Why Punish the Whistle Blower?

Investing research as we know it has been destroyed or maybe just been suspended.

In the past investing in US stocks was fairly safe due to regulation, transparency and the "Alphabet Soup"

The Alphabet Soup was our real protection.  The SEC, NASD were supposed to properly regulate financial services activity and the Certified Public Accountants [CPA], Certified Internal Auditors [CIA] and all the Certified Financial Analysts [CFA] working not only for the research firms but also the rating services such as S&P, AM Best, Fitch and Moody's and business press and newsletters gave us independent opinions.  Then there were the DBAs and PHDs; those business and economics professors that have to publish or perish and will write an article for a journal or be a guest commentator for anyone who asks.  You and I if we wanted to make the effort could review the 10K, 10Q and S-8 of any publicly traded company - they were Gospels of the risks.

I really thought that there were no secrets in the US investment scene and that in this Internet information world of web-sites and blogs all that could be known about a company was known.  The efficient market theory at work but a realization that sometimes there is a misinterpretation of the data, a slight lag in the analyses of the data and the fact that all of it is tempered by collective optimism and/or pessimism.

I thought that if you did your research and spent the time you couldn't get hurt.  Boy was I naive!

I really thought that all the 10ks, 10Qs, S-8s, offering statements and prospectuses that were prepared by the issuers, reviewed by independent counsel and auditors and finally reviewed by the SEC and NASD gave a true and honest picture of the risks and rewards of any offering and company.

The regulators were supposed to regulate and make sure all risks were known and communicated.  But they didn't do their job and neither did the rest of the Alphabet Soup - SEC, NASD, CPA, CIA,CFA, DBA, PHD and S&P et al.

Firms like Lehman were allowed to leverage 30 times their equity and keep a superior rating with  some hedge funds leveraging even more.  Freddie and Fannie leveraged themselves 60 times their equity.

Sub-prime debt, and all sorts of derivatives were packaged and repackaged, sold and resold with offering statements and credit ratings that were sheer fantasy.

None of the Alphabet Soup was protecting the everyday investor like you and me.

Our only protection was the true protector of the market - the short seller.  When these brave investors saw a company that was over-rated and/or over valued by the Alphabet Soup they shorted it and that information was public.  Short interest was a figure that was known and published.  They were the true whistle blowers of the public investment world.

This week the Fed published a list of 799 financial institutions that could no longer be sold short.  These are the very institutions that intentionally caused the publication of over inflated income statements, balance sheets, offering statements, prospectuses, 10Ks, 10Qs and S-8s.  These were the institutions that hide the Ponzi scheme that they were playing on the little guys like you and me.

The whistle blowers - the short sellers saw this so what happened?  The Fed came in and rather than admit that they had not properly regulated the financial services industry, they punished the whistle blowers and rewarded the Ponzi Scheme creators.

Overnight the Fed's actions made a lot of the financial service stocks rise by double and triple digit percentages.  The officers and Boards of Directors of these financial institution are the ones who caused the leveraged economy to fail and they hold trillions of dollars of company stock and stock options in these companies.  The gift the Fed gave then made them whole, punished the whistle blowers and will cost the rest of us dearly.

This time the Fed rewarded the Ponzi perpetrators and punished the short selling whistle blowers.

Do you remember the child in the story "The Emperor has no clothes"?  He was a whistle blower and I bet his parents gave him the switch when they got him home.  The Fed gave the switch to the true protector of our public markets the whistle blowing shorts seller.

Go green.  Burn all the 10Ks, 10Qs, S-8s and Annual Reports you may have have lying around the house in the fireplace to heat your home this winter because they are not worth the paper they are printed on.

Comments

[turrican6:]

Thank you for this contradictory and insightful perspective.

While I certainly did not think badly of short sellers, this article allowed me to put this in perspective and make me realize how superfluous and ineffective the financial regulatory oversight really is.

The true whistle blowers are indeed the real whistle blowers.

2008 Sep 23 12:55 PM

[HCSKnight:]

Great article. Only thing I would have liked to see is some short-seller data points, e.g. who said what when. I know there's one short out there, but dont recall his name, who was villified by the long side of Wall Street for his pointing the finger at MER and many of the other financial shops. Please, give us this type of ammunition in the future.

