In Stock market, short sell is practiced by Traders and not Investors. Traders try to make money when the stock prices are going down. They Sell the stocks at the market price and hope for the stock prices to go further down so that they can buy it at lesser price and keep the difference. In this way they make money.
Short selling is trading and not investing. This type of trading is suited during the bearish times i.e. when the stock market is going south. You sell it at relatively higher price and buy it back at a lower price.
How it works?
Generally the broker house or the broker helps in short selling. The trader owes the shares of short sold stock to their broker house/broker. In turn these people owe it to some other investor or some financial institution which holds these stocks for long. The broker itself seldom actually purchases the shares to lend to the short seller. The lender of the shares does not lose the right to sell the shares. In all it just runs on assumption and not actual. The stock is virtually traded.
Can we make money?
Yes, we can make money. But to make money like this, one has to be dedicated to stock market and watch it very closely. When I say closely it does not mean just sit and stare at the computer screens. It is not suitable for engineers who can’t devote dedicated time for stock market.
But this is definitely good for brokers as they make money during selling and buying. They are the ones who make more money than the trader :).
Just an hypothetical assumption.
Consider that I want to short sell XYZZ corp and I have Rs. 1k. Brokerage is 1% and XYZZ corp is trading at Rs.22 and it is falling.
Now I short sell 40 shares XYZZ corp at Rs. 22. It costs me Rs.880 + 1% brokerage = Rs. 880 + Rs. 8.8 = Rs. 888.8
I buy back 40 shares at Rs. 20. It costs me Rs. 800 + 1% brokerage = Rs.800 + Rs.8 = Rs.808
My Profit ~= Rs .64 (80-16) Risk = 100% (Since there is equal chance of making a loss)
Brokerage = Rs.16 Risk = 0%
Even if I make a loss, still I had to pay for brokerage.