Short Seller Battle Royale

I’m not sure if it’s something in the air, but there’s been quite the wave of “twitter fights” recently. A heated conversation between John Hempton and “Infitialis”, seemed like yet another frivolous fight. If you read through the conversation carefully, however, you get a rare glimpse into some of the philosophical differences of opinion that exist among certain short sellers :

My Take

I believe that these discussions are healthy for markets, if you can look past the personal insults. The above conversation raises some valid points and questions. I for one am not in complete agreement with either Mr. Hempton or Mr./Mrs. Infitialis.

I personally favor freer, lower barriers-to-entry markets  ( for the purpose of going public, and raising capital). As Americans, we are blessed with the best market system in the world (or in Churchillian terms, the “least worst”). It is imperfect, it has its flaws, but boy, the financial market is definitely one of our major competitive advantages. As an investor, I would like to see more companies go public so I have more options.

HOWEVER, I also believe in tighter and far more frequent enforcement actions. The number of fraud/accounting-related SEC enforcement actions currently is pathetically low (I believe at a 10-15 year low). The good news is the SEC is very aware of this, and has signaled its desire to do something about it.

I believe that greater freedom and greater enforcement in our financial markets will help unleash the positive consequences that free market systems tend to unleash (that is, more efficient and effective allocation of capital, greater competition/lower prices for consumers, and innovation to expand the possibilities for the real economy) while keeping it honest, and worthy of trust.

Regulators cannot regulate the human heart, but perhaps they can be better equipped to respond more quickly (and frequently) than they do so now (perhaps the SEC needs to be empowered with some criminal enforcement powers, and more staff ).

Questions for John Hempton 

  1.  You claim that you ” wake up every morning and pray for incompetent regulators” yet don’t you want competent regulators who are able and willing to take swift enforcement action against alleged fraudsters? Stock halts, de-listings, and other enforcement actions tend to be favorable for short sellers.
  2. “It would be very bad for my business if stock fraud were properly punished. Then there would be less of it.” Is this statement necessarily true? Take for example: suppose the supply of product coming to market simply exceeded the ability of  market participants and regulators to analyze them (and for the latter to take action)? Wouldn’t that create an environment where promising short opportunities would abound, even with competent regulators?

Questions for Infitialis 

  1. Doesn’t your success and the track record you tout (100% hit rate…or otherwise) depend on the existence of the very microcap frauds you propose could/should be banned? Wouldn’t you not exist, and your track record not exist, if it weren’t for these stock promotes?
  2. Rather than suggesting these items shown here, , why not propose changes to enforcement ? For example, the tangible equity requirement you propose seems anti-capitalist, and a bit arbitrary. Note that many medium/large cap companies have negative tangible equity. What do you make of these real companies, with very negative tangible equity?
  3. Can you explain how your proposed “4 simple rules” could eliminate up to 99% of all Microcap fraud? Doesn’t the history of fraud show that it is a game of adaptation? And aren’t microcap frauds largely successful due to the many enablers who purposefully (but lawfully) buy into them… no law will change their behavior. So isn’t microcap fraud partly inescapable, so long as greed and ignorance exist?

“The greatest victory is the one with least bloodshed” - the Art of War

— updated June 19, 2013 —

The Prequel

The quarrel between @Investorslive and @Infitialis_ shown below is a much more serious matter compared to the Hempton vs. Infitialis kerfuffle:

4 Responses to Short Seller Battle Royale

  1. I really respect Hempton, both his ideas, his thought process outlined in his blog and once when I spoke with him.

    Frankly his comments tonight seems out of place with what I’ve read him say in the past. Not to speak for him, but at many other times he has railed at the lack of good enforcement on various issues and advocated for more diligent markets (or at least been conflicted, case specific and morally torn). Feels like this was more of a heat of the moment back and forth.

    Agreed that enforcement a net positive for short sellers, as they will still always be first to the scene even if SEC had a big budget and was more aggressive and preemptive.

    For one, I think the SEC needs to shut down and take an aggressive look at every company that gets delisted from NYSE/NASDAQ. It’s probably too much to expect regulators to be preventive but they could do a much better job at minimizing the damage.

    Frequently in the case of these delisted zombies, they remains and people continue to get suckered. The shenanigans with Chinese RTOs was an embarrassment to the US markets and regulators as it long become clear. CMEDY and ZST for example should have been halted and removed from DTC (CMEDY is still not removed and borrows are being paid). Or even STP today as a more mainstream recent example.

    I think those kinds of companies are more of the issue, ones that used to be taken seriously. The Jamming Javas and Great Wall Builders are casinos from the beginning to the end and penny stock speculators deserve what they get. As you say LST there are many enablers and most of the “suckers” I believe understand to varying extents that they are not buying solid profitable businesses.

    • Harfang,

      You stated “Frankly his comments tonight seems out of place with what I’ve read him say in the past.”

      I’m not so sure… his tone/language certainly differed from his usual writing style. But in substance, I believe he has been quite consistent. I believe he’s blogged about this before. So maybe what you observed (rightfully) is the different tone ?

      Yeah, I mean, I just try to look at this the way a scientist would look at things. First observe and gather facts. Then, try to see what coincidental relationships (e.g. correlations) exist… and then try to figure out cause and effect. It just seems like you need many more enablers to wreak as much havoc as some of these frauds do, than masterminds. And you can never control that…unless you ban markets.

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