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Short and distort - the inverse of pump and dump

Rather than talking up a stock and then selling it at an inflated price, hedge funds and others may be buying puts, talking down a stock, and then exercising the put at a deflated price. That is, selling a stock at a locked-in (option) price and covering at a manipulated low price.
Activist short sellers like Muddy Waters' Carson Block bet against public companies they deem over-valued and then publish their investment thesis. They say their work aids market efficiency and dispute Mitts' analysis as flawed. ...

[Regarding Farmland Partners, Inc. FPLN] he ... published his analysis of 1,720 pseudonymous posts attacking publicly listed stocks on financial website Seeking Alpha between 2010 and 2017. His study found such posts were preceded by unusual and suspicious trading through stock options, in a process he called "short and distort".
https://www.reuters.com/business/how-columbia-professor-became-scourge-activist-short-sellers-2022-03-18/

Comments

  • I don't see retail-grade Seeking Alpha folks being a huge factor in stock moves. A little, sure.

    Short and distort probably happens more effectively on social media and other finpr0n platforms that are trolled by hedgies, institutional speculators, and algorithms who then act on what they see/read there.
  • edited March 18
    Shorts used to act quietly and in secret. But several recent shorting-firms are more vocal and media savvy. They establish short positions, release a big short/negative report and make media and social-media rounds. This isn't illegal. But it has limits as Bill Ackman learned almost a decade ago in shorting Herbalife/HLF (with Icahn taking an opposite long public position), etc.
  • Deep Capture is an interesting read:
    The crimes are the work of Wall Street hedge fund managers and brokers who engage in a common trading strategy known as short-selling. A short sale is a way of making money when the price of a stock goes down. You borrow shares from someone else and immediately sell them off. If the price drops, you buy the shares back and return them to the original owner, pocketing the difference. If a company goes out of business, short-sellers hit the jackpot.

    This is perfectly legal and unobjectionable. But some short-sellers do not play by the rules. A small group of powerful hedge fund managers stop at nothing to annihilate the companies they sell short. Their tactics include: blackmail, smear campaigns, espionage, fraud, harassment, extortion, bribery, rumor-mongering, sabotage, off-shore money laundering, political cronyism, frivolous lawsuits, witness tampering, biased financial research, false identities, bogus credit ratings, bribery, libelous blogs, bad science, forgery, wiretapping, counterfeiting, collusion, lying, cheating, threats and theft.

    Their most egregious trick is to sell “phantom stock.” By exploiting a glitch in Wall Street’s computerized trading system, and a loophole in federal regulations, some hedge funds sell virtually unlimited amounts of stock that they have not yet borrowed or purchased. This is often referred to as “naked short selling.” Hedge funds use this tactic to flood the market with supply and drive down prices – which is blatantly illegal.
    an-overview-of-deep-capture
  • edited March 18
    +1 @msf

    It’s all a game.

    I guess “distort” is open to interpretation. And if done well would be hard to detect or prove.

    But “markets move” and “market movers” exist - and profit from said moves.

    Just MHO of course.

    One prominent short seller (to whom I subscribe) sometimes uses the short seller’s slogan: “Shoot ‘em in the back.” This means, wait until an asset price begins to tumble before jumping on and further pushing the price lower by shorting it on the way down.

    Gosh - I don’t think I could live with myself …:)
  • PByrne was treated outrageously way back when (15y ago) by naked shorters, whose actions eventually resulted in increased crackdown and the rare prosecution attempt (it's flatly illegal, goes the argument). Herb Greenberg (MarketWatch and elsewhere) et alia were the evildoers at the time. I made a lot and then lost it all and a bit more when Novastar got naked-shorted. Byrne was a hero to many w Overstock.
    Now of course he himself has become this total bad actor, destructive on so many fronts. Some of us chagrinned are reevaluating our sentiments and thinking from the housing bubble crash.
  • edited March 18
    It does sometimes seem to me the inaccurate or exaggerated negative statements about companies from short-selling money managers are investigated and complained about far more frequently than the inaccurate and exaggerated positive ones. Short sellers are demonized far too much while boosterism is rarely censured. For as many short sellers out there secretly panning stocks on message boards, there are probably many more people pumping up stocks that don't deserve it, then quietly getting out.
  • msf
    edited March 18
    Here's the page from which @bee's except was taken:
    https://www.deepcapture.com/the-story-of-deep-capture-by-mark-mitchell/

    naked shorters ... (it's flatly illegal goes the argument
    Is naked shorting flatly illegal, or is that just one side's argument?

