'Selling the United States Short'

I

THE late J. P. Morgan is said to have remarked that anyone would lose a lot of money who sold the United States short. For the past two years, however, bear operators on the New York Stock Exchange have, in effect, sold the United States short and thereby gained a lot of money. They have gained, in addition, the official praise and gratitude of the New York Stock Exchange.

Mr. Richard Whitney, President of the Exchange, in his recent addresses at Hartford and at Syracuse, said that short sellers are beneficent influences; that they ‘prevent the market from becoming demoralized’; and that they are absolutely indispensable, since ‘no securities market could long continue in business if short selling were forbidden.’ Furthermore, Mr. Whitney contended, the fact that the prices of certain bonds and unlisted stocks, in which short selling is all but impossible, have shown wider fluctuations than the average of listed stocks ‘completely shatters the contention that it is the short seller who has forced prices down.’ Mr. Whitney undoubtedly expresses his sincere convictions. Since, however, thousands of equally sincere men hold diametrically opposite convictions, it seems improbable that the case against short selling can be ‘completely shattered’ as easily as that.

Mr. Whitney says that his own statements are ‘on the basis of cold fact,’ but that uninformed criticism of short selling, ‘based on nothing but conjecture’ and sweeping generalities, has seriously disturbed many of our citizens. He reassures the members of the Exchange, however, by telling them that three quarters of a million copies of his Hartford speech have been distributed. This may be enough to prevent Congress from undertaking to regulate the New York Stock Exchange. But Mr. Whitney is not satisfied. ‘It is necessary,’ he says, ‘to continue the work of education.’

Toward that end, we shall here sum up his defense of short selling and comment upon it. But first it may be well to explain exactly what Mr. Whitney is defending. A short sale on the New York Stock Exchange is the sale of shares of stock by a man who does not own the stock, and who hopes that the price of the stock will go down before he is obliged to buy stock to ‘cover’ his sale. The contract is for delivery of the stock on the next business day. It is only when the day of delivery arrives that a short sale differs from a long sale. The man who has not in his possession the stock which he has ordered his broker to sell must obtain it in order to carry out his contract. This is done, in the usual course of business, by the short seller borrowing the stock from persons who possess it. The short seller borrows the stock and delivers it, and the short sale is then complete.

It must be admitted that short selling, as here defined, is legal. The only Supreme Court case which Mr. Whitney cites, to be sure, has to do with short selling in commodity markets; and commodity markets differ, in certain essentials, from security markets. Still, there are several cases at law which do establish the legality of the short selling of shares of stock.

An act which is perfectly legal, however, may become, by excesses and abuses, a crime punishable by fine and imprisonment. Certainly the operations of the New York Stock Exchange widely and cogently affect the public welfare, and, if there are excesses and abuses, may properly be subject to Federal regulation.

Mr. Whitney declares, however, that he has sought in vain for evidence of excesses and abuses. He says, positively and without qualification, that short selling, as it has been carried on during this prolonged recession of business, has been salutary and indispensable. This is the official and carefully considered reply of the New York Stock Exchange to its host of adverse critics. If reform is needed, evidently it must come from outside.

II

Is reform needed? It certainly is needed if short selling is a substantial cause of the desperate straits in which business and banking generally, and millions of jobless human beings, now find themselves. The main issue is not whether short selling is the cause. In his repeated contention that short selling ‘has not been the cause of declining security prices,’ Mr. Whitney is refuting an argument which has never been advanced. Everybody knows that the causes are numerous and complex, and that they are constantly changing in number and in relative importance. The only question is whether short selling is one of the substantial causes. The official stand now taken by the New York Stock Exchange is indefensible if short selling has had anything substantial to do with the sustained weakness of the market and the resultant anguish and despair of millions of men and women. That is the main issue and the only one.

Mr. Whitney befogs this issue with his discussion of insignificant matters. He contends that there are ‘other and equally necessary reasons’ besides ‘restraining inflation and cushioning sharp declines’ for continuing to permit short selling. One of these equally necessary reasons, he says, is that short selling enables persons who hold securities at considerable distances from New York City to liquidate them speedily. ’Were short selling to be prohibited, it would mean that no one more than twentyfour hours’ mailing distance from New York could freely sell in our market the stocks which he owns.’

