Investing Lessons From the Tesla Short Disaster

While Tesla is currently experiencing “irrational exuberance”, we can’t help but laugh as we see people who have been negative since $40 claiming they got the stock right. It doesn’t make any sense but should teach everyone a valuable less, humans are *never wrong*. If you’ve studied mass delusions, you know that people will never admit to being wrong even if the facts continue to say they are wrong. This is because ego is an incredible drug. So, we’re going to outline a clear way to spot this madness and how you can avoid falling into the same trap.

Tesla Case: The financials are ugly, is it a software company, a battery company or a car company? Will the debt load be reduced, can Elon Musk always get funding? So on and so forth. What we do know is this. When you’re betting against someone it probably isn’t wise to bet against one of the smartest people in the world. There is no debate that he is one of the smartest people in the world as he succeeded with PayPal, Space X, Solar City and Tesla. Those companies have practically nothing in common. Not to mention his other smaller successes along the way. The first thing to remember? Never short sell a “famous” CEO. Steve Jobs was another good example and someone like Jeff Bezos is yet another. You can dislike them, but shorting them is a fools game as one “hype move” of 100% gains takes you to zero and you can’t recover.

The second thing to note here is that you could be wrong. The biggest thing we learned from Elon Musk has nothing to do with cars, batteries or PayPal. It had to do with risk tolerance. He had an interview shortly before launching Space X and he said he tied a <10% chance of it even succeeding. Yet he did it anyway. Why? Asymmetric returns. With Space X, he knew that in the <10% chance it succeeded the value created would be more than 1,000%+. This means risk reward said it was a good investment/bet to make. How does this relate to Tesla? Much and the same. He bought Solar City with Tesla and he could very well make an entire new market by himself. Laugh if you want, but this is what Apple did when the iPhone was released. Blackberry was taken out and Apple became a trillion dollar company. Off of one genius product. One.

The third and final thing to remember about short sellers is that they are emotional. You can tell that Tesla is one of the “un-shortable” stocks. It is the exact same way with crypto currencies and weed stocks back a couple of years ago. We’re not saying it won’t fail (it certainly could) but the amount of emotions it has is unparalleled. Bears are absolutely obsessed with him and the Company and even at today’s levels they think they are right (despite losing all their money several times over, only to lose all their money again).

How to Apply This? The application of this phenomenon is actually simple: crypto currencies. You have weird people who believe that Bitcoin will be the only crypto currency despite more and more and more coins being created every day. In addition, you have other weird people who think it’s going to go to zero. The chances that either one of these people are right is next to zero percent.

So how do you think about Tesla and Crypto? Simple. You either buy a small amount and forget about it… or you simply forget about it. You do not short any of them as a 100% gain (*extremely possible in any year*) can put a huge zero into your account. Even if you only shorted it with 2% of your networth, that’s a massive set back if you average 10% gains per year.

If you would like to go for the “loop” as we call it we recommend doing the following on any volatile investment: 1) find the biggest supporters, 2) find the biggest detractors, 3) find their expected price targets and then 4) find out their backgrounds.

You’ll find that Tesla and Crypto are basically the same (in terms of emotions nothing more). Tesla supporters think it’s going to be a half trillion dollar company, detractors think it is a zero and the backgrounds of supporters are generally smarter than detractors (just look at their tech backgrounds and no professional investors are not “smart” we’re referring to tech specialists only).

We go ahead and assume that Tesla supporters/detractors are equally intelligent. So 50/50 chance it goes to $0 or $500B. This means you’re going to get a 300% return or a 0% return… expected value is 150%! Do not short.

From the chart above if anyone was long-term bearish at *any time* below $400, they are not allowed to have an opinion anymore. By definition they lost over 100% of their position. The only exceptions would be  a genius who shorted in the $300s bought back or said cover by $200 or so. That said… Just go on Twitter and the you’ll the same bears at $733 were bearish at $40 or less. No credibility or decency to say they were wrong.

Do the same with crypto! Unsurprisingly it’s the exact same thing to a T. You have people who say Bitcoin will be worth $100K and others who say it is a zero. If you assume both are equally intelligent the implied return is about 500%!

You’d think we’d have some complicated way to think about it but that’s really all we do. If you look at high risk high return assets it almost never makes sense to short. Similar to biotechnology companies. Unless you have specialized testing data, it is better to just own a small amount or ignore it. One set of testing data can send it up 100%+ in a day.

This Is Risk Averse: People talk about “risk averse” and confuse it for “volatility”. They are not the same and will never be the same. By owning a small amount of these high volatility stocks you’re actually taking a risk averse decision. Why? You have to ask yourself “what if I am wrong?”

If you’re wrong on Bitcoin and you didn’t own say 1% of your net worth, that would have gone all the way up to 10% of your net-worth if a parabolic move occurs. If you’re wrong and it goes to zero, you lost just 1% of your net worth and your life didn’t change. So… Ask yourself, are you okay with your net worth potentially being 10% lower with the risk of a 1% hit? Chances are you’re going to end up buying a small amount. This same logic applies to a lot of other items: Gold/precious metals, asymmetric biotechnology stocks, Venture Capital investments and more.

How to Sell: Now the last trick is avoiding complete collapse and irrational exuberance. This is going to be psychologically difficult but we use the 33% rule for high risk high reward assets. We don’t use 50% as these types of investments usually make irrational parabolic moves when they go up.

If you invested $10,000 into a high risk asset and it goes to $30,000 we would then cut the position by $10,000 or 33%. It is really that simple. This way you get to keep your high risk investment without being upset if it goes up more or goes down for a period of time. The dollar number is less important relative to the percentage gains. If $10,000 is small for you, and it’s $100,000 then you’d trim $100,000 if it was at $300,000 (for fun, yes we’re saying we wouldn’t touch Tesla here until the volatility stops, three years ago we said buy small and forget or never short and unlike the crazy people on twitter rarely spoke about it for years).

Feel bad for all the Tesla shorts. Even if they believe it's going bankrupt it's never smart to bet against ceo's considered "godlike"

Jobs and Musk are just in the "unshortable" CEO lists – always find a way. Better to just not play if negative

— Wall Street Playboys (@WallStPlayboys) August 2, 2018

Simple Conclusions: Instead of trying to predict homeruns it’s a lot easier to expose yourself to potential home runs without the headache of constantly following it. The second major item is that you don’t bet against geniuses. Please spare us the “I did the homework” on the stock type arguments. Betting against geniuses just isn’t a good proposition and why anyone would want to see someone like that fail (a person risking everything he has to improve the world) is beyond us. No need to become a fan boy like many millennials but there is also no need to dangerously short a high volatility stock that can take you to zero within a month.

Newer Readers: For those that are unfamiliar with our blog we have three high quality products in order: 1) Efficiency, 2) Triangle Investing and 3) Spending for Maximum Return. In order, you learn how to make a good amount of money (a million liquid within 10 years or so), how to correctly invest it and finally how we’d avoid blowing it all with intelligent spending.