Institutional Investor's Alpha Magazine - October 2008 - (Page 51)

Caging the Shorts NEVER HA CRITICS OF THE TIMEVE TESTED PRACTICE OF SHORT-SELLING BEEN AS VOCAL OR AS EMPOWERED THEY ARE NOW. BY DAVE SIMONS ngered by the recent drubbing of his company’s share price, Morgan Stanley CEO John Mack made a stinging assertion and a solemn vow in September. “Short-sellers are driving our stock down,” Mack wrote in a memo to Morgan Stanley employees. “The management committee and I are taking every step possible to stop this irresponsible action.” Mack’s vitriol echoed the sentiment expressed by another beleaguered investment banking titan, longtime Lehman Brothers CEO Richard Fuld. In April, Fuld told shareholders that he was out for revenge: “I will hurt the shorts — and that is my goal.” Yet Lehman and Fuld are history, Morgan Stanley is a holding bank ﬁghting for survival, and short-sellers — though they have been temporarily reined in by regulators — have yet to be vanquished. The dominolike fall of some of the biggest ﬁrms in ﬁnance — and the widespread assertion that short-sellers were partly to blame for their demise — led to what was probably a politically inevitable move by the Securities and Exchange Commission on September 19, just two days after Mack sent his memo. The agency not only resurrected a temporary restriction imposed this summer on the shorting of 19 “systemically important” ﬁnancial stocks but also widened the ban to include 950 companies. “The emergency order temporarily banning shortselling of ﬁnancial stocks will restore equilibrium to markets,” SEC chairman Christopher Cox said at the time. The effectiveness of the ban, which expired three days after President George W. Bush signed the $700 billion ﬁnancial bailout legislation into law on October 3, is clearly in question. The Dow Jones industrial average plummeted more than 2,000 points during the two and a half weeks the short-selling restrictions were in place, continuing an increasingly stunning yearlong slide in which the Dow had lost a third of its value by early October. Short-sellers — who sell borrowed securities in the hope of proﬁting by buying them back later at a lower price — are under assault nearly everywhere. Australia, Canada, France, Germany, Italy, the Netherlands, Portugal, Taiwan and the U.K. have placed restrictions on the practice, imposing bans lasting from weeks to months. The prohibitions in Australia and Italy apply to all stocks, not just ﬁnancial ones, and in the U.K. the Financial Services Authority has hinted that short-sellers will face permanent restrictions once the current ban expires in January. For hedge fund managers, perhaps the most bloodchilling component of the rush to exterminate shortselling was the SEC’s initial demand that hedge funds be required to publicly disclose substantial short positions that they already held in any of the ofﬁcially protected ﬁnancial services stocks. The agency backed down after hedge fund managers complained that the rule could kill the $1.9 trillion industry, arguing that to force such disclosure would be tantamount to asking a poker player to show his cards midway through a hand. But the SEC on October 16 extended to August 1, 2009, a temporary rule requiring major short-sellers to report their positions to the government, and the sense remains that as the U.S. economy slides deeper into recession, the regulators, ﬁnanciers and politicians who would bury short-sellers once and for all are marshaling forces to ﬁnish the job. Any investor who shorts — and there are many, both in the hedge fund industry and outside it — must now consider the possibility of life without shorting. Asked to describe the impact such a change would create, Dick Del Bello, a senior partner at New York–based hedge fund administrator Conifer Securities, puts it this way: “There are a lot of players who’ve just been dealt out of the game.” That is because the heart of the hedge fund industry OCTOBER 2008 • INSTITUTIONAL INVESTOR’S ALPHA • 51

Table of Contents Feed for the Digital Edition of Institutional Investor's Alpha Magazine - October 2008

Institutional Investor's Alpha Magazine - October 2008 Contents Letter from the Editor Longs & Shorts Pension Corner: Process of Evolution The Good Guys: Israel's Champion Interview: Fast Lessons for Hard Times Cover Story: Industry Under Siege The New Hedge Fund Economics Good-Bye, Easy Money Caging the Shorts Strategies: Bottom Fishing Profile: Cult of Personalities Research Center: Alpha Awards: Eye of the Storm Alpha Bytes: Funneling the Chatter Unhedged: Commentary: Attention, Hedge Fund Shoppers

Institutional Investor's Alpha Magazine - October 2008

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