This argument appears to border on nonsense. Any real owner of stocks has his choice among a hundred New York concerns which are prepared to hold his certificates, with power of attorney to endorse them, and to deliver them immediately to a buyer upon order of the owner. Furthermore, the rules of the Exchange already provide for delayed delivery in certain cases. If short selling were abolished, the rules concerning the time of delivery of certificates could be changed to make further allowance for mailing distances from New York; or branch offices of the Exchange could be established in various cities. In saying that this reason for permitting short selling is just as important as stabilizing price fluctuations, Mr. Whitney virtually says that no reason is important.

Mr. Whitney further befogs the question by contending that the abolition of short selling would paralyze the ’odd lot’ business, as we know it to-day. He says that it would compel the charging of a huge, instead of a small, price differential between 100-share lots and ’odd lots’ — that is to say, lots of fewer than 100 shares. The obvious answer to this argument is that the ‘odd lot’ business is wholly subject to the rules of the Exchange. If short selling were abolished, the Exchange could make whatever regulation seemed necessary for the fair treatment of holders of odd lots. Let us stick to the main issue. The price differential would be insignificant, in any case, compared with the losses which holders of odd lots actually have suffered through the fall in stock prices. The only question of large importance to them is to what extent, if any, short selling actually has caused the fall in stock prices.

III

Here, as throughout his argument, Mr. Whitney assumes a world in which short selling is the regular order of business, and in which, therefore, certain conditions exist. It does not seem to occur to him that, but for short selling, the conditions in question would not exist. Thus, in order to show the predicaments we should get into if there were no such thing as short selling, he recounts what happened when, on September 21, after England had dropped the gold standard, the Stock Exchange forbade short selling: —

The ban immediately created a new problem. Within two hours after short selling was forbidden, the Governing Committee found there was real danger of technical corners and of crazy and dangerous price advances. At one time there were accumulated orders to buy approximately 8000 shares of General Motors stock at the market. . . . Something had to be done immediately, or otherwise the buyers would have bid frantically for the stock and a rapid and entirely unwarranted advance would have taken place. An example of what I mean occurred in Reading Company stock.

One might infer from these remarks that the abandonment of the gold standard by England created such enthusiasm that investors rushed into the market, in wild competition with each other for a limited supply of stock. Nothing of the kind happened. A few investors may have placed orders; a few other buyers may have come into the market solely to support certain stocks. But such buyers are not responsible for corners or for frantic bidding. The ‘new problem’ was created mainly by frightened shorts. As far as Reading is concerned, it is perfectly well known that the shorts were in a measure cornered, and had to bid up the stock. Thus it is evident that Mr. Whitney’s cold facts show merely what happens when, having allowed a huge short interest to develop, the Stock Exchange suddenly forbids short selling. The ‘new problem’ was itself the result of short selling. Everybody knows that to cut off the supply of opium, suddenly and completely, from a man who has long depended on opium creates a new problem; but this does not prove that opium is permanently beneficial, nor does it prove that no man could long continue to exist without it.

Further commenting on the events of September 21, Mr. Whitney says that ‘the real point’ of that crisis was that ‘further liquidation of securities was inevitable.’ In other words, real owners of stock were certain to increase their selling and thus depress prices. To meet this situation, the Governing Committee decided to suspend short selling. ‘In the opinion of the Committee, a sudden ban on short selling would be likely to force covering by those who were short.'

Here is reasoning as curious as that of the Mad Hatter; it will find a place, no doubt, in the new book which is developing out of current economic discussions, called Alice in Blunderland. Mr. Whitney’s first premise is that liquidation, not short selling, is the cause of declining stock prices. He then declares that further liquidation is inevitable. He concludes that a ban on short selling ‘would be likely to force covering by those who were short.’

What kind of logic is this? Why should anyone who has sold what he does not own, in the hope of buying it later on at a lower price, be forced to cover, if further liquidation is inevitable? Why not simply wait for the inevitable liquidation to take place, and then reap an inevitable profit by buying at the resultant lower price?

