Unless we're talking about tiny companies with small floats like Sedona, it would be extremely difficult and expensive to manipulate a price downward, except for a very short time. Is this some sort of tragedy? Generally, no. A stock price is information, an indication of the value the market places on a company at that moment.
Absolute Power
The board determining the rules under which U.S. companies account for performance is independent. There's a good reason for that: Sometimes the board has to make extremely unpopular decisions, and it should be able to do so free of political considerations. Also, the war drums on short sellers get louder. Bill Mann asks, what about all the folks who manipulated the market higher?
By Bill Mann (TMF Otter)
February 28, 2003
You've got to hand it to the folks who think stuff up. Sometimes, they get it right.
Right now, the organization that controls the standards by which American companies account for performance is off debating whether companies must expense employee stock options under U.S. accounting rules.
The Financial Accounting Standards Board (known by its catchy acronym "FASB") gets its authority from the Securities and Exchange Commission (known as the "SEC"), which, in turn, gets its authority from Congress (known as "Congress"). The FASB's power on accounting issues is absolute: If the board says stock options will be expensed, then they will be. Absolute, of course, except when it isn't -- like when folks from Congress decide to meddle if they (or their sugar daddies) see something they don't like.
In general, though, the FASB is left to its independence. This allows it to make unpopular decisions for the sake of the commonweal, without political considerations. This is a good thing. It's sort of a benevolent dictatorship in the accounting world, and over time, it has worked pretty darn well.
But in 1993, this system faltered. Coincidentally, it was the last time the FASB considered requiring expensing of stock options, and it was prepared to do so. At that time, a group of senators led by Joe Lieberman intimated it was prepared to end the FASB's statutory authority to make rules if it went ahead with a ruling. Not surprisingly, a hefty roster of deep-pocketed special interests, including the high-tech industry, provided plenty of ammunition for this fight. The FASB caved. Instead of requiring expensing, it called expensing "best practices." The "free money" stock options gravy train cranked up full tilt.
I believe that current accounting laws, which allow corporations to hide the impact of stock options in footnotes instead of front and center on the income statement, are implicit in the ongoing corruption of corporate America. But I'm not an accountant by trade, and as such, I recognize that the folks at the FASB are a darn sight more qualified than I to determine when and how anything gets accounted for. If they choose to keep the status quo, I won't like it. I'll continue to make my own adjustments to earnings, staying far, far away from those companies most aggressive in giving the store away to insiders. But I'll have to assume that these, the most prestigious accountants in the country, know what they're doing.
Know who else aren't accountants? Ninety-nine percent of the folks on Capitol Hill are not accountants, and their august body set up the FASB because accounting rules are things that politics ought not play a part in. Our politicians debase the entire accounting framework when they don't allow the system, with an independent body at the helm, to do its job. Those who see a threat to their own self-interest if required to show the cost of stock options should be excused from trying to keep the rules tilted toward their own self-interest. The folks in Congress shouldn't get the same pass for their part in meddling.
First, kill all the short sellers
I came across an incredible article in Singapore's Straits Times this week. When I say "incredible," I really mean "not credible." The author, UCLA professor Tom Plate, equated short sellers with terrorists. He calls short-selling hedge funds, hyper-secretive organizations they must be, "vile," "mafia," "poison," and "pernicious." As Plate puts it, "They make their money by profiting from misfortune -- or, in effect, by manufacturing it. Speculative funds have no interest in the social welfare of the nation or company whose health -- or prospects for recovery -- is attacked."
It's easy to understand why folks would look for scapegoats after a long, brutal bear market. Who better than those profiting from it? It reminds me of the "wrong bettors" at the craps tables. Sure, they're making legitimate bets, but they're betting against us!
Opinions like this wouldn't be a big deal except that regulators are starting to react. Many believe that new SEC Chairman William Donaldson is considering several reforms for short selling.
And just yesterday, the SEC fined investment advisory service Rhino Advisors $1 million for its part in pressing down the share price of Sedona Corp (OTCBB: SDNA) to benefit a client that held a convertible preferred debenture issued by Sedona. The company is in deep trouble. Its last-year revenues didn't exceed $3.5 million, and it has a negative book value and a horrendous cash burn. The fact that Sedona had to issue such a debenture -- known as "toxic" or, more graphically, "death-spiral" financing -- signals that this was not some healthy company taken down by shorts.
In this and all cases when the market is badly manipulated, the book should be thrown at the perpetrators. But this isn't some scourge threatening the market with collapse; this company was dying well before Rhino came on the scene. If this is the evidence of a grave conspiracy attacking the very fabric of the markets, it's not exactly compelling.
Stink it up, and short sellers will come
Of course, short sellers want to profit from the misfortune of companies. One might ask the management of these companies why they're attracting short sellers in the first place. This stuff doesn't happen in a vacuum -- short sellers are attracted to situations in which the company is inferior, the management is inferior, or the stock price has been blown into the stratosphere. Many times, it's a combination of all three, but you rarely hear of companies complaining when sell-side analysts say too many nice things about them. And in many cases, companies are in on the promotion of their stocks.
Corporations attract short sellers because they're perceived to be inferior investments. Is there some sort of "social benefit" to puffing up the stock price of companies that have miserable economic performance? No, don't be ridiculous.
Left unchecked, this sort of talk is dangerous. One of the reasons the American markets work as well as they do is that companies are not only rewarded for excellence, but punished for failure. And while Mr. Plate argues that there's some cabal attacking companies with all of its might, I think this fear is completely out of place. Certainly, some short sellers try to manipulate, but evidence indicates they are substantially lower in number than those who try to manipulate stock prices upward. And the latter is considered to be a good activity... why?
Unless we're talking about tiny companies with small floats like Sedona, it would be extremely difficult and expensive to manipulate a price downward, except for a very short time. Is this some sort of tragedy? Generally, no. A stock price is information, an indication of the value the market places on a company at that moment. Stocks sometimes move 10% or more in a day. Does that mean that the underlying business changes 10% or more at the exact same time? Heck, no! If the stock is cheap relative to the underlying business, that's an opportunity to buy. A stock price that drops and doesn't go back up isn't a sign that short sellers think the business is inferior; it's a sign that the whole market thinks it's inferior.
I know, not nearly as much fun as trying to pin a conspiracy on an unsympathetic element (which sometimes seems to be irresistible to the political class). There may be problems with the regulation of short sellers, such as the lack of disclosure requirements, but of all the issues besetting our market, this one shouldn't even be on the radar screen.
fool.com |
