Short selling stocks comes with many complications: borrowing shares, paying borrow fees, and facing potential short squeezes. A synthetic short stock position solves these problems using options. In this guide, we will show you how to create bearish stock exposure without ever borrowing a single share.
What is a Synthetic Short Stock?
A synthetic short stock is an options strategy that replicates the profit and loss of shorting 100 shares. You create it by buying a put option and selling a call option at the same strike price and expiration. The combined position moves inversely with the stock price, just like a short position.
The simple version: Instead of borrowing and selling shares, you buy a put and sell a call at the same strike. You profit when the stock goes down, just like a traditional short sale.
How to Create a Synthetic Short Stock
The setup requires two options at the same strike price and expiration:
- Buy 1 ATM put option
- Sell 1 ATM call option
Example
Stock XYZ is trading at $75. You think it will decline.
- Buy 1 $75 put for $3.80
- Sell 1 $75 call for $4.00
- Net credit: $0.20 ($20 per position)
This position now profits dollar-for-dollar as the stock price falls.
Advantages Over Traditional Short Selling
Synthetic shorts solve many problems that plague traditional short sellers:
- No shares to borrow: You never need to locate or borrow shares
- No borrow fees: Avoid expensive hard-to-borrow rates
- No forced buy-ins: Your broker cannot force you to cover
- No uptick rule: You can enter regardless of stock price movement
- No dividend liability: You do not owe dividends to lenders
Profit and Loss Analysis
Let us examine what happens as the stock price moves:
If the Stock Falls to $55
- Your put is worth $20 (intrinsic value)
- Your short call expires worthless
- Profit: $20 + $0.20 credit = $20.20 per share ($2,020)
- Same as if you had shorted shares at $75 and covered at $55
If the Stock Rises to $95
- Your put expires worthless
- Your short call has $20 of intrinsic value against you
- Loss: $20 - $0.20 credit = $19.80 per share ($1,980)
- Same as if you had shorted shares at $75 and they rose to $95
If the Stock Stays at $75
- Both options expire at-the-money
- You keep the $0.20 credit ($20)
Understanding the Greeks
A synthetic short stock has specific Greek characteristics:
- Delta: Approximately -100 (same as being short 100 shares)
- Gamma: Near zero because the put and call gamma offset
- Theta: Minimal because time decay on both options largely cancels
- Vega: Near zero as the long put and short call vega offset
Risks of Synthetic Short Stock
This strategy carries significant risks you must understand:
- Unlimited upside risk: If the stock soars, your losses are theoretically unlimited
- Assignment risk: The short call can be assigned early, forcing you to sell shares you may not own
- Margin requirements: Brokers require substantial margin for the short call
- No short sale proceeds: Unlike traditional shorts, you do not receive cash from selling shares
When to Use This Strategy
Synthetic short stock works best when:
- Shares are hard to borrow: The stock has high borrow rates or no shares available
- You have strong bearish conviction: You expect a significant decline
- You want capital efficiency: Less capital tied up than traditional shorting
- You anticipate no short squeeze: Avoid this on heavily shorted stocks
Managing Your Position
Active management is crucial with synthetic shorts:
- Set stop losses: Define your maximum acceptable loss before entering
- Monitor for assignment: Watch for dividend dates when early assignment is likely
- Roll forward: As expiration approaches, roll to later dates if still bearish
- Take profits: Close both legs when you have reached your target
Rolling Example
Your position has 2 weeks left and the stock dropped from $75 to $70:
- Buy back the $75 call for $0.50
- Sell your $75 put for $5.50
- Open new position at next month's $70 strike
This locks in some profit while maintaining bearish exposure.
Synthetic Short vs Buying Puts
How does this compare to simply buying put options?
- Delta: Synthetic has -100 delta; long puts have -30 to -70 delta
- Cost: Synthetic is often a small credit; puts require premium payment
- Time decay: Synthetic has minimal theta; long puts lose value daily
- Risk: Synthetic has unlimited upside risk; long puts limit loss to premium
Tax Considerations
Synthetic positions may have different tax treatment than short sales:
- Options gains and losses follow different holding period rules
- The IRS may treat synthetic shorts differently for wash sale purposes
- Consult a tax professional for your specific situation
Track Your Synthetic Positions
Pro Trader Dashboard monitors your multi-leg options strategies with real-time Greeks, P/L tracking, and risk alerts all in one dashboard.
Summary
A synthetic short stock position lets you profit from declining prices without borrowing shares. By buying a put and selling a call at the same strike, you create a position equivalent to being short 100 shares. This eliminates borrow fees and forced buy-in risks but maintains unlimited upside risk. Use this strategy when shares are hard to borrow or expensive to short, but always manage your risk carefully.
Want to learn the bullish version? Check out our guide on synthetic long stock or explore put ratio backspreads for another bearish approach.