Before diving into the specifics of how to short real estate, it’s critical to first grasp what it means to short the housing market. Here’s a quick rundown of how it all works.
Understanding the basics: Shorting a stock
To “short” something in investing implies to gamble against it. When it comes to stocks, this means betting against the stock’s price falling rather than rising. Short selling can produce money for an investment if done correctly.
Shorting a stock is a straightforward procedure. To begin, you borrow shares of the stock you intend to short from someone who already owns them with the promise of returning them at a later date. Then you sell those shares for cash on the open market. You then repurchase the stock to replace the shares you borrowed over time.
If the stock price falls in the direction you predicted, you’ll be able to purchase back shares at a lower price than you sold them for, and you’ll get to retain the difference as profit. If, on the other hand, you’re wrong and the stock price rises, you’ll lose money when you have to buy stock to replace what you’ve borrowed.
Applying this concept to the housing market
In the housing market, a similar principle can be utilized. In this example, shorting the housing market entails betting on the collapse of home prices. Because there is no direct way to short the real estate market, unlike a specific stock, investors will instead trade real estate investment trusts (REITs) and shares of real estate corporations.
If home prices decline as predicted by the short seller, REITs and company shares will lose value over time, allowing the short seller to profit.
How does it work to short mortgage bonds?
With the release of The Massive Short, the big financial catastrophe finally gets its star turn on the big screen.
The film, which is based on Michael Lewis’s New York Times bestseller of the same name, chronicles the story of six contrarian traders who foresaw the housing crisis before almost anybody else. Their intelligence allowed them to profit handsomely while Wall Street institutions fell apart. Because of his bets, Michael Burry, who is played by Christian Bale in the film, made $750 million in 2007. 1
The film has received positive reviews and has been nominated for an Academy Award, but it’s much better if you know what’s going on behind the scenes. At the very least, it’ll be better when you discuss the film with your buddies later. So, in three easy questions, here’s your cheat sheet for The Big Short. Don’t forget to save the aisle seat for us.
Why is Wall Street Involved with Home Mortgages In the First Place?
The link between Wall Street and Main Street was largely formed when the finance industry invented securitization in the 1970s, which was then mass-commercialized by the now-defunct Salomon Brothers in the 1980s. 2 Securitization now accounts for over 75% of all mortgages issued. 3
This is how securitization works. Several hundred mortgages are initially pooled together by large financial organizations such as investment banks or quasi-government agencies such as Fannie Mae. They then offer bonds to investors using these assets as collateral once the mortgages have been pooled. When families pay down their mortgages each month, the money is paid to investors who bought bonds. The payments to bondholders change as homeowners pay down their mortgage principal early, renegotiate their mortgages, or default on their loans. Mortgage-backed securities, or MBS for short, are the name given to these bonds that investors purchase.
Finally, these MBS (each comprising hundreds of house mortgages) are pooled to form a “trust” that investors can invest in. The trust can be divided into tiers, with some tiers containing only the best quality MBS (those with the safest mortgages given to the least risky borrowers) and others containing just the lowest quality MBS (subprime mortgages issued to those with less than stellar credit scores). After that, investors can choose whatever tier they want to put their money in. Pension funds, for example, are required to invest exclusively in Aaa-rated bonds and only in the top tiers. Those with a larger risk appetite may opt for a Bbb-rated tranche in the hopes of higher returns.
Securitization is particularly good at two things: 1) It distributes the risk of an asset that is otherwise exceedingly dangerous (a mortgage). As a result, 2) more cash enters the housing market, making mortgages more affordable to homebuyers. 4 That’s why, even in the aftermath of the financial crisis, few people argue for major changes in the mortgage-backed securities market.
Short selling, collateralized debt obligations, and credit default swaps: what are they?
Short selling and collateralized debt obligations are two key themes in The Big Short.
When the value of an asset rises, money is usually made in the market. When the value of assets falls, however, there are ways for knowledgeable investors to profit, and short selling is one of them.
