Global economies move in upward or downward cycles that can last for many years or even decades (as is the case in Japan). While many international investors are familiar with buying globally traded exchange-traded funds (“ETFs”) to capitalize on growth opportunities, the idea of betting against an economy in a country or region for a short or long term may seem strange, or worse, unethical.
Investing with Global Exchange-Traded Funds
The easiest way for the average investor to gain exposure to global markets is by using globally traded exchange-traded funds (“ETFs”). By holding a diverse array of securities in a single trust that trades on a U.S. exchange, these funds, known as “country funds,” provide instant diversified exposure to an entire country’s economy through publicly traded securities, with a relatively low cost ratio compared to alternatives.
How to Profit from a Decline
Betting against a decline involves borrowing and then immediately selling shares with an agreement to buy them back in the future. For example, a broker holding AAPL shares on behalf of some clients can lend those shares to a short seller who will buy and sell them for cash. If AAPL shares decrease in value, the short seller can then buy them back for less than the selling price and make a profit.
Important Risks to Consider
Short selling involves a higher degree of risk compared to traditional long-term investing as it involves borrowing or margin. For example, suppose an investor shorts a country fund ETF and misjudges its decline. If the fund’s value rises by 50% over the year, the investor is still obligated to buy it back and sustain a loss of 50% on the position.
Alternatives to Short Selling
International investors may want to consider several alternatives to short selling before taking on the risk. One of the most common alternatives is to buy put options, which give investors the right to sell at a certain price on or before a specific date. By purchasing a put option, investors can profit from a decline by having a guaranteed selling price that might be higher than the market price.
The downside of using options is that they all eventually expire worthless, while a short position can technically remain open. In other words, put options require investors to try to “time the market” instead of simply waiting for their investment to materialize. The trade-off is that they involve much less capital investment, an expected risk profile, and potentially greater leverage.
Source: https://www.thebalancemoney.com/how-to-bet-on-a-country-s-economic-decline-1978846
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