In 2008, I had a big short and put position on mall REITs (real estate investment trusts) and big bank stocks. It worked like a charm at first. My positions were up anywhere from 30% to more than 140%.
These companies were leveraged to the hilt. Consumer spending plummeted as home prices collapsed. I was absolutely convinced these companies were all going to zero. So I held on to my puts and my shorts.
Then the Federal Reserve stepped in with a huge bailout. Quantitative easing (QE) sent interest rates from around 5% to near 0%. Stocks soared, especially big banks and REITs.
I missed my exit window and blew up my trading account. Meanwhile, my retirement (buy-and-hold) account was doing fine. So I stopped trading and shorting stocks (with rare and small exceptions that I usually regretted).
It was an important lesson that’s served me well since.
A Brutal Market for Shorting
Ever since the global financial crisis, shorting stocks has been brutally difficult. The Fed’s low interest rates and QE have helped maintain unusually high valuations.
I recently found this chart showing the S&P 500 price-to-earnings (P/E) ratio since 1880. P/E is currently trending nearly as high as the time of the 1999-2000 bubble that preceded the 2008 financial collapse. And stocks have been far more expensive over the last 20 years than at any other time.
Since the Fed made its unprecedented intervention in 2008/2009, opportunities to short have been rare and brief. Even legendary short sellers like Jim Chanos are struggling. This is the guy who predicted the downfall of Enron and profited wildly from it. According to Institutional Investor magazine, Chanos’ fund assets have shrunk from more than $7 billion in 2008 to $405 million at the end of 2020. Chanos’ firm lost 50% of assets under management in 2020 alone.
Chanos has heavily shorted Tesla for years, arguing it is one of the most overvalued stocks in the world. And he might be right. Tesla currently trades at a P/E ratio of 378 and is making most of its profit on carbon credits. But the market clearly doesn’t agree and sees a bright future for Tesla.
It makes me glad I don’t short anymore. Tesla has been a tempting target — and a death trap — for bears.
For years it’s seemed like the whole market is poised for a proper crash. But the Fed and the government are determined to prevent one from happening. Whenever the economy slows and the stock market cools off, the Fed lowers rates or announces more QE, and the government pumps money into infrastructure and stimulus. They can’t stop now. They’ve got to keep inflating.
So even though it seems like it might be a good time to short the market, it probably isn’t. If Jim Chanos — the best short-seller in history — can’t make money shorting this market, it’s doubtful any of us can. Sure, eventually there may be a golden shorting opportunity. But it could be five years out or more. These are unprecedented financial times.
And shorting while inflation is high is extra dangerous. If inflation is running at 6%, that provides even more of a tailwind for stocks in nominal terms.
Hedges are necessary today, but I don’t think short positions are the way to do it in this environment. I’d much rather hedge against inflation. My chosen assets — precious metals, mining stocks, startups, bitcoin and cheap emerging markets — all have the chance to act as excellent inflation hedges.
But no matter what you buy, you’re a lot more likely to make money being long than being short.
Have an excellent weekend, everyone.
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