

 Wall Street's Naked Swindle - jasonlbaptiste
http://www.rollingstone.com/politics/story/30481512/wall_streets_naked_swindle/print

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mattchew
"Wall Street has turned the economy into a giant asset-stripping scheme, one
whose purpose is to suck the last bits of meat from the carcass of the middle
class . . . an economic drought temporarily left the hyenas . . ."

I can't take this sort of writing seriously in an article like this. It's fine
for an internet rant that is supposed to make me laugh. In an article that is
pretending to be an economic analysis, well, I quit reading.

I did see something about naked short selling. Naked short selling sounds
fraudulent to me, but I'd like to read a intelligent defense of it from
supporters of the practice. Anyone know of one?

~~~
Dilpil
Not too many people will defend naked short selling, it is an illegal scam.

~~~
yummyfajitas
It's not necessarily illegal. Nokia, Nintendo and Tesla all openly do naked
short selling of their products. They call this a "preorder" -- you preorder a
Wii/N900/whatever and they deliver it on or before a fixed date.

It's only illegal when you do it to manipulate a market or if you intend not
to deliver the shares.

~~~
pbhjpbhj
Nintendo may not yet have the Wii, but they have made some and they are in
production.

The difference is that Nintendo can complete your order - if it were a naked
short sell then the seller knows they probably can not genuinely get hold of
the shares that they sold you, it may be impossible, Some other trade may have
had a promise to borrow those shares and may have sold them to some other
buyer.

Nintendo may well actually have stockpiled your Wii already awaiting delivery
(I think this is the most likely position).

~~~
yummyfajitas
Nintendo hopes they can complete your order after they build the wii, and
naked short sellers hope they can complete your order after they buy your
shares.

In the event Nintendo doesn't build the wii, they refund your money. The naked
short seller also needs to pay a large penalty.

Naked short selling is more or less the same as "naked wii selling". That's
why it's only illegal when you are attempting to manipulate the market.

~~~
pbhjpbhj
But the limitations on Nintendo are less than on the NSS (naked short seller),
the NSS can know that they are selling someone else's shares that have already
been borrowed by someone else, indeed they can sell more shares than exist as
they're not actually required to locate the shares before they sell them.

Theoretically Nintendo could sell more than they can ever manufacture, but
they at least are able to manufacture the product at the point at which they
pre-sell it.

The NSS is more like Nintendo now pre-selling a Star Trek holo-deck - they'd
know it's almost certainly not achievable.

------
mattmcknight
It's preposterous to suggest that naked shorts killed Bear and Lehman, as this
article does in some places, despite providing the real reasons in others. The
naked shorts may have profited from it unfairly and driven the share price
down (via the share inflation concept), but the banks were killed by not
having the collateral for their insane leverage (and not getting protection
from the government). Just because the stock price of a company drops, it
doesn't mean it's going out business. This article confuses the sketchy method
used to profit from the collapse with actually causing the collapse in many
places, usually by suggesting that the shorts are motivated to cause the
collapse, but with scant evidence of any connection.

Seriously, Overstock.Com? They're still losing money. The shorts were right.

For the other side of the shorting story, look at what happened everyone
shorting VW in 2008 when Porsche upped their stake to 75%. It briefly became
the highest value company in the world, as every short seller had their lunch
eaten trying to find the few remaining shares to deliver.

~~~
hristov
The article actually mentions the other reasons for collapse of those banks.
But the article makes it clear I think that naked shorts did cause the
collapse as it happened, otherwise it would have happened much slower.

Also naked shorts allowed many people to profit unfairly, by doing something
that is illegal but it is not properly enforced.

Regarding the VW story, were naked shorts even involved in that? I don't think
VW trades in US exchanges and I am not sure whether naked shorts are a factor
in Germany. NAked shorting should be differentiated from ordinary legal
shorting. Legal shorting is not that problematic because there is a natural
limit to it. Theoretically naked shorts can crash any company because they can
flood the market with an enormous amount of shares.

