Alice lends his 1 stock to Bob. Bob sells it to Charlie (but is still on the hook to return it)
Charlie lends his 1 stock to Dave. Dave sells it to Eddie (but is still on the hook to return it).
There is only 1 stock being traded here, but there are two loans (shorts) out on it with obligations to return it.
What's really fun is that Alice and Charlie may not even know that they've lent their stock. Their broker, having a substantial amount of the stock pooled across all accounts they manage, may lend it out and still let Alice and Charlie trade their "share" -- since if Alice wants to sell, the broker can always sell on of the other shares from their pool. As long as the broker keeps a decent amount of shares still in their possession, and as long as all accountholders don't try to liquidate at the same time, it's fine. Even if you DID try to liquidate your position and whoopsie, the broker actually lent out all their shares and there are none left for them to sell, the broker could buy your share obligation with cash and you wouldn't know the difference between that and selling it to another shareholder.
This is the type of thing that gets some people's back up. It all sounds very "precarious" as you say. There is a reaction that says, whoa, that's way too complicated and abstracted, this whole thing is a house of cards just waiting to collapse. But it's kind of like a long-lived piece of software, which accumulates complexity from the need to deal with a complex world. Only new programmers have the urge to tear it all down and start from scratch -- because old programmers have found that the "new" system ends up reinventing the complexity of the old as it discovers the same problems and missing features of the "simple" approach. Today you see this happening with cryptocurrency.
> What's really fun is that Alice and Charlie may not even know that they've lent their stock.
last i checked brokers _cannot_ just loan out random alice and charlie's shares.
only once you've got a margin account and you've gone into debt can they use your shares. if you've got a margin account and you didn't read the contract, well... god help you, nobody else can.
as i understand it, loaned shares generally come from large institutional investors. the folks managing your index funds make extra money by loaning the underlying shares. (maybe that's what you meant? but the prospectuses for index funds make it clear that they do this sort of thing.)
Yeah, I don't mean to imply that this is necessarily happening to anybody who's holding a stock. It depends on your broker and the terms you've agreed to.
On some brokers it's an opt-in thing and you get to reap the rewards (interest) of lending out your shares. A friend of mine has been doing this with QuantumScape stock and collected a sizeable amount just from lending it through its December run-up, in addition to the direct gains.
My impression is that the zero-fee brokers like RH are the ones more likely to do this without your opt-in consent (of course you do agree to it across the board in their terms), but I'm not an expert.
I think Robinhood will loan out your stock and keep the money. This and sending order flow to Citadel are how Robinhood makes money, instead of from commissions.
> only once you've got a margin account and you've gone into debt can they use your shares.
As I read my customer agreement with ETrade, they are allowed to loan out my shares, even if I do not have a current margin balance. (It reads to me that they are pledged as collateral at all times, but I am not a lawyer.) It seems unlikely and inefficient that if I paid or traded my margin balance down to zero that ETrade would demand delivery of any shares I'd previously lent.
Briefly: a share which has been sold short can be sold short again by the person who buys it from the borrower/short seller. In practice, this often occurs due to regular market mechanics when a particular company is a hot short target. All that's required is a widespread consensus that the company's financials suck (in not so few words).
There is only 1 stock being traded here, but there are two loans (shorts) out on it with obligations to return it.