A closed position is a trade that is no longer active as closing a position involves nullifying the initial position. It eliminates exposure to market risk.
Closed position is commonly referred to as “position squaring” in Forex trading.
What is a Closed Position?
A closed position is a trade that has been terminated or ended by a trader, either by buying or selling. This means bringing the investment to an end or selling what you bought.
A closed position is the exact opposite of an open position. Hence, closing a position means completing a security transaction that is the exact opposite of an open position.
I buy stock X, indicating the opening of the position. I may sell some, add some, or hold some stocks. The position is still open. When I sell the last share of Stock X, the position is closed.
Example of Closed Position
I take a long position on stock X and am waiting for the price to increase twice the original price. I close the position (terminate the investment) after the price touches my expected value, by selling the stock (transaction of security).
How Does Closed Position Work?
Buying or short selling a stock or purchasing an option mark the opening of a position. To close the position, you will trade in the direction opposite to the initial position.
buy stock > sell stock
short stock > buy back stock
buy a call > sell the call
A position can be closed or opened either manually or automatically.
For instance, features like “take profit orders” and stop-loss will automatically close your position if a market’s price rises or drops to a set level.
This can be triggered when there is insufficient equity in your account to support the trade’s margin requirements. Many trading platforms also allow investors to close positions in batches.
When should I close a position?
Positions can be closed for a variety of reasons—to take profits or curb losses, reduce exposure, or generate cash.
In a short sale, a position is closed when I buy back the stock. In a long position, closing a position would mean selling the security.
Generally, traders close positions when:
- profit targets have been achieved and the trade concludes with a profit
- stops levels are reached and the trade concludes with a loss
- trade needs to be concluded to fulfill margin expectations
Sometimes, an investor who intends to nullify tax liability on capital gains may close their position on a losing security to realize a loss.
Generally, closing positions are executed at the discretion of traders. However, in special cases, positions are sometimes closed by force or involuntarily.
For instance, a brokerage firm may close out a long position held in a margin account if there is a steep decline in the stock, and the account holder (trader or investor) is unable to support the margin requirement.
Similarly, a short position may be subject to termination (buy-in) in the event of a short squeeze, an event where there is a sudden rise in stock prices.
The timing for closing a position depends on what an investor expects out of that trade.
To close a position at the correct level, it is important to set trading goals before entering a trade or opening a position. Goals could be target prices, expected return percentages, or anticipated loss. A position can be closed once these expectations are fulfilled.
What happens when I close a position?
When you close a position, the investment comes to an end. All profits and losses are realized and the trade is no longer active.
Open Position vs Closed Position
An open position is an initial position, long or short, that an investor takes on a trade. A position is open when the trade is live.
For example, a trader owning $1000 shares of a particular stock is said to have an open position. This is because the trade is live and can still make profits or incur losses.
On the other hand, a closed position is a trade that is no longer active and has been terminated by a trader. It is the exact opposite of the open position.
For example, a trader selling all the shares of a stock after it reaches the desired price target is said to have a closed position.
Conclusion
A closed position is a trade that has been ended by either buying or selling, canceling a previously open position to have no commitment. It is an important tool that traders and investors use to achieve profit targets and curb loss of security. Therefore, it is important to close a position at a level that satisfies margin requirements.
Key takeaways:
- A closed position is a trade that has been ended by a trader, either by buying or selling.
- Closing a position involves trading in the opposite direction to when you opened the position/trade.
- It is important to have a trading plan to help you close a position at an ideal level.
Positions can be closed to make profits or curb losses, reduce market risk, or generate cash.