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As the saga continues, the plot thickens: The blame-it-on-the-shorts bandwagon got quite a push last week, but this battle cry is likely to go the way of all others if Roddy Boyd’s attempt in the current Fortune to put together the pieces of the puzzle is anywhere near close to what really happened.

If it is, it would appear the shorts, yet again, were reacting to market events — not causing them.

Just last week Congressman Barney Frank was quoted everywhere saying there needed to be more of a probe into the role of the manipulative short-selling of the stocks of investment bankers. He and others have pointed to the sharp rise in volume, starting on March 10, as proof there might have been collusion among those who profit when the stock price falls.

But take a look at the timetable of events, as Roddy did, and draw your own conclusion:

March 10, the day the volume started to rise, and Bear’s stock started to plunge, Bear Stearns (NYSE:BSC) issued a press release saying there “is absolutely no truth to rumors of liquidity problems.”

March 11, as volume spiked higher, Bear’s CFO, emphasized on CNBC that the rumors were false. But on that same day, according to Roddy, “the credit derivatives group at Goldman Sachs (NYSE:GS) sent its hedge fund clients and e-mail” saying “it would no longer step in for them on Bear derivatives deals.” This was important, Roddy points out, because in the weeks leading up to the Bear blowup, Goldman “had done a brisk business…agreeing to stand in for institutions nervous, say, that Bear wouldn’t be able too cough up its obligations on an interest rate swap.”

By March 12, “when word of the Goldman e-mail leaked out,” Roddy writes, “the floodgates opened. Hedge funds and other clients, eventually running into the hundreds, began yanking their funds.” At the same time, he says, banks other banks refused to issue any further credit protection on Bear’s debt.

That, as we know now, was the beginning of the end.

And as it turns out, the Goldman e-mail may very well have been the tipping point, with market participants, both long and short, doing what they always do: Acting now, asking questions later.

Furthermore, as one short-seller notes, with other banks no longer writing credit default insurance on Bear debt, the best way to hedge Bear counter-party risk was to short its stock.

Rather than manipulation, it was the free market acting as a free market should.

More on the topic:

If you haven’t already done so, read Floyd Norris’ take on his excellent blog at the New York Times.

Maybe some hedge fund manager was dumb enough to send an e-mail message saying something like, “I know Bear is really fine, but let’s spread rumors it can’t borrow money any more.” Then we would have someone admitting he did not believe the rumor he was spreading, even though it happened to be true. Better yet, maybe they can find someone admitting to spreading a false rumor about Lehman or some other bank.

But even if that did happen, the ones who deserve the real blame for Bear’s collapse are those who made the firm so weak that it could be vulnerable to such talk. There are no shorts in that group. It consists of Bear’s managers, directors and regulators.

Meanwhile, at the SEC, trying to prevent such problems falls to the Office of Risk Assessment. According to the SEC’s website, “The Office develops and maintains the overall process for risk assessment throughout the SEC and serves as a resource for divisions and other offices in their risk assessment efforts, working closely with them as they work to identify, prioritize and mitigate risks.”

The office didn’t have anybody running it for a year until Jonathan Sokobin was named head in February. At the time, according to Bloomberg, SEC chief Christopher Cox said that Sokobin will help identify “market risks and dangerous illegal practices before they metastasize into truly lethal consequences for investors.” Bloomberg also reported that with Sokobin’s appointment, the number of employees in the risk office had been doubled to two. And this comes as President Bush has proposed a 1% increase in the SEC’s budget for 2009.

I rest my case, your honor.

Source: Bear Collapse: Sifting Through the Rubble for Answers