Short Sellers Are Not the Smartest Guys on Wall Street

There is this weird idea floating around that the short sellers are the smartest guys on Wall Street and in the investing world. While there are some really smart guys who short sell from time to time, think Bill Ackman and David Einhorn, the idea that short sellers as a group are the elite, is well, short of common sense. I can prove it. Look at this chart: 

S&P 500 Historical


What do you notice about the stock market? I’m not going to tell you. Figure it out.

Anybody who thinks that the smartest thing to be is a short seller is a fool. Anybody who says it is stupid or dishonest.

That doesn’t mean that there aren’t some great short sellers and great short selling opportunities, I’ve essentially been short the Euro and Yen quite a lot of the past three years, but being “a short” doesn’t make you smart as some sort of rule. Plenty of people told me I was stupid to bet on other currencies falling against the dollar. 

Some Shady Stuff

Here’s what I know has gone on for decades among Wall Street traders – not all traders mind you, probably not even a majority, but enough to be noticeable and to be bad for the markets. Some have traded in concert to manipulate stocks and some use insider information with abandon when they can get it. 

I’m not sure if those things can be completely stopped. I am always amazed at what we can see pretty easily in the markets that the SEC never levies an enforcement action on. I suspect the combination of being understaffed and having to prioritize criminal enforcements plays a major role in that.

Anybody who thinks that the SEC is what it should be is a fool too. They need more smart people who are willing to police the wild west parts of the market, small caps in particular. But, ideology in Congress masks the true intent of those who want less regulation and oversight. Their motives clearly are to skim the markets, which means skim your and your neighbors retirement money.

The internet age has made the big skimming of the markets even easier to do I suppose. Plant a rumor here, use a chat room there, naked short a stock, marry some puts, how is the SEC going to keep up with it all it’s moving so fast moving.

Luckily for us, we don’t have to rely on the SEC. We just have to understand value and have a good algorithm. With those two weapons, we can let the dirty rotten scoundrels do what they do and react when the time is right. 

The shame is that folks who try to manage their own money and heck, most financial planners, is that they have no idea the amount of shadiness in the financial markets. They get skinned alive all the time. That’s actually the argument for having a passive index portfolio. If your time frame is long enough, you’ll at least do average. If you have some foresight and start reducing your exposure to stocks whenever we approach markets that are overvalued, then start to reinvest when markets get undervalued you should do even better.

And yes, we do know when the markets are becoming overvalued or undervalued. All we have to do is watch P/E ratios, forward P/E ratios, Price/Earnings/Growth ratios (PEG) and normalized P/E ratios to know when overvaluation starts. A few allocation moves here and there can mean a huge difference in retirement savings.

We’re at the overvalued stage of most equity markets now. The markets are clearly overvalued by 20% to 30% across many sectors. It’s been time to lighten up on those since November.

Anyway, don’t fall for the hucksters anymore than you fall for salesman with no clue about what markets are really doing. Short sellers are not gurus and salespeople are not investors.


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