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Comment by krok | Hacker News Reader

It doesn't inflate the supply, because the amount of people who own the share is equal to the number of actual shares, plus the number of people who are short the share. All the people who are short the share have to buy it back in the future. So the additional supply has exactly been matched by additional demand.

What you are saying is like saying that lending money to your friend creates inflation by expanding the money supply, because you still have $10 (that he's holding for you), plus he also has $10. In fact, since he knows he owes you $10, he's going to have to cut back on his spending at some point in the future, to pay you back. (Your mileage may vary with actual friends.)

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Well, lending new money (i.e. an increase of lending over previous lending) does expand money supply and create inflation. If we look at the macroecomic aspects of money supply, most of current money supply is created through lending.

The key difference in your estimates of supply is that you include the future repayments of current lending, but ignore future lending. The general assumption in macroecomics is that we don't treat such lending as isolated one-off events, but as a sum of ongoing activity by many people, continuing forever at a stable level unless some event affects it.

Assuming that the principles governing lending don't change, the future repayments are balanced by payouts of new loans at that point of time, and the current payouts (if they are greater than current repayments of past debt, i.e. there's a net increase) are not balanced and thus increase the supply. If at some point the fundamentals change so that the lending decreases or stops then that event would decrease supply back to where it was.

I.e. if you often lend money to your friends so that usually someone or someone else owes you $10, then this lending is not a change and does not affect supply, but if you did not loan money and now you start lending, then that $10 is an increase in money supply.

> Well, lending new money (i.e. an increase of lending over previous lending) does expand money supply and create inflation.

You are talking about lending by banks, and/or the central bank, which is quite clearly money creation.

New lending of your money to your friend does not create additional money.

There's also a word game going on here. What you are describing is a situation where I lend money to my friend, and for the purpose of your analysis, you assume that I will always have lent out a similar amount of money forever starting now.

That's fine if that's what you want to analyse. But that isn't the situation I described.

> All the people who are short the share have to buy it back in the future.

Not if the company goes bankrupt though, right?

Seems like a potential strategy hedge funds can use (and maybe are using) is to short a company a ton and collect a lot of money from that. They can short more than the float, so even collecting more cash then the market cap of the company. This drives the price down, because there is more supply. The more they short, the more the price goes down. Then they just wait for the company to go bankrupt, which is more likely since the company's share price is in the dumpster.

Hilariously, the company going bankrupt can be even worse for shorts, since a bankrupt company will stop trading, and if it stops trading, the short position can't be closed.

See, eg, https://www.bloomberg.com/opinion/articles/2018-04-11/-go-to...

> Seems like a potential strategy hedge funds can use (and maybe are using)

Anyhow, no, doesn't work. Even apart from getting burnt when the fraud is finally exposed and the company goes bust before your short position is closed or whatever (which is thankfully pretty unusual), stock borrow costs will eat you alive. Also, you can't short more than the float (short interest can be over 100%, but that's confusing net versus gross), you can't collect more cash than the market cap of the company, and you can't really bankrupt healthy companies by shorting the stock.

(The way short sellers (like Muddy Waters work is they find a company doing a bunch of fraud, they take out a large short position, then they publicise their research. If the market agrees with them, the uncovered fraud tanks the stock price, and they make a healthy profit. Sometimes the company ends up bankrupt and/or with their executives in prison, but the cause is the fraud, not the short selling. Short selling an otherwise healthy company into bankruptcy doesn't make a lot of sense in theory, and doesn't seem to happen in practice.)

> they take out a large short position, then they publicise their research. If the market agrees with them, the uncovered fraud tanks the stock price, and they make a healthy profit.

This is giving the market a lot of credit for being a rational and well-informed actor. The market is not full of people who calmly evaluate a short seller's argument and make a logical decision. It's full of people who lack the time, experience, and confidence to question the "financial expert" making dire predictions on the morning news and think "I should get out of this stock just to be safe".

Normally that's not really the case. There's a lot of academic and practical evidence that the most rational investors generally determine the prices of stocks, because even if there are a lot of irrational investors making random or systematic errors, a minority of rational investors all betting in the same direction ensure that prices are close to "correct", for some reasonable definition of correct.

In practice you just don't see examples of productive companies driven into insolvency by short sellers.

Oh, I agree completely. Individual market participants make tons of mistakes, and absolutely won't be able to evaluate short (or long!) arguments correctly in many cases. That's actually one of the key elements supporting the efficient market hypothesis, and why so much ink is spent encouraging small investors to use index funds.

But it's a question of scale. The fact that any one investor may make mistakes doesn't mean that the market as a whole, in the medium or long term, also makes these sorts of mistakes.

"Some hedge fund guy released a report saying stock X is bad and the stock tanked 30% from small investors panicking before recovering when people realised it actually wasn't bad" is pretty silly, yes. And it's a bit rough on the small investors selling at a loss into the large investors who are able to correctly analyse the report, absolutely. But does any company actually go bankrupt in cases like this? The answer seems to be no; there's no evidence for it happening, and it's hard to see how it even could. Confused retail investors can lead to price volatility, but they don't make or break a new share offering.

Yes but there's a counter to this and limit that is not there on the long side: Remember stocks are ownership in a company. If a load of "predatory shorts" jumped on and drove the market value of a company way below of where it should be, I could jump in with sufficient money and make a tender offer. Then I'd own a real company with real assets for a fraction of the cost and take it private. And the shorts would have to cover their shares.

There's no such reality check with things going up on the long side as we see from Gamestop. Someone can't step in and cash out on the company at a ridiculously high price compared to fundamentals. It is only driven by the market. In general short sellers are vilified more than warranted. If you are long on a good company you should applaud them because after all, they now have to buy back at some point. People view it as if you are some villain going against what is right (shares just going up and everyone gets rich). Stocks that go down with high short interest are almost always going down because they are bad companies, not due to short sales.

An offer to buy the entire company would be information leakage and the price would rise.

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