I couldn't find any details of authorship or contact details of the "Citizens for Securities Reform". Is this pseudonymous to prevent reprisals? Does anyone have any further info?
I always thought that shorting was a disgusting practice, and wondered, “who buys a share, and lends it out so someone can manipulate it and lower its value, and profit from it”?
It never occurred to me the majority of the “lending” did not actually happen.
Just to clarify, many portfolios are created in a way that lending allowed is ON by default, as such people may not be explicitly by the actual owner, but something that the given trading platform does using your underlying assets.
This is similar to how the bank may lend out your current balance and not actually hold ALL of the money that its customers has in their accounts.
This is one of the things going on with Robinhood right now. If you place a limit order, they cannot lend you share out from under you. WSB people are putting limit sells at very high numbers trying to keep scarcity but RH is cancelling those limit orders.
Under normal circumstances, their sale has a negligible impact on price. They're betting the stock goes down, and you're betting the stock goes up, but there's no need to be hostile. And they give you a nice interest payment for the trouble.
Correct title is “Counterfeiting Stock 2.0”. The document doesn’t allege illegal activity; it describes things the author believes should be illegal.
Also:
> In compiling the information contained in this website, the author relied on sources — both public and private — and, for the most part, accepted the information from the source as reliable.
This only works when the piece is written or published by someone willing to stake their reputation on its veracity.
> Despite being made illegal after the 2008–09 financial crisis, naked shorting continues to happen because of loopholes in rules and discrepancies between paper and electronic trading systems.
Doesn't sound like it was properly made illegal. Should probably fix those rules.
> Does your broker automatically loan out your shares?
The “loopholes” are intentional carve outs for market makers [1]. Something you want unless you like market makers disconnecting every time the market hiccups.
“Market makers” shouldn’t get to mess around with shares they don’t have. This whole idea of privileged traders, T+X settlement, etc is just crazy to someone who’s been used to trading crypto.
> This whole idea of privileged traders, T+X settlement, etc is just crazy to someone who’s been used to trading crypto
We have fast settlement for Treasuries. They’re T + 1 and heading towards real-time settlement.
For equities, however, there really aren’t many downsides to T + 2. At the same time, there are many advantages. On the balance, most people who have an idea about clearing are fine with T + 2, though it’s heading towards #
T + 1.
As for market makers, we have similar evidence for market made markets being more stable in crisis than order book markets. Cryptos don’t need this. They have never marketed themselves as being stable, and don’t do anything that requires price stability.
What is the distinction here between what you call "order book" markets and "market made markets".
Surely anything traded on a central limit order book requires outstanding limit orders to provide liquidity and therefore all order book markets are "market made"?
Or are you working with some specific technical definitions here?
> Surely anything traded on a central limit order book requires outstanding limit orders to provide liquidity and therefore all order book markets are "market made"?
No. Some markets, e.g. the NYSE, have specialists [1]. They support the market even when there is nobody else on one side of the order book. When companies list on the NYSE, they are explicitly asking for a group of market makers to be able to naked short their shares as a stabiliser. Many longer-term investors, similarly, explicitly express preference for these protections.
Other markets, like dark pools, are completely counterparty to counterparty. Still others operate around dealers (who are similar to but distinct from specialists).
There is a lot of variation in and competition around market structure.
Ah okay thanks. I always just considered professional market makers (as described there) as just another kind of participant or counter-party who just has a particular strategy and maybe takes advantage of volume rebates or similar (but basically transparent) incentives to act as a liquidity provider.
But I see that you're making a comparison about bitcoin markets where that kind of structure is mostly not there.
That reminds me. For anyone interested, there's an interview with a HFT market-making guy here who set up the LXDX exchange for crypto derivatives and who talks a bit about the differences in market microstructure: https://www.youtube.com/watch?v=xkhLZXLb8mU
The same concept exists in crypto. It’s called flash loans. Ethereum smart contracts can absolutely sell tokens that they don’t own, as long as they buy them back before the end of the transaction. Like traditional market making, this is used to arb price differences in the Defi ecosystem and improve liquidity.
I believe it's more complicated. Per Wikipedia [0],
> Failing to deliver shares is legal under certain circumstances, and naked short selling is not per se illegal.
There are arguments for why phantom (i.e., counterfeit) shares benefit the market. E.g., providing liquidity. Others contend that this practice is used in the aggressive short selling of companies, which is illegal, and there is insufficient transparency and accountability of this practice.
There's a great story of supposed illegal naked short selling in the Global Links fiasco. [1] In this case, one investor was able to purchase 100% of outstanding shares while trading continued unaffected. This post's website also cover's that story and I don't recall how this mess was ever resolved. Briefly searching through sec.gov that didn't turn up anything relevant.
The creation date of the CounterfeitingStock20Full.pdf file is Aug. 28, 2008. Going to the SEC site, it seems like there has been further regulation since then. How much of the document's discussion is still current is not clear. Would also like to know who the author is to understand their interest in the issue.
Holly shit, this is an exceptionally informative piece of information. It makes sense now why the GME movement, but I doubt that most who joined it actually understand the purpose. This needs to be more widespread
There needs to be a lot more evidence than some random screed on the web.
He barely gave a single example 'TASER' and frankly didn't really specifically indicate how that worked.
With 100 companies at any time under the squeeze it should be relatively easy for him to give a lot of examples and to specifically list the trades themselves, but also point at the 'media barrage' and highlight the asymmetrical effect those 'shadow shares' have.
It's a neat idea and maybe there's some truthiness to it, but there's no evidence.
I wish we knew for sure whether the information presented in the paper has some truth to it, or is just sensational conspiracy stuff. Until then it is a theory that is worthy of consideration, imo, at least for drawing personal conclusions.
These are not really counterfeit shares, because they do not pay dividends or have any voting ability, the companies do not recognize them. More like "synthetic assets" that have the price pegged to the asset they mimic.
The author likely used the term "counterfeit" since they're essentially copying the shares and redistributing them as if they represent the same value as the original, just like counterfeit money.
The author likely used the term "counterfeit" to stir up a controversy.
It's more like if I started lending you some rocks, and told you that each rock is always 1 Tesla share. You can always come to me and cash in that rock for whatever a Tesla share is. I'm not lending you counterfeit Tesla shares, but rocks. There's no counterfeiting going on.
The salient aspect here is what they're using them for: to drive the price down or up.
If I place a bet on the direction of the price pegged to a given type of rock, then borrow millions of those rocks from you, then trade those rocks back and forth with my buddies to create the illusion of demand momentum (linked to an artificial price pattern going down or up)...I can swing the price pegged to that rock. So the rock could still be cashed in for whatever price it's pegged to, but that doesn't mean I didn't mess with that price. (would take massive amounts of capital obviously)
I'm also not sure if there's any way to tell if it's only being lent out once. Since futures contracts are even more abstract than stock ownership (i.e. have the option to possibly purchase blocks of shares in the future or just scrap the contract altogether), there's probably ways to create value by taking on risk in the form of overextending the appearance that you have access to a security at a certain price.
Do you want to buy my synthetic dollars with the price pegged to a dollar?
edit: I just realized this is exactly what USDT is, but I still feel like it will all come burning down at some point. Maybe it will take 30 years though.
Japan banned naked shorting (of course Japan did not ban shorting) and seems to be doing fine. US probably can ban naked shorting without much problem too.
>Shitty companies failing is a necessary and important mechanism of a functioning economy.
True
>Look at the Soviet Union for an example of what happens when no companies ever go bankrupt.
The Soviet Union was not a free market economy.
>Short activists expose shitty companies and as such, they play an important role in the economy.
In free market economies, shitty companies fail by themselves because their competitors offer better good or services. Short activists don't help make better competitors.
Companies in the Soviet Union needed more competition than short selling.
>Maybe Wirecard's fraud scheme would still be going on if it wasn't for short sellers.
Who knows? Tesla wouldn't exist if short sellers had their way either.
> In free market economies, shitty companies fail by themselves because their competitors offer better good or services. Short activists don't help make better competitors.
If you want the market to encourage people to investigate fraud and bad news, then they need to be able to profit off of announcing it.
When people don't figure out fraud, the company still suffers eventually but it does so much harder and hurts more people. For example, if Enron's cheating had been exposed a lot earlier it could have been stopped.
Shorting has real and important benefits. And real downsides too, when shorters try to tank companies that had perfectly acceptable fundamentals. But it's definitely a tradeoff, not shorters being parasites.
> Do you think it is a good idea to help Intel go bankrupt because it's shitty right now in comparison to AMD?
Of course not. But if either one of them has secret bad information, it's good for everyone to have it revealed to the public so the stock price can be more accurate.
Fraud may be rare but companies have negative info all the time.
What is the mechanism by which you think shortsellers cause companies to go bankrupt? Can you think of any examples of short sellers causing a bankruptcy?
Short selling has both supply and demand effects. So while it 'soaks up investor money' it also creates demand for incremental money through lower prices.The laws right now basically exist to constrain the supply that can be brought on quickly to prevent that getting of line. That's one of the main reasons to ban naked short selling - because it removes the friction to massive and infinite supply increase. It's also super risky because if you don't succeed you end up short a bunch of shares at artificially lower prices. So practically the scenario you are worried about is already addressed in securities regulation.
I would say that short sellers are even more important around primary transactions because then share price matters more. Good prices prevent new investors being left holding the bag and inefficient allocation of capital which could have gone to a different business with better investment opportunities.
> Shitty company will go down in a natural way in a free market economy.
This is the crux. "Shitty" as in obsolete business model: Yes.
Shitty as in fraudulent company behaviour: No.
In fact, fraudulent behaviour creates a competitive advantage. And there is only an incentive for the regulator to intervene in the most extreme cases.
Wirecard employed thousands of employees, paid taxes, contributed to social security, and created wealth for investors. Tesla has accelerated the spread of EVs and similarly created enormous wealth for investors. These are real, significant positive effects.
If it's a free market economy why would shorting be banned? When it comes to that, why would naked short selling be banned? Free market means the market would decide on whether they want it or not and regulations would be gone.
Sorry, I got it wrong, so I tried to delete my comment. Leverage is when you're loaned money, so you can buy more stocks than you could with just your own money, with certain automated stops as security against loss for the creditor (such as margin calls). It's a deal between you and a creditor, and the stocks purchased remain real. A naked short, on the other hand, is when a broker is exploiting the system to make it seem like there are more shares available than there actually is. Thus when people buy a non-existing share, the money is deposited for a short time, but the purchase “bounces,” which again can create slippage and volatility (fake “liquidity”), depending on how the system is set up.
The author seems to be really upset about this, but I don't understand why. Nothing they are describing, if you ignore histrionic language like "counterfeiting", seems especially nefarious. Maybe I am misunderstanding. Basically, a short is when A borrows from B a share of corporation C with the promise to return a share of corporation C at a later time, plus some cash interest. A naked short is where instead B gives cash equal to the value of a share of corporation C minus some interest to A, with the promise that at a later time A will deliver a share of corporation C to B. The second activity seems functionally equivalent to the first, and I don't understand why I'm supposed to be outraged by either.
When I take a loan I may also fail to deliver loan payments. I don't think we should make risk illegal, but we should make sure that banks manage tail risks right.
A can fail to deliver in the first activity, too. More generally, when you agree to have someone give you something of value at a later time, you take on some risk that they will fail to do so.
There's a very different risk profile for me (an individual investor) if I'm buying shares from someone who doesn't have them, and merely promises to deliver them, than if they're backed by real shares. I'd like my brokerage to be holding real shares on my behalf for real dollars I gave them. I don't want them loaning my shares out either.
They're mine.
If there are naked shorts floating around (or shorts covered by my stock without permission), someone else is making money off of risk I am taking on, but didn't agree to. There can be a cascading set of failures which lands with me not having my shares.
It's the difference between taking out a $300,000 mortgage on a $500,000 house, versus borrowing $300,000 with no collateral. You'll get a different interest rate, if you can get a loan at all. And this resembles someone taking a $300,000 mortgage, only missing the house.
Yes, there's always a risk, but that risk profile is very, very different (esp. in the case of catastrophic events, like a stock market collapse or similar, when many institutions might be going down at the same time).
Are you concerned that B could sell his contractual right to have A deliver a share to someone else, so that when A is obliged to deliver a share that actually gets delivered to a third party? Why is that bad?
When A borrows a share, they sell it to D. Now as far as anyone knows, both A and D own a share but in fact only one exists. The extra sale from A to D also influences the stock price. What some consider bets are creating actual volume on the exchange, along with temporary dilution of shates.
Either way the stock price is influenced. In the first case, supply of the share is increased by the fact that A sells B's share, and in the second case, demand is decreased by the fact that instead of buying a share B buys a contract to have A deliver a share at a later time. Why is this a problem?
What do you mean by "temporary dilution of shares"?
All the shareholders will get dividends, for example. The same as if there were no shorts. The only thing that those who lend their shares will lose is the voting rights - and those who don't lend their shares will vote normally.
That doesn't make sense. If I have to pay each share 5$, and I have given out 500 shares, but when it's time to pay out dividends 700 shares show up to claim them,then someone has to lose money right? Either I have to give 5$ to 200 shares that I never sold to people to begin with, or the 500 people who actually bought shares from me lose some of their portion to the extra 200. What am I missing if that's not the case? Surely that dividend money for those extra 200 shares has to come from somewhere?
While in the specific scenario it's similar, in theory the 2nd scenario can be repeated an infinite number of times since it doesn't need to be tied to a "physical" share.
This creates the illusion that there's a LOT of people who believe the stock will go down in price, which can affect market sentiment and actually cause real movement when in reality that wouldn't be possible if every short was in fact backed by a real share (which they're trying to do via rules making Naked Shorts illegal).
The first scenario can be repeated an infinite number of times, too. Just have A sell the share right back to B and do the same thing. Now A has to deliver two shares to B.
There’s no difference. If you’re going to allow B to borrow A’s share and sell it to D, now both A and D own a share. D can lend their share to E, who sells it to F. (D has no idea they bought some special share, because they didn’t.) Now, F to lend to G who can sell to H, etc.
Proper shorting: Alice lends her share to Bob, Bob sells the share to Carol
=> Alice has a share (lent to Bob, who will have to pay her the eventual dividends), Bob owes a share to Alice, Carol has a share (which has full rights including voting and dividend)
Naked shorting: Bob sells an imaginary share to Carol
In the situation being discussed, where more shares than the available float are shorted, they are functionally the same because both can theoretically create infinite amounts of shares.
I'd say that having the share is important for the person buying the stock.
Short-selling is forbidden to reduce the risk that when you want to buy a share and buy the share you find a few days later that in fact you didn't quite buy a share because whoever sold the share to you didn't have one to sell.
But it's fine, I concede the point.
As far as I care, you can find weird to distinguish "naked" shorting from "borrow-and-sell" shorting because if the short-seller who didn't borrow the stock before selling it does borrow the stock afterwards to be able to settle the trade the end result is the same.
The person who's most affected by naked shorting is the unsuspecting person who buys the borrowed share from the shorter because nobody actually has that share yet.
From the buyers perspective I can understand the importance of this, I just didn't see how the distinction made a difference to the short interest.
Friction is the difference. Naked shorting removes the need to locate borrow. That need acts to prevent runaway supply expansion. Naked short selling also circumvents the rights of share owners as a class to decide whether to allow synthetic share creation.
You are a company looking to raise money through the public markets.
You have issued 10 million shares; but the market is trading with 15 million because of counterfeit stocks.
The bankers and the hedge funds have got to dilute you; actively hurting your fundraising ability, and of course; your stock price (which you may own as a founder).
This doesn't distinguish between shorting and naked shorting. But in either case I don't understand why I'm supposed to be upset. Is it because the stock price goes down?
Does it matter? 1 stock = 1 stock. 1 stock should never be 2 stocks.
It’s because I believe in ownership of what you make. If you founded a company, sold 10% on public markets for float, and magically 20% of your cap table now exists on the NYSE; something is horrifically wrong.
And yes, you would have suffered negative financial outcomes because of the counterfeiting.
There’s not just “1 stock.” Let’s say: A loans a share to be B who sells to C who loans to D and so on. You end up with a multiplier on nominal stock, always, and that’s perfectly normal. I really don’t understand the moralistic argument here, esp. without regard to the underlying value of the original asset. Up is not strictly good.
No matter how many times it gets repeated in the thread it is still nonsense made up by the stock market. Exchange "Share" with "Burger" and see how many Burgers you can create from thin air. If you end up with more than one you should start a McDonald's competitor!
If you can't it is because you are making mental gymnastics as soon as the word is some magical word Wall Street made up. Sure it is correct that you can but it shouldn't be and can't be fixed fast enough.
But thank you to everyone who gave me GME money with their mental gymnastics <3
Ok, I've done it. I told my children that I'm going to take them to McDonald's tomorrow evening. They see this promise as 100% good, as real as if they were actually holding the burger. The only difference from their point of view, is that if they were holding a physical burger now, by tomorrow evening it would be cold and bad to eat. The ones I have promised them are real burgers which are deliverable tomorrow evening, at the time we're going to want to eat them. So I've created two additional burgers owned by my children, in addition to all the physical burgers that currently exist, which are owned by either McDonald's, if they haven't been sold yet, or by customers if they have.
Does this mean that I've found an infinite supply of free burgers and should go into competition with McDonald's? No. Because I'm going to have to buy the burgers from McDonald's to supply to my children. They own two new paper burgers, but I'm short two burgers. So the net total world supply of burgers is unchanged.
Well you're still flawed if you scale your argument. What if you take your argument, and scaled it up. What if you promised each kid 1 trillion burgers. Will you have access to 1 trillion burgers tomorrow? What if they take their future 1 trillion burgers and sell half. What if you walk into McDonalds to claim the 1 trillion burgers. Does McDonalds have 1 trillion burgers? No.
So you're saying it's okay to promise burgers as long as it's an amount that actually exists and McDonald's can fulfil it. So what you're saying is that you shouldn't sell things you can't possibly fulfil? Hence the argument against this kind of trading.
Most financial institutions need some kind of basis for a promise - something that "secures" the contract e.g. like a loan secured by an asset.
A regulated entity might have capital requirements which would limit the no of burgers promised to money held. Another might be a contract with mcdonalds for N burgers, or a warehouse full of burgers - shorted stocks require the lender to actually sell a stock, and the shorter to actually sell it (and buy it back later) but there will need to be security/"deposit" on the returning of the stock - there exist a risk that the lender will not get their stock back, which is part of the reason for the premium.
Since you/I are not regulated financial institutions, not may would trust us to deliver 1 trillion burgers on paper; so the flaw exists in "What if they take their future 1 trillion burgers and sell half" - sell to whom? They'd have to find someone willing to buy. "What if you walk into McDonalds to claim the 1 trillion burgers" - the "paper burger" is an agreement between you and some third-party, not mcdonalds. You couldn't pre-order items from one shop, and go to another store with you invoice and demand they fulfil it - your contract is not some general/official currency, there is no obligation to accept it.