Let’s start with an explanation of what it means to “short” something on Wall Street. When investors believe the price of a security (a stock or a bond) will fall in the future, they will sell it short. This is how it works:
The short seller borrows the shares from someone else in the first step (the counterparty). The short seller will agree to return the borrowed stock to the counterparty in full on a future dateit might be a few days, months, or even yearsat the outset. Step two: after exchanging the shares, the short seller sells the borrowed stock on the open market. Let’s pretend the short seller sells one share for $100. Step three: fast forward to the time when the short seller must return the shares to the counterparty, which is indicated in the contract. The short seller takes the $100 he saved from the original stock sale and goes out and buys the same stock on the market at its new price, say $75. If the price has truly fallen, the short seller wins by returning the borrowed shares to the counterparty and profiting $25. However, if the stock price has increased, the counterparty wins.
This traditional approach of “shorting” is employed in finance every day, although it is a simplified version of the method utilized by the protagonists in The Big Short. They employed more complex items than stocks, resulting in a more complicated short. Furthermore, they repeated this sophisticated short several times, resulting in a truly “large short.”
Is it possible to short MBS?
It is possible to sell a bond short, just as it is possible to sell a stock short. Because you’re selling a bond that you don’t own, you’ll have to borrow money to do it. This necessitates a margin account as well as some funds to serve as security for the sales revenues. Borrowing comes with interest charges as well. A short seller of a bond must pay the lender the coupons (interest) owed on the bond, just as an investor who shorts a stock must pay the lender any dividends.
Consider investing in an inverse bond ETF, which is meant to outperform its underlying index. These instruments allow you to short bonds based on their maturity or credit quality. However, because they need more effort and monitoring on the part of the ETF sponsor, their expense ratios tend to be higher than their “long” equivalents.
What was Michael Burry’s strategy for shorting the housing market?
Burry served as a neurology resident at Stanford Hospital and later as a pathology resident at Stanford Hospital after graduating from medical school.
After that, he went on to create his own hedge fund. He had previously established a name as an investor by proving success in value investing, which he discussed on the Silicon Investor message boards beginning in 1996. His stock recommendations were so effective that he drew the attention of corporations like Vanguard and White Mountains Insurance Group, as well as notable investors like Joel Greenblatt. Burry has a very traditional view of what is valuable. “All my stock selecting is 100 percent predicated on the concept of a margin of safety,” he has declared on several occasions, referring to Benjamin Graham and David Dodd’s 1934 book Security Analysis.
Burry founded Scion Capital, a hedge fund, with the help of an inheritance and family debts, after shutting down his website in November 2000. He called it after one of his favorite novels, Terry Brooks’ The Scions of Shannara (1990). For his investors, he immediately made tremendous gains. According to Michael Lewis, an author, “The S&P 500 lost 11.88 percent in his first full year, 2001. Scion’s stock was up 55%. At the pinnacle of the internet bubble, Burry was able to earn these profits by shorting expensive tech equities. The S&P 500 lost 22.1 percent the next year, while Scion rose 16 percent. The stock market finally turned around the next year, rising 28.69 percent, but Burry outperformed it by 50 percent. He was managing $600 million at the end of 2004 and turning money down.”
Burry began focusing on the subprime market in 2005. He correctly anticipated the real estate bubble will burst in 2007 based on his examination of mortgage lending patterns in 2003 and 2004. His research into residential real estate values convinced him that subprime mortgages, particularly those with “teaser” rates, and the bonds backed by these mortgages, would begin to lose value as soon as the original rates were replaced by much higher rates, which could happen as soon as two years after initiation. As a result of this determination, he decided to short the market by convincing Goldman Sachs and other financial firms to sell him credit default swaps against subprime loans that he believed were vulnerable.
Burry faced an investor revolt during his payments for the credit default swaps, with some investors in his fund claiming his projections were wrong and demanding their money back. Burry’s analysis eventually proved correct: he made a personal profit of $100 million and a profit of more than $700 million for his surviving investors. Between November 1, 2000 and June 2008, Scion Capital earned a total return of 489.34 percent (net of fees and expenditures). Over the same time period, the S&P 500, usually regarded as the benchmark for the US market, returned little under 3%, including dividends.
Burry liquidated his credit default swap short bets by April 2008, according to his website, and did not gain from the 2008 and 2009 bailouts. He then sold his company to concentrate on his personal investments.
Burry stated in a New York Times op-ed on April 3, 2010 that anyone who closely researched the financial markets in 2003, 2004 and 2005 might have detected the mounting risk in the subprime markets. He chastised federal authorities for ignoring warnings from outside a small group of experts.
