Is short-selling an unsavory practice?
When the price of a stock goes down, a short-seller who bet against that stock will make money. But even though the practice is legal, regulators worry about abuses. The SEC will take a closer look at short-selling today. Amy Scott reports.
A trader at the Chicago Board of Trade (Scott Olson/Getty Images)
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TEXT OF STORY
Bill Radke: One reason banks are doing better is the global stock market rebound from last fall. Well today, the Securities and Exchange Commission is looking at a practice that got some of the blame for that market downturn. Short-selling is a way of betting against a company's stock. Some people want new controls on short-selling. Others say that would be bad for investors. Marketplace's Amy Scott tells us why short-selling is so controversial.
Amy Scott: Let's say I want to bet that a company's shares are overvalued. I'll get someone to lend me some shares and I'll sell them at today's price. My bet is that when I have to pay back the shares I borrowed, the price will have dropped and I can buy them more cheaply. Then I get to pocket the difference.
James Angel teaches finance at Georgetown University. He says to some people, there's something unsavory about that.
James Angel: Short-sellers make money when the stock price goes down. And there's this natural feeling that making money off the misfortunes of others is somehow bad.
But Angel says short-sellers provide a service. They identify stocks that are overpriced, and that keeps prices fair for everyone. He says think about the people who make band-aids.
Angel: The only time you need a band-aid is when you get a cut. So the people who make band-aids are really profiting from the misfortune of others. But I'm really glad they're doing that, because, you know, I've got a band-aid when I need it.
Short-selling is perfectly legal, but regulators are worried about abuses. Critics say traders can pile on to drive down a stock or spread rumors. Sometimes traders short a stock without actually borrowing it. That's known as naked short-selling.
Peter Chepucavage is general counsel of Plexis Consulting:
Peter Chepucavage: The SEC rule on this is very weak. And we believe it was one major cause of the demise of Bear and Lehman.
That is Bear Stearns and Lehman Brothers. The SEC will look at ways to curb naked shorting today.
In New York, I'm Amy Scott for Marketplace.
Comments
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From Bremerton, WA, 09/30/2009
Short-selling is a useful hedge, as long as it isn't abused. What's missing in this story is the drop of the uptick rule by the Bush Administration, shortly before the stock market crash.
In addition to re-adding the uptick rule, we should also limit the number of hedges an individual or institution can buy on a single firm. Shorts are like dodgeball players - when one player/firm seems weak, all of the shorts will aim at him and fire mercilessly. The result is shareholders are hurt and a good company is damaged, often for no reason at all other than good "clean" profiteering.
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