Mr. Whitney’s conclusion does not follow from his premises. In order to make his argument sound, he must discard his first premise in favor of this one: ‘Short selling, not liquidation, is the cause of the decline.’ But to make that logically necessary substitution would be to admit that he is wrong on the main issue of the controversy.

IV

The main issue, as we said above, is whether short selling has been a substantial cause of the fall in the stock market. The orthodox argument on that question has been well stated by Henry C. Emery, an accepted authority on the subject. ‘It is the much-maligned short seller,’ says Professor Emery, ‘who keeps prices down by his short sales, and then keeps them strong by his covering purchases. This is especially true in the case of inflation followed by panic. If it were not for strong short selling when the market becomes inflated, prices might rise to almost any extent before the final crash. Now the rise tends to be checked by the efforts of shrewd operators to take advantage of the inflation. On the other hand, when prices begin to tumble, they are kept from going as low as they otherwise would by the purchases which the shorts have to make to cover their contracts.’

It is upon this orthodox theory, both in his Hartford speech and in his Syracuse speech, that Mr. Whitney mainly rests his case, while insisting that he is relying solely on cold facts. According to this theory, short sellers operate as sellers when prices are ‘too high,’ thus restraining inflation; but when prices are ‘too low,’ they operate as buyers, thus restraining deflation. Any way you look at it, they are salutary influences, always doing the right thing. As prices rise rapidly, they increase the volume of their short sales; as prices decline, they decrease the volume. Thus they stabilize price fluctuations. This is what they do according to theory.

According to fact, short sellers on the New York Stock Exchange, over the swings of a major business cycle, do precisely the opposite; and that is precisely what we should expect them to do. They are not engaged in the altruistic mission of stabilizing prices; they are engaged in the acquisitive business of making money out of declining prices. The faster prices decline, the greater the chance of making money by selling short. The darker the outlook for business, the brighter the outlook for short sellers. The more harm they can do by their selling, the greater is the incentive to increase their selling. The more fears they can create, the more money they can make.

On the other hand, the faster prices rise, the greater is the chance of losing money by selling short. Therefore, the shorts curtail their selling precisely when, if ever, short selling is needed. In the feverish speculation of a bull market, the bears have every incentive to become bulls. For their own profit they increase their depressing activities when the market is already demoralized, and decrease these activities when the market most needs them.

It is clear from Mr. Whitney’s own admissions that the corrective influence of short selling in a rapidly rising market is negligible. With all his insistence on facts and figures, he gives none whatever to show that short selling ‘restrained inflation’ from 1926 to 1929, when the average price of active stocks rose about 150 per cent. This half of his argument he leaves in the realm of conjecture, except for a few facts which damage his own case. Referring to the improvement in the market which followed the news of the international debt moratorium, Mr. Whitney says, ‘The short interest dropped still further, as the excited but temporary rise in prices ensued.’ As a matter of fact, the short interest was reduced 641,440 shares in a single day. If short selling were a dependable corrective influence, it would have increased, presumably, at that time. But it is not dependable. Another case in point is the sharp rally in the market early in October, when the short interest, instead of curbing the rise, fell 424,089 shares in a single day. The short seller is an opportunist. He is not intentionally constructive even in a negative way. He lacks the courage to sell against the trend when prices are advancing sharply.

At such times a corrective influence is furnished by the liquidation of long holdings; and reinvestment of the proceeds on a declining market provides the cushion which Mr. Whitney appears to believe can be furnished only by the covering of shorts. Unfortunately this process of reinvestment is retarded partly because investors fear that still further declines may result from unrestrained short selling. A further corrective feature which Mr. Whitney ignores is the constant stream of new investment capital which comes into the market through insurance companies of all types, and the reinvestment of interest and dividends.

If all this is nothing but conjecture, it is conjecture which fully accords with common sense; and the man in the street rightly suspects any statistics which are inconsistent with what he regards as self-evident truths.

