You don’t seem to understand the concept of efficient markets. A short seller believes that current price of a stock is incorrect and overvalued. Therefore he or she can make money by selling the stock now and buying it a short time later at a lower price when the broader market finally catches up with the data the short seller believes he has possession of.
I’m not quite sure what you mean by “retains the title and still owns it”. Suppose borrower B borrows a tradeable security from owner O and short-sells it to purchaser P. Do you mean by “retains the title” that O can legally demand return of the security from P? If that’s what you mean, you’re wrong. O can only demand return of the security from B, who borrowed it, not from P, who bought it. Since B does not own the security any more, he will have to buy it (or, more likely, another security of the same type - not precisely that specimen that was initially borrowed) on the market (not necessarily from P, he can also buy it from anyone who has a security of that type) so he can deliver it to O. If B cannot do that because he’s insolvent, then O is screwed. That’s precisely why securities are usually lent against collateral, so the lender has something to recoup losses if the security is not returned.
In that sense, the lender of the security (O in our example) does not “retain title”. In fact, in a securities lending transaction, title passes to the borrower, just as when you borrow money from someone else title in the money passes to you; it is not retained by the lender.
Sorry, that was a little misleading. But I think everyone realizes that securities are as fungible as cash. At least I hope so. A given certificate of IBM shares may have certain identifying characteristics that get recorded but you don’t actually owe that particular certificate if you borrow it to short sell. In fact the certificate itself probably only exists as an electronic ledger entry anyway.
What you owe and what the person you borrow from retains title to is 100 shares of IBM, not any particular block of 100 shares.
edit: However it should be noted that you do in fact have to borrow those shares from someone to short them. Otherwise what you are doing is something called naked short-selling which is technically illegal. It does still happen even after the 2007 reforms, but it’s not supposed to and they do watch this pretty carefully now if there is a spike in trading where the short trades don’t settle.
Personally I sell naked puts and calls all of the time but there are no regulations against that since those are only options. I’m just entering into a contract based on certain contingencies. I’m not making any representations of ownership.
The lender doesn’t even retain title to 100 fungible shares of IBM. All the lender gets is an in personam right to demand delivery of 100 IBM shares by the borrower.
Take the B-P-O example again, and B borrows 100 IBM shares from O today, with the stipulation that 100 IBM shares have to be returned next month. Now some time between the lending and the return of the shares, IBM disburses dividends (more precisely: The ex-dividend date, which is the cut-off date used by the company to determine who gets dividend payments, occurs during this time). O will not receive dividend payments, as he did if he retained title to 100 shares; the dividends on the 100 shares will be paid to whoever has them at the ex-dividend date. Similarly, if a shareholders’ meeting of IBM occurs during that time, O will not have voting rights for these 100 shares; whoever has the shares at the cut-off date will enjoy voting privileges.
(Of course this does not mean B and O cannot, when they agree on the securities lending transaction, agree on a clause according to which B will pay to O what O would receive in dividends if he had not lent the shares to B. That’s not a retention of title thing, however; as against IBM and the rest of the world, O is not an IBM shareholder any more simply because he does not have any IBM shares - he transferred title to the IBM shares he had to B.)
I’m pretty sure you’re wrong about that. I don’t do any short selling so I’m not intimately familiar with the mechanics but I don’t believe the broker actually has to get the client’s permission. I think this is something worked out with the custodian which is usually the broker.
The fact of the matter is that the actual mechanics are irrelevant to the issue of whether or not short selling constitutes an asset class. So unless you’re going to try to use this as a basis for arguing that, it’s not much more than a fairly pedantic aside. Don’t you agree?
I don’t actually mean to argue anything about whether short selling can be called an asset class or not; that’s a matter of terminological convention that one may or may not agree with, and that I don’t really care about. I just wanted to correct an incorrect factual statement that had been made, that’s all.
And as for who gets dividends disbursed in the meantime, it’s covered in the Wikipedia article on securities lending. Short answer: They’re collected by the borrower (or whoever the borrower sold the shares to, if he has already sold them), but it’s common to include a stipulation in the contract according to which the borrower has to pass on the lender dividends received in a scheme called manufactured dividends.
