Shorting and Indian capital markets
zerodha.com> While everyone is celebrating retail traders winning over a large hedge fund in this case, it rarely ever plays out this way. Most commonly, retail ends up losing money when there is excessive speculation.
This is the only passage anyone with too much at stake (than they can afford) in this short needs to read.
Other than that, I believe industry insiders / traders are missing the mark in that the current dynamic is also fueled in part by a million-strong (if not more?) rejecting the fundamentals and pumping cash in to businesses that Wall Street's hive mind has decided has no job being in existence.
AMC made a billion dollars during the rally [0] (and it is not lost on me that this capital would be dumped into parachute payments and bonuses to c-suite and nothing's going to trickle-down). In the off-chance AMC makes the capital work, then, that'd have vindicated retail, but it kind of seems too optimistic but that's the whole point.
[0] https://movieweb.com/amc-theatres-raises-one-billion-dollars...
>rejecting the fundamentals
I think what is missing in many people's analysis is that there is a new fundamental value in this situation. Buying GME shares is now linked to destroying a hedge fund and ruining some billionaire's days. For many people, and I include myself in this group, that has a real tangible value that outweighs the actual dollar amount it costs to buy a few GME shares.
When the leaders of these brokerages and hedge funds ponder as to why people are throwing money at something that is likely to crash and burn when it will likely not make money and is just hurting the billionaires, they are staring the answer in the face
Buying GME is in fact not linked to destroying a hedge fund as the funds with large concentrated short positions exited the investment several days ago. The situation now is a bonanza for billionaires, as many have gone long the stock or are providing highly lucrative retail options market making services. The entire narrative about gme now being some sort of populist uprising is a sham perpetuated by those who want to bring fresh bag holders into the name.
The loudest opinion on WSB currently is that the hedge funds didn't actually exit their shorts, but are lying about this, and, well, quoting from a random WSB post:
"They didn’t exit any of their short positions! You can look it up!!! The fund sold their shares to other funds, which made the stock algorithm think the stock is being sold —> price goes down —> the found that bought sells those shares again to the fund that sold them in the first place —> price drops even more —> they keep doing that —> price drops lower every time —> but as long as we hold they weren’t able to exit any positions!!! Shorts are still up 120% percent. As long as we hold the squeeze is inevitable!! And if you don’t believe me, look at the GME after hour stock price!"
https://old.reddit.com/r/wallstreetbets/comments/l7oobr/4206...
Whether that's true or are they just driving themselves off a cliff? I don't know.
> Shorts are still up 120% percent
This doesn't mean that the original funds didn't exit the positions. It's likely that there are many new participants who are taking short positions in the last few days because the stock is obviously overvalued.
I suspect many of these posters are not driving themself off a cliff, but others.
They’ll keep pumping while they have an incentive to do so, and the gullible will follow after, but many of the original ‘hold’ advocates must be planning to exit before the inevitable end, leaving the bag in the hands of a greater fool.
I don't understand why people think Melvin would do this. Sure they might be prepared to flout SEC rules if they thought they could get away with it but whether they sold is trivially verifiable and they would be guaranteed to get caught. Exiting the position was probably also a precondition of the new investors putting money in.
The comment you pasted is incoherent rambling. It's honestly like something from a qanon forum. Even ignoring that prices don't work how they seem to think the mechanism they suggest for manipulating them doesn't make sense (it would also be very illegal and again trivial to verify for the SEC).
> The comment you pasted is incoherent rambling.
That's most of WSB, though (after you exclude all the "+1" comments). I agree it's incoherent rambling, that's why gave up on trying to paraphrase it. I'm quoting it because this is the kind of stuff that gets reposted in every single thread there, and is indicative of the general atmosphere there.
It’s not trivially verifiable for the average person and the average person is used to the rich just flaunting the law with trivial or no consequences.
Saying “but that would be against the rules!” means almost nothing for the rich. This is one of the downsides of not having a strong rule of law and the rule of law has been degrading steadily in the US
It's trivial for the SEC
I don't know if you're implying the SEC is in cahoots with the hedge funds, and not just any hedge fund but one associated with SAC/Cohen whom the SEC went to war with. I'm sympathetic to your general point but as someone who has spent his whole career in the financial markets that seems vanishingly unlikely to be the case here.
He got what, banned from supervising a hedge fund for 2 years for insider trading? If the punishment he received from the SEC constitutes "war" in the financial markets then I don't think you understand the viewpoint that sees the the SEC as handing out trivial punishments.