V

In the matter of statistics, the Stock Exchange has always kept its critics at a disadvantage. It is a private club, responsible to nobody. It gives out information concerning its activities only when, and to what extent, and in such form as it sees fit. Prior to last December, the Stock Exchange did not publish sufficient data concerning short selling to enable anyone to discuss intelligently, on a statistical basis, the question to what extent short sales had been a cause of long bread lines. The statistics which the public had been permitted to see did not compare short sales with total sales; nor did the statistics reveal the short sales of individual issues, or the short sales which were executed and covered on the same day.

On a given day, for example, extensive short selling in the morning, breaking the market, might force selling on the part of real owners who did not wish to sell, and before the market closed for the day the shorts might cover at the lower prices. The slump in prices might be brought about almost entirely by this short selling; yet, up to last September, such selling did not appear in the statistics, for the short interest on such a day is the same at the end as at the beginning. Furthermore, even though short sales, on any given day, may be small compared with total sales, prices may drop sharply throughout the list, as a result of the concentrated attack on pivotal issues. Intelligent study of a single day’s operations, therefore, requires more information than the public is permitted to have.

VI

The statistics which Mr. Whitney does present, in support of his contention that short selling has not caused the recent decline in security prices, seem to prove, as far as they prove anything, precisely the opposite contention. On May 25, 1931, the short interest reached a peak of 5,589,700 shares; but during that month the market value of 240 issues of common stocks declined nearly four billion dollars. Thereafter, Mr. Whitney says, the short interest ‘fell considerably,’ until June 22, ‘when the short interest dropped still further’; but in June, as a matter of fact, the rise in the market values of these stocks was over three billion dollars.

That is not all. In March, April, and May, according to the Wall Street Journal, the market value of all listed stocks fell over fourteen billion dollars, while the short interest rose to its May 25 peak. In June, on the contrary, while the short interest declined, the market value of all stocks rose nearly five billion dollars. Then came another huge slump. In September, when, according to Mr. Whitney’s figures, the short interest rose to the second peak, the market value of all listed stocks fell over twelve billion dollars. Between October 9 and November 30, the increase in the short interest was over one and a half million shares, and the decrease in market prices was heavy. The fact that stock values go down, as a rule, when the volume of short selling goes up is shown in the chart which appears in the New York Stock Exchange Bulletin for October 1931; and that is the correlation we should expect to find if short selling is, in fact, a substantial cause of a decline in security prices.

That short selling is not a cause, however, is clearly proved, Mr. Whitney thinks, by the security market itself. Certain bonds and certain unlisted securities, which cannot be sold short, show price fluctuations which are far greater than the average of listed securities which can be sold short. This fact, he says, ’completely shatters the contention that it is the short seller who has forced prices down.’ This sweeping deduction is valid only on the assumption that the absence of short selling is the only difference between his selected bonds and stocks and the listed stocks. That assumption, as everybody knows, is contrary to fact. Any one of forty other causes may account for the price changes in question. Using Mr. Whitney’s own process of reasoning, it would be easy to select various commodities, in which no short selling is carried on, which have fluctuated far less in price than listed stocks, and to conclude that this fact completely shatters Mr. Whitney’s contention. But complete shattering is not so simple a matter.

Mr. Whitney says, in his Syracuse address, that the fifteen issues which have had the largest short interest since May 25 have had the steadiest market. On the other hand, he says, the fifteen issues which have had the greatest decline in value have had no sizable short interest at any time.

These facts, he concludes, prove that short selling does not reduce prices. But these facts warrant no such conclusion. If we were permitted to know the names of the fifteen stocks which have declined most in value, we should discover, no doubt, special reasons for the weakness in those stocks which have nothing to do with the relative strength of other stocks. We get nowhere by comparing certain stocks with totally different stocks. The question at issue is whether the price of a given stock is lower than it would have been if that stock had been immune from the attacks of short sellers. None of Mr. Whitney’s facts or reasons bear on that issue.

He seeks to minimize the effects of short selling by pointing out the fact that, on a given day, the short sales of United States Steel wecre only 24 per cent of the total sales, and of Consolidated Gas only 10 per cent, and that since May 25 short sales of all issues have been less than 5 per cent of total sales. But everybody who knows marketing knows that a 5 per cent increase in supply at a given price is often enough to break the price. Such an offering is especially likely to demoralize the market when it is chosen and timed by a shrewd operator.