> So you're saying it's okay to promise burgers as long as it's an amount that actually exists and McDonald's can fulfil it.
It's a promise that you will supply N burgers, so the criteria for ok-ness is that you can supply N burgers, that McDs can provide that many is necessary-but-not-sufficient alongside:
- you can pay for N burgers
- you can transport N burgers (on time)
but when I say "ok", I mean from a "morality of making personal promises" perspective, not "financial promises/obligations made by a regulated financial institution" perspective. Individuals are not financial institutions, and financial institutions are regulated as such.
This is where the burger analogy breaks down in my opinion because it's a lot harder to deliver a fraudulent burger than a digital signature.
What can happen in real life is Person A and Person C are given a digital receipt confirming delivery of the burgers they were owed and that is the end of the transaction. To shield themselves from revealing potential fraud, the brokerage will charge a $500 fee if either of them ask for proof of their burger.
Now, while there may only be one burger in existence, it appears as though there are two, keeping demand artificially flat.
What you’re forgetting is you still have to deliver. If you created burgers out of thin air and sold them (you’re actually creating a promise of a burger, not a real burger) then you’d have to deliver these burgers when whoever bought them calls for them. Or you’d go to jail.
So how could you do this? Well you could create a burger delivery service that sells other peoples burgers. But you sell them for a bit more than what you pay for them and you can begin you’re offering “all the burgers” and connecting the sellers with the buyers. Now you’re creating burgers out of thin air to people buying them from you and you’re delivering the burger they ordered even though you don’t even own a grill. Congrats, you just created a burger exchange that sells promises of future burgers on margin out of thin air.
If you’re even smarter you’d use other people’s money (which is key) to capitalize this venture instead of your own and keep an outsized share of the profits. This is what investment banks and hedge funds do. Other people’s money is key to winning and not really losing.
Your explanation makes a lot of sense. Nonetheless it's bit of a hard sell as it seems to parallel fractional reserve banking to a degree, and we've come to accept the later as the best currently available compromise.
I think the dilution from fractional reserve banking is priced into the buying power of each dollar somehow.
You never look at the value of a dollar as the % of total dollars in circulation. The value of a dollar is rather defined by how many goods/services/other currencies you can get in exchange for it.
With stock it matters a lot more how many % of a company is represented by a single share.
> each short seller not only adds a _virtual_ share to the market, but also has an obligation to later on buy a share back
Again, to be super clear: for everyone but market makers, the law is you have to locate the borrowed share before selling short. Market makers can naked short to provide liquidity in a buying frenzy. Given they're shorting into a buying frenzy, they tend to be quite motivated to immediately cover themselves.
We have lots of people shorting GameStop. We have zero evidence anyone is improperly naked shorting.
And to be fair, they also definitely have to cover themselves before they need to make delivery two days later.
I think naked shorting would be a perfectly valid thing to allow every investor to do, you clearing house would just want to ask for pretty high margin requirements.
Very similar to how there are covered call options, but also naked call options. And the economy hasn't collapsed either.
What went horrifically wrong is the company went public with a clueless CFO. For all corporate actions—reporting, dividends and buybacks—that additional float is meaningless. It’s only relevant for short-term holders and short-term metrics.
With normal shorting the number of shares being traded is no greater than the float. Only with naked shorting can there be more shares traded than float, as in the parent's example. Interestingly, in both cases the short interest can be greater than 100%.
My understanding is that naked shorting can be used to artificially lower the stock price by increasing the supply with the ultimate goal of driving the company into bankruptcy.
So on one side you have illegal(?) market manipulation benefiting sophisticated traders and on the other you have companies that are presumably creating jobs and generating something of value being destroyed as a result of financial engineering.
Both naked shorting and regular shorting reduce the price of the stock. In the case of regular shorting, there is a sale offer that wouldn't have been and was, and in the case of naked shorting, there is a buy offer that would have been and wasn't.
True, but in the case of naked shorting there is now (for some period of time) another share being traded in addition to the shares issued by the company. In the case of regular shorting the float remains the same.
> With normal shorting the number of shares being traded is no greater than the float. Only with naked shorting can there be more shares traded than float, as in the parent's example. Interestingly, in both cases the short interest can be greater than 100%.
Why?
A owns a share, loans it to short seller B. B sells the loaned share back to A. Then A loans the share again to B, B sells it back to A. Now repeat the process a million times.
You can get arbitrarily high amounts of shorting without any naked shorts. (And usually, A and B don't know each other. It's all done via exchanges and clearing houses etc.)
I somewhat follow, but it seems shares have privileges that cannot be synthesized in the same way that dividends and value can. For example, if the firm votes for a new CEO, these shares should have voting power, but B cannot fulfill this obligation to A, so how can these shares be resold to multiple buyers?
When A loans out her shares, she accepts the loss of voting rights as part of the deal. If she cares more about voting her shares than about the income from lending, she will simply direct her broker not to loan out her shares.
In the “A loans to B who sells to C” scenario, C is the one who gets to vote.
> You can get arbitrarily high amounts of shorting without any naked shorts.
That's why I said "Interestingly, in both cases the short interest can be greater than 100%"
But in the situation you're describing the total number of shares on the market is still equal to float.
If we altered your example to have naked shorting it would be: B sells a share it hasn't borrowed to C, A sells a share it hasn't borrowed to D. The total number of shares that can now be traded is equal to the float + 2. Hence the claims of 'counterfeit shares' which is not a great description.
Naked shorting can only be done by market makers. The argument is that it helps to create liquidity and that these actors will have the ability to later borrow the shares without issue. The problem is that, as I understand it, there are not strict rules dictating when they must actually borrow the shares to back the shares that they sold short.
There are some indications that this has happened with GME. For example Michael Burry said in a now deleted tweet[0]:
"May 2020, relatively sane times for $GME, I called in my lent-out GME shares. It took my brokers WEEKS to find my shares. I cannot even imagine the sh*tstorm in settlement now. They may have to extend delivery timelines. #pigsgetslaughtered #nakedshorts"
> Only with naked shorting can there be more shares traded than float
Why? Imagine there exists one share of GME, owned by Alice. Bob borrows it from Alice and sells it to Charlie. Now both Alice and Charlie own one share, and no naked short sale ever happened, as far as I understand that term.
I don't know if there's a name for it, but while not naked, it's still a dubious situation unless Bob has secured some way to get the share back to Alice when Alice wants it back. Say Charlie has decided to go hold that share forever; how is Alice ever made whole?
In the only-one-share-exists situation, there's no real way out of that. In a situation where more than one share exists, Bob could, say, obtain a call option so that he at least has a plausible way to acquire a share in the future to make Alice whole.
This results in a similar situation to GME where the short interest is > 100%. WSB wants to be Charlie. They want to hold the share that Bob is legally obligated to buy and can't purchase anywhere else. They can then demand whatever price they want for it.
My understanding is that this leads to short interest greater than 100% but not more shares traded than float as there is still just one share.
In your example Alice doesn't own the share at this point, she owns an agreement that says she will be returned a share in the future and is paid interest on it in the meantime.
When I purchase a stock, I do it in the express belief that I will get a physical (though digitally stored) share of that company, and possibly one that gives me a voting right if the stock is marked as such. When a stock “fails to clear” this gives me a ton of problems such as slippage and volatility, and possibly a quite substantial loss.
Same if you buy an apple, I'm sure you'd only do it in the belief that you will actually get something edible. If I got nothing, I'd want my money back! But then when you buy an apple, you can see and touch it before you commit. Not so with stocks. And so you buy it while trusting the broker that your order will actually be met.
If instead my money is “borrowed” without my concent for some nefarious activity—in order to create more “liquidity”—that has a name: It's fraud. It's fraud of the customer whose money is being stolen. It's fraud of the customer who's being fooled into thinking that he's buying a real stock. That these shares do not exist, isn't some slip-up. It's an intentional effort, done with the motive of earning money by exploiting the trust of their customers. Such action should thus clearly be illegal.
Same if you bought a stock, and your broker suddenly decides to steal it without your knowledge, and loan it out in order to sell it in the hopes of earning money if its value drops (i.e. short the stock). Clearly you'd want to know if your property is being loanded out, because it means that you're incurring risk, no matter if you're compensated for it through interest or not.
If I want insurance to protect against the price going down, I'd buy a put option. I know a bit about this but I'm not an expert on this. Naively, those put options are effectively offered by those providing a short (they think the price is going to go down, or have a way to hedge the price decrease). Those don't get represented as shorts either. https://corporatefinanceinstitute.com/resources/knowledge/tr...
The other thing to consider here: if some entity needs to provide the put option, how does one hedge (risk manage) a put option ? They need to consider what would happen if the price drops, and as the price drops their hedge needs to increase in price. There's undoubtedly more to this, but that relationship sounds awfully like a short.
Options are bets in a way that actual sales aren't. Notably, a put explicitly a contract to sell something at a given price in the future. Nobody buying or selling a put has any intention of stock trading hands -- and the option can even be written as cash-only, where stock never actually does. So while selling a put is the same fundamental idea as a short ("I think the price will go down"), it's mechanically very different.
A short sale is something very particular: it's selling something you're borrowing. The counterparty has actually bought a stock. Not an option, he can hold that stock for sixty years. This is fucking weird.
(If you write a put and a call for the same strike, you are basically in the same position as a short seller. If you buy a put and a call for the same strike, you are economically in the same position as an owner of the stock.)
This is not entirely accurate. It is the same position as borrowing some amount of money to buy the stock. If I buy a put and call and the price at expiry is exactly that strike I am guaranteed to lose money.
Not quite. It's the 'risk-free bond' term that I dropped from my explanation of the put call parity.
To replicate the stock, you'd buy the call and sell the put. The risk exactly balances out in the sense that a total portfolio of 1 stock short, 1 call long and 1 put short would have zero risk and behave like a risk-free bond.
(If the risk premia of the long call and the short put would not exactly balance, you could make money with very simple arbitrage trades.)
Economically, sure, but not literally. If you hold both a put and a call, for instance, you can't vote with them, or earn dividends. You would not say you're the actual owner -- whereas a short sale creates a negative actual stock.
> selling a put is the same fundamental idea as a short
Selling cash secured puts is risk equivalent to covered calls, but doesn't require stock. If anything it's a neutral/bullish strategy since max profit is above the strike.
I agree on the mechanism. If the objection is that someone can influence the price of an instrument without owning it (like in short selling (although in short selling you can borrow the instrument and then short it)), then should the argument be that put options should also not be allowed without ownership of the underlier too?
My objection is that synthetic stocks are weird, negative ownership is weird, and every time we have to actually count how much stock we have we come up too high. This doesn't happen with puts.
I don't know if you are aware of this, but you are basically arguing against the idea of fungibility in finance. It's one of those fundamental concepts that banking is built on.
It's one thing to argue for making sure shorts are well-regulated, but
this something entirely different that has the risk of fundamentally breaking our society.
Our financial markets are built on the idea that the assets being traded (in each individual market) are effectively fungible. It's the underpinnings of the whole structure of finance.
Yes, but assets that are traded within a particular financial market is fungible.
When you buy a share from the open market, they are not going to guarantee a particular share with a particular serial number you specify, they will only provide a number of that particular class of share of the company.
Yeah, that's what I thought the argument was until this bit -
> Same if you bought a stock, and your broker suddenly decides to steal it without your knowledge, and loan it out in order to sell it in the hopes of earning money if its value drops (i.e. short the stock). Clearly you'd want to know if your property is being loanded out, because it means that you're incurring risk, no matter if you're compensated for it through interest or not.
I can't find any other interpretation for this logic and terminology other than a rally against fungibility.
That has nothing to do with legal fungibility, and everything to do with property rights, and the conditions at which most people expect to buy a stock (licensing notwithstanding). Fungibility is merely how easily the medium is broken into smaller parts that may be exchange for convenience, and not the regulated use of third parties, unless you're really talking about liquidity. The latter can easily be solved with waivers or contractual agreements (such as an opt in). As far as I know most brokers already do that, but the implication is that some don't or are somehow able to sidestep such regulation.
>Fungibility is merely how easily the medium is broken into smaller parts that may be exchange for convenience
No, fungibility is whether an asset (ie. individual assets within a particular class of asset) is interchangeable with one another.
It means when you deposit banknotes into your bank, whether the bank has to give you the same banknotes with the same serial number, or whether they can give you equivalent instruments to satisfy their obligation to you. What they owe you aren't the banknotes, but instead the money.
Also note when you deposit money into a bank, it's not treated the same way as if you put banknotes in a safe deposit box. The way you made your argument on stock brokers is as if it is, and fundamentally misrepresents this relationship. They don't owe you 'your' shares, they owe you a number of shares. Your shares become their asset, in exchange for their liability to you. You don't get to control what they do with their assets.
That's also the reason you don't get to control what the bank does with 'your' money you hold with them, because legally, it's their money with an obligation to pay you when requested. Hence the central bank steps in to regulate and guarantee fractional reserve banking in order to prevent bank runs.
> Fungibility is whether an asset (ie. individual assets within a particular class of asset) is interchangeable with one another.
Of course. This is synonymous with my own explanation. However your take is that it means that after you've made it interchangeable, then the bank or exchange somehow automatically gets more rights over it. That just isn't the case. Unless there's an express prior agreement, it's also morally wrong.
That is a generic and ideological objection. If that was the case we would never need any regulations, just T&Cs. I get that some people believe that, but equally some people believe such a world would have way too much friction.
This is an explanation of how it does actually work.
The brokers I have experience with either propose you to participate in a share-lending program with profit sharing (opt-in) or propose two different kinds of accounts and you can disallow lending but then the conditions are slightly worse (some fees are waived if you let them loan your shares).
The shares are not "stolen without your knowledge". If you're using margin it may be part of the conditions attached to that. Would you say that a broker liquidating part of your positions to satisfy margin requirements is also the broker deciding to steal your shares without your knowledge?
Yes, it indeed a good argument against most regulations.
However, this argument does not apply to regulations that lower barriers to entry, because low barriers to market entry are exactly what enables competition.
(Most regulations, alas, raise barriers to entry. Even if that's not their intended purpose.)
I believe that apart from legacy certificates in a lockbox under grandma's bed (and non-traded private classes of stock) it is actually true.
What DTC trades are assignments of stock held by Cede corp, what you own are assignments of assignments held by brokers - it's how you take physical stock certificates and start trading them electronically (back in the 60s)
> If instead my money is “borrowed” without my concent for some nefarious activity
You give stock borrow consent when you sign up for a brokerage account. It’s also trivial to turn off, though there isn’t an informed reason for non-activist investors to do this. Some brokers share stock loan income with the account holder, though most keep it from retail accounts.
This is a perfect compendium of the flimflam put out by those who object to short selling.
'a physical share' No. There's no such thing. Even a physical share certificate is not a physical share. It's a physical piece of paper which documents a nebulous thing - the set of rights you have, and terms between you, the company, its management and other shareholders.
'slippage and volatility'. No. You bought the share at the price you were filled on. No slippage. One share gets lent out, one share gets returned. You are not affected by volatility in any way, because the share your get back is exactly the same as the one you lent, and the price change would have affected you anyway.
'A substantial loss' When a share your broker lent out fails to deliver (which you would never know about), the broker doesn't write to you and say 'oops, your share didn't make it back, your loss'. First of all they didn't write your name on the same before they lent it. They have a bunch of shares which they lend out. Secondly, someone will have to produce either the share or the exact amount of money required to buy an identical share at some point. Thirdly, even if they didn't, the broker would make good any loss, whether inadvertent or due to some mysterious malfeasance. That's literally the reason your broker holds capital and is regulated.
A share is not like an apple. You buy a share with the clear intention of selling it to someone else one day. It's a speculative activity par excellence. People who buy apples in order to trade them are generally quite comfortable with the fact that 'their apples' are in reality just a binding contract on someone else to produce those apples when asked. In the same way, the bank does not have 'your money' in a pot somewhere. They just promise to produce it under certain conditions, and there are regulations making sure they keep this promise. I get that some people think this in itself is suspect, but if so, you are opposed to most aspects of modern finance, why pick on short sales?
If you buy a share, your order to buy one will most definitely be met. They can't lend out something that hasn't been bought. You might be confusing short selling with another bugbear, order internalisation and PFOF.
> If instead my money is “borrowed” without my concent for some nefarious activity
What activity? Who is borrowing your money?
> whose money is being stolen
Your money was used to buy the share.
Want to sell the share? It's there. Want to vote the share? It's there provided that you actually paid for it with cash. Oh, you bought the share on margin? Well, the same as a car which you borrowed money to buy, the share does not fully belong to you in those circs. So depending on the rules, you might not be able to vote it.
> That these shares do not exist, isn't some slip-up.
The share definitely exists. Allowing retail investors to bet on shares going up and down without any actual shares trading hands is illegal, since the 1930s.
'without your knowledge'. Everyone knows about this. That's literally why we're taking about it.
>loan it out in order to sell it in the hopes of earning money if its value drops
The broker doesn't earn money if its value drops. They lend out a share, they get back an identical share.
>Clearly you'd want to know if your property is being loanded out, because it means that you're incurring risk
No more risk than the general risk that your broker (or bank) will fail, that the regulator got it wrong and they don't have enough money to pay everyone back, and that the govt won't step in if this happens.
And you do know.
And you are allowed to ask them not to do it. If you paid cash for the share.
Oh, you bought the share on margin? So the broker stole someone else's money from their pot at the bank where they thought it would be taken...
Brokers ask about this during the signup process. It's not buried in the TOS or turned on by default without ever asking. My broker devotes an entire page of the signup process to it, and it's easy to decline.
> When I purchase a stock, I do it in the express belief that I will get a physical share of that company
When you put money in a bank, acquiring interest, you no longer control that money, the bank is free to invest it, though obligated to return it. This is part of your agreement with the bank.
When a broker buys stock on you behalf, there are often similar arrangements in the T&Cs. Your stocks therefor, cannot be borrowed, or sold, without your consent; but you need to read the terms to see what you are consenting to.
The asset that backs final settlement is different. I can always get cash from some other source to cover scenario 1 (which is also a more straightforward scenario because of that). A share is not some magical, fungible thing that is equivalent to cash; it represents an actual share in a company which comes with actual, legal rights. If a day comes where, as a completely hypothetical example, A is unable to deliver the share they promised to B then there is no externally resolving asset to settle the trade (unless parties agree beforehand to compensate in cash, in which case you get a functional equivalent to scenario 1).
While the mechanics are more-or-less equivalent, the settlement assets in the two scenarios are not which can make a big difference depending on the circumstances of the trade. Neither is generally a problem in a high volume, liquid system though.
I'm not sure you read the article. Author is alleging the prime broker/clearing house system regularly "gives out" shares to sell on the market (diluting company's shares) with no transparency in the reconciliation because the main clearing system is privately owned. You're better off reading the full article since my summary is extremely surface level.