That’s good to know if anyone ever asks to borrow any of my shares, which oddly enough, no one ever has. Strange. I would imagine that has something to do with all my shares being held in street name and the broker taking care of it, but like I said, it’s irrelevant since if the share’s are in the street name, they’re the broker’s responsibility and they are obliged to make me whole or pay the consequences.
As for it being a merely a technical issue, it’s not. You can’t plot anefficient frontier with assets don’t actually exist.
Nope - I understand 100% what it is - I actually have done fairly sophisticated efficient frontier stuff (granted several years ago) with Monte Carlo analysis. I have also sold short stocks.
What you are not understanding is that the fund mentioned in the OP is a fund - that you can invest in (if you have enough money). Even if all they did was only short stocks. I am NOT shorting the stock. I am going long in their fund which is shorting the stock.
You seem to understand the shorting part, but don’t seem to get it is different.
If you short a stock - as you probably know - your downside is unlimited (well almost). If I short a penny stock at $0.05 and hope to buy it back at $0.01 - I’ve made an 80% return on my investment (minus transaction and interest). So if I invest $100,000 - I will have made $80k. The most I can make is 100k (again minus interest fees). The most I can lose is well almost unlimited. If it turns out that $0.05 stock ends up belonging to a company that invents zero calorie multiple orgasm sugar - and it shoots up to $500.00 - I now need to buy back the shares I “sold”, but it will now cost me a billion dollars - leaving me negative $999,900,000 (and fees and interest).
However - if I invest in a fund that shorts - the fund would effectively go bankrupt - I am not liable for their poor decisions and more than someone could come after me personally if I owned Altria stock and tobacco litigation bankrupted them. There are plenty of ETFs you can invest in that are bearish ETFs that do the same thing. You can short all kinds of stuff - without taking the risk you normally would. You still get the same/similar correlation - and their are higher fees of course. But you can only lose your original investment. You haven’t borrowed anything. You do not sell short - THEY sell short - you are buying shares in their company.
That one requires a minimum level and might have some other requirements, but there are plenty of funds that you can buy long - that all they do it short stuff. You would enter the order into eTrade as any other traditional stock/eft purchase.
And as far as for it being impossible to plot an efficient frontier - it is not. All you need is:
- Time period -
- Asset/investment - and
- Return (or starting ending price).
Have at least two assets/investments - and you can plot it.
I could plot the SDMB using MPT if I wanted to (and accurately as well). It wouldn’t be a good investment - and wouldn’t lie on the frontier - but it wouldn’t mess up the math at all.
Also - not sure why you think I am full of it when the paper I posted (by vanguard itself) - PLOTS the very thing you say is impossible on page 2 
Usually I wouldn’t want to argue about math stuff with someone with Delta & Sigma in their username , but I think if you give it a second look you may change your mind seeing it really isn’t the same thing as shorting a stock. Maybe I gave that impression - and if so - my bad.
I haven’t studied portfolio theory since business school and that was decades ago, so you have me at a disadvantage. However I’m still skeptical of the idea of creating portfolios from “assets” that can’t be clearly defined such as short sales of securities.
When you aggregate short sales into a fund that ONLY does that, I think you probably change the nature of the transaction sufficiently that you can count the fund in toto as an asset. I don’t doubt that. But counting individual short sales as assets to create a portfolio is something I’m much less clear on.
There are too many variables and limitations. For example there is the issue of margin calls. While you may have upside risk on a short sale, the fact of the matter is that you will be required to buy back the shares or deposit more funds at some point long before the stock appreciates significantly. Obviously that becomes much less of a risk though when one is managing a multimillion dollar fund, but not as to any particular “asset.”
But regardless, as I said, I haven’t studied the math for decades and don’t have any reason to go back and look at it again now. Most of my trading these days involves buying and selling options and I don’t even pay any attention to the greeks.
If you have a securities held in a margin account in your broker’s street name, the broker is generally able to use them in their securities lending business. They just don’t pass the money they make on it to you.
Look through your margin agreement - it’s usually an “opt out” situation.