What is an open position?
An open investment position is any established or entered trade that has not yet closed with an opposite trade. An open position can exist following a buy, a long position, a sale or a short position. In all cases, the position remains open until an opposite trade takes place.
Key points to remember
- An open position is a trade that has been established, but has not yet been closed with an opposite trade.
- For example, if an investor owns 300 shares of a stock, it is an open position in that stock until it is sold.
- Day traders open and close their positions in seconds and aim to have no open positions at the end of the day.
Open position explained
For example, an investor who holds 500 shares of a certain share would have an open position in that share. When the investor sells these 500 shares, the position closes. Buy-and-hold investors generally have one or more positions open at any given time. Short-term traders can execute “round-trip” transactions; a position opens and closes within a relatively short time. Day traders and scalpers can even open and close a position in seconds, trying to catch small but frequent price movements throughout the day.
Open positions and risks
An open position represents exposure to the market for the investor. It contains the risk that exists until the position is closed. Open positions can be held from a few minutes to several years depending on the style and objective of the investor or trader.
Of course, the portfolios are made up of many open positions. The amount of risk associated with an open position depends on the size of the position in relation to the size of the account and the holding period. In general, long holding periods are more risky as they are more exposed to unforeseen market events. The only way to eliminate exposure is to close open positions. In particular, the closing of a short position requires the repurchase of shares while the closing of long positions involves the sale of the long position.
Diversification of open positions
The recommendation for investors is to limit the risk by only holding open positions equivalent to 2% or less of the total value of their portfolio. By spreading open positions across different market sectors and asset classes, an investor can also reduce risk through diversification. For example, hold a 2% portfolio position in stocks across multiple sectors – such as financial services, information technology, healthcare, utilities and everyday consumer goods, as well as fixed income assets such as government bonds – represents a diversified portfolio.
Investors adjust the allocation by sector according to market conditions, but maintaining positions at only 2% per share can even mitigate the risk. The use of stop-losses to liquidate positions is also recommended to reduce losses and eliminate the exposure of underperforming companies. Investors are always sensitive to systemic risk when they hold open positions overnight.
Example from the real world
Day traders buy and sell stocks in one trading day. The practice is common in forex and stock markets. However, day trading is risky and not for the novice trader. A day trader tries to close all open positions before the end of the day. If they do not, they remain in their risky position overnight or longer, during which time the market could backfire.
Day traders are generally disciplined experts; they have a plan and stick to it. In addition, day traders often have a lot of money to play in day trading. The smaller the price movements, the more money it takes to capitalize on these movements.