That is exactly how money and other derivatives works, and it's not, in general, a problem.
If Bob has one of the five bananas but sells Alice a contract for delivery of 500 bananas and then can't make good on his promise, then Bob has screwed only himself, because now people know that Bob's bananas are only worth 0.002 of other people's bananas. Even if Bob finds another rare banana he won't be able to sell it for anywhere near it's true value.
Critically, Bob has only devalued his own banana contracts.
In the meantime, Alice has only the one banana she bought from Bob, and she spent all her savings on that banana, thinking she'd get 500 of them.
But Alice is clever. She has a plan for making back her savings. Alice sells 10 bananas for future delivery to Cecil. Alice plants the one banana she bought from Bob. And sure enough, come delivery time, Alice picks the bananas from her tree and delivers them to Cecil. Cecil, in turn, sold 20 fruit salads for future delivery to other people -- that's how she afforded the banana contract from Alice.
Two observations I want you to make:
1. The one bad actor screwed himself out of the market in no time at all.
2. The 22 good actors managed to allocate capital effectively where it would do the most good for everyone, and allowed entrepreneurs of very little means to start profitable businesses.
Derivatives trading is very resource efficient and has made modern society possible. It has a few drawbacks but they are self-correcting.
There are problems, but they are not with derivatives trading.
Edit: And keep in mind that Bob's banana contracts are not worth anything compared to other people's bananas, but they are still not completely worthless. If Dave owes Erica 50 of Bob's banana contracts, Dave will find it easy to repay them: you can trade almost anything for a Bob banana contract.
But that is not the point. The point is you had 5 bananas to sell and 500 people who bought 1 banana each. Now all 500 monkeys wants its dinner so please deliver. If you can't it is fraud.
The mental gymnastics in the stock market are insane. More shares have been sold than exists. That has nothing to do with the amount of times they were sold.
If it's supposed to be a different banana, that's the 'net buys' scenario I described and is not fine, that would indicate naked (which is illegal other than by MMs) short banana selling.
The naked shorting reduces the value of real shares. Basically because the naked shorters can sell as many nonexistent shares as they want, while the investors who buy can only buy shares that exist.
That doesn't make sense. If I have to pay each share 5$, and I have given out 500 shares, but when it's time to pay out dividends 700 shares show up to claim them,then someone has to lose money right? Either I have to give 5$ to 200 shares that I never sold to people to begin with, or the 500 people who actually bought shares from me lose some of their portion to the extra 200. What am I missing if that's not the case? Surely that dividend money for those extra 200 shares has to come from somewhere?
A loans a share to B. Now A owns an iou, which doesn't have any voting rights. B agrees to pay A an amount of money equal to a dividend payment if a dividend is paid by the company.
B goes short by selling the share to C.
C owns a share of stock.
When the company pays dividends, C is paid and B pays A.
Alright, thank you. That makes sense. How do the voting rights work for share A? I was under the impression that brokerages loaned the shares out without the explicit knowledge of the original owners that it was happening. Is it just that people with margin accounts functionally don't get a vote?
You lose the voting rights as well. Users on brokerages typically agree to this when signing up. Some have opt outs but you may lose features being subsidized by the brokerage having the ability to lend shares.
>> I don't understand why I'm supposed to be outraged by either
You shouldn't. When the economy collapses because of the aforementioned practices and you family loses their jobs, housing etc, you should not be upset either.
If anything, it's very good to have short sellers, because they are the only market participants who have an incentive to expose bubbles. And expose them early.
Farther down it's stated that, as an outcome of this tactic ...
"At any given point in time more than 100 emerging companies are under attack as described above....
The success rate for short attacks is over ninety percent—a success being defined as putting the company into bankruptcy or driving the stock price to pennies. It is estimated that 1000 small companies have been put out of business by the shorts. Admittedly, not every small company deserves to succeed, but they do deserve a level playing field...."
See that's what I don't follow. For most companies, when they IPO, they have the cash on hand from going public. The stock price doesn't really matter anymore for day to day running of the company. Sure a lower stock price long term means that they need to up RSU compensation or won't be able to raise money again, but do those really kill a company?
I IPO for 20 million, giving me 18 months of runway. My stock instantly gets shorted a ton, then what? How does that impact me? How does that put someone out of business? If someone thinks that a company is profitable, they can always invest AND that investment is cheaper because of the 'excess' selling of the shorts.
Ever heard of “The great vampire squid wrapped around the face of humanity, relentlessly jamming its blood funnel into anything that smells like money.”?
> Nothing they are describing, if you ignore histrionic language like "counterfeiting", seems especially nefarious.
It sure does to me though:
First of all, there's the whole self-fulfilling prophecy thing. On a technical level, everything borrowed is eventually given back, so the effects should cancel out in the end.
The problem starts when the borrowing and selling of stocks happens at a scale where it influences the stock price. At that point, you're a) actively hurting the company b) expecting to profit from it c) sometimes without even expecting the stock price to fall if it weren't for your intervention.
Like, I don't see how financially hurting others for personal gain is not a bad thing, but what makes it even worse is that these might be companies producing actual goods, driving humanity forward, and this is being hindered by economic parasites that are only throwing sticks in peoples way.
It's easy to understand why many believe this should definitely be illegal, and why people without much knowledge of stock markets would expect it to actually be illegal in the first place.
This is the equivalent to shouting "fire" in a crowded theatre... intending to loot whatever people leave behind.
Question: According to this, all the actual share certificates are held in a vault at DTC. Do people have a right to "cash out" and demand physical share certificates? If so, it seems like if a large number of people suddenly started demanding share certificates, this could cause problems for DTC and show this problem for what it is. Essentially a "run on the bank".
> it seems like if a large number of people suddenly started demanding share certificates, this could cause problems for DTC
No it wouldn’t. You would be delivered shares within two days as is required. Lots of institutions don’t hold their shares “in street name,” i.e. they hold them in their own. And some people still demand physical certification. (Not every issuer supports this, largely due to exchange rules.)
> If the number of share certificates being requested exceeds the number of share certificates existing, how would they do this?
When a stock has 140% short interest, there are net 40% of the float of holders who have loaned out their shares. They wouldn’t have the right to certificate until they called back their shares. If literally everyone asked for delivery, you’d wind up with the naked shorts needing to pay up to some of those taking delivery to settle their positions. If everyone refuses to sell, those naked shorts would FTD, and the appropriate processes would take over.
Long story short, nothing intrinsic to the DTCC creates net over or under allotment. Companies go private all the time, which is a functional case of all of a company’s shares being taken out of the DTCC.
This article is quite biased. There are a few problems with it:
1- The stock market should not kill a healthy company. Sure, it can affect its money raising capabilities (and maybe hiring) but it should not drive it out of business.
2- Naked Short-sellers still have to pay interest and dividend on their sold shares. This would create a certain equilibrium. If you nake-shorted a company at x2 its value, you suddenly doubled its profit; and that's being paid by the short-sellers. Profit (dividend) gives a reason to investor to hold on that stock; which brings us to point
3- Naked short-selling is probably done on very short time frames that doesn't extend between quarterly dividend payments. The company is probably going under anyway.
The article also deals with the parts about actually defaming, attacking in courts and otherwise doing everything possible to actually bankrupt the company...
It doesn't only cover the stock market, it covers the whole operation, which goes way beyond only the stock market.
Rules already exist around what you can and can't say as a short seller. What is it that you don't like about them? Do you think no one should be allowed to say negative things about companies?
Shorts can't drive companies in the ground if that's not where they're headed anyway. First of all most short sellers are not activists. The perception that shorts causing companies to tank is because activist short sellers are right a high percentage of the time so often their reports result in a quick price adjustment. Being an activist short seller is a very high risk activity so they tend only to pull the trigger when they have high conviction. For example I'm not sure Muddy Waters has ever been wrong in calling out an accounting fraud. I have a really hard time buying the line that short sellers bring down good companies (examples?) and the fact that people do think that seems to me more of an indication of the power of corporations and their management than anything else.
My initial thought after reading this is if all $GME shares sold by RobinHood actually exist, or if they're counterfeit copies of someone else's shares.
I kind of doubt it considering all the regulation scrutiny recently.
FYI, Naked Shorting has been made illegal since 08-09' [0]
In the author's case because DTC is a blackhole system, these naked shorts can continue to exist. They also can continue to exist in self-contained as well as loop-holed systems.
I find articles like this fascinating because to me they are indicative of just how substantial the magnitude is of the "bounty of capitalism" in the public markets.
On the one hand you have returns available to anyone prepared to invest consistently in the stock market across the last 30 years that are both well documented and very substantial. People like Warren Buffet & boggleheads make data-backed arguments about how well you could have done if you put money in even just broad index-tracking funds.
And yet on the other hand there are two massively powerful groups with materially more leverage and informational "edge" within the system compared to all the people with a 401K. These are the executives who actually run the public corporations (and can choose their own compensation as a class via board/exec rotation & internal influence) and the financial firms that are embedded both in the firms' operation and also essentially setting/playing the rules of the meta-game as evidenced by articles like this.
It feels like the fact that there are any returns left for a retail investor in public stock market investing speaks more to the quantities of wealth creation taking place than the absence of this sort of outrageous market rule capture.
Two disclaimers: 1.) the slider for wealth "creation" on the public markets in the US seems fairly obviously to be being dragged from innovation to ZIRP... whole separate matter. 2.) at a whole-society level obviously the availability of public market returns is limited to a tiny sliver of the population with the means to invest, so when I say "bounty of capitalism" above I'm more referring just to the sum of financial profits as a result of the system.
> It feels like the fact that there are any returns left for a retail investor in public stock market investing speaks more to the quantities of wealth creation taking place than the absence of this sort of outrageous market rule capture.
This is why lots of retail on forums like wsb treat the market as gambling. There is almost no edge you can get when compared to big players. And even if you make correct assumptions you can get losses out of them either by them being already priced in or via short manipulation.
One example I remember last January's fake tesla brake issues the week a huge volume or calls expired.
And yet hedge funds still tend to underperform the market. Warren Buffett once bet that over a 10 year period, the S&P 500 would outperform a portfolio of hedge funds (https://longbets.org/362/). He won that bet.
On a sidenote, I really like that site's design. Having just read about the Gemini project, I feel like we all should maybe tone down the web design a little bit.
"Pulling margin from long customers — The clearinghouses and broker dealers who finance margin accounts will suddenly pull all long margin availability, citing very transparent reasons for the abrupt change in lending policy. This causes a flood of margin selling, which further drives the stock price down and gets the shorts the cheap long shares that they need to cover. (Click here for more on Pulling Margin)."
I don't quite understand how supply/demand dialectic works if one side of the trade(supply) can arbitrarily inflate, at least in the moment until liquidity costs kick in.
Do economists have models to explain that?
"There are are 71 million shares of GME that have ever been issued by the company. Institutions have reported to the SEC via 13F filings [0] that they own more than 102,000,000 shares"
Quote from https://old.reddit.com/r/wallstreetbets/comments/l97ykd/the_...
13F filings don't include short positions. Given how shorted GME is, I don't think it's surprising that the total long positions exceeds the number of shares outstanding.
To add to the confusion we're still within the 45-day filing window for the end of the last quarter, so some investors may not have filed yet either.
So there's way more shares held long than there is actual shares. This must lower the share price then? There's way more "supply" (people that can sell a share).
Very, very much a crank site. One pinch fact, two cups of confusion, and generous splash of seething rage.
It's interesting in much the way the Timecube site is interesting...and is informative about financial markets in much the same way the Timecube site is as well.
You've had some good answers, but i will add that the internet led to a Cambrian explosion of cranks, because now anyone can put up a webpage. There is a catalogue, although i don't think it's maintained any more:
How so? Could you please explain for someone who only knows enough to see this as potentially credible? I tried to research timecube but can't see the connection.
I believe I am familiar enough with this area to say this is the work of a crank. Some key problems:
1. There's a huge body of scholarship out there about markets, how they work, how to think about them, how they may fail, how you can measure how they're failing, etc. This doesn't engage with any of that. It's not "Prof X said Y is true, but my data suggests he was wrong, see table 2", it's just "everything you think you know about Y is wrong".
2. Also, the paper is making up its own terms. That's actually a pretty good rule: Any paper that tries to discuss a topic and starts with a bunch of idiosyncratic definitions of basic terms is a huge red flag, because anyone in the field knows what those words mean already. So again, you're clearly not writing for an audience of people who could critique your argument. But if you're not looking for a critique, why are you writing at all? How can you know you're right unless the top experts in the field have tried to tear you apart and failed? Which they won't do if you don't engage with them.
3. There's no data anywhere, just assertions which (again, as someone a bit familiar with the field) seem wildly implausible. Eg:
> At any given point in time more than 100 emerging companies are under attack as described above. [...] The success rate for short attacks is over ninety percent—a success being defined as putting the company into bankruptcy or driving the stock price to pennies. It is estimated that 1000 small companies have been put out of business by the shorts.
So more than 100 companies are being attacked every moment of the day. There's no real definition of what an attack might be, or how you might count this, nor is there any evidence given of where the author came up with this number, or how long an attack lasts, or a list of companies under attack at the time of writing. Then we're told that these attacks succeed 90%(!) of the time, bankrupting the company(!). Again, no information why we might think such attacks succeed at all, much less 90% of the time, nor any acknowledgement of the huge body of research suggesting shorting does no such thing. Then we say "it is estimated" (by whom? when?) that 1000 companies have been so bankrupted. ...if 100+ companies are being attacked, and this has been going on for many years, and the success rate is 90%, and the result is bankruptcy, how come only 1000 companies have been bankrupted? Also, again, how come we can't seem to name any of these companies?
Also, I elided a passage of the quote above, which is:
> This is not to be confused with the day–to—day shorting that occurs in virtually every stock, which is purportedly about thirty percent of the daily volume.
That probably sounds pretty wild too. But actually, last I heard, the actual number was more like 49%, because that's how stock markets work. You ask your broker to buy 100 shares of Apple, and he'll sell you 100 shares (short), then go buy the rest on the market. As a general rule, whenever you buy shares it shows up as a short order, and whenever you sell shares it shows up as a long order. Since any time someone buys someone else is ...
> So again, you're clearly not writing for an audience of people who could critique your argument. But if you're not looking for a critique, why are you writing at all? How can you know you're right unless the top experts in the field have tried to tear you apart and failed? Which they won't do if you don't engage with them
You are assuming that the only point of writing anything is to either create new knowledge (for experts) or to distill existing knowledge (among experts). This is simply not true.
An off–shore hedge fund devised a remarkably effective incentive program to motivate the traders at certain broker dealers. Each trader was given a debit card to a bank account that only he could access. The trader's performance was tallied, and, based upon the number of shares moved and the other “success” parameters; the hedge fund would wire money into the bank account daily. At the end of each day, the traders went to an ATM and drew out their bribe. Instant gratification.
Vague accusations of bribery without proof or a source strike me as FUD. But it strikes me as something most people would want to believe if they're angry.
Unfortunately I've also had all of this confused nonsense explained in real life to me from people I respect. I think people are bored from the pandemic and the excitement of something nefarious to rail against prevents them from looking into the facts
It's not even Gell Mann, it's total lack of skepticism on any part of the narrative that to me at least, falls apart the moment any it is has any amount of thought put into it. Why does 140% short interest mean that all of it is done by this Melvin strawman. Why did people think all 140% of it was going to be due last Friday. Why would buying shares and holding result in Melvin going bankrupt from being unable to cover if 140% was an uncoverable amount in the first place.
I don't understand how the stock market actually works. I also don't need my Economics degree to understand that the way people over the past week have suggested it works doesn't make a lick of sense.
>"At any given point in time more than 100 emerging companies are under attack as described above. [...] The success rate for short attacks is over ninety percent"
he/she can only find two examples (Global Link and TASER), which is a bit odd.
In any case, there is a connection to the current narrative of "short sellers are evil". But "the shorts" or "they" is one of these "us vs them" constructs that does not exist in any meaningful way.
Even worse, there is a common notion on r/WSB that "the shorts" are also "the suits" and there will be some rough awakening when folks find out that Wall St made more money on $GME than Main St, and that is on the long side, before any dip in share price!
By the way, this awakening might never happen and there is a scenario where we will never find out who traded what on $GME, because transparent transaction data is not publicly available. Thinking back about the 2010 flash crash [1] we still don't know with certainty what exactly happened.
Grant Williams did a podcast about the current events [2] and I can only recommend it (also check out his Endgame series).
There certainly are unethical sellers of stock (see e.g. Jim Cramer video where he talks about manipulation) but I have yet to see convincing evidence that unethical or fraudulent behaviour is more common on the short than long side.
There was a recent poll on Fintwit to name examples where "short attacks" hurt companies, and the paucity of meaningful examples further confirmed the above point (can't find reference due to crappy Twitter search).
This is mostly nonsense. There is nothing wrong with there being more shares short than shares outstanding. It just seems problematic, until you think it through.
Person A has 1 share of company Y. Person B borrows 1 share of company Y from person A, and then sells it into the market. This is called a short sale. But person B just sold their borrowed share. Now that share is owned by person C. Person C can now lend it back out to person D, or to person B again, and the process can repeat infinitely. The idea that short interest is constrained by shares outstanding is just a fundamental misunderstanding of how the short market works.
Shorting behaves the same way that fractional reserve banking does, and there is a 'money multiplier' like leverage effect in the process. There is nothing nefarious about this, and it certainly isn't 'countfeiting'. Short sellers provide an important service to capital markets, maybe the most important service: they help to identify mismanaged or fraudulent companies. The idea that attacking short sellers is attacking wall street is completely backwards. Most of Wall Street hates short sellers, because they drive down the prices of companies and confidence in markets (in the short run, in the long run, they increase it).
Historically, systems without lender of last resort have done quite well. See eg the Canadian system of the 19th century, with no lender of last resort, and that often ended up as an emergency lender to the mis-regulated and crisis-prone American system to the south.
Not really. You. nor the bank, can't lend more money that you have, but you can promise more than you have.
That automatically implies something more complicated than lending. At the very least, money was borrowed (on a promise) from a third party in order to provide the money they loaned.
You and I can do the same, I can promise you whatever I like. And if I manage to convince you, or a third party, that my promise is good, I can even borrow money from them. And loan out that money, despite not owing it; Unless there is something fraudulent in doing that wrt my agreements with the borrower - but the bank has the same, nationally regulated, restrictions too.
If a bank is created and you deposit $1, the bank has $1.
They can lend only $0.9 because they need to keep $0.1 as reserve (for example).
From there different things could happen:
a) if the borrower takes the $0.9 and takes it elsewhere the bank cannot lend a single additional cent until they get more deposits.
The fractional reserve means they could only lend a fraction of the dollar.
