Saturday, April 30, 2005

Senior Editors at Barrons: Cheaper by the dozen?

A recent email exchange was memorialized wherein one of the senior editors at Barrons, a fellow by the name of Bill Alpert, grilled me about a series of posts on the Yahoo NFI message boards. In them, Marc Cohodes of Rocker Partner's address was posted, along with an inquiry about his wife and son, and the aviso that the time of hedge fund manipulation was fast coming to a close as their game book was known. You can read the article here.

A significant point was lost on Alpert - Marc's name was not used in any of the posts. Neither was the word Cohodes. There was no easy way to get from an address to Marc. You may infer whatever you like from that. Whatever.

Now, as far as a threat goes, there was none. That was why I was confused when Alpert asked about the "threatening" messages. What threat, I asked? I suppose Bill is hoping that by calling a dog a cat, he can make it into a cat. Sorry Bill, all the cheap theater and mischaracterization in the world won't make a post with publicly available info and a "how's your wife and kid" into a threat, no matter how much wordsmithing goes into it. I can see how Bill would be sympathetic to Marc's spin, though, given that apparently he runs in the same circle - here's a fun little trip down memory lane where our friend the lapdog has a lovefest with Bill and....Marc!!!

So imagine my surprise when, after I took great pains to provide the history of private individuals who'd had all of their private information posted all over those boards - not public figures whose addresses and CV can be found at the click of a mouse, but just average retirees, whose only offense was apparently to be anti-naked shorting, or pro-NFI - that Bill just shrugged it off. Now, I am not excusing my posting his PUBLICLY AVAILABLE information, but I do feel that it is important to point out if you don't want your info out on the web, as a public figure, then take it off. It seems simple - if you are going to complain that having it posted is a threat to you, it would be more believable if you had made any attempt to have it removed. He hasn't. It's all still there. But apparently if you post the info and ask him how the wife and kids are doing, or how the weather is, you are one step away from being a Russian mob hit team. Huh. I'd advise cutting down on the caffeine or whatever other stimulant is in use, but that's just me.

Enter Wild Bill Alpert of Barrons. Apparently he chose to disregard the entire email exchange and explanation, and instead ran an article wherein he contends that I am a sinister threatening figure, who has Marc and his family wringing their hands, worried about being kidnapped or such. How Cohodes gets that from "How's the weather" isn't explained, nor from "how's the wife and kids" - but hey, who needs to explain stuff when you have an agenda to smear a message board poster?

I predicted the smear from Barrons on the 28th, gave 10 to 1 odds of it happening this weekend due to earnings coming out for NFI on Monday. The shorts don't have anything negative they can use about the company, so they are trying to attack me and link me, albeit obtusely, to the company, and thus, smear them by extension. Additionally, I believe that they are feeling genuinely uncomfortable now as a result of all the attention that NCANS has focused on the FTD issue - and they don't like the discomfort one bit. I don't blame them. I wouldn't want a lot of focus brought on an issue if I had been using it to illegally fiddle the system and manipulate stocks (not that I'm saying that Marc would be involved in that - lord knows anything is possible, but I'm not saying that he is, specifically).

Anyway, here is the text of an email I fired off to Alpert this evening:

"Mr. Alpert

I read with interest your diatribe on Mr. Cohodes' ostensible vicimization and my supposed threatening comments. It is noteworthy that I explained to you how there was no threat intended to his family, and further clarified that the ominous language used surrounding the "gamebook" reference was in regards to hedge fund activity - not family. And you chose to ignore that, giving ample space to Mr. Cohodes' specious and frankly embarrassing attempts to play the aggrieved victim by indicating that he was worried about "kidnapping" and the like. You never indicated why Barrons found this newsworthy when I asked you, nor did you apparently read our email exchange very carefully. I would suggest that you read the comments at for the sort of response your "news" is generating.

I find it particularly distasteful that Mr. Cohodesvictimization would resort to mentioning that his son was developmentally disabled, and that your piece made it seem as though I had used that bit of information, even though I never mentioned it, feeling that it crossed the bounds of decency. I also note that you ignored the contextual messages and examples I provided wherein private sector retirees and their developmentally disabled children were attacked and still are, by crews of bashers who work the boards in shifts. I can only assume from your one-sided hatchet job that you started out with the article in mind that you wanted, and simply ignored the data that interfered with your writing it.

Bravo. Just the sort of thing I would have expected from a captured media - I presume you know Marc and David well, and thus are doing their bidding for them, to attack the messenger whose offense really comes down to making the predation on NFI difficult. I note that you managed to compare NFI to a company that is 100% different, from product to industry to, well, everything, and further made it seem as though I was somehow involved in postings attacking Cohodes on that stock's boards as well.

Newsflash: Cohodes lost the suit against the message board poster because it had no merit, and was intended to intimidate. Cohodes is resorting to using his son as a foil in order to create a reed to hang a hope of believability to the notion that he was threatened, IMO. He was not. You know it, I know it, Marc knows it, and the readers of the boards know it. His behavior is, frankly, despicable, and your involvement in aiding him to further his sham position is equally despicable. The readers aren't fooled. You should have reviewed our email exchange at the NCANS site and known that I had predicted with 10 to 1 odds that there would be a borderline libelous article this weekend, given NFI's earnings release on Monday. Perhaps if you had known that the actual exchange had been read by thousands, and your likely bash predicted 48 hours ahead of time, then that would have diminished your appetite for outing yourself as a tool of the hedge funds - a position that could be rather uncomfortable moving forward. Or perhaps not - I can only guess as to what reward a piece like yours receives, perhaps simply the pride in a hard hitting piece of journalism well done? You deserve every bit of attention that the piece gets. It speaks volumes about the theories that certain publications and staff are toadies for the hedge funds. You are free to interpret that data however you like."

What's next? We recently had the lapdog assuring us in paranoid tones that the black helicopters were coming over the horizon to get him, by reading his phone bills. We've had "analysts" admitting to 100 hours spent trying to discover my identity in the WSJ (Barrons' sister publication, and one that seems to always have a hedge fund-friendly and auspiciously-timed barb - their last article about me was right before the Fall earnings were released). We've had speculations that I am Kaiser Soze in AP from another hedge fund friendly "journalist". We've had Stinger missile connected, nuke trigger purveying money launderers getting into it with me on the boards. How much stranger does it get? It is all just a bit too odd for words, really. Why are so many "reputable" publications apparently doing the work of character assassination for the hedge funds, and nobody is questioning it? And is anyone even slightly fooled by any of this?

