Are Market Manipulators Destroying Innovation?

...and selling us down the river?

Here is an excellent overview of a situation getting almost no media coverage, but which down the road will surely impact our global competitiveness. If you have any money invested in small and medium-sized public companies, you ought to read this.

Are the crooks operating with impunity? Or is the SEC doing everything it can to create a level playing field? Or are we just better off going down to A.C. or Vegas?

The equities markets are a bit different [than casinos]. And yet there are similarities. There is the possibility that one can get wealthy through good fortune, or at least without having to go to work. There is a marketing effort that encourages us to put our money onto the gaming table, that it's the prudent thing to do - to be an "investor." There are pundits and talking heads and media personalities and analysts and advisors and brokers and fund managers and facilitators at every level to enliven and reinforce our decision to invest. There are plentiful studies that advance the wisdom that having money in the market makes good sense.

We have a regulatory net that is supposed to police the playing field, and we are told with regularity that they are doing so with diligence. We have the tacit imprimatur that all is well at a macro level, and that we can buy a piece of a company, invest in its future, with an assurance that criminals cannot simply steal our money with impunity.

It seems hundreds of small public companies, over the past 5 years or so, appear to have been getting hammered by organized groups, such as offshore hedge funds, short selling them into oblivion. There are many facets to this complicated story, but the bottom line is this - possible future Genentechs and Microsofts, start-up companies, who go public seeking capitalization to commercialize new intellectual properties and innovations run the risk of being destroyed before getting anywhere. Why? There is oodles of money to be made in manipulating and shorting them to death.

So here we are. Nation-state sized dollars are being used to short companies, some of which are no doubt scams and shams, but the majority of which are simply vulnerable due to their stage in the development cycle. Abundant evidence exists to support the theory that a substantial amount of illegal short selling is being conducted in a strategic manner, to destroy smaller public companies. Links between the media, class action attorneys, regulators, analysts, market participants, banks, politicians and the phenomenally wealthy hedge funds are easy to spot in the recurring attacks containing all the same elements and players.

Where are the regulators? They're pretending this situation doesn't exist. Meanwhile one of America's genuine strengths - its intellectual capital - is being stifled. Is this another example of the walmartization of our economy?

The business of serial-killing companies in order to benefit from the decline in their stock price has become a mainstream industry, and there seems to be no appetite from the regulators to stop it - the extent of the problem is likely so large that a systemic collapse could be in the offing were all facts known. Hence a push to ensure opacity in a system that should be transparent, and a breezy desire to "just put things behind us and move forward" by our regulators. If they had been doing their job the current state of affairs would have been impossible to arrive at, and they are eager to avoid examination of their collective failings.

Disclosure: I still hold some shares in a company that appears to have been victimized by these organized criminals. I just want to know what the hell really happened.

•  Goddamn

  I'm sorry it happened to the company you invested it.

  It sound to me like the greedy get ever more greedy, so much so they'll screw themselves ROYALLY in the long term.

  Oh wait, what else is new? :(

  by lynne1 on Mon Apr 25, 2005 at 12:24:27 PM PDT

•  Vegas - Hedge Fund connection

  http://www.gambletribune.org/article649.html

  by 49blue on Mon Apr 25, 2005 at 12:32:24 PM PDT

  •  fascinating n/t

    by mediaprisoner on Mon Apr 25, 2005 at 01:07:47 PM PDT

•  Crime pays.

  As long as corporate performance is measured by share prices, and share prices are subject to securities-industry intrigue, innovation will take second place to "relationship building, and cueing the "liquidity event" will always take priority over operating profit.

  They are indeed an organized criminal community,  but our so-called "war on crime" is designed only to make the United States a safe place for the theft of wealth. The Bankers' Millenium will be remembered as a time of unprecedented criminality.

  You are supposed to respond by saying, "Now I see how the game is played. How do I get in?" The people in this game simply cannot imagine the motives of innovators, even as they mouth the words.

  by macdust on Mon Apr 25, 2005 at 12:44:40 PM PDT

•  Maybe it's just me...

  ...but if someone overshorts a stock, then they're at the mercy of whoever can sell them the cover position.

  Here's how it works --

  Big Player A short sells 10,000 shares of a company with only 100,000 shares outstanding.

  This sends a signal to the market that the stock is going down, on account Big A is a market mover.

  Other players, including Big Players B and C, hop in with 10,000 short shares each. Now the stock is on a serious skid.

  At this point, Players  D and E start buying up the oversold stocks -- 15,000 shares each.

  Nobody else is selling, on account the majority owners (the founders ) hold most of the remaining 70,000 shares.

  Now comes the time to settle. Big A, B and C want to cash out while the market is down -- but now they can't -- Players D and E don't want to sell just yet, on account they know that A, B and C want to cover their short positions.

  The company founders are giggling on the sidelines; instead of going down for the day, their share price is actually up.

  It's about to get much better; Big A realizes he's burned and buys out at a $5 premium per share from Big D; he lives to fight another day.