Maybe the money will be deposited in another bank who will then lend to someone else, but for the original bank who got $1 it stops there.
b) if that money remains in the bank as a new deposit, they have now $1.9 in deposits.
They can lend a fraction of the additional $0.90, and make an additional loan of $0.81 (keeping $0.19 in reserves in total).
If the second loan also ends in the bank as a deposit they will have $2.71 in deposits, they can make a new loan etc. but the multiplier is limited.
For shares there is no limit at all.
If Alice has a share she can lend it to Bob who sells it to Carol. Carol can lend it to Daniel who sells it to Elaine. Elaine can lend it to Felix who sells it to Gloria. Gloria can lend it to Hector who sells it to Ingrid. They can go on for as long as they want and all the ladies will be long one share.
What your describing still sounds incredibly dodgy.
The price of anything is a result of its some intrinsic value and the volume of supply. So a precious stone is valuable because of its beauty, but also because it's rare. If someone mines a billion such stones, it won't affect their individual beauty, but it will certainly reduce the price someone is willing to pay for one.
Now, you seem to be saying that short selling is a signal about intrinsic value, but the process you describe, whether you want to call it counterfeit shares or fractional reserve shareholding or whatever also messes with the valuation by inflating the supply. If there are more shares of a given company available, those individual shares will be worth less.
The result would seem to be that naked short selling at volume will create a self-fulfilling prophecy. You can drive the price down simply by inflating the supply, regardless of whether the company is well managed or not. Maybe you start with badly-managed companies, but there's always going to be a perverse incentive to target any company so long as you can manipulate the supply enough to force a price drop. If you care about the market as a measure of company health, that doesn't sound like a good idea.
> naked short selling at volume will create a self-fulfilling prophecy
To be super clear, naked short selling is banned for everyone but market makers [1]. A market maker goes naked short when there is a buying frenzy. Their economic incentive is to then cover the short given they are in a buying frenzy.
The NYSE explicitly markets its specialist system to issuers as a stabiliser mechanism. It’s a selling point to long-term investors and Boards. The only people who get upset about this are hedge funds and day traders who get ahead of their skis.
[1] By Wall Street tradition, every long losing money must allege naked shorting. That doesn’t substitute for evidence of it. Large amounts of short interest do not indicate naked shorting. (Lots of FTDs do, but this figure has to be scaled to leverage and volatility.)
Naked short selling is allowed by market neutral market makers, but it does not function as convention short seller. Under current regulation, a naked short seller is not looking to make a profit from a future decrease in price, but instead ensuring market availability of the stock. E.g., if there is a sudden increase in buyers market makers continue to make good on their obligation to always be willing to buy and sell a certain stock. Market makers are required to buy a share back from the market sometime in the future to replace the phantom share that they sold.
Well, the market maker has to deliver the share in T+2 days just like with every other sale they make. Yes.
My comment was meant to say that I think it would be fine to allow everyone to do naked short selling like that. Of course, subject to margin requirements etc.
As an investor I would rather an actual share, than a promise. They are not fungible to me. Even disregarding the risks, an actual share comes with voting rights.
I read you as saying that (indefinite) naked short selling should be allowed, meaning that the buyer doesn't get a share after 2 days, or ever.
I wonder what the value of short term naked short selling would even be? In that timeframe borrowing should not be very costly anyway? The GME shorts have been short way longer than 2 days.
> I wonder what the value of short term naked short selling would even be?
First, to put everyone on the same footing as the market makers.
Second, just to make short selling easier in general. Short sellers are massively important to spots bubbles and other asset mispricings, but they never get any love.
Physical settlement is relativement rare in those markets.
The main purpose of the transactions there is not to get physical delivery at expiration, let alone two days after the transaction. Many contracts are cash settled and if not you can always close positions right before expiration (and maybe roll them over).
When someone buys a stock very often the purpose is to "physically" have it as soon as possible.
Though funny enough, stocks are already a virtual thing and exist in computers only. Whereas oil or onions are physical goods, and there are real consumer who absolutely need real physical onions.
Yes, it's an official designation by the SEC with accompanying regulations. To become a market maker you have to specifically register as such with the exchanges you'd like to service.
It doesn't inflate the supply, because the amount of people who own the share is equal to the number of actual shares, plus the number of people who are short the share. All the people who are short the share have to buy it back in the future. So the additional supply has exactly been matched by additional demand.
What you are saying is like saying that lending money to your friend creates inflation by expanding the money supply, because you still have $10 (that he's holding for you), plus he also has $10. In fact, since he knows he owes you $10, he's going to have to cut back on his spending at some point in the future, to pay you back. (Your mileage may vary with actual friends.)
Well, lending new money (i.e. an increase of lending over previous lending) does expand money supply and create inflation. If we look at the macroecomic aspects of money supply, most of current money supply is created through lending.
The key difference in your estimates of supply is that you include the future repayments of current lending, but ignore future lending. The general assumption in macroecomics is that we don't treat such lending as isolated one-off events, but as a sum of ongoing activity by many people, continuing forever at a stable level unless some event affects it.
Assuming that the principles governing lending don't change, the future repayments are balanced by payouts of new loans at that point of time, and the current payouts (if they are greater than current repayments of past debt, i.e. there's a net increase) are not balanced and thus increase the supply. If at some point the fundamentals change so that the lending decreases or stops then that event would decrease supply back to where it was.
I.e. if you often lend money to your friends so that usually someone or someone else owes you $10, then this lending is not a change and does not affect supply, but if you did not loan money and now you start lending, then that $10 is an increase in money supply.
> Well, lending new money (i.e. an increase of lending over previous lending) does expand money supply and create inflation.
You are talking about lending by banks, and/or the central bank, which is quite clearly money creation.
New lending of your money to your friend does not create additional money.
There's also a word game going on here. What you are describing is a situation where I lend money to my friend, and for the purpose of your analysis, you assume that I will always have lent out a similar amount of money forever starting now.
That's fine if that's what you want to analyse. But that isn't the situation I described.
> All the people who are short the share have to buy it back in the future.
Not if the company goes bankrupt though, right?
Seems like a potential strategy hedge funds can use (and maybe are using) is to short a company a ton and collect a lot of money from that. They can short more than the float, so even collecting more cash then the market cap of the company. This drives the price down, because there is more supply. The more they short, the more the price goes down. Then they just wait for the company to go bankrupt, which is more likely since the company's share price is in the dumpster.
Hilariously, the company going bankrupt can be even worse for shorts, since a bankrupt company will stop trading, and if it stops trading, the short position can't be closed.
> Seems like a potential strategy hedge funds can use (and maybe are using)
Anyhow, no, doesn't work. Even apart from getting burnt when the fraud is finally exposed and the company goes bust before your short position is closed or whatever (which is thankfully pretty unusual), stock borrow costs will eat you alive. Also, you can't short more than the float (short interest can be over 100%, but that's confusing net versus gross), you can't collect more cash than the market cap of the company, and you can't really bankrupt healthy companies by shorting the stock.
(The way short sellers (like Muddy Waters work is they find a company doing a bunch of fraud, they take out a large short position, then they publicise their research. If the market agrees with them, the uncovered fraud tanks the stock price, and they make a healthy profit. Sometimes the company ends up bankrupt and/or with their executives in prison, but the cause is the fraud, not the short selling. Short selling an otherwise healthy company into bankruptcy doesn't make a lot of sense in theory, and doesn't seem to happen in practice.)
> they take out a large short position, then they publicise their research. If the market agrees with them, the uncovered fraud tanks the stock price, and they make a healthy profit.
This is giving the market a lot of credit for being a rational and well-informed actor. The market is not full of people who calmly evaluate a short seller's argument and make a logical decision. It's full of people who lack the time, experience, and confidence to question the "financial expert" making dire predictions on the morning news and think "I should get out of this stock just to be safe".
Normally that's not really the case. There's a lot of academic and practical evidence that the most rational investors generally determine the prices of stocks, because even if there are a lot of irrational investors making random or systematic errors, a minority of rational investors all betting in the same direction ensure that prices are close to "correct", for some reasonable definition of correct.
In practice you just don't see examples of productive companies driven into insolvency by short sellers.
Oh, I agree completely. Individual market participants make tons of mistakes, and absolutely won't be able to evaluate short (or long!) arguments correctly in many cases. That's actually one of the key elements supporting the efficient market hypothesis, and why so much ink is spent encouraging small investors to use index funds.
But it's a question of scale. The fact that any one investor may make mistakes doesn't mean that the market as a whole, in the medium or long term, also makes these sorts of mistakes.
"Some hedge fund guy released a report saying stock X is bad and the stock tanked 30% from small investors panicking before recovering when people realised it actually wasn't bad" is pretty silly, yes. And it's a bit rough on the small investors selling at a loss into the large investors who are able to correctly analyse the report, absolutely. But does any company actually go bankrupt in cases like this? The answer seems to be no; there's no evidence for it happening, and it's hard to see how it even could. Confused retail investors can lead to price volatility, but they don't make or break a new share offering.
Yes but there's a counter to this and limit that is not there on the long side: Remember stocks are ownership in a company. If a load of "predatory shorts" jumped on and drove the market value of a company way below of where it should be, I could jump in with sufficient money and make a tender offer. Then I'd own a real company with real assets for a fraction of the cost and take it private. And the shorts would have to cover their shares.
There's no such reality check with things going up on the long side as we see from Gamestop. Someone can't step in and cash out on the company at a ridiculously high price compared to fundamentals. It is only driven by the market. In general short sellers are vilified more than warranted. If you are long on a good company you should applaud them because after all, they now have to buy back at some point. People view it as if you are some villain going against what is right (shares just going up and everyone gets rich). Stocks that go down with high short interest are almost always going down because they are bad companies, not due to short sales.
> The price of anything is a result of its some intrinsic value and the volume of supply.
No. The price of a stock is the value of its discounted cash flows.
Shorting creates synthetic shares, that guarantee the new longs an exactly replicated stream of cash flows. This doesn’t make the original shares any less valuable, because they still have the same cash flows.
Imagine someone conjured a new company, called Tesla-2, out of thin air. It’s future profits and dividends exactly match Tesla. Why should this make TSLA any less valuable?
If people are investing in TSLA for the company’s long term viability, the existence of TSLA-2 should be a good thing for holders of TSLA. Now they can buy even more. It’s only bad if people are buying TSLA as a speculative asset to flip to a greater fool. Which is why short selling is such an important mechanism to prevent speculative bubbles.[1]
> The price of a stock is the value of its discounted cash flows.
Nearly. There ARE a few other reasons to own a stock, such as the right to influence the governance of a company.
(I agree that shorting is an important market mechanism that protects against frauds and bubbles. I am much less sure that naked shorting provides value. In fact, I'm not sure I have ever heard an argument for why naked shorting is valuable... they always turn out to be arguments for why shorting is useful.)
You cannot reduce ownership of a stock to discounted cash flow. Owning shares (mostly) comes with shareholder rights like voting. To me it is pretty obvious selling more of those rights than exist is fraudulent.
In the simple short scenario, where A owns a share, lends it to B, then B sells it to C, the share in question only has one owner: C. A doesn’t have a share any more, they have an IOU from B for one share. B doesn’t have a share either. Only C has a share.
Once the IOU comes due, B will need to acquire a share from D to give back to A, at which point both A and C own a share - but D no longer does.
At no point are there any magic duplicated shareholding rights.
Yes, but Gamestops was above 150% of float short. So that scenario doesn't matter and fraudulent stuff is going on. Shares were literally created from thin air.
Whoever lends shares to the short seller lends the voting rights attached to the shares as well, so as long as the short is covered, there's not actually any excess voting available. Moreover, sellers have up to two days to deliver the shares to begin with (the settlement period). If a naked short seller can secure the loan or the securities within that period, it all works out. (If they can't, well, it's fraudulent for other reasons more direct than the voting.)
This seems somewhat counter-intuitive to me. Could you maybe go into how creating a second company, Tesla-2, would have zero effects on the original Tesla's future cash flows and stock price?
In my naïve view, TSLA's future cash flows have value because the company is expected to sell a lot of cars that:
1. No one else makes (or practically no one, such that TSLA has a majority of market share)
2. Many people want to buy.
Now, supposing TSLA would be able to service all the demand for its cars, how would a competing TSLA-2, presumably offering identical cars (or of identical value at least) not affect TSLA's future cash flows?
All things equal, if two companies sell products that are basically the same (same quality, price, etc), wouldn't that split the market in two? I wouldn't expect to see people buying twice as many cars because there are now two companies producing them.
Just to be clear, in the toy example, TSLA-2 does not compete with the original Tesla in anyway. They simply replicate the cash flows. Maybe TSLA-2 sells electric cars in a parallel universe. Or more likely maybe, it’s just a creditworthy institution who promises to match the profit stream, i.e. a swap.
> The price of anything is a result of its some intrinsic value and the volume of supply. So a precious stone is valuable because of its beauty, but also because it's rare.
The price of something is just what someone else will pay. Period.
Intrinsic value factors into what people are willing to pay but only indirectly.
See: beanie babies, trading cards, status items, old land rovers.
> The price of anything is a result of its some intrinsic value and the volume of supply.
No, it's the result of supply and demand not supply and “intrinsic value”. Demand is driven by subjective value, not “intrinsic value” which is a nonsense concept that misunderstands fundamentally how value and human action relate.
Demand for a stock is generally linked to the value of its future discounted cash flows, which is as close to a definition of "intrinsic value" as one can reasonably realize in the world.
> Demand for a stock is generally linked to the value of its future discounted cash flows
Tautologically so, in the sense that the market’s notional consensus of the expected future cash flow is inferred by those who are convinced of it's simplistic financial rationality from the stock price and assumptions of the proper discounting mechanism. Factually...that's a bit harder to argue.
There's some a-step-more distant proxies that people hold up as touchstones for that like P/E ratio, but those aren't consistent across stocks or, marketwide, over time.
> You can drive the price down simply by inflating the supply
short selling does not increase the number of shares. if i borrow a share from you and sell it, you cannot also sell that share. the number of shares is constant regardless of how many shares are sold short (except for naked short selling).
short selling increases the number of people that can sell, but that only increases symmetry in an otherwise asymmetrical system. anyone can bet that the price goes up, but without short selling, only people that already bought can bet that the price will go down.
> there's always going to be a perverse incentive to target any company so long as you can manipulate the supply enough to force a price drop
what is "manipulative" about selling a stock? if i buy a bunch of stock (to make the price go up), is that also "manipulation"?
I think some of the confusion is people talking past each other.
I think some people latch onto the whole concept of "borrowing" as the supply inflation. In the housing market, when I buy a house it is OFF the market. There is no "borrow someone's house & reintroduce it into the supply and gamble on the direction of the market".
Can you comment on how that interpretation is wrong?
The case outlined in the whitepaper is not just regular short-selling (e.g. you borrow a share and sell it, with a promise to buy it back). Short selling has actual uses in a market and they are not claiming that shorting in itself is "manipulative" or "fraud".
Their claims of counterfeiting stock involve the use of naked shorts(a.k.a where a share is sold, but never borrowed) Naked shorts must be attached to a real share within 3 - 21 days, not doing so is illegal. They outline a series of loopholes which are used to sell shorts w/o ever borrowing a real share, effectively diluting the actual stock issued by the company with extra counterfeits to drive the price down. The goal is to drive the price to 0 and bankrupt the company, so that the shorts don't have to be covered anymore, netting a large (tax-free) profit.
> if i buy a bunch of stock (to make the price go up), is that also "manipulation"?
No, lets talk about the details of how actual manipulation works. Below is not an exhaustive list of manipulation tactics, just a selection of examples:
1. SEC rules left a loophole allowing naked shorts to be covered with naked calls. No actual instance of stock has to actually be borrowed in this case, but it's not marked as a fail-to-deliver in SEC reporting. The naked call option is not tied to any stock issued by the company, it's just an option to buy at a future date, but it can now be repeatedly borrowed out for shorts as if it were a stock.
2. The SEC keeps track of fail-to-deliver in the SHO list and has requirements of 3 days for brokers and 21 days for market makers to borrow an actual stock. Another fraud claim is that brokers/hedge funds collude to pass around naked shorts between offshore shell companies in order to indefinitely reset the 3 day SEC requirement to keep naked shorts indefinitely and keep it off of the SECs fail-to-deliver list. They also use a similar technique to allow 8 - 10 shorts to borrow the same shares and then just move them around in time to meet SEC reporting deadlines. During any audit by the SEC, the SEC calls ahead and they move all naked shorts to offshore accounts where they can't be seen and then move them back once the investigation is over.
This means for every fail-to-deliver marked on the SECs books, there will be several times (10 - 20 according to the whitepaper) more counterfeit shares being sold by shorts that are not tied to any real shares.
3. The third fraud claim involves the clearing house (a.k.a a broker for brokers) the DTCC (we care about two of its subsidiaries DTC and NSCC). When a broker sells a short and fails to deliver an actual share in 3 days, before 1981 they would be forced to buy it back. After 1981, they can borrow one from the NSCC Stock borrow program. The NSCC will then go to the DTC which holds all the stock certificates and find a broker with a surplus of shares and borrow the necessary amount of shares.
Now here's the fraudulent part. When the shares are borrowed only the net amount is deducted from the surplus, but no actual shares are actually removed from the individual accounts of the broker. Now both the lending broker and the borrowing broker have real shares in their account, but they're the same real shares. Since the borrowing broker has real shares now, these same shares can again be lent out by NSCC to another borrowing broker and again no shares are removed. Now 3 investors have the same shares in their account. Since transactions are done as net transactions (instead of individual stocks) between brokers, the fact that 3 investors have the same share never has to be reconciled and two counterfeit shares have been created.
In regards to the GME short, even though only 71 million shares were issued by the company, currently institutions have reported to the SEC (13F filings https://fintel.io/...
Why would driving the stock price to zero bankrupt a healthy company? Companies go bankrupt when they can't pay their debt. A low stock price may impact their ability to raise more capital by issuing more stock, but if the company is profitable, they'll still be profitable at a low share price.
An undervalued share price is also a great opportunity for the company (or anyone really) to buy back some of their stock. In that sense, by manipulating the price too low, the short sellers are basically giving the company an opportunity for easy money.
Also, why wouldn't you have to pay tax on gains from a short if the company goes bankrupt?
> messes with the valuation by inflating the supply
If a casino allows you to make play as long as you want, i.e. unlimited bets, does that de-value the bet?
If the shorted stock doesn't go down, people need to pony up the difference to buy it back; it is that capital risk that represents the "skin in the game", and why shorts aren't really unlimited, any less than an insurance company is limited in how much insurance it sells, by the capitol it holds to pay out on claims.
When person A lends their share to person B, they no longer own a share, they own the right to receive a share from person B sometime in the future, interest payments on the lending, and collateral to ensure the borrower can make good on their obligations.
