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What to Do When Short-Sellers Attack (2002)

PAUL HOLMES  22 JUL 2002 // 11:00PM GMT

“They’re parasites,” says one investor relations professional. “They’re the scum of the earth.”


He’s talking about short sellers, who borrow shares from their brokers, sell them, and bet they can repay the brokerage with shares bought later at a lower price. Short sellers, who thrive on market turbulence, have been increasingly active in recent months, with short activity reaching an all-time high in January and February of this year.

It’s not surprising that shorts inspire strong feelings among IR professionals. Studies have shown that companies with a substantial short interest in their stocks underperform the market—and can continue to underperform the market for two or three years after the shorts have gotten out of the stock. And the level at which shorts become a problem is surprisingly low: University of Houston finance professor Sorin Sorescu says companies without options need to start worrying about short interest as low as 1 percent, while for companies with options, short interest above 5 percent can be a problem.

While hard data are hard to come by, there’s not much doubt that short sellers are more active today than they have been for several years. According to Rich Torrenzano, president of New York investor relations firm The Torrenzano Group, short interest has grown steadily over the past three years and is now nearly double where it was in August of 1999—up from 2.9 billion to 6.7 billion on the New York Stock Exchange and from 2.2 billion to 4.2 billion on the Nasdaq.

“There’s more predatory short selling today than ever before,” says Bill Poudrier, president of Strategic Surveillance Services, which monitors trading activity for IR clients. “Hedge funds are a bigger factor in the market than ever before.”

Peter Morrissey, president of Boston-based Morrissey & Co., agrees. “The advent of hedge funds brings a new dimension to short selling and public companies must learn to live with this,” he says.

But others are not so sure that there are more shorts out there. Some think they’re just getting a lot more attention.

“It isn’t so much that there is more of shorting than in the past, it’s just that the environment since mid-2000 has been so rewarding to the short seller,” says Jeff Zilka, a managing principal at Chicago-based communications counseling firm The Weiser Group. “The markets hit their peak in March of that year, providing a substantial free ride since then for investors convinced a particular company was over-valued.”

The trend has been accelerated by the crisis of credibility spawned by the Enron scandal. Says Zilka, “Restatements and changes to adopt more conservative accounting treatments, while healthy in the long-term, confirm for the short-seller that his or her views that a company was overvalued. The FUD—fear, uncertainty and doubt—surrounding accounting practices at even the nation’s best-run companies—AIG and GE, to name two—has changed the risk/reward equation in favor of the short-seller.”

Short selling is being driven by several factors, says Richard Wolff, who runs the New York office of Golin/Harris. Among them: the increased promotion of stocks; the use of short-selling by hedge funds; the proliferation of public companies in the wake of the IPO craze; the growth of the Internet; and the use of short sellers by brokerage houses to increase revenue.    

Says Torrenzano, “Outside of a relatively few high profile stocks, the record high level of short interest is probably due to the current uncertain economic environment. Continued uncertainty about the economy combined with the traditional use of shorting as an ‘insurance policy’ or hedge against a long

position are the primary reasons for the up tick in short interest.”


“Short sellers are driven by uncertainties, so the ambiguities of the economic downturn following the Internet IPO disaster certainly has done much to fuel their coffers,” says Robert Ferris, who heads the investor relations practice at RF Binder & Partners. “This doesn’t necessarily mean that there is more activity on the part of the short seller today. However, I would say that investors—both professional and unfortunately individuals—are more apt to use short selling as a part of their investment strategy today, because they’re smarter about the ways of the market, and also because business economics have changed, ergo business strategies are changing, ergo new uncertainties arise.”

Unlike many of his peers, Torrenzano believes the shorts serve a legitimate function. “Reputable short selling is an important attribute of an efficient market,” he says. “It helps provide liquidity and price determination between buyers and sellers.”


Bob Jones, president of New York investor relations firm Morgen-Walke Associates, sound grudgingly impressed by many shorts. “The true shorts do a lot of good, fundamental research,” he says. “They really kick the tires. They talk to a lot of customers and suppliers and really get to know the company.”

But Torrenzano distinguishes reputable shorts from those who engage in what he calls “bear attacks,” which occur when “investors or broker dealers disseminate false and misleading information to drive the stock price lower.”

Predatory shorts, in particular, have become adept at using the media to get their message out.

“Short sellers have historically been some of the savviest media folk around,” says Elliot Sloane, president of New York’s Sloane & Company. “They are always willing to speak to the press and will be very clear about their convictions on a certain company.  This is quite different from the traditional large-cap buy side players like Fidelity, which have rules about not promoting their portfolio holdings. The shorts understand the demands of the press and know how to work the system.”

More troubling to many investor relations professionals is the fact that shorts often are not identified in stories, providing readers with no context in which to evaluate their criticisms of corporate strategy and their predictions of future performance.