Burry relaunched his hedge fund in 2013, this time under the name Scion Asset Management, and began submitting reports as an exempt reporting adviser (ERA) active in California and approved by the Securities and Exchange Commission. He’s spent a lot of time and money on water, gold, and farmland investments. He’s stated, “Water that is both fresh and clean cannot be taken for granted. And it isn’twater is a contentious and political issue.” “The modest investing he still conducts is entirely centered on one commodity: water,” a statement about Burry’s current interest says at the end of the 2015 biographical dramedy film The Big Short.
With 13Fs filed from the fourth quarter of 2015 to the third quarter of 2016, Glimpses was offered into Scion’s portfolio, as mandated by the SEC when a fund’s assets exceed $100 million. On February 14, 2019, Scion Asset Management filed a new 13F, revealing Burry’s ownership of a number of large-cap stocks and $103,528,000 in 13F assets under management, slightly beyond the reporting requirement. Burry claimed in an email to Bloomberg News in August 2019 that there was a bubble in huge US firm stocks because of the popularity of passive investing, which “has orphaned smaller value-type assets abroad.” Alphabet Inc. ($121 million) and Facebook ($24.4 million) were the fund’s top investments in 2020.
According to a now-deleted tweet, Burry began shorting Tesla before or around early December 2020, and likely increased his short holdings once Tesla’s market cap topped that of Facebook. Burry warned that Tesla’s stock would crash like the housing bubble, claiming that “my last Big Short got bigger and bigger and BIGGER” and taunting Tesla bulls to “enjoy it while it lasts.” He was alleged to own puts on over 800,000 Tesla shares in May 2021. He announced that he was no longer shorting Tesla’s shares in October 2021, following a 100 percent increase in its valuation. He disclosed holding puts on the ARKK ETF innovation index managed by Ark Invest for over 31 million dollars in the second quarter of 2021.
What are my options for shorting the housing market?
ETFs or REITs that are shorted should be sold. Investing in ETFs that are short on real estate is one alternative that is akin to shorting a stock. These ETFs are primarily created to provide inverse returns on a pool of real estate investments, usually REITs.
How did Michael Burry foresee the bursting of the bubble?
In an email sent in 2005, Michael Burry raised the alarm about the US housing bubble. Risky loans and complacent credit-rating agencies were exposed by “The Big Short” investor. Burry predicted the collapse of the housing market and made a fortune betting on it.
Short-term bonds are what they sound like.
Bond funds with a period of fewer than five years are known as short-term bond funds. These can take the shape of commercial paper investments, certificates of deposit, and so on. Because the maturity duration of these short-term bonds is restricted, the interest rates offered by these funds are lower than those offered by long-term bond funds. This article has covered the following topics:
Bonds can be wagered on.
Inflationary pressures have the potential to destabilize global bond markets. This has far-reaching repercussions for your portfolio, which will be revealed in the months and years ahead. What if you want to bet on bond markets collapsing directly? How do you go about doing that and what should you be cautious of if you do?
Also, even without leverage, remember that shorting is not the same as going long. You’re expressly timing the market – you’re not looking to profit from your capital’s income and return; instead, you’re looking to profit from a price reduction. This isn’t a “buy and hold” situation. Keep a watch on your short bond trades, check that the index is acting as expected, and don’t become too cocky the end of the bond bull market may appear to be a “sure thing” now, but it appeared to be a “sure thing” in 2012. (and on several occasions before then). So, which method should you employ? If you’re looking for a “big-picture” bet on greater inflation and interest rates, we recommend betting against government bonds. The longer a bond has to mature, the more vulnerable it is to interest rate changes (as measured by its “duration,” which is defined below).
So, if you believe inflation (and thus interest rates) will be greater than predicted, you should short the longest-duration bonds. With a duration of little under 18, the ProShares Short 20+ Year Treasury (NYSE: TBF) promises to deliver the inverse of the ICE US Treasury 20+ Year Bond Index (which contains US government bonds which mature in no less than 20 years). Shorting UK government bonds is another option if you don’t want to incur the currency risk. With an annual cost of 0.25 percent, WisdomTree’s Boost Gilts 10Y 1x Short Daily ETP (LSE: 1GIS) provides the opposite daily performance of the Long Gilt Rolling Future Index. I wish I knew what “duration” meant, but I’m too ashamed to inquire. “Duration” is a measure of bond risk. It expresses how vulnerable a bond is to interest rate changes. Consider the link between bond prices and interest rates as a seesaw: when one side (for example, interest rates) rises, the other (in this case, bond prices) falls.