Friday, April 22, 2005

The 82% Solution - Updated


Update: There's now a powerpoint presentation of my best take of how the stock borrow/FTD process works now up at NCANS. It is an approximation for your amusement and tittilation. Hope everyone enjoys it.

I called the DTCC today. Also emailed them. My question was simple – what happens to the 82% of the fail to delivers that the stock borrow program doesn’t satisfy?

I figured that isn’t asking the DTCC for the secret to constructing a dirty bomb, so they could at least explain that simple part of it. I mean, is there some special rule that prevents them from explaining a basic part of the clearing system? Is it top secret, eyes only?

Apparently so. No return calls, no return emails, and everyone in legal was in meetings. Funny, that. A lot of meeting over at the DTCC. Larry Thompson? Meeting. His staff. A meet-fest.

The reason I ask is because I can’t construct a model of how those fails are handled that doesn’t involve a systemic disregard for the rules that is clearly illegal. By the entire clearing system and brokerage apparatus. But that can’t be. That’s crazy talk. There’s no way that an entire industry has systematically conspired to defraud investors.

But there’s no other explanation that I can figure out. I even have a guy working on a flow chart of a fail that is handled by the borrow program, and one that isn’t. There’s no way to make it work unless the end buyer is being defrauded – is being told that they have shares in their account when there’s nothing there but some sort of a marker or IOU – and that’s fraud and counterfeiting. The classic definition – where you represent an instrument that is not genuine as being legitimate.

I’m hoping that the DTCC will be able to help me comprehend this. There has to be an easy answer. It can’t be that 5 large brokerage houses got together and just agreed to treat IOU’s as being the genuine article for their retail clients. That would mean that the entire system is predicated on a fraud. Because the next logical step is to assume that the IOU’s are traded as though they were legit shares. Which would violate a host of consumer protection laws, and subject the accounting firms that audit the brokers to huge, huge liability.

There’s no way that is the case.

Is there?

Note to DTCC: I’ll be in all day tomorrow.

BTW, given the current predicament over at Jahoo, werein apparently the bashers have taken to filing almost unlimited complaints over my posting in an effort to get my ID's banned and hence constrict my ability to communicate, if anyone has any doubts as to what ID I'm using, just email me and I'll confirm or deny it.

It does seem as though the bad guys are trying everything all of a sudden. Tells me that I'm getting warmer....warmer.....

Tuesday, April 19, 2005

Why Is The DTCC Lying To The American Public?

That is the question that occurred to me as I read the stellar letter responding to Mr. Thompson of the DTCC by Robert Shapiro, the former U.S. Under Secretary of Commerce for Economic Affairs. In it, Shapiro basically points out that Thompson is twisting, distorting, mis-stating, selectively omitting, obfuscating, telling tall tales, spinning yarns, telling fish stories, and so on.

See the whole letter at the news page at:

Mr. Thompson has some explaining to do. The glib, facile intellectual sleight of hand that was noted in earlier Sanity Checks, which Mr. Thompson has elected not to respond to, has now been shown, in detail, to be a crock (that's the technical term.)

I encourage one and all to email Mr. Shapiro's letter to Mr. Thompson, and to ask for a response, as well as to ask the obvious: "Why are you lying, and if so, what makes you believe you can get away with it?"

Sunday, April 10, 2005

Casinos, Markets, and the Philosophy Of Manipulation

You enter through the brightly illuminated double-doors, and enter a land of limitless possibility - lights blink, bells chime, coins hit their attendant cups with a jingle, comely hostesses offer free drinks, everyone is a winner. Smiling, laughing faces of preternaturally beautiful people beam at us from placards and signage, assuring us that we are all victors, as they were in the genetic lottery of life.

This is the casino’s pitch. We know it is a lie – we hear the piped-in sound of jackpots going off, see the obvious artifice at work. We understand that the house has an edge, and statistically has to win more often than not in order to stay in business and pay for the AC and the dealers and the electricity.

We know that the marketing conflicts with what we observe to be the actual patrons of the place - obese, chain smoking blue-haired septuagenarians with walkers and skin conditions and halitosis. We apprehend that we are being marketed a tonic of questionable value. But we are OK with that, because the amusement factor is high, and the casinos aren't allowed to cheat.

Not outright. They can't mark or count cards, apply pressure to the roulette wheel, load the dice, rig the machines. There are protections in place, they get an actuarial edge, and we pay if we choose to frequent the establishments, ostensibly for the entertainment value therein. The odds are known to us, and we get that they aren’t in our favor.

The equities markets are a bit different. And yet there are similarities. There is the possibility that one can get wealthy through good fortune, or at least without having to go to work. There is a marketing effort that encourages us to put our money onto the gaming table, that it’s the prudent thing to do - to be an "investor." There are pundits and talking heads and media personalities and analysts and advisors and brokers and fund managers and facilitators at every level to enliven and reinforce our decision to invest. There are plentiful studies that advance the wisdom that having money in the market makes good sense.

We have a regulatory net that is supposed to police the playing field, and we are told with regularity that they are doing so with diligence. We have the tacit imprimatur that all is well at a macro level, and that we can buy a piece of a company, invest in its future, with an assurance that criminals cannot simply steal our money with impunity.

The whole system is predicated on perpetuating that perspective, as otherwise it would be difficult to convince folks to put their savings into equities, and the market requires a steady stream of new money.

Welcome…To The Machine

A company goes public in order to raise capital and to create a liquid market for its shares. It gets a higher multiple as a public company, which reflects the liquidity of an investment through efficient markets versus a private investment where there is no easy mechanism or venue for exit. In early-stage companies, where there’s a technology development cycle that requires access to capital, or a latency between creation of IP and ability to monetize the IP, the idea is that the company can leverage their future income potential, in order to fund development today. Companies like DEC and Microsoft and Genentech highlight where this theory has been translated into reality, and the original investors were handsomely rewarded.

During the dot com bubble, this speculation in the future value of today's IP became an intoxicating elixir that was guzzled with abandon by novice investors convinced that their time had come, and that anyone could make money in the market. Those were heady days.

Everyone has a story of how they fared when it all came crashing down, as bubble speculations inevitably do.

But the fundamental idea is a sound one. Companies win, and so do investors.

In theory.