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NathanKP
Wow. This article is very wordy, but it does a tremendous job of explaining
how the stock market is basically completely corrupt. Its a wonder that our
American economic system hasn't collapsed already.

~~~
jsz0
It's not all that bad. Shorting, credit default swaps and all these other ugly
tricks are a comparatively small part of the overall system. The vast majority
of the trading that happens everyday is completely legitimate old school
business. The US economy is also freakishly resilient. We had an almost total
collapse of our credit system last year and while we don't know the full long
term ramifications yet it does appear we're going to make it through it
without too much gloom & doom. It's somewhat of a miracle that we've only seen
a doubling of the unemployment rate and very little (if any?) inflation or
deflation due to all these external forces at work on the market. The end
result for most of us is maybe we couldn't buy that new car we wanted or had
to cancel a vacation.

~~~
nazgulnarsil
the dollar lost a huge amount of purchasing power between 2005-present. prices
just havn't caught up yet. expect CPI inflation to continue to suck for the
next few years.

~~~
jongraehl
I'd think so too, but inflation expectations are actually low (e.g. look at
TIPS yields).

------
brown9-2
One thing I don't get about naked short selling: if I bought shares from a
short seller and it turns out these shares don't actually exist, what happens
to the money I paid to the short seller?

In other words, does the buyer of the phantom shares have no recourse?

~~~
michaelbuckbee
The entity victimized here isn't the buyer who is going short it is the
company that is "falsely" shorted.

An extremely contrived example:

Say a company has a 1000 shares of stock out in the market.

The broker buys 250 of the shares to sell to the person who wants to short the
stock.

So if you were looking at this stock from the outside you'd think: "There are
750 shares where people think the price of the stock is going to go up (or why
else would they have bought it) and there are 250 shares where people are
betting that the price is going to go down (which is how you make money by
going short)".

Note the 750 shares + 250 shorts = 1000 shares

So if someone wanted to short this company on 500 shares, the broker can't
find the extra 250 on the open market so they sell the short positions even
though they don't have a stock to associate against the last 250 (hence they
are "naked").

So you have: 750 shares + 250 actual shorts + 250 naked shorts = 1250
positions in the market on a company that only has issued a 1000 shares.

So now you're an investor and you're trying to guess what the future share
price of a company will be and you have:

Company A with legit shots which you can think of as 750 bets the stock will
go up vs 250 bets the stock will go down.

and

Company B with naked shorts which you can think of as 750 bets the stock will
go up vs 500 bets the stock will go down.

You'd look at the two of these and go: "Gee, there sure are more people in the
world that think Company B's price is going to go down. I'm going to sell my
Company B shares before they really tumble and buy up some of that good
Company A."

So the naked shorts make Company B look less attractive which drives the price
down further (making more money for the short positions).

~~~
Xichekolas
> _So the naked shorts make Company B look less attractive which drives the
> price down further_

It's not even a matter of _attractiveness_ (although false rumors would
definitely fall in that category).

If you have more people trying to buy a stock than those willing to sell (at
the current price), the price will rise until more people are willing to sell
or fewer people are willing to buy.

Likewise, if more people are looking to sell (at the current price) than to
buy, the price will go down until people are either no longer willing to sell,
or more people want to buy.

Naked shorting creates excess supply. You suddenly have A LOT more 'shares'
being sold, without a corresponding increase in buyers.

As such, the share price declines. Couple this with nasty rumors, and the
declining share price doesn't entice any new buyers (which is normally the
case when something gets cheap). As the price caves further, and the rumors
persist, existing owners start to worry, and decide to get out before it gets
worse. Now the downward spiral is in full force. Everyone wants off the
sinking ship.

~~~
rwmj
> As the price caves further, and the rumors persist, existing owners start to
> worry, and decide to get out before it gets worse. Now the downward spiral
> is in full force. Everyone wants off the sinking ship.

