SEC Presses Hedge Funds

[Dmytro]

SEPTEMBER 25, 2008
SEC Presses Hedge Funds

By KARA SCANNELL

link to the article:
SEC Presses Hedge Funds - WSJ.com

WASHINGTON -- The Securities and Exchange Commission ordered more than two dozen hedge funds to turn over trading information as it ramps up its investigation into whether traders were spreading rumors to manipulate shares, according to people familiar with the matter.

The order, dated Sept. 22, identifies six financial institutions the SEC believes may have been subject to such manipulation. The order is akin to a subpoena and requires information to be handed over with a sworn statement attesting to its accuracy. It seeks a wide range of trading data and email communications over a period of three weeks involving American International Group Inc., Goldman Sachs Group Inc., Lehman Brothers Holdings Inc., Morgan Stanley, Washington Mutual Inc. and Merrill Lynch & Co., according to the order, which has been viewed by The Wall Street Journal.

The broad investigation, which was announced Friday, is part of an effort to crack down on rumor mongering and abusive short selling, which some believe contributed to the collapse of Bear Stearns.

Earlier this year, the SEC sent subpoenas to more than 50 hedge funds looking at whether they were spreading rumors about Lehman Brothers, including apparently false information about takeover talks and the possibility of government financing.

In a regular short sale, a trader sells borrowed stock in hopes that it drops and can be bought at a lower price. Under SEC rules, a trader needs to locate stock to borrow ahead of a short sale, and the stock needs to be delivered within three trading days.

Concerns about abusive short sales increased leading up to Lehman Brothers' bankruptcy filing and moves by other financial companies to seek cash infusions or merger partners. The SEC took the extraordinary step last week of temporarily banning short selling in stocks of financial companies. About the same time, it announced an investigation into credit-default swaps, complex instruments akin to insurance contracts.

The order requested detailed and extensive information about transactions conducted between Sept. 1 and Sept. 19, when certain financial markets came close to freezing up, threatening the broader economy. The requests include details of funds' positions in stocks, derivatives, swaps and other financial instruments, as well as when trades were initiated and settled and whom they involved.

The SEC is trying to determine whether any traders were involved in abusive short selling, in which numerous short positions were placed at once and the stock was never borrowed and the position never covered. That method can have the effect of putting extra selling pressure on stock prices. The subpoenas are seeking proof that firms located and borrowed shares ahead of the short sales.

The SEC also is seeking detailed information about rumors or other information received by the funds and how it was communicated. Hedge funds also have to turn over information if they forwarded a message to anyone.


Write to Kara Scannell at kara.scannell@wsj.com







Copyright ©2008 Dow Jones & Company, Inc. All Rights Reserved

 

[charlesdwright]

This ought to be rich...

 

[IlyaKEightSix]

Talk about a witch hunt. The only reason a firm goes under is if it cannot pay its current debts. Its secondary-market stock price has little to do with that.

Rumors can't just make a bank go bankrupt if they're absolutely unjustified.

And if they're not unjustified, then they're not rumors.

 

[doug reich]

The market price does have something to do with a firm's solvency: it is a key source of funding for the firm. If the market price is too low, then the firm is not going to be able to raise money. This is especially true for all instruments if investors believe the firm is about to fail.

Why does this matter? For a firm whose business is based on borrowing, such as an investment firm, they cannot function day-to-day if their credit rating declines, which is exactly what happened to Lehman.

Furthermore, market manipulation is a crime. Market manipulation - Wikipedia, the free encyclopedia

 

[alain]

Talk about a witch hunt. The only reason a firm goes under is if it cannot pay its current debts. Its secondary-market stock price has little to do with that.

Rumors can't just make a bank go bankrupt if they're absolutely unjustified.

And if they're not unjustified, then they're not rumors.

Oh yes they can, google Bear Raid and you'll see. Banking is the business of trust, you lose trust and everything goes regardless.

 

[IlyaKEightSix]

Theoretically, yes. But lies will always be lies, and if it's unfounded, then whoever made it up looks like a giant buffoon, and can go to jail.

However, if it *does* have founding, then how is it a rumor if it's based on fact?

Bear, Lehman, and Merrill all *did* have a lethal amount of toxic waste in their system, and *that* is what killed them (or so I believe, and that is what it stands as right now). So people were right to short those banks.