  Big B buys half her cover from Big D at a $5/share premium, then waits for Big E's offer -- it's a $10/share premium, take it or...sorry, it's a bear squeeze -- take it.

  She shrugs, and pays up.

  Now it's Big C's turn; he has to buy from Big E -- and there's just one problem: Big E hates Big C's guts. He has no intention of selling.

  The price soars to $20/share before one of the company founders blinks and bails Big C out.

  Big E sells right afterward at $21/share.

  The company, now well-capitalized, goes on the develop longevity serum, people start living 300 years, take a long view towards their planet, and not only the Earth but the company is saved.

  pause

  Well...it could happen that way.

  by cskendrick on Mon Apr 25, 2005 at 12:50:13 PM PDT

•  I believe this is a huge problem

  Not just in the area of stock market sabotage, but generally in the country.  Creativity has become the subject of a full fledged attack by the Republican party and their entrenched corporate donors.

  Government science programs have been stifled by the ideological needs of the right wing to such a degree that original research from EPA, the Department of the Interior, NASA, and many other agencies must absolutely be taken with a grain of salt.  Cuts to funding for NIH are deepening, and many of these are taking an ideological cast as well.  And we all know about the restrictions on biotechnology research, most famously stem cells.  Meanwhile, the number and size of grants for social science and artistic research are plummeting as well.  Alongside this assault, funding for science education programs is dropping quickly, meaning the number of American researchers (and foreign researchers coming to America) is declining rapidly.

  On top of this, Congress and the courts are conspiring to absolutely limit innovation to large corporate divisions.  The bankruptcy bill makes taking the risk to start a new business incredibly foolish.  The recent Supreme Court decision to extend copyrights, and laws like the Digital Millenium Copyright Act make new interpretations of established artforms a crime.

  The type of skullduggery you're talking about is the last straw here.  This is just corporations ending the competitive aspect of the free market because it's easier to crush opposition than compete with it.  Consumers lose in that situation.  And America loses b/c we don't get the positive results of innovation.

  by ChicagoDem on Mon Apr 25, 2005 at 12:50:43 PM PDT

  •  A working theory of mine

    The Republicans want to stop all forms of progress because stasis, right now, locks in American dominance, and their dominance of America.

    That it will break the back of everything worthy in the word American doesn't seem to concern them much.

    by cskendrick on Mon Apr 25, 2005 at 01:02:23 PM PDT

•  Bubble, bubble, toil and trouble

  You are onto something.  You can tell where disinvestment is going to occur by the signals the business press send out.

  The Telecom/IT collapse of 1999-2000 had exactly the character that you describe.  Yes, a lot of those companies were fluffy and were using too much creative accounting, but a lot of other good and innovative companies got trampled underfoot in the scramble.

  Friedman whose analysis is bogus but can come up with neat terminology calls these guys "The Herd".  Groupthink stampeded by manipulation of markets and media reporting.

  by TarheelDem on Mon Apr 25, 2005 at 01:02:26 PM PDT

•  Where to begin?

  I work for an investment management firm, supporting equity trading, compliance, and fund accounting and am a liaison between banks and brokers with whom the traders execute orders on mutual funds.  I execute foreign exchange transactions, settle equity and fixed income trades (no derivatives), do the business analysis on our back-office procedures and ensure our Custody and Settlements Department meets swift ISO15022 standards for all tradeable, automated security type executions.

  This article, though I think it does highlight some important issues, is one of the worst-written pieces on corporate malfeasance I've ever read.  

  The blogger does a terrible job differentiating between market manipulation done by industry competitors, price gouging done by investment managers/traders, and accusing the SEC of looking the other way at any random allegation of market fixing.

  If the writer is aware of complaints filed with the SEC, which they have done nothing to investigate, then he should detail them in full.  If he is aware of "hundreds" of public companies whose share price is being gouged by competitors out to kill smaller companies, he should detail that in full.

  He gives no specifics whatsoever.

  I can't speak for EVERY company, but mine, a mid-sized global investment manager, is EXTREMELY above board with all our transactions.  

  It's been a long time since I've had to pass licensing exams, but I don't think you can short IPOs.  There are very stringent rules in effect that the SEC DOES monitor - it's too bad Bushco doesn't appropriately FUND the SEC.  The other Self Regulatory Organizations (SROs) have their own guidelines, as do the individual exchanges, both US and foreign.

  The notion that innovation is getting killed is absurd.  If anything, larger companies are looking to corner markets and purchase a controlling interest in smaller "innovative" companies (I assume the author is referring to tech/pharmaceutical/energy companies) to continue the R&D without having to compete with those companies.

  Also, many people are VALUE investors - they're looking for stable income with moderate growth.  To assume that all goals of investment managers on the whole are to manipulate the market is absurd, because it's against the goals of the fund as listed in the prospectus.  Any portfolio manager specifically trading to create investment objectives other than those listed in the prospectus would be in some serious trouble with not on the Board of Directors of the investment management company for which he/she works, but could be subject to serious financial penalties.  I mean, geez, compliance departments are whole groups of people set up to monitor this stuff.  The company itself could be fined by the SEC and certain PMs restricted from trading completely.