Duration (found on most bond funds’ factsheets) indicates how much a bond’s price is anticipated to move in reaction to a one percentage point (100 basis point) fluctuation in interest rates. The longer the term, the greater the bond’s “interest-rate risk” that is, the larger the price movement in response to a change in interest rates. The duration of a bond also tells you how long it will take you to refund the price you paid for it in the form of interest payments and the return of the original capital (in years). So, if a bond has a ten-year maturity, it means you’ll have to keep it for ten years to return your initial investment. It also shows that a one-percentage-point increase in interest rates would result in a ten-percentage-point decline in bond prices (while a single percentage point drop in interest rates would cause the bond price to rise by 10 percent ).
As a general rule, a bond’s duration increases as it approaches maturity, therefore the longer it takes for a bond to repay its face value, the longer its duration. In addition, the lower the bond’s yield, the longer the bond’s term the longer it will take for you to be paid back. A high-duration bond is riskier (more volatile) than a low-duration bond, all else being equal. The duration of zero-coupon bonds (bonds that don’t pay any interest) is always the time until the bond matures. The term of an interest-paying bond is always less than its maturity (because you will have made back your original investment at some point before the maturity date).
What was Jared Vennett’s salary?
The director of Anchorman and Step Brothers adapts Michael Lewis’ great book into an unusual mainstream smash. Prepare for a slew of business jargon and a film that can’t determine whether it’s on a moral crusade or a quest for laughs, starring Ryan Gosling, Steve Carell, Brad Pitt, and Christian Bale…
The Big Short examines the events of the 2008 financial crisis from the perspective of Wall Street, which profited handsomely. Michael Burry, played by Christian Bale, is an odd and scruffy introvert who first detects many subprime house loans that are practically shite and are in danger of failing, causing the US housing market to collapse. Burry then spends almost $1 billion of his investors’ money in credit default swaps, all the while being mocked and chastised for his blunder.
Others soon find out what Burry is up to, including Ryan Gosling’s character, Jared Vennett, a banker (who also narrates the movie). Vennett is the most traditional cliché version of a banker; he’s only interested in making as much money as he can, regardless of how he does it. As a result, the rumor of a house collapse is music to his ears. Burry’s plan to short the housing market is subsequently presented to hedge-fund specialist Mark Baum, played by Steve Carell.
The American economy collapsed, 5 trillion dollars were lost, eight million people lost their jobs, and six million people lost their homes, and Jared Vennett made $47 million in commissions, Mark Baum’s team made $1 billion, and Michael Burry made $100 million for himself and $700 million for his investors.
The portrayal of Micheal Lewis’ book ‘The Big Short: Inside the Doomsday Machine’ by Adam McKay is a grower, not a shower. It takes an hour and a half for it to get fascinating, with the first half consisting of seeing how many huge words full of business jargon we can cram in before someone turns off. It’s also intriguing how the film switches genres halfway through; initially, it’s a black comedy in the vein of ‘Wolf of Wall Street,’ then it’s a righteous expose of Wall Street’s true corruption. However, we assume that this is similar to how those who were affected by the 2008 financial crisis felt.
Overall, we think the film has done a good job of using a number of well-known faces to present a serious and difficult story while also attempting to dress it up in a fun and sexual way… though not quite successfully.
After two years of skepticism and threats from each of his investors, Michael Burry sends emails to each of them telling them how much money he’s made. Then he closes the firm – a movie-style fist pump into the air.
Mark Baum’s (in real life Steve Eisman) ongoing sanctimonious angst that makes him so angry with the system and the world, but the entire while is making the decision to bet against the banks he works for and screwing the poorest people in America is an overall worst factor. Not to add that he does it in a shittone. The worst part is when he’s having to make a difficult decision: should he sell and profit billions from the crooked system he despises? Of course he does, of course he does, of course he does, of course he does
Jared Vennett: Something fishy is going on here. This is very personal. I’m not sure if I’m financially inside of you or not.