Practically everything we believe gets pounded into us through the process of socialization. Children gravitate towards "boy things" like sports and trucks and "girl things" like dolls and dresses because society conditions parents and caretakers to set that tone. I laugh when my neighbor gets uneasy watching his son play Barbies and dress-up with my daughter.
As investors, we're socialized to believe that stocks should not only go up, but that we should only place bets on their appreciation. Every time the market corrects, people ask me if the triple-digit down days have had an impact. There's this inherent belief that investors get killed when the market goes down. Bad investors get killed when the market goes down because of the socialized tendency to not make bearish plays on stocks or the broader market.
Think about it. When the writing is on the wall for a stock, investors generally sell it. They figure it's done, therefore it's time to get out. They sell, sometimes for a profit, sometimes for a loss. And that's that. Generally, they only check back with the stock to see if it's time to get long again. We're not socialized to close our long positions, act on our bearish sentiment and short the stock directly or via put options.
Of course, several real world reasons exist for this. Relative to the straightforward proposition of going long, getting short is complicated. Shorting a stock requires a margin account, which carries risks many investors simply cannot comprehend, let alone swallow. In terms of buying puts, basic options knowledge eludes large numbers of investors, even as options become more popular at the retail level. And selling calls involves a level of risk that most investors, save advanced traders and big-time high rollers with considerable account equity, should probably stay away from.
These hurdles aside, I think mindset remains obstacle number one. We tend not to short stocks because we're conditioned to believe it's wrong and that stocks should always go up. Old mores die hard, however. Ask people who went underwater on real estate, an "investment" that many Americans figured could (and should, by the grace of some higher power or sense of entitlement) only go up.
In certain situations, I agree that it's probably a bad idea to go short directly or via put options. Often, it's simply not practical. Consider the following three stocks. While I am bearish on the long-term prospects of each company, I'm not sure it makes sense to short them. Little bang for your buck exists, unless your bearish script plays out perfectly, sans a hitch.
Research in Motion (RIMM). While I don't necessarily agree that Google's (GOOG) bid for Motorola (MMI) makes RIMM a long -- out of the blue -- I can see the argument. I think RIMM remains as inept as ever, but if people keep talking about a buyout, sooner or later, some sucker will come along and fulfill the prophecy. That said, the last thing you want to do is be short a stock that has had the bottom fall out.
What if you were short MMI when GOOG called? You might have been forced to sell your Colnago to meet the margin call. MMI could have just as easily been RIMM.
Yahoo (YHOO). I have made my bearish take on Yahoo clear. Carol Bartz and Jim Balsillie could host conferences on how not to interact with the public and how to drag out the execution of weak business models for forever and a day. That said, somebody could come along and take Yahoo out tomorrow. Just as I don't want to be stuck short RIMM at $25.00, I don't want to be short YHOO at $13.50. I wanted to be short RIMM somewhere around $60.00 or higher and YHOO in the $20s and $30s.
If you really feel the need to make a bearish bet on RIMM or YHOO, read up on bear call credit spreads and bear put credit spreads. You run much less risk of losing big money with those strategies than you do shorting the stock outright, buying puts or selling naked calls.
Sirius XM (SIRI). Thanks to relatively competent management, SIRI is not as strong a short candidate, on the surface, as RIMM or YHOO. It still, however, warrants bearishness due to its passive approach to competing with innovators in the audio entertainment space such as Apple (AAPL), Pandora (P) and Clear Channel (OTCQB:CCMO).
But, really, unless you can trade serious size or have considerable account equity and a ferocious appetite for risk, I am not sure shorting SIRI makes sense.
I ran though pretty much every put option out there on SIRI. And, in each case, the downward move you would need to turn a profit worth your time on a modest number of contracts would take the stock well below $1.50 and probably close to the $1.00 level. That's a tall order.
Unless you can trade several hundred $2.50 puts heading out to January or March, I'm not sure it's worth it. And the risk involved in selling $2.50 calls (which looks like an attractive play), for instance, is just too great for mere mortals to swallow. If a tender offer comes in for SIRI tomorrow at $4.50, you're finished.
By the same token, an outright short on the stock requires some meaningful size as well. If SIRI tanks to $1.50 and I am short 1,000 shares at $1.90, I earned myself a whopping $400. It's not worth the risk.
We've been socialized to regurgitate the old adage "buy low, sell high." As this article warns, you need to think prospective shorts through just like your longs, but it might be time to bring young investors up on a new motto: "Short high, cover low."
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.