There is a big difference between handing out light punishments and actively colluding. In the case of Cohen, his light punishment is because they were never able to find the smoking-gun evidence they needed to put him away properly on criminal charges despite a massive effort to do so so they settled for what they could get. It's not enough to be guilty (hi OJ), and Cohen was guilty as sin I don't doubt it.
If the punishments are smaller than the rewards from breaking the rules, then they have no effect on stopping the behavior. They are functionally a small cost of doing business.
I’m sure some funds are still short GME but with small position sizes so they can absorb temporary losses. No way any large fund still has a concentrated short.
How come I continue to see posts talking about the short float for GME being in excess of 100%?
disclosure: I have no investment in GME, but am hoping to see some hedge funds suffer
It probably is over 100%. That’s unusually high but 100% short interest is not some sort of special number. Shorting works by borrowing a share and selling it to someone else. There’s no reason the same share could not be borrowed multiple times, as the shares are all fungible.
From what I understand, it is a slightly special number. Each one of those shorts is supposed to have some kind of contract in place that can be used to cover the position (e.g. a call option that would ensure that the stock could be purchased, even if the options contract isn't ITM). If there's over 100% short interest, then it's impossible for all of the outstanding shorts to be covered in that way (or, alternatively, the contracts to cover the short positions are naked, not the shorts themselves).
I'm by no means a finance guy and if I've misunderstood this, I'm happy to be corrected.
(Disclaimer: my expertise on the stock market extends to knowing how to spell "stonks".)
I posted a chain analogy elsewhere[0]. My understanding is that short interest being > 100% just means that the average length of the "short-lend" chain is greater than 1 "short-lend" pair. I don't think that such a chain is anything special - just that getting rid of the earlier short in the chain requires getting rid of the latter short in the chain first.
--
That doesn't matter because nobody covers the stock at the same time. The shorts buy back a few stocks, return it, then a bit later buy it back again from someone else who sees the higher price and decides to cash out. Neither of the two owners above knows that that they both technically owned the exact same stock.
Most stocks are head by the broker who combines them all into one listing of total number of stocks owned. This is all electronic, nobody ever worries about the actual stock behind it. When the company sends out a shareholder mailing they just give the company all the addresses, not how many shares anyone has. (I'm not sure how voting is handled!)
Note that there is a loophole above. It is possible to get the physical stocks personally instead of letting your broker handle it. This can force a short squeeze as your broker will be forced to unwind everything far enough to find real shares for you, and if required will force one of the shorts to buy back shares on the market. This has happened a few times in history, but few people have the means or inclination to pull it off (and it isn't what is happening here).
Sure, but when you short, you owe a share. If more people owe shares than there are shares for sale, you have a serious supply and demand problem depending on when those debts come due. If shorts are significantly over 100% of float, then it would seem that they are still vulnerable to further squeezing.
Further shorting is completely possible - nothing stops shares continuing to be lent, but doing so just makes the likely supply shortfall worse.
The supply of shares for covering is not constrained by the number of actual shares in issue in the ordinary course of trading (you can create this condition artificially if you want to but people usually don't). There can always be more shares created for short sellers to cover with through shorting itself.
Short squeezes are usually not about supply constraints, they are about forced buying caused by margin requirements. High short interest just indicates a lot of potential forced buyers in the event of a price spike. Except in special cases there is particular magic to having 100% of the float on loan except that this is a high number which suggests many potential forced buyers under the right circumstances.
So if two people owned one share, they could simply pass it between each other until their shorts are covered?
Not exactly, but yes. A single share can theoretically unwind all of these short positions. If we have
A lends to B who sells to C who lends to D who sells to E who lends to F who sells to G.
The reverse of the process will unwind it:
G sells to F who returns to E who sells to D who returns to C who sells to B who returns to A
It doesn't even have to be reverse. It can be G sells to C who sells to F->A->E->B->D just to make up a random order.
Not passed, but bought since the underlying price will have changed.
Matt Levine gave a pretty good explanation a few days ago how short interest can be greater than 100% of float in his newsletter Money Stuff: https://www.bloomberg.com/opinion/articles/2021-01-25/the-ga...
While some billionaires are having a terrible week, market makers and prop trading desks have been making an absolute fortune. I'm sure the billionaires owning the market makers are more than happy to sell "financial uprising points" to WSB readers if they so desperately wish to purchase them.
