Naked Shorting

With such a potentially enormous problem, you would think that the mainstream press would focus more attention on naked shorting. One of the biggest whistleblowers regarding naked shorting has been Dr. Patrick Byrne, CEO of Overstock.com. According to his posts on the Overstock.com message board, Dr. Byrne equates naked shorting to counterfeiting shares. Because the naked short seller does not actually borrow the shares that he is selling, these shares are, in essence, simply made up. As such, there is no limit to how many bogus shares that hedge funds can create. Dr. Byrne presents multiple scenarios as to how naked shorting can occur in our "regulated" U.S. market place. One theory essentially states that a "Good-ole-boy" network exists on Wall Street whereby the Depository Trust and Clearing Corporation (DTCC, the agency that keeps electronic records of who owns which stock at which brokerages, and settles the trading o f stocks) and various brokers look the other way for favored clients. A second explanation insinuates that hedge funds will list a U.S. stock on a foreign exchange without the permission or knowledge of the parent company and will utilize this listing to naked short the stock in question. When contacted by the DTCC lo locate and deliver the shorted shares, the fund will reference the foreign exchange in an effort to buy time and allow their naked short position to continue. While this sounds quite fantastic, many companies have indeed found their stock to be listed on foreign exchanges without their knowledge. In fact, Dr. Byrne noted that in late 2004, Overstock.com was listed on five German exchanges and one in Australia. None of these listings were ever requested by the company.

When I think about naked short selling, I wonder why it takes the CEO of a large company to bring this matter to the attention of the investing public. The media reports on every detail of a celebrity's life and runs stories on every minor political scandal, yet they rarely mention a problem that is costing honest investors billions of dollars.   I wonder why a private company such as BUYINS.net can research and create lists of naked shorted stocks while regulatory agencies such as the SEC and NASD, which are supposed to protect investors, cannot or will not do the same. Others, it seems, are beginning to wonder the same thing. A recent online survey of nearly 2,500 U.S. adults found that 38% of respondents would be more likely to vote for a congressional candidate that would address the issue of naked shorting. Congress, it seems, is starting to get the message. In a 2005 hearing of the Senate Banking Committee, Utah Senator Robert Bennett questioned former SEC Chairman William Donaldson about the potential shortcomings of Regulation SHO by noting ways that collusive brokers could get around the regulation. Perhaps the issue of naked shorting will receive more attention ii during upcoming elections.

Simply put, naked shorting is an illegal practice that may be costing investors billions of dollars. Some reports have estimated that the extent of naked shorting on Wall Street could be up to 100 times greater than the alleged $10.5 billion short position of the disgraced financial firm Refco. While this practice appears to affect stocks of all sizes, microcap stocks tend to be commonly victimized as many are fairly illiquid and make easy targets for unscrupulous naked short sellers. Though the SEC and NASD have recently announced new regulations to improve the environment of short sales, it is obvious that the issue of naked short selling still has much to be addressed.

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