Reply #41: Bring On the Bears [View All]

[54anickel]

http://www.nytimes.com/2006/10/06/opinion/06sauer.html?_r=1&oref=slogin

SHORT sellers occupy a position in the stock market like that of predators in nature: necessary but unloved. Corporations, which like to see their stock always rising, despise these traders, who borrow shares and sell them in the expectation that the price will fall soon and they’ll make a profit. There are signs, however, that these vilified traders might be coming into a measure of respect for the critical balance they provide in a market frequently dominated by the puffery of companies and sell-side analysts.

The short sellers’ skeptical scrutiny of companies they feel are overpriced has led them to uncover many of the major financial frauds of recent years. Yet they continue to be burdened by a regulatory scrutiny of their own actions that springs more from rumors than fact. In the 1930’s, short selling was hobbled by restrictions intended to prevent the “bear raids” many thought then (but few think now) underlay the market collapse of 1929. These included the “uptick rule,” which prohibits short sales when the price of a stock is in decline.

In an unusual (and laudable) effort to measure whether a long-lived regulation actually works, the Securities and Exchange Commission recently completed a pilot program to suspend the uptick rule for a third of the stocks on the Russell 3000 index and compare their performance to stocks still subject to the rule.

At a meeting of prominent economists held by the commission last month, consensus held that price restrictions on short selling were a regulatory anachronism of no benefit to the market. Stocks freed from the uptick rule had shown no greater vulnerability to momentum selling than the control group. A few panelists, in fact, uttered the heresy that bear raids are now so uncommon that they no longer need be of concern to regulators.

No such view was expressed, however, regarding the flip side of the bear raid: the “pump and dump,” a scheme in which someone promotes a worthless stock he owns, then sells it as gullible investors fall for the promotion. Panelists noted that these schemes remain commonplace, particularly among small-cap stocks, with fax and spam e-mail messages joining more traditional methods to tout toxic stocks.

They also suggested that the first line of defense against such schemes has not been the S.E.C., which acts slowly when it acts at all, but rather the much disdained short seller. By putting their money where their mouths are, short sellers are the only market participants with an incentive to deflate bubbles and inject pessimistic information into the market.

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And THIS is the game they want you to invest wager your retirement fund.