How do short traders better our economy?

How do short traders better our economy? by Laurent Bernut

Answer by Laurent Bernut:

I was a dedicated short seller with Fidelity for 8 years, a bottom Long Only house. I was working alongside Long Only managers. I was often told that having me alongside was a healthy reality check

Plea for the short sellers
Short sellers have a bad wrap. They are the scapegoats from other people's mistakes. We were not the ones making bad managerial decisions. The likes of Stan O'Neil, Richard Fuld, Jeff Skilling and Howard Stinger at Sony are plenty incompetent, blind to risk and arrogant enough to drive their companies into the ground.
We were not the portfolio managers holding on to Enron as a Long all the way down. These are the bad guys, these are the guys of rob You of your pension, not us.
We are bad guys insofar as we unapologetically profit from other people's arrogance and mistakes. If that is a crime, then please I proudly accept punishment

Market impact of short sellers
I am afraid i do not know much about the impact on the economy at large, but at a market level we provide this:

  1. Liquidity: if there are no sellers, there can be no buyers
  2. price discovery: markets where short selling is banned all have wider bid/ask spread.
  3. Lower volatility: markets where short selling is banned are poorly arbitraged.
  4. Better transparency: everybody needs to hedge. Where short selling is banned, hedges are done off exchange in OTC transactions
  5. Honesty: sycophants are the carrots, short-sellers are the stick. If one is held accountable, then one has an incentive to be a good steward

SHORT SELLERS ARE YOUR PENSION ACCOUNT'S BEST FRIEND: absolute risk versus absolute return
Mutual funds are supposedly less risky than Long/Short. Profiting from one side of the markets is like trying to fight Mike Tyson with one hand…
If You choose to profit from one side only, then you are at absolute risk every time markets go sideways or down.

When (not if) markets fall 50%, mutual funds have to make 100% gains to come back to the watermark.
Long/Short post more modest gains on the way up but they protect You on the way down, at least the good ones do.

Risk is much higher going Long Only than Long Short.

Ethical short sellers
Short sellers have to work extra hard. If they want to survive, they have to stay honest to themselves and to the people they serve. I have had extra compliance checks all my career. Every time I shorted something that happened to go down precipitously thereafter, I got an e-mail or a phone call, or in a few cases an inquiry.

At Fidelity, holding a short position when someone else had a Long position always elicited a reality check. It forces managers to re-evaluate their positions, be less complacent, kick the tires a little harder.
They did not always like it but they respected it.

Being a short seller entails an extreme focus on process, a pathological attention to risk and a surgical ability to remove losers. It also means ability to endure pain, criticism. In nutshell, it is ungrateful but we choose to do so because a drop of 50% is unbearable. We provide insurance for the downside

Two ways to kill a bull: Corrida or slaughterhouse
There are two ways to kill a bull: either the corrida, either zapping tired beefs at the slaughterhouse. Guess who gets the horns, the glory and guess who is efficient.

At the other end of the spectrum are firms who put on positions and tell the world. There are also people who go on litigious crusades.
Personally, I believe those practices reflect hubris and greed more than a real attempt at hedging risk. Since our activity is already so poorly understood, those practices cast a bad light on an otherwise useful activity

How do short traders better our economy?

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