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Surprised and disappointed the most obvious and worst problem isn't even mentioned: retirement holdings are lent out (for a small fee) to short sellers, a direc

by bedobi 5y ago

Surprised and disappointed the most obvious and worst problem isn't even mentioned: retirement holdings are lent out (for a small fee) to short sellers, a direct and blatant conflict of interest, and there's nothing the supposed beneficiary can do about it. This should be illegal but no one cares.

peterbonney 5y ago
Can you explain the conflict of interest?
- idkidkidkidk 5y ago
  I assume author means, people who invest in mutual funds/retirement accounts want the value to go up, thats why they bought shares. Author is saying that then the money from share purchase is then lent to short sellers who short the stocks included in those retirement accounts/mutual funds which works to lower the price of the value of those shares. I think when it comes to preventing money from being made available to short sellers probably wouldn't improve the financial system long-term, but i see how this could be interpreted as a frustrating facet of our current system.
  - chii 5y ago
    > lower the price of the value of those shares short selling doesn't lower the price of a stock. Short selling is one of the actions which may reveal the true price, which may be lower than the current market price. Or the short seller may be wrong, in which case they paid a fee for a loss (or at best, for nothing in return).
- bedobi 5y ago
  As a holder of shares in a company for retirement, why would I want to in any way enable short sellers to artificially drive the price of those shares into the ground, or even bankrupt the company? Like yes there is a tiny fee to compensate but it's no where near proportional to the damage done. Only a small portion of shares of any given company are ever actually available to trade. So even a small number of stocks sold short can overwhelm the market and drive the price down far, far more than the fees collected make up for. Even if the short sellers aren't successful in driving down the price, the stock is still not gaining as much as it otherwise would have due to the added selling pressure that otherwise wouldn't have been there.
  - GlennS 5y ago
    > no where near proportional to the damage done Do short sellers really do that much damage? Surely they're just part of the price-discovery mechanism for a stock? If you're holding a stock for the long term, what do you care if its price is temporarily a bit low? Just wait it out.
    - AnthonyMouse 5y ago
      Companies are often in a temporarily precarious position. Suppose a tsunami destroys your factory and the insurance company weasels out of paying the claim. Now you've got an otherwise-profitable business with knowledge of the industry and an existing supply chain, but you have to raise capital to build a new factory or you're out of business. An obvious way to raise the money is to issue some new shares. But if short sellers lower the share price right at the moment you're trying to raise the money, you may not be able to raise enough to build a new factory. Then the company goes bankrupt, the long-term investors lose everything and the short sellers make a lot of money. Companies in precarious positions where the ability to raise capital to continue operating could be make or break are the sort that tend to attract heavy interest from short sellers.
      - pyuser583 5y ago
        Ok … but short selling on a company with strong fundamentals, but a short term cash flow problem is dumb. It’s a good way to lose tons of money.
        AnthonyMouse 5y ago
        Only if the short term cash flow problem doesn't bankrupt them. Which temporarily cratering the stock price right at that moment can cause. Where this happens is under conditions of uncertainty. Your factory is gone. It will be a year before you can build another one even if you can raise the money. Will your customers still be there by then? Maybe a 50/50 chance. If you rebuild the factory and they are, you're back in business, and the returns would more than justify the cost. If they're not, you rebuild the factory and still go out of business because the customers couldn't wait that long. So once you account for the risk, the expected value of investing in the rebuild is effectively at the market rate of return. Until the short sellers lower the share price. Then the company would have to issue more shares and find more investors each willing to invest despite being more diluted. Can't raise the money, no factory, failure immediately instead of a 50% chance of success in time.
Lazare 5y ago
I couldn't possibly disagree more. It's not a problem, it has no real impact, what impact it has is likely net positive, it is not a conflict of interest, and it's impossible to form a coherent argument for why it should be illegal. There's a reason nobody who understands what's going on cares.
- OnlineGladiator 5y ago
  > There's a reason nobody who understands what's going on cares. Wow, what a condescending finish. I care and I understand. If I invest in a company, I don't want my shares to be lent out for the purpose of lowering the price of my investment. I would never buy shares on margin for investments I really care about, because it's obviously a conflict of interest. Why would I want people to be able to work against my investment? You can't possibly understand and argue that short sellers have no incentive to tank the price, and that's what they are betting on happening. And you can't possibly understand and argue that people that invest in a company have no incentive for the price to go up, and that's what they are betting on happening. You don't see a conflict there? I'm not saying it should necessarily be illegal, but why not make it an option to opt-out for people who care?
