Betting Against The War Drum

I have only bet against the market once in my 10+ years. I tried to go net short when the Federal Reserve first started reducing their balance sheet. Well, that was two years ago and the market is up about 30% since.

I often joke with the people around me that, “what’s the point of following markets all the time if I don’t ever try to call a top?” Sometimes, as they say, you aren’t taking four balls during this at bat.

While thinking through all of this, I was reminded of something a well-known short seller once said. I’m not exactly advocating his brilliance or highlighting this short seller. I think most of you already know him and his quote is just that good. I haven’t forgotten it all these years. Here’s what Jim Chanos says about being short:

“What I like to point out is that almost everybody that will view this is the beneficiary of a positive reinforcement cycle in their life.

That is they were told to study hard by their parents, go to good schools, get good grades, go to better schools, get a good job, work hard, get promoted, and be paid well. This is the so-called virtuous cycle.

Studies have shown that most rational people, including people that fit the virtuous cycle profile, find that their decision making breaks down in an environment of negative reinforcement. The ultimate example of which would be interrogation, where your ability to withhold information is broken down by various physical or mental techniques.

If you think of Wall Street, it’s a giant positive reinforcement machine. Basically, I come in every morning, flip on my phone and check Bloomberg at 5:00 AM. Of the hundred short ideas that we have in our global fund, I can pretty much predict at any moment that there’s going to be about 20% to 25% each day where there is some sort of commentary, research report, analyst buy recommendation, estimates raised, or CEO on Bloomberg or CNBC. And generally, it’s noise. Generally there’s not much information or content in that, but it’s nonetheless a noise representative of positive reinforcement. It’s why you should be investing in company “A,” “B,” or “C.”

Most people don’t notice this because they’re in the business of going long securities. I like to say, however, that this is the music that plays in the background of the investment world. If you’re a short seller, this music is negative reinforcement. You’re essentially being told that a quarter of your portfolio every morning is wrong and here’s why. For most people, that becomes a difficult environment in which they continue to think clearly about their investments. There’s a constant drum beat of just negative reinforcement saying you’re incorrect, you’re incorrect.”

Jim Chanos
Interview from Opalesque TV

I’m sure if you tried shorting before, you can relate.

It’s a grind, it is hard, but it is a thrilling challenge to take on. You basically are saying you know better than everyone at an exact moment. It’s a little arrogant, actually. You’re betting against the war drum most other people are playing.

It can be both the worst and the best thing you can do. It’s the worst if you actually wage a significant and risky sum of money. It can also be bad if it takes you over as a person. It does not have to become your life. I think we have seen what’s happened to those people, the permabears who spend their career on such a view. You don’t have to go all in like that ever. There are ways to express your opinion while also defining your risk, or how much you’re willing to lose, from the start (but see the meme at the bottom of this post).

I like to hold myself accountable to what I am seeing and doing by making it open. That’s partly what I use my blog for. I let everyone know what I’m up to. Everyone can share their feedback or criticism or trolly mctroll ways with me. In my new podcast, I actually talk about why this is so important. To some degree, it’s also why I am short stocks from mainland China, because, not only of their strange accounting ways, but also the regime they are operated and controlled by. It’s a dictatorship that stands in opposition to the most basic fundamental freedoms like free speech.

On my blog, all the free speech you want is welcome. You can come at me however you like.

Obviously, if the market keeps ripping I will go down with a swing and a miss, but you can catch up on why I am betting against Chinese VIEs in a Trade War and my latest podcast about what it all means.


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