In a nationwide survey of business journalists, conducted by Philadelphia investor relations firm Gregory FCA Communications, approximately 70 percent agreed that identifying the investment status of sources was an important part of the story and suggested that they take great pains to get, and disclose, that information.

The bad news: In the same survey, in almost exactly the same percentages, they expressed doubt that their colleagues exercise the same care.

Says Gregory investor relations president David Evanson, “We were surprised at the level of concern about this issue that we received from the country’s largest news organizations. What was equally surprising was the wide variety of disclosure practices we found, often within reporters from the same media companies.”

One respondent, a business columnist for one of the country’s foremost outlets for business news, express misgivings about the way shorts are covered: “There is no doubt that a grave flaw in financial media reportage is that the stock positions—long or short—of the sources are not even solicited, much less reported. And of course if you ask you almost surely won’t be told. And if you refuse to run with stories where you can’t get the holdings of the sources on the record you soon will have few stock stories to run with and even fewer sources. It’s a major problem.”

Few of the respondents cited specific corporate or editorial policies regarding the disclosure of ownership or short positions. But almost 73 percent of respondents said they tried to determine ownership positions of outside sources when doing a story and more than 85 percent said this was important information for readers, viewers and listeners to have.

“Although unattributed quotes have their place in major media, I am troubled that the media is relying far too often on unattributed quotes,” says Torrenzano. “I believe unattributed quotes just further exacerbate bear attacks.  Knowing the source provides some context on the motivation or rationale behind the quote, ensures that the source is more thoughtful and less expansive in his remarks, and overall makes for a more interesting and informative story.”

Adds Ferris, “Certain members of the media have made a heyday with professional shorts, and have been used by certain short selling firms to help them feather their nests. The pros are most adept at working their perspectives into stories, or generating stories. After all, they know that a negative story, or one with negative or questioning overtones, often has a deleterious effect on market price, and properly timed, can create a windfall for the short seller.”

Others suggest the increased media presence of the shorts is less about their ability to manipulate reporters and more about the current mood.

“Short sellers haven’t gotten more media savvy,” says Zilka. “It’s that the average reader of business and financial news recognizes that short-sellers have oft times been right, sometimes in the face of fierce opposition.” One prominent example is Jim Chanos, president of Kynikos Associates, who was bearish on Enron when the Street was overwhelmingly bullish. In fact, short interest in Enron was up about 30 percent early last year, long before the scandal became a national news story.

Says Zilka, “When Fortune magazine has as its cover story, In Search of the Last Honest Analyst, the shorts’ long-held tenet that they are, in effect, the investor relations department for the bear case, hits a responsive chord.”

Mary Stanutz, senior consultant at Thomson Financial, agrees. “With Enron and Global Crossing and Worldcom, people are more interested in reading about all this. There are more opportunities for shorts to be active in the media.”

If the mainstream media have been helpful to shorts looking to get the word out, the Internet has provided them with a whole new channel of communication, one with no filter.

“I don’t know if they are growing more media savvy or they are taking advantage of technology that really was not available ten years ago,” says Torrenzano. “They certainly seem to be using the Internet—chat rooms, message boards and websites—to their advantage. Some of the more disreputable short sellers use message boards and chat rooms to disseminate disinformation, and ‘activist’ short sellers like Manuel Asensio have websites they use to post what they believe to be factual, negative information on companies that they tout as sells.

“I don’t think there’s a lot to be gained from engaging shorts on the Internet,” says Jones. “You can’t respond to every little criticism.” Having said that, egregious misinformation cannot be allowed to go unchallenged.

In March, a posting in the chat rooms of both Raging Bull and Yahoo! sent the stock of Knight Trading Group plummeting. The message claimed the company’s offices had been raided by agents of the Federal Bureau of Investigation agents, and that several employees had been led away in handcuffs. The company denied the allegation, but its stock was down 14 percent, eventually hitting a 52-week low.

That’s an extreme example, of course, but it’s illustrative of the way predatory shorts can work, and of the strategies corporations need to apply to thwart them.

“Short-sellers are most successful when they can create the appearance that there are factors that are not being properly disclosed and thus reflected in a company’s valuation,” says Zilka. “So the best defense is an active program of informative and forthcoming disclosure, not just in earnings conference calls, but in 10-Qs and 10-Ks. The current rush by companies to explain their existing accounting policies is a step in the right direction. So is the trend to more forward-looking information.”

Of course, nothing beats performance. Says Jones, “The best thing you can do is produce earnings and revenues and meet or exceed expectations.”

Having said that, most IR professionals believe it’s impossible to completely shield a company from short sellers.

“There is no way to insulate oneself against short sellers,” says Ferris. “Certain businesses, like technology and biotech, will always be ripe for the picking. The best defense, or contingency plan, for companies in those sectors is to take a very conservative approach to external communications. Don’t promote, and don’t promise what you can’t deliver, or set a date for delivery that you can’t control. Do what you say you’re going to do, and keep the market informed of progress against objectives. Totally avoid surprises.”

