In the Aesop’s Fables version of the stock market, there are bulls and there are bears. Bulls think the market will go up, so they buy stocks. Bears think the market will fall, so they sell them.
In the actual real-life stock market, bears don’t just sit out a potential market crash; they try to profit from it by shorting stocks. A bear can borrow shares from a broker and agree to sell them back at the same price at a future date. After borrowing the shares, the bear sells them for cash only to buy back the same number of shares right before returning them. If the stock goes down in the interim, the bear pockets the difference.
Complex as it sounds, placing a bet that a stock will fall takes no more keystrokes or phone-swipes than buying a stock on the hunch it’ll go up—but only if you’re richer than the average bear. Hedge funds and high-net-worth individuals short stocks all the time. But when it comes to ordinary investors like me, the financial services industry greets an interest in shorting stocks as a request for a revolver with one bullet in the chamber. Should it?
Here’s why I want to short the market: The disconnect between Wall Street and the real economy has rarely been wider. Right now, the Dow is hovering near all-time highs but our economy is still dragging from a pandemic whose duration is anyone’s guess. Marketplace’s Kai Ryssdal recently prefaced his daily stock market update with the wisecrack “Remind me if you’ve heard this one before.” Yet again, Ryssdal explained, the market had shrugged off wretched economic news and gone up on reports from some tiny, preliminary coronavirus vaccine study. It’s no surprise that the phrase irrational exuberance, coined during the late 1990s tech stock bubble, has come back into vogue.
Figuring that the stock market couldn’t stay frozen like Wile E. Coyote over the abyss of economic reality forever, I decided to place the simplest bet possible that stocks would go down: shorting the Dow Jones Industrial Average. The simplicity is what appealed to me. I’m no day trader—even under quarantine conditions that have made it more popular than ever—nor do I closely track the stock market. But as a newshound, I ambiently pick up major moves in the market without really trying. When the market moves so dramatically that it pushes the other news off the front page, I know I’ll see it and could then consider unwinding my bet—even though, as I soon learned, my brokerage doesn’t trust me to do it.
I have a 401(k) with Fidelity, opened years ago as a benefit of a job at a now-defunct alt-weekly newspaper. I checked to see if I could short the Dow through it. The simplest choice was investing in ProShares Short Dow30, a fund that shorts the stocks in the Dow in order to approximate the inverse movement of the market each day. If the Dow falls 2 percent, the fund rises 2 percent. (The fund’s ticker symbol is DOG; apparently BEAR was not an option.) Other funds take a more aggressive approach to the same goal, using leverage to magnify market movements. Rydex Inverse Dow 2x Strategy Fund (RYCWX), for example, aims to double the daily movement of the Dow in the opposite direction.
But actually buying shares of DOG isn’t as simple as purchasing shares of a fund that moves in tandem with the Dow, such as SPDR Dow Jones Industrial Average ETF (DIA). When I tried to place the trade through Fidelity’s website, I got a slew of buyer-beware warnings. Most just required acknowledging that I’d read some intimidating legalese, but the final one required action on my part to make the trade go through. Only if I first changed my stated investment strategy to “most aggressive”—the highest risk-tolerance level in Fidelity’s eight strategy categories and the one with the longest time horizon and the fewest guardrails—could I make the trade.
The whole thing struck me as bizarre. After all, I was placing this trade to be more conservative. I was worried—I think justifiably—that the market would take a significant fall, and I wanted to protect myself from it. I was moving about a fifth of my account from a variety of bullish investment funds to the most general of bear funds. But to do so I had to label myself “most aggressive.” Meanwhile, if I blithely bet that the stock market would keep rising despite the pandemic and mass unemployment, Fidelity would see that as somehow less aggressive.
I called Fidelity’s media relations department to find out why they made it so hard to bet against the market. Eventually, I received a one-sentence email in my inbox from Robert Beauregard, the company’s director of external communications, with the subject heading “Shorting to DOW.” “Sorry,” Beauregard wrote, “but Fidelity is unable to assist you with your request at this time.” Receiving a no-comment from the top of the corporate pyramid of one of America’s leading 401(k) administrators, a firm with literally trillions in assets under management, only made me more curious. I decided to call in to the normal trading line and ask a trader why Fidelity made it so hard to short the Dow as an ordinary customer. After all, I was one.
My call to Fidelity’s 1-800 number routed me to a trader I’ll call Byers B. Ware, who was willing to explain what Robert Beauregard in corporate would not. “Any time [a customer is] betting against the markets,” Ware told me, they’re brushing up against what he called Fidelity’s official “outlook”: “Fidelity as a company, our outlook is it’s always going to go up, so anytime you’re inversing that in any way, [red flags are] going to pop up.” I gave him my arguments about why, in the short to medium term, I thought the market was more likely to go down—the worst pandemic in a century, elevated unemployment filings now plateauing at nearly 1 million a week. Before I could even get to what I planned to delicately dub “the national leadership vacuum,” Ware conceded, “I get it, myself, as an investor.” I asked Ware if there were any events or economic conditions that would ever push Fidelity to ever have a negative outlook—clearly the pandemic didn’t cut it, but now I was thinking along the lines of things like nuclear wars. “I would say no,” he responded tersely.
