Drobny Capital founder Steven Drobny has released the second chapter of his upcoming book The New House of Money as a free download, and this time he is interviewing legendary short seller and Kynikos Associates founder Jim Chanos, covering everything from how he first learned to embrace shorting to where he sees the best short opportunities in today’s economy. Drobny calls it the ‘definitive’ Chanos interview, and he doesn’t disappoint.

Chanos’s biggest professional miss

Chanos tells Drobny that the first stock he analyzed in depth was Baldwin-United Corporation, a piano company morphed into a financial services firm that was using insurance payments and bank debt to fund acquisitions. As a sell-side analyst, writing bearish reports on market darlings isn’t always appreciated, but when the company went under (not before tripling and nearly costing Chanos his job) it gave him his first taste of researching short ideas.

chanos china

Since then Chanos has made a name for himself shorting Enron before it collapsed, different parts of the housing and credit markets before the financial crisis, and practically every other bubble that has come along since he founded Kynikos back in 1985, prompting Drogny to call him the ‘Forrest Gump of financial disasters’. He sat out the dotcom bubble because he wasn’t sure how high tech stocks would go up before they came back to earth, and avoided CDS ahead of the financial crisis because he was worried about counterparty risk, but even then he was aware of the options and chose not to get involved.

“I completely missed Japan in the late 1980s,” says Chanos, calling it his biggest professional miss. “We were too focused on the US commercial real estate bubble, which Japan was helping.”

Chanos says that Japan was playing the role in the late 80s that the Fed is playing now, supplying easy credit and allowing asset bubbles to form. He was so caught up looking at the impact that easy credit was having that he didn’t look for the source of the problem, and missed on huge trades that he says Julian Robertson and others picked up on.

Chanos explains his China short

But the lesson hasn’t been lost, and Chanos says that the flow of capital from China is the root cause of the financial instability we’ve had here in the US, and that by focusing on the source you should be able to find good short opportunities including miners, Chinese developers, and commodities like iron and copper. He’s even considering a rare foray into forex to short the RMB.

“If we are right, the Chinese government is going to have to print a lot of RMB to re-inject liquidity into the banking system,” says Chanos.

Even though he has been warning about the dangers in China for a few years now, Chanos feels vindicated by the fact that his warnings have gone from being seen as crazy to just the bearish side of the typical hard/soft landing debate. That and the fact that the Shanghai market has fallen from 3300 to 2200 since he started shorting China in 2009.

He isn’t as bearish about the US market as you might imagine, but he does think that investors should start to be more cautious.

“There are enough risks out there with valuation, issuance, financial engineering, and leverage in the global economy, that it is probably time to take some chips off the table,” says Chanos.

Chanos and Drobny cover a lot of ground in the book, if you’re interested in a dedicated short sellers take on the market make sure to get your copy of the chapter.