Andrew Ross Sorkin takes a break from buying drinks for media moguls at their fancy convention in Sun Valley (our invitation presumably got lost in the mail) to comment on recent criticism of his column an the "proliferation of rumor-mongering and its dangerous effects on the market." He mentions the criticism of Portfolio's Felix Salmon and The Deal's Bob Teitelman.
Oh, and he mentions us. Actually, he quotes us at some length and then describes our argument that proposals to jail rumor-mongering market manipulators could have a chilling effect on free speech as "self-serving and, frankly, nuts."
"What I'm taking issue with -- and what, to me, seems awfully hard to defend -- is the practice of market manipulation through rumor-mongering," he writes.
After the jump, we go nuts all over again and defend the indefensible!
The basic claim that intentionally spreading falsehoods with the intention of manipulating markets should be illegal is largely irrelevant. This kind of market manipulation is illegal. The question is whether or not we want prosecutors ramping up investigations into rumors and those who spread them. In particular, should prosecutors start aggressively investigating the origins and intentions of rumors that surrounded the crash of Bear Stearns and that have lately been hitting Merrill Lynch and Lehman Brothers. Do we want subpoenas fast as rumors circulate?
We think that this would be a terrible misuse of prosecutorial power. In the first place, there's precious little evidence that the supposed market manipulation even occurred. Instead of evidence there's just pure speculation. "Where there's smoke, there's fire," might be a nice soundbite but its not evidence. Before we unleash the hounds of war on rumor mongers, shouldn't we require more than this?
What's more, the costs of such investigations would likely be worse than the alleged wrong-doing. In order to catch wrong-doers, prosecutors would have to subpoena the private emails, instant messages and testimony of lots of people who did no wrong at all. Each of the investigated would face huge legal bills and know that their lives could be ruined by a prosecutor or a judge who misreads a bad intention into an innocent email.
Even apart from the fact that we lack a body of prosecutors who can resist the temptation to abuse their powers, the methods of proving intentional manipulation are not clear cut. Lacking direct evidence, prosecutors would be forced to rely on circumstantial evidence. This means that juries would eventually be charged with determining whether an investor had a good enough reason to reach his opinion before he passed it on. Rationales judged insufficient could be dismissed as mere pretexts for manipulation.
Keep in mind that truth is not apparently a defense here. Bear Stearns did collapse, which means that every single rumor predicting its collapse was correct. But JP Morgan Chase chief Jamie Dimon wants those who allegedly spread rumors investigated anyway. The question begging reasoning that the rumors became self-fulfilling is just a small sample of the kind of abusive, nonsensical and frighteningly aggressive creativity with which this kind of case could be pursued.
This is what we mean when we say that the kind of prosecutions called for by Dimon and Sorkin would have a chilling effect on free speech. The very threat of investigation would discourage discussions of the financial health of companies, even by the entirely innocent. To put it in economics terms, the Sorkin-Dimon investigations would increase the risks of engaging in speech and, in turn, distorts the incentives for investors to even investigate the financial health of companies. In the case of the financial markets, free speech is vitally important in encouraging price discovery and market efficiency. Anything distorting market analysis should have a high-hurdle before it is pursued.
Perhaps the most frightening thing about this entire debate is that Sorkin's column and Dimon's chat with Charlie Rose have almost certainly encouraged enforcement agents at various government bodies to open investigations. This is how they work over at the enforcement office of the SEC. Open the paper, read the headline, start an investigation. The Info War--as we're calling this struggle against information on Wall Street--has in all likelihood already begun.
Moving Markets With Rumors: A Response [New York Times]
Posted by guest , Jul 09, 2008 3:11PM
"Keep in mind that truth is not apparently a defense here. Bear Stearns did collapse, which means that every single rumor predicting its collapse was correct."
Talk about missing the point. The point is that the rumors could have precipitated the collapse.
Not saying they did, but you don't get the argument at least?
Posted by guest , Jul 09, 2008 3:12PM
Further: how do you think bank runs happen?
Again, not saying that prosecution is the answer, but rumor and herd mentality are powerful market movers - whatever the market.
Posted by John Carney , Jul 09, 2008 3:18PM
My point is that the contention that the rumors caused the collapse is just that: an empty and probably unprovable assertion that makes for bad law.
