[pluto9]

> they take out a large short position, then they publicise their research. If the market agrees with them, the uncovered fraud tanks the stock price, and they make a healthy profit.

This is giving the market a lot of credit for being a rational and well-informed actor. The market is not full of people who calmly evaluate a short seller's argument and make a logical decision. It's full of people who lack the time, experience, and confidence to question the "financial expert" making dire predictions on the morning news and think "I should get out of this stock just to be safe".

[Lazare]

Oh, I agree completely. Individual market participants make tons of mistakes, and absolutely won't be able to evaluate short (or long!) arguments correctly in many cases. That's actually one of the key elements supporting the efficient market hypothesis, and why so much ink is spent encouraging small investors to use index funds.

But it's a question of scale. The fact that any one investor may make mistakes doesn't mean that the market as a whole, in the medium or long term, also makes these sorts of mistakes.

"Some hedge fund guy released a report saying stock X is bad and the stock tanked 30% from small investors panicking before recovering when people realised it actually wasn't bad" is pretty silly, yes. And it's a bit rough on the small investors selling at a loss into the large investors who are able to correctly analyse the report, absolutely. But does any company actually go bankrupt in cases like this? The answer seems to be no; there's no evidence for it happening, and it's hard to see how it even could. Confused retail investors can lead to price volatility, but they don't make or break a new share offering.

[yellowstuff]

Normally that's not really the case. There's a lot of academic and practical evidence that the most rational investors generally determine the prices of stocks, because even if there are a lot of irrational investors making random or systematic errors, a minority of rational investors all betting in the same direction ensure that prices are close to "correct", for some reasonable definition of correct.

In practice you just don't see examples of productive companies driven into insolvency by short sellers.