David Einhorn’s $7.7 billion hedge fund Greenlight Capital Inc. disclosed a short position of 4.4 percent in the shares of Daily Mail and General Trust Plc, which publishes the U.K.’s second-biggest selling daily newspaper.
Greenlight’s bearish bet on London-based Daily Mail and General Trust, disclosed today on the website of the U.K.’s Financial Services Authority, was the biggest short position revealed by any hedge fund against a U.K. company under rules that took effect last week.
And yet there’s also this:
What are you doing, England? Don’t you know that when David Einhorn is short a stock, that stock goes down? There are rules here you know; today’s mild drop is not enough to comply.
Einhorn’s disclosure is, of course, driven by the new EU short selling rules that create a passel of annoyances for anyone who has anything negative to say about anything in Europe. The disclosure element of those rules in the UK – where you need to publicly disclose promptly any >0.5% short position and any >0.1% change in that position – are notable for being more onerous than the equivalent long-position disclosures, which are basically required for any >3% ownership and any >1% change in that position.1
One simple thing to think about this is that hedge funds mostly don’t like it. For one thing, it’s annoying, and nobody wants to be annoyed, but this isn’t really why; major hedge fund managers employ people to be annoyed for them. The main reason to dislike disclosure has to be that it costs you money.
We’ve talked about this a bunch in the long-disclosure context: value/activist hedge funds don’t like disclosing their positions before they absolutely have to, because they make their money by identifying a company that they can change, buying up as much as they can of it, then disclosing their position and watching the stock go up due to being right, strategic changes, halo effects, magic, whatever. If their strategy mostly works, then everyone will follow them into the stock, and the stock will tend to go up as soon as their position is disclosed – before their rightness/magic/whatever has its effect. This is actually kind of nice! You can make money just by pointing at a stock and saying “I like that one.” But you need to have a big enough position first. If you are, I dunno, Warren Buffett, and you point to a stock and say “I’m going to buy a lot of that one,” then everyone buys it before you and your value proposition dissipates. So you have to buy it, then point.
Shorts, basically, same thing. This is great if you can be short and undisclosed: you build exactly the short position that you want, then show up at a conference and mention a stock’s name and it drops like 40% and you’re like “oh actually I like that one it’s this other one I’m short” and everyone is confused but it works out for you in the end. It’s fine if the short and long rules are basically symmetrical: if the powers that be say – as they do in the UK – that you can be long 3% of a company without disclosure, and if they also say – as they don’t in the UK – that you can be short 3% without disclosure, then I guess that leaves you to make economic decisions between spending your time looking for long or short positions.2
But if you have to disclose pretty much every short position the math changes. Despite the newness of the rule there is actually research on the topic of “do people copycat big hedge funds’ short disclosure?” and the answer is unsurprisingly “yep.” Here is one from Japanese data:
During the recent financial crisis several regulators have introduced a disclosure obligation for individual short positions. Based on data from the Tokyo Stock Exchange we analyze how the market reacts to these publications and find significant price declines after the disclosure of short position increases. This effect becomes even more evident for publications of Asian investors. Overall, the results imply that disclosures of short positions lead to a herding-like behavior among investors and accelerate rather than absorb price declines.
And here is one with European data:
We find that a short position disclosure has little immediate effect on returns. However, when the short position is associated with a rights issue, cumulative abnormal returns over the 20 days following a short position disclosure are -18.66%. This stock price effect is permanent, suggesting that disclosers are not manipulative short sellers but instead are simply well-informed. Outside of rights issues, we find that short position disclosures have little effect on share prices. Across the board, we find significant follow-on shorting activity: a large short position disclosure makes it much more likely that there will be another disclosure within a month in the same stock by a different short seller. Follow-on shorting is more likely when the initial discloser has greater assets under management or is located near other short sellers.
One way to react to this is “hahaha stupid European regulators, you have created a procyclical regulation that will cause more short selling of the stocks you are trying to protect.” Once, David Einhorn or whoever was free to ply his trade in secret, making money when he shorted companies that actually turned out to be bad and losing money when he shorted companies that turned out to be good. But now, all he has to do is disclose his short position, and every schmuck will pile into it and create a self-fulfilling prophecy.
Which sounds nice (for him / bad for propping up stock prices), but isn’t. If these studies are right – in particular, if reputable short sellers (Asian investors in the Tokyo study, high-AUM investors in the European one, Einhorn here) create copycat behavior – then it will be less attractive to be a short seller. Once you disclose being short 0.5% of a company, copycats will pile in with you – making you money on that 0.5%, but eliminating your chance to profit on a bigger position. Shorting 0.5% of the sorts of stocks that they like to short will less often be worth it for big hedge funds, making them less likely to short at all. Which is probably the point. Especially when the disclosure rules for long positions, on this measure, are ~6x more generous.
Unless, of course, that theory is wrong. The Einhorn effect is strong in America, where he’s not required to disclose his short positions, but pretty weak so far in the UK where he is. Einhorn’s ~4.4% short on the Daily Mail got in before the deadline and doesn’t seem to have had much copycat effect so far – the stock is fine, and the FSA’s shorts spreadsheet doesn’t show any other >0.5% positions in DMGT. Perhaps that is, perversely, good news for short sellers.
2. I mean, pretty loosely. Leverage, risk, large-vs.-small-cap issuer, etc. issues are different long and short, meaning that 3% long and 3% short limits aren’t particularly economically equivalent things.