Posted by guest , Jul 09, 2008 3:23PM
Rumors and herd mentality are not in the same camp. It's likely that the conversations were not in fact about an immanent collapse but about the credit quality and longer-term solvency of the counter party. These are not rumors, but fair consideration especially since Bear had self-mutilated their balance sheet.
Do these perpetuate a collapse? Probably. But are they ultimately responsible for the collapse? Absolutely not.
Posted by Anal_yst , Jul 09, 2008 3:24PM
Has anyone questioned why Dimon, arguably (potentially?) the biggest beneficiary of Bear's collapse, is suggesting that those who enabled JPM to swoop in and eat up BSC be investigated?
That, methinks, is the question which needs answering.
Posted by diablo , Jul 09, 2008 3:25PM
Dimon should come clear and name names. He knows who they are.
Posted by guest , Jul 09, 2008 3:25PM
@anal_yst-- b/c he thinks it's the right thing-- morally and legally-- to do?
Posted by guest , Jul 09, 2008 3:25PM
if you're big poppa dimon, pull down $20m+ a year because you're the best thing since sliced bread, you shouldn't be running your firm leveraged to the hilt like a snapping pussy. i'd like to see anyone bring down a serious company on rumors. end of story.
Posted by guest , Jul 09, 2008 3:26PM
Anal_yst,
Crying out for an investigation when you know there won't be one, is a damn good way...to make yourself look pretty damn good.
Posted by guest , Jul 09, 2008 3:33PM
"My point is that the contention that the rumors caused the collapse is just that: an empty and probably unprovable assertion that makes for bad law."
Why is rumor-mongering more unprovable than insider trading? If, in extreme cases, one can trace trades to people and people to inside sources (via email trails, for example), one can do the same to see who profited from short positions and if a rumor-based conspiracy were involved.
Are you against prosecuting insider trading? I mean, how do you possibly PROVE that without a little digging?
Posted by guest , Jul 09, 2008 3:33PM
amen 3:25.
Posted by guest , Jul 09, 2008 3:39PM
The people who bitch the most in finance are the ones who lose the most money over some issue.... or the ones who stand to make the most money over some solution to an issue.
Have you ever tried to have a rumor investigated?? The agency people on the other end of the phone will always assume or state, "You were just on the wrong side of the deal."
It's like they are calling you a "disgruntled investor".
Until that attitude changes there won't be any investigation of "rumors".
Posted by Anal_yst , Jul 09, 2008 3:41PM
@ 3:26
Thats what I'm thinking, a bit of misdirection making him look like the stand-up guy, all the while profiteering (again,potentially) from the whole thing
Posted by guest , Jul 09, 2008 4:20PM
@ 3:39
WTF - you have called an "agency" to have a rumor investigated? seriously? Which agency do you call to have a rumor investigated?
PS - it's not like - they are calling you a disgruntled investor.
PSS - t-bills for you!
Posted by guest , Jul 09, 2008 4:21PM
Meanwhile, Lehman slashed NYT today pretty good. Seeing as Lehman is latest crybaby over rumor mongering its kind of funny that they just hammered the defender of truth....Sorkin and the NYT
Posted by guest , Jul 09, 2008 4:23PM
Come on Carney! A.R.S. knows market manipulation when he sees it. For him its just like porn.
Posted by onetwo , Jul 09, 2008 4:23PM
Need i ask it again?
WHY IS IT ONLY MARKET MANIPULATION WHEN IT'S SHORT A COMPANY??
No one goes off and attacks those who perpetuate rumors about the "wicked" (technical term) new product Apple is coming out with, or unsubstantiated claims that there are "interested suitors" waiting to take over a firm. So long as the price movement is up no one cares--except for the people who buy the rumors and get killed on the inevitable fall after such rumors fail to pass. If anything, that "market manipulation" is praised when it is one in the same. But who is going to prosecute the "rumor mongerers" then? The company got a bump to it's stock price, the analyst with a buy (buys do dominate sell ratings) rating was vindicated, and whoever threw the rumor out there got his profit. But, when a stock is "forced" down the management is p-ssed, institutional owners are p-ssed, and analysts refute the rumors to save face. It's the penultimate (behind prop trading) asymmetric payout structure.
