Malicious Short-Selling Hurts My Soul

19 03 2009

Some of you may remember a few months ago or something I wrote a post about some of the things that make me lose faith in humanity a little bit.  You can see it here.  Well, I was recently made aware of something else that has seriously injured my faith in humanity.  It’s called short-selling.

stock_market_crash

So I’m not an expert by any stretch when it comes to financial stuff, but I understand enough about short-selling for it to make me mad.  Read up on it here.  But in my limited understanding short-selling involves selling shares that you don’t own but have borrowed with the condition that you will buy the shares back.  You do this anticipating that the value of the shares will decrease and when you buy the shares back you will do so at a lower price than you sold them for and you will therefore make a profit on the overall transaction.

It could just be my unfamiliarity with the stock market and the financial world, but I find this kind of financial manipulation very suspect.  I’m sure there are people out there are just trying to make an honest profit with their knowledge of the financial institutions we rely on.  But there are definitely people out there who ruin it for every honest person doing it.  

What some people will do is sell the shares that they don’t own and then take measures to drive down the value of the company who’s shares they sold so that they will make a profit when they eventually buy them back.  They will spread bad rumors about the company, they will try to discredit its owners, it products, and so on, often called the “short and distort” method (compare this to the “pump and dump” strategy that involves spreading positive rumors about a company with equally dishonest intentions).  This often leads to the destruction of the company and financial ruin for those involved.  All so a greedy trader can make a profit.  It makes me sick.  The whole idea of intentionally profiting from another’s misfortune makes me mad.

Short-sellers were blamed for the stock market crash of 1929 and the infamous short-seller George Soros “broke the Bank of England” in 1992.  And there are plenty of other examples as well.

Admittedly, mine is a naive and narrow view of the state of things.  Many trading experts praise short-sellers for their knowledge of the market and for the benefits that short-selling has (which I don’t really understand).  But seriously, for something that can be so easily abused and can potentially bankrupt a lot of honest people, I don’t think we’re regulating it closely enough.  Honestly, there have been restrictions and bans on short-selling in the past.  What happened to those?  Is short-selling that important that we can’t do without it?

For a humorous, yet revealing take on short-selling, check out this interview from the Daily Show: The Money Honey Bee.

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4 responses

19 03 2009
Pascal

Peter, short selling is simply a tool of price discovery. There are two sides: short and long. Shorts think prices are going to go down. Longs think prices are going to go down. Both seek to profit from their beliefs. Your objection is just ‘long side chauvinism’ where you only want to see profits made if people are all doing well.

But shorts are important because they keep the market honest: if a company is corrupt and someone finds this out, or if they make lead-tainted paint and someone finds this out, then you should sell the shares now! You can buy them back later when everyone else realizes what’s going on.

Flipping your objection on its head: it’s equally immoral for me to buy shares of a desirable company from a naive investor at $2 because I think it’s going to $200 (and then selling my shares at $200 and not giving any money to the naive investor.) I am profiting from his misfortune: namely, stupidity.

You also wrote: “What some people will do is sell the shares that they don’t own and then take measures to drive down the value of the company who’s shares they sold so that they will make a profit when they eventually buy them back. They will spread bad rumors about the company, they will try to discredit its owners, it products, and so on, often called the “short and distort” method (compare this to the “pump and dump” strategy that involves spreading positive rumors about a company with equally dishonest intentions).”

That stuff is bad, and I agree with you: but that’s not short selling. That’s short selling combined with ‘insider trading’ and is, rightly, illegal.

19 03 2009
Peter Leavitt

Thanks for your input! Like I said, I’m pretty naive when it comes to this stuff and I guess I only hear the bad stuff on the news. And the brief research I did for this post surely doesn’t do justice to the nuances of short-selling. So I welcome your comments and insight and I’m glad to know that most short sellers are not evil. :)

21 03 2009
Pascal

Hi Peter. Thanks for your response. I need to correct one sentence from my post, if you don’t mind:

I wrote: “Longs think prices are going to go down. ” That should read “Longs think prices are going to go up.”

Love your blog.

22 03 2009
Brian Barker

Did you know that George Soros would not be a multi-billionaire if it were not for the international language Esperanto?

Born in Hungary in 1930 as Gyorgy Schwartz, the family changed its name in 1936 to Soros, which in Esperanto means “to soar.”

The Soros name-change was an effort to protect the Jewish family from the rise of fascist rulers and the whole family spoke Esperanto at home.

As a native Esperanto speaker, (someone who has spoken Esperanto from birth), George Soros defected to the West in 1946, while attending an Esperanto youth meeting in Vienna.

Esperanto enabled Soros both to defect, and to become the 28th most wealthy man in the World, according to the Forbes rich list.

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