    Naked shorting is not unconditionally illegal, just as going long without having the money to cover it on the trade date is not unconditionally illegal.

    Is it illegal to buy a security and then talk it up? It depends.

    "[A]busive 'naked' short selling as part of a manipulative scheme is always illegal under the general antifraud provisions of the federal securities laws, including Rule 10b-5".
    SEC Rule 10b-21 https://www.sec.gov/rules/final/2008/34-58774.pdf

    Absent fraud, naked shorts can be legal, so long as they comply with other SEC regs. "'Naked' short selling is not necessarily a violation of the federal securities laws or the [Security and Exchange] Commission’s rules. Indeed, in certain circumstances, 'naked' short selling contributes to market liquidity."
    https://www.sec.gov/investor/pubs/regsho.htm

    Apparently naked shorting is not flatly illegal, goes the official argument. The DTCC agrees, saying that "there is some legal naked short selling.

    With respect to Overstock, "In 2004, Cohodes, a partner at a hedge fund called Rocker Partners, and David Rocker, the fund’s founder, shorted Overstock after concluding that Byrne was making untenable promises about its financial performance. "
    https://www.newyorker.com/magazine/2020/12/14/a-tycoons-deep-state-conspiracy-dive

    That's 18, not 15 years ago. This matters because Regulation SHO became effective January 2005, and Rule 10b-21 became effective Oct 2008.

    For a very different, expansive perspective of the alleged conspiracies, here's Joe Nocera's business column from Feb 2006:
    https://www.nytimes.com/2006/02/25/business/overstocks-campaign-of-menace.html

    To bring this back to the Reuters piece - put options were purchased. That's a way to gain the same exposure as with a short, but there's no failure to deliver; no security lending is involved. As the CEO of Farmland stated, ""This is not about shorting. This is about securities fraud."
  • edited March 18
    "Is it illegal to buy a security and then talk it up?"

    I dunno... if it was half of MFO would probably be in jail by now. :)
  • @Old_Joe is right. Our chitchat is illegal. We MFOers have so much capital and influence that all we have to do is mention a fund or stock favorably to effect massive buy orders. The obverse must logically follow. If a single member becomes disenchanted with a fund and sells, watch out below!!

    Enjoy the bball this weekend. The market can’t sting you if it’s closed.
  • edited March 19
    If I’m considering buying something (especially a stock) I don’t mention it. After I’ve owned it a while I might. I mention this only because it makes so damned much sense. Why would anyone (particularly a fund manager) announce to the whole world that he “might be interested” in picking up a particular asset? If anything, it might drive the price up before he buys. Afterwards it’s likely a non-issue.

    I realize my meager buys or sells won’t affect markets. Yet, it just seems like common sense to buy first before saying anything. I think a lot of “talking-up” of certain stocks or sectors goes on on Tout TV by all those “guests.” What good does it do you or me to buy something a fund manager bought a couple months earlier before the price rose 15 or 20%? While I personally think Bill Gross gets dumped on too much, I always thought his frequent stints on CNBC to be a bit disingenuous. Seemed me he’d predict bonds or interest rates to move in exactly opposite the direction he really believed. This allowed him to take the positions he wanted more cheaply after the herd leaned the other way based on his statements.


    “Through the Retail Lens”

    A new tool from JPMorgan allows Wall Street firms to keep an eye on what retail traders are doing, according to a Thursday report from Bloomberg.

    The bank's "Through the Retail Lens" tool launched in September and is now being used by about 30 asset and quant fund managers, Bloomberg reported. The new tool shows retail flows, predicts the next "short-squeeze," and combs through Reddit and Twitter to determine retail traders' sentiment on a stock, the report said.

    A bank representative did not immediately respond to Insider's request for comment. JPMorgan told Bloomberg that without a keen eye on retail, investors may feel like they're "driving partially blind."


    Source
  • Certainly it doesn't make sense to talk up a stock before you buy it. But after buying it, you'd want to see the price rise. From that perspective, hyping it, perhaps even to the extent of making fraudulent statements, would make sense.