Again, as Einhorn said, "if you're company can't withstand a hit to its share price it probably isn't a viable ongoing concern". (Read his book, trust me).
Enron wasn't crushed by short sellers, short sellers found that Enron was a cheat and a liar; same with bsc. Overstock's plan of "losing money on every sale but making up for it in volume" wasn't unviable because rumors floated based on insidious short selling conspiracies...it just wasn't a profitable business model and people recognized it .
In the end it's pretty simple, if a firm thinks it's shares have been pushed artificially low, then they (and their insiders) should probably stock up knowing they will be vindicated. It's a great chance to profit...if your firm is actually well capitalized.
Now i know what's coming, "but these rumors can hurt the financial system by causing bank run". Yes and no. If it is nothing more than market rumor then two things: 1) a pretty good way to quash the rumor would be to come clean about everything on your balance sheet to allay concerns (sunlight is the best disinfectant), unless you're LEH and the concerns may be valid; and 2) if you're a commercial bank (i.e., a "run" in the traditional sense) the market rumors generally won't spark a run because main st. is not a prop desk on wall st., they don't get the rumors passed down to them in the blink of an eye. Now, if you still think that the "runs" are the problem ("runs" are always a problem) then tell me WHAT RUN ON A BANK WASN'T ULTIMATELY VINDICATED?
Anytime someone starts yelling about short-seller conspiracies sell everything you can and run. Jamie Dimon was right, "where there's smoke there's usually fire".
Posted by EricM , Jul 09, 2008 4:29PM
Anal_yst,
First they get him the company for $2, then they make him pay $10. This is payback.
Posted by HAM05 , Jul 09, 2008 4:34PM
1-2 well said
Posted by PatrickBateman , Jul 09, 2008 4:37PM
Well said OneTwo
Posted by guest , Jul 09, 2008 4:41PM
The Thought Police would get him just the same. He had committed — would still have committed, even if he had never set pen to paper — the essential crime that contained all others in itself. Thoughtcrime, they called it. Thoughtcrime was not a thing that could be concealed for ever. You might dodge successfully for a while, even for years, but sooner or later they were bound to get you.
It was always at night — the arrests invariably happened at night. The sudden jerk out of sleep, the rough hand shaking your shoulder, the lights glaring in your eyes, the ring of hard faces round the bed. In the vast majority of cases there was no trial, no report of the arrest. People simply disappeared, always during the night. Your name was removed from the registers, every record of everything you had ever done was wiped out, your one-time existence was denied and then forgotten. You were abolished, annihilated: vapourized was the usual word.
Posted by onetwo , Jul 09, 2008 4:42PM
Thanks, Orwell.
Posted by guest , Jul 09, 2008 4:53PM
I thought about this issue for a long time last night. If the CEO of a troubled bank that suffered a run and the CEO of a bank that buys the ruined bank both believe that the run was engineered by market manipulation, and two reputable journalists familiar with the markets also believe there may have been illegal market manipulation and say so publicly, it's bizarre that nothing more is done.
The problem with Christopher Cox is that he brings very few prosecutions. So is he correct when he does nothing because there was no criminal activity? Or does he simply have a philosophical objection to mounting SEC prosecutions, and all sorts of misdeeds therefore go unhindered? It's the case of the boy who never calls wolf.
Jamie Dimon is Henry Paulson's and Ben Bernanke's fair haired boy. Everything about Dimon is credible and acceptable to them, to the extent of handing the reins of Bear Stearns over to him and bargain basement price and releasing $29 billion of Federal Reserve funds to pay for the risks. If Dimon fails, Paul and Bernanke are also damaged. Why, then, do they turn a deaf ear to his concerns about market manipulation? The've blessed him, they've annointed him, but can they safely ignore him?
No one wants to see a wasteful witch-hunt in the middle of a distressed market. Neither political party seems to be the least bit concerned. The indictments of Cioffi and Tannin, coupled with their sad and unnecessary perp walks, have left a sour taste. Has the SEC and the Justice Department become so politicized that there are no respected, fair-minded investigators and prosecutors left?