  - skybrian 5y ago
    You forget that to own a stock you have to buy it first, and it's not in your interest if the stock is overpriced.
    - OnlineGladiator 5y ago
      I'm not saying short selling should be illegal. I genuinely think short selling is a critical component to a healthy market. I'm saying being forced to loan out all of your shares in a retirement fund with no option of opting-out is the problem. You should have the option to buy on margin or not. I consider this one of the most important factors when deciding which broker you want to use, and it's one of the many things Robinhood purposefully tries to drive their users away from because they make less money by making this transparent. If somebody profits by keeping something a secret from you, you should ask yourself why.
sigstoat 5y ago
did you know that the compensation for some of these index managers is tied to the returns of the fund? so if lending shares out hurt the fund, they'd make less money. what would be their motivation for harming their compensation?
- bedobi 5y ago
  That's a good question, ask them? If the borrow fee was enough to compensate the stock owners for the damage done by the short sellers, why would any short seller ever pay to borrow the stocks to sell them short?
  - sigstoat 5y ago
    > That's a good question, ask them? you're making wild claims, and cannot offer a coherent theory that explains what you think is happening. not a good look. > If the borrow fee was enough to compensate the stock owners for the damage done by the short sellers, why would any short seller ever pay to borrow the stocks to sell them short? for the same reason that heaping piles of shares of stock trade hands every single day, at a price agreed upon by both parties.
    - bedobi 5y ago
      That stocks in retirement accounts are lent out to short sellers against a small fee is not a wild claim? It's ubiquitous and routine. And no, it's not at a price agreed upon by both parties. The owners of the stocks have zero say in any of it. Even if they did, most people aren't able to make an informed decision that allowing their stocks to be lent out to short sellers for a small fee is in their interest. (and, despite creative rhetoric to the contrary, there's no world in which doing so is in their best interest)
  - webinvest 5y ago
    Philosophically, that’s a good point. My only rebuttal is that the stock market isn’t efficient. Options market predictions for future prices are oftentimes way off (like with AMD last year) and stocks will go up or down without change to a company’s fundamentals or without a new earnings report. If I could lend out any shares I own (and shares that I plan on owning for longer than the short seller will) for 1% interest per month to short sellers, I would! I certainly wouldn’t lend out any share for 2% per year or less. There’s a balance to be struck. This might only be 0-2 stocks in your portfolio at any given time. I also wouldn’t ever lend out dividend paying stocks (until the tax laws are updated) because the stock lender receives payment “in lieu of dividend”. It can’t ever be a qualified dividend so instead of paying 15% qualified dividends tax, you pay about 28% earned income tax on it instead. If I was not earning income for shares I was lending out, the optimal play is to never lend out shares for any reason because you’re right it’s a direct conflict of interest.
perryizgr8 5y ago
> there's nothing the supposed beneficiary can do about it Can't they withdraw their money and use some other instrument? Or just keep it in a savings account? Or just bury it in their backyard?
decompiled_dev 5y ago
The way I see it is that the market participants job is to allocate capital effectively, not function as a savings account. Shorting provides incentive to sniff our frauds and enhances yields for those with fixed liabilities in a low interest rate environment. Furthermore, not all short sellers are evil. While some short sellers may have ill intentions, short sell have researched and exposed many fraudulent companies effectively embezzling funds. I don't agree short selling should be banned, but I agree the already illegal practice of naked shorting should be enforced in a more meaningful manner. If people can lend out dollars for interest, than I think lending out shares should be allowed as well. If banks can lend out deposits and collect fees that seems to be the same thing as lending out equities as well. Do you see some delineation between these practices? I agree shares shouldn't be lent out the holder permission, but if you want a consistent amount of money every month, no matter what, then those small fees really add up. This is what most retirement funds are obligated to provide, and they can no longer get it in government debt. This might also be a perspective thing. I have a very different view on the function of markets than you seem to have. A market primary job is to allocate resources effectively, not provide entitlements to passive participants. The market doesn't exist to pump what ever positions you might be long, its meant to reward effective use of capital while preventing ineffective use.
- bedobi 5y ago
  I don't disagree the market and price discovery can benefit from shorting. But here we're talking about retirement accounts that are already long the stocks in question. There's no world in which the owners of those stocks benefit from them being lent out to short sellers, despite creative rhetoric to the contrary.

