Thursday, January 19, 2012

Buy Long Sell Short

I think that one of the issues markets have is the inability to sell long. This popped into mind with respect to housing and now with gold. If it were easy for people to sell gold today at current prices and hold that sale for a few years to buy back, then I would bet the price of gold would drop very quickly.

Housing a few years back had a similar issue, and The Big Short shows a bit of that. But the book also makes clear the problem: while anyone can buy today and sell whenever, it is only a very small subset that can do the opposite. This produces an imbalance that makes it much easier for prices to rise than fall, so bubbles are much easier to inflate than burst. And when bubbles do burst since so few are shorting, there is no one to assist the subsequent crash that takes place.

On that last note: if I want to short sell, and I chose the peak to initially sell, then I may buy back when the market has come down by 2%, buying maybe from another short seller who will then buy back when it falls another 2% and so on. This way the market remains more active, with more people (short sellers) willing to buy at still too high prices because they sold at even higher ones.

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