Double standard
I don't pretend to know one way or another whether the practice of naked short selling is ethical. But it sure seems to this casual observer that the government's new decree limiting the practice amounts to an egregious case of playing favorites.
First though, let's back up a bit. It seems this subject has even a lot of knowledgable people confused — from left-leaning economist Dean Baker to Wall Street Journal personal finance columnist Brett Arends. They fail to make the distinction between regular short selling — borrowing and then selling a stock on a bet it will fall in price, then buying back the stock at a lower price and returning the borrowed shares — and naked short selling, in which you never actually borrow the shares to begin with. There might be squawking about short selling in general, but it's naked shorting that the SEC is cracking down on.
Of course as both Baker and Arends point out, there's nothing wrong with regular short-selling; indeed it performs a valuable role. But there's not enough time in the day for me to figure out the ethics of naked shorts, and being a rather conservative type of investor, I have no practical need to do so. Professor Michael Rozeff thinks that if companies don't like naked short selling, "they can either devise a restriction on that stock or they can find an exchange that makes that a facet of listing." On the other hand, if a company has 60 million shares outstanding, and proxies representing 80 million shares show up at the annual shareholder meeting because of naked short selling, it sure seems like someone's committing wrongdoing.
In any event, for the SEC to crack down on naked short selling in only one sector of the market — the one that happens to benefit most from the actions of the Plunge Protection Team in which the SEC chairman is a key figure — is an outrage. The WSJ reports:
Critics of the SEC's move Tuesday asked why certain financial firms were being protected — but not the broader market — especially when many of those firms are also active short sellers.
"For heaven's sakes, they're the very ones we believe have been doing this…to thousands of public companies," said James "Wes" Christian, a lawyer with Texas law firm Christian, Smith & Jewell, who represents companies who have filed lawsuits relating to short selling.
So now we have one standard for the companies that grease the skids for naked short selling… and a different standard for everyone else (including junior gold miners — naked shorts is one of the reasons some experts cite for the fact juniors haven't nearly kept pace with majors or bullion over the last year).
So what do you have to say? Is naked short selling OK or is it an act of theft? Let rip in the comments.
Update: Dan Amoss weighs in on the question in today's 5 Min. Forecast.
Sphere: Related Content
Naked short selling=theft, in my opinion. I’m tired of different rules that depend on who your friends are. It’s time to grow uup kids and learn to behave.
Comment on July 16, 2008 @ 9:31 am
Never even heard of naked short selling until a couple of weeks ago. Seems very unethical.
Comment on July 16, 2008 @ 9:06 pm
I have no objection to naked short selling, as long as you post a bond (or have someone else post a bond) equal to the value of the stock before you sold it so if you can’t cover the stock you can still compensate the guys that bought your naked shorts.
You have to have short sellers to keep people running pump and dump scams from wrecking the market.
Otherwise, how do you keep people honest on either side of the stock?
Now as to whether the US government is naked shorting gold and silver…
Comment on July 16, 2008 @ 10:09 pm
Naked shorting and how it’s been used
is criminal, and has destroyed or
maimed a large number of companies.
More than likely a number of new technologies,
medical breakthroughs,etc. have been
lost or significantly delayed to the
god of profit at any cost. Now some of
the very institutions which worshiped at the
altar of naked shorting or facilitated it
for others are given an exemption from
allowing others to do the same to them.
where is the justice? More investors have
been harmed or stand to be harmed from
naked shorting than the failure of one
of these institutions at the root of the
problem.
Comment on July 16, 2008 @ 10:22 pm
Shameful……just shameful.
The time has come to IMPEACH Chris Cox, Hank Paulson, George Bush, Their entire administrations, and fire the FED!!! The whole damned federal reserve!!!
They want more power???? May it never be!…..They have long since gone way too far. Fire them all now…..And dont look to Obama or McCain becuase they are just more of the same…..The time has come to throw them off!!!!!!
Comment on July 17, 2008 @ 1:25 am
Naked short selling is illegitimate, pure and simple.
Comment on July 17, 2008 @ 3:22 am
There’s nothing wrong with naked short positions as long as the number of short positions doesn’t exceed the number of available shares. Exchanges should take care of supervising this ratio. This ratio should also be public so that it could be used as an investment consideration / strategy (I don’t know if I’m reinventing the wheel however).
Apart from limiting the number of days why not increase the costs for short selling? Double the margin requirements for (naked)short selling and the problem will solve itself, I expect.
I agree that any measurement should cover the complete market and that it should not be limited to a particular segment. It could corrupt the market mechanism. The FED lost it’s credibility as an independent organ in my view.
Comment on July 17, 2008 @ 4:45 am
Whether it should be illegal or not is outside my ability to judge. But if it is going to be banned, it should be banned for all stocks, not just to the ones controlled by the well connected few.
Just another example of how the republicans have morphed into some sort of “socialism for the wealthy ideology” instead of the “hands off capitalism” they claim to practice.
Comment on July 17, 2008 @ 9:03 am
Kees, I think you are confusing regular
shorting against shares which exist and
are located versus naked shares which
are created out of thin air, increase
the float illegally, depress the the
company’s shares hurting both the
company and it’s investors. I don’t have
a problem with shorting existing shares,
it’s the counterfeiting of phantom shares
for which they are paid with the hopes
they can drive the company into the ground
and never have to redeem those shares.
It’s just plain fraud!!!
Comment on July 17, 2008 @ 9:41 am
Naked shorting is nearly identical to selling counterfeited paper shares. If you drive the company’s stock value to zilch, and buy them back for zilch, you’ve made lots of money essentially stealing it.
Comment on July 17, 2008 @ 10:52 am
Naked shorting is a fraud, but the distinction to “good” (covered) shorting is artificial and wrong
Really,ANY shorting of a stock is unethical.
One poster mentions the dilution of shares on proxy voting by naked shorting.
This ALSO happens with covered shorting.
With the common borrow / repay cycle of 4 months, what happens if voting is taking place during that time?
Will not the acquirer of the shorted stock want to use his ownership right of those stocks (he does not know they were encumbered by anothers obligation) to vote his shares?
Yet, will not the original owner of those shorted stocks (who still owns them) also want to use his ownership rights to vote?
ERGO: twice as many votes as stocks just in this one instance.
This could only be prevented, if either the original owner, or the new buyer, loses his right to vote, which of course would impinge 100% ownership, and never be accepted by either party.
AND, what about default of the short seller? You could go after the broker loaning the stock, but what about their default possibility? Remote, but not impossible.
Who then owns the twice-sold shares? The original owner, or the new buyer?
If you say the original owner clearly, then should not new buyers be told that they are buying shorted shares, that may not be there in the default scenario?
Bottom line, shorting, whether naked or not, is fraud (selling something that does NOT exist), just like selling a house you only rent/lease is fraud.
True, shorting does have the pos. effect of providing liquidity and also of preventing long excess, but at what cost?
For all of this, we have derivatives, that is their proper function.
AND, it is different for commodities, because, even naked shorts by a producer, CAN be covered with future production.
Stocks never can, unless the company were to issue new shares.
Shorting stock is the same fraud as fractional reserve banking: the one sells something not owned nor in existence, the other loans something not owned or in existence — both make it out of thin air (and I specifically include regular shorting, without confusing the distinction).
This is why I register my shares, only that way can I truly own them free and clear of another’s obligation.
Comment on July 23, 2008 @ 11:37 am
[...] journalist: Your problem is not with the crackdown on naked shorting (which is extremely flawed, but not for the reasons you cite.) Your beef is rather with a separate attempt to crack down [...]
Pingback on July 25, 2008 @ 9:55 am