This website seems to mainly be talking about naked short selling, which is selling a stock without first owning or borrowing it. This not necessarily illegal, although can be under some conditions, including aggressive short selling. Wikipedia has a fair amount of info on the practice, https://en.wikipedia.org/wiki/Naked_short_selling
The practice of a selling a share that one does not own is supposed to be used by market neutral market makers to ensure their is always liquidity. They must then at some point in the future buy a share from the market to replace the phantom (i.e., counterfeit) share that they sold.
This practice is useful when there are suddenly more buyers than sellers and the market maker exhausts their standard supply of shares. Otherwise there may not be any bids on the stock at any price for sometime. Other argue that this is no longer necessary with many participants beyond market makers that also employ algo trading and can quickly adjust to increasing demand. Further, if lack of supply becomes a regular occurrence, investors may start regularly setting high, possibly even ridiculously high, standing sell limit orders such that there will always be bids at some price points.
Isn't selling something you don't own a fraud or the stock market has an exemption?
The instance when A essentially sells the share to B accepting the right to receive the share back as a payment also wouldn't fly in any other environment, as this could just open the door to money laundering. So why is this accepted in the stock market? Or simply the law enforcement doesn't know how to tackle it?
> Isn't selling something you don't own a fraud or the stock market has an exemption?
I call up Dominos and order a pepperoni pizza. They take my order and process my credit card. They’ve just sold me a pizza that doesn’t exist. Is this fraud?
How about if I sell a million pizzas to be delivered next month then put out articles about how Dominos has poison in their pizzas! People will forget or won't want the order and I will pocket the money. These short sellers are a scam.
If your intel if wrong people will see it and you're done. Short reports can be true or false, so can bullish reports. Its hoped that the truth wins out in any case. I don't see the scam here.
That's a completely unrelated hypothetical (and also, would be illegal fraud).
There's nothing special about shorting in your imaginary scenario either. You could change your scam to "I own Dominos stock and don't order any pizzas, but I put out articles claiming I ordered a million. People will buy up the stock expecting the profits from the million-pizza-order and I will pocket the money. These long holders are a scam"
If I sell you an August-settled coffee future, that's a promise to deliver you coffee in August. Is it fraudulent if I don't have the coffee right now? After all, I've sold you something I don't own.
Of course it isn't. What matters is that the contract is fulfilled, and for equity sales in the US, the contract states that a share will be delivered to the buyer 2 days after the transaction.
You're going to have to fill in some of the blanks explaining how paying someone to deliver a share 2 days from now is fraud but paying someone to deliver coffee 6 months from now isn't.
How about if you sell a share that you bought within the last two days. I mean, your buy trade hasn't settled yet so you technically don't own it yet. Is that fraud?
From the other end, someone is accepting payment in advance i.e. selling a product that doesn't exist.
If you intend to purchase that product (or constituents of it) from third parties, then that becomes selling a product that you don't own (the third parties you intend to buy it from currently own it).
Now you can say it doesn't yet exist, or isn't yet bought, in order to fulfill the order - but the argument for selling stocks you don't own, is that you don't yet own them. I see no reason to say a genuine intent exist when fulfilling a purchase order, but not when returning a stock; kick-starter provides enough evidence against that..
Capitalism only optimises with freely available information. As long as I know you don't have a share, and the market as a whole knows you don't have a share, then yes, it's not fraud. The fraud is you decide (with your cabal) to appear to have shares, you don't announce to the market "I'm selling 5% of STONKS but I don't own any STONKS [yet]". When I buy from you there's no shares that I bought.
It's not fraudulent if you don't have the coffee, as long as you make public that you don't, "I do not own any coffee, but will sell you a delivery of coffee for August".
Now, if you're selling share in ownership of a company, IMO it's right to disallow - by law - representations of ownership of companies that are not backed by numbered shares. It's not coffee, you can only own shares in the company itself, you can't get those shares from other origins it's not a commodity.
You make a post-harvest offer to sell me coffee from a particular plantation, then you arrange for the media to report that plantation's coffee is really inferior, maybe not even drinkable - something you had arranged in advance, of course. Tell me, why is this good for society? Now, you advertise, with your friends, lots of coffee available at low prices (after all the media said it's inferior coffee), only thing is you're offering more coffee for sale at low prices than there is coffee from that plantation ... that's driving the price down, there being lots of coffee noone wants ... only it's a lie, a trick, a fraud, just so you can manipulate the price. And now, oh look that plantation has gone out of business and you managed to buy them coffee I ordered for essentially nothing. Wow, you added so much value to the World by destroying the livelihood of that coffee plantation's workers.
You do own the stock, and when you sell it you no longer own it - the person you sold it to does. You are obliged/contracted to "return the/a stock" but there is no requirement that it be the same stock, as the agreement is wrt stock as a commodity.
Furthermore, that agreement doesn't in any way apply/affect to the stock you sold (or the person you sold it to), the obligations to return is yours alone.
People sell things they don’t own all the time line their house or car. When you borrow a share and sell it, you’re really renting it to find one much like someone rented it to you. It’s like subletting an apartment you’re renting from a landlord.
In the end there’s a chain and if the person who lent you the share wants it back then the person you loaned it to will need to produce it for you, etc.
This is why we have margin accounts (and limits to how much margin we get/can support).
I don't think this is the same. If you sell a house that is mortgaged you essentially pay off the mortage and therefore gain ownership and then transfer that ownership onto the buyer. The example with subletting is also wrong - the fitting analogy would be if you rented a flat and then sold it to someone.
Just tell your broker to not loan your shares. If they weren’t bought on margin then they won’t loan them out. Standard broker agreements for margin accounts state that your shares can and will be lent. Sometimes you’ll even share in the profit from loaning them as in-demand assets for shorting often have a borrowing fee.
The analogies hold though - people sell things they don’t own all the time. The important thing to understand is it is based on promises to deliver an asset/money by a certain date.
Likewise people buy assets on margin all the time. This means people can buy things they don’t have money for based on a promise they will pay that money back. Credit cards, mortgages, auto loans, bonds, etc.
This is how our finance system works and for whatever problems it has, the future promise concept isn’t one. Especially with the regulations and limits on it.
So as long as there is an agreement and plausible explanation then any crime is legal? This is fishy as hell. It seems like we are going round in circles and only argument is that "hey people die all the time, so murder ain't a bad thing if the victim consented".
Agreed. People should be able to take the pessimistic side of a trade.
The one problem I could see with short selling is not the technical act of selling short, but the (dis)information campaign around a company that appears to follow. But, this happens both ways good and bad so it's probably a wash.
> Most of Wall Street hates short sellers, because they drive down the prices of companies and confidence in markets
There's also an emotional dislike of the person who wins when you lose. Short sellers are like the person playing 'don't pass' in craps.
> this happens both ways good and bad so it's probably a wash.
Absolutely. A real problem in things that aren't publicly traded on open markets is hype asymmetry. Somebody who wants the share price to go up can put enormous amounts of time and money into creating the appearance that the stock is worth more than it is. But there's no corresponding incentive to puncture the hype.
I suspect every one of us can name a privately held startup with a valuation we think is absurdly high. But there's no practical way to bet against them until they're publicly traded and we can short them or buy options (which may get hedged by buying or (short) selling stock).
> But, this happens both ways good and bad so it's probably a wash.
Only if you ignore reality. Huge hedge funds are called market movers for a reason. These hedge funds decide to short your company's stock and they have a direct impact on your stock value regardless of whether the hedge fund has any basis for actually shorting. Their "reason" can be 100% bullshit. Doesn't matter. They put a large short position on your company and it has an immediate direct impact.
Not only that, like you said about disinformation, it also allows them to get other parts of the market to also jump on board.
The way shorting works with hedge funds is that it is a self fulfilling prophecy a huge majority of the time
And people talk about how capitalism has driven companies to only care about the next quarter. Everyone realizes this is overall a bad thing. Short sellers are one of the reasons you have to do that.
I don't believe shorts have any intrinsic value they are actually bringing to the market. People choosing not to buy stock at existing prices does the same thing people claim shorting does. You don't need to borrow stock and sell it back making a profit to have a functioning trading system.
There's a fallacy in your claims. Shorting affects the owners of the stock. But publicly traded companies don't normally own a large amount of their own stock. Their stock price doesn't have that direct an effect on their balance sheets. It affects their credit worthiness, but not in a mechanistic way. (Believe me, Gamestop isn't finding it easier to borrow just because its price has gone bonkers.)
That's also a key reason why market cap is relatively meaningless outside of the actual stock market. E.g. TSLA has a giant market cap for an automaker, but that has no real operational impact and has essentially no relation to their behavior and performance in their market.
This is the problem - someone is selling something they don't own. It's like you borrowed a car from a rental company and then you sold it to someone. Pretty sure that's a crime. If this is allowed on the stock market, then I think this is laziness of law enforcement that they don't know what to do with it. What if the owner wants the item back and the person you sold it to won't sell it? It seems like this may be the problem with Gamestop. If people hold on to their shares, whoever "shorted" them is in a big trouble and rightfully so.
You can think of shorting as betting that the stock will go down. For example, Alice can write on a piece of paper: "Anytime anyone wants to sell this paper back to me, I'll pay a sum equal to the price of GME at that moment". Now if Alice sells the paper to Bob, Alice is short and Bob is long, even though none of them touched any stock.
Of course if many Alices do that, that will push down the price of GME, because it's market-relevant information that many people think GME will go down.
The real problem is counterparty risk. What happens if Alice runs out of money and can't pay up, or there's a run on all Alices at once? So a system of guarantors is needed. But this is far from the simple argument that "selling a borrowed car is stealing".
What this example has anything to do with selling something you don't own? It's like a thief would explain why he "borrowed" a car and then sold it and will promise it will get it back to the owner.
Apparently stockmarket has an exemption for this behaviour, maybe they pay big sums to law enforcement to turn the blind eye.
The rules of the stock market say reselling borrowed securities is ok though, and both borrowers and lenders agree to these rules when entering into deals. I'm not sure why anyone needs to turn a blind eye.
But the rules of stock market is not law. If this was legal then you could do any sort of money laundering, so why authorities turn the blind eye to this?
>Person A has 1 share of company Y. Person B borrows 1 share of company Y from person A, and then sells it into the market. This is called a short sale. But person B just sold their borrowed share. Now that share is owned by person C.
At a later date, Person B returns a share to them. And B pays them for the privilege of borrowing the share in the first place.
Person B thinks that it will cost less to buy that share in the future than the money they make from selling the share today, which is why they asked A to lend them the share in the first place. They plan to buy a cheaper share and give that back to A.
A doesn’t care if they get back their original share, they just want to get a share back.
They get interest from Person B, and when the short contract is up, they can force Person B (or more accurately their broker who passes the price on) to buy a replacement stock, regardless of the price. Alternatively, they can attempt to open another short contract, paying more interest to have continue to borrow the stock. Sooner or later, however, person B is legally and contractually required to to return an identical share to person A.
If it is possible to 'create' and sell an infinite amount of shares, wouldn't this automatically and artificially dilute the stock price, making these short attacks self-fulfilling prophecies?
This makes me think, that the theory that retail traders own more than 100% of GME might actually be true and that this is the reason why the situation is still not resolved.
> Shorting behaves the same way that fractional reserve banking does,
It works the way lending in general works. “Fractional reserve banking” is a very specific, restricted mechanism of lending, and I'm not sure what the equivalent of “depository institutions” with centrally-mandated common “reserve requirements” based on their “deposit liabilities” are in shorting.
>> Person B borrows 1 share of company Y from person A
At least there the shares move from one hand to another.
Pure option/derivative contracts allow parties make bets on a stock without ever touching actual shares. That's the original dark market I fear is pushing these prices.
You're mistaking naked short selling with shorting same share twice. One is illegal, but there is a lot of loopholes in the legislation that regulates it. The other is rare but technically doable, and perfectly legal.
402 comments
[ 10.8 ms ] story [ 293 ms ] threadhttps://seekingalpha.com/instablog/11442671-gerald-klein/309...
Although it's not clear to me if Gerald Klein is the author, or is reposting a document someone else wrote.
It never occurred to me the majority of the “lending” did not actually happen.
This is similar to how the bank may lend out your current balance and not actually hold ALL of the money that its customers has in their accounts.
Also:
> In compiling the information contained in this website, the author relied on sources — both public and private — and, for the most part, accepted the information from the source as reliable.
This only works when the piece is written or published by someone willing to stake their reputation on its veracity.
[1]: https://www.investopedia.com/terms/n/nakedshorting.asp
Doesn't sound like it was properly made illegal. Should probably fix those rules.
The “loopholes” are intentional carve outs for market makers [1]. Something you want unless you like market makers disconnecting every time the market hiccups.
[1] https://www.law.cornell.edu/cfr/text/17/242.203
We have fast settlement for Treasuries. They’re T + 1 and heading towards real-time settlement.
For equities, however, there really aren’t many downsides to T + 2. At the same time, there are many advantages. On the balance, most people who have an idea about clearing are fine with T + 2, though it’s heading towards # T + 1.
As for market makers, we have similar evidence for market made markets being more stable in crisis than order book markets. Cryptos don’t need this. They have never marketed themselves as being stable, and don’t do anything that requires price stability.
Surely anything traded on a central limit order book requires outstanding limit orders to provide liquidity and therefore all order book markets are "market made"?
Or are you working with some specific technical definitions here?
No. Some markets, e.g. the NYSE, have specialists [1]. They support the market even when there is nobody else on one side of the order book. When companies list on the NYSE, they are explicitly asking for a group of market makers to be able to naked short their shares as a stabiliser. Many longer-term investors, similarly, explicitly express preference for these protections.
Other markets, like dark pools, are completely counterparty to counterparty. Still others operate around dealers (who are similar to but distinct from specialists).
There is a lot of variation in and competition around market structure.
[1] https://www.investopedia.com/ask/answers/128.asp
But I see that you're making a comparison about bitcoin markets where that kind of structure is mostly not there.
That reminds me. For anyone interested, there's an interview with a HFT market-making guy here who set up the LXDX exchange for crypto derivatives and who talks a bit about the differences in market microstructure: https://www.youtube.com/watch?v=xkhLZXLb8mU
> Failing to deliver shares is legal under certain circumstances, and naked short selling is not per se illegal.
There are arguments for why phantom (i.e., counterfeit) shares benefit the market. E.g., providing liquidity. Others contend that this practice is used in the aggressive short selling of companies, which is illegal, and there is insufficient transparency and accountability of this practice.
There's a great story of supposed illegal naked short selling in the Global Links fiasco. [1] In this case, one investor was able to purchase 100% of outstanding shares while trading continued unaffected. This post's website also cover's that story and I don't recall how this mess was ever resolved. Briefly searching through sec.gov that didn't turn up anything relevant.
[0] https://en.wikipedia.org/wiki/Naked_short_selling [1] https://www.forbes.com/2006/08/25/naked-shorts-global-links-...
He barely gave a single example 'TASER' and frankly didn't really specifically indicate how that worked.
With 100 companies at any time under the squeeze it should be relatively easy for him to give a lot of examples and to specifically list the trades themselves, but also point at the 'media barrage' and highlight the asymmetrical effect those 'shadow shares' have.
It's a neat idea and maybe there's some truthiness to it, but there's no evidence.
The site claims that a single article which was corrected 3 days later did damage to the stock price, but I'm not seeing it in the price history.
I find it much easier to consume information via headphones while I do the dishes then to sit down and read it through.
It is also a good opportunities to give the eyes some reast from monitor work.
Any tips if one wants to learn this via listening?
These are not really counterfeit shares, because they do not pay dividends or have any voting ability, the companies do not recognize them. More like "synthetic assets" that have the price pegged to the asset they mimic.
It's more like if I started lending you some rocks, and told you that each rock is always 1 Tesla share. You can always come to me and cash in that rock for whatever a Tesla share is. I'm not lending you counterfeit Tesla shares, but rocks. There's no counterfeiting going on.
If I place a bet on the direction of the price pegged to a given type of rock, then borrow millions of those rocks from you, then trade those rocks back and forth with my buddies to create the illusion of demand momentum (linked to an artificial price pattern going down or up)...I can swing the price pegged to that rock. So the rock could still be cashed in for whatever price it's pegged to, but that doesn't mean I didn't mess with that price. (would take massive amounts of capital obviously)
I'm also not sure if there's any way to tell if it's only being lent out once. Since futures contracts are even more abstract than stock ownership (i.e. have the option to possibly purchase blocks of shares in the future or just scrap the contract altogether), there's probably ways to create value by taking on risk in the form of overextending the appearance that you have access to a security at a certain price.
This video explains everything going on: https://www.youtube.com/watch?v=gMShFx5rThI
edit: I just realized this is exactly what USDT is, but I still feel like it will all come burning down at some point. Maybe it will take 30 years though.
This describes like half of finance. Treasuries, bank deposits and credit cards all represent to varying degrees “synthetic dollars.”
I highly recommend this Coursera course to shed light on this: https://www.coursera.org/learn/money-banking
https://www.coursera.org/learn/money-banking
There are also real world examples of currency pegs, for example the Hong Kong Dollar, which is pegged to the USD since the 70's.
Look at the Soviet Union for an example of what happens when no companies ever go bankrupt.
Short activists expose shitty companies and as such, they play an important role in the economy.
Maybe Wirecard's fraud scheme would still be going on if it wasn't for short sellers.
Maybe shorting, in particular naked shorting, is not ideal. But there needs to be a way to reward people for taking shitty companies down.
https://www.economist.com/finance-and-economics/2020/09/24/w...
True
>Look at the Soviet Union for an example of what happens when no companies ever go bankrupt.
The Soviet Union was not a free market economy.
>Short activists expose shitty companies and as such, they play an important role in the economy.
In free market economies, shitty companies fail by themselves because their competitors offer better good or services. Short activists don't help make better competitors.
Companies in the Soviet Union needed more competition than short selling.
>Maybe Wirecard's fraud scheme would still be going on if it wasn't for short sellers.
Who knows? Tesla wouldn't exist if short sellers had their way either.
If you want the market to encourage people to investigate fraud and bad news, then they need to be able to profit off of announcing it.
When people don't figure out fraud, the company still suffers eventually but it does so much harder and hurts more people. For example, if Enron's cheating had been exposed a lot earlier it could have been stopped.
Shorting has real and important benefits. And real downsides too, when shorters try to tank companies that had perfectly acceptable fundamentals. But it's definitely a tradeoff, not shorters being parasites.
and some companies do, that is the point.
Why do you feel you need to help it to go down?
Why let people make money on someone's fail?
Why let people have incentives to ruin other people lives?
We should build safety cushions for people, not companies.
> Why do you feel you need to help it to go down?
https://en.wikipedia.org/wiki/Wirecard_scandal
Do you think it is a good idea to help Intel go bankrupt because it's shitty right now in comparison to AMD?
Of course not. But if either one of them has secret bad information, it's good for everyone to have it revealed to the public so the stock price can be more accurate.
