Sorry, But The Current Financial Crisis Has Nothing To Do With Naked Short Selling Or A Wikipedia Edit War

from the please dept

Mon, Oct 6th 2008 5:33pm — Mike Masnick

For quite some time, Overstock's CEO, Patrick Byrne, has been on something of a... campaign against the practice of "naked short selling." Byrne isn't known for holding back his opinions on just about anything, and his complaints about naked short selling resulted in a rather massive Wikipedia edit war -- with folks on every side pointing fingers and arguing with each other over supposed dirty tactics by folks on the other side. Now, with the whole financial collapse thing happening, The Register (one of few publications to take Byrnes' side most of the time, often due to its irrational dislike of Wikipedia) is claiming that Byrne has been "vindicated," first on the evils of naked short selling, and second on the Wikipedia edit wars.

If only it were so simple. As this excellent Alex Blumberg/Planet Money podcast makes quite clear, while naked short selling may be sketchy, it's impact is minimal, if anything. And, as anyone with a most basic understanding of markets can tell you, short selling (naked or otherwise) doesn't drive down the price of a stock. The Register also suggests that Byrne was vindicated in the Wikipedia edit war, by noting proof (that is not shown, and was only provided to The Register by Byrne) that a reporter who had formerly denied taking part in the edit war, actually had been involved. That's not exactly a huge smoking gun either. It may be that this guy had a personal vendetta against Byrne, but it's got little to do with the financial crisis going on today. There are lots of things that created this mess: but naked short selling (even if the SEC came out against it, in part) is currently a minor scapegoat, not the cause.

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Filed Under: financial crisis, naked short selling, patrick byrne, short selling, vindication, wikipedia

18 Comments

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Cole, 6 Oct 2008 @ 5:50pm

OMG YOU'RE IN ON IT TOO?
The conspiracy has reached Techdirt now....
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illegalprelude, 6 Oct 2008 @ 6:05pm

Im not a stock expert but I do follow the markets and although I dont believe part of the demise was because of short sellers and think temporary banning them is pointless, If im not mistaken, shortselling does indeed do a pretty decent job at driving down the price of a company. Im not saying its gonna Bankrupt them but I could see a company being hit 20-30% because of it and these times, thats something they cant really afford, no matter how short term the impact
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Josh R, 6 Oct 2008 @ 6:12pm

Perhaps it could do the opposite...
Short sellers have an incentive to buy in order to claim their profits.. Perhaps part of the free fall that we are seeing now is caused because nobody profits from stopping the bleeding?
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Cynic, 6 Oct 2008 @ 6:25pm

Right, short selling resulted in a situation that a $700 billion bandage is insufficient to cure. If you believe that, I've got some swamp land to sell you.

And let's all ignore the New York Investment Banks that were doing magic with smoke and mirrors...the only real money was in their bonus checks.

And let's ignore the total lack of oversight by the Feds. Had they been following their own handbook (http://www.occ.treas.gov/handbook/assetsec.pdf) things never could have gotten this bad.

For those interested in a simplified explanation of what actually caused the crisis: http://docs.google.com/TeamPresent?docid=ddp4zq7n_0cdjsr4fn&skipauth=true&pli=1
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Youngun', 6 Oct 2008 @ 6:36pm

So I tend to believe what I see on here as it generally is pretty well grounded, but I have a limited grasp of the financial market at best. While i understand why short selling shouldn't make an impact on the price of a company's stock, can someone explain what they think the problems are with this explanation?
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DCX2, 6 Oct 2008 @ 6:39pm

As with all things, this is not black and white
First, if you are looking for a single point of failure for our financial system, you will not find it. The failure is the combined result of borrowers, brokers, lenders, multiple different portions of Wall Street, investors, and the government.

However, let's be honest, Mike. Your reference admits that he himself doesn't claim to understand "non-naked short selling"...

If you see a coordinated attack on a stock where everyone suddenly starts selling short (and why don't we throw in some puts, too, and start raising the insurance rates for credit default swaps), that might cause a bunch of people to panic and start selling, driving the price down. You can verify this as what happened to Bear Stearns, Lehman Brothers, and so forth. This is short selling doing what it's supposed to do, and it's a useful market function. This doesn't mean we should ignore the potential pitfalls, where short selling might drive the stock down too fast and overshoot the equilibrium price.