It's a mistake to see "the billionaires" or "Wall Street" as a single homogenous group. 99% of them don't mind Melvin capital going under at all.
In the modern world, most people live in a state of learned helplessness, because they have been told that the societal systems around them are very complex and they don't have a hope of comprehending them.
An event like this, while not being a be-all-and-end-all, can give commoners a taste of blood -- that maybe they are just as smart as those elites, that maybe they can use the systems for their own benefit too, that maybe they don't HAVE to live under the boot.
It's the hope that matters, because there are always more opportunities.
99% of them are doing more than just not minding Melvin's issues, they're actively feeding off Melvin. Melvin is going to be (or is already) selling off what they have in stuff like FB, MSFT, AAPL, etc, and it's not the retail traders who are benefiting from this, it's the other parts of the investment banking system. Even the sales traders are going to be on the phone with Melvin going "Sell 200k AAPL? No bother."
So what you're saying is you and thousands like you don't mind risking losing money because you think it's worth it to stick it to the man.
Who do you think is making money off all the trades you're losing on? Doh!
Some billionaires will lose money - actually they already did a few days ago when they exited. Some others will make a few millions or billions. Robinhood looks like they've got some explaining to do. Just another day on Wall Street.
That might be a compelling argument if they weren’t making money off of us in the first place.
When the choice is status quo vs actually hurting some of them even if the rest get the status quote, it’s an easy choice.
>Just another day on Wall Street
If this was true then none of the current events this thread is discussing would be occurring. You don’t need to destroy all of your enemies, you just need to prove you’re a credible threat to make the rest be wary
I don't understand what harm you think Wall Street is doing to you. In fact if you have a pension plan, you're profiting off the system too. As is your employer if you work for a listed company. Oh well, I suppose it takes all sorts.
Destroying a hedge fund is also not a 'fundamental value', no matter how satisfying it might sound. Also, as I've said before, often the largest investors in hedge funds are pension funds or similar pooled vehicles, so screwing an investment fund like this doesn't always just stick it to the rich guys...
You can redefine it, or give it a different name other than "fundamental value", but the point is that these buyers from wsb may be paying to play the game, not for financial profit, but for the lolz. Like house-odds gambling (which, has negative "fundamental value"), people still do it.
Now, as for whether there are enough of these crazy types to actually push the price of GME up this much - i'm skeptical. I suspect that it's a battle between different hedge funds who first caught on to this small group of crazies on wsb, and saw an opportunity.
Of course the rich guys will use human shields to protect themselves as you are indicating. They will demonize this action as the work of jokers who just want to see the world burn. If your pension fund was relying on short selling, you had a terrible pension fund! The only place where blame should lie for any outcomes of this is squarely in the lap of luxury. Any average investors who were burned by this should be pointing their fingers at the hands that promised to feed them and have repeatedly failed to do so.
To further your point, things like these trigger a domino effect that ultimately hurt ones at the bottom.
Trouble is, the ones at the bottom already feel that they are hurt so much and won't mind a new round of hurt.
That probably is not a verifiable truth, but the fact that this impression prevails for enough people to do this is probably where the real corrective actions should be directed at.
Eventually, either the Wall Street "hive mind" (really though, WS contains thousands of funds and many would be overjoyed to see some competitors fall) or the retail buyers of these companies will be proven wrong. What happens next is way more interesting than the current situation.
Even if it turns out that GME can be short squeezed until there is not a single share shorted anymore, the retail investors will then collectively be HODLing a ton of stock in a company losing hundreds of millions per year. Buying pressure for such stocks is typically low. There is no way everyone can get out at the top, so a lot of people will have to sell at very low prices. This is even true if the original thesis of "we can pump this stock to $1000" is true.
"There is no way everyone can get out at the top" - this is the big issue here - as far as I understand, the position of WallStreetBets is that there are (were?) so many shorts of GME compared to the shares on market that they would be required to buy all that stock and everyone can get out at the top. I don't feel certain about this (especially since if any of the funds actually go bankrupt, they would default on their obligations, not actually buy the shorted stock at all and just owe some not-fully-collectable money), but that seems to be the whole reason for this situation.
I'm pretty sure a mass buying of the stock would drive the price right into the floor.
So the first few people will get an extremely high price because like you said, the shorts are forced to buy, but as the sell off begins the price will plummet.
