I came across this article by the manager of the Green Alpha Fund - an environmentally focused mutual fund that is run out of the Sierra Club. In full disclosure, I am a member of the Sierra Club and very supportive of much of their work, but this article seemed a little over the top.
The basic premise is that several solar power related stocks, such as LDK Solar, are being shorted irrationally by Wall Street firms that somehow "hate" solar power. Without getting into a debate on whether or not LDK is fairly valued or not, it is worth noting a few things.
1. Short selling is a risky strategy - you are exposed to losses that can be potentially far greater than your gains. You also have to pay to borrow the stock (in order to short), and thus you are constantly incurring losses if the stock just does nothing. As a result, it is not that surprising to find that most of the evidence on short selling supports the idea that short sellers tend to be pretty informed. These traders have a lot to loose and their positions are expensive to put on and as a result they tend to have done their homework.
2. To say someone has an "irrational hatred" of a stock because they short it, is quite frankly, stupid. I am sure that short sellers as a group don't have any pathological desire to see solar power fail as an alternative energy source, they are just interested in making money on overpriced stocks.
3. The price level of solar stocks is not really a barometer of the viability of solar power. In fact, it seems reasonable to think that specialty solar stocks may do poorly in the long run as the technology becomes more of a commodity and their competitive advantage gets eroded. We've seen this happen in the LED lighting market.
4. If the Green Alpha Fund really thinks these shorts are irrational, then they should keep quiet and buy more solar stocks - they'll be proven right in the end (if they are correct).
Short sellers are frequently vilified in the press, by politicians, and by the management of shorted firms. They are cast as some sort of unpatriotic group that is only interested in ruining everyone's fun. In reality the evidence shows that markets that have active short sellers are priced much more efficiently and show less tendency to develop speculative bubbles. In the end, short sellers are good for markets and that includes the market for solar stocks.
If somebody who has a stock in a company sells some or all of this stock short over a certain period of time when he thinks the stock is overvalued, this is correct to do.
ReplyDeleteIf nearly 60% of the float of a stock are short as in the case of LDK, there really seems to be something wrong.
And when brokers or ordinary people are able to short a stock, without owning it actually, this market can work for big companies like Microsoft or Google.
Companies with smaller market caps can be shorted hardly and therefor loose the possibility to sell more shares at an attractive price while they are expanding.
Companies go to the stock market in the first place to get capital to expand their bussiness. If LDK would have had the possibility to sell aditional 20 million shares as they did at a price about 30 or 40 US$, their dept would be much less.
So yes, the banks can raise interest rates for a company and hegde fonds can short the stock and try to get somehow themselves a bigger piece of the company for a lower price
speculating, that they hurt the company that hard, that it wouldn't make it without additional money.
This is the complete opposite of a healthy working market and I don't even want to know how many thousands of smaller companies were destroyed this way or ended up with other owners who don't even understand the business they are in, but understand how to make mnoney shorting stocks.
And I believe Green Alpha Fund does exactly the right thing and shows potential investors a really good opportunity while the shorts get upset because their cause is much more difficult to sustain, when it is all public.
Last but not least there is to mention naked short selling which should simply be forbidden as it is in some other countries.
With enough money you can short a smaller company until it is a penny stock.
The SEC should monitorize all shortselling and look into it when it gets overdue as a porcentage of the float. With today's tecnology this should be possible and the market would become more attractive for investors and less for speculators.
That's an interesting view point. I still maintain that trying to profit by shorting a fairly valued stock is a very risky strategy. Furthermore, the evidence on short selling is very robust - markets that permit short selling have better pricing efficiency than markets that don't.
ReplyDeleteIt is worth noting that stocks with very high levels of short interest are extremely expensive to short. The annual borrowing costs can exceed 50% per year.
Finally - just a point of correction - when you short a stock you don't own it - you borrow it and then sell it.