Short selling the current stock market, which has seen ups and downs like never before throughout the health crisis, seems like a financial disaster waiting to happen, loading up on risk at a time when many people can’t even afford to pay their monthly rents.

According to Wolf Richter via; one investor has just put his money where his mouth is by shorting the world’s largest exchange-traded fund, the SPDR S&P 500 Trust ETF, predicting that in a few months, it will all be worth it.

Short selling is a risk-heavy trading strategy in which an investor will bet on the decline of a particular stock. They borrow shares of that stock that they anticipate will go down in value by a particular date. The investor then sells off these shares to buyers at market price, but before the borrowed shares must be returned, they count on a continual decline in price, eventually allowing the investor to buy the shares back at a lower cost.

When done correctly, short selling can reap substantial rewards. On the other hand, when predictions turn out to be wrong, the practice can be absolutely devastating. After all, the potential for loss on a short sale is essentially unlimited, as the price of any asset can rise indefinitely.

At the time of this particular investor’s move, the stock market had carried out what was being called the “greatest 50-day rally in history.” Against all odds, the S&P 500 index jumped an incredible 47 percent from the intraday low on March 23, when it bottomed out at 2,192 to the close on June 8 when it hit 3,232.

Since then, the market has dipped here and there but generally remained consistent. This comes even amidst the greatest economic turmoil people have seen in decades, marked by historic rates of unemployment, a string of high-profile bankruptcy declarations, and of course a raging pandemic now cropping up in second waves even in places that had started to see a slowdown in cases.
However, the explanation for it all is really quite simple. It’s an institution that has come under fire again and again for their handling, or mishandling, of the health crisis’ economic consequences. Enter, the Fed. The Federal Reserve has been printing money at record rates during the pandemic. Between March 11 and June 17 alone, a period of a little over four months, the Fed printed $2.8 trillion and pushed it into US markets. The vast majority of that injection–$2.3 trillion–was printed just in the first month. This move was entirely unprecedented, and no one seemed to stop and consider the eventual fallout it would cause.

With so much money flowing in, investors took off on a wild goose chase, going after anything, like those junk bonds sold by struggling cruise lines and airlines whose revenues had plunged 80 or 90 percent. With the Fed’s injections getting circulated, stock prices responded by spiking up.

Unfortunately for us all, while the Fed was talking about all the asset purchase programs it was planning to establish, it actually cut back on the overall level of its purchases.

In the week that ended on June 10, the Fed’s total assets of $7.1 trillion increased by less than $4 billion. And in the following week, ending on June 17, its total assets fell by $74 billion.

Essentially, the Fed carried out the majority of its quantitative easing in March and April, and then strategically backed off. That means it has since cut back on the number of government bonds or other financial assets it was buying. These purchases were the reason the Fed has been able to inject so much money into the failing US economy to expand economic activity, especially as consumer purchases were way down.

Furthermore, the Fed’s new tactic has moved its lending and asset purchases away from propping up financial markets toward propping up consumption by states and businesses, and ultimately toward propping up spending by individual consumers. These funds are flowing into consumption rather than asset prices.

So the institution responsible for the printing of $2.8 trillion in new money, that then got pushed into the market, has stopped propping up asset prices.

This leaves the market, following its historic 50-day rally, to now stand on its own in the face of a collapsed economy, widespread business failure, and record unemployment.

Shorting the greatest stock market rally of all time? Maybe not the worst idea after all.

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Epic Economist

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