With the rapid changes rocking our world every day, we should not lose sight that when the lurching stops, we're going to want markets regarded to be at least minimally safe and honest.
Can we start with a definition of illegal market manipulation, and follow with an outline of what a credible investigation might look like?
Posted by guest , Jul 09, 2008 4:57PM
I love how most of you act like this is some witch hunt aimed at shorts.
From a long perspective, in addition to insider trading which I already cited, it is illegal to pump and dump, which, you may or may not be aware, is a prosecutable crime.
And it is "provable", even though a supposed attorney seems to be attempting to claim otherwise.
Why is this so difficult to understand?
See these links as examples should you be shocked at this revelation:
http://www.nytimes.com/2007/12/08/business/08hedge.html
http://www.usatoday.com/money/general/2001-03-09-pump-and-dump.htm
Posted by guest , Jul 09, 2008 4:59PM
@ onetwo
WOW... that was freaking sexy.
Posted by guest , Jul 09, 2008 5:01PM
No argument with onetwo.
Short selling is vilified because it is a zero sum game.
Unlike one long makes a little. Sells to another long who makes a little as the price continues upward. Everyone is happy.
The short seller has the conviction to call "BS" and usually kicks the crap out of a lot of longs.
Posted by onetwo , Jul 09, 2008 5:01PM
@4:53 - while i agree with almost everything you said, your final paragraph is the problem (and I know it was a question). There is no way to really define rumor-based manipulation--that is what differentiates it from insider trading. With IT you have a clear line of blame to follow, ending with someone who posessed material non-public information. But a rumor is a rumor. Rumors fly around all day. And how do you differentiate a rumor from a wandering thought, from rank specualtion, from actual manipulation? As i've said here, and on my own site, i shorted bsc at $144 because hf's were already questioning bear's pb brokerage services and saw it as an omen of things to come. Now, is that a rumor or an informed decision? If i passed the information along is it a rumor? What if the rumor was that "all was well at bsc" when, in hindsight, we know it wasn't? Should that be prosecuted?
I know i have answered questions with more questions, but the very definition of this kind of market manipulation IS the crux...and there is no way to define that effectively without curtailing freedom of speech, which is the lifeblood of the market.
Posted by onetwo , Jul 09, 2008 5:03PM
@4:59 - thanks, i do what i can...and it's a slow day.
Posted by guest , Jul 09, 2008 5:07PM
Wow, Carney, that was a bit nasty... So what's your beef with Andrew Ross (Sorkin)? That's the meaty juicy detail I'd like to know!
Posted by guest , Jul 09, 2008 5:09PM
I also think there is a very big difference between passing along a rumor and aggressively peddling it. Also important is *who* is spreading the rumor and in what medium/a.
onetwo asks:
"What if the rumor was that "all was well at bsc" when, in hindsight, we know it wasn't? Should that be prosecuted?"
See Tannin, Matthew and Cioffi, Ralph.
Posted by bank_teller , Jul 09, 2008 5:16PM
yeah, if you're looking for somebody who "pumped-and-dumped" you can look no further -- msrs bernanke and paulson backstopped the company for $30 bil and then yanked the chain right as things were getting hot. that's a classic dump and it's where the story ends. nobody else to blame. okay fine, maybe also geithner.
Posted by guest , Jul 09, 2008 5:18PM
I'm a hedge fund/short-sell critic, and I can't logically explain my position. It really doesn't matter though because the "Stop-the-Hedge-Funds" train has already left the station in Washington and is picking up steam on its way to Wall St. Soon it may be a runaway. The public blames Wall St & HF's, and Congress is paying attention. Logic & Reason won't slow it down, and it would be inadvisable for one to stand in the path of that train.
BTW, watch the great movie "Runaway Train". I think it's from the late 80's with John Voight & Eric Roberts, and it's on video and DVD. Widescreen is best. The damn thing will keep you glued to it for 2 straight hours. It delivers nothing short of a knockout punch.
Posted by guest , Jul 09, 2008 5:21PM
4:57, sorry, but using the NYT and USA Today to demonstrate a business point is like using the National Inquirer as a source for your science news....
sorry, but this is a clear and simple witch hunt aimed at distracting bear shareholders from the low price JPM got for it
Posted by guest , Jul 09, 2008 5:23PM
@5.18 critic
I can explain it.