Was the situation made worse by people publicizing their opinions? Sure! But what about the first amendment? If I honestly believe that Company XYZ is about to tank and I come out and say that, does that suddenly make me a criminal if it DOES tank?

 

[charlesdwright]

So people were right to short those banks.

Short how many shares? What percentage of the float ?

 

[IlyaKEightSix]

As many as they had the you-know-whats for.

 

[alain]

Theoretically, yes. But lies will always be lies, and if it's unfounded, then whoever made it up looks like a giant buffoon, and can go to jail.

However, if it *does* have founding, then how is it a rumor if it's based on fact?

Bear, Lehman, and Merrill all *did* have a lethal amount of toxic waste in their system, and *that* is what killed them (or so I believe, and that is what it stands as right now). So people were right to short those banks.

Maybe, and if the the government didn't prohibit shorting and didn't announce a bail out plan, MS and and your beloved Goldman were next. At least that was what the market was showing. Their prices were coming down at high speed. So all the "fanboyism" and love you have for GS would've been destroyed in no time.

Was the situation made worse by people publicizing their opinions? Sure! But what about the first amendment? If I honestly believe that Company XYZ is about to tank and I come out and say that, does that suddenly make me a criminal if it DOES tank?

Maybe... if you are in certain position, your opinion can have a lot of weight.

BTW, the first amendment only talks about free of speech when it comes to the government. That's it.

 

[IlyaKEightSix]

It's just that this rule is extremely gray. At which point is it spreading a baseless rumor (illegal) and at which point is it simply fanning the flames (justified)? When it's your position in regards to that company that's on the line? When you have interests in seeing said company burn?

Because if it's "see an inch, take a mile", then so long as opinions are justified, then despite the malevolent intentions which may or may not be behind the opinion, it isn't just market manipulation and a baseless rumor.

And I wonder, of all the people that have been indicted for market manipulation, how many were found guilty? I'm young, so I don't know much about this >.<

 

[myqee]

It's just that this rule is extremely gray. At which point is it spreading a baseless rumor (illegal) and at which point is it simply fanning the flames (justified)? When it's your position in regards to that company that's on the line? When you have interests in seeing said company burn?

Why would it ever be justified to fan the flames? Why would you have an interest in seeing a company burn? I think shorting as a hedging strategy is probably marginally okay (except that you could also be using puts) but shorting as a bet that a company will go down seems just counterproductive to me. I never liked that idea. I guess I am more used to the idea of investing than trading.

 

[IlyaKEightSix]

When would it be justified to fan the flames? If you see a company is scaring away investors and is on its way downward, you can make some very good money by having it continue that negative feedback loop with shorts and puts. Case in point with Lehman. If when its stock was 60 you shorted it and had a year to cover, you would have basically made 100% a share.

It's justified to see a company burn for the same reason as to see a company go through the roof.

It's all about the bucks...the rest is conversation.

 

[myqee]

Case in point with Lehman. If when its stock was 60 you shorted it and had a year to cover, you would have basically made 100% a share.
It's justified to see a company burn for the same reason as to see a company go through the roof.

I just feel there is something fundamentally wrong with this. What's wrong is that by fanning the flames you are **causing** the company to actually go down (by lowering it's ability to borrow). That's quite different from pumping a company because raising the price of a stock does not (usually) magically cause the company's earnings to go up. If a rumor actually causes destruction of asset value, it doesn't matter if it's true or false. To me it is manipulation.

 

[IlyaKEightSix]

But if it's true, it isn't a rumor.

Edit: apparently, dictionary.com says that the facts haven't been confirmed.

But what happens when they are?

Then it's not a rumor.

As for fanning the flames, all stock prices are driven by market impact and ultimately, supply and demand. If people are more confident about a price, they buy, and if you can't buy at a lower price, you buy at the next highest until it's too high.

Same thing with lowering the price. Only happens because of consumers. If the facts are true, then they're true.

Going on a witch hunt for rumor spreading after the fact IMO is a waste of resources because clearly, whoever spread these "rumors" was right to state their opinion.

It then becomes a giant chicken and egg question, but IMO, the first chicken was the bad subprime bets.