Naked short sales

Discussion in 'Order Execution' started by Babak, Jun 8, 2002.

  1. Babak


    I know that market makers can sell short naked (sell without first borrowing) but I've heard that some how, offshore hedge funds can do this also. Would anyone with knowledge of this please care to comment? Is this a Wall Street myth or what?

  2. i don't see how that is possible.

    i would guess that a market maker can borrow against his own order flow.

    but if an offshore hedgie goes short a stock without borrowing it and makes money on the trade, who pays them?

    whose pocket are the dollars coming from, unless some intermediary agreed to act as a bucket shop?
  3. they sell naked options, which is not a myth, but is high risk no matter how you slice it. LTCM went down because of that practice in spite of all the Phd.'s they had. The market doesn't care if you have a Phd.
  4. that's different. Options are similar to futures in terms of theoretically unlimited supply (new open interest created via the matching of buyers and sellers).

    but Joe Blow can sell naked options too if his broker lets him, so i suspect the question is specifically referring to shares of stock.
  5. Babak


    I am referring to shares not options (ofcourse you can have a naked short position in options!). Again, this is something that I've heard/read here and there for some time. I would just like to get to the bottom of it and find out if it is a myth or not.
  6. Babak..........true and untrue.

    They can't do it naked. They have to own a bullet

    You've been around awhile so I'm sure you have read about them
    If not do a search here on Elitetrader
  7. Babak


    Thanks Robert. I think that is what has perpetuated the myth probably. Reporters/writers who don't understand bullets but somehow pick up on the unusual way it lets you short stocks. That must be it.
  8. Babak



    If you want to read about a mention of naked short sales read an article in the beginning of the recent edition of Forbes magazine.

    Its called "Sinking Fund- Startups taken by convertible securities schemes fght back." June 10th 2002

    I would post a link but you would have to sign up to see it so just take a look at the hardcopy.

    Here's an excerpt:

    It's on this very point that one alleged victim has decided to fight back. Gary Valinoti, chairman of, a tiny media company, needed cash to build a TV station for his online stock-news service. So he agreed to take down $10 million in convertible preferred financing. It seemed to be a better deal than selling common at $3 a share.

    As soon as JagNotes booked the investment, the share price began to fall. Much to Valinoti's puzzlement, the stock continued falling, in good times and bad. He was further baffled by the list of large shareholders, required to disclose their holdings each month, which showed no selloffs. And yet by February 2001, the stock was trading at 10 cents. "Everybody I knew was buying, but who the hell was selling?" Valinoti wondered.

    He concluded it had to be naked short-sellers. Instead of suing his tormentors, Valinoti decided to call their bluff. In February 2002 he announced a recapitalization plan, reconstituting JagNotes common stock into new Class A and B shares. To receive new issues, shareholders had to hand in their old stock certificates.

    The recap took effect Apr. 8. As brokerages began sending in certificates on behalf of their clients, gaps appeared. Citibank's beneficial holder list, for example, accounted for 6,300 shares; one investor claimed he owns 1.2 million shares through his Citibank account.

    Brokerages that didn't bother to demand certificates when clients bought JagNotes shares are in a jam. Morgan Stanley has a deficit of 500,000 shares, reports JagNotes. UBS Paine Webber seems to be missing 252,000 shares. Eventually brokers must collect from whoever sold them the phantom shares. Meantime they may have to buy on the open market to cover their clients' positions. That should drive up the shares of JagNotes and generate a windfall for Valinoti, who owns 5 million shares. Recent price: 39 cents.
  9. Interesting article. I have never understood how short sales were handled in the back office. For example, say you buy 1000 shares from a short seller who in turn borrowed the shares from his broker. Now you expect to be able to vote 1000 shares. So does the original owner. What happens? I once saw this very question asked on Wall Street Week and it was clear the "expert" had no idea either, his answer was total bs.
  10. Babak


    Yeah basically this goes to the heart of what happens behind the curtains. So its not a myth, it does happen. Now I would really like to get to the bottom of this!

    Anyone who has some major pro experience care to illuminate this? Don? Gene?
    #10     Jun 13, 2002