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Bears Should Be Hugged


Interesting article in the latest Economist about bears and their usefulness to the market. It first describes the asymmetrical outcomes the poor unloved bears usually face:
Nobody loves a party-pooper. When asset prices are going up, most people are inclined to celebrate. The bears who argue that asset prices are about to fall tend to get dismissed as out of touch (dotcom skeptics supposedly “just didn’t get it”) or are likened to stopped clocks: occasionally right, but mostly wrong. If they dare to make money out of their beliefs by selling short (betting on falling prices) when a crisis hits, bears are decried as economic vandals and politicians call for their activities to be banned.
It then tells us about how useful bears are and how they should be nurtured instead of ridiculed during good times and despised during bad times:


Legend has it that Roman generals, when making their triumphal marches, were followed by a slave whispering “Remember, you are mortal.” The bears play that role for investors. Their arguments should be countered with reason, not ridicule. And the right to sell short should not be restricted arbitrarily. If regulators want to prevent future bubbles, they need to let the bears roam as freely as possible.



Besides being slightly condescending (bears are there to remind bulls that they're not gods!?), there's a problem with this line of reasoning. Indeed, some people might argue that undercapitalized bears (and most bears are undercapitalized after an extended bull market) prolong bubbles by selling too early and buying too late, providing the short-covering fuel for yet another lunge higher. As everybody knows, it's only when the last bear turns bullish that the bubble finally bursts.