  There are MANY safeguards in place to ensure ethical compliance with government regulations, like the Investment company Act of 1940 and the 1933-34 acts.  In fact, since the Patriot Act - and I'm no fan of the privacy invasion points within it - investment management firms and broker-dealers have been hirirng lawyers left and right to ensure they and their registered/access-person employees meet certain standards and sign non-disclosure and ethics agreements.

  Do people cheat?  Yes.  They can get away with it because the regulatory agencies themselves don't have nearly enough staff to monitor every transaction of every company.  But that's the significance of appropriately funding government regulatory agencies, as well as requiring repeat internal AND external audits and having surprise visits from the SEC.

  For whatever forces exist to drive prices down, there are other investors looking to drive stock prices up.  And to assume that stock price is primarily controlled by buy/sale activity on any one day, or over a specific period of time is inaccurate.  There are MANY factors which affect stock price - most of which relate to the company's balance sheet, growth and quarterly performance/earnings forecasts.  There are lots of individual and institutional investors out there who are NOT trying to manipulate the market, and are making educated guesses based on public information (not insider info) as to which direction a stock price will go, and appropriately buy/sell shares or buy/write calls or puts, if you're talking about options trading.

  If the author of the article REALLY wanted to do something about such rampant corporate malfeasance, he'd actually SUGGEST some ways in which we could better protect and uphold ethical standards for ALL investors.  He suggested nothing, other than the very generic "let's make more laws and regulations".

  The government has, very recently, enacted new laws regarding corporate governance.  My personal favorite - no more than 75% of a Board of Directors may be made up of company executives.  It's a good step to reducing conflicts of interest between responsibilities to the company, and responsibilities to shareholders.

  Another one could be to change how so many corporate officers are given such large stock option "sweeteners" to their salaries.  How about mandating that all portfolio managers be registered members of AIMR or have at least a CFA Level I designation.

  Or how about cutting the huge tax break to corporations - all dividend income is 100% tax free....  Or maybe strengthening anti-trust laws.

  I think the ethics of business as a whole - and government officials - really needs to be addressed in the mainstream.  In fact, one of the major reasons why I'm against the privatization of social security is because of the existing conflicts of interest between government and corporations.  Overall, people need to think of themselves more as citizens than investors, but this article - and I don't know anything about its author - does a shabby job highlighting and detailing some of the real problems facing your average investor today.

  by deep6 on Mon Apr 25, 2005 at 01:41:39 PM PDT

  •  Most of the complaints come from scam co's

    
    I have to agree strongly with deep6. The short-selling "crisis" is 99% crap and the notion that innovation is being stifled by short sellers is 100% crap.

    Let me explain.

    I've spent a lot of time over the past 7 years on stock message boards. Prior to that, I spent a dozen years analyzing (for a consulting firm, not a brokerage firm) new technologies and writing reports about the likely timing, nature, and degree of the impact of development of those technologies. In the process, I belive that I've developed a pretty good B.S. detector.

    I've done extensive message board posting on perhaps a half-dozen companies that were scamming their shareholders (if my time was endless, I could have done it with literally hundreds). They are now out of business. I can't take credit for putting them out of business--economics did that--but I do take credit for giving investors information that would help them reach the decision to get out of the investment.

    I have an unwritten list of 15-20 red flags that alert me very quickly to the possibility of a scam. One of the items on the list is company management that complains about short sellers. I would NEVER invest in a company where management made such complaints. It is almost always an indicator of two big problems: (1) management is paying too much attention to share prices and not enough to running the business, and (2) management prefers to blame others for the company's problems. Too often, it is also an indicator of a third problem: management and/or allies of management are running a scam.

    I'm currently posting on a board for a stock where the bullish "pumpers" are complaining about short selling and posting links about the problem of "naked" shorting (selling shares short without bothering even to borrow shares to sell).

    The evidence is overwhelming that the people making the posts are in fact the same people who are selling the shares short. There are a group of promoters who brought the stock public and who are receiving scheduled batches of millions of shares for 1/10th or 1/100th of a cent per share. Rather than try and dump all the shares at one time as soon as they are received, the promoters appear to be steadily selling the shares short before they even receive the shares. They can then "cover" their short sales with the ultra-cheap shares that they receive per the schedule.

    The "Pink Sheets" and "Bulletin Board" stock listings are chock full of companies that use the excuse of being an innovative company in the development stage to justify reporting miniscule revenues and huge losses. The majority of these stocks are either outright scams or scams in the sense that even the management doesn't believe that the company has any real hope of success.

    I consider those companies to be the biggest drain on innovation, because they suck in investment dollars from people who actually do want to invest in innovative ideas.

    by Ottnott on Mon Apr 25, 2005 at 02:37:28 PM PDT