Fraud may be rare but companies have negative info all the time.
I would say that short sellers are even more important around primary transactions because then share price matters more. Good prices prevent new investors being left holding the bag and inefficient allocation of capital which could have gone to a different business with better investment opportunities.
This is the crux. "Shitty" as in obsolete business model: Yes. Shitty as in fraudulent company behaviour: No.
In fact, fraudulent behaviour creates a competitive advantage. And there is only an incentive for the regulator to intervene in the most extreme cases.
Wirecard employed thousands of employees, paid taxes, contributed to social security, and created wealth for investors. Tesla has accelerated the spread of EVs and similarly created enormous wealth for investors. These are real, significant positive effects.
Are you thinking of Melvin Capital, GameStop, or both?
That's what disclosed shorting is for. Why is naked shorting needed?
What about shitty hedge funds overusing illegal[1] financial mechanisms to their advantage?
[1]: https://www.investopedia.com/terms/n/nakedshorting.asp
And there's already a less risky mechanism for that: put options.
Even during the heights of the last few financial crises, clearinghouses did not fail.
(Option writers and people trading futures are in a very similar situation to short sellers. They also have clearing houses.)
They're mine.
If there are naked shorts floating around (or shorts covered by my stock without permission), someone else is making money off of risk I am taking on, but didn't agree to. There can be a cascading set of failures which lands with me not having my shares.
It's the difference between taking out a $300,000 mortgage on a $500,000 house, versus borrowing $300,000 with no collateral. You'll get a different interest rate, if you can get a loan at all. And this resembles someone taking a $300,000 mortgage, only missing the house.
Yes, there's always a risk, but that risk profile is very, very different (esp. in the case of catastrophic events, like a stock market collapse or similar, when many institutions might be going down at the same time).
If you don't want that, don't. It's in your control.
First scenario, B sells the share they have to X.
Second scenario, B sells the share they don't currently have to X.
And there's a third scenario where B has not even ordered a share, but still sells a share they don't have to X.
All the shareholders will get dividends, for example. The same as if there were no shorts. The only thing that those who lend their shares will lose is the voting rights - and those who don't lend their shares will vote normally.
This creates the illusion that there's a LOT of people who believe the stock will go down in price, which can affect market sentiment and actually cause real movement when in reality that wouldn't be possible if every short was in fact backed by a real share (which they're trying to do via rules making Naked Shorts illegal).
It's kind of weird to distinguish "naked" shorting from this when they're functionally the same.
Initial conditions: Alice has a share of XYZ
Proper shorting: Alice lends her share to Bob, Bob sells the share to Carol
=> Alice has a share (lent to Bob, who will have to pay her the eventual dividends), Bob owes a share to Alice, Carol has a share (which has full rights including voting and dividend)
Naked shorting: Bob sells an imaginary share to Carol
=> Alice sill has her share (with full rights)
What does Carol have?
Would you rather be the Carol who bought the XYZ stock that Alice lent to Bob or the other one?
Proper-shorting-scenario Carol owns a perfectly good XYZ share.
What does naked-shorting-scenario Carol have?
In the naked short scenario you don't immediately have the share, though I'm unsure how important this is for someone shorting the stock.
In saying that, brokers can still fail to deliver the share with non-naked shorting in which case it is effectively a naked short.
In the case of $GME, there were a lot of shares that failed to deliver in December as shown in this /r/wallstreetbets post: https://www.reddit.com/r/wallstreetbets/comments/l97ykd/the_...
Short-selling is forbidden to reduce the risk that when you want to buy a share and buy the share you find a few days later that in fact you didn't quite buy a share because whoever sold the share to you didn't have one to sell.
But it's fine, I concede the point.
As far as I care, you can find weird to distinguish "naked" shorting from "borrow-and-sell" shorting because if the short-seller who didn't borrow the stock before selling it does borrow the stock afterwards to be able to settle the trade the end result is the same.
The person who's most affected by naked shorting is the unsuspecting person who buys the borrowed share from the shorter because nobody actually has that share yet.
From the buyers perspective I can understand the importance of this, I just didn't see how the distinction made a difference to the short interest.
You have issued 10 million shares; but the market is trading with 15 million because of counterfeit stocks.
The bankers and the hedge funds have got to dilute you; actively hurting your fundraising ability, and of course; your stock price (which you may own as a founder).
It’s because I believe in ownership of what you make. If you founded a company, sold 10% on public markets for float, and magically 20% of your cap table now exists on the NYSE; something is horrifically wrong.
And yes, you would have suffered negative financial outcomes because of the counterfeiting.
If you can't it is because you are making mental gymnastics as soon as the word is some magical word Wall Street made up. Sure it is correct that you can but it shouldn't be and can't be fixed fast enough.
But thank you to everyone who gave me GME money with their mental gymnastics <3
Does this mean that I've found an infinite supply of free burgers and should go into competition with McDonald's? No. Because I'm going to have to buy the burgers from McDonald's to supply to my children. They own two new paper burgers, but I'm short two burgers. So the net total world supply of burgers is unchanged.
So you're saying it's okay to promise burgers as long as it's an amount that actually exists and McDonald's can fulfil it. So what you're saying is that you shouldn't sell things you can't possibly fulfil? Hence the argument against this kind of trading.
A regulated entity might have capital requirements which would limit the no of burgers promised to money held. Another might be a contract with mcdonalds for N burgers, or a warehouse full of burgers - shorted stocks require the lender to actually sell a stock, and the shorter to actually sell it (and buy it back later) but there will need to be security/"deposit" on the returning of the stock - there exist a risk that the lender will not get their stock back, which is part of the reason for the premium.
Since you/I are not regulated financial institutions, not may would trust us to deliver 1 trillion burgers on paper; so the flaw exists in "What if they take their future 1 trillion burgers and sell half" - sell to whom? They'd have to find someone willing to buy. "What if you walk into McDonalds to claim the 1 trillion burgers" - the "paper burger" is an agreement between you and some third-party, not mcdonalds. You couldn't pre-order items from one shop, and go to another store with you invoice and demand they fulfil it - your contract is not some general/official currency, there is no obligation to accept it.
> So you're saying it's okay to promise burgers as long as it's an amount that actually exists and McDonald's can fulfil it.
It's a promise that you will supply N burgers, so the criteria for ok-ness is that you can supply N burgers, that McDs can provide that many is necessary-but-not-sufficient alongside:
- you can pay for N burgers - you can transport N burgers (on time)
but when I say "ok", I mean from a "morality of making personal promises" perspective, not "financial promises/obligations made by a regulated financial institution" perspective. Individuals are not financial institutions, and financial institutions are regulated as such.
Person D borrows Person C’s burger and sells it to Person E.
Still seems to work? Then, tomorrow Person B and Person D owe burgers to Person A and Person C.
If there is only one burger in existence, this will create demand pulling prices up I’d think.
What can happen in real life is Person A and Person C are given a digital receipt confirming delivery of the burgers they were owed and that is the end of the transaction. To shield themselves from revealing potential fraud, the brokerage will charge a $500 fee if either of them ask for proof of their burger.
Now, while there may only be one burger in existence, it appears as though there are two, keeping demand artificially flat.
So how could you do this? Well you could create a burger delivery service that sells other peoples burgers. But you sell them for a bit more than what you pay for them and you can begin you’re offering “all the burgers” and connecting the sellers with the buyers. Now you’re creating burgers out of thin air to people buying them from you and you’re delivering the burger they ordered even though you don’t even own a grill. Congrats, you just created a burger exchange that sells promises of future burgers on margin out of thin air.
If you’re even smarter you’d use other people’s money (which is key) to capitalize this venture instead of your own and keep an outsized share of the profits. This is what investment banks and hedge funds do. Other people’s money is key to winning and not really losing.
You never look at the value of a dollar as the % of total dollars in circulation. The value of a dollar is rather defined by how many goods/services/other currencies you can get in exchange for it.
With stock it matters a lot more how many % of a company is represented by a single share.
Similar, each short seller not only adds a _virtual_ share to the market, but also has an obligation to later on buy a share back.
Again, to be super clear: for everyone but market makers, the law is you have to locate the borrowed share before selling short. Market makers can naked short to provide liquidity in a buying frenzy. Given they're shorting into a buying frenzy, they tend to be quite motivated to immediately cover themselves.
We have lots of people shorting GameStop. We have zero evidence anyone is improperly naked shorting.
I think naked shorting would be a perfectly valid thing to allow every investor to do, you clearing house would just want to ask for pretty high margin requirements.
Very similar to how there are covered call options, but also naked call options. And the economy hasn't collapsed either.
Horrifically wrong! Heavens to Betsy!
What went horrifically wrong is the company went public with a clueless CFO. For all corporate actions—reporting, dividends and buybacks—that additional float is meaningless. It’s only relevant for short-term holders and short-term metrics.
My understanding is that naked shorting can be used to artificially lower the stock price by increasing the supply with the ultimate goal of driving the company into bankruptcy.
So on one side you have illegal(?) market manipulation benefiting sophisticated traders and on the other you have companies that are presumably creating jobs and generating something of value being destroyed as a result of financial engineering.
You can decide if that's upsetting or not.
Why?
A owns a share, loans it to short seller B. B sells the loaned share back to A. Then A loans the share again to B, B sells it back to A. Now repeat the process a million times.
You can get arbitrarily high amounts of shorting without any naked shorts. (And usually, A and B don't know each other. It's all done via exchanges and clearing houses etc.)
In the “A loans to B who sells to C” scenario, C is the one who gets to vote.
That's why I said "Interestingly, in both cases the short interest can be greater than 100%"
But in the situation you're describing the total number of shares on the market is still equal to float.
If we altered your example to have naked shorting it would be: B sells a share it hasn't borrowed to C, A sells a share it hasn't borrowed to D. The total number of shares that can now be traded is equal to the float + 2. Hence the claims of 'counterfeit shares' which is not a great description.
Naked shorting can only be done by market makers. The argument is that it helps to create liquidity and that these actors will have the ability to later borrow the shares without issue. The problem is that, as I understand it, there are not strict rules dictating when they must actually borrow the shares to back the shares that they sold short.
There are some indications that this has happened with GME. For example Michael Burry said in a now deleted tweet[0]:
"May 2020, relatively sane times for $GME, I called in my lent-out GME shares. It took my brokers WEEKS to find my shares. I cannot even imagine the sh*tstorm in settlement now. They may have to extend delivery timelines. #pigsgetslaughtered #nakedshorts"
[0] https://web.archive.org/web/20210130030954/https://twitter.c...
Why? Imagine there exists one share of GME, owned by Alice. Bob borrows it from Alice and sells it to Charlie. Now both Alice and Charlie own one share, and no naked short sale ever happened, as far as I understand that term.
In the only-one-share-exists situation, there's no real way out of that. In a situation where more than one share exists, Bob could, say, obtain a call option so that he at least has a plausible way to acquire a share in the future to make Alice whole.
In your example Alice doesn't own the share at this point, she owns an agreement that says she will be returned a share in the future and is paid interest on it in the meantime.
Same if you buy an apple, I'm sure you'd only do it in the belief that you will actually get something edible. If I got nothing, I'd want my money back! But then when you buy an apple, you can see and touch it before you commit. Not so with stocks. And so you buy it while trusting the broker that your order will actually be met.
If instead my money is “borrowed” without my concent for some nefarious activity—in order to create more “liquidity”—that has a name: It's fraud. It's fraud of the customer whose money is being stolen. It's fraud of the customer who's being fooled into thinking that he's buying a real stock. That these shares do not exist, isn't some slip-up. It's an intentional effort, done with the motive of earning money by exploiting the trust of their customers. Such action should thus clearly be illegal.
Same if you bought a stock, and your broker suddenly decides to steal it without your knowledge, and loan it out in order to sell it in the hopes of earning money if its value drops (i.e. short the stock). Clearly you'd want to know if your property is being loanded out, because it means that you're incurring risk, no matter if you're compensated for it through interest or not.
The other thing to consider here: if some entity needs to provide the put option, how does one hedge (risk manage) a put option ? They need to consider what would happen if the price drops, and as the price drops their hedge needs to increase in price. There's undoubtedly more to this, but that relationship sounds awfully like a short.
Any experts want to wade in here?
A short sale is something very particular: it's selling something you're borrowing. The counterparty has actually bought a stock. Not an option, he can hold that stock for sixty years. This is fucking weird.
(If you write a put and a call for the same strike, you are basically in the same position as a short seller. If you buy a put and a call for the same strike, you are economically in the same position as an owner of the stock.)
Hence, you can't separate options from stocks.
To replicate the stock, you'd buy the call and sell the put. The risk exactly balances out in the sense that a total portfolio of 1 stock short, 1 call long and 1 put short would have zero risk and behave like a risk-free bond.
(If the risk premia of the long call and the short put would not exactly balance, you could make money with very simple arbitrage trades.)
When we talk about naked shorts, they would still have to be covered before delivery (usually two days after the trade).
And when buying a normal stock, not from a short seller, you also can only vote once you take delivery. So everything is the same.
Selling cash secured puts is risk equivalent to covered calls, but doesn't require stock. If anything it's a neutral/bullish strategy since max profit is above the strike.
It's one thing to argue for making sure shorts are well-regulated, but this something entirely different that has the risk of fundamentally breaking our society.
Eg it's common in some tech companies to give the founders super-voting stock that reverts to normal stock on sale.
When you buy a share from the open market, they are not going to guarantee a particular share with a particular serial number you specify, they will only provide a number of that particular class of share of the company.
Most companies decide to make their shares fungible, because they want them to be readily tradable.
But there's no one forcing anyone here. Companies and investors could agree to shares with particular serial numbers.
It's just so much more convenient to have fungible shares, that this is where all the capital goes.
I think he is arguing against the idea of applying fractional reserves to brokers.
> Same if you bought a stock, and your broker suddenly decides to steal it without your knowledge, and loan it out in order to sell it in the hopes of earning money if its value drops (i.e. short the stock). Clearly you'd want to know if your property is being loanded out, because it means that you're incurring risk, no matter if you're compensated for it through interest or not.
I can't find any other interpretation for this logic and terminology other than a rally against fungibility.
No, fungibility is whether an asset (ie. individual assets within a particular class of asset) is interchangeable with one another.
It means when you deposit banknotes into your bank, whether the bank has to give you the same banknotes with the same serial number, or whether they can give you equivalent instruments to satisfy their obligation to you. What they owe you aren't the banknotes, but instead the money.
Also note when you deposit money into a bank, it's not treated the same way as if you put banknotes in a safe deposit box. The way you made your argument on stock brokers is as if it is, and fundamentally misrepresents this relationship. They don't owe you 'your' shares, they owe you a number of shares. Your shares become their asset, in exchange for their liability to you. You don't get to control what they do with their assets.
That's also the reason you don't get to control what the bank does with 'your' money you hold with them, because legally, it's their money with an obligation to pay you when requested. Hence the central bank steps in to regulate and guarantee fractional reserve banking in order to prevent bank runs.
Of course. This is synonymous with my own explanation. However your take is that it means that after you've made it interchangeable, then the bank or exchange somehow automatically gets more rights over it. That just isn't the case. Unless there's an express prior agreement, it's also morally wrong.
You have agreed to it at some point. If your broker doesn't give you a choice you may go to another broker.
This is an explanation of how it does actually work.
The brokers I have experience with either propose you to participate in a share-lending program with profit sharing (opt-in) or propose two different kinds of accounts and you can disallow lending but then the conditions are slightly worse (some fees are waived if you let them loan your shares).
The shares are not "stolen without your knowledge". If you're using margin it may be part of the conditions attached to that. Would you say that a broker liquidating part of your positions to satisfy margin requirements is also the broker deciding to steal your shares without your knowledge?
However, this argument does not apply to regulations that lower barriers to entry, because low barriers to market entry are exactly what enables competition.
(Most regulations, alas, raise barriers to entry. Even if that's not their intended purpose.)
https://en.wikipedia.org/wiki/Cede_and_Company
All you own are assignments of that stock
What DTC trades are assignments of stock held by Cede corp, what you own are assignments of assignments held by brokers - it's how you take physical stock certificates and start trading them electronically (back in the 60s)
You give stock borrow consent when you sign up for a brokerage account. It’s also trivial to turn off, though there isn’t an informed reason for non-activist investors to do this. Some brokers share stock loan income with the account holder, though most keep it from retail accounts.
'a physical share' No. There's no such thing. Even a physical share certificate is not a physical share. It's a physical piece of paper which documents a nebulous thing - the set of rights you have, and terms between you, the company, its management and other shareholders.
'slippage and volatility'. No. You bought the share at the price you were filled on. No slippage. One share gets lent out, one share gets returned. You are not affected by volatility in any way, because the share your get back is exactly the same as the one you lent, and the price change would have affected you anyway.
'A substantial loss' When a share your broker lent out fails to deliver (which you would never know about), the broker doesn't write to you and say 'oops, your share didn't make it back, your loss'. First of all they didn't write your name on the same before they lent it. They have a bunch of shares which they lend out. Secondly, someone will have to produce either the share or the exact amount of money required to buy an identical share at some point. Thirdly, even if they didn't, the broker would make good any loss, whether inadvertent or due to some mysterious malfeasance. That's literally the reason your broker holds capital and is regulated.
A share is not like an apple. You buy a share with the clear intention of selling it to someone else one day. It's a speculative activity par excellence. People who buy apples in order to trade them are generally quite comfortable with the fact that 'their apples' are in reality just a binding contract on someone else to produce those apples when asked. In the same way, the bank does not have 'your money' in a pot somewhere. They just promise to produce it under certain conditions, and there are regulations making sure they keep this promise. I get that some people think this in itself is suspect, but if so, you are opposed to most aspects of modern finance, why pick on short sales?
If you buy a share, your order to buy one will most definitely be met. They can't lend out something that hasn't been bought. You might be confusing short selling with another bugbear, order internalisation and PFOF.
> If instead my money is “borrowed” without my concent for some nefarious activity
What activity? Who is borrowing your money?
> whose money is being stolen Your money was used to buy the share.
Want to sell the share? It's there. Want to vote the share? It's there provided that you actually paid for it with cash. Oh, you bought the share on margin? Well, the same as a car which you borrowed money to buy, the share does not fully belong to you in those circs. So depending on the rules, you might not be able to vote it.
> That these shares do not exist, isn't some slip-up. The share definitely exists. Allowing retail investors to bet on shares going up and down without any actual shares trading hands is illegal, since the 1930s.
'without your knowledge'. Everyone knows about this. That's literally why we're taking about it.
>loan it out in order to sell it in the hopes of earning money if its value drops The broker doesn't earn money if its value drops. They lend out a share, they get back an identical share.
>Clearly you'd want to know if your property is being loanded out, because it means that you're incurring risk
No more risk than the general risk that your broker (or bank) will fail, that the regulator got it wrong and they don't have enough money to pay everyone back, and that the govt won't step in if this happens.
