This is one of those periods when I don’t start off a phone conversation with a short-seller saying something like, “How goes it?” It’s the wrong thing to say, even if it’s also almost always a sign of a market rising too fast on its way to falling just as fast. None of which has much to do with anything unless you wonder what it was I was saying on CNBC’s Power Lunch yesterday about short-selling, which – according to those who do it -- has become noticeably harder in recent months.
The market’s rise clearly plays a role, but there’s more. In a letter to his own investors, Neil Barsky of the Alson Signature Funds – a long-short hedge fund – noted several other reasons. Among them:
Too many hedge funds chasing the same stocks. The result is harder-to-find shares, which translates into a costlier transaction that is more vulnerable to short squeezes.
Private equity, which is throwing cash at companies, some of which would be unlikely takeover targets. “The existence of that pool of capital – whether it is deployed or not – makes shorting lousy companies with decent balance sheets more treacherous than ever,” Barsky wrote.
Speaking of decent balance sheets: Barsky believes “the Holy Grail of short-selling – the leveraged company faced with declining cash flows – remains elusive.” He adds that Sarbanes Oxley has “led to the virtual elimination of accounting fraud, though we suspect the conviction and jailing of some high profile CEO abusers has also served as a powerful deterrent.”
Hard to argue with any of what he says, but that doesn’t mean investors are anywhere near “safe” from fads, frauds and financial finagling. Human nature, and the desire to make a bonus, will always lead to trouble. There will be new cycles with new generations of managers who have short memories.
And there will always be bad businesses that are presented as good. The game may have changed, but it’s far from over.
Speaking of short-selling: Richard Sauer, a former SEC enforcement attorney – who now works for a hedge fund – penned an op-ed piece in the Friday New York Times headlined, “Bring on the Bears.”
He noted that while he was at the SEC, he had received quite a few good tips from short-sellers “that led to the capture and return to investors of hundreds of millions of dollars taken by stock frauds.”
He suggested that Congress give the SEC discretion to pay bounties, “similar to those available in insider trading cases, for tips resulting in successful financial fraud cases.” He also said the SEC should go after companies that retaliate against critics through defamation campaigns and manipulative short squeezes.”
Defamation and manipulative short squeezes? Imagine that.