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Hi Fools-

Long post with questions about short selling. Looking for a translator who can explain an article to me.

I read the Wall Street Journal just about daily. I often venture into areas where I have little knowledge to possibly expand my horizons. On Monday, I came across an article that I could not understand, so I'm tossing it out there to see if someone can translate for me. The article was on page A15 on the Opinion page, written by Eric Winig entitled, "How the SEC Stops Short Sellers From Keeping Markets Honest". The writer claims that SEC activities thwart successful short trades and cause them to be very unprofitable.

I have a simplistic understanding of shorting, so I can't follow his points. My understanding is that when shorting, your broker borrows shares on your behalf and sells them. You plan to buy the shares back when they fall in price, thereby buying low and selling high, but in the reverse order that is normally pursued. While waiting for the price to fall, of course, stuff happens. For instance, if the stock throws off a dividend, the short seller must pay the dividend to the owner of the shares he borrowed. Or of the price goes up instead of down, the broker may require additional margin to set aside against the now higher cost of replacement. And if the original owner wants to sell his shares, I presume that your broker must borrow from someone else to provide the shares to sell.

In the article, Mr. Winig talks of a company he was short when the SEC halted trading on that company. Here's where it gets murky. Mr Winig states,"Specifically, investors who were short the stock at the time of the halt were charged a fee of roughly 200% split between brokers... and stock owners." Can anybody tell me where such a fee would originate? Who requires this fee- the SEC, the brokerage?

Continuing on, "An investor short 1000 shares was charged an annual fee of about $56,000- 1000 shares times the $28.19 price when it was halted, times 2." Where does this formula come from?

Then he discusses unfortunate investors who held outstanding options during the halt. He claims, "Along similar lines, those who- again, correctly- bought April and May put options were unable to sell them, and brokers made them extremely difficult to exercise. Several brokers required an entire year's worth of short fees, as well as up to 500% in margin, to exercise puts, even though it was clear the stock would trade significantly lower when it reopened." Again, what are these annual short fees being imposed? Aren't the margin requirements established in the account agreement? How does the broker have the authority to make an option difficult to exercise? Is this a fine print item in the options contract?

If this is just a useless rabbit hole, tell me to go away. I am unlikely to ever sell short anyway. Although I have been investigating options. Is this just a "buyer beware", stay away from this activity? This sounds exactly like the kind of mumbo jumbo used to scare off normal people when they want to get started choosing their owns stocks.

Thanks in advance if you had the patience to ride this far, and if you can offer some insight in the mechanics/logistics.
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Sorry, forgot to say the issue of the WSJ was Monday, July 2, 2018.
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I am not familiar with this company, but I will explain some parts of how this works in general.

1) Your understanding of how shorting works is correct.

2) It is common for share owners to be willing to lend their shares, for a fee. Large investors often have what is called "securities lending programs" where they are paid fees (by the shorts) for lending shares. For instance, part of the return of the VOO (an S&P 500 index ETF) comes from those fees.

There is no particular limitation to those fees, and in a short squeeze, the fees the owners are able to charge can be arbitrarily large. In an extreme example of a short squeeze, imagine that a person (or group of people) own 100% of the outstanding shares, and someone wants to short some shares and they lend them, and then buy them again, and now they own 101% of the shares. They could in theory refuse to continue lending the shares, and the price could rise arbitrarily as the shorts must buy the shares for whatever the sellers want to charge, without regard to the underlying value of the company.

3) If you own a PUT option, you have the right to require someone to pay a fixed price for some shares. But to exercise the option, you have to deliver the shares. If you don't have any shares, and you can't borrow any shares, then you can't exercise the option. If trading is halted, then acquiring those shares could be problematic.

4) I have no idea to what extent these issues are the brokers fault, or the SECs fault. When a short seller sells borrowed shares, the broker is legally required to return the shares on demand. The broker does not want to take any risk, so the broker tends to demand enough collateral so as to be comfortable that they (the broker) will not take any loss.

5) I am not saying that the brokers are or are not working with the longs to help make money on the short squeeze, I have no idea.

Morris
See positions at: http://my.fool.com/profile/CMFTurningItBlue/info.aspx
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