Dendreon: The Short Story

This short story is actually a long sorted story. So sorted, in fact it reminds me of the stories from the Middle East, where persons in one country would set off a bomb, in their own country and blame their neighboring country to keep their militant cause alive.

Dendreon (DNDN) has about 82 million shares.
Institutions own 27 million shares.
Passionate long time share holders hold 25 million shares.

This leaves about 30 million shares for trading. Or does it?

From March 30th to April 9th, Dendreon is on a tear. Volume was 315 million shares, over six (6) trading days. Shares, were up eleven days straight, from a low of $3.70 on March 21st to a high of $23.58 on April 9, 2007.

Let’s imagine that I am a large hedge fund or brokerage. I know a lot of people are looking for more gains in Dendreon, but with proper incentives (Greed to Fear) I can get them to sell. We all know a former hedge fund manager with a TV show who says, “…hedge funds have so many ways to win…”

So on April 10th, when Dendreon hit $25.25, I put my plan into action. I sell about 8 million shares within 15 minutes (this actually happened between 10:40-10:55 am), and started a downward spiral. My plan is to sell additional large blocks of shares over the next 7 trading days until I drive the price down to $15.00. Maybe, I can set off a few bombshell stories to create doubts about approval.

All the while, I am purchasing enough call options to cover all the outstanding stock that I am selling short while I am driving their prices down. The plausibility of this short story is supported by the table below that shows short interest through April 10, 2007.

This is where it gets interesting. I will use Tuesday’s stock and option activity to further illustrate my point.

On Tuesday over 100,000 May call contracts were purchased at various strike prices. A lot of those went down in value as prices went down. I will buy some of them as protection and to make a nice profit when the stock prices move back up. How many long calls can I buy with the proceeds of my short sale?

I will also sell put contracts and collect the premiums. For example, I could have sold the May 12.50 puts for $3.00 and change. This obligates me to buy the Dendreon stock at $12.50 that I sold this morning for $20.00, which I have to buy back any way.

This is the cake. I get paid to buy back something I have to buy any way, and at a lower price than I sold it.

Now the icing on the cake: I have built a huge, mega, super sized call position with all the profits. I made huge profits when I sold Dendreon in the $20’s and sold puts at $10, $12.50, and $15 strike prices and then bought the stock back in the teens and kept the premium from the put sales.

I also purchased massive number of call options when those prices went down with those profits. When Dendreon’s Provenge gets approved, I have enough call options to buy the whole company by exercising my options. Yes, there are enough open call options that, if exercised would exhaust all shares.

Okay, maybe I don’t buy the company; I just make a couple of dollars.

Have you seen all the profits generated in Wall Street by firms claiming to use, “proprietary trading methods”. Proprietary trading methods seem to involve trading shares not in existence. It also seems that proprietary trading methods are just a way to move your money from Main Street to Wall Street.

Remember Eddie Murphy playing Billy Ray Valentine in, “Trading Places”, and the Duke Brothers explain, “…now the great thing is we make money even when clients lose money…”. Dendreon has traded over 840,000,000 shares in the last 26 trading days!

So here is the question: Am I (the large hedge fund or brokerage above) short or long?

I think the answer is yes.

Comments

[vaga_bond_78:]

An excellent article. Glad that you have exposed the evil ways of Hedge Funds that could potentially drive innovative companies that are fighting for a noble cause against cancer to the point of bankruptcy. We can only hope that the SEC will do something about this naked short selling. I have seen many letters on the SEC website (comments section) where retail investors have bitterly complained about naked short selling of DNDN, but we haven't seen any action taken so far.

I would also recommend readers of the above excellent article to watch Jim Cramers video from TheStreet.com on the same topic where he describes how Hedge Funds do this manipulation. (Link below, if you haven't already seen it):

videoplayer.thestreet....;channel=Cramer+On+Dem...

