Activist short sellers focus on exposing fraudulent companies and communicating their findings to the market.
Carson Block's journey from lawyer to activist short seller highlights the need for a good offense against scams, especially in China.
Activist short selling serves as a non-traditional revenue model supporting investigative financial journalism and is crucial for exposing corporate wrongdoing.
Deep dives
The Evolution of Short Selling
Carson Block discusses the evolution of short selling and the difference between traditional short selling strategies and activist short selling. He explains that traditional short sellers focus on businesses that are expected to deteriorate faster than the market predicts, while activist short sellers like himself take short positions and communicate their findings to the market. They ask three questions about a company: whether the material information disseminated by the company is correct, whether all material information has been released, and whether the market interprets the information correctly. Activist short sellers also dig through complex accounting to uncover discrepancies and contradictions.
From Lawyer to Activist Short Seller
Carson Block shares his journey from being a lawyer to becoming an activist short seller. Growing up in the investment industry, he witnessed fraud and deception in microcap and small cap companies. Disillusioned by the prevalence of predatory management, he decided to go to law school to better protect himself against market scams. However, he discovered the weak rule of law and high levels of corruption in China, where he spent a significant amount of time. He emphasizes the need for a good offense to defend against scams in China, where aggressive interactions and skepticism are common.
Challenges and Successes in Short Selling
Carson Block reflects on the challenges and successes in short selling, particularly in recent years. He discusses the difficulties faced during the COVID-19 pandemic, with market complacency and the GameStop frenzy impacting short positions. Despite the initial setbacks, he highlights the successful short calls made in 2021, particularly in the SPAC market. He also acknowledges the importance of timing and having a clear understanding of the system that enables fraud. Carson concludes by pointing out that while excess may have been drained from the speculative market, there are still opportunities for short sellers to uncover inflated valuations and leverage market imbalances.
Risks and Challenges of Short Selling
Traditional short selling involves timing the catalysts and getting out quickly to avoid paying high borrowing costs. The post-GFC policy of cheap credit has prolonged the life of poor quality companies and reduced the effectiveness of short selling as a strategy. In the activist short selling landscape, the decline in 11 out of 12 shorted stocks since January 2020 highlights the significance of timing a catalyst. Short sellers aim to expose problems in stocks, and the decline in stock prices is a reflection of the market acknowledging these issues. The pricing of risky assets needs to reflect an adequate risk premium, especially in Chinese equities that bear geopolitical risks.
Activist Short Selling as Investigative Financial Journalism
Activist short selling plays a crucial role in filling the gap left by shrinking newsroom budgets and reduced investigative financial journalism. With shorter attention spans and limited resources for in-depth investigations, activist short sellers act as investigative financial journalists, shedding light on fraudulent practices and uncovering misconduct. Their work serves as a non-traditional revenue model that supports investigative journalism. However, the recent scrutiny and potential legal threats facing the activist short selling industry pose a threat to financial investigative journalism, which relies heavily on this revenue model. The industry's survival is crucial to maintaining a pipeline for investigations and exposing corporate wrongdoing.
On today's episode of Forward Guidance, Jack Farley is joined by Carson Block, Investor & Founder of Muddy Waters Research. Known for his role in activist short selling, Carson shares how he began his career in investing, what led him to being an activist short seller & reflects on the past two years of markets in the face of reckless monetary policy.
Carson goes on to share the hows and whys of short selling, techniques for identifying fraudulent companies, differences between short selling in China vs the U.S, the role of activist short selling in markets and much more.
Carson Block on Twitter @muddywatersre
Jack Farley on Twitter @JackFarley96
Blockworks on Twitter @Blockworks_
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