And you do know.
And you are allowed to ask them not to do it. If you paid cash for the share.
Oh, you bought the share on margin? So the broker stole someone else's money from their pot at the bank where they thought it would be taken...
In some cases they’ll pay you to allow them to loan it out. You can reject this if you want.
When you put money in a bank, acquiring interest, you no longer control that money, the bank is free to invest it, though obligated to return it. This is part of your agreement with the bank.
When a broker buys stock on you behalf, there are often similar arrangements in the T&Cs. Your stocks therefor, cannot be borrowed, or sold, without your consent; but you need to read the terms to see what you are consenting to.
While the mechanics are more-or-less equivalent, the settlement assets in the two scenarios are not which can make a big difference depending on the circumstances of the trade. Neither is generally a problem in a high volume, liquid system though.
The DTCC provides extensive reporting to market participants, including issuers [1].
[1] https://www.dtcc.com/settlement-and-asset-services/issuer-se...
https://www.dtcc.com/settlement-and-asset-services/issuer-se...
Also, it's DTC, not DTCC. The inter-company loopholes still apply, not to mention all the international shenanigans.
Have you actually thought this through?
If Bob has one of the five bananas but sells Alice a contract for delivery of 500 bananas and then can't make good on his promise, then Bob has screwed only himself, because now people know that Bob's bananas are only worth 0.002 of other people's bananas. Even if Bob finds another rare banana he won't be able to sell it for anywhere near it's true value.
Critically, Bob has only devalued his own banana contracts.
In the meantime, Alice has only the one banana she bought from Bob, and she spent all her savings on that banana, thinking she'd get 500 of them.
But Alice is clever. She has a plan for making back her savings. Alice sells 10 bananas for future delivery to Cecil. Alice plants the one banana she bought from Bob. And sure enough, come delivery time, Alice picks the bananas from her tree and delivers them to Cecil. Cecil, in turn, sold 20 fruit salads for future delivery to other people -- that's how she afforded the banana contract from Alice.
Two observations I want you to make:
1. The one bad actor screwed himself out of the market in no time at all.
2. The 22 good actors managed to allocate capital effectively where it would do the most good for everyone, and allowed entrepreneurs of very little means to start profitable businesses.
Derivatives trading is very resource efficient and has made modern society possible. It has a few drawbacks but they are self-correcting.
There are problems, but they are not with derivatives trading.
Edit: And keep in mind that Bob's banana contracts are not worth anything compared to other people's bananas, but they are still not completely worthless. If Dave owes Erica 50 of Bob's banana contracts, Dave will find it easy to repay them: you can trade almost anything for a Bob banana contract.
You can't have 500 net buys (i.e. someone is 'long 500 bananas', or 500 people 'long' 1, etc.), but sales, fine!
But that is not the point. The point is you had 5 bananas to sell and 500 people who bought 1 banana each. Now all 500 monkeys wants its dinner so please deliver. If you can't it is fraud.
The mental gymnastics in the stock market are insane. More shares have been sold than exists. That has nothing to do with the amount of times they were sold.
If it's supposed to be a different banana, that's the 'net buys' scenario I described and is not fine, that would indicate naked (which is illegal other than by MMs) short banana selling.
That only becomes a problem if at settlement time there are not 500 bananas. Since you can plant them that's not much of an issue.
Shares are worth the present value of their future dividend cash flow. Shorting doesn't change no dividend payment at all ever.
A loans a share to B. Now A owns an iou, which doesn't have any voting rights. B agrees to pay A an amount of money equal to a dividend payment if a dividend is paid by the company.
B goes short by selling the share to C.
C owns a share of stock.
When the company pays dividends, C is paid and B pays A.
You shouldn't. When the economy collapses because of the aforementioned practices and you family loses their jobs, housing etc, you should not be upset either.
If anything, it's very good to have short sellers, because they are the only market participants who have an incentive to expose bubbles. And expose them early.
https://www.history.com/news/2008-financial-crisis-causes
"At any given point in time more than 100 emerging companies are under attack as described above.... The success rate for short attacks is over ninety percent—a success being defined as putting the company into bankruptcy or driving the stock price to pennies. It is estimated that 1000 small companies have been put out of business by the shorts. Admittedly, not every small company deserves to succeed, but they do deserve a level playing field...."
I IPO for 20 million, giving me 18 months of runway. My stock instantly gets shorted a ton, then what? How does that impact me? How does that put someone out of business? If someone thinks that a company is profitable, they can always invest AND that investment is cheaper because of the 'excess' selling of the shorts.
I don't follow how shorts kill companies.
New variant: https://prospect.org/power/wall-street-gambling-from-inside-...
It sure does to me though:
First of all, there's the whole self-fulfilling prophecy thing. On a technical level, everything borrowed is eventually given back, so the effects should cancel out in the end.
The problem starts when the borrowing and selling of stocks happens at a scale where it influences the stock price. At that point, you're a) actively hurting the company b) expecting to profit from it c) sometimes without even expecting the stock price to fall if it weren't for your intervention.
Like, I don't see how financially hurting others for personal gain is not a bad thing, but what makes it even worse is that these might be companies producing actual goods, driving humanity forward, and this is being hindered by economic parasites that are only throwing sticks in peoples way.
It's easy to understand why many believe this should definitely be illegal, and why people without much knowledge of stock markets would expect it to actually be illegal in the first place.
This is the equivalent to shouting "fire" in a crowded theatre... intending to loot whatever people leave behind.
No it wouldn’t. You would be delivered shares within two days as is required. Lots of institutions don’t hold their shares “in street name,” i.e. they hold them in their own. And some people still demand physical certification. (Not every issuer supports this, largely due to exchange rules.)
When a stock has 140% short interest, there are net 40% of the float of holders who have loaned out their shares. They wouldn’t have the right to certificate until they called back their shares. If literally everyone asked for delivery, you’d wind up with the naked shorts needing to pay up to some of those taking delivery to settle their positions. If everyone refuses to sell, those naked shorts would FTD, and the appropriate processes would take over.
Long story short, nothing intrinsic to the DTCC creates net over or under allotment. Companies go private all the time, which is a functional case of all of a company’s shares being taken out of the DTCC.
1- The stock market should not kill a healthy company. Sure, it can affect its money raising capabilities (and maybe hiring) but it should not drive it out of business.
2- Naked Short-sellers still have to pay interest and dividend on their sold shares. This would create a certain equilibrium. If you nake-shorted a company at x2 its value, you suddenly doubled its profit; and that's being paid by the short-sellers. Profit (dividend) gives a reason to investor to hold on that stock; which brings us to point
3- Naked short-selling is probably done on very short time frames that doesn't extend between quarterly dividend payments. The company is probably going under anyway.
It doesn't only cover the stock market, it covers the whole operation, which goes way beyond only the stock market.
Shorts can't drive companies in the ground if that's not where they're headed anyway. First of all most short sellers are not activists. The perception that shorts causing companies to tank is because activist short sellers are right a high percentage of the time so often their reports result in a quick price adjustment. Being an activist short seller is a very high risk activity so they tend only to pull the trigger when they have high conviction. For example I'm not sure Muddy Waters has ever been wrong in calling out an accounting fraud. I have a really hard time buying the line that short sellers bring down good companies (examples?) and the fact that people do think that seems to me more of an indication of the power of corporations and their management than anything else.
This article isn't about the stock market, it's about short sellers and the activity of those isn't contained to the stock market.
I kind of doubt it considering all the regulation scrutiny recently.
In the author's case because DTC is a blackhole system, these naked shorts can continue to exist. They also can continue to exist in self-contained as well as loop-holed systems.
[0] https://www.investopedia.com/terms/n/nakedshorting.asp
On the one hand you have returns available to anyone prepared to invest consistently in the stock market across the last 30 years that are both well documented and very substantial. People like Warren Buffet & boggleheads make data-backed arguments about how well you could have done if you put money in even just broad index-tracking funds.
And yet on the other hand there are two massively powerful groups with materially more leverage and informational "edge" within the system compared to all the people with a 401K. These are the executives who actually run the public corporations (and can choose their own compensation as a class via board/exec rotation & internal influence) and the financial firms that are embedded both in the firms' operation and also essentially setting/playing the rules of the meta-game as evidenced by articles like this.
It feels like the fact that there are any returns left for a retail investor in public stock market investing speaks more to the quantities of wealth creation taking place than the absence of this sort of outrageous market rule capture.
Two disclaimers: 1.) the slider for wealth "creation" on the public markets in the US seems fairly obviously to be being dragged from innovation to ZIRP... whole separate matter. 2.) at a whole-society level obviously the availability of public market returns is limited to a tiny sliver of the population with the means to invest, so when I say "bounty of capitalism" above I'm more referring just to the sum of financial profits as a result of the system.
This is why lots of retail on forums like wsb treat the market as gambling. There is almost no edge you can get when compared to big players. And even if you make correct assumptions you can get losses out of them either by them being already priced in or via short manipulation.
One example I remember last January's fake tesla brake issues the week a huge volume or calls expired.
https://theintercept.com/2016/09/22/the-money-is-gone/
http://counterfeitingstock.com/CS2.0/CS8PullingMargin.html
Sounds a lot like Thursday and Friday, no?
[0]: https://fintel.io/so/us/gme
To add to the confusion we're still within the 45-day filing window for the end of the last quarter, so some investors may not have filed yet either.
It's interesting in much the way the Timecube site is interesting...and is informative about financial markets in much the same way the Timecube site is as well.
http://www.crank.net/contents.html
Briefly, if you're familiar with a field, you can (generally) tell if an argument is at least trying to engage with the field, or if it exists in some disconnected parallel universe. This happens a lot more than you might think. It's a real issue in physics (see, eg, https://theness.com/neurologicablog/index.php/cranks-and-phy... or https://blogs.scientificamerican.com/cross-check/in-physics-...), but it pops up everywhere.
I believe I am familiar enough with this area to say this is the work of a crank. Some key problems:
1. There's a huge body of scholarship out there about markets, how they work, how to think about them, how they may fail, how you can measure how they're failing, etc. This doesn't engage with any of that. It's not "Prof X said Y is true, but my data suggests he was wrong, see table 2", it's just "everything you think you know about Y is wrong".
2. Also, the paper is making up its own terms. That's actually a pretty good rule: Any paper that tries to discuss a topic and starts with a bunch of idiosyncratic definitions of basic terms is a huge red flag, because anyone in the field knows what those words mean already. So again, you're clearly not writing for an audience of people who could critique your argument. But if you're not looking for a critique, why are you writing at all? How can you know you're right unless the top experts in the field have tried to tear you apart and failed? Which they won't do if you don't engage with them.
3. There's no data anywhere, just assertions which (again, as someone a bit familiar with the field) seem wildly implausible. Eg:
> At any given point in time more than 100 emerging companies are under attack as described above. [...] The success rate for short attacks is over ninety percent—a success being defined as putting the company into bankruptcy or driving the stock price to pennies. It is estimated that 1000 small companies have been put out of business by the shorts.
So more than 100 companies are being attacked every moment of the day. There's no real definition of what an attack might be, or how you might count this, nor is there any evidence given of where the author came up with this number, or how long an attack lasts, or a list of companies under attack at the time of writing. Then we're told that these attacks succeed 90%(!) of the time, bankrupting the company(!). Again, no information why we might think such attacks succeed at all, much less 90% of the time, nor any acknowledgement of the huge body of research suggesting shorting does no such thing. Then we say "it is estimated" (by whom? when?) that 1000 companies have been so bankrupted. ...if 100+ companies are being attacked, and this has been going on for many years, and the success rate is 90%, and the result is bankruptcy, how come only 1000 companies have been bankrupted? Also, again, how come we can't seem to name any of these companies?
Also, I elided a passage of the quote above, which is:
> This is not to be confused with the day–to—day shorting that occurs in virtually every stock, which is purportedly about thirty percent of the daily volume.
That probably sounds pretty wild too. But actually, last I heard, the actual number was more like 49%, because that's how stock markets work. You ask your broker to buy 100 shares of Apple, and he'll sell you 100 shares (short), then go buy the rest on the market. As a general rule, whenever you buy shares it shows up as a short order, and whenever you sell shares it shows up as a long order. Since any time someone buys someone else is ...
You are assuming that the only point of writing anything is to either create new knowledge (for experts) or to distill existing knowledge (among experts). This is simply not true.
I don't understand how the stock market actually works. I also don't need my Economics degree to understand that the way people over the past week have suggested it works doesn't make a lick of sense.
Who does this actually benefit?
>"At any given point in time more than 100 emerging companies are under attack as described above. [...] The success rate for short attacks is over ninety percent"
he/she can only find two examples (Global Link and TASER), which is a bit odd.
In any case, there is a connection to the current narrative of "short sellers are evil". But "the shorts" or "they" is one of these "us vs them" constructs that does not exist in any meaningful way.
Even worse, there is a common notion on r/WSB that "the shorts" are also "the suits" and there will be some rough awakening when folks find out that Wall St made more money on $GME than Main St, and that is on the long side, before any dip in share price!
By the way, this awakening might never happen and there is a scenario where we will never find out who traded what on $GME, because transparent transaction data is not publicly available. Thinking back about the 2010 flash crash [1] we still don't know with certainty what exactly happened.
Grant Williams did a podcast about the current events [2] and I can only recommend it (also check out his Endgame series).
There certainly are unethical sellers of stock (see e.g. Jim Cramer video where he talks about manipulation) but I have yet to see convincing evidence that unethical or fraudulent behaviour is more common on the short than long side.
There was a recent poll on Fintwit to name examples where "short attacks" hurt companies, and the paucity of meaningful examples further confirmed the above point (can't find reference due to crappy Twitter search).
[1] https://en.wikipedia.org/wiki/2010_flash_crash
[2] https://ttmygh.podbean.com/e/gwp_003/
Person A has 1 share of company Y. Person B borrows 1 share of company Y from person A, and then sells it into the market. This is called a short sale. But person B just sold their borrowed share. Now that share is owned by person C. Person C can now lend it back out to person D, or to person B again, and the process can repeat infinitely. The idea that short interest is constrained by shares outstanding is just a fundamental misunderstanding of how the short market works.
Shorting behaves the same way that fractional reserve banking does, and there is a 'money multiplier' like leverage effect in the process. There is nothing nefarious about this, and it certainly isn't 'countfeiting'. Short sellers provide an important service to capital markets, maybe the most important service: they help to identify mismanaged or fraudulent companies. The idea that attacking short sellers is attacking wall street is completely backwards. Most of Wall Street hates short sellers, because they drive down the prices of companies and confidence in markets (in the short run, in the long run, they increase it).
Yes. Except that the fractional reserve banking system has a lender of last resort.
Historically, systems without lender of last resort have done quite well. See eg the Canadian system of the 19th century, with no lender of last resort, and that often ended up as an emergency lender to the mis-regulated and crisis-prone American system to the south.
You can lend the whole share you bought.
But the bank cannot lend the whole dollar you deposited, they have to keep a fraction of it as reserve.
That automatically implies something more complicated than lending. At the very least, money was borrowed (on a promise) from a third party in order to provide the money they loaned.
You and I can do the same, I can promise you whatever I like. And if I manage to convince you, or a third party, that my promise is good, I can even borrow money from them. And loan out that money, despite not owing it; Unless there is something fraudulent in doing that wrt my agreements with the borrower - but the bank has the same, nationally regulated, restrictions too.
They can lend only $0.9 because they need to keep $0.1 as reserve (for example).
From there different things could happen:
a) if the borrower takes the $0.9 and takes it elsewhere the bank cannot lend a single additional cent until they get more deposits.
The fractional reserve means they could only lend a fraction of the dollar.
Maybe the money will be deposited in another bank who will then lend to someone else, but for the original bank who got $1 it stops there.
b) if that money remains in the bank as a new deposit, they have now $1.9 in deposits.
They can lend a fraction of the additional $0.90, and make an additional loan of $0.81 (keeping $0.19 in reserves in total).
If the second loan also ends in the bank as a deposit they will have $2.71 in deposits, they can make a new loan etc. but the multiplier is limited.
For shares there is no limit at all.
If Alice has a share she can lend it to Bob who sells it to Carol. Carol can lend it to Daniel who sells it to Elaine. Elaine can lend it to Felix who sells it to Gloria. Gloria can lend it to Hector who sells it to Ingrid. They can go on for as long as they want and all the ladies will be long one share.
The price of anything is a result of its some intrinsic value and the volume of supply. So a precious stone is valuable because of its beauty, but also because it's rare. If someone mines a billion such stones, it won't affect their individual beauty, but it will certainly reduce the price someone is willing to pay for one.
Now, you seem to be saying that short selling is a signal about intrinsic value, but the process you describe, whether you want to call it counterfeit shares or fractional reserve shareholding or whatever also messes with the valuation by inflating the supply. If there are more shares of a given company available, those individual shares will be worth less.
The result would seem to be that naked short selling at volume will create a self-fulfilling prophecy. You can drive the price down simply by inflating the supply, regardless of whether the company is well managed or not. Maybe you start with badly-managed companies, but there's always going to be a perverse incentive to target any company so long as you can manipulate the supply enough to force a price drop. If you care about the market as a measure of company health, that doesn't sound like a good idea.
To be super clear, naked short selling is banned for everyone but market makers [1]. A market maker goes naked short when there is a buying frenzy. Their economic incentive is to then cover the short given they are in a buying frenzy.
The NYSE explicitly markets its specialist system to issuers as a stabiliser mechanism. It’s a selling point to long-term investors and Boards. The only people who get upset about this are hedge funds and day traders who get ahead of their skis.
[1] By Wall Street tradition, every long losing money must allege naked shorting. That doesn’t substitute for evidence of it. Large amounts of short interest do not indicate naked shorting. (Lots of FTDs do, but this figure has to be scaled to leverage and volatility.)
After all, we allow something similar to naked short selling when people write options or trade futures. And those markets work just fine.
My comment was meant to say that I think it would be fine to allow everyone to do naked short selling like that. Of course, subject to margin requirements etc.
The actual share gets delivered 2 days later, and it doesn't matter whether who you bought from, short-seller or otherwise.
Your voting rights are exactly the same.
You are right that replicated shares with options and other derivatives usually does not come with voting rights. That's true.
The market price for voting rights on individual shares is usually miniscule. But non-zero.
I wonder what the value of short term naked short selling would even be? In that timeframe borrowing should not be very costly anyway? The GME shorts have been short way longer than 2 days.
First, to put everyone on the same footing as the market makers.
Second, just to make short selling easier in general. Short sellers are massively important to spots bubbles and other asset mispricings, but they never get any love.
When someone buys a stock very often the purpose is to "physically" have it as soon as possible.
Though funny enough, stocks are already a virtual thing and exist in computers only. Whereas oil or onions are physical goods, and there are real consumer who absolutely need real physical onions.
https://www.nasdaqtrader.com/Trader.aspx?id=MarketMakerProce...