But aren’t the shorts for like 140% of the GME stock? That means if everyone holds with prices, sooner or later the shorters will have to buy ALL that stock anyway at nearly any price to cover for the losses and give back shorted stock.
No one actually wants the underlying stock, so it is really just a bet on the value at the moment they theoretically need to hand over the stock between the parties in the contract.
I think the parties would just be exchanging money in lieu of stock and whoever bought the actual stock will have Gamestop stock, so after the utility for screwing the naked shorts goes away, people who bought in the rush will probably lose just like any other pyramid scheme.
> I think the parties would just be exchanging money in lieu of stock
but stocks are marked to market - the lender of the stock will ask back the market value, which if it was being pumped, is going to be high. If the shorts are settled by cash, it's not only not going to make a difference to the bottom line of those shorting, it will also not change the price of the stock.
The people shorting are screwed, but the profits will go to the people who bought the options, who will essentially be selling the contract back and trying not to own the stock. The stock should go into free fall, and the people who bought the stock are also going to be victims unless they sell to an alternate victim before the call date.
It should all be convoluted by policy, settle dates, brokers selling and later replacing stock in margin accounts, etc. But basically anyone involved in buying GameStop stock itself is playing in the options market with insufficient evidence of understanding, and brokers are supposed to interfere with that.
The people shorting - if they can hold out against a margin call - win in the long run. Gamestop isn't worth these prices, and so they can cover in 6 months when interest goes away and the price drops to $2. Even if gamestop is a long term win, it won't be worth more than $10 next year.
No, because the shorts aren't due all at the same time. Say that 15% is due each day for the next 10 days. On day 1 those shorters will buy 15% of the stock and return it. The people they return it to then can sell it to the shorters that need to cover on day 2. Those people then return it and it's sold to the day 3 shorters and so on.
Shorts are rarely due at all. If those who hold the shorts have enough capital then they can just hold until the market loses interest, and then cover their shorts at $2. Or better yet, even with a sky high stock price gamestop could be forced to declare bankruptcy by their creditors. If I had shorts on gamestop I'd be looking to get all the companies bonds I could so that when the bankruptcy goes to court I can say I want the company shut down and the judge listens to me. The company could be trading at $1000/share and suddenly the judge orders it to stop trading and suddenly there is zero value in any shares.
If you want to be a conspiracy theorist, the smart thing for the insiders (those who control the board) to do would be to sell all their shares at this price, then declare bankruptcy. This would be illegal of courses, but there are lots of variations on this theme that make financial sense if you can get away with it.
I think the whole deal here is that people buying $GME wanted to jack the price up exactly to force the shorts into a margin call, and therefore liquidation.
Alternatively, I think a lot of people believed a chunk of put options were expiring soon which would cause a lot of contracts to be executed (I.e. forced stock buying).
There is a more likely alternative than paying "nearly any price", which is that the funds in question go bankrupt and default on any obligations remaining. At that point, anyone who hasn't sold yet will be left holding (call options on) stock worth maybe a tenth of its current price.
If the structurally possible outcomes are:
1) Shorts all come due and hedge funds pay all the retail investors big gains
2) hedge fund dies and defaults so retail get screwed
I’m pretty sure WSB would collectively declare victory. It’s a suicide mission for them.
140% of stock /issuance/, not outstanding. Shorting stock creates new stock. Once all shorts are closed, the 100% of issuance is still outstanding and someone's holding it. Not everyone can get out!
That doesn't mean the same people. Gamestop does have a long term plan. If it works out the company can be worth money. Buying Gamestop for $2 at the bottom in a few months might be a reasonable risk for the final person holding the bag.
> I'm pretty sure a mass buying of the stock would drive the price right into the floor.
Could you explain this? Doesn't increased demand drive the price upwards?
Increased demand relative to increased supply drives price upwards. If the supply curve shifts more than the demand curve, the price goes lower.
For a retail business that earns single digit profit margins with no moat, no employed talent, and no real assets, I can only assume once the supply curve starts moving, it will move fast as everyone tries to exit.
> There is no way everyone can get out at the top, so a lot of people will have to sell at very low prices. This is even true if the original thesis of "we can pump this stock to $1000" is true
This is what I've been thinking about the whole time. They can definitely pump the stock if they keep HODLing, since sellers effectively set the price when the short positions have to be closed.
Someone still has to be the bagholder and end up holding near worthless stock at the end of this though.