There are some hitches, however, in that occasionally companies are larcenous, and misrepresent their value or their prospects. Promoters will tout stocks, and mislead us as to the soundness of propositions. Larceny is not unheard of in the corporate world. Out of every X number of companies, a certain number will be deceitful – companies are simply microcosms of civilizations.

An entire machine has been developed to extract dollars from the buying and selling of stocks, wherein no value is added, at least no value in terms of the creation of a tangible. Speed has increased, ease of making transactions has improved, access to money and research and data have seen quantum leaps forward, but at its essence those are value-ads to the business of buying and selling stocks.

The business has gotten much, much larger than anyone envisioned over the last 25 years, and the industry has increased its capacity to accommodate the scale. It has been largely successful, but at the same time, parabolic growth has introduced a new variation of an old problem.

Money Talks

In any endeavor where large sums of money are in play, there will be those who behave criminally and unethically. It's a human constant. There will always be those who wish to make more by doing less, and who are impatient for their reward, want a shortcut, and are untroubled by moral or legal concerns.

The US equities markets are a magnet for those who understand that vast fortunes can be built if one is willing and able to game the system. The rules and regulations against doing so are inadequate disincentives to many of these players, as in a pure risk/reward equation the penalties are ludicrously paltry compared to the payoff. A mindset can prevail where only an idiot wouldn't be making some of the easy money to be had.

Our regulators are the guardians at the gates against these predators, these parasites in the system that feed upon and drain value, and productivity, and industry. Left unchecked, some parasites will kill their host, as their greed knows no bounds, and they are by definition opportunistic afflictions in it for immediate gratification. That's why they are sponges, rather than productive members of the system.

Securities regulators are chartered with keeping the public companies honest, and in policing the trading machine to ensure that the expected and predictably larcenous participants are kept in check.

The system falls apart when the regulators become co-opted by the participants, and mistake the predation of the parasites as a positive: that the parasites are simply accelerating the demise of flawed models, and serve a useful role in assisting the regulators in uncovering fraud.

I believe that this mindset has become the prevailing one for our securities regulators, and that belief is fortified by the statements of the SEC in the Euromoney article I reference in an earlier Sanity Check editorial. This mindset can translate into a climate where larceny becomes the baseline for the industry, is pervasive at every level, and is viewed by those chartered with brooming the system as a necessary and acceptable condition.

This environment is a toxic soup of chicanery and duplicity, wherein the rubes that are required as grist for the mill are assured that all is well by those who would prey upon them, and the regulators reinforce that dishonesty in order to protect their power base, their influence, and their existence.

Hedge Funds and the Madness of Crowds

Hedge funds are the latest example of unbridled power and influence trumping the best of systemic intentions. A novel industry has evolved wherein huge sums are controlled by entities with little or no oversight, and nobody is really asking where all the money comes from. While I believe that most hedge funds are honest and upright, it only requires that a small percentage be bent, in order for the system to be compromised.

When the numbers easily run into the billions, and there is essentially no regulation or constraint upon the source of or use of the funds, there is a natural attraction for crooks. Any time you have a conduit without real monitoring or safeguards, it does not demand much imagination to speculate on where a decent percentage of the money from the drug economy goes, or the illegal arms trade industry, or petro-dollars being laundered for use by terrorists. Money needs to make more money, and when the numbers are big enough, the predators emerge.

So here we are. Nation-state sized dollars are being used to short companies, some of which are no doubt scams and shams, but the majority of which are simply vulnerable due to their stage in the development cycle. Abundant evidence exists to support the theory that a substantial amount of illegal short selling is being conducted in a strategic manner, to destroy smaller public companies. Links between the media, class action attorneys, regulators, analysts, market participants, banks, politicians and the phenomenally wealthy hedge funds are easy to spot in the recurring attacks containing all the same elements and players.

The Reg SHO Threshold list is simply a binary confirmation that “selling that which one does not own” - failing to deliver, or naked short selling, or fraud (in layman’s terms) - is a regular practice. There’s no argument, simply discord over the level of abuse and at whose feet to lay the blame.

Scholarly abstracts are manifest from academicians observing and commenting on the extent and profitability of the manipulations. The financial engine of our country is being subverted, and used to destroy companies at the exact stage that they most require an accommodative environment. Countless innovations are being lost to bankruptcy and a failure to obtain necessary follow-on funding, and we as a country will be the poorer for it. In today’s environment a Microsoft or an Intel or a Genentech couldn’t survive, and our future prosperity as a nation is being mortgaged so that a select few can prosper.

The business of serial-killing companies in order to benefit from the decline in their stock price has become a mainstream industry, and there seems to be no appetite from the regulators to stop it - the extent of the problem is likely so large that a systemic collapse could be in the offing were all facts known. Hence a push to ensure opacity in a system that should be transparent, and a breezy desire to "just put things behind us and move forward" by our regulators. If they had been doing their job the current state of affairs would have been impossible to arrive at, and they are eager to avoid examination of their collective failings.

Is The Best Defense Really No Defense?

So what can a company do to protect themselves from the marauding intent of rogue hedge funds? The popular wisdom that has been propagated and reinforced by an industry intent upon squeezing every last drop of profitability out of illegal manipulations, is do nothing. The bad guys have ensured that plentiful articles abound, proclaiming the inadvisability of mounting any defense other than running the company and letting the numbers do the talking.

Statements from the media and academics regularly appear to reinforce the idea. Attorneys celebrate it, as their clients can't be sued for keeping their heads down and doing nothing to aggravate an already negative situation. It is reasonable legal advice, but in my opinion, terrible business advice. Then again, most attorneys have never run a business.

The truth is that we don’t see much change in the manipulators’ play book because the tactics they employ are so effective. They target companies of a certain size and at a certain stage in their development, secure in the knowledge that the victim will lack the skill-set and the bandwidth to mount a competent defense.

They are unwittingly aided in their assault by the management teams, who inevitably are ill-equipped to respond to the attacks. The CEO’s are typically very smart, very stubborn guys who believe that they can win if they just stick to running their company as best they can. Again, that is reinforced and played to by the industry’s observations. The management teams want to believe that they can ignore the threat, and that eventually fundamentals will rule the day; and they are assured that is the best course of action at every turn, which in turn validates their bias.

In my experience you can’t con someone without their help; it requires one’s active participation in deluding oneself to buy the real whoppers. The manipulators know this, and understand the audience they are playing to - the prevailing mindset that they can exploit for their benefit.

