But it is flawed to mention this phrase that ignores the opinion of the famous investor – billionaire Warren Buffett, who has affirmed for years that he does not like to short.
Let’s take a look at why Buffett says short selling is “something that can leave you with a penny.”
What is short sale?
Short selling is a useful strategy for investors who anticipate a decline in price. This means that the investor will borrow an amount of shares to broker, then sell them immediately. When the share price is lower, they will buy back and then return the shares to the lender. If the transaction goes well, the investor will pocket the difference between the lower buy price and the higher selling price.
But these deals don’t always go well. Sometimes the price of a short-sold stock goes up rather than down, forcing investors to rush to buy back the stock at rising costs to cover losses.
And as we’ve seen with GameStop, the phenomenon of “short squeeze” humiliates institutional investors with losses.
So what is Buffett’s point of view?
Source: Larry W Smith / EPA / Shutterstock
Warren Buffett wouldn’t be surprised to learn that short sellers who bet a down GameStop lost billions of dollars in the first month of 2021.
Buffett is known for having a long-term investment stance, preferring undervalued stocks to dizzying gainers due to media attention and hype.
He doesn’t deny that short selling can be profitable. However, he did not do so, because it only brought limited profits but the possibility of loss was unlimited.
‘It’s very interesting’
At the annual Berkshire Hathaway meeting in 2001, he said short selling “destroyed a lot of people. “It could burn you out of pocket.”
“It’s very interesting,” he continued. “You often see stocks suddenly overvalued rather than stocks that are abnormally underpriced… So you think making money off short selling is delicious. And all I can say is it’s not for me. ”
‘It’s really harsh’
Buffett argues that one of the main problems is that short sellers are relying entirely on powerful and influential parties to inflate stocks.
“It’s a very difficult job because you face unpredictable losses and the fact that people overvaluing stocks often lie between the fragile lines of advertisers and scammers,” he said. shared during the 2001 meeting.
According to Buffett, short sellers may run out of money before those who inflate stocks run out of ways to keep prices up.
“It’s really harsh,” he said. “In my experience, making money in the long term is much easier.”
Buffett also responded strongly to the question of “leverage,” an essential element of shorting because stocks need to be borrowed to short sell first.
In a question and answer session with the University of Florida Business School in 1998, Buffett commented on the downfall of Long Term Capital Management (LTCM) at the time, a famous hedge fund that used to be very successful and famous as one of the founders won a Nobel Prize.
The fund had collapsed weeks before, in part because it had been operating with too much leverage in foreign currency investments and risky bonds.
“To make money they don’t have and don’t need, they risk what they have and need,” Buffett told the audience. “That is stupid. Simply stupid. No matter what your IQ is, if you risk something important for something unimportant then it’s meaningless. ”
What should you do?
Openly saying no to the pursuit of short-term profits, it’s understandable why Buffett avoids shorting.
Also at the University of Florida, Buffett takes his stance with a very clear metaphor:
“If you give me a gun with a million ammunition and only 1 chamber and you say, ‘Put the gun to your temple. How much money do you want in exchange for a shot, ‘I won’t pull the trigger. No matter how much money you put in, it doesn’t matter to me because the risk is obvious. So I’m not interested in that kind of game. ”
Buffett’s strategy has long been slow but sure to win the race. Obviously, as a billionaire investor, this motto has worked for him over the years.
And you have a point Buffett didn’t have when he started investing in 1942: technology.
New investors now have all kinds of investment applications on hand, all of which offer the opportunity to increase their money gradually without incurring the same risks as short selling.
And you don’t even have to have enough money to invest. With the micro-investment app, your debit or credit card purchases can be rounded to the nearest number so you can make a backup change – and you do nothing more than my account viewing inched up day by day.
It sounds trivial, but that’s the key. As Buffett once said, “Great moves are usually greeted by yawns.”