Mr. Whitney’s statistics, though they tend to discredit his own argument, do not overthrow it. Professor Emery, at the close of his own careful studies of this subject, rightly concludes that statistics do not furnish either proof or disproof of the effect of speculation. ‘Any general opinion on this subject,’ he says, ‘must rest rather upon its own reasonableness than upon statistical verification.’ The question cannot be decided by comparing price changes with changes in the volume of short selling, for there are so many factors which influence prices that it is not possible to measure the effect of any one of them. Professor Charles O. Hardy, in his notable study of Risk and Risk Bearing, comes to the same conclusion. The contention that short selling reduces the fluctuation of prices, he says, ‘rests entirely upon theoretical reasoning.’

VII

Let us continue the argument, then, ‘upon its own reasonableness.’ It is said that the short seller cannot be a cause of falling prices, because his operations cancel out. He buys exactly as many shares as he sells. If he appears on the supply side of the market, offering a thousand shares of Reading stock, he appears presently on the demand side, requiring a thousand shares. Mr. Whitney gives the impression that this is all there is to it. He ignores the fact that the market goes up or down not because of the number of shares offered, but because of the number of dollars offered; and as long as short sellers are achieving their purpose, as they have been most of the time for the past two years, they offer fewer dollars than they receive. On the dollar account, their operations do not cancel out.

Far more important, however, is another cold fact which Mr. Whitney overlooks. The short seller affects the market not merely by the number of shares or the number of dollars in his own account, but also by his influence on other buyers and sellers. Indeed, he cannot make a profit unless real owners of the stock which he sells are frightened or forced into selling at a price lower than his own selling price. The real owners have no means of knowing how much, if any, of the selling is short selling. All they know is that the price is falling. Statistics on this phase of the subject may be scarce, but everyone in Wall Street knows that the shorts are constantly trying to ‘shake out the weak holders.’ They are always trying to force prices down to a point where the depressing influence of their own sales will be reenforced by sales on ’stop-loss orders.’ They are always trying to find vulnerable places and to concentrate the attack on those places, one at a time.

If, for example, it is known — and there are various ways of finding out, some of them honorable — that certain men have bought large blocks of General Motors stock for investment, but cannot hold the stock if the price goes below 24, the short sellers do their best to drive the price below 24. And if, by selling a thousand shares of General Motors short, they force or frighten real owners into selling a thousand shares, it is missing the whole point to say that they cannot thereby depress prices since, sooner or later, they must buy a thousand shares. This is the main weakness of the orthodox defense of short sellers. It ignores what happens to other sellers between the time when the shorts sell and the time when they cover.

The timing of selling transactions may be more important than the volume, particularly during periods of demoralized public sentiment. We might assume, from the praise of the shorts, that upon receipt of bad news, when holders of stocks desire to liquidate or are forced to do so, the shorts manfully step in and support the market by covering their previous commitments. In this way, we are told, they ‘prevent the market from becoming demoralized.’ If, as a matter of fact, they have done any such thing during the past two years, it has not been evident. The general impression has been, and the market has appeared to indicate, that the shorts have added to the demoralization by freely offering stocks exactly when they could thereby accelerate the downward course of the market. Whatever the volume of their operations has been, psychologically their unrestrained activities have been extremely harmful. The cumulative effect of the selling which their operations have induced has caused the risk involved in any attempt to support the market to be too great to be faced by those on the constructive side.

VIII

It may be said that this applies only in times of panic and pessimism; that at other times short sellers actually are ‘sources of great stability to the market,’ and actually do ‘prevent the market from becoming demoralized.’ This seems to mean that short, sellers, like the Republican Party, are responsible for everything when everything goes right, but are responsible for nothing when everything goes wrong. If the stock market has not ‘become demoralized’ during the very period covered by Mr. Whitney’s figures, then we are all in need of an Einstein theory to explain why nothing is what it seems to be. And if it be true that short sellers cease to be stabilizing influences when we most need them, the only important argument in their defense falls to the ground.