Most management teams believe that they are different, and that unlike all the other companies who have been driven out of business or relegated to the pink sheets, they will prevail – ignoring that all the other management teams believed the same thing. They don’t teach this in business school. There’s no knowledge base to draw from, no institutional memory, and by the time they have the experience, they are likely road-kill.

They Asked For It

Blaming the victim is popular, both for the system, as well as for the companies that are looking for proof that they are atypical.

If all those other companies were scams, or bankruptcies waiting to happen, then there’s a facile excuse with which to comfort oneself. It offers the companies hope that because they are different (ostensibly), they will likely be spared the same fate. And it offers regulators a pretense to hide behind – it is a blend of classical logical fallacies, that of the undistributed middle (syllogism), and of affirming the consequent (non-sequitur): “Many companies that were attacked and ultimately failed were scams; most scams are ultimately discovered and attacked, therefore if you are a company under attack you are likely a scam.” Or: “If you are a scam you’ll attract an attack; you are under attack, therefore you are a scam.” Or my personal favorite variation on the non-sequitur theme: “Shorts often know something is wrong with a company; shorts say something is wrong with you, therefore there is something wrong with you.”

Manipulators have an additional arrow in their quiver, which is the understanding that most companies of a certain size have no experience with the threat they are dealing with, thus misunderstand the scope and severity of it - and lack the financial and personnel resources to fight back. This is key. Manipulators want easy targets. Like all criminals, they seek low hanging fruit. That’s why they generally don’t go after strong, established, well-funded large companies unless the target is in a pronounced crisis. They dislike a fair fight. It reduces their odds of winning. And an easy win is what they count on.

The experts in the field, invariably attorneys whose expertise is self-declared, or based upon some contact with companies in crisis, will tell the companies to do nothing. Their reasoning is simple: the company never has the internal resources to implement convincing countermeasures, will dilute its focus if it becomes engaged, and will be inept in any efforts it mounts. So doing nothing is better than doing something poorly, which will be equally ineffective as the "do nothing" solution, but provide additional opportunity to the manipulators. So take the safe route. I can’t argue that, and I’d probably advise the same thing for many, as if you are a software developer or a mortgage lender or a food producer you likely lack the expertise to be effective. The problem is that you are just as dead at the end of the day if you take this route - you'll just suffer less collateral damage on the way to the morgue.

I’ve heard folksy wisdoms espoused, like, “don’t wrestle a pig – you get dirty and the pig enjoys it.” Cute homily, but incorrect and inappropriate. A better metaphor would be that of an explorer who just waded through a river, and finds himself covered with leeches. What should he do? Drink lots of orange juice, work out, take vitamins, and keep on exploring? Incredibly, that is what the parasites have advanced as sage advice.

Here’s a news flash: if you don’t take informed, effective steps to rid yourself of parasites, they will eat you alive. That’s been my experience looking at hundreds of companies that have been run out of business or onto the pink sheets. And yet, for fear of appearances, most companies will choose to do nothing in the hopes that a bright, motivated, experienced team working 24/7 to destroy shareholder value won’t be able to achieve what they clearly have been successful at doing hundreds of times in the past.

Another variant of the logical fallacy advanced by manipulators is that if a company complains about short sellers illegally attacking them, then they are likely scams. The fallacy here is an easy one to spot: “Past scams have protested that short sellers were to blame for their woes, therefore if you protest, you are a scam.” And yet as obviously laughable as that fallacy is, it’s a powerful deterrent, as many companies that are being manipulated, are on the Reg SHO Threshold list, are being unfairly castigated in the press and by biased analysts, will take a strong and silent posture, for fear of being branded a scam. Ludicrous, but that’s the system – if you scream rape, you are likely going to be called a woman of ill repute, so be quiet.

It is an affront to any pretense of fairness or reasoned process, and yet that’s the way it is. And the regulators support this witch-hunt approach to justice – if you complain you are guilty, and if you don’t complain and are driven out of business you were likely guilty. A nice package where the company is always wrong, brought to you by the regulators who are supposed to be ensuring an even playing field.

Wearing The Target Down

The onslaught of a sustained, ongoing manipulation will weaken most companies, either by wearing their investors out, or wearing the management team out, or creating enough business issues for the team to have to contend with so that their very existence is jeopardized. It is not unheard of for class action suits to be filed solely to affect stock price, investigations to be launched solely to cause problems for the company (in getting key orders, or funding, or to impact customer relationships – there have been instances where investigators called key customers of companies to inquire whether they knew anything about suspicious activity – a surefire way to kill a relationship), stories to be planted in order to hinder pricing of secondaries. All’s fair when you are trying to crush the victim like a cigarette butt.

Manipulators will make money as the stock falls, and when the stock rises. The art is in knowing when the stock will move in a particular direction. Which, on a thinly traded issue, you are in a position to know if you are coordinating the manipulation. So money will be made on call options or by selling puts when it’s time to let the stock go up some, and on short sales and by buying puts and selling calls when it’s time to drive the price down.

The thing that most companies don’t realize is that it doesn’t matter what business the company is in, how strong their fundamentals are, or how savvy their team is. The manipulators couldn’t care less. It is irrelevant. They are using the company’s stock as a vehicle to make money, nothing more, nothing less, and it doesn’t matter if the company has the cure for cancer or is all sizzle and no steak – they will be treated identically.

Ultimately the goal is to demolish the company and put them out of business, but that goal is only an imperative for a certain type of manipulator. For the better-funded and more sophisticated crooks, the juice is in sustaining the up and down cycle of the stock movement – no final death blow is required, nor even necessary. The event horizon for these manipulators is multi-year, and they make money in all markets. They can afford to wait to capitalize on any bad news for the targeted company, or the sector, or the economy, or any macro events. In the mean time they can make the rent by swinging the stock around. All they require is a steady stream of investors to fleece.

Eventually the cycle results in the targeted company’s investor base becoming disenchanted, of the belief that nothing can save the company, that fundamentals don’t matter, that the only news is bad news. Manipulators accentuate negative moves, as there are few investors desirous of “catching a falling knife,” and when the news is bad the parasites will throw their weight into selling the stock off, capitalizing on panic, creating margin calls.

The erroneous assumption by many is that eventually the manipulator has to cover – not true. If they can engineer the company going BK, or remaining in penny stock purgatory indefinitely, they never have to cover – they get to use the funds generated by selling fail to deliver shares in perpetuity, with no tax consequence, as long as the company is trading for a fraction of its past price.

