Taking Stock: Selling short

Dear Mr. Berko:
Do you think interest rates are going to rise? Because I believe they will soon, I would like to sell U.S. Treasury bonds short. What’s the best way to do this?
PT, Cincinnati

Dear PT:
A short sale is betting that an investment will decline in value, and if it declines, you will make a profit equal to the dollar value of the decline. Assume Holy Mackerel shares (HM) trade at $25, and you decide to sell 100 shares of HM “short” at $25 because you know the company will report a sharp drop in sales and earnings. You don’t own HM stock, so your broker will borrow 100 shares from his inventory for you to sell. And when the HM trade settles, you have a $2,500 credit in your account, and the borrowed shares must be returned to your broker eventually. Now two months have passed, and by golly, you were as right as green grass and sunshine. HM reported a revenue and earnings decline of 25 percent, and the stock fell to $15. So you purchase 100 HM shares using $1,500 of the $2,500 credit in your account. The just-purchased HM shares are returned to the broker’s inventory, and you make a profit ($2,500 minus $1,500) of $1,000. Not shabby for two months of work! Anyone can do it. It’s duck soup, easy as pie and simple as Simon. However, both times I decided to sell short, I lost money – not much but enough to give me agita.
Selling short is patently, outright and downright speculation. Short sellers are uptight people. They never smile. They have high blood pressure, stinky breath and acidic stomachs, and they are constantly blinking, have nervous ticks and are frequently constipated. I am not good at speculating, never have been and don’t care to be. My shtick is long-term investing with dividend growth issues. So when the market tanks and values of good stocks decline, I still will be owning those good stocks and getting dividends every quarter; they’re like gifts that keep on giving.
And yes, I believe interest rates will rise. I think it’s inevitable, and the recent noise coming from the Federal Reserve’s board of governors seems to confirm it. However, there are three things we don’t know: 1) When will rates rise? 2) How much will rates increase? 3) Will rates remain higher? So if you know the answers to two of the three questions, it might make sense to sell U.S. Treasury bonds short, and you might even make a profit. And the easy way to do that would be to purchase an exchange-traded fund called ProShares UltraShort 20+ Year Treasury (TBT-$65.50). Yes, I said “purchase,” not “sell short.” TBT came public in April 2008 and has assets of $3.4 billion.
Now, listen closely to how this works, because I’m only going to write it once: This investment (TBT) seeks daily investment results that correspond to two times the inverse (-2x) of the daily performance of the Barclays Capital U.S. 20+ Year Treasury Bond Index. TBT purchases derivatives that its advisers believe, in combination, should have similar daily return characteristics as two times the inverse (-2x) of the daily return of the index. And this index includes all publicly traded U.S. Treasury securities that have remaining maturities of at least 20 years. In this instance, if interest rates rose (meaning fixed-rate U.S. Treasury securities would fall in price), the market value of TBT would rise, and you’d be profitable. However, if interest rates fell (meaning fixed-rate U.S. Treasury securities would rise in price), the market value of TBT would fall, and you’d lose money. Cool beans! This certainly would be easier than borrowing U.S. Treasury securities and then repurchasing them.
TBT trades on the Big Board just like a stock, and because a growing number of investors share your feelings, this ETF recently has experienced some big cash inflows. Its 52-week range is a low of $56.32 and a high of $77.40, and the current $65.50 price could be an entry point.
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Please address your financial questions to Malcolm Berko, P.O. Box 8303, Largo, FL 33775 or e-mail him at mjberko@yahoo.com. Visit Creators Syndicate website at www.creators.com.
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