by bedobi 5y ago

peterbonney 5y ago

Can you explain the conflict of interest?

idkidkidkidk 5y ago
I assume author means, people who invest in mutual funds/retirement accounts want the value to go up, thats why they bought shares. Author is saying that then the money from share purchase is then lent to short sellers who short the stocks included in those retirement accounts/mutual funds which works to lower the price of the value of those shares. I think when it comes to preventing money from being made available to short sellers probably wouldn't improve the financial system long-term, but i see how this could be interpreted as a frustrating facet of our current system.
- chii 5y ago
  > lower the price of the value of those shares short selling doesn't lower the price of a stock. Short selling is one of the actions which may reveal the true price, which may be lower than the current market price. Or the short seller may be wrong, in which case they paid a fee for a loss (or at best, for nothing in return).
bedobi 5y ago
As a holder of shares in a company for retirement, why would I want to in any way enable short sellers to artificially drive the price of those shares into the ground, or even bankrupt the company? Like yes there is a tiny fee to compensate but it's no where near proportional to the damage done. Only a small portion of shares of any given company are ever actually available to trade. So even a small number of stocks sold short can overwhelm the market and drive the price down far, far more than the fees collected make up for. Even if the short sellers aren't successful in driving down the price, the stock is still not gaining as much as it otherwise would have due to the added selling pressure that otherwise wouldn't have been there.
- GlennS 5y ago
  > no where near proportional to the damage done Do short sellers really do that much damage? Surely they're just part of the price-discovery mechanism for a stock? If you're holding a stock for the long term, what do you care if its price is temporarily a bit low? Just wait it out.
  - AnthonyMouse 5y ago
    Companies are often in a temporarily precarious position. Suppose a tsunami destroys your factory and the insurance company weasels out of paying the claim. Now you've got an otherwise-profitable business with knowledge of the industry and an existing supply chain, but you have to raise capital to build a new factory or you're out of business. An obvious way to raise the money is to issue some new shares. But if short sellers lower the share price right at the moment you're trying to raise the money, you may not be able to raise enough to build a new factory. Then the company goes bankrupt, the long-term investors lose everything and the short sellers make a lot of money. Companies in precarious positions where the ability to raise capital to continue operating could be make or break are the sort that tend to attract heavy interest from short sellers.
    - pyuser583 5y ago
      Ok … but short selling on a company with strong fundamentals, but a short term cash flow problem is dumb. It’s a good way to lose tons of money.
      - AnthonyMouse 5y ago
        Only if the short term cash flow problem doesn't bankrupt them. Which temporarily cratering the stock price right at that moment can cause. Where this happens is under conditions of uncertainty. Your factory is gone. It will be a year before you can build another one even if you can raise the money. Will your customers still be there by then? Maybe a 50/50 chance. If you rebuild the factory and they are, you're back in business, and the returns would more than justify the cost. If they're not, you rebuild the factory and still go out of business because the customers couldn't wait that long. So once you account for the risk, the expected value of investing in the rebuild is effectively at the market rate of return. Until the short sellers lower the share price. Then the company would have to issue more shares and find more investors each willing to invest despite being more diluted. Can't raise the money, no factory, failure immediately instead of a 50% chance of success in time.

Lazare 5y ago

I couldn't possibly disagree more. It's not a problem, it has no real impact, what impact it has is likely net positive, it is not a conflict of interest, and it's impossible to form a coherent argument for why it should be illegal. There's a reason nobody who understands what's going on cares.