No doubt there are days, even in a business depression, when a decline in security prices is curbed by the covering of shorts; but this does not necessarily mean anything more than that a decline, started chiefly by short selling, is stopped chiefly by short covering. In any event, the millions of investors who do not wish to speculate with their savings, and the tens of millions of wage earners who do not wish to speculate with their jobs, are not interested in what the shorts do to the stock market on any particular day. They are profoundly concerned over the cumulative influence which shorts exert on the state of mind of business men and bankers during a prolonged era of fear.

Most stocks enjoy more or less sponsorship by men who are prepared to support or at least to steady the market from time to time; but these constructive forces are rendered impotent when they are most needed. Often speculators, anticipating the amount of liquidation which will come into the market, begin to sell short. Those on the constructive side of the market retreat in an orderly fashion, taking the stock as it is offered. Then comes the forced selling which represents actual liquidation. When this appears, in many cases accentuated by further short selling, the constructive forces are obliged to bear the combined burden of short selling and actual liquidation. The decline in market price induces or compels further liquidation. Those on the constructive side may themselves be forced to liquidate. When the short sellers eventually step in and relieve them of the double burden, they relieve them simultaneously, in times like these, of part of their capital.

It is difficult to understand how, at such times, an excess of sellers can be reduced by adding more sellers. Yet that seems to be Mr. Whitney’s remedy. Speaking of the period in September during which short selling was banned, he says: —

Obviously this rapid exhaustion of the final available and dependable buying power in the market could not continue. Buyers of securities were still unwilling to purchase as much as outright and margin sellers were offering. The inevitable liquidation had been steadied, but it had not been halted. . . . Furthermore, the Governing Committee was constantly concerned by the rapid exhaustion of the short interest, and, for all these reasons, the restriction on short selling was removed.

That is to say, the market was weak because there were too many sellers; so, in order to strengthen the market, the Governing Committee opened the door to more sellers.

The officers of the Stock Exchange say that they can find no evidence of ‘bear raiding’ on the floor of the Exchange. Perhaps that is not the place to look. Mr. Whitney says that we must base our opinions on facts. Does he question the fact that rumors of all kinds, based upon the flimsiest of conjectures, or upon nothing but the desire to shake confidence, have been circulated throughout the course of the bear market since September l929, interrupted only during periods of rising prices? Surely investors would not circulate such rumors, whether they intended to hold their securities or to liquidate them. The man in the street concludes, with the garden variety of logic which he uses in such matters, that false rumors are probably circulated by those who have everything to gain thereby, rather than by those who have everything to lose thereby. Not one person out of ten thousand in the United States wants the stock market to go down. The shorts are the only ones who profit by disaster. They alone make pessimism a paying business.

It is hardly necessary to assume, moreover, that a bear raid, even as reflected on the floor of the Stock Exchange, would necessarily express itself in the short sale of large blocks of any particular stock. The strategic unloading of substantial amounts of long stocks may well serve as an opportunity for a number of short sales in several other stocks, and the cumulative effect on the market may permit of the repurchase, at a lower level, of all the stocks. This is admittedly conjecture, but it is at least reasonable. Mr. Whitney says — and everyone will accept his statement without question — that of some fifty or sixty cases of sales of stocks in big blocks only one represented a short sale, and this was on a scale up. He does not go further and give the assurance that none of these sales could be associated in any way with a short-selling campaign.

IX

The Stock Exchange seems to think that the gigantic losses which have been suffered by millions of bona fide investors are ‘inevitable liquidation,’ and nothing can be done about it. But speculators who sell what they do not own must be protected. Mr. Whitney speaks with evident pride of the promptness of the Stock Exchange in coming to the rescue of the shorts when they were caught in a so-called ‘corner’ in the latter part of September. If the shorts have ever been caught in a corner created in any other way than by their own overselling, there is no public record of the event. Yet the Stock Exchange feels duty-bound to protect them from the consequences of their own acts. Virtually all the time, for the past two years, the shorts have had things their own way. They have hammered at the market since the early summer of 1930, when total stock values were 75 billions, until the present winter, when values fell below 31 billions. Thereby they have made millions at the expense of investors. Yet when they overplayed their game last September, and found that they could not cover their commitments in certain stocks at their convenience because investors refused to sell the stocks, the Exchange took immediate action to relieve their distress.

