In Germany, they came first for the Communists, And I didn’t speak up because I wasn’t a Communist; And then they came for the trade unionists, And I didn’t speak up because I wasn’t a trade unionist; And then they came for the Jews, And I didn’t speak up because I wasn’t a Jew; And then . . . they came for me . . . And by that time there was no one left to speak up.—Martin Niemöller
Any educated individual should understand the essential role that short sellers play in a market economy. Of course, most don’t; and government and its mouthpieces are only too eager to exploit this deficiency in Americans’ education.
William Buckley used to say that he would rather be governed by the first 100 names in the Boston phone directory than by the entire faculty of Harvard University. Well, I don’t wish to be governed by either. Anyone who would believe this “short sellers are to blame” nonsense is not fit to govern; and yes, sadly, the public seems to be eating up this pabulum.
Anyone fit to lead would not be looking for a scapegoat. They would explain with clarity the real truth of how we got into this mess and the sound policies that would lead us out of it. That our leaders are spouting nonsense and the public is buying, says much about where we currently are as a nation—such a search for false, external villains is more worthy of a developing country where ignorance, fear, and superstition are the norm. Recently, in Pakistan—not exactly a bastion of stability and freedom—short sellers were blamed for their stock market bust.
Blaming short sellers is sort of like going to get a root canal and blaming your endodontist for the pain that you are going through. The short seller, just like the endodontist, is simply uncovering—not causing—the preexisting rot.
About the draft Treasury bailout bill that is currently before Congress, Joshua Rosner, a managing director at Graham Fisher (a company that does independent research for institutional investors) was quoted in The New York Times as saying that the bill:
prevents judicial review that could allow the protection of decisions that create false marks, hide prior marks, or could be used to prevent civil or criminal prosecution in situations where a management knowingly provided false marks that aided the growth of this crisis of confidence.
A “false mark” is “using mark-to-market accounting to hide the true value of security, rather than disclose it honestly.” No wonder the government and our failing financial institutions are so intent on blaming short sellers.
Let’s get down to basics. Someone who buys long and someone who sells short have the same goal—to make money. And they can only make money if they are correct about the future prospects of the company they are buying or selling.
The idea that a short seller can make money by spreading false information is absurd. If all the readers of this post formed a secret cabal to spread misinformation about Google so that we could make money by selling short Google, good luck to us. We would lose our money as fast as we could invest it.
The reasons for this are clear. Market forces are far more powerful than a few hundred traders spreading misinformation. And why would a short seller try and make money the hard way? Why not do it the far easier way? Why not uncover information about stocks that are truly overvalued because, for example, the true prospects are being overlooked or the company is committing fraud.
Now, here is a key point: In uncovering this information and then selling the stock short, a short seller would be providing a valuable service to the market. First, information is a precious commodity. Those who lack the information that a short seller has may blindly continued to invest in a hazardous way. Secondly, when the inevitable happens and the overvalued stock begins to fall, a short seller actually breaks the fall in price. How? The only way for a short seller to book their gain is to cover their short position by buying the very stock they shorted.
James Chanos writing in The Wall Street Journal explains why short sellers are vilified and the essential role that they play:
In the U.S., we’ve seen how corporate executives have tried to place the blame for their failures on short sellers instead of on themselves. In the end, short sellers—not management—defended honesty in the pricing of shares by demanding accountability. Short sellers openly warned about the problems at Enron, Tyco, Fannie Mae and Freddie Mac before their meltdowns. And when it comes to investigating corporate fraud, it’s the short sellers who are the detectives, while all too often our regulators practice archaeology.
It is not hard to see where this attack on shorts sellers will lead. As the economy worsens, restrictions on the Internet are surely down the road. After all, politicians will tell us about how much bad information is on the Internet. They will say, think how much more confident we would be about the economy, if we were not bombarded everyday by negative analysis on the Internet. Any restrictions, they will tell us, are temporary; any inconvenience, they will assure us, is a small price to pay to get the economy going again.
The mainstream media, having lost market share to the Internet, will surely agree; as will the academics whose livelihood depends upon the largess of government. Government will surely use an economic crisis to strengthen its position by restricting the flow of information.
Of course, it will not end there. Immigrants will be blamed, even more than they are today, for taking away jobs. There will be pressure for at least token deportations.
And then will come the search for foreign enemies.
What the government can count on is this principle of human nature—while we may disagree about who to blame, frightened human beings are all too willing to agree to find an external cause for their misery. The most ruthless members of government will exploit this weakness in human nature.
When we enter this terrible part of the economic cycle that is yet to come, the search for scapegoats will begin in earnest. And in human history, this search for scapegoats has already produced hundreds of millions of victims.
A fixed pie or a shrinking economy is manna from heaven for demagogic politicians. They can offer solutions that blame external enemies, foreign and domestic, for our collective misery. They can tell some groups that they have too little because other groups have too much. Such politicians will feed off the anger, fear, and despair that a shrinking economic pie produces.
We are in the very early innings of this tired human game. Everywhere on Earth that this game has ever been played, it has ended in tragedy and immense human suffering. The outcome won’t be any different here. There is still time to choose a better way.