short selling

  • 18 Sep 2012 at 1:30 PM

The Mystery Of Einhorn

The Journal has a nice article about David Einhorn today, making the point that he can move stocks with the sheer power of his disapproval. Not even disapproval, really; a raised eyebrow will suffice, as it did for HerbaLife. Imagine his parenting skills.

Here is a chart from the Journal and I guess you win a cookie if you can tell me how it’s calculated:

But you get the gist: on average (er, median), an Einhorn seal of disapproval lops 4.9% off a company’s market cap in one day, and 13% in a month. You can argue that he is just excellent at picking stocks that are about to drop precipitously, but the repeated one-day success seems like pretty clear evidence that the market is reacting to, rather than independently fulfilling, his predictions.

So, first off: this is a great skill to have! I think that in part because I am very lazy and have always imagined a hedge fund manager’s job as being to come into the office, point at a stock, say “that one,” and go home for the year while the stock he picked makes him rich. I don’t think it works that way, though; stocks tend to move for reasons in the external world unrelated to your simple desire to make yourself rich, so you have to spend your days, like, doing research and stuff. But when your desire to get rich off a stock pick makes it so, that is metaphysically delightful.

It’s particularly delightful for a short seller. (Though also: sort of puzzling for a short seller.) We’ve talked before about a paradox of short selling where: Read more »

  • 25 May 2012 at 11:23 AM

Some People Were Selling Facebook On Friday

There’s this interesting article in the Journal today about how quickly and expensively short sellers managed to find shares of Facebook to borrow, including a graphic showing that like 150 million shares were shorted on Friday, at -10% to -40% rebates, which, what? Anyway you should read it; I for one was surprised that that much borrow came online so quickly and so share the Journal’s suspicion that some of the locates given by prime brokers were a little aggressive? Or something.

I’m less willing, though, to view the basic transaction the way the Journal does:

The role of the firms in enabling short sellers in Facebook’s stock shines a light on a long-standing Wall Street business that has the potential to create conflicts of interest. Even as one arm of a brokerage firm is getting paid to drum up interest in a stock, another part of the firm could be earning big profits by helping bet that the stock will fall in price.

“In general, Wall Street has conflicts of interest, and conflicts of interest are profitable,” said Daylian Cain, a Yale School of Management professor of business ethics. “It’s hard to navigate them when there are millions of dollars at stake.”

Two things are worth noting here. First of all, this is the sort of “conflict of interest” that comes inextricably from being a market intermediary: some of your clients want the one thing to happen, others want the other thing to happen, and the things are often – normally in secondary market trading – mutually exclusive. Read more »

Wouldn’t it be fun to be the kind of guy who could swoop into an earnings call and be all “aren’t you just a giant fraud?” and freak everybody out and cause the stock to plummet? I feel like that would be fun. I am not that kind of guy, which is just as well, because I sort of go around assuming that selling (1) weight loss drugs through (2) network marketing just automatically makes you a giant fraud,* so I would probably use my powers irresponsibly.

Anyway David Einhorn didn’t do that at all! He asked some perfectly reasonable questions of weight-loss network marketer Herbalife. Here is a comically anodyne description:

Herbalife Ltd. (HLF), the maker of nutritional supplements and weight-management products, fell the most in more than three years after hedge-fund manager David Einhorn asked executives why it has stopped providing information tracking certain groups of its distributors in its filings. …

Chief Financial Officer John DeSimone told Einhorn on the call that when he took over as finance chief in January 2010 he decided to stop breaking out information on distributor groups as it isn’t “valuable information to the business or to the investors.” Herbalife “can easily provide the exact same breakout going forward,” DeSimone told Einhorn.

“That sort of follow up” would be “helpful,” Einhorn said on the call.

How cozy. You can read the questions and, crucially, listen to the skepticism in his voice here. You can see the 20% price drop here. Read more »

China Becomes More Free-Market Than Europe, Sort Of

I guess it’s time for me to stop being amused when China does not-especially-Communist things, but still, I giggled a bit when I saw that China is liberalizing its short-selling rules at around the time that Western Europe is tightening its rules. Because freedom on the march, or whatever, though as David Keohane at FT Alphaville points out, China’s short-selling thingie is pretty solidly in the state-sponsored capitalism camp.

It’s not entirely clear to me why China is liberalizing its rules; the answer seems to be “so that financial institutions can make more money charging hedge funds for stock borrow,” which I guess. Another possible answer could be loosely of the form “China is tired of Americans and Australians making all the money shorting Chinese fraud companies and wants domestic investors to get a crack at that action.” More generally, if you have capital markets beset with fraud, you want to provide incentives to catch that fraud. And if you’re looking to get foreign capital and are worried about embarrassing incidents, it’s nice to have at least some of those incidents taken care of within the family – by Chinese speculators catching Chinese frauds – rather than being exposed to the wider world.

