The Balance – The Aleph Blog

The Balance: Short Selling Stocks- Not for the Faint Hearted

Posted on 5 September 2018 by David Merkel

Photo Credit: Heather Wizell || Ah, Wallstrip with Lindsay Campbell (look at the microphone…)

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Here’s another article that I edited at The Balance:?Short Selling Stocks- Not for the Faint Hearted.? The original author started out conservative on the topic, and I took it up another notch.

For this article, I:

added the information about changes to the uptick rule (which did not reflect anything post-2006),
corrected a small math error,
made the example more realistic as to how margin works in this situation,
added almost all of the section on risks
totally rewrote the section on picking shorts (if you dare to do it), and,
added the famous comment by Daniel Drew.

I have shorted stock in my life at the hedge fund I worked at, hedging in arbitrage situations, and very rarely to speculate.? Shorting is a form of speculation shorts don’t create economic value.? They do us a service by pruning places that pretend to have value and don’t really have it.

In general, I don’t recommend shorting unless you have a fundamentally strong insight about a company that is not generally shared.? That happens with me occasionally in insurance where I have spoken negatively about:

Penn Treaty
Tower Group
The various companies of the Karfunkels
The mortgage and financial guaranty insurers
Oh, and the GSEs… though they weren’t regulated as insurers… not that it would have mattered.

But I rarely get those insights, and I hate to short, because timing is crucial, and the upside is capped, where the downside is theoretically unlimited.? It is really a hard area to get right.

Last note, I didn’t say it in the article, and I haven’t said it in a while, remember that being short is not the opposite of being long — it is the opposite of being leveraged long.? If you just hold stocks, bonds, and cash, no one can ever force you out of your trade.? The moment you borrow money to buy assets, or sell short, under bad conditions the margin desk can force you to liquidate positions — and it could be at the worst possible moment.? Virtually every market bottom and top has some level of forced liquidations going on of investors that took on too much risk.

So be careful, and in general don’t short stock.? If you want more here, also read The Zero Short.? Fun!

The Balance: Are You a Speculator or an Investor?

Posted on 1 September 20181 September 2018 by David Merkel

Photo Credit: Bernard Spragg. NZ?|| Ah, Hong Kong. Home to speculation and Investment.

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One thing to do at The Balance is fix old articles.? This article compares speculators and investors.? What I brought to this article was the following:

Change the phrasing from trading to speculating to be more pointed.
Add more and better criteria to what an investor does.
Added the entire section “What To Do”
Added a picture and more links.? Corrected grammar in a few spots and tightened up some language.

The main reason to edit this article as I did was to give readers more disciplined ideas with respect to buying and selling, and encourage them have rules, and keep a journal of decisions, together with why they bought, and at what point would they sell.? If not, then investors will not take losses when they ought to, and not sell when their thesis is proven false.? That is the way of more and deeper losses.

WIth that, enjoy the article.? It also features my selling rules in the links.

The Balance: Considering Event-Driven Investing

Posted on 1 September 2018 by David Merkel

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I published another article at The Balance:?Considering Event-Driven Investing.? This is one place where writing in the third person leaves a lot out.? I’ve done a lot with some types of event-driven investing.

Speculating on hurricanes — I did that successfully at the hedge fund 2004, 2005 and 2006.? 2006 because I thought the risk of another strong hurricane year was overplayed.? 2004 and 2005 because I had a good idea of who was underreporting claims after disasters.? That was the only time in my life that I went from long a company to short without stopping, and I covered on the day the CEO resigned, and caught the bottom tick.
Bond deal arbitrage — well, sort of.? I would buy target company bonds and sell the bonds of the parent.? I had to be certain that the deal would go through, but it was a tremendous yield enhancement is the right situations.
From the prior article, speculating on Lula’s non-impact on Brazil qualifies as event-driven.
Stock arbitrage — did a lot with it when I was younger.? Didn’t do so well.
Index arbitrage — did a neutral trade where we shorted one company out of the Russell 2000, and bought another one in.? Made no money on the trade.? We had a good fundamental justification for the trade, but it just goes to show you that this isn’t as easy as it looks.
I buy a decent number of spinoffs.? Most succeeded as investments for me.

Now, all that said, most areas where there are simple arbitrages typically boil down to a simple credit risk: will the deal get completed? Will the company not take an action that changes its capital structure in a way that hurts me?

Since these are relatively simple trades, the returns are relatively low like that on a short-term junk bond — at present, like the yield on T-bills plus 2-3%.? It’s not very compelling given the risks involved.? Most of the mutual funds that do that type of arbitrage have not done so well.

Thus, aside from spinoffs, at present, I don’t do that much with event-driven investing.? Many of the forms of it are too crowded, and I prefer simplicity in investing.

The Balance: On Private Activity Bonds

Posted on 10 August 2018 by David Merkel

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For about two months, I wondered when I would write this.? Now I know… I’m writing it now.? To all my readers, I am letting you know that Aleph Blog is not ending, but it is changing.? I accepted a writing assignment with The Balance.? I am going to write 4-5 articles for them per month, and correct some old articles as well.? I will publish links to them here.? Like Aleph Blog, The Balance is free, so you don’t have to do anything more than click on the article link here to read it.

Why did I do this?? I felt I was getting stale in my writing.? I was a little bored; that’s why I wasn’t writing so much.? I had completed all of my main goals for the blog in 2014, and slowly lost the will to keep cranking it out.

The deal with The Balance is like theStreet.com in that I get compensated.? It is not like theStreet.com in three ways.

I write primarily in the third person, like a journalist.
They don’t want any stock picks.
They assign me topics to write on, and I pitch ideas to them, which they must approve before I write.

I like it.? It forces me to learn new things and write in a new way outside of my comfort zone.? It is a challenge.

I will still write some pieces natively for Aleph Blog, but most of what you will see here will be lead-ins to my articles at The Balance.? I will personalize them here, and say things that I can’t say there, because here I don’t have to be neutral.

Here’s my first piece:?Private Activity Bonds As An Investment

Let me simply say here that I am not crazy about Private Activity Bonds [PABs], and municipal bonds generally.? If you have a long enough time horizon to buy and hold a muni bond 20-30 years, then you may as well own stocks.? Aside from that, these aren’t municipalities paying on the PABs — these are private corporations.? It is a “heads they win, tails you lose” situation in many cases.? The credit risk level is higher than an equivalently rated muni.? So, buyer beware, and stick to investments that are simple, because complexity favors the financial structurer, not the buyer of the note that is a part of the financial structure.

But maybe I am wrong.? If you think I missed something, let me know in the comments.