    See pump and dump: https://www.investor.gov/introduction-investing/investing-basics/glossary/pump-and-dump-schemes
    In a pump and dump scheme, fraudsters typically spread false or misleading information to create a buying frenzy that will “pump” up the price of a stock and then “dump” shares of the stock by selling their own shares at the inflated price. Once the fraudsters dump their shares and stop hyping the stock, the stock price typically falls and investors lose money.
    Distorting the short is like that in reverse. Sell a stock short, or get similar exposure by purchasing a put, and then talk down the stock to increase the value of the short or put.
  • edited March 20
    Nocera (following Greenberg) has been muddying the water b/w shorting, even aggressive and disinformation-spreading shorting, and naked shorting (increasing the float) for many years now, building strawmen, blaming the victim, building defenses upon the low or zero effect of the wrongdoing. (Remember, thieves are a helpful reminder to lock our doors; we're all safer for it. A company so thoroughly crappy deserves to go down; if it was truly valuable someone would buy it and stop the shorting; studies show even naked shorting has no effect.' Etc.)

    But naked shorting is shorting more shares than there are in a company, and is unlawful. Weakly enforced, if at all. With it the stock volume can be larger than the tradable shares in the market. Does that sound like a good idea, or just the side of an argument, to be able to do this w impunity?

    For those into detail:

    https://deliverypdf.ssrn.com/delivery.php?ID=748001100113103125085064113123017030099042041058020023102082095068097107009022099065019107039057114029060023093091020114126106017070064086060028019031087094093094092088029095069067091094112081087093125081004003029075068094015106072026009099026083005083&EXT=pdf&INDEX=TRUE

    No one is going to read all that but the conclusion (the second one), about SEC overhaul and aggressiveness, is altogether warranted.


    http://wrap.warwick.ac.uk/55474/1/WRAP_Raman_1173295-wbs-100713-nss_jfe_2011_784_resubmission_20121224_revised_manuscript.pdf

    This is thorough and does find delivery fails did not play a part in price declines in '08.

    These could be superseded, but I could not find updates.

    State of play, at least by the date:

    https://www.natlawreview.com/article/sec-brings-naked-short-selling-case
  • msf
    edited March 20
    But naked shorting is shorting more shares than there are in a company, and is unlawful.

    This is going off into never never land with no sources. For example, the Stokes paper, given for "detail", does not say that a naked short must involve more shares than there are in a company.

    Rather, In Section I, Naked Short Selling, Defined, he describes a naked short sell as one in which the investor "then sells shares of that stock that he does not own or borrow and does not intend to own or borrow." Even this more limited description goes is off the mark. He cites the SEC as the source of this description. Here's what that SEC cited page says:
    In a "naked" short sale, the seller does not borrow or arrange to borrow the securities in time to make delivery to the buyer within the standard two-day settlement period. As a result, the seller fails to deliver securities to the buyer when delivery is due; this is known as a "failure to deliver" or "fail."
    That's an objective description devoid of mind reading. Nothing about intent.

    This is not to say that intent shouldn't be mentioned. With the exception of a few crimes, intent is a necessary component of crimes. If someone commits an act that might be deemed criminal but lacks the mens rea (state of mind, i.e. intent), then it is not necessarily criminal. Which is really the point. A naked shorter might have the intent to cover but due to circumstances fail to deliver. There's a difference between what a naked short is and what a criminal naked short is.

    FWIW, the SEC page Stokes cites in turn cites the very same page that I quoted from above. In it, the SEC states that "'Naked' short selling is not necessarily a violation of the federal securities laws or the Commission’s rules."
    https://www.sec.gov/investor/pubs/regsho.htm

    Elsewhere, Stokes writes:
    [this] article presumes for the sake of argument that naked short-selling does occur to some extent; that when used as a market manipulation tool, it is illegal;
    Emphasis added.

    In the conclusion section, Stokes writes: "One solution rests with the judiciary, who could declare all naked short-selling market manipulation as a matter of law". Thus there must be some naked short-selling that is not market manipulation as a matter of law. Else that solution would be superfluous.

    No one is going to read all that but the conclusion (the second one), about SEC overhaul and aggressiveness, is altogether warranted
    Not what was suggested in the paper. The suggestion was that the SEC overhaul the DTCC, not that the SEC needs overhauling. Rather than paraphrasing, here's precisely what was written in the conclusion.
    SEC should consider an overhaul of DTCC systems, including greater transparency, to better curb naked shorting abuses
    Notice too, that the suggestion was to curb naked shorting abuses, not all naked shorting. Once again implying that naked shorting is not unconditionally illegal.