OnlineGladiator 5y ago
> There's a reason nobody who understands what's going on cares. Wow, what a condescending finish. I care and I understand. If I invest in a company, I don't want my shares to be lent out for the purpose of lowering the price of my investment. I would never buy shares on margin for investments I really care about, because it's obviously a conflict of interest. Why would I want people to be able to work against my investment? You can't possibly understand and argue that short sellers have no incentive to tank the price, and that's what they are betting on happening. And you can't possibly understand and argue that people that invest in a company have no incentive for the price to go up, and that's what they are betting on happening. You don't see a conflict there? I'm not saying it should necessarily be illegal, but why not make it an option to opt-out for people who care?
- skybrian 5y ago
  You forget that to own a stock you have to buy it first, and it's not in your interest if the stock is overpriced.
  - OnlineGladiator 5y ago
    I'm not saying short selling should be illegal. I genuinely think short selling is a critical component to a healthy market. I'm saying being forced to loan out all of your shares in a retirement fund with no option of opting-out is the problem. You should have the option to buy on margin or not. I consider this one of the most important factors when deciding which broker you want to use, and it's one of the many things Robinhood purposefully tries to drive their users away from because they make less money by making this transparent. If somebody profits by keeping something a secret from you, you should ask yourself why.

sigstoat 5y ago

did you know that the compensation for some of these index managers is tied to the returns of the fund? so if lending shares out hurt the fund, they'd make less money. what would be their motivation for harming their compensation?

bedobi 5y ago
That's a good question, ask them? If the borrow fee was enough to compensate the stock owners for the damage done by the short sellers, why would any short seller ever pay to borrow the stocks to sell them short?
- sigstoat 5y ago
  > That's a good question, ask them? you're making wild claims, and cannot offer a coherent theory that explains what you think is happening. not a good look. > If the borrow fee was enough to compensate the stock owners for the damage done by the short sellers, why would any short seller ever pay to borrow the stocks to sell them short? for the same reason that heaping piles of shares of stock trade hands every single day, at a price agreed upon by both parties.
  - bedobi 5y ago
    That stocks in retirement accounts are lent out to short sellers against a small fee is not a wild claim? It's ubiquitous and routine. And no, it's not at a price agreed upon by both parties. The owners of the stocks have zero say in any of it. Even if they did, most people aren't able to make an informed decision that allowing their stocks to be lent out to short sellers for a small fee is in their interest. (and, despite creative rhetoric to the contrary, there's no world in which doing so is in their best interest)
- webinvest 5y ago
  Philosophically, that’s a good point. My only rebuttal is that the stock market isn’t efficient. Options market predictions for future prices are oftentimes way off (like with AMD last year) and stocks will go up or down without change to a company’s fundamentals or without a new earnings report. If I could lend out any shares I own (and shares that I plan on owning for longer than the short seller will) for 1% interest per month to short sellers, I would! I certainly wouldn’t lend out any share for 2% per year or less. There’s a balance to be struck. This might only be 0-2 stocks in your portfolio at any given time. I also wouldn’t ever lend out dividend paying stocks (until the tax laws are updated) because the stock lender receives payment “in lieu of dividend”. It can’t ever be a qualified dividend so instead of paying 15% qualified dividends tax, you pay about 28% earned income tax on it instead. If I was not earning income for shares I was lending out, the optimal play is to never lend out shares for any reason because you’re right it’s a direct conflict of interest.

perryizgr8 5y ago

> there's nothing the supposed beneficiary can do about it Can't they withdraw their money and use some other instrument? Or just keep it in a savings account? Or just bury it in their backyard?

decompiled_dev 5y ago

The way I see it is that the market participants job is to allocate capital effectively, not function as a savings account. Shorting provides incentive to sniff our frauds and enhances yields for those with fixed liabilities in a low interest rate environment. Furthermore, not all short sellers are evil. While some short sellers may have ill intentions, short sell have researched and exposed many fraudulent companies effectively embezzling funds. I don't agree short selling should be banned, but I agree the already illegal practice of naked shorting should be enforced in a more meaningful manner. If people can lend out dollars for interest, than I think lending out shares should be allowed as well. If banks can lend out deposits and collect fees that seems to be the same thing as lending out equities as well. Do you see some delineation between these practices? I agree shares shouldn't be lent out the holder permission, but if you want a consistent amount of money every month, no matter what, then those small fees really add up. This is what most retirement funds are obligated to provide, and they can no longer get it in government debt. This might also be a perspective thing. I have a very different view on the function of markets than you seem to have. A market primary job is to allocate resources effectively, not provide entitlements to passive participants. The market doesn't exist to pump what ever positions you might be long, its meant to reward effective use of capital while preventing ineffective use.

bedobi 5y ago
I don't disagree the market and price discovery can benefit from shorting. But here we're talking about retirement accounts that are already long the stocks in question. There's no world in which the owners of those stocks benefit from them being lent out to short sellers, despite creative rhetoric to the contrary.