Should Betting Against Companies Be Illegal?

Short selling is a stock market trading technique.  Should it be illegal?There are many people out there who believe that short selling should be against the law.

One of those people is Elon Musk, who has not tried to hide the fact that he has a particular disdain for those who bet against his company, Tesla. Musk has said that he believes that short selling should be against the law.

First off - what is short selling?

Short selling occurs when you bet against a company's shares, hoping that they will fall in price so that you can "cover" at a lower price.

To short a stock, you must first "borrow" shares from somebody who owns them. So, let's say that you own 1,000 shares of Microsoft. Your brokerage will allow these shares to be borrowed by somebody else, in exchange for a "borrow fee" that is usually split between you and your broker.

Let's say that Microsoft is trading at $100 and somebody decides to short 1,000 shares. Your broker will lend your shares to this person. Let's say that Microsoft quickly trades down to $95 a share, and the person who borrows your shares returns them (they buy them back). They will have made $5 per share from the trade, and you will have no clue that somebody has borrowed your shares and then returned them.

This is short selling.

A simpler example: let's say that you believe the price of a certain type of car is about to fall. There is a very liquid market for this particular type of car, and right now it sells for $35,000.

You borrow this car from a friend and sell it at the local dealership for $35,000. Two days later, the price of these cars drops to $30,000. You return to the dealership, buy the same car for $30,000 and return the car to your friend. Your friend has no idea that you borrowed his car, and you pocket the $5,000 difference. In exchange for borrowing his car for a few days, you pay your friend $100 (the borrow fee).


Now, should this be illegal? Should people be able to profit from a stock going down?

People like Elon Musk say that this practice shouldn't be allowed. They say that short sellers spread misinformation (otherwise known as FUD - Fear, Uncertainty and Doubt) to drive down prices. They say that companies should be allowed to innovate and operate without worrying about fending off attacks from short sellers.

Proponents of short selling, however, obviously have a much different take. They believe that balance is necessary in the markets, and that short sellers perform the task of policing the markets, helping out the woefully underfunded SEC.

Some of the biggest scams in the history of the stock market, they argue, were first pointed out by short sellers. Enron, Worldcom