Wrong! Tactics and Strategies: Cramer
Explains Short Sellers' Shenanigans
By James J. Cramer
2/5/98 8:09 AM ET
Did you ever wonder how stocks that close up "look down"
in pre-market trading? Does this paradox bother you?
Maybe you should stop to think about the shenanigans that
go on before the market opens, shenanigans meant
deliberately to depress stocks with the hopes of creating a
selling panic. That's what this piece is all about.
Take yesterday's trading in Cisco. The company reports a
perfect number, a penny better than estimates. The
conference call goes well. Asia's bad, of course. But the
book-to-bill is plus one, Wall Street short-hand for "the
orders are robust."
Analysts all reiterate their buys. Some people have to bump
their estimates up; others keep their numbers the same. The
papers all read super, too. The tone of everybody involved is
positive, if not loving -- including yours truly.
And the stock is quoted down in Instinet in pre-market
trading. Big down!
Beginning around 7:00 a.m. Wednesday morning the Instinet
market -- an electronic trader-to-trader market -- showed
Cisco down as much as $1 from the close. In other words,
you could buy Cisco at $62.5 "through the machine."
The fact that it was trading down a dollar already in the face
of good news left many people who come in that early
flummoxed. But not the press.
Reporters don't care if it is 1,000 shares of Cisco for sale or
100,000. They don't differentiate. All they need to know is
that the stock is "trading down in pre-market trading." They
leaped on this artificial cumulus cloud in an otherwise sunny
day. Television talking heads, one after another, took time
out to point to the decline in Cisco's shares despite the
pristine quarter. Some even speculated that it might be a
rough day for all stocks because of Cisco's early morning
slide. All from a couple of thousand shares of stock offered
down!
That's because a position as small as 3000 or 4000 shares
offered below the last sale can create a powerful incentive to
panic for many traders who don't know the ways of the
shorts.
Not me. I knew those sellers were Wrong. I have seen this
game played so many times, the game where the shorts try
to hose the longs by offering Cisco to make it appear to be
as heavy as possible before the opening.
They offer it out loud. They offer it pathetically. They offer it
solely with the hopes of catching a CNBC on-camera
reporter off guard so that the reporter might be suckered into
digging up something negative about Cisco. That way the
short-seller can bring in his shares that he sold short at a
lower price than an honest market would let him. The profit
is just much bigger.
As I know many of you are probably in utter disbelief that
this stuff occurs, let me walk you through the schematic of a
market manipulation by the bears. Let's say the last sale for
Cisco is at $63.5. You go into "the box" or Instinet trading -
(yes this is institutional stuff; Instinet is an after-hours
computerized trading system through Reuters) -- and you
offer 1500 shares at $62.5. For most Cisco players that's
jarring in itself. "I thought that was a good quarter," must go
through hundreds of traders' minds when they see that
offering. Remember, that offering is a point below the last
price of the previous day at a time when people are
expecting the stock to open higher.
But that's just part of the game. Usually, some neophyte
who does not know how rough the short game is played,
then takes those 1500 shares at $62.5. The short seller is
an expert angler. He then lays out another 2000 shares of
bait, at $62.5 -- the same price. That spooks the neophyte a
bit, but he's new at this fishing game, and he bites again. He
takes the stock. The buyer figures the seller is just "off his
market" and doesn't know he could get a better price if he
just held out. The buyer thinks the seller is a moron.
Now, the short-seller reels in the rookie buyer with a brazen
act of mischief. As soon as the fish bites, the short-seller
comes back and offers 2000 shares of the stock at $62.25!!
A quarter of a point below the ^#^%#%$# last price paid.
Holy cow, something must really be wrong!
Unless you are a wily trader, you would positively want to
puke up your 3500 shares as soon as you saw that lower
offering. That's because anyone who doesn't know the tricks
of the trade would have to presume that maybe Cisco is
worse than anybody thought. Why else would a seller sell a
stock BELOW where a buyer just paid?
The faked-out buyer loses all of his confidence. He begins to
think, hmmm, there must be a downgrade coming, or a
problem with the quarter that only this aggressive seller
knows. It doesn't hurt to have a reporter commenting
negatively about the stock price in the background.
The neophyte then rushes to boot out his 4000 shares of
stock before the seller offers the shares even lower. Bids
evaporate and the stock begins to sink like a stone. In the
meantime, the reporters get tipped off about the new
negative Cisco activity, Cisco being the focus name for
everybody on Wednesday, and start to gin up their negative
theses to go along with the pre-market selling.
Soon, the reporters issue worrisome bulletins and those
4000 shares sold short beget an avalanche as hundreds of
others, watching this declining story unfolding on their
machines -- the trading is visible to all with Instinet -- rush to
beat out still more, bigger sellers that might be lurking.
Cisco becomes a down stock and the shorts use their
chicanery to bring in their short-sales at much better prices
than thought imaginable.
That's where guys like me come in. I knew Cisco's quarter
was a good one. I know the tricks of the shorts. I have puked
out that phony 4000 shares more times than I care to admit.
But not this time. This time I just stood there. I bought all
that the shorts could sell me. And then some. I bought at
$62.75. And $62.5. And $62.25, each time carefully
monitoring how the sellers would seek to sell stock below
where I would pay.
And then I bought some more at $62. And then I paid up at
$62.25. Two can play this game. And I paid up at $62.5, as
the sellers grew nervous that the buyers weren't biting on
this selling-induced panic. Because I know the game.
Because I hate the game. Because I can make big money
betting against these silly tricks of the trade that have no
place in the market.
Sure enough, I amass a 25,000 share position with a $62.25
basis, or cost, in pre-market trading.
And when all the shenanigans are done where does the
stock open up? At $63.5, because that's where the real,
uncorrupt market was. That was the unmanipulated market.
All of that pre-market trading bore no resemblance to the
real market, which was much higher than where I purchased
all of that stock.
It's nice to start the day with a gain.
It is even nicer when it is done on the backs of short-sellers
who should know that some fish know bait from the real
thing.
Of course, without the chain reaction of panic the
short-sellers weren't able to bring their shorts in as they
would have usually expected to. No wonder Cisco shot off
like a rocket for the rest of the day.
I am not Marshall Dillon. Nor am I Robin Hood. I'm just a
jaded sonofabitch trader who can spot when a con gets
tired.
I'm sure the bad guys are cooking up new ways to trick me
as I write this. Let's hope I am as ready as I was yesterday.
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