Mary Stanutz points to General Electric as an illustration of how difficult it can be to insulate a company against short interest. Despite an impressive record of quarter on quarter growth, the company has found itself under intense scrutiny recently. Says Stanutz, “GE is so large and so complex, no matter what it does it’s impossible for anyone outside the company to judge whether everything makes sense. I don’t think any company can insulate itself fully.”

Having said that, there are things smart companies can do, Stauntz says, with proactive investor relations and a commitment to transparency at the top of the list.

“If a company has always been committed to full disclosure and openness with its shareholders, that’s the best defense,” she says. “If you have always been up front, always addressed issues as they come up, you will have a greater measure of trust. If a company hasn’t always operated that way, it’s too late to start when the shorts are already active.”

Once shorts are active in a company’s stock, investor relations professionals need to decide quickly how to deal with the attack. The decision to engage or ignore shorts will vary from management to management and company to company, says Zilka. “At some point, when a company feels that persistent short-selling is getting in the way of the valuation rather than merely being an annoyance, it will decide to address the problem.”

Strategies vary according to circumstance. If a company is confident that its projections are accurate, that it will meet expectations, and that it has been forthcoming with investors, the best approach may be to simply wait things out, says Stanutz. Eventually, the shorts will have to repay their brokers, and take the loss.

In such circumstances, the best approach may be to ignore the shorts entirely, though that can be difficult. Says Jones, “CEOs can’t afford to get emotional about it.”

“If the company is being shorted because there is a belief the market or industry will decline, then it is best not to comment on the situation,” says Torrenzano. “If there is good reason for short selling, like the possibility of a downturn in the company’s situation, there is little a company can do except broadly disseminate the bad news when it occurs and provide investors reasonable assurance that management has a plan to deal with the problem. But in the event of a bear attack, a company is well advised to launch aggressive strategies and tactics to respond to what is being said.”

If a company is unjustly under attack by short sellers, then the company should immediately and persistently correct any inaccuracies, concentrate on delivering the its core investment messages to its key constituencies, Torrenzano says.

“Abusive short sellers can severely damage a corporate reputation and do it quickly, which is part of their strategy. A bear attack is a crisis situation by any definition. A dedicated crisis management firm will deliver immediate value by helping management work out an effective strategy and, then, providing the arms and legs to implement the strategy and report back on the situation as it develops. This way, management can concentrate on what it does best, which is run the business and manage the crisis on a strategic level.”

“It’s never a matter of engaging,” says Ferris. “It’s a matter of keeping the market informed and maintaining credibility. If there is a story that erroneously reports factual information that is determined by the issuer to be market moving, I believe it is the duty of the issuer to set the market straight, either with a press statement or a press release.

“At the same time, I would say that you never engage the fight in the media, particularly when the challenge is so often perception-based or interpretive, rather than fact-based. It’s a no-win situation.”

Some companies attempt to persuade shareholders to remove their stock from margin accounts at brokerages, or talk to the brokerages themselves, but Poudrier feels such strategies are generally ineffective. Most institutions that lend to shorts know what they are doing and believe it’s a profit opportunity, he says, and a lot of the loans come from indexes and quantitative portfolios.

Zilka agrees. “Those strategies do work to a certain extent, but only embroider around the edges. If the root cause of the short selling, the appearance of negative factors that are not fully reflected in the share price, is allowed to continue, the shorts will continue to be able to let the stock ride up, and then drive it down.”

While companies might understandably be focused on large institutional shareholders, it’s a mistake to neglect the internal audience, especially when so many employees hold company stock—and after employees at Enron got badly burned.

“In today’s talent starved world companies need to make sure their employees are aware of why share prices might artificially move up or down,” says Morrissey “Employees with options get nervous when they see swings in share price for no apparent reason. So employee meetings and e-mails are good places to talk about challenges and successes and to reconfirm why your company remains a great to place to secure your financial future.”

It is important for investor relations professionals—and those to whom they report—to understand that active shorts cannot be deflected by IR alone.

“In order to address shorts effectively, a company must take a coordinated and comprehensive legal, investor relations and financial approach,” says Wolff. “Anything less will be a temporary palliative, at best. It’s important that companies understand that shorts are not a public relations or investor relations problem alone. Of course, a company can take steps, from a communications perspective, to mitigate short pressure: stop hyping the company and its prospects; establish supportive relationships with transfer agents and traders; monitor the internet chat rooms; ensure that there is a solid, credible business plan in place; be willing to “expose” shorts who pose in the financial press as institutional investors or shareholder rights activists; and effectively communicate the business strategy to investors. 

“Having said that, no investor relations or communications activity alone will help a company if its fundamental business is awry. Business problems must be addressed first, then a good legal strategy employed to drive out the shorts, and only then an investor relations approach to discourage subsequent forays by short sellers.”

Says Torrenzano, “If you are going to engage a short seller, be prepared to devote a good deal of time, including senior management’s time, to rectifying the situation.”

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