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why short?


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First of, shorting seems in 99% of the short cases out there completly retarded. lots of downside risk, especiallly when some short squeeze would happen, and you need to time the market to make a good return.  Unless it is a fraud that is about to collapse, and the story isn't out yet, it seems really pointless. Also in lawsuits with a time limit where you might have an edge it could be smart.

 

Is it some kind of ego thing? I remember when i knew little about investing and i read einhorn's book, that i thought the shorting part was really cool. Kind of a lone ranger feel where you bet against everyone and go against the grain while taking on alot of risk and then make some money of it. It seems more a testosterone driven thing then really rational to do. Risk/reward ratio is completly out of wack in almost every case.

 

Especially when there are alot of attractive long cases with the same upside, but with limited down side. WHY?

 

But despite of that, alot of smart people seem to do it. So what am i missing here? Or am i not missing anything. I do seem to have buffett on my side here tho.

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Suppose you have a hedge fund that goes 100% long.

 

On top of that, the theory is that you could generate excess returns by adding leverage.  So you might go 130% long, 30% short.  (For some reason I think that Warren Buffett did this when he ran a hedge fund.)  Or you might go 100% long and 30% short, where you are trying to generate excess returns in your short book.

 

2- I think Buffett and Munger did dabble in short selling, before realizing it wasn't worth it.

 

3- I think short selling can be seductive to some because:

a- Frauds are incredibly easy to find.  I've had no trouble finding them.

b- Ridiculous stocks are easy to find.

c- It meshes with some people's personality.

 

4- The long/short hedge fund is really popular right now.  It might have to do with people emulating other "successful" people.  At any given time, some long/short hedge fund will do really well thanks to the inherent leverage.

 

(*I short stocks.)

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There are many reasons to short, some good and some bad.

 

 

 

1. Institutional allocators are adverse to paying incentive fees without big hurdles to long only managers. So people run long short to reduce volatility, isolate more of their alpha,  and convince those paying them that they should pay 10-20% of gross profits because they are taking less market risk by running lower net exposure ( a typical l/s fund runs 40-60% net, 130 by 70 is pretty standard long short fund). So lots of good stock pickets ( even those who are not adept short sellers) run jones model hedge funds because they can make more money in incentive fees, which means they can buy yachts, hire more expensive analysts, build out infrastructure etc.

 

2. It allows you to run levered long while taking less general market risk and more security specific risk. This is a matter of debate as to what exactly is risk. Many people (and I presume many here, because this board tends to attract a certain breed of fundamental long only concentrated investor) will argue that having a book that is 130% long and 70% short is twice as risky a book that is 100% long, because you are taking on a form of leverage, you are borrowing at an unknown rate (like selling insurance). Others will say the short book should have negative correlation to the long book over time and reduces risk. There is no right answer, but the bottom line is shorting generated cash, in most cases reduces volatility and can allow one to lever his or her long book. Refer to the chanos thread where I argued his returns of 2% per annum were excellent for a short only because the market did 12%. Short books cannot be viewed in isolation but as part of a broader strategy. If you had the chance to borrow at -2% for many years, you'd obviously take it. Making absolute returns (even if low) over time is the holy grail of short selling because when paired with an outperforming long book, you can make a lot of money (see greenlight, third point, etc.)

 

3. Shorting doubles your ways to make money. You can look at more things. It also (in my opinion) helps you be more intellectually honest, if every stock you look at is a potential long or short, you fight the generally positive parts of human nature and look at everything more skeptically.

 

4. It allows for stub trades, or to hedge out an unwanted risk, ie if you find a cheap oil stock but don't want too much oil risk.

 

5.  incentive fees

 

6. Incentive fees

 

7. Did I mention the incentive fees ?

 

8. It's fun and just as if not more intellectually stimulating than finding longs. I've had a few short successes and it is a special kind if enjoyment to watch stocks blow up and make money while others are losing it, particularly if bad people are involved.

 

 

In all seriousness there is definitely  too much money in long short strategies out there. Many should be long only. But the demand for higher gross exposure, lower net exposure funds is out there and many people will pay too much for it so the demand gets filled. It's tough to lose a big portion of your beta because even the best will admit the general upward surge of corporate profits comprises a big piece of their return.

 

I wouldn't calm shorting stupid. I'd call it hard and you have to be good at picking longs to fight the negative carry if being short. AND most people pay way too much in fees  for long short strategies.