2007 May 09 06:00 AM

[Karuna Kana...:]

I had read the transcript of Mr. Cramer's comments, but had not seen his video clip.
Thank you for the link.

2007 May 09 12:38 PM

[jon edwards:]

Or maybe people were shorting the hell out of this stock because anyone who had done 10 minutes of research on provenge knew that it wasnt going to be approved

2007 May 09 08:31 AM

[Karuna Kana...:]

Perhaps you are right. The article is not questioning the merits of shorting, but questioning whether the shares are being artificially manufactured considering the number of shares available. If that's the case, major players can produce enough (counterfeit) shares to run companies out of business.

As I write this reply at 12:34 pm EST 82,500,000 shares have traded hands. That's 100% of the float.

2007 May 09 12:36 PM

[jagubarot:]

Dear Karuna,
You sound like a pro. I was wondering about timing of the shorts. I lost my shapely rear few times (luckily small amounts) and kept on wondering what the heck happened. Now I know what happened. Recently, I lost small amount in MSTR. I sense it is the similar scenerio. May be I should do the analysis like you did for DNDN. If you beat me to it, please share it with me.

Your Bro
Jagdish Rao.

2007 May 09 11:06 PM

[Karuna Kana...:]

Rao,

Most of these games are played with companies with few outstanding shares. I remember Ken Saylor, CEO of Microstrategy urging share holders to obtain stock certificates of their stock to prevent brokerages from lending it out to be shorted.

Nowadays it seems as if the stocks are manufactured out of thin air with IOU's between brokerages that are not settled. Bloomberg did a piece on naked shorting recently.

To learn more, watch this presentation at www.businessjive.com/n...

You may also want to watch the link provided by vaga_bond_78 (The first comment at the top)

Good Luck!

2007 May 10 09:48 AM

[jagubarot:]

Dear Karuna: How can I contact you if I need some insight, advise? My email: [e-mail]

2007 May 10 11:38 AM

[pavlov:]

Fantastic article!
I'm not much into subscribing to newsletters but your insightful, reviting, and thought provoking article made me do it.
Now...for my 2 bits...
I was a broker for 12 years and the last 4 years I was a broker specializing in shorting.
Since I was based in Canada I was able to get away with a lot more than a US broker could.
I handled accounts for some hedge funds physically- based in the US but legally based in tha VVI's.
I ALWAYS had to check if the stock was available for shorting and was always told that it was a go.
When I started getting pressure from my compliance officer as to the legality of such, I called NASDAQ's law department and spoke to their senior lawyer who told me ( in writing) that the onus was on the US brokerage firm, which took the order, to deliver.
I and my firm were off the hook...
However...
there were times when we WERE bought in.
At which point does the trade become naked shorting?
I remember doing some trades where I would buy the convertible debenture and freely short the stock and this was not declared as a short position...legally.
Is it the same when dealing with options?
Your article seems to suggest that.
I certainly hope not!
I am not against shorting stocks.
I see it as a necessary function from keeping scams and manipulations within a limit...but there should also be a limit to the amount of shares you should be able to short of any given company.
I am currently short INSW and haven't been bought in despite the fact that there are no shares in the float. I imagine that I can continue to short it ( I'm not since it has become extremely obvious to me that it is being manipulated).
The option scenario though would allow be to buy calls to cover a never ending amount of shorting?
Please clarify for me if you can.
I DO look forward to reading your future articles since it is hard to find so much insight in such few words.

Not your brother but a new fan,

Dr. MEM (Pavlov)

2007 May 16 08:23 PM

[Karuna Kana...:]

Thank you for the kind words.

I would recommend the link from vaga-bond above. I have copied it for you.

I would also recommend readers of the above excellent article to watch Jim Cramers video from TheStreet.com on the same topic where he describes how Hedge Funds do this manipulation. (Link below, if you haven't already seen it):

videoplayer.thestreet....;channel=Cramer+On+Dem...

2007 May 17 10:14 PM