And for that matter, how on earth can you defend naked short selling? No matter how small an effect it might have on the market, you're still selling stock you don't own. Is it okay to steal from people if you're only taking a few pennies?
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PassinThru, 6 Oct 2008 @ 7:55pm

Doesn't naked short-selling == infinite supply of shares?
If a company has 100 shares of stock, and you and I and 99 of our closest friends short 100 shares, you're telling me the price won't go down?
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LBD, 6 Oct 2008 @ 9:26pm

Short selling
Short selling lowers stock prices BECAUSE it increases supply. It's the supply/demand curve.

DURRRRRRR!

Not that the effect is particularly large, nor is it likely related to the economic roles.
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LBD, 6 Oct 2008 @ 9:27pm

Re: Short selling
*Correction* Nor is it likely particularly related to the current economic troubles.
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Mogilny, 6 Oct 2008 @ 9:47pm

Don't blame short selling
It appears people need to find out what short selling is. Yes, people who short sell WANT the company share to do poorly, but they DON'T drive the share prices down directly. They do increase volatility, but that isn't the main factor, which is investor confidence.

If people want to play the blame game, how about technology? Technology helps uneducated idiots to "invest" in shares and funds like buying candy from the corner store. Technology helps idiotic media outlets to spread the panic. Technology interconnects economies which amplifies collateral damage.
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mobiGeek, 6 Oct 2008 @ 10:57pm

Re:
How is a company's stock price dropping "something they can't really afford", unless they are in the process of trying to sell off even more of their stock holder's equity?

Companies don't (or at least shouldn't) be trying to issue new shares constantly. So a drop in stock price might put various pressures on the board of directors, but it should not have an effect on the company's performance, should it?
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mobiGeek, 6 Oct 2008 @ 11:01pm

Re: Don't blame short selling
The only thing that technology should be blamed for in this mess is the improper use of it when building the financial models.

If technology wasn't here to let people invest, then the traders would have found other means to rope in the masses (call centers, door-to-door stock brokers, etc.).
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Eddie Pasternak, 7 Oct 2008 @ 1:45am

Oops
"...it's impact is minimal, if anything...".

Oops.
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ulle, 7 Oct 2008 @ 3:47am

so selling shorts while naked caused the economy to fail, glad someone finally explained this
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Dave, 7 Oct 2008 @ 4:12am

Blind leading the blind
You cite a reference that, in the article you reference, says he doesn't know what naked short selling is. He makes a guess.

A naked short usually fails to produce the stock within the settlement period, because they don't have the stock. If they were able to borrow the stock, at a margin rate, it would be a short. If the owner of the lent stock then decides to sell, the shorter has to buy to return the borrowed stock.
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Isaac K (profile), 7 Oct 2008 @ 6:48am

Article
If you noticed, he said that selling short ALONE will not cause a company to go under IF there is someone who is willing to buy the stock.

That's the point - not that the stock dropped to something more appropriate to it's worth, but that NO ONE WAS WILLING TO BUY THEM AT ANY PRICE, under the expectation of market failure, thus forcing the stock to drop further.

The problem wasn't short selling alone, it was the pre-emptive selling with no one wanting to buy, because you are leveraged against the stock and the more it drops, the more you make.
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Judd Bagley, 8 Oct 2008 @ 1:13pm

Emergency Order Schmelergency Schmorder!
Ah yes...This would explain why, as the system began to show the first signs of crumbling, one of the SEC's first actions was to issue an emergency order temporarily enforcing the ban against naked short selling of 19 financial stocks. And why, during the ban, each of the 19 stocks saw dramatic gains in price, and why, once the order expired, each saw dramatic (and in some cases, fatal) drops in price.

It would further explain why, in the wake of the carnage that followed the expiration of the earlier emergency order, the SEC's first act was to enforce the ban on naked short selling market wide, temporarily ban all shorting of 940 financial stocks, and require hedge funds disclose their short positions.

No...wait...your thesis wouldn't explain any of these things, would it?

Mike, yours is as poor an analysis of the situation as I've read yet.
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Web Design Miami, 15 Mar 2009 @ 9:38am

Decline of Social Networking?
Has anyone noticed there are more social networking ventures failing than flourishing lately?
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