deliver. Reg SHO requires the broker to close out the failure within a set deadline by buying shares in the market, and stocks with persistent fails can be placed on a restricted list until the failures clear.

How is naked short selling different from ordinary short selling?

An ordinary short sale is preceded by a locate — a broker confirming shares can be borrowed and delivered — and is a legal, regulated trade. A naked short skips that step entirely, which is what makes it generally prohibited rather than just a more aggressive strategy.

Read the full guide

DerivativesWhat Is Short Selling? How to Bet on a Stock FallingShort selling means borrowing shares, selling them, and buying them back cheaper. How the borrow works, what it costs, and why the loss has no ceiling.14 min read

Related terms

BackwardationBackwardation is when futures prices are lower for later delivery dates — the futures curve slopes downward. It often signals tight near-term supply or strong demand for immediate delivery. For futures holders it creates a positive 'roll yield,' as they sell pricier near-term contracts and buy cheaper later ones.BasisBasis is the difference between an asset's futures price and its current spot (cash) price. It reflects carrying costs, supply and demand, and time to expiry — and it converges to zero as the contract nears expiration, since a future about to settle must match the spot price. Traders watch basis to gauge conditions and to hedge.Borrow feeThe borrow fee is what a short seller pays to rent the shares they've borrowed, quoted as an annual rate on the value of the position and charged for every day the short is held. An easy-to-borrow stock might cost a fraction of a percent a year; a hard-to-borrow one can cost many times that.CFD (contract for difference)A CFD (contract for difference) is a derivative where you and a broker agree to exchange the difference in an asset's price between opening and closing the trade. You never own the underlying — you simply profit or lose on the price move, with leverage. CFDs cover stocks, indexes, commodities and crypto, and are popular outside the US, where they're banned.
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