[loceng]

This is a fascinating game to watch. I watched The Big Short yesterday for the first time, as it's trending on Netflix and was suggested, and this moment feels similar to exposing a weakness in the system that needs to be addressed - and hopefully not to strengthen the wrong position; I didn't realize the incredible actors cast for it, obviously they took on the roles as it's an incredibly important story for the general public to be educated about, to understand.

Feels like a good day to watch The Wolf of Wall Sreet.

[Accujack]

Yes. If you read what the ultimate intent of the /r/wallstreetbets crowd is, they're not just trying to exercise the same right to make money off of the financial system that billionaires have.

A year ago, the person that started this detected a situation where GME was a company that didn't have long term prospects, wasn't losing money, but was still shorted to 140% of it's value. It's not supposed to be possible to go over 100% any more since 2008, by the way.

Because of the shorting, he deduced that hedge funds and other influential people in the financial system were planning to encourage GME to go bankrupt, thus getting their short shares forgiven, because a bankrupt company is written off as a loss by the actual share owner.

So the hedge funds' plan was to short shares at some price as much as they could get away with, then make the shares worthless by encouraging bankruptcy. Since the shares would then be written off, they would pocket all the money they took from selling the shares they borrowed to short. Nice racket.

What WSB did is make the price go in the opposite direction, which is important for a lot of reasons, but one huge one is that the risk of shorting is proportional to the reward. If the price of a shorted stock goes up, then the borrower (person doing the short) still has to return it to the owner. No matter how high the price goes.

So they realized if they drive the price WAY up, then the people who were doing the 140% shorts on a company they planned to drive out of business would get screwed by their own system.

Some of the folks on WSB are making money and lots of it, but many of them just want to see the whole unfair system burn. By exploiting this weakness, they're trying to force the government to reform the whole finance industry.

[Armisael16]

>It's not supposed to be possible to go over 100% any more since 2008, by the way.

This is fundamentally untrue.

Abusive naked shorting with the goal of driving down prices is illegal. >100% short interest doesn’t require naked shorting at all.

If person A borrows a stock from person B then sells it to person C, they can borrow the stock back from person C and sell it again. No naked short involved.

[ZephyrBlu]

To clarify, this is not considered a naked short because in this situation there is a share that is known to exist.

Re-borrowing the same share does not make it a naked short.

[Accujack]

It has to not only exist, but be obtainable.

In any case, the important limit here is that financial firms are not supposed to allow hedge funds or other entities to assume short positions for more stock than exists, because if it becomes necessary to execute the trades to resolve the shorts, that extra 40% will fail to deliver, because those shares don't exist.

The SEC actually keeps a list of trading companies with high rates of failure to deliver as a means of detecting naked shorting.

[kcg]

> that extra 40% will fail to deliver, because those shares don't exist.

That's only true if you force all shorts to be covered at once without a chain of trades. That's not how it happens.

Person A covers their short by buying a share from Person B and returning to Person C. Person D then buys that share from Person C and returns to Person E to cover their short. That's 2 short shares covered with a single underlying share and no failure to deliver.

Yes, the SEC does track failure to deliver, but >100% short interest does not mean there is naked shorting nor does it imply there will be failure to deliver.

[ZephyrBlu]

> It has to not only exist, but be obtainable

"Naked shorting is the illegal practice of short selling shares that have not been affirmatively determined to exist"

- https://www.investopedia.com/terms/n/nakedshorting.asp

> that extra 40% will fail to deliver, because those shares don't exist

This is not true because all shorts don't have to be covered simultaneously.

> The SEC actually keeps a list of trading companies with high rates of failure to deliver as a means of detecting naked shorting

Funnily enough, $GME had very high failure to deliver rates in December [0] but this is not necessarily due to the short interest.

[0] https://www.reddit.com/r/wallstreetbets/comments/l97ykd/the_...

[jessaustin]

In this situation, there's no theoretical upper limit, is there? How is this any better than it was before the naked short selling "ban" was instituted?

[belltaco]

Because its the difference between selling that you borrowed and whats in your possession vs. something thats not.

[jessaustin]

That might make a moral difference, but I'm more concerned about the effect of the financial system on firms in the economy. It doesn't seem obvious that "naked" short-selling has a worse effect than "recursive" short-selling.

[Armisael16]

Naked shorts let you create stock out of nothing, which you can sell to drive prices down (and ultimately make money off of, since you can rebuy more cheaply).

If you can’t do that then you at least have to get the cooperation of someone who does own the stock in sufficient quantities - and their interests are probably against yours since they, y’know, own the stock.

Banning recursive shorting would be a nightmarish enterprise, since each individual share would need to be tracked to see if it was already shorted. Banning naked shorts supposedly does enough to discourage the behavior. We may be seeing that to not be the case.

[alex_young]

> If person A borrows a stock from person B then sells it to person C, they can borrow the stock back from person C and sell it again. No naked short involved.

Naive question: Why would that ever happen? Wouldn't this scenario just cost person C commissions with no opportunity for gain?

[kcg]

In this scenario, Person C still owns the stock and will gain/lose with the stock's rise/fall. Person A borrowing from C at the end is just borrowing, not buying. At some point Person A needs to return stock to Person C.

[alex_young]

So in this example person A could keep selling the same share over and over again? How would the multiple “owners” realize their gains if they all decided to sell on the same day?

[kcg]

Person A can only sell the number of shares they've borrowed. If Person A borrows a share from Person C, they can sell that one share only. To sell more without borrowing additional shares would be naked shorting, which is prohibited.