$GME will come crashing down once the short squeeze is over, and there's only going to be a small minority of retail traders who get out at the top.
People who have bought in later at hundreds of dollars are likely to lose a lot of money IMO. Possibly to the tune of over half their initial investment.
Well, I opened up Reddit an hour ago. It's not just WSB, there's posts all over the place with tens of thousands of upvotes.
The thing that boggled my mind was plenty of people openly asking "Hey, I don't know anything about trading, but I want to join this and buy stock." and other people straight up telling them "Get the app from a broker (not RH!), open an account and buy $GME" (followed by a flurry of rocket and diamond hand emojis)
It is one thing to be told that markets can be irrational and emotional. It's a completely different thing to see it that playing out in real time on social media.
>Someone still has to be the bagholder and end up holding near worthless stock at the end of this though.
The hedgefunds are filling this niche. Trading slowed yesterday because brokers were afraid of going bankrupt.
That was because of liquidity issues.
There's no guarantee hedge funds will be the ones who end up holding stock at the end of this.
lol, when did the stock market reflect the fundamentals? Its post 2020, the whole economy had come to a standstill and the market was rallying like nothing happened. All this 'fundamentals' talk just sounds hollow.
it is. the whole market is overvalued. But while some parts of the market have some actual things, people want (highly educated workforce, machinery, land, supply chains...) Gamestop has nothing of this and yet is pushed to an even higher value.
Yeah, tell me the P/E ratios everywhere else in the market right now are rational from a fundamentals perspective and I'll call you either deluded or a liar.
By "fundamentals", you mean the government buying corporate bonds and money printer go "brrrr"? Seriously, we Japan now.
Over any 20 year period the market has always reflected the fundamentals. However over any few months period it has always been a popularity contest.
Note that fundamentals include things like bonds and government manipulation.
The market rallied because it accurately predicted there would be a strong economic recovery in 2021/2022.
That is not true, it hasn't accurately predicted anything. 96% of 2021 and 2022 haven't happened yet.
That's why it's called a prediction, and not a record.
The market prediction doesn't mean it's going to happen - but it's likely. If the market prediction turns out to be wrong, then there'd be a correction in price (aka, another crash).
Sure, and in order to determine if a prediction is correct or incorrect, you have to wait for the event to occur. To make the above statement true you would have to either remove the word "accurately" or wait until the end of 2022.
A good hedge fund knows how to hedge the risky investments they make, and if they're just betting, they should know someone else might get the other side. It could be another fund/investor, but it's WSB this time.
I think there's a lesson here for people making massive short bets, and for hedge funds and anybody making a bet instead of an investment: that someone else might take the other side and have more power than you might think. This is all just betting at this point, with WSB still betting they can trigger even more of a short squeeze. If this has somehow crossed the line from "bet" to "investment" that starts affecting the rest of the economy, then the consequences should be interesting to watch. Trading on exchanges shouldn't be able to be restricted by someone like Robinhood, though they have other problems too.
I am glad they addressed the philosophical question of whether shorting the stocks should be illegal.
I have more confidence in our equities markets because of the existence of short sellers. I’m glad to know there are people researching companies that are not being honest about their financials.
If there were another way to incentivize finding these types of companies without short selling, I would be interested.
Put options let you take a bearish position without short selling. IMO it's a way less crazy way to do that.
> Put options let you take a bearish position without short selling
Put options can’t be written at scale without shorting.
All a put option needs is cash backing it in order to write it. It doesn't require any stock.
- Me, a long time wheel runner
The problem with puts is they have a time frame. I'm bearish, but I don't know when there will be a top. The market can remain irrational long enough for puts to expire worthless.
> If there were another way to incentivize finding these types of companies without short selling, I would be interested.
In ye olde times before the invention and institutionalization of short selling and other financial instruments, this kind of research was the responsibility of the media (to raise the alarm) and the SEC/police (to investigate claims with the authority of the government, and prosecute offenders).
Unfortunately, most newsrooms have been "consolidated" or shut down entirely as the market for quality journalism has declined over the last decades, and there is an unhealthy "revolving door" between banks, hedge funds and other market players on one side, and regulatory agencies on the other side.
Maybe? I think it’s really useful to give people an economic incentive to do socially useful things, like pointing out when a company is in an unsustainable position before it literally starts locking out workers.
Journalists are better spent digging into political situations that aren’t directly tradable.