It is called schenfraude.
Posted by guest , Jul 09, 2008 5:26PM
@5:18 - Dude, I saw that movie. You're right. Highly recommended by me too.
Posted by onetwo , Jul 09, 2008 5:28PM
@5:09 - while i don't agree with the prosecution of the High Grade Shit Fund gang, you can at least make AN argument that their was securities fraud. As an entity with a fiduciary responsibility to their clients they are not treated in the same light as individual actors in the market. Unfortunately, their folly was to have something contrary to their public position in writing (email) that disadvantaged those to whom they were responsible.
And will someone tell ARS to get off his fucking high horse? His suggestion about "getting to the originator of the rumor, and their intent" poses a few problems for he himself. So, let's say someone passes him a note that citi is going bankrupt, supplies a modicum of evidence, and says leave him unidentified. ARS publishes it as a "market rumor" because, well, that's his job. The whole thing turns out to be completely false. NY AG calls and asks him who sent him the rumor, since, ARS has already publically stated that, to him, the most important goal of regulators should be finding out who originated the rumor. ARS tells the NY AG to fuck off because he's protecting his sources. Yada yada. The best part is that ARS would presumably argue that "if he disclosed his sources then he wouldn't be able to report the goings on in the market because no one would disclose information to him; it would curtail his right to free speech and ability to act for efficient market dissemination of information".
That's a scene i would love to see.
Also, here's an interesting one. What if I have insider information and pass it along to a friend who doesn't take a position (I don't have one either). He hands the information over to ARS, but can't substantiate it. ARS breaks it as news based on rumors. Clearly reg FD hasn't been violated, nor has insider trading, but this is "rumor mongering".
Who is liable?
Posted by guest , Jul 09, 2008 5:30PM
nice post carney. i agree with your point wholeheartedly. idk what crawled up this ARS's arse but maybe he needs a drink. or to get laid.
either way, i'm on team carney for this one.
and i owe you some drinks!!!!
-serge
Posted by guest , Jul 09, 2008 5:32PM
if you are a CFA, then you are.
Posted by onetwo , Jul 09, 2008 5:35PM
@ 5:32 - but not legally prosecutable.
Posted by guest , Jul 09, 2008 5:36PM
Well, in any event, I see that Carney is on a "the market is absolutely flawless and there could never, ever be manipulation or collusion" tear what with the string of delirious posts that would do Kudlow proud.
Summary: there are no such things as bank runs and all a company needs to do to avoid short interest is open its books, assuming its house is in order.
Only, things like this happen too:
http://www.sec.gov/news/press/2008/2008-64.htm
In this case, the company recovered quickly. In other cases, as with bank runs, there is no way to escape the momentum.
Posted by guest , Jul 09, 2008 5:40PM
@5:23,
Schenfraude means what?
Posted by Anal_yst , Jul 09, 2008 5:46PM
@ 5:21 & 5:23
You beat me to the punch, absolutely correct! You two have pointed out 2 major flaws with blaming "wall street" (umbrella term): the public doesn't know (to use a cliche term) live stock from preferred stock, and schadenfreude (likely an unfamiliar term to most of the "public") is a stronger force than most will admit to or acknowledge.
@ 1-2
Excellent points, ARS has backed himself into a corner.
Posted by guest , Jul 09, 2008 5:51PM
Hi, onetwo. I'm guest @ 4:53 p.m. Thanks for giving me some honest answers. I was hoping to be guided to some sections of the securities laws that I could look up tonight to inform myself a little better. It seems to me that "market manipulation," to be a crime, must require some kind of intent, and something of a plan. Obviously, thousands of people disliked the management of Bear Stearns and were happy to bet on them to go down, but didn't go as far as to plan to bring them down. Still mulling this over.
Posted by guest , Jul 09, 2008 7:01PM
As we all learned in 8th Grade Civics class, its illegal to yell "Fire!" in a crowded theatre, as the threat of panic out weighs the threat of fire, despite the first amendment. Similarly one could apply this principal to financial institutions. One can also assume that it remains illegal to yell fire in a crowded theatre, even if there is in fact a fire. However going back to the scene of the crime after the place has burned down and trying to ascertain who was the first to smell smoke.... well if it were possible to ascertain such things beyond a reasonable doubt then there probably wouldn't be panics in the first place.
