Naked trading in any form is a high risk strategy

Defined as the sale of a product (ie stock, option, currency) without owning or borrowing the underlying financial instrument, in the majority of cases the concept relates to Naked Short Selling in securities and Naked Options in the ETO or FX Options market. Each strategy is highlighted below

Naked short selling is the most identifiable style of naked trading with private investors, hedge funds and institutions using the strategy to profit from weakness in stocks. Differing from covered short selling, naked shorting involves the selling of a security that is not owned or borrowed. The below examples highlight the features and comparisons between the two styles.

Naked options trading has a slightly different dynamic from the traditional short selling. A derivative of the financial instrument, options are only naked when they appropriately not covered by shares, or cash. With regards to Exchange Traded Options, a trade becomes uncovered or naked when the seller of a call option, does not have the necessary stock to deliver if he/she is exercised or called upon. The reverse is true for a put option, with cash being the decisive factor over whether a trade is naked or not. Selling a put option, allows the buyer to sell stock at a predetermined (exercise) price.

Naked trading in any form is a high risk strategy and should only be used by experienced traders. The upside opportunity, with the limited outlay is fantastic; however the reverse can result in significant losses. Recent regulatory reform in the financial markets has also placed barriers and restrictions on naked trading and naked short selling.