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The increase in supply is not caused by the final net position. It's in what you see when you look at the market. Suppose there are 100k shares issued. Some tr
by garethm 16y ago
The increase in supply is not caused by the final net position. It's in what you see when you look at the market.
Suppose there are 100k shares issued. Some traders decide to naked short 50k. Actual holders of the shares say, "Oh crap. Half the company is for sale - better dump my shares while I still can." So they put up a total of 75k for sale.
Now 50k of the 75k of actual shares need to be purchased by the people selling short, but if you look at the total number available for purchase at that point, you'll see 125k shares for sale - more than were ever issued.
Of course, this same issue can bite the short sellers in a "short squeeze". Suppose we own 60k of the shares in the company. If we see someone selling 50k, we know they are doing a naked short, and we should buy it. When we do, we will own 110% of the company. Obviously, to make things go to 100%, the short sellers need to buy the remaining 10% of the shares from you. You get to pick the price.
* Edited to add - you can see a recent example of a short squeeze in Volkswagen around October 2008: http://www.reuters.com/article/idUSTRE49R3I920081028 http://www.reuters.com/article/idUSTRE49R3I920081028
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- fexl 16y agoThese are great examples, and your point is well taken. The https://loom.cc/faq https://loom.cc/faq system avoids this sort of nonsense altogether. An asset type such as 2fcb2b81bb96bb51cec88edcb4b9a480 might represent a real underlying asset being traded, but only the true issuer of that asset could create new units of it. Anyone desiring to sell that asset short would have to create a brand new distinct asset type such as 6b17a53d425dbb15f933b98ace93e587. This new asset type would represent just that one individual's liability to pay back the original asset. So the new asset type would in effect be a simple loan contract. With this approach, the supply of the original asset type 2fcb2b81bb96bb51cec88edcb4b9a480 remains completely unaffected, and nobody needs to panic.
- fexl 16y agoI believe this is roughly how shorts are handled on the Lima stock exchange, through the mechanism of "Operaciones del Reporte" -- a peer-to-peer lending system on the exchange. These loans are fully collateralized, keeping the risk extremely low.
- parkan 16y agofexl, loom looks very interesting, and the maintainer (you?) actually touches up on some specific market-based ideas I've been sort of idly kicking around in the FAQ (e.g. phone service contract exchanges). Is there a way to get an invite/sponsorship to play around with the system?
- fexl 16y agoSure. I guess I could post it here, but maybe we could try hooking up at https://bonchat.org/9ff3842f90e90d5e https://bonchat.org/9ff3842f90e90d5e with "katie tiny judd". Or, more conventionally, visit the loom.cc web site and send an email from there (click Contact).
- danielsoneg 16y agoWell, the problem is less that there are more shares of a company for sale than currently exist and more that it can generate high levels of unrealistic downward pressure on a stock. With a normal short sale, there is some balance between the long and short side - that is, you can only short so much before the longs start buying again and stop the downward price movement, and there are only so many people willing to lend stock to short. Once the supply is gone and the price is in balance, you can't continue to short the company and the downward price movement stops, theoretically having incorporated negative market sentiment. With naked short sales, you're removing the supply restriction, making it possible to continue to pressure the stock downward beyond where it should go in a balanced market. This sort of pressure can cause a panic among investors in the company and become a self-fulfilling cycle - once a company's stock is pushed below a certain level, many investors will dump the stock, regardless of the fundamentals of the company. It's not a cheap maneuver, but it's potentially phenomenally profitable for the people committing the short, and it's totally devastating to the company under attack. It also doesn't represent balanced market sentiment, nor the actual value of the company, and the company can be forced to take dramatic measures due to circumstances for which it wasn't to blame. It's a potentially highly destructive practice and banned for a very good reason.
- jamesseda 16y agoMoral equivalent is, If you knew a self employed guy needed to sell his boat to keep his mortgage current, and you bought similar boats and sold them below cost so the guy would go into foreclosure and then you bought his property.
- ewanmcteagle 16y agoThis is not the same. Once a company has sold stock it does not gain money from the ups and downs of the market. If it made agreements contingent on its stock maintaining a particular value then it has chosen a separate risk. A company cannot go out of business because its stock price is low. It can be bought by others but this also does not drive it out of business.
- 16y ago
- cturner 16y agoSuppose there are 100k shares issued. Some traders decide to naked short 50k. Actual holders of the shares say, "Oh crap. Half the company is for sale - better dump my shares while I still can." So they put up a total of 75k for sale. I used to believe that, and wrote to this effect in this forum previously. However, I've since been told that you can find out in Bloomberg how many shares are out short on some exchanges, even if they're naked. Hence, my previous statements suggesting that you could inflate stocks to lower prices are probably incorrect.