Core terms
Short sale
A sale of a security the seller does not own, or one completed by delivering borrowed shares. The short seller profits if the price falls and must buy shares back later to close the position.
Regulation SHO governs short sales in the US. Before selling short, a broker must have reasonable grounds to believe the shares can be borrowed (the locate requirement, Rule 203(b)); failures to deliver must be closed out (Rule 204); and when a stock falls 10% or more from the prior close, the short sale restriction limits short sales for the rest of that day and the next (Rule 201).
The loss on a short position has no fixed limit, because the price can keep rising. Shorts also pay borrow fees, and a broker can recall borrowed shares.
What traders should verify
Before shorting a small cap, confirm a locate, the borrow fee, whether SSR is active, and how your broker handles recalls and halts.
Do not conflate
Broker rules on hard-to-borrow stocks and locate fees differ. A short sale with no locate where one is required breaks Reg SHO.