This brings us to a place in Mr. Whitney’s Hartford address where he does not present all the important facts. In speaking of short selling, he says that delivery is made ‘by the short seller borrowing the stock from other persons who possess it.’ Mr. Whitney no doubt uses the word ‘possess’ advisedly. He does not use the more specific word ‘own,’ because that would be inaccurate. Those who own the stock may have no idea that the stock is being lent. It is generally understood that brokers lend a large volume of stock which they are carrying for real owners. Now a short seller cannot sell to a greater extent than he can borrow. There is, therefore, no justice in permitting owners of the stock to lead him into a trap and then spring the trap. The iniquity is much greater when the lender of the stock is not the owner, but merely a broker who ‘possesses’ it. The Stock Exchange feels obliged to do something about it. The result is this curious situation: a speculator can sell something which he neither owns nor possesses, without incurring an unlimited liability. He can operate boldly, knowing that he will be spared any unnecessarily harsh results by the prompt intervention of the Stock Exchange.

Under the regulations for the listing of stock, the Exchange frequently imposes conditions which lead to the setting of such a trap. In cases in which a substantial proportion of the outstanding stock is owned by a single group, the Stock Exchange exacts from the members of the group a promise to make stock available for lending purposes. Under these circumstances, if short selling occurs in the face of a determination to hold stock on the part of the minority holders, the shorts are enabled to make delivery by borrowing stock from the majority holders, who also have no intention of liquidating. When the day of reckoning comes, the shorts find themselves in a trap fashioned for them by the Stock Exchange, which then dictates t he terms upon which the real owners of the property which the shorts have sold shall be required to settle.

Whatever may be the ethics of this procedure, it is going to be very hard to convince the public that it is perfectly all right for a broker to lend stock which he does not own to a speculator who has previously sold stock which he does not own, in order that the speculator, by beating down the price of that very stock, may make a profit at the expense of the real owner of the stock.

Mr. Whitney says that ‘no assertion in defense of short selling should be made which cannot be substantiated by facts and figures.’ Yet he makes the assertion that ‘no securities market could long continue in business if short selling were forbidden.’ This is as sweeping a generalization as it is possible to make. It is necessarily mere conjecture, for there is no experience on which to base it. It cannot be supported by facts and figures, for there are no facts and figures.

X

There is every reason to believe that short selling has been a substantial cause — not the chief cause, by any means, but a substantial cause — of the depth and duration of the present business depression. The Stock Exchange officially denies it. If short selling is to be abolished, — or regulated in the interests of investors, business, and the public, — the movement for reform must come from outside.

The first step should be an investigation of short selling in all its phases. Mr. Whitney can hardly object to this.

‘I should like to ask,’ he says, ‘what proof there is — not blind prejudice, not vague assertions, but actual proof and evidence — that bear raiding has taken place in the stock market.’ The public would like to ask that question, too, and many others; but it is useless to ask these questions of a private organization which has closed its mind on the main issue, and which, in any event, apparently intends to furnish only such information as it thinks will serve its own purposes. The investigation should be conducted under authority of the Federal Government.

Among the questions which the investigators might well consider are these: Is short selling absolutely indispensable, as assumed by the Stock Exchange, or is this assumption unsupported either by logic or by experience? If short selling is to be permitted at all, how should it be regulated? Is it of sufficient public importance to be regulated by the Federal Government as a part of interstate commerce? If so, should the government at all times furnish the public with full, definite, and prompt information concerning short sales? If it is desirable to curb short selling, would it be helpful to bring brokers under our banking laws, so that they will have no more right to lend stock which they do not own than banks now have to lend stock which they hold as collateral? Finally, now that increased taxation seems to be the order of the day, should short selling be restrained by an additional income tax on profits realized in connection with short sales, thus increasing the taxes, during business depressions, of those who gain by depressions? That does not seem much to ask of those who make huge profits, at the expense of all the rest of us, by selling the United States short.