Can you explain how the company goes out of business as a result of this?
Suppose the company is basically sound. Through stock manipulation its share
price goes down to 1 cent. But the company continues doing whatever it does
(and can purchase its own shares back at a bargain price to boot).

~~~
Xichekolas
Well, if the company were basically sound, it wouldn't go out of business...
although it'd be mighty ripe for a hostile takeover.

But Bear, Lehman, and numerous small companies that are usually the victim of
this tactic, were leveraged to the gills, and were full of nasty liabilities.
The temporary crisis of confidence caused by a falling stock price led
creditors to start fleeing as well, preventing Bear from rolling over it's
daily debt. As they point out in the article, Bear was highly dependent on
overnight lending at that point.

Also, making money via naked shorting doesn't require the company to die. It
merely requires the share price to fall.

------
wallflower
Summary:

1) Hedge fund wants to short Bears Stearns

2) Hedge fund borrows 1M shares and sells them. Deposits its money with a
Prime Broker.

3) Stock in Bears Stearns falls in price and hedge fund buys back the 1M
shares it shorted (making a profit)

Now, where this gets insane is the shares the hedge fund borrows don't
actually exist (it sells stock it does not have, delivering IOUs to the stock
buyers and by dumping those non-existent shares it depresses the stock price)

> Instead, Wall Street now serves, in the words of one former investment
> executive, as "Lucy to America's Charlie Brown," endlessly creating new
> products to lure the great herd of unwitting investors into whatever tawdry
> greed-bubble is being spun at the moment

~~~
jacquesm
There was a ban on short selling financials for a while to stop this kind of
stuff. Maybe they rescinded it too soon.

<http://www.sec.gov/news/press/2008/2008-211.htm>

~~~
yangyang
What this article is getting at is _naked_ shorting. That ban included
"normal" shorting (borrowing shares first).

~~~
jacquesm
Aye, you're right. Apologies, I read it too fast, missed out on that
completely, silly me it's in the title even.

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protomyth
It is illegal to gamble on the stock price (check some historical articles
about gambling halls that took such bets). I am having a very hard time seeing
how any of the derivatives are not gambling.

~~~
michaelbuckbee
You're at the heart of the issue here. Naked Shorts (because they are NOT
associated with an actual share someplace) are gambling.

------
jdbeast00
What should the layperson read to learn more about the inner-workings of
financial systems? Any good books?

~~~
ig1
I normally recommend The Complete Guide to Capital Markets for Quantitative
Professionals by Alex Kuznetsov (despite the title you don't have to be a
mathmo to read it, anyone with a technical mindset should be fine).

I'd avoid relying upon articles like this one though, from my experience
they're frequently wrong.

I've been a developer on the leading equities analytics software, was lead
developer on the worlds largest credit derivative trade settlement platform,
and now work in currency trading. I don't have a huge in-depth knowledge in
these areas, but I know enough that I can tell most of these articles are
written by people who are completely clueless.

~~~
jhancock
Thanks for the book tip. Now, assuming this article is clueless. It is well
written, but ok, lest say its factually inaccurate. Where is the article that
is accessible and has enough facts right?

~~~
jeromec
FWIW, I think this author is hitting around the nail, even if not on target,
and his emotional style of writing can further bring his credibility into
question. However, I wouldn't say the article is clueless or fictional, far
from it. I found myself agreeing for the most part with another article from
this author about economic bubbles and Goldman Sachs
([http://www.rollingstone.com/politics/story/28816321/the_grea...](http://www.rollingstone.com/politics/story/28816321/the_great_american_bubble_machine/print))
and I'm someone that both predicted and warned of our impending economic
trouble as early as Nov '07 (provable screenshots). I recommend watching Money
as Debt (5 part series so click at each end):
[http://www.youtube.com/watch?v=mIIAvdJvCes&NR=1](http://www.youtube.com/watch?v=mIIAvdJvCes&NR=1)

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jmtame
Overstock.com CEO:

