Reviewed by Oct 05, 2020| Updated on
Unwinding is closing a trading position where the term tends to be used when the trade is complex or large. Unwinding also refers to a trade error correction, since it can be complicated to correct a trade error or require multiple steps or trades.
A broker, for instance, erroneously sells part of a position when an investor wanted to add to it. The broker would have to unwind the deal by first purchasing the sold shares and then buying the shares which were intended to be bought first.
Unwinding is used to refer to trades that require multiple steps, trades, or time to close. In case an investor holds on to a long position in stocks while selling puts on the same issue simultaneously, at some point, they will have to unwind those trades.
That ensures the options are secured, and the remaining stock is sold. A similar process would follow a broker attempting to correct an error in the purchase/sale process.
Unwinding is a process whereby participating in an offsetting transaction reverses or closes a trade.
If a broker mistakenly carries out an incorrect operation with the funds of an investor, such as purchasing more of a particular security when the order was to sell it, the broker must resell the security accidentally purchased to correct the error. They must then make the originally requested sale.
During this error correction process, if the broker experiences a loss, the broker is responsible for the difference and not the investor. Errors that are caught before being fully processed, and cancelled successfully, do not need unwinding.