What you are saying is like saying that lending money to your friend creates inflation by expanding the money supply, because you still have $10 (that he's holding for you), plus he also has $10. In fact, since he knows he owes you $10, he's going to have to cut back on his spending at some point in the future, to pay you back. (Your mileage may vary with actual friends.)
The key difference in your estimates of supply is that you include the future repayments of current lending, but ignore future lending. The general assumption in macroecomics is that we don't treat such lending as isolated one-off events, but as a sum of ongoing activity by many people, continuing forever at a stable level unless some event affects it.
Assuming that the principles governing lending don't change, the future repayments are balanced by payouts of new loans at that point of time, and the current payouts (if they are greater than current repayments of past debt, i.e. there's a net increase) are not balanced and thus increase the supply. If at some point the fundamentals change so that the lending decreases or stops then that event would decrease supply back to where it was.
I.e. if you often lend money to your friends so that usually someone or someone else owes you $10, then this lending is not a change and does not affect supply, but if you did not loan money and now you start lending, then that $10 is an increase in money supply.
You are talking about lending by banks, and/or the central bank, which is quite clearly money creation.
New lending of your money to your friend does not create additional money.
There's also a word game going on here. What you are describing is a situation where I lend money to my friend, and for the purpose of your analysis, you assume that I will always have lent out a similar amount of money forever starting now.
That's fine if that's what you want to analyse. But that isn't the situation I described.
Not if the company goes bankrupt though, right?
Seems like a potential strategy hedge funds can use (and maybe are using) is to short a company a ton and collect a lot of money from that. They can short more than the float, so even collecting more cash then the market cap of the company. This drives the price down, because there is more supply. The more they short, the more the price goes down. Then they just wait for the company to go bankrupt, which is more likely since the company's share price is in the dumpster.
See, eg, https://www.bloomberg.com/opinion/articles/2018-04-11/-go-to...
> Seems like a potential strategy hedge funds can use (and maybe are using)
Anyhow, no, doesn't work. Even apart from getting burnt when the fraud is finally exposed and the company goes bust before your short position is closed or whatever (which is thankfully pretty unusual), stock borrow costs will eat you alive. Also, you can't short more than the float (short interest can be over 100%, but that's confusing net versus gross), you can't collect more cash than the market cap of the company, and you can't really bankrupt healthy companies by shorting the stock.
(The way short sellers (like Muddy Waters work is they find a company doing a bunch of fraud, they take out a large short position, then they publicise their research. If the market agrees with them, the uncovered fraud tanks the stock price, and they make a healthy profit. Sometimes the company ends up bankrupt and/or with their executives in prison, but the cause is the fraud, not the short selling. Short selling an otherwise healthy company into bankruptcy doesn't make a lot of sense in theory, and doesn't seem to happen in practice.)
This is giving the market a lot of credit for being a rational and well-informed actor. The market is not full of people who calmly evaluate a short seller's argument and make a logical decision. It's full of people who lack the time, experience, and confidence to question the "financial expert" making dire predictions on the morning news and think "I should get out of this stock just to be safe".
In practice you just don't see examples of productive companies driven into insolvency by short sellers.
But it's a question of scale. The fact that any one investor may make mistakes doesn't mean that the market as a whole, in the medium or long term, also makes these sorts of mistakes.
"Some hedge fund guy released a report saying stock X is bad and the stock tanked 30% from small investors panicking before recovering when people realised it actually wasn't bad" is pretty silly, yes. And it's a bit rough on the small investors selling at a loss into the large investors who are able to correctly analyse the report, absolutely. But does any company actually go bankrupt in cases like this? The answer seems to be no; there's no evidence for it happening, and it's hard to see how it even could. Confused retail investors can lead to price volatility, but they don't make or break a new share offering.
There's no such reality check with things going up on the long side as we see from Gamestop. Someone can't step in and cash out on the company at a ridiculously high price compared to fundamentals. It is only driven by the market. In general short sellers are vilified more than warranted. If you are long on a good company you should applaud them because after all, they now have to buy back at some point. People view it as if you are some villain going against what is right (shares just going up and everyone gets rich). Stocks that go down with high short interest are almost always going down because they are bad companies, not due to short sales.
No. The price of a stock is the value of its discounted cash flows.
Shorting creates synthetic shares, that guarantee the new longs an exactly replicated stream of cash flows. This doesn’t make the original shares any less valuable, because they still have the same cash flows.
Imagine someone conjured a new company, called Tesla-2, out of thin air. It’s future profits and dividends exactly match Tesla. Why should this make TSLA any less valuable?
If people are investing in TSLA for the company’s long term viability, the existence of TSLA-2 should be a good thing for holders of TSLA. Now they can buy even more. It’s only bad if people are buying TSLA as a speculative asset to flip to a greater fool. Which is why short selling is such an important mechanism to prevent speculative bubbles.[1]
[1] https://onlinelibrary.wiley.com/doi/abs/10.1111/j.1540-6261....
Nearly. There ARE a few other reasons to own a stock, such as the right to influence the governance of a company.
(I agree that shorting is an important market mechanism that protects against frauds and bubbles. I am much less sure that naked shorting provides value. In fact, I'm not sure I have ever heard an argument for why naked shorting is valuable... they always turn out to be arguments for why shorting is useful.)
Once the IOU comes due, B will need to acquire a share from D to give back to A, at which point both A and C own a share - but D no longer does.
At no point are there any magic duplicated shareholding rights.
And you don't get extra voting rights for shorting (borrowing) a share.
https://www.investopedia.com/ask/answers/05/shortsalevotingr...
In my naïve view, TSLA's future cash flows have value because the company is expected to sell a lot of cars that:
1. No one else makes (or practically no one, such that TSLA has a majority of market share)
2. Many people want to buy.
Now, supposing TSLA would be able to service all the demand for its cars, how would a competing TSLA-2, presumably offering identical cars (or of identical value at least) not affect TSLA's future cash flows?
All things equal, if two companies sell products that are basically the same (same quality, price, etc), wouldn't that split the market in two? I wouldn't expect to see people buying twice as many cars because there are now two companies producing them.
Short term trading has nothing to do with fundamental.
The market can be irrational.
The price of something is just what someone else will pay. Period.
Intrinsic value factors into what people are willing to pay but only indirectly.
See: beanie babies, trading cards, status items, old land rovers.
No, it's the result of supply and demand not supply and “intrinsic value”. Demand is driven by subjective value, not “intrinsic value” which is a nonsense concept that misunderstands fundamentally how value and human action relate.
Tautologically so, in the sense that the market’s notional consensus of the expected future cash flow is inferred by those who are convinced of it's simplistic financial rationality from the stock price and assumptions of the proper discounting mechanism. Factually...that's a bit harder to argue.
There's some a-step-more distant proxies that people hold up as touchstones for that like P/E ratio, but those aren't consistent across stocks or, marketwide, over time.
short selling does not increase the number of shares. if i borrow a share from you and sell it, you cannot also sell that share. the number of shares is constant regardless of how many shares are sold short (except for naked short selling).
short selling increases the number of people that can sell, but that only increases symmetry in an otherwise asymmetrical system. anyone can bet that the price goes up, but without short selling, only people that already bought can bet that the price will go down.
> there's always going to be a perverse incentive to target any company so long as you can manipulate the supply enough to force a price drop
what is "manipulative" about selling a stock? if i buy a bunch of stock (to make the price go up), is that also "manipulation"?
I think some of the confusion is people talking past each other.
I think some people latch onto the whole concept of "borrowing" as the supply inflation. In the housing market, when I buy a house it is OFF the market. There is no "borrow someone's house & reintroduce it into the supply and gamble on the direction of the market".
Can you comment on how that interpretation is wrong?
The case outlined in the whitepaper is not just regular short-selling (e.g. you borrow a share and sell it, with a promise to buy it back). Short selling has actual uses in a market and they are not claiming that shorting in itself is "manipulative" or "fraud".
Their claims of counterfeiting stock involve the use of naked shorts(a.k.a where a share is sold, but never borrowed) Naked shorts must be attached to a real share within 3 - 21 days, not doing so is illegal. They outline a series of loopholes which are used to sell shorts w/o ever borrowing a real share, effectively diluting the actual stock issued by the company with extra counterfeits to drive the price down. The goal is to drive the price to 0 and bankrupt the company, so that the shorts don't have to be covered anymore, netting a large (tax-free) profit.
> if i buy a bunch of stock (to make the price go up), is that also "manipulation"?
No, lets talk about the details of how actual manipulation works. Below is not an exhaustive list of manipulation tactics, just a selection of examples:
1. SEC rules left a loophole allowing naked shorts to be covered with naked calls. No actual instance of stock has to actually be borrowed in this case, but it's not marked as a fail-to-deliver in SEC reporting. The naked call option is not tied to any stock issued by the company, it's just an option to buy at a future date, but it can now be repeatedly borrowed out for shorts as if it were a stock.
2. The SEC keeps track of fail-to-deliver in the SHO list and has requirements of 3 days for brokers and 21 days for market makers to borrow an actual stock. Another fraud claim is that brokers/hedge funds collude to pass around naked shorts between offshore shell companies in order to indefinitely reset the 3 day SEC requirement to keep naked shorts indefinitely and keep it off of the SECs fail-to-deliver list. They also use a similar technique to allow 8 - 10 shorts to borrow the same shares and then just move them around in time to meet SEC reporting deadlines. During any audit by the SEC, the SEC calls ahead and they move all naked shorts to offshore accounts where they can't be seen and then move them back once the investigation is over.
This means for every fail-to-deliver marked on the SECs books, there will be several times (10 - 20 according to the whitepaper) more counterfeit shares being sold by shorts that are not tied to any real shares.
3. The third fraud claim involves the clearing house (a.k.a a broker for brokers) the DTCC (we care about two of its subsidiaries DTC and NSCC). When a broker sells a short and fails to deliver an actual share in 3 days, before 1981 they would be forced to buy it back. After 1981, they can borrow one from the NSCC Stock borrow program. The NSCC will then go to the DTC which holds all the stock certificates and find a broker with a surplus of shares and borrow the necessary amount of shares.
Now here's the fraudulent part. When the shares are borrowed only the net amount is deducted from the surplus, but no actual shares are actually removed from the individual accounts of the broker. Now both the lending broker and the borrowing broker have real shares in their account, but they're the same real shares. Since the borrowing broker has real shares now, these same shares can again be lent out by NSCC to another borrowing broker and again no shares are removed. Now 3 investors have the same shares in their account. Since transactions are done as net transactions (instead of individual stocks) between brokers, the fact that 3 investors have the same share never has to be reconciled and two counterfeit shares have been created.
In regards to the GME short, even though only 71 million shares were issued by the company, currently institutions have reported to the SEC (13F filings https://fintel.io/...
An undervalued share price is also a great opportunity for the company (or anyone really) to buy back some of their stock. In that sense, by manipulating the price too low, the short sellers are basically giving the company an opportunity for easy money.
Also, why wouldn't you have to pay tax on gains from a short if the company goes bankrupt?
If a casino allows you to make play as long as you want, i.e. unlimited bets, does that de-value the bet?
If the shorted stock doesn't go down, people need to pony up the difference to buy it back; it is that capital risk that represents the "skin in the game", and why shorts aren't really unlimited, any less than an insurance company is limited in how much insurance it sells, by the capitol it holds to pay out on claims.
This website seems to mainly be talking about naked short selling, which is selling a stock without first owning or borrowing it. This not necessarily illegal, although can be under some conditions, including aggressive short selling. Wikipedia has a fair amount of info on the practice, https://en.wikipedia.org/wiki/Naked_short_selling
The practice of a selling a share that one does not own is supposed to be used by market neutral market makers to ensure their is always liquidity. They must then at some point in the future buy a share from the market to replace the phantom (i.e., counterfeit) share that they sold.
This practice is useful when there are suddenly more buyers than sellers and the market maker exhausts their standard supply of shares. Otherwise there may not be any bids on the stock at any price for sometime. Other argue that this is no longer necessary with many participants beyond market makers that also employ algo trading and can quickly adjust to increasing demand. Further, if lack of supply becomes a regular occurrence, investors may start regularly setting high, possibly even ridiculously high, standing sell limit orders such that there will always be bids at some price points.
I call up Dominos and order a pepperoni pizza. They take my order and process my credit card. They’ve just sold me a pizza that doesn’t exist. Is this fraud?
There's nothing special about shorting in your imaginary scenario either. You could change your scam to "I own Dominos stock and don't order any pizzas, but I put out articles claiming I ordered a million. People will buy up the stock expecting the profits from the million-pizza-order and I will pocket the money. These long holders are a scam"
No because they have the raw materials and labour to make a new pizza and have entered into a contract to do so.
Short sellers don't have raw materials to make new shares.
If I sell you an August-settled coffee future, that's a promise to deliver you coffee in August. Is it fraudulent if I don't have the coffee right now? After all, I've sold you something I don't own.
Of course it isn't. What matters is that the contract is fulfilled, and for equity sales in the US, the contract states that a share will be delivered to the buyer 2 days after the transaction.
How about if you sell a share that you bought within the last two days. I mean, your buy trade hasn't settled yet so you technically don't own it yet. Is that fraud?
From the other end, someone is accepting payment in advance i.e. selling a product that doesn't exist.
If you intend to purchase that product (or constituents of it) from third parties, then that becomes selling a product that you don't own (the third parties you intend to buy it from currently own it).
Now you can say it doesn't yet exist, or isn't yet bought, in order to fulfill the order - but the argument for selling stocks you don't own, is that you don't yet own them. I see no reason to say a genuine intent exist when fulfilling a purchase order, but not when returning a stock; kick-starter provides enough evidence against that..
It's not fraudulent if you don't have the coffee, as long as you make public that you don't, "I do not own any coffee, but will sell you a delivery of coffee for August".
Now, if you're selling share in ownership of a company, IMO it's right to disallow - by law - representations of ownership of companies that are not backed by numbered shares. It's not coffee, you can only own shares in the company itself, you can't get those shares from other origins it's not a commodity.
You make a post-harvest offer to sell me coffee from a particular plantation, then you arrange for the media to report that plantation's coffee is really inferior, maybe not even drinkable - something you had arranged in advance, of course. Tell me, why is this good for society? Now, you advertise, with your friends, lots of coffee available at low prices (after all the media said it's inferior coffee), only thing is you're offering more coffee for sale at low prices than there is coffee from that plantation ... that's driving the price down, there being lots of coffee noone wants ... only it's a lie, a trick, a fraud, just so you can manipulate the price. And now, oh look that plantation has gone out of business and you managed to buy them coffee I ordered for essentially nothing. Wow, you added so much value to the World by destroying the livelihood of that coffee plantation's workers.
Furthermore, that agreement doesn't in any way apply/affect to the stock you sold (or the person you sold it to), the obligations to return is yours alone.
In the end there’s a chain and if the person who lent you the share wants it back then the person you loaned it to will need to produce it for you, etc.
This is why we have margin accounts (and limits to how much margin we get/can support).
The analogies hold though - people sell things they don’t own all the time. The important thing to understand is it is based on promises to deliver an asset/money by a certain date.
Likewise people buy assets on margin all the time. This means people can buy things they don’t have money for based on a promise they will pay that money back. Credit cards, mortgages, auto loans, bonds, etc.
This is how our finance system works and for whatever problems it has, the future promise concept isn’t one. Especially with the regulations and limits on it.
Agreed. People should be able to take the pessimistic side of a trade.
The one problem I could see with short selling is not the technical act of selling short, but the (dis)information campaign around a company that appears to follow. But, this happens both ways good and bad so it's probably a wash.
> Most of Wall Street hates short sellers, because they drive down the prices of companies and confidence in markets
There's also an emotional dislike of the person who wins when you lose. Short sellers are like the person playing 'don't pass' in craps.
Absolutely. A real problem in things that aren't publicly traded on open markets is hype asymmetry. Somebody who wants the share price to go up can put enormous amounts of time and money into creating the appearance that the stock is worth more than it is. But there's no corresponding incentive to puncture the hype.
I suspect every one of us can name a privately held startup with a valuation we think is absurdly high. But there's no practical way to bet against them until they're publicly traded and we can short them or buy options (which may get hedged by buying or (short) selling stock).
Only if you ignore reality. Huge hedge funds are called market movers for a reason. These hedge funds decide to short your company's stock and they have a direct impact on your stock value regardless of whether the hedge fund has any basis for actually shorting. Their "reason" can be 100% bullshit. Doesn't matter. They put a large short position on your company and it has an immediate direct impact.
Not only that, like you said about disinformation, it also allows them to get other parts of the market to also jump on board.
The way shorting works with hedge funds is that it is a self fulfilling prophecy a huge majority of the time
And people talk about how capitalism has driven companies to only care about the next quarter. Everyone realizes this is overall a bad thing. Short sellers are one of the reasons you have to do that.
I don't believe shorts have any intrinsic value they are actually bringing to the market. People choosing not to buy stock at existing prices does the same thing people claim shorting does. You don't need to borrow stock and sell it back making a profit to have a functioning trading system.
This is obviously related to the stock price and has an operational impact.
In the widely reported Gamestop case, they write that over 140% of all shares were naked shorted - aka created from thin air.
This is very different to normal shorting, that is ok.
Well, the FDIC insures up to 250k of bank accounts, but what happens when there’s a run on your 401k?
Of course if many Alices do that, that will push down the price of GME, because it's market-relevant information that many people think GME will go down.
The real problem is counterparty risk. What happens if Alice runs out of money and can't pay up, or there's a run on all Alices at once? So a system of guarantors is needed. But this is far from the simple argument that "selling a borrowed car is stealing".
What happens to Person A in this scenario?
Person B thinks that it will cost less to buy that share in the future than the money they make from selling the share today, which is why they asked A to lend them the share in the first place. They plan to buy a cheaper share and give that back to A.
A doesn’t care if they get back their original share, they just want to get a share back.
Options are contracts which expire. A short position is not that, it doesn't have any expiration date.
It can be untenable to maintain that short position forever due to costs, but that's a different discussion.
If it is possible to 'create' and sell an infinite amount of shares, wouldn't this automatically and artificially dilute the stock price, making these short attacks self-fulfilling prophecies?
This makes me think, that the theory that retail traders own more than 100% of GME might actually be true and that this is the reason why the situation is still not resolved.
But it's a same concerns longs have. If people borrow non-stock (money) and buy too much stock the price goes up, self fulfilling prophecy.
It works the way lending in general works. “Fractional reserve banking” is a very specific, restricted mechanism of lending, and I'm not sure what the equivalent of “depository institutions” with centrally-mandated common “reserve requirements” based on their “deposit liabilities” are in shorting.
At least there the shares move from one hand to another. Pure option/derivative contracts allow parties make bets on a stock without ever touching actual shares. That's the original dark market I fear is pushing these prices.