Even if you think journalists should do the research and make results public instead of funds doing the research and keeping it private (until they reveal their conclusions through trading), I think you want shorting available as a RESPONSE to the reporting. Why would the companies change their behavior in response to negative press if they aren’t subjected to economic pain for ignoring it?
Short selling is older than the SEC.
True. All this stuff was old-hat when the Tulip Mania "ended" in the 17th Century. There is even a tale about olive presses that reads a little like a futures contract's lifetime [1].
[1] https://www.thestreet.com/opinion/a-brief-history-of-stock-o...
This is a financial version of the social media effect we have seen spreading misinformation and causing people to act in real life.
All of the ingredients are there.
1) Use social media to organize motivated groups of people
2) Align the mob to a target that is inherently disliked. Hedge funds and wall street more generally.
3) Cause world wide market volatility. In this case, it's moving institutional investors out of the market, eventually causing a lack of liquidity that reveals structural problems. In other words, How many Lehman Brothers does it take to cause a 2008 type crash?
You lost me at 3 - how can having hidden structural problems be a desirable position to be in? Hedge funds entered a crowded trade that has unlimited downside without an exit strategy. They are not naive and although they're obviously upset I doubt they're shocked about what happened. They went in with confidence thinking they knew the 'market' (aka other hedge funds) and discounted the possibility of a short squeeze.
This type of risk taking behavior must have the associated consequences, otherwise there is no reason to stop behaving this way at larger and larger scales. Moral hazard - again a finance / trading 101 concept - just like shorting can result in infinite loss.
Investors have been known to want increased volatility because playing it right increases profit. If you can target that volatility to specific industries or companies, all the better.
If a foreign adversary was using bots or social media manipulation to drive up this behavior, perhaps they could target the right companies in the market to reveal structural weakness. Similar to how the 2016 election interference happened. Though that is getting much more on the conspiratorial side.
Re "spreading misinformation" - not sure which pieces you are specifically talking about. In case of r/WSB I doubt anyone has any illusions what it is about. It is done either for lulz or as a form of protest/activism. In a way - it is form of speech.
If bots can hype up conspiracies to target political opponents then why not try it with something in finance?
Basically, astroturf these campaigns to target specific companies in the market. You only need a small dedicated core then the herd follows. As we have seen time and again with social media manipulation.
A lot of movement in GME was driven by call options, which is generally available in all markets. However, absence of overnight short positions would definitely diminish the trigger GME needed to get short squeezed and become volatile in the first place.
In reference to the GME/WSB fiasco the issue isn't so much the shorting itself but the large number of “fails-to-deliver”.
This was happening since early December. It looked suspicious and was reported to the SEC. Read comments for receipts.
https://www.reddit.com/r/wallstreetbets/comments/kr98ym/gme_...
Which I believe is due to them having shorted over 100% of the float making it impossible for the shares which were shorted to be purchased.
> There are 100 shares. A owns 90 of them, B owns 10. A lends her 90 shares to C, who shorts them all to D. Now A owns 90 shares, B owns 10 and D owns 90—there are 100 shares outstanding, but190 shares show up on ownership lists. (The accounts balance because C owes 90 shares to A, giving C, in a sense, negative 90 shares.) Short interest is 90 shares out of 100 outstanding. Now D lends her 90 shares to E, who shorts them all to F. Now A owns 90, B 10, D 90 and F 90, for a total of 280 shares. Short interest is 180 shares out of 100 outstanding. No problem! No big deal! You can just keep re-borrowing the shares. F can lend them to G! It's fine.
https://www.bloomberg.com/opinion/articles/2021-01-25/the-ga...
“It’s fine”
This situation sounds like a hideous volatile time bomb of complex exponential effects.
That's a bit overblown. Dog piling into a single stock is one thing. An entire market (that was) primed to collapse (housing) is another.
As said in another comment, these thing can easily slowball due to leveraged positions.
This seems like textbook naked shorting.
"Ordinarily, traders must borrow a stock, or determine that it can be borrowed, before they sell it short. So naked shorting refers to short pressure on a stock that may be larger than the tradable shares in the market"
The SEC should protect the hedge funds by preventing them from short selling
I am naive here, can someone explain what is the economic utility of a stock market ?
For example, its easy to understand utility of food, cloths, car, house, money. But I am not able to find a reason about stock market existence for day-to-day trading, where secondary stocks are traded daily after IPO. It seems none of the day-to-day trading money/profit ever goes back to business to help them to improve that business.
