Thursday, October 1, 2009

Hedge fund conspiracy theory about to go mainstream?

Everyone has heard about the 9-11 conspiracy theory. Millions have seen the slickly produced video which argues that a plane did not hit the Pentagon. It's easy to dismiss as the work of a small group of whatever you want to call them. However, one cannot deny the pervasiveness of that particular conspiracy nor the effectiveness of the Web in propagating the allegations.

Here's a conspiracy theory that the financial industry needs to watch: that short selling and the outsize power of firms like Goldman Sachs were at the root of the financial crisis. At the center of that theory is a blog site called Deep Capture which rails against short selling and in particular the destructive nature of naked short selling. A video on the site that attributes the fall of Bear Stearns and Lehman Bros. to massive spikes in naked short selling is eerily similar in tone and style to the 9-11 video. The name of that video: "Hedge funds and the global economic meltdown."

Deep Capture is founded and probably funded by Patrick Byrne, CEO of Mr. Byrne is infamous for consistently alleging that the shares in are unfairly and illegally targeted by short-sellers. In the About section of the site, it writes:

"...short-sellers and affiliated investors use a variety of other tactics to drive down stock prices and destroy public companies. They hire thugs to stalk and threaten corporate executives and their families. They pay small armies of “bashers” to flood the Internet with scurrilous rumors and lies. They engage in extortion and blackmail. And they collude with crooked law firms to saddle corporations with bogus class-action lawsuits. They also conspire to cut off companies’ access to credit. They finance dubious market indexes and credit rating agencies that spread false information about the prospects of companies and the economy. They pay shady financial research shops to publish false, negative information, disguised as “independent” analysis. And they manipulate credit default swaps and derivatives, the prices of which are considered indicators of corporate health."

You get the picture.

Matt Taibbi, a writer for Rolling Stone, who gained notoriety for a conspiracy-esque article about Goldman Sachs, now writes on his blog about Golman's lobbying efforts to head off curbs on short selling. The blog entry alleges, but by no means proves, that Goldman is also trying to defend the practice naked short selling. According to the New York Times, in public filings Goldman has argued that new short-selling rules adopted last year have worked to curb abuses and “fails to deliver” — the term for problems associated with naked shorting — and that further restrictions are not needed.

Here's my own conspiracy theory about the conspiracy theory: the people behind Deep Capture are working to influence journalists like Taibbi to do their bidding and get their ideas into the "mainstream" media.

I myself have no idea about whether new curbs on short selling are sufficient nor about the true market impact of naked short selling. I do know that questions about short selling, transparency and efficient market function are immensely complex, that that the causes behind the collapse of Bear and Lehman are widely misunderstood, and that neither the government nor the banking industry has been clear about what went wrong and how to prevent future shocks to the financial system.

The confluence of these unknows is the condition that gives rise to conspiracy theories and hedge funds, which already have the stigma of being opaque, private and secretive, now more than ever need to avoid being the subject of conspiracy theories.

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