White Top View series on short selling, Part 10
Four more positives of short selling
This Part 10 of the White Top View series Short Story on Short Selling begins discussing the next four market positives of short selling. In Part 9 we covered the first three market positives of short selling. Click the links at the bottom of this post for all earlier posts in the series.
Short selling improves stock markets 7 ways
Short selling improves all stock markets seven ways. The list appeared in Part 9 of the short selling series. That post also discussed the first three market positives:
Improved Price Discovery
Increased Market Activity
This time, in Part 10, we discuss the other four market positives of short selling:
Forced Priority Changes
Short selling attacks produce falling prices and get responses
Forced accountability of both management and boards
This is the first of the four more positives of short selling. Understandably, management under a short attack detest short sellers. After all, the short sellers actions, if not always their words, say bad management produces poor or less than best results.
For managers, being identified as the bad guys that deliver bad decisions which produce unacceptable execution, can get very personal. Most certainly their jobs and career are on the line.
Management almost always feels compelled to forcefully and publicly respond. Even when shorts misinterpret or even have the facts wrong or at times, suggest unfounded rumors are real, shareholders expect the CEO prevail by leading a strong defence of the company.
Falling share prices can quickly become the top management priority. Lower share values can force management to acknowledge and address issues. Facts can support short activity. But sometimes the issues are simply legitimate differences of business opinion or strategy and not facts. However, manipulations based on unfounded rumors also happens.
Short sellers can raise or imply almost any issue as material to the future value of the company. Should a conflict loving media be hungry for a story, the issue may get wider public attention.
Alternatively, management making a strong, compelling and public case against false or unfounded claims can get ahead of the issue. However, chasing smoke or refuting are often impossible challenges for the best of leaders.
Such battles can seem more a political and philosophical debate than a business conflict. However, as most investors quickly run away from any conflict or controversy, conflict avoidance often favors the short side.
Most investors tend to want quiet, drama free, money-making portfolios. The shorts can aggressively seek media attention with belligerent statements and behavior.
Greater amounts of noise, drama and media coverage, works to the advantage of a short seller. Knowing this, management wants to quickly put any short challenge to rest. Both sides can play inexperienced media.
When the fights get loud and public, boards must speak up. Boards are always in the fight but when it gets public, they must publicly respond.
As the group responsible for selecting and holding the CEO accountable, boards typically stand shoulder to shoulder with management. But not always. Cracks and factions develop.
Betrayals do happen. At times dirty laundry gets aired to the glee of the short sellers. Should fractures develop, substantive changes become inevitable. In most cases at least some changes follow any significant short attack.
Managements under attack, can get thrown under the bus. They often fare poorly and become sacrificial offerings to bring peace. In such cases both sides, the company board, insisting there be no change in control, and the shorts, claiming management change occurred, each claim victory.
In the end, once the smoke clears, all investors, long or short, benefit from any resulting increased public accountability and greater transparency.
Short selling can make new issues a corporate priority
Under short selling pressure, basic business, operations, market, environmental or social issues, can become major management issues.
Once a short attack begins, the shorts and media often put into play endless questions and issues. Previously, management may have been able to ignore or dismiss such inquiries.
That quickly changes when significant share price declines happen. Then management must pay attention or risk a shareholder or board revolt.
Relevant or not, any question or issue can take on a life of its own that demands management time, energy and attention. The relentless attacks wear.
Ultimately, such conflicts are all about money. All involved in either attacking or defending are very motivated by a personal financial interest.
Management must respond to any substantive issue raised by a short seller with a large position. To put any significant issues to rest, management usually must convincingly demonstrate action or credible commitments to substantive acts or changes.
Short sellers can force a new agenda. They can pressure compel management to respond to matters ignored, overlooked or formerly considered important.
With the ability to force a change in priority, short selling pressure can quickly make new items a major corporate focus. That means short sellers can often push items and issues not otherwise or before addressed, to the very top of the agenda.
For good or bad, management most often must change their approach to the issues. That can produce benefits that go well beyond the company and the shareholders.
Short selling allows expression of contrarian views
By the simple fact that they sell short, short sellers express a contrarian view. Obviously, they sell short thinking the stock overvalued.
Or they think that they can show information that will drive the price down. At the time when shorts sell, they think the stock sits at an overvalued price.
That selling of borrowed stock, becomes an aggressively expressed a contrarian view. Once the contrarian issue becomes public, it invites other investors to consider the contrarian view.
All shareholders and investors get to consider very basic questions. Is it possible the new information or contrary point of view will ultimately be right? Will the market react to produce lower stock prices?
That can mean mainstream investors reconsider their long positions. Has the herd of long investors missed something? Can or will a lower price and value become the “new normal”?
All other investors can place bets. Those that position themselves to profit, when the market realises the shorts are right; can join in selling out long positions or even switch sides and sell short.
Those that disagree with the shorts can stay or play by aggressively buying long. Then, should that be right, they will enjoy and profit from the spectacle of a short squeeze.
Quick profits will come when the shorts acknowledge their bet is wrong. Time will tell who is right and thus which side profits as the winner.
Short selling produces unique analytics
All short selling activity produces records, volumes and prices. As you might expect, analyzing those records can produce useful information. That information can add value for both short and long investors. That will be our topic next time.
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Click the links below to read all parts of the White Top View series, the Short Story on Short Selling, follow below:
Part 8, Short selling has rules
Part 10, Four more positives of short selling
Part 12, Shorting stocks is hard