    As to the impact of FTD (second citation), that is irrelevant to the objective issue of whether naked short selling is per se illegal.

    As to the third reference, I'd already run across it. It defines naked short selling as "unlawfully short selling shares that have neither been borrowed nor located". IOW, according to this writing, if I sell a security that I failed to deliver, not by intent but by circumstances, that is not naked shorting (because lacking intent, it's not unlawful). Rather circular - saying that naked shorting is illegal because we're defining it as something illegal.

    Regardless, it is describing an alleged crime based on Reg SHO. As I wrote before, that became effective in 2005 after the short selling you previously cited took place.
  • edited March 21
    >> This is going off into never never land with no sources.

    Again, https://www.natlawreview.com/article/sec-brings-naked-short-selling-case contains the point, with a 'may', which I maybe should have included. Would that have really made all the difference? I figured I already had enough other sources included already (and are you denying the point about excess, aka phantom, shares?), but the tone change from someone now officially in charge of content here will be good for me to keep in mind. Neverland, indeed.

    Here is a somewhat dated ref, so you could claim it is no longer relevant. And anyway, maybe it was all simply multiple lending and shorting.
    https://www.euromoney.com/article/b1320xkhl0443w/naked-shorting-the-curious-incident-of-the-shares-that-didnt-exist

    >> For example, the Stokes paper, given for "detail", does not say that a naked short must involve more shares than there are in a company.

    true about 'must'; so?

    >> Even this more limited description goes is off the mark.

    the paper is useful when supportive but not when not

    >> If someone commits an act that might be deemed criminal but lacks the mens rea (state of mind, i.e. intent), then it is not necessarily criminal.

    I like the ref to Legally Blonde : https://getyarn.io/yarn-clip/c0d9be9e-4864-43aa-b229-417bc08d8060

    >> A naked shorter might have the intent to cover but due to circumstances fail to deliver.

    A good defense. I sold and failed to deliver because ...

    >> FWIW, the SEC page Stokes cites in turn cites the very same page that I quoted from above. In it, the SEC states that "'Naked' short selling is not necessarily a violation of the federal securities laws or the Commission’s rules."

    'Not necessarily' is another good defense.

    >> Thus there must be some naked short-selling that is not market manipulation as a matter of law.

    I sold shares I did not have and do have and cannot get promptly but it's all good, because.

    >> The suggestion was that the SEC overhaul the DTCC, not that the SEC needs overhauling.

    not what I wrote, ineptly

    about SEC overhaul

    overhaul was transitive, not a noun; my bad.

    >> curb naked shorting abuses, not all naked shorting. Once again implying that naked shorting is not unconditionally illegal.

    Obviously, in hairsplit mode naked shorting should everywhere be and have been preceded by illegal or abusive or criminal or unlawful or like that. Intentional.

    >> if I sell a security that I failed to deliver, not by intent but by circumstances

    I find this to be approaching comedy, but if not, what would those circumstances be? No matter how hard you tried you could not locate shares following your sale of said shares. Seriously, explain the scenario. Please; I am ignorant here. Maybe the naked shorters have a circumstantial case which is not widely known. Meaning the shares are not from Neverland.

    Fwiw, this is sweeping and unambivalent (see ital and bottom line) and also up to date:

    https://seekingalpha.com/article/4453048-naked-short-selling

    You should maybe write for them the modulated and equivocal viewpoint?
  • contains the point, with a 'may', which I maybe should have included. Would that have really made all the difference?

    Absolutely. It's the difference between saying incident X of action Y is illegal because Y is illegal, and saying incident X is illegal because Y may be illegal. One is a syllogism (all Y's are illegal, X is a Y, therefore X is illegal), the other is flawed logic.

    One leads to a valid conclusion (X is illegal). the other is innuendo, offering no sense of probability or relevance to the particular incident X.
    >>A naked shorter might have the intent to cover but due to circumstances fail to deliver.

    A good defense
    In order to establish a crime, all elements of the crime, including intent (mens rea) must be present. If some element is absent, it doesn't matter why. I merely offered a description of how one might FTD without intent. That was for the purpose of warding off the retort: "that's inconceivable". Nevertheless, you attempted that anyway (below).
    about SEC overhaul

    overhaul was transitive, not a noun; my bad.
    Odd change of grammar, as Stokes used "overhaul" as a noun not a verb, transitive or otherwise.

