Wednesday, January 4, 2017

Lessons From A Master Short Seller

From the CFA Institute's Enterprising Investor blog, Dec. 22:

Lessons from a Legendary Short Seller 
One of the best investing interviews ever is an obscure exchange between the late Robert W. Wilson and Brett D. Fromson of TheStreet.

For the unfamiliar, Wilson managed a hedge fund — Wilson & Associates — that he launched in the late 1960s. During his career, his fund generated annualized returns of about 30%. His net worth peaked at $800 million, most of which he donated to charity.

Wilson was a renowned philanthropist, but it is his adventures as a short seller that are really worth studying. Before famous bears like Jim Chanos took center stage, Wilson was regarded as one of Wall Street’s master short sellers.

Below are a few relevant quotes from TheStreet interview, with some other interesting takeaways from Wilson’s storied career.

“I was always net long.”
An unexpected statement from a short seller.

Wilson routinely maintained net exposure between 25% and 125% depending on how bullish or bearish he felt. Even when extremely negative, Wilson was 25% net long. When asked why he never went short, he answered:

Because I never wanted to get up in the morning hoping that things would be getting worse. All intellectuals I think — and I don’t use that as a particularly flattering term — but all intellectuals tend to have a pessimistic streak.

“There’s something intellectually much more intriguing about failure, which is knowable, rather than success, which is sort of unknowable.

“The way people fail is understandable and predictable and almost inevitable, whereas the way people succeed may never have happened, and so an intellectual is drawn towards failure, I think.”

Pessimism has long been a lure for journalists: “If it bleeds, it leads,” after all. But there’s a difference between generating clicks and generating alpha: We all know there are no short sellers in the Fortune 500. To quote Warren Buffett’s 2015 letter:

“For 240 years it’s been a terrible mistake to bet against America, and now is no time to start. America’s golden goose of commerce and innovation will continue to lay more and larger eggs.”

Optimism is what pays in markets and Wilson knew this.

“The Most Catastrophic Short Play in Modern Times”
In 1978, Wilson had a disastrous experience shorting the Resorts International casino company. Forbes dubbed it “the most catastrophic short play in modern times.”

Wilson reasoned that gambling wouldn’t catch on in Atlantic City in the 1970s. Jet travel was picking up and people could easily fly to Las Vegas instead. Ironically, he has since been proven correct, but this is a testament to the old investing adage that “Being too early is indistinguishable from being wrong.”

Wilson’s interest in Resorts International was piqued when the company’s earnings went from “something like a $600,000 in one year to an understated $50 million,” he recalled. The market believed the firm had a powerful first-mover advantage and a sustainable monopoly. Wilson felt otherwise and believed competition would rapidly pressure the high margins.

He shorted 200,000 shares in 1978 at $15 and watched them hit $190 three months later...

HT: Abnormal Returns