"This really isn't about my company," Byrne says. "I mean, I've made my money.
My initial concern, of course, was with Overstock. But the more I learned
about this, the more my real worry became 'Jesus, what are the implications
for the system?' And given what happened to Bear and Lehman last year, I think
we ended up seeing what some of those implications are."

~~~
jongraehl
Byrne tried to deny his company's real problems by blaming naked shorts.

------
DTrejo
_The new president for whom we all had such high hopes went and hired Michael
Froman, a Citigroup executive who accepted a $2.2 million bonus after he
joined the White House, to serve on his economic transition team — at the same
time the government was giving Citigroup a massive bailout. Then, after
promising to curb the influence of lobbyists, Obama hired a former Goldman
Sachs lobbyist, Mark Patterson, as chief of staff at the Treasury. He hired
another Goldmanite, Gary Gensler, to police the commodities markets. He handed
control of the Treasury and Federal Reserve over to Geithner and Bernanke, a
pair of stooges who spent their whole careers being bellhops for New York
bankers. And on the first anniversary of the collapse of Lehman Brothers, when
he finally came to Wall Street to promote "serious financial reform," his plan
proved to be so completely absent of balls that the share prices of the major
banks soared at the news._

------
haseman
Not a bad article, but he attributed to some giant evil conspiracy by the
banks something that was, in fact, simple economics.

Banks weren't out to swindle people with all those 'new' investment funds,
they were reacting to overwhelming demand from the managers of 80-something
trillion dollars. That overwhelming demand was driven, in part, by the fed
holding the discount window open for so long.

If we remove the author's notion of 'evil' intent on the banks part, for which
there is little to no evidence, and chalk it back to 'incompetence' instead,
the author's article becomes a rehash basic economics and a lot of empty
hyperbole.

For a more dispassionate recap of the debacle, I'd recommend This American
Life's article, the Global Pool of Money.

[http://www.npr.org/templates/story/story.php?storyId=9032768...](http://www.npr.org/templates/story/story.php?storyId=90327686)

------
benreesman
there have always been haves and have-nots, those are the facts of life. but
these guys (read: gs) are laughing their asses off at us. and I'm pretty
pissed off about it.

~~~
jacquesm
The problem is that our whole system is based around rewarding essentially
detrimental behaviour.

We'll be forever wondering what the landscape would have looked like if those
banks had been allowed to collapse.

I personally think that short term we'd have been _much_ worse off, but longer
term quite possibly much better.

------
jackfoxy
There are too many powerful people who would have had near real-time knowledge
of the March 11 meeting, the insight to connect the dots, and the means to
cover their tracks. I'm guessing it was a consortium that made the bet on
Bear, thus spreading around the protection. We'll never know.

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tlb
He seems to argue both that the fall of Bear Stearns was inevitable, and that
it's impossible that a smart outsider could simply have figured that out and
bet against them, therefore the naked short must be due to insider trading.
You can't have both.

~~~
DTrejo
From what I understood, he said that insiders instigated the fall of Bear
Stearns, and smart outsiders joined in to finish them off.

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chrischen
If there really are that many holes in the American economic system, then it's
not unlikely that's where terrorists would strike next, since America is
physically more robust than its other areas like the economy.

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bluedanieru
"How about bonds? "Naked short-selling of stocks is nothing compared to what
goes on in the bond market," says Trimbath, the former DTC staffer. Indeed,
the practice of selling bonds without delivering them is so rampant it has
even infected the market for U.S. Treasury notes. That's right — Wall Street
has actually been brazen enough to counterfeit the debt of the United States
government right under the eyes of regulators, in the middle of a historic
series of government bailouts! In fact, the amount of failed trades in
Treasury bonds — the equivalent of "phantom" stocks — has doubled since 2007.
In a single week last July, some $250 billion worth of U.S. Treasury bonds
were sold and not delivered."

That passage is a little alarming. A run on US government debt could be
triggered by American financial firms themselves.

------
sielskr
That dispassionate and nonpartisan authority on our financial system, Rolling
Stone Magazine.