    No matter how hard you tried you could not locate shares following your sale of said shares. Seriously, explain the scenario. Please; I am ignorant here.
    You misread my writing. One might not be able to deliver shares that had already been located. That's different from being unable to locate shares. One is a violation of Reg SHO (again, which wasn't in effect at the time); the other is (absent a showing of intent) a good faith failure to deliver.

    Reg SHO forbids selling short until and unless the short seller can locate shares one reasonably believes can be delivered in a timely fashion. One does not start looking after the sale. It appears that you're misreading the SEC also.

    From your Nat Law Rev source:
    Rule 203(b)(1) of Regulation SHO requires BDs to “locate” the securities being sold, before effecting a short sale. This “locate” requirement means that BDs must (a) [procure]; (b) [contract to procure], or (c) have a reasonable basis to believe that the securities can be borrowed so that they can be delivered on the delivery due date.
  • This is terrific patter.

    >> One might not be able to deliver shares that had already been located. That's different from being unable to locate shares.

    Surely there is if not a cite for this an example from experience, or case law?

    You have got to get a new agent, who will place such a confident voice higher than this forum. Starting w seekingalpha? (I've suggested this before about your corrections of experts, economists and other.) There is so much ultrafine correcting to do about the first dozen search returns for naked shorting (illegal, abusive, criminal, unlawful: intentional, vs the better, honest, innocent kind you are on about here). Not to mention wikipedia and investopedia.
  • I try to avoid citing Wiki and Investopedia. On the rare occasions I do cite Investopedia, it is as a shorthand for something I might write, i.e. it encapsulates a point I'm conveying. I do not present these sites are authoritative.

    As you're aware, Investopedia does not have the best editing - its Deferred Annuity page neither describes SPDAs nor cites the Investopedia Single Premium Deferred Annuity page. That's not an isolated case.

    Since you brought up SeekingAlpha again, we can take a look at the italicized passage there that you referenced:
    Naked short selling is not legal. ... [N]aked shorting involves the selling of shares that do not exist, or have not been borrowed. ... Put simply, if shares are not available to "cover" a short sale, the short position is said to be naked.
    I'll get to "do not exist" branch later. There's an interesting twist on it. First I'll look at the "have not been borrowed" branch.
    >> One might not be able to deliver shares that had already been located. That's different from being unable to locate shares.

    Surely there is if not a cite for this an example from experience, or case law?
    What I wrote follows the "have not borrowed" branch from Seeking Alpha. Real shares located but not borrowed at trade time T that are unavailable to "cover", i.e. become unavailable at cover- (delivery-) time T+2. Seeking Alpha says that, put simply, this constitutes a naked short, and naked shorts are not legal. Full stop.

    You asked how it could happen. Suppose, just suppose, Seeking Alpha is wrong - that such situations are not just legal but common. Perhaps then a place to look for a description of how these trades play out would not be in the criminal code or case law, but at a brokerage that caters to traders. Sure enough:
    Prior to executing the short sale, the broker must make a good faith determination that shares will likely be available to borrow when needed and this is accomplished by verifying their current availability. Note that, absent a pre-borrow arrangement, there is no assurance that shares available to borrow on the date of trade will remain available to borrow 2 days later
    https://ibkr.info/node/845 (Interactive Brokers)

    One may ask, why doesn't the short seller borrow the stock immediately when it is located? That's not required by law, and it's expensive. The meter is running each day that the stock is borrowed.

    I did say that there was an interesting twist on all these sites blithely declaring that naked shorting is always illegal. Remember phantom shares? Those markers, that ersatz stock? No voting rights (they don't exist on the company's books, just on the brokers'), so they can't be real shares.

    Say a short seller borrows some of those phantom shares to deliver. Good faith, no intent to defraud and all that, but the seller never located real shares and never delivered them. Too bad. Lock'em up.

    I can just hear the prosecutor: Ladies and gentlemen of the jury, pay no intention to the instructions from the judge that I have to prove intent to defraud, that I have to prove every element of the crime. We all know what fraud is, right? The defendant cheated this poor sucker investor out of cold, hard cash, and for what? A cheap knockoff. There's nothing more that needs to be said.
  • "Short & distort." Hell, ya. Anyone else been watching ENIC at all, lately? "Short & distort" is THE news surrounding that stock. Goddam racketeers.
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