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Hi Brian,
Friday, March 10, 2006, 4:11:48 AM, you wrote:
B> I have some nice, well-tested long systems in place. I was surprised
B> when testing my discretionary systems, to find that none of my short
B> signals performed nearly as well as the long signals, in the
B> optimization/backtest/monte carlo simulations.
B> Is this common?
As Fred said, the market advances most of the time ...
I have two good shorting systems, one that only shorts and one that
goes both ways. But while the short side of the one that goes both
ways has nice metrics, they are simply not as nice as those on the
long side. There is more drawdown (still tolerable, but more), and
the stats clearly show that, while not terribly dangerous, it's
simply not as good as, and carries a higher risk than, the long side.
Moreover, the long side works just fine in "terrible" markets. (In
this case, the "both sides" system is symmetrical, but NOT always in,
and has been pointed out, symmetry is not necessarily the only or
even the better way to go.)
So I ask myself, why bother with shorts?
For one thing, it appears to me that successful shorting needs to be
timed better and covered quicker, particularly the moment the
position shows any signs of a pulse. Holding over time incurs
interest and stock-loan fees of course. Yet if you look at "bad"
markets, I think you will tend to see a lot of prolonged stagnation,
followed, every so often, by a "nice" selloff. So the timing, I
think, is more difficult. Moreover, you even face the (probably very
small) possibility of a forced recall of your borrowed shares. In
most cases, the option (while seldom exercised) exists for the loaner
to simply force you to return the loan. Now. Period. At market.
Read the fine print. ^_-
Of course if you *know* some internals of a company ... but companies
often rise to absurd valuations irrespective of their internals,
whereas they usually only fall to "cheap, but not absurd".
When you short, you are taking on an army of people who are looking
to stuff your play. A large percentage of the workers in the company
you are shorting may have retirement benefits, for example, that
might be linked in some way to stock performance. They would be
presumed to be working diligently every day in most cases to defeat
you. So would management, the entire team of which almost certainly
has performance bonuses linked to stock performance -- even to the
point at which a management team might try to "engineer" numbers that
would put the stock at a certain valuation in time for some or
another option package held my managers, and would likely result in a
move that, even though probably unsustainable, would likely bulldoze
you out of your short at a loss. In any case, I assure you that
management is scheming (to use a word) in one way or another, every
day, through means both completely honest and perhaps somewhat
otherwise, to increase the perceived value of the shares. Do you
have a team like that on your side? One that can suddenly engineer,
say, a merger on, pardon the pun, short notice?
Even your lawmakers are going to be working against you. They like
to collect taxes on gains; they don't like to let you deduct losses
and pile up carry-forward losses against future gains. The entire
economic system of the planet is geared to making shorting a tougher
bet in most cases than going long.
You are also taking on the collective optimism of Homo sapiens over
the long haul. Sure, we (all people) go through bouts of pessimism,
but mostly we are optimistic on balance.
Shorting can undoubtedly be done successfully. I rarely short, but I
do once in a great while, and when I do it I am profitable. But
IMHO, it is playing the more difficult side of a biased system. I'd
rather play the side that has the built-in bias. It's quite a bias
when you really stop and think about it. I would never expect a
system that played against it to work as well as a system that went
with the primary tide.
My two yen.
Yuki
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