Don’t Accept Losses from Virtue Investing
A tweet from me:
You put on a trade. You are short bonds, or something like that. It may be tempting to see the people on the other trade as the “bad guys,” while you are the “good guys.”
For example: You may see yourself as part of a movement or effort to impose fiscal discipline on the federal government, and the people on the other side of the trade, the longs, are the enablers. You are the good guys, and they are the bad guys.
Don’t do this.
If you believe that a trade will make you virtuous, you will be more willing to accept losses.
There were some very angry bears toward the end of 2022 who were enraged about the excesses of the bull market and the losses sustained by individual investors. They wanted to punish those whom they believed to be the bull market cheerleaders in 2021—like Cathie Wood. They were the good guys, and Cathie Wood was the bad guy. They were limit short in October… and got carried out.
I will say what should be obvious: The stock market (or any market) does not care about your brand of morality. Or anyone’s morality. There is no good or bad in the stock market, not right or wrong—just winners and losers. The winners are the ones who were able to predict tomorrow’s prices today; the losers got it wrong.
There should be no moral significance to it. The people who get trades wrong aren’t bad people. The people who get trades right aren’t good people. And the two sides will switch places at some point in the future, I can assure you of that.
The Special Case of ESG
ESG (environmental, social, and governance) is the very definition of virtue investing. You’re going to buy these stocks that don’t burn fossil fuels or sell tobacco or alcohol, or the casinos, or make weapons of mass destruction. By excluding these stocks from your portfolio, you get to feel good about yourself.
It will also make you more willing to accept losses—or, in this case, underperformance.
ESG has blown up in the news, so there is not much reason to rehash it here. There are a whole bunch of problems with it, the least of which is the conflicting standards among rating agencies. And there is a lot of empirical evidence that outsized returns can be obtained by investing in the “bad” stocks.
For a while, there was no cost associated with ESG investing—the “good” stocks were actually outperforming. But then we had a huge run-up in energy prices, and that outperformance evaporated. Over the long term, there will be a cost associated with ESG investing, and the question you must ask yourself is:
Is it worth having $150,000 less at retirement?
Alternatively, you could just invest in the S&P 500 in your 401(k) and donate $150,000 when you retire. You would probably do a lot more good that way.
One thing I’ve noticed about the stock market… I’ve never made money on an angry trade. And you see this a lot—there are a lot of angry people in the stock market. Angry longs and angry shorts. These people never make money, and if they do, it is transitory. Only relaxed, confident, happy people make money in the stock market.
There are exceptions to this, of course. There are a small handful of professional short sellers who wage campaigns against their targets to drive the stock down. For them, it really is personal—they think the companies are frauds, and they think the managers are immoral. I just can’t bring myself to be that angry all the time. Why does it have to be personal? They think they are fighting for truth and justice and the American Way. I don’t know how you can be past 35 and be that idealistic.
But for the most part, angry traders do not make money. It’s one of the reasons why I’m bullish on bonds (at least, at the time of writing—I have tight stops on this position): because the people on the other side of the trade are so angry. You know what will make them even angrier? When the position moves against them. Nothing worse than being angry and losing money.
I understand perfectly well the rationale behind short selling, and I understand how it is necessary for markets to be fairly priced, but I have absolutely nothing in common with these people anymore.
I have shorted my share of stocks—I haven’t had much success at it. To be fair, I haven’t had much success at buying stocks either. But any trade that’s going to put me in a state where I’m going to be rooting for someone else’s misfortune, I want no part of.
I leave that to people better qualified to handle it.
Jared Dillian, MFA
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