Again, great article and thanks!

2008 Sep 23 02:23 PM

[Chris B:]

Add my approval to the two posters above. All the short sellers in the world didn't make the investment banks, AIG, and the GSE's insolvent, they did it to themselves through their own short-sightedness and then they blamed others.

Pointing the finger at short sellers also ignores a critical point: Who loans them the shares? Answer: the same investment banks that complain about short sellers. Hey, there's interest to be collected and excuses to be made! As a long term investor I wish I could loan my shares to them.

2008 Sep 23 03:01 PM

[User 267997:]

Someone who has the insight to figure out what stock is overpriced can just as well buy puts, or short calls. The absence of short sellers ruins one side of the game for those who wish to entice momentum players to follow their lead. Real investment does not need short sales.

2008 Sep 23 03:08 PM

[Just Askin:]

Agree that "real investment does not need short sales." Why is it that short sellers have such a pathological need for acceptance that they must publish a never-ending stream of such sanctimonious bullshit to justify their piracy?

2008 Sep 23 03:17 PM

[Dweezil:]

"As a long term investor I wish I could loan my shares to them."

Whoever your brokerage is probably did that for you, you just don't know it and don't profit from it.

2008 Sep 23 03:41 PM

[Research123:]

Legitimate short selling fills an investment need. Short selling without a legitimate borrow is destabilizing and shoudl be stopped immediately. There should be full and immediate disclosure of short selling data above a resonable threshhold (who, how much) by stock, exactly parrallell to long data that should also be fully and immedialty available.

2008 Sep 23 04:13 PM

[tomterrific:]

user 267997 and Phrrrrzzzppt. You are both idiots. Markets don't work very well without short sellers. Market makers, new ipo issuers put and call market makers as well as regular short sellers short sell. As Wilbur Ross said yesterday on CNBC, banning short selling sets and terrible precedent and is irrational. If you can't figure that out without thinking about it you are in the wrong business. Stocks drop and rise because buyers and sellers are agreeing to buy and sell at a higher or lower price. For every sale, short or long there is a buyer or else there is no market. Now if you can understand that then you ought to understand that once a short seller has sold the only thing he can do is nothing or buy it back from another seller. Lord where do you idiots come form. Are you Congressmen?

2008 Sep 23 04:14 PM

[inthemoney:]

The reason ones preferes short selling to buying puts is because puts expire , but short positions not. You could be right in your assement but the market might not confirm it for a while and your put will expiere worthless.
It is the same as saying, why own a stock, just buy some calls. Options provide greater leverage but they are much riskier. They are not for everybody.

2008 Sep 23 08:28 PM

[Nikola:]

Well, the short sellers didn't prevent the financial crises anymore than the alphabet soup did.

They did seem to make the financial crises worse. Like a pendulum, the market went from overbought to oversold very quickly.

My opinion is that assuming this short selling ban is temporary (as in 6 months to a year max), it will help.

You can't leave everything to the market, because the market has the capacity to commit suicide. Just like sometimes you have to commit people to a mental institution for a period of time for their own good so they don't do something irreversibly stupid, the short sellers -- normally a good thing -- had to be sidelined for a while so the market doesn't ... really... stop existing.

Those of you who think "the rich bastards deserved it" should know that there would be A LOT of collateral damage if that were allowed to happen. Many ordinary people have already lost jobs and houses because the short sellers killed stocks and confidence and made the financial crises far worse than it needed to be.

We don't ALL need to go to hell to prove to "the rich bastards" that their game is up. Let the "rich bastards go to hell," and let everybody else live.

2008 Sep 24 12:59 AM

[fxtrader07:]

If short selling were properly regulated and regulations really enforced (e.g. banning ANY NAKED SHORTING, disclosure requirements for substantial short positions similar to the long position reporting obligations, reinstating of the uptick rule) then a ban of legitimate short selling was not needed at all. But rather than doing their homework and fixing the stuff the SEC didn't bother to fix all those years, they now screw up things even further. Sort of a man hiding in a cave from the rain rather than just repairing the roof of his house.

2008 Sep 24 05:49 AM