Of course the same incentives exist in Europe, where companies with pretty opaque balance sheets bounce around not telling you whether their balance sheets are filled with fake trees, in the form of Greek bonds, or real trees, in the form of, I don’t know, Swiss francs. Which is why lots of people aren’t that keen on short selling bans on financial stocks in Europe. And yet European regulators seem to disagree. Let’s strain ourselves to justify that a bit shall we?
Read more »

Bloomberg reported today that, back in July, David Einhorn and some other people decided that (1) betting against European sovereign debt was, and would remain, a good idea, but (2) doing it in CDS form was kind of dumb, so (3) they’d switch to doing it in physical form, by borrowing and shorting the debt. Here’s what Einhorn had to say in his July investor letter:

The letter touched on two risks tied to credit swaps on European sovereign debt, including regulators’ attempts to fashion a Greek bailout in a way that prevented the contracts from paying out. The second risk was the possibility that banks that wrote billions of dollars in credit swaps on sovereign debt might not be able to make good on their obligations should a country such as Greece actually default.

Let’s talk about that first reason for a minute because I think it’s sort of illuminating. The problem is that Europe was in July, and is now, and wow that’s depressing, trying to cobble together a “voluntary” debt exchange where holders of Greek debt happily hand it in to Greece and get back a thing with a 50% face value haircut that is also a piece of crap. If you’re a European bank who owns Greek bonds and CDS to hedge them, and you feel pressured to accept that deal, then you feel like the “insurance” you bought on your bonds should “pay out,” I suppose, though that’s all fairly hypothetical. If on the other hand you’re David Einhorn and you bought CDS and then Greece haircuts its debt, you feel like your bet against Greek debt has been vindicated so it should pay out. But it doesn’t, says ISDA, because the exchange was voluntary and there was no “credit event” under the rules governing your CDS. Read more »

If you think a company has a good business and shareholder friendly management, you might consider buying its stock. If, on the other hand, you found a company that you were pretty sure was managed by a bunch of baboons, it might make sense to short its stock, and maybe publicize your conclusions via a PowerPoint presentation and/or an ironic-adorable coffee-foam doodle. In practice, though, there are a whole lot of cases where smart investors light upon companies managed by baboons and buy them anyway.

Weird, huh? Conveniently there’s a neat paper out of NBER today (NBER version here, free version here), by Wharton professors Alex Edmans and Itay Goldstein and Columbia professor Wei Jiang, about how feedback effects can limit the efficiency of stock markets. The idea is that stock prices send a signal to managers about whether or not the company’s projects, in the judgment of the market, have a positive or negative expected NPV. Buying stock because the company is doing good stuff pushes up the stock price and tells managers to keep doing what they’re doing. Shorting stock because the company is putting investor money into paper bags and lighting them on fire pushes down the stock price and tells managers that maybe a change of strategy is in order. But if you short the stock because you think that the lighting-money-on-fire strategy will lead to ruin, you run the risk that managers will take that feedback seriously and put away the lighter fluid, and the stock will go back up. Or as the authors put it:
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  • 12 Aug 2011 at 11:39 AM

Half of Europe Bans Thinking Sad Thoughts About Banks

Short sale bans. Is there anything they can’t do?

Maybe. But does it matter? If your position is just that “speculation” on stocks is the moral equivalent of puppy-murder and should never be profitable, then you just say things like “let’s ban short sales” and don’t worry about the details. You take shorting of bank shares as a personal affront, and your goal is not to have functioning markets but just to prove that you’re tough. And your name might be Jean-Pierre Jouyet:

Jean-Pierre Jouyet, head of the AMF, the French securities regulator, said on Thursday night: “They [investors] wanted to test French resistance. This is our response, as always very determined, and it will be so for all those who want to put us to the test.”

But, as we’re seeing with new short sale bans from France, Italy, Spain and Belgium, this approach sometimes has problems, because most short selling takes place in an actual world where other things happen too. Like:
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So Europe’s going to ban short selling. Or not, whatever. Or, sure, yes. Since last time this happened it did such a great job of propping up equity prices.

But maybe propping up equity prices isn’t the point? It’s not hard to find European (or American) politicians who just think that short selling is immoral and should be punished by public flogging, whatever it does to equity prices. And given the likely explanation for the recent European financials selloff – worries that banks’ balance sheets are stuffed with Italian government debt – maybe there’s something else going on here. Here’s a comment that’s sure to get some regulators’ blood boiling:
Read more »