....And now your moment of Zen.
By REUTERS
Published: November 3, 2005
The regulation arm of the New York Stock Exchange said yesterday that it had fined Lehman Brothers Holdings $500,000 as a settlement for "failing to reasonably supervise trading" in a stock at the close of trading on Dec. 11, 2002.
The exchange said that Lehman handled the stock order in a disruptive way, causing excess market volatility. The name of the stock was not disclosed.
The regulation unit said Lehman knew or should have known that its actions could result in a fall in the stock's price, resulting in a profit for itself and a potentially lower price for customers.
Lehman made a profit of nearly $248,000 on the transactions. A written decision by an exchange hearing panel was released yesterday.
"It is vital for firms to carefully supervise trades relating to business strategies pegged to the closing price to protect customers and the market from excess volatility," Susan Merrill, chief of enforcement for New York Stock Exchange regulation, said in a statement.
The exchange said that in settling, Lehman neither admitted nor denied the charges.
A spokeswoman for Lehman declined to comment.
Posted by onetwo , Jul 09, 2008 7:27PM
@ &:01
I like where your head is at, but I feel some may actually buy the (sarcastic) setup to your argument. So I remind everyone that, once again, everything you know is wrong:
Holmes, writing for a unanimous majority, ruled that it was illegal to distribute fliers opposing the draft during World War I. Holmes argued this abridgment of free speech was permissible because it presented a "clear and present danger" to the government's recruitment efforts for the war. Holmes wrote:
The most stringent protection of free speech would not protect a man falsely shouting fire in a theater and causing a panic. [...] The question in every case is whether the words used are used in such circumstances and are of such a nature as to create a clear and present danger that they will bring about the substantive evils that Congress has a right to prevent.
Holmes wrote of falsely shouting fire, because, of course, if there were a fire in a crowded theater, one may rightly indeed shout "Fire!". Falsely shouting "Fire!" in a crowded theater, i.e. shouting "Fire!" when one believes there to be no fire in order to cause panic, was interpreted not to be protected by the First Amendment.
Schenck was later limited by Brandenburg v. Ohio, which ruled that speech could only be banned when it was directed to and likely to incite imminent lawless action (e.g. a riot), the test which remains until this day.
Posted by guest , Jul 09, 2008 7:44PM
BTW ... it is spelled Schadenfreude.
It is the enjoyment taken from the misfortune of someone else.
Posted by guest , Jul 09, 2008 7:46PM
OneTwo. Love you man. Your thought leadership on this site is unsurpassed. Would you mind taking Carney's/Bess' role here. You are good at this. Truly.
Any thoughts on this slime ball:
Lies,
Damned Lies,
God Damned Lies,
Gasbagarumor Lies.
Posted by guest , Jul 09, 2008 8:29PM
OneTwo. I didn't realize you had gone to law school.
Posted by guest , Jul 09, 2008 10:01PM
@ 1-2:
much can be learned from perusing the annuls of history.
Marcus Licinus Crassus, born into a wealthy Roman family around the year 115 B.C., from Pultarch:
"...And besides this, observing how natural and familiar at Rome were such fatalities as the conflagration and collapse of buildings, owing to their being too massive and close together, [Crassus] proceeded to buy slaves who were architects and builders. Then, when he had over five hundred of these, he would buy houses that were afire, and houses which adjoined those that were afire, and these their owners would let go at a trifling price owing to their fear and uncertainty. In this way the largest part of Rome came into his possession..."
Yes, 1-2, Carl Icahn and Sandy Wiel were part of the original 500 man squad, that is how Jamie Dimon learned the trade. It is said Crasus would hedge his risk (the risk of no fires) by employing an off setting long position in kindling and torches.
Posted by guest , Jul 10, 2008 8:04AM
Didn't read. Too long.
This thread needs to merge with the trash bin in order to survive.
Posted by guest , Jul 16, 2008 10:25AM
jhjkguydy
Posted by guest , Aug 09, 2008 11:42AM
This is awesome. I love this site. It fills the lulls of my 20 hour days. Go DealBreaker!