The perfect case for the manipulator is if the company is ultimately de-listed – then they never, ever have to cover, although there is a question as to the contingent liability for the fails once the company goes private (de-listed), as who owes all the now private equity holders if there is a 200% or 300% or 400% overage of owners to equity? This is the realm of lawsuits, but most shareholders are wiped out by this point, as is the company, so in the end nobody has any money to go after anyone else. The only winner is the manipulator, who gets to keep all the money generated by driving the company out of business.

Abandon All Hope?

I have seen few things succeed as a defense against a manipulative attack. As previously discussed, most companies are ill-prepared for one, and puzzled as to what is happening when they are in the middle of it, and by the time they understand the level of peril they are in, it’s too late to resuscitate the victim.

Often the attacks are driven by someone desirous of acquiring the company or the technology, who points the bad guys at the victim (what hedge fund isn’t interested in hearing about a new short idea?) Sometimes it’s the company’s own investment bankers, sometimes a competitor who wants to kneecap a potential upstart before they can take market share. There are an infinite number of variations.

In the biotech and nanotech field I believe that we see a lot of this sort of competitively driven strategic manipulation. Big Pharma doesn’t like to pay retail for technology. If they can impede a company’s chances of securing funding or bringing a product to market, they can often buy the company’s assets out of bankruptcy, or for fractions of a cent on the dollar once the target’s back has been broken.

Same in the technology arena – if you could impair a company’s chances of growing into a formidable threat in your market, what dominant player wouldn’t at least consider it? Especially if there was virtually no chance you would ever get caught, or have meaningful charges brought against you? And what if you could make money doing it?

Sadly, many companies that are attacked never recover. Either their will to succeed is broken, or the will of their key investors and institutions to continue to support them is broken, or the timing of their competitive advantage is lost, or their ability to raise capital at reasonable valuations is destroyed. Employees lose ambition as their options become worthless, retail investors lose hope as their NAV declines, customers and suppliers and potential partners lose interest in doing business with a stigmatized entity, and ultimately the weight of the onslaught diminishes the company’s prospects.

What I have described is nothing more than the bulletin board scam moved up the foodchain, now impacting companies with billion dollar market caps in addition to the microcaps trying to fund their business plan. As the money in the hedge fund world has gotten larger, so too has the requirement for targets, and bigger money can hunt bigger prey. This can only get worse before it gets better, and given the amount of leverage that many of the offshore funds use, the bankers that are supporting that leverage cannot allow them to fail – hence there is no limit to the amount of money that can be brought to bear to depress a company’s stock.

From a regulatory standpoint, a rigorous enforcement of existing delivery requirements and rules requiring forced buy-ins for fail to deliver shares is the only way to combat the trading irregularities we see in many stocks across all the exchanges. The equilibrium of market forces doesn’t work when there are a limitless number of shares that can be sold using a limitless amount of money. If the regulators do nothing and stand by while our markets are plundered, they are facilitating the wholesale destruction of American business development and innovation, and soon the only money that will be coming into our markets will be money earmarked for the destruction of companies, rather than for investment in their growth.

Time For A New New Thing

I would argue that a new paradigm is required to contend with this threat. The rules and laws on the books need to be enforced, with vigor, unilaterally, and companies need to wake up to the reality of the public landscape that they are a part of. Perhaps if enough victim companies figure it out and implement convincing countermeasures, then the appeal of savaging them for profit will be diminished, and the predators will move on to easier prey. There will always be hunters and hunted, but I would argue that porcupines get attacked far less frequently than hamsters.

My belief is that it is possible to create and implement effective countermeasures, however the companies that do so will be few and far between. Most don’t understand how the threat they are faced with operates, what its network looks like, how committed it is to the destruction of the target, how well funded it is, how its tactics can be countered. Most are hard pressed to allocate resources to deal adequately with business issues, much less to deal with what is naively viewed as a “market issue.” And by the time they wake up and realize that the “market issue” is in fact a cage fight for the survival and prosperity of the company, where their adversary is skilled, motivated, networked, well-funded, and intent upon winning, they are too far down the road and have squandered their chances for survival. Too many companies misunderstand the nature of the engagement, and the sophistication of the lineup of adversaries. Most won’t make it through the gauntlet without major damage, and many will be lost due to doing too little, too late.

The sad fact is that in many instances this is no longer about betting against a company by selling short – it’s about using every means available to destroy companies in order to create a gain. There is simply too much money at risk to leave anything to chance. The stakes are too high.

This amounts to a kind of financial terrorism, in the sense that we have become a country that sells things and services to each other, rather than a nation that builds things (other than houses.) Our strength still lies in our ability to innovate, not manufacture – we’ve delegated that to economies where the cost is lower to produce goods. Innovation requires the capability for new ideas to flourish, to find capital, to make it from the idea and development stage to the revenue generation stage. If an industry exists in our equity markets that derives its profit from destroying early stage companies, and we stand idly by as it goes about its savage and illegal business, then we are a doomed society destined to become a backwater economy – an animal that allows others to eat its young. That dim beast cannot have a very bright future.

And we deserve better.


Unless their approach to dealing with the problem changes, the companies that are targeted by manipulators don’t stand much of a chance. Doing nothing is not a defense, and the absence of a defense is an invitation to marauders to have their way with them. And we, as a nation, cannot afford to allow that to happen, as the companies that are destroyed represent our future innovations – the next Intels, and Microsofts, and Genentechs. Our intellectual property is such that it is rapidly becoming our differentiated national product, and if the market that enables its nurturing and development is systematically undermined, we will be an economy in permanent decline – new drugs won’t make it to market, new devices won’t be created, cures and improvements will remain undeveloped, better mousetraps will forever get stuck at the drafting table.

Our system is one that, over time, has been twisted by the participants to circumvent the rules that were passed in 1933-34 by a Congress that had just witnessed the ultimate result of unrestricted financial marauding. That is the inevitable conclusion one must arrive at once a serious examination of the current predicament has been concluded. There is a kind of reverse Moore's law at work, where every 10 years the markets get 80%-100% bigger and the efficacy of existing safeguards goes down by some correlated percentage.