I thought about this long ago.
The answer is that the casino-like activity of the secondary market provides a great incentive to companies to primary-list. This engine drives business formation through the valuations it can provide to companies. And companies can issue more shares to raise more capital from the very liquid casino. So it's helpful in that way.
The utility comes from the utility of having the chance to sell your IPO shares on the day and date of your choosing. That liquidity makes the shares more valuable to the buyer, who might find herself in a "oops I have to sell now" situation.
Zerodha (top Indian broker) posted an article earlier which explained why the Indian brokerage industry has very few avenues to make revenue: https://zerodha.com/z-connect/rainmatter/the-race-to-zero-ca...
The lack of any mechanism for payment for order flow is quite interesting - how do market makers get incentivized to provide liquidity in such situations? Or asked another way, are American market makers being subsidized by retail traders?
Market makers are incentivized to provide liquidity by the fact that they earn half the spread on average every time they trade. If a stock trades for 10 bid 11 offer then the market maker makes 1 every time they buy at 10 and sell at 11. They do this a very large number of times a day.
I'm not sure this still happens, but Marketmakers (and broker dealers) also used to earn rebates from new venues to incentivise them to trade on MTFs (multilateral trading facilities or alternative execution venues).
You'll hear a lot of people talking about market makers (eg Citadel) paying for flow. The common opinion is that this is because that flow contains information that the marketmaker can profit from. This is almost never the case, and in fact if the flow has alpha (positive or negative) or is overly directional that's not great for the marketmaker as they are forced to temporarily take the other side of that trade and try to find unwinds. Marketmakers want more flow because that makes it easier for them to do their job of hedging their inventory and unwinding positions with minimal impact. They are betting on the underlying math that if the flow gets large enough it becomes zero alpha by definition and they can just earn the spread.
To expand on this a little for anyone interested, the problem with classical market-making is that you only make money as long as the trades are crossing back and forth around a stationary price. If the market moves suddenly, you end up losing money. In your example, if a huge sell comes in at 10, and the market then moves down to 8 bid, 9 offered, the market maker has a position they bought at 10, but can only sell at 9 at best.
So, profitability depends on the ratio of the nice "random crossing" to the nasty "toxic flow". The toxic flow tends to come from large, well-informed market participants who can act very quickly. That means institutional players with colocated trading machines and so on. There are none of those on retail brokerages, so retail flow has a great ratio of random crossing to toxic flow, and so market makers are happy to pay for it. Meanwhile, the exchange itself is crowded with players like that, and there's a worse ratio, so market makers are a lot more wary.
This is why market makers invest a lot in low-latency trading. If you can find out about an impending market move, and cancel your resting orders before other participants cross into you, you can dodge the toxic flow, and have a better chance of making money.
Longer explanation: https://insights.deribit.com/market-research/toxic-flow-its-...
Unrelatedly, another source of revenue for market makers is maker-taker pricing, where the person crossing the market pays a little fee to the person who rested the order they crossed into:
https://www.investopedia.com/articles/active-trading/042414/...
But i'm not sure how common this is these days.
The market needs the retail investors but if bad things happen to retail investors often enough, they will retire from the fray. Enjoy your always-toxic trades.
Retail traders might be scared off, unfortunately, but retail investors will keep coming.
> how do market makers get incentivized to provide liquidity in such situations?
Buy low, sell high.
PS: By the way, I'm not sure I understand the question. Market makers are the ones who pay for the order flow.
maker rebates also are a pretty significant incentive
How are the futures hedged if shorting is not allowed? Does that mean every futures seller is effectively unhedged?
>>"In some of these stocks, the total quantity of stocks shorted (stocks borrowed and sold + using derivatives) is much more than the free float or the total number of shares held publicly. "
So, they short more stocks that exist. OK, I will not ask why this is allowed, but how is this done?
Stock [purchased by] A [lends to] B [shorts to] C [lends to] D [shorts to] E ...
There's one stock, but when people count shorts, they're counting the [shorts to] edges. That 140% ratio is essentially the (amount of [shorts to] edges) / (amount of stock in circulation).
But Person A etc after lending no longer own stock, as they have lended it. They no longer have possesion of stock, If they now wants to sell their stock they first would need to get it it back from Person B, Which needs it back from Person C etc. Only one person can actually sell stock which is person E, as he has possession of stock. So if there is actual demand of selling a stock a high enough price, So in case person A wants his stock back he will either demand premature cancellation of his lending/leasing of stock, or wait for his lending period to end.
Person A, and leaves it at the broker. Person B borrows not from person A, but the broker who. Person C buys the stock and again leaves it in the same broker. In the database there is 10 shares to person A, -10 to person B, and 10 to C. If A wants his stock back, then the broker just takes the stock from the pool not from person B.
Since there are a lot of people with stock at the broker there is no problem to shuffle around, it is all the same stock and an entry in the computer.
This of course leads to the real issue: you can buy stock and not leave it with your broker. This has been done, but only rarely (and not in this case)
This has been explained to me several times since last week. What nobody mentions is why is it done this way? It just feels unnecessarily obscure. What am I missing?
The simpler alternative to this is the much vilified and misunderstand system of “naked shorting”.
Basically it would allow credit worthy institutions to meet demand by creating synthetic shares out of thin air. As long as they pay all the associated dividends and maintain enough capital to buy back the shares.
That would remove the entire long and convoluted process of locating borrow, and remove much of the market disruptions associated with “short squeezes”
or, you know, not allow shorting of borrowed loans which you can report as you owning them.
(Disclaimer: my expertise in stock trading extends to knowing how to spell "stonk", but I've been reading enough HN and Matt Levine to perhaps be better than a Markov chain at this.)
Why wouldn't it be? It sounds pretty straightforward mechanically. A short means I borrow a share from you and sell it to someone else today, buy it back some time later and give it back to you. That someone else has a bona fide stock, which they can lend to another shorter.
If you mean why the metric of "how many [shorts to] edges are active" is being tracked? I'm guessing it's the best proxy for how confident market is the stock is about to tank. Also, shorting as an abstraction is its own thing, so counting how many shorts there are is as useful as counting any other distinct market activity.
You open a margin account and post some collateral (usually cash or treasuries). You sign a margin agreement (which is essentially a credit aggreement) committing to pay up for any losses. The broker can use the posted collateral to cover losses and you will be asked to put up more margin if losses deepen beyond a certain point.
There are a few different ways to be short of a stock but the most common are to sell short in which case you have a few days to buy the stock or locate a borrow before the trade settles. Other ways to be short are to write call options which you can just do by selling that option to someone, or buy put options. In certain cases you can short a contract for difference or single stock future or short the return on the stock in an equity swap. For all of these you'll need your broker to facilitate.
Brokers don't work together which is how the aggregate position of all shorts can get larger than the total number of stocks in issue. This is obviously not a healthy situation but the brokers are relying on the collateral to enable them to make good any losses.
Finally some people may have a short as a partial hedge for an overall long position (eg "Crash put protection") so may be net long overall.
It's worth adding that in some of the examples I gave above you can be short a stock but settle as cash so you don't necessarily need to locate physical stock to pay up.
In those examples the price of the stock is just a reference point used to calculate the quantity of the cash payment between the two parties so although the short will lose money if the stock rises they are not "squeezed" in the sense they are not desperately searching for stock to buy at any price.
Its like you leasing your house. Your assets still show the house. The lease holders address is the house. If you just see the records, there are two houses. But if you actually count, thereis 1 physical house.
It's more like you lease a house from the owner and then lease it out again. There are two leases, but only one house. The house has been leased 200%.
No it's actually selling the leased house and needing to buy it back after your lease expires.
Selling leased stuff is not allowed for a reason.
No it's like you leasing your house. Selling the house to a third party. One party (your buyer) owns the house. The original owner also owns the same house, since he only leased it to you.
But houses are non- distinguishable. You don't need to give him back exactly that house, just an identical one.
When you lend someone a stock you borrowed, it’s considered an additional ‘stock shorted’
And the entity that bought it from the short seller can lend it to someone else, leading to two short shares, etc...
Also, there is a difference between 100% of the stock and 100% of the float. Because in theory the institutions holding could alter their positions or lend their shares as well.
>Also, there is a difference between 100% of the stock and 100% of the float.
With GME both of these are abnormally high. Either of them is enough to explain the short squeeze.
How is it called, when the person you lend your stock to, lend it to someone else, who lends it again to you and you lend it to the first person again?
Madness?
(Anyway, my actual knowledge of the stock market is limited, but is my scenario a realistic one?)
No. Shorting is selling a stock you borrowed. Multiple borrows does not make a short.
What reddit guys are doing should be called MEMEntum & not momentum