It’s true that over the very long term, Fidelity has been right: The Dow has proved to be a good investment. After dipping when the world went into economic lockdown this spring, the index rebounded to hit record highs this year—and any asset at record highs, by definition, has gone up over the long term. But as John Maynard Keynes famously quipped, “in the long run we are all dead.” And a company that specializes in 401(k)s for middle-class investors ought to have the outlook that in the long run our customers are all retired. Indeed, the tax benefits of 401(k)s are contingent upon account holders drawing them down after turning age 72 at the very latest. A glance at the past century of the Dow Jones Industrial Average shows that, yes, it has gone up over the long term, but there have been multidecade troughs—troughs during which millions of people retired and relied on savings they’d invested in the stock market. After the 1929 crash, the Dow did not recover to its pre-crash levels until 1959. It hit a new high in 1966, only to fall back down and not fully recover until 1995. Defending Fidelity’s perma-bull outlook, Ware told me, “If we look at it historically, it’s always going up.” To which the bear replies with an emphatic “Yes, but.”
It’s not just Fidelity that looks askance if you want to short the Dow. The popular day trading app Robinhood takes a more hands-off approach, lettings its users buy inverse index funds without any inverse-specific warnings but restricting which of its customers can make more complex inverse trades. At Charles Schwab, potential DOG buyers must disregard a stern online warning complete with a triangular yellow hazard road sign icon warning, “Not suitable for most investors.” I was bemused to find that Schwab’s listing for Luckin Coffee—a Chinese coffee chain stock that has lost nearly all of its value after an accounting fraud scandal and is being sued by its investors in a class-action lawsuit—comes with no such caveat emptor.
Schwab spokesperson Erin Montgomery offered that the company is committed to an “open architecture approach” in its trading platform that lets customers buy “almost any exchange-traded product within their Schwab accounts” but also “educat[es] our clients about [their] investment products[’] associated risks.” This includes a blanket warning on all inverse funds, since they reset daily in a manner somewhat akin to compound interest. In Schwab’s educational hypothetical, over the course of a year when the market goes up nearly 2 percent, a simple inverse fund could lose nearly 5 percent. In real life, over the course of 2019, the Dow rocketed 23 percent while DOG fell 13 percent. If an investor kept DOG over the long bull market since the Great Recession, they would have lost most of their investment. But inverse index funds are not meant to be buy-and-hold investments; they’re short- to medium-term bets on the general direction of the market.
Financial planners recommend against these funds with varying levels of vehemence. Every certified financial planner I contacted through the national Financial Planning Association warned against putting retirement money in inverse index funds. Michael McKevitt of Palatine, Illinois, acknowledged that “it’s tempting for people to think they will get ahead if they can miss out on the next 20 percent decline, but those who try it rarely do it successfully.” H. Jude Boudreaux of New Orleans elaborated: “Let’s say that you do happen to guess right, and things start to go down. When do you sell? How do you know it’s time to get out and buy back in to a long portfolio? You’re not just creating one choice—you’re creating two choices.” George Gagliardi, of Lexington, Massachusetts, suggested that sitting out a potential bear market is safer than betting on one: “If you’re nervous about the market, stick to nonvolatile assets like cash and short-term Treasury notes.”
It should be said that certain trades, such as shorting an individual stock, really can be dangerous. While the worst-case scenario when buying a stock is that it goes to zero and you lose your entire investment, there is, in theory, no limit on how high a stock can go and thus no limit to how much money one can lose on an ill-advised short. You can see why financial planners wouldn’t want their clients to go anywhere near this with their retirement accounts.
Indeed, with the global economy in uncharted territory, some market novices have gotten themselves into serious trouble placing sophisticated bets. Ordinary day traders got burned holding oil futures this year when a global glut briefly sent the price of oil into negative territory. Investors who had already lost everything they’d put in were then asked to cough up even more cash.
But shorting a major stock market index like the Dow or the S&P 500 is far lower-risk than shorting an individual stock or speculating in commodities futures. The real problem is that it’s ideological heresy. Being a pessimist in an economy built on optimism has always been stigmatized. The first bans on short selling go all the way back to 17th century Amsterdam at the dawn of finance capitalism. More recently, mainland China opened its first stock exchanges with short selling forbidden and even now imposes temporary restrictions on shorting whenever the market falls precipitously, most recently with the pandemic. It is the softer contemporary equivalent of the bad old days in the East Bloc when naysayers who thought the future of the communist economy might not be as glorious as the Party promised risked being condemned to mental institutions as clinically insane.
Of course, your brokerage house can’t lock you up if you think the market will go down. It won’t stop you from putting your money where your mouth is. It’ll just tell you in a lot of legalese that it thinks you’re crazy. Some might even tell you straight up. Dennis Nolte, a financial planner in Oviedo, Florida, emailed me that that anyone considering shorting the Dow should be referred to “a good therapist.”
And maybe they’re right. Thus far, at least, my bet against the market hasn’t paid off. In the context of my overall 401(k), having a portion in inverse index funds has just smoothed out market swings, making my portfolio more conservative, not more lucrative. Call me a heretic, but I’m sticking with my bear fund until the next correction. I still think the perma-bulls are full of it.