This is a fancy way of saying that as the scale of the markets has grown, so too have the number and variety of loopholes that enable the larcenous to game the system. Presumably the majority of participants are honest, but it doesn't take many bad ones to ruin the entire machine. In the present era, market makers, financial institutions, international arbitrageurs, virtually anyone with resources and desire can find a legal loophole big enough to drive a semi through, and for those too lazy or too brazen to seek out legal mechanisms there are few if any meaningful disincentives. The SEC is uninterested or unable to regulate the markets in this new era, and the result is a system in crisis.

This is an untenable and unsustainable situation.

The laws need to be enforced, and companies need to reinvent their strategy for countering manipulative assaults.

No action will, in hindsight, be viewed correctly as the most damaging action of all.


Friday, April 08, 2005

An Open Letter To Mr. Thompson of the DTCC

Dear Mr. Thompson:

I am again writing to you in the hope that you will take a moment to help me understand where I went wrong. It is important to me personally as well as to my organization, the National Coalition Against Naked Short Selling, to apprehend where our reasoning went awry.

In your recent @DTCC “interview” of March 5 you made a number of comments that would lead the reader to believe that the NSCC’s stock borrow program did not allow that subsidiary of the DTCC to lend out more shares than a participant firm held, or that were authorized and registered by the issuing company. The way the answers were worded, one could easily draw the conclusion that you had truthfully and fully addressed the issue.

You had apparently put to rest the nasty rumor that the DTCC created an unauthorized, unregistered float of shares over and above those legally authorized by the company in question – what some would argue convincingly is electronic counterfeiting of stock. In point of fact, in one artfully worded section, you went as far as to denigrate your detractors as either “intentionally misrepresenting” the “SEC approved system” or of being “profoundly ignorant” of the way the process works.

Your words: “Once a loan is made, the lent shares are deducted from the lender’s DTC account and credited to the DTC account of the member to whom the shares are delivered. Only one NSCC member can have the shares credited to its DTC account at any one time.

The assertion that the same shares are lent over and over again with each new recipient acquiring ownership of the same shares is either an intentional misrepresentation of the SEC-approved system, or a profoundly ignorant characterization of this component of the process of clearing and settling transactions.”

Strong language designed to end any idle and erroneous speculations by the dim, or the uninformed, or the dishonest.

This was in conflict with the way that I understood that the system worked, so I sent you an email around April first, requesting clarification, and offering a very specific description of how I believed the process functioned.

I can understand that you might be occupied with many important tasks and obligations, and thus might not have the time to get around to clearing up the issue for the largest entity of its kind, one of your main detractors, a coalition that has run full page advertisements in the Washington Post and has been involved in the only television footage ever aired that described the naked short selling abuse story. But I had hoped that you would seize that opportunity to disabuse us of our misunderstanding, so that we could fold up our tent, apologize for inconveniencing you, and move on to other things.

Because surely we had gotten it all wrong – you literally called us cretins or crooks for our flawed take on the matter.

It seemed reasonable to expect some response, given that you are the spokesperson for this issue that the DTCC has put forward to explain things. So far, nothing, but I have remained hopeful; cautiously optimistic, if you will.

Imagine my surprise today when I read Professor John Finnerty’s March, 2005 abstract titled “Short Selling, Death Spiral Convertibles, and the Profitability of Stock Manipulation” – in which the Professor of as venerated an establishment as Fordham University agreed with my supposedly incorrect understanding! Apparently he is either as intellectually dishonest or as “profoundly ignorant” as the members of NCANS are - not to mention the attorneys that are suing you, and the reporters you castigated at Euromoney.

So now to the problem. Either we are all badly wrong, or you are lying.

Given that you are an officer of the court, an attorney, and the representative of a self-regulatory organization that is dependent upon the investing public’s belief that you are honest in your dealings, I find it disturbing to consider that you might be bald-faced lying, in print - and therefore conclude that we must all have it wrong.

The alternative explanation would be that you are deliberately misleading the American public and mischaracterizing the operations of the NSCC, in an effort to obfuscate the truth. I find it hard to comprehend that you as an individual, as well as the DTCC, could be involved in this type of possibly criminal dishonesty. I’m hoping that you will grace us with the few moments it should take a gentleman of your robust and comprehensive knowledge of the system, and explain how, and where in the process, the professor has this wrong. To save you the time of looking it up, I have taken the liberty of excerpting pages 35 and 36 of his abstract:

"The NSCC was created in 1976 through the merger of three major clearing corporations (NYSE, AMEX, and NASD). NSCC works in conjunction with the DTC to provide centralized clearance and settlement for broker-to-broker stock trades in the United States. The NSCC clears and settles transactions through the Continuous Net Settlement (CNS) system. It guarantees completion of the transactions by assuming (a) the obligation of the buyers to pay for the shares upon delivery and (b) the obligation of the sellers to deliver the shares. During the trading day, the CNS continually nets all trades by its members in each security. The member’s previous trading day’s closing net long or short position is continually updated with the day’s purchases and sales. At the end of the trading day, the member’s updated net long or short position in each stock is communicated to the DTC for overnight processing. Each short position is compared to the member’s DTC account to determine if the member has enough shares on deposit to settle the short position. If so, then the DTC transfers the required number of shares from the member’s DTC account to the NSCC’s DTC account.

Based on instructions from the NSCC, the DTC transfers shares received from members with short positions to the accounts of members with long positions. If the member with a short position does not have enough shares in its account to cover the short position, then the NSCC has five choices. It can wait another day to see whether the seller cures the fail by delivering the shares. Second, if it determines that the open short position is a high-priority obligation, it can attempt to arrange to borrow enough shares through its stock borrowing program to satisfy the open position (NSCC, 2003). If it is unable to borrow the shares, then the DTC has the three remaining choices: (a) it can demand a dealer buy-in (forcing the selling broker-dealer to buy the shares in the open market and deliver them to the DTC), (b) buy the shares itself in the open market and charge the cost of the buy-in to the account of the seller, or (c) as a last resort, demand that the seller break the trade and compensate the buyer for the associated cost.

The NSCC’s stock borrow program permits it to borrow shares from participating members to cover end-of-day open short positions that it deems to be of high priority. Addendum C-1 of the Rules and Procedures of the NSCC (2003) governs the operation of the stock borrow program. Members who wish to participate in the program inform the NSCC each day of the number of shares of each stock in their general un-pledged account at the DTC which they are willing to lend. After the NSCC determines the number of shares it would like to borrow to satisfy all high-priority open positions, it applies a formula to determine from whom it will borrow the shares. The formula favors members who have the lowest stock loans from the NSCC and who pay the most clearing fees to the NSCC. When it borrows shares, the NSCC debits the lending member’s DTC account but also credits that member with a long position in a special CNS sub-account set up specifically for the stock borrow program. The sub-account holds what is tantamount to an undated stock futures contract with the NSCC as the obligor. The NSCC also credits the lending member’s regular CNS account with funds equal to the market value of the borrowed shares, which the lending member may invest overnight in an interest-bearing account.