You might be asking instead about the following scenario, though, where a single share is borrowed and sold short multiple times:

Person A borrows from Person C and sells to Person B

Person D borrows from Person B and sells it to Person E

Well, the covering of the shorts doesn't have to happen in an atomic transaction; there are thousands to millions of trades of a single ticker every day. Just as a single share can create a chain of multiple shorts (borrows and sales), a single share can cover multiple shorts too through a chain of trades.

[dpiers]

Call it a scantily-clad short then. A share that is already lent out to a short seller should not be eligible to be lent out again for the same reason I can't get two mortgages to buy the same house - the underlying collateral would be owed to multiple parties.

[314]

This is not true. Party A has a contract that party B owes them a share - not the share that they originally loaned. The whole idea is for party B to buy a share later to balance the trade.

A better analogy to understand why short interest can rise above 100% is fractional reserve lending and the effect that it has on money supply.

[rokobobo]

A share is a share is a share. You can’t tell which one was loaned out and which one wasn’t. And it’s not used as collateral, money is posted as collateral instead.

[ZephyrBlu]

This is ok because all instances of borrowing the share don't need to be settled simultaneously.

[mam2]

This essentially the same result.. you are making two shorts with one share so one is "naked"....

[djbebs]

Thats not true at all. Its perfectly possible and legal to short beyond 100%

[tedunangst]

It's amazing how we're on day 10 of this adventure and people still show up like this is the first and only thread.

[Accujack]

The practice I'm referring to is "naked shorting" which has been illegal since 2008 in the US.

[kcg]

Except you're completely conflating terms and numbers here. A stock can have over 100% short interest with no naked shorting occurring. >100% short interest DOES NOT imply that there is naked shorting.

[Accujack]

It doesn't guarantee that it's occurring, but it's strong indicator that something sketchy is happening.

In this case, the important point is that a hedge fund with a 140% short position is more vulnerable to loss than a hedge fund with a 100% short position.

[ac29]

> In this case, the important point is that a hedge fund with a 140% short position is more vulnerable to loss than a hedge fund with a 100% short position.

Sure, but only in the sense that a fund is also more vulnerable to loss at 80% short than 40% short. Nothing magic happens between 99% and 101% short.

[ZephyrBlu]

See this comment for why you can have >100% short interest without naked shorting: https://news.ycombinator.com/item?id=25991013

[rland]

That's the myth, and it's been pretty effectively sold to redditors. The reality is that there are hedge funds who profit on both sides of the trade. There were a few shorts who did lose a lot of money, but that is part of the risk of shorting stock and it's kind of incredible that people think that those hedge funds believed that their trade was risk free.

I think now, the cat is out of the bag, and astroturfing a pump-and-dump on reddit/twitter/discord is going to be a pretty lucrative thing now for some entities, at least until there's some kind of regulatory action against it. Comments like this: "I'm trying to jump in but can you eli5 what a market order is please?" get translated to "Come eat my lunch please! I would like to give away my money."

They want to see the whole unfair system burn, which I totally get, but this is not how you make that happen. Regular people do have a lot of power over our financial system, but when they try to exercise it like this... it's difficult to watch. So many people are going to eat shit on this. They'll be left holding the bag and wondering why everyone else on Wall Street got so rich off their backs.

If you're reading this and you think you might be sticking it to the hedge funds by buying in: there are plenty -- PLENTY -- of hedge funds who are willing to sell you GME at $350 per share.

[SpicyLemonZest]

I think you need to seriously consider the possibility that the people spreading this narrative are doing so dishonestly in order to pump the stock. Short interest is now far below 100% (https://www.bloomberg.com/news/articles/2021-02-01/gamestop-...), yet /r/wallstreetbets is still full of hold memes rather than victory speeches.

[Accujack]

Also the possibility that people spreading the narrative that people are dishonestly spreading narratives to pump the stock.

My summary above is rough, and it's based on most of the information I've read about the situation. As always, there are voices on both sides for every single fact.

Time will tell how this all falls out, but right now there are a lot of finance firms grinding their teeth, which is a victory in itself.

Also, apparently Gamestop itself used the gain in stock price to settle some debts by being able to issue more stock to meet demand at the higher price, thus getting a cash infusion.

[kcg]

>Also, apparently Gamestop itself used the gain in stock price to settle some debts by being able to issue more stock to meet demand at the higher price, thus getting a cash infusion.

False -- if you're going to spread information about financial nuances across this thread, you should look it up first. Go read the SEC filings for GME (SEC EDGAR is your friend), there has been no additional issuance since GME took off. Nor would it be realistically possible given the volatility.

[Accujack]

Correct, my old memory conflated GME with AMC, who did issue stock to retire debt.

[SkyPuncher]

> Short interest is now far below 100%

With all due respect, this is still speculative. We won't know the exact numbers for another week.

[SpicyLemonZest]

The exact number definitely isn't known, given that the Bloomberg article includes two estimates of 39% and 50%. I'm not familiar with how these numbers are generated; is it plausible that the real number could be close to 100% even with such low estimates?

[jonshariat]

Thank you for this simple explanation. I've read a lot on this the past week or so and it wasn't clear what was going on other than the surface level info about shorting.

[vishnugupta]

It’s a fabulous movie. It perfectly balances the nuances of the 2008 crash with the human side of the story. I watch it once a few month and discover a new aspect.

I recommend “Margin Call”. Though I felt it overbalanced on the human drama it nicely complemented The Big Short.

[paulie_a]

The boiler room is a better version of the wild of wallstreet