 

*i short stocks but have made much more money in my longs over time.

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Its very dangerous to think that you reduce volatility or your maximum possible drawdown and then lever the whole portfolio up.

 

Look at the numbers JEast has posted here: http://www.cornerofberkshireandfairfax.ca/forum/general-discussion/benjamin-graham-quality-dimension-of-value-investing/

 

The drawdowns for long/short portfolios were in some backtests higher than a normal long only strategy. That was not done with obviously fraud stocks, but i have seen pumped pennystocks going up 20 fold before they crashed. On margin your whole account can be killed with one such stock. And it just has to happen one time in x years to kill all your profits you made on the long side. And when options are available they are most of the time so expensive that you will not make money in the long run, even if you are right.

 

For me long/short strategies are fragile and therefore not something that is prudent to do, but i understand that there is a demand for that kind of hedgefunds.

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First of, shorting seems in 99% of the short cases out there completly retarded. lots of downside risk, especiallly when some short squeeze would happen, and you need to time the market to make a good return.  Unless it is a fraud that is about to collapse, and the story isn't out yet, it seems really pointless. Also in lawsuits with a time limit where you might have an edge it could be smart.

 

Is it some kind of ego thing? I remember when i knew little about investing and i read einhorn's book, that i thought the shorting part was really cool. Kind of a lone ranger feel where you bet against everyone and go against the grain while taking on alot of risk and then make some money of it. It seems more a testosterone driven thing then really rational to do. Risk/reward ratio is completly out of wack in almost every case.

 

Especially when there are alot of attractive long cases with the same upside, but with limited down side. WHY?

 

But despite of that, alot of smart people seem to do it. So what am i missing here? Or am i not missing anything. I do seem to have buffett on my side here tho.

 

How does your performance record compare to Einhorn's?

 

If you can earn 20% annual returns across the cycle without using leverage or long/short, you probably shouldn't bother.

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First of, shorting seems in 99% of the short cases out there completly retarded. lots of downside risk, especiallly when some short squeeze would happen, and you need to time the market to make a good return.  Unless it is a fraud that is about to collapse, and the story isn't out yet, it seems really pointless. Also in lawsuits with a time limit where you might have an edge it could be smart.

 

Is it some kind of ego thing? I remember when i knew little about investing and i read einhorn's book, that i thought the shorting part was really cool. Kind of a lone ranger feel where you bet against everyone and go against the grain while taking on alot of risk and then make some money of it. It seems more a testosterone driven thing then really rational to do. Risk/reward ratio is completly out of wack in almost every case.

 

Especially when there are alot of attractive long cases with the same upside, but with limited down side. WHY?

 

But despite of that, alot of smart people seem to do it. So what am i missing here? Or am i not missing anything. I do seem to have buffett on my side here tho.

 

Retarded, ego thing, WHY in all caps. Strong words there!

 

I find shorting the most intellectually rewarding aspect of investing. It helps build conviction like you can't believe. I absolutely have a long bias, but have been short CROX, LULU, OPEN, NFLX, FNGN, CRM, and WDAY over the last seven years. I've learned much more about value and market psychology building these positions than any long positions.

 

I run a very concentrated personal portfolio, so for me shorting is a means to take a position against my longs when I begin to become uncomfortable about the market environment. Not surprisingly, short opportunities become much more abundant in such an environment.

 

Full disclosure, I'm in the red on my shorts over the last six months. However, I have a fairly strong conviction these positions will reap significant rewards over the next 6-12 months, which can then be redeployed into my long positions.

 

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First of, shorting seems in 99% of the short cases out there completly retarded. lots of downside risk, especiallly when some short squeeze would happen, and you need to time the market to make a good return.  Unless it is a fraud that is about to collapse, and the story isn't out yet, it seems really pointless. Also in lawsuits with a time limit where you might have an edge it could be smart.

 

Is it some kind of ego thing? I remember when i knew little about investing and i read einhorn's book, that i thought the shorting part was really cool. Kind of a lone ranger feel where you bet against everyone and go against the grain while taking on alot of risk and then make some money of it. It seems more a testosterone driven thing then really rational to do. Risk/reward ratio is completly out of wack in almost every case.

 

Especially when there are alot of attractive long cases with the same upside, but with limited down side. WHY?

 

But despite of that, alot of smart people seem to do it. So what am i missing here? Or am i not missing anything. I do seem to have buffett on my side here tho.

 

Retarded, ego thing, WHY in all caps. Strong words there!

 

I find shorting the most intellectually rewarding aspect of investing. It helps build conviction like you can't believe. I absolutely have a long bias, but have been short CROX, LULU, OPEN, NFLX, FNGN, CRM, and WDAY over the last seven years. I've learned much more about value and market psychology building these positions than any long positions.

 

I run a very concentrated personal portfolio, so for me shorting is a means to take a position against my longs when I begin to become uncomfortable about the market environment. Not surprisingly, short opportunities become much more abundant in such an environment.

 

Full disclosure, I'm in the red on my shorts over the last six months. However, I have a fairly strong conviction these positions will reap significant rewards over the next 6-12 months, which can then be redeployed into my long positions.

 

 

+++

 

Strong words indeed.

As you know, I completely agree with your sentiments. IMO two things are generally underestimated: (1) the value of the outcome were you get a ton of extra cash at a (generally) lower valuation. You get a certain return on your closed short or sold options but can then reinvest it again at better market prices than before. You simply profit twice. (2) it's gives you a lot of flexibility on the long side of your portfolio.

 

One should always consider his personal portfolio situation. I am 100% long (and 16-17% short) with almost 75% of my portfolio noted on the NASDAQ. If I assume the NASDAQ as a whole is overvalued it might make sense to hedge some of that risk away. Anyone who disagrees should look at what happened to GNCMA on Friday.

 

 

beating or coming v close to him is easier then you think, you probably have waaay less to invest. you can invest in underfollowed 50 or 100m marketcaps, he doesnt have that luxury.

 

 

 

I assume you have actually done that for 10+ years?

 

 

Because of it's excellent members, this forum is one big cluster of survivorship and confirmation bias. However, with almost 2000 members, this is more likely than not rapidly changing.

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One should always consider his personal portfolio situation. I am 100% long (and 16-17% short) with almost 75% of my portfolio noted on the NASDAQ. If I assume the NASDAQ as a whole is overvalued it might make sense to hedge some of that risk away. Anyone who disagrees should look at what happened to GNCMA on Friday.

 

Most value investors that apply a long/short strategy are probably doing it this way. But what you are doing is hedging a value strategy with a -growth strategy. But you have to admit that these two types can be strongly correlated at times. When you are levering this up, you will not get a better risk adjusted return. Its better to diversify across asset classes, world markets and interest/inflation sensitive/insensitive investments and then levering this up. In the end what you earn is the geometric return of all your uncorrelated investments. But shorting has most of the time a negative return and when you multiply that with a positive return the end result will not be greater than the positive return alone.

The argument that you have cash available when your value investments tank is only true when your investments are 100% perfectly negativ correlated. But in this case (which does not exist) you could just take more value investments and lever it up for the same result.

 

 

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To me shorting goes against the very principle of value investing - protecting your downside and not losing money.

 

I can understand why other people do it but its not for me.

 

I posted a thread on a Tilson presentation on shorting that I found interesting but didn't really get much interest http://www.cornerofberkshireandfairfax.ca/forum/general-discussion/whitney-tilson-on-shorting/

 

If I was to ever bet against a company it would have to be where a limited time frame is in sight - e.g. a court case about to be ruled, and I would always do it via options and never shorting the stock, that way you know exactly your max downside and wont get forced out of your position at inopportune moments.

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I assume you have actually done that for 10+ years?

 

 

Because of it's excellent members, this forum is one big cluster of survivorship and confirmation bias. However, with almost 2000 members, this is more likely than not rapidly changing.

you misread, it is way easier for einhorn to beat that 20% if he had a much smaller fund. Also have you read other non investing fora? I stumbled upon some investing threads, and it was worse then the average seeking alpha article. You are really underestimating how bad the average retail investor is at investing. Most of them barely look past earnings, some of them dont even look at earnings  and just at revenue. The majority invests in something just because they like the story. Even if it is trading at 80x earnings.

 

And how do you profit twice? You borrow the shares and you sell them right? So you get money upfront, but you have to pay interest, and if you win, then you have to buy them back. So where do you profit again if your short works out? The only advantage is you get money upfront. But that is not all roses and sunshine either because you need cash in your account right? If the stock moves 50% away from you, you risk a margin call without enough cash.

 

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