The DTC credits the borrowed shares to the NSCC’s DTC account, which eliminates its short position, and transfers them to the buyer’s DTC account. The buyer acquires all right, title, and interest in the borrowed shares – just as it would in any cash transaction that settles the regular way – including the right to vote the shares, receive dividends, resell them, or lend them (e.g., back to the NSCC through the stock borrow program).

The NSCC charges a fee to each member with a short position that triggered the NSCC’s need to use the stock borrow program. The NSCC returns the borrowed shares when it receives deliveries against outstanding short positions that exceed the amount of shares it needs to satisfy high-priority open short positions.

The stock borrow program can facilitate naked shorting in two ways.

First, sellers can continue to fail to deliver because the NSCC can borrow the shares it needs to meet its clearing obligations through the stock borrow program. It does not have to force the seller who fails to deliver to buy in shares, nor does it have to go into the market to buy in the shares. It simply borrows them from another member firm to effect the buy-in. Since the NSCC covers the short position, the buyer of the stock also never has to buy them in.

Second, the stock borrow program allows the shares to be recycled. Each stock loan gives rise to another stock futures contract. Any single share could actually be re-lent multiple times, giving rise to multiple futures contracts. Each futures contract credited to a broker-dealer’s sub-account at the DTC continues to be reported on the broker-dealer’s books as a share held either in its proprietary account or in a customer account. In either case, the account holder believes he owns a real share with all the rights attached to it.

Consequently, the stock borrow program effectively creates additional unauthorized shares of the issuer’s stock. These undated stock futures contracts, which the financial press has referred to as phantom shares, inflate the amount of stock that is available fortrading and also increase the amount of stock that is available for lending to short sellers (SEC, 2003b).”

Again: “Consequently, the stock borrow program effectively creates…additional …unauthorized….shares…of…the…issuer’s…stock.”

Now, I am likely a bit provincial, naïve, misinformed, dare I say, “profoundly ignorant.” The good Professor, however, seems to be both worldly as well as erudite, and fluent in the minutiae of the matter.

So please, favor us with a simple, short explanation of precisely where we have this wrong. Feel free to highlight the text from the Professor’s work, and provide a one or two sentence explanation of his error. I’m confident that the few minutes that will take you will pay enormous dividends in terms of ending this pervasive ignorance, which apparently infests the hallowed halls of academia, as well as the unsophisticated streets of Mainstreet USA. Feel free to use small words if you like, so that we all can follow along – let’s not leave anyone behind.


I would encourage anyone that is interested to email this, with my compliments, to Mr. Thompson at - or reach out and touch him at (212) 855-3240 and ask him to please respond. In fact, go ahead and post a comment here if you sent this to him, so that we can keep track of the number of folks he is too busy to respond to. I am a huge believer in giving one every opportunity to demonstrate one’s honesty and integrity. Or giving them enough rope…


Wednesday, April 06, 2005

Taking The Gloves Off

Well, the Dateline story has been shelved, at least for now. You will note that I stayed away from the tossing of hats in the air on that one when we were assured that it would run. The reason is simple - I am not convinced that NBC or any network will have an interest in running a story that blows this wide open. The money is too big. The interests are too big. And it would run counter to my experience with human nature to see someone like NBC step up to the plate. So if and when it runs I will celebrate, however I'm not holding my breath. Nope. I've been busy. Thinking. Pondering. Cogitating.

The time has come to bring out the heavy artillery. The SEC has proven to be at best a paper tiger, and at worst complicit in aiding and abetting the fleecing of American companies and investors. Certainly, one can’t argue that they have taken no meaningful steps to enforcing their own rules and regulations. They acknowledge as much in the Euromoney article, where the arrogance and disdain displayed borders on contemptuous.

So, I was sitting around last night wondering what to do when the regulators aren’t doing their job – how do you get justice?

Answer: You take the ball away from them. You eliminate them from the loop. You render them trivial, or non-essential, to the justice process.

How do we do that? The answer is breathtakingly simple.

We take the process and we move it to the state level, as Elliot Spitzer did with the mutual funds.

In each state, there is an Attorney General and a head of the Department of Commerce or a Secretary of State, who oversees the state securities board. These entities can be used to remove the blocking that the SEC effectively mounts to any sort of effective action. They can file subpoenas and secure the information on the fails from the DTCC/NSCC – the DTCC/NSCC can’t just say no to a criminal investigation subpoena, and the DTCC/NSCC does business in every state, via the presence of their SMART software, which is used every day at the brokers in every state, and which is the property of the DTCC/NSCC, per the license agreement. So nexus and jurisdiction are easy to establish, and one doesn’t even require knowledge of who the perpetrator is – the data will tell the state that, as well as offer other vital data requisite to doing the diligence in a reasonable investigation. And it won’t be securities abuses, necessarily – it will be fraud, and racketeering - simple, easy stuff that doesn’t require or involve the Federal mechanism.

There is a certain level of art to the deal, and it is not a good idea to go rushing in blindly, using individual action and making demands. The state regulators are not required to pursue every criminal complaint filed, and one has to craft the case and articulate the merits of the complaint with a certain finesse, a sensitivity, if you will. And some states are going to be more receptive to moving on this than others. But some will move, and once they move, the game is over – the Federal mechanism that has been used to construct a wall of denial and lack of enforcement simply is not in place to run interference at the state level.

I will be working very hard over the next few weeks to think through the best mechanism to bring the states into the mix, and eliminate the requirement for any Federal involvement – it worked in Massachusetts in the Putnam fund case, wherein the Secretary of State filed subpoenas and within hours the SEC suddenly was there with their subpoenas. It works with Spitzer. And it will work here.

We will not be denied due process and justice by a regulatory arm that has unilaterally confused its mandate with running interference for the bad guys. It is unacceptable, and the data from the NSCC, once it is obtained at the state level, can easily become part of the public record. The SEC may feel that protecting the trading secrets of the hedge funds and brokers that are violating the law and manipulating our stocks is a good idea, but my sense is that the states won’t see it that way. And once the data is part of the public record, their ability to block us from knowing it is over.

The SEC just became an ineffective shield for the bad guys. They are rendered immaterial.

And it’s about frigging time. This just makes it official.

Stay tuned.

Sunday, April 03, 2005

Does The SEC Lie To Senators?

What if you were the member of an elite regulatory team, that, well, for lack of a better term, had to lie to your employer to hide a large and growing problem?

Would that be OK, you think? Is it OK to perjure yourself to avoid having to admit to something being badly wrong? Or at least deliberately mislead your boss?

I took a little trip down memory lane this morning, and discovered what I consider an oldy but a goody - the case where the SEC lied, or at least misled, Senator Sarbanes of Sarbanes-Oxley fame.

So what's the deal, you ask?

In April of 2003, there were large scale settlement failures relating to a company called Jag Media. A shareholder wrote Senator Sarbanes, and the Senator requested an explanation from the SEC as to what the hell was going on. The shareholder provided a ton of documentation in the form of emails and brokerage statements from April of 2003.

Enter our hero Assistant Director of Market Regulation James Brigagliano (of the previous Sanity Check attributed quote from Euromoney about large, pre-existing settlement failures and the SEC's desire to avoid volatility for the manipulators), who responded to Senator Sarbanes inquiries with a sleight of hand worthy of Houdini. With the Senator providing April, 2003 brokerage and clearing firm e-mail evidence of settlement failures they could not address, Mr. Brigagliano dismissed the memos as issues pertaining to a corporate action taken in June of 2004 - ignoring that the e-mails/statements were dated nearly 14 months prior.

I have copies of the Sarbanes letters and the responses from the SEC. It is astounding to read the level of obfuscation that is used to misdirect the fails from 2003 as being related, somehow, and ignoring the laws of time and space, to something that happened 14 months later. And yet that is exactly what was done by the SEC, and apparently the Senator bought it, or rather never caught the BS.

I did.

Imagine explaining a robbery committed in April of 2003 as being directly related to and caused by a change in Bank Security Protocols in June 2004. Would any judge in the country let it by? Would opposing counsel allow it for a nanosecond? Would any jury not laugh it out of the room?

Of course not.

And yet that is what our hero did, with a straight face, in writing. To this day it has never been addressed. If anyone wants to contact Senators Bennett or Sarbanes and demand a clarification of why the SEC was allowed to lie, or mislead, elected officials who are supposedly due straight answers from that same regulator, feel free. And let me know what the response is. I can always forward interested parties the documents, would be happy to, in fact.

Isn't it about time we started demanding accountability from our regulators rather than intentional deceptions? Isn't it about time that the veil of secrecy was lifted, and our public servants be required to at least live up to the honesty requirements of private citizens?

Or is it just me?

Friday, April 01, 2005

A Copy of my question to Mr. Thompson of the DTCC

The following represents an email I sent to Mr. Thompson at the DTCC 4 business days ago. I have not received a response. Now, it is one thing to blather on about how everyone is lying about your stock borrow program, but it is another to go on record saying specifically how and where they are in error. I have invited Mr. Thompson to do so, and thusfar he has been conspicuous in his silence. Here is the text of the email regarding the actual mechanics of the borrow program, and my invitation to set the record straight, once and for all, and end these viscious rumors about what I am sure is an innocent misunderstanding.

So I wonder why no response...?

"I read with interest your recent interview with @DTCC. It raised some questions in my mind. The following is represented to be an accurate description of how the Stock Borrow program works between the NCSS and the DTCC. If it is not accurate, which part is innacurate, and how?

1) Assume that on April 1, Issuer has 100,000 issued and outstanding shares. On April 1, Seller S sells 1,000 shares of Issuer's stock to Buyer B. Seller S fails to deliver the 1,000 shares for settlement by April 4, which is Settlement Day. The NSCC then borrows 1,000 shares from Lender L through the Stock Borrow Program and delivers the 1,000 shares to Buyer B's Depository Trust account on April 4. Buyer B's Depository Trust account now reflects that Buyer B owns 1,000 shares. At the same time, since Lender L's loan of 1000 shares to the NSCC is not reported or visible to the marketplace, Lender L's NSCC account still reports that it owns the 1,000 shares that it lent to the NSCC. As a result, the marketplace now indicates that Issuer has 101,000 issued and outstanding shares, when in fact Issuer has NOT issued or authorized the additional 1,000 shares. These shares were artificially created by the NSCC when it borrowed 1,000 shares through the Stock Borrow Program and delivered them to Buyer B. Furthermore, two people now own the same 1,000 shares – Lender L and Buyer B.

2) Since the 1,000 shares received by Buyer B in the paragraph 1 illustration is now held in Buyer B's Depository Trust account, Buyer B can now lend the 1,000 shares to the NSCC through the Stock Borrow Program, thus, repeating the process and resulting in multiple shareholders owning the same shares. For example, assume that in a subsequent transaction on April 5, Seller S sells 750 shares of Issuer's stock to Buyer C. Seller S fails to deliver the 750 shares on April 8, Settlement Day. Therefore, the NSCC borrows 750 shares from Buyer B through the Stock Borrow Program and delivers the shares reflects that Buyer C owns 750 shares. In addition, since Buyer B's loan of 750 shares to the NSCC is not reported or visible to the marketplace, Buyer B's NSCC account still indicates that Buyer B owns the 750 shares which the NSCC borrowed for delivery to Buyer C. In sum, the marketplace now indicates that Issuer has 101,750 issued and outstanding shares, when in fact Issuer has NOT issued or authorized the additional 1,750 shares. These shares were artificially createdby the NSCC when it borrowed 1,000 shares through the Stock Borrow Program for delivery to Buyer B and then borrowed 750 shares from Buyer B for delivery to Buyer C. Furthermore and most remarkably, three people now own the same 750 shares– Lender L, Buyer B and Buyer C.

I invite our good friend Mr. Thompson to help us understand the error of this description, culled from the Nanopierce lawsuit. I would further encourage folks to send him a copy to refresh his memory. It would be unfortunate if all the media spin on this turns out to be just that, and that the DTCC's comments are a smokescreen, and that the above does accurately reflect the way the borrow program works, and that they never respond as they can't without lying on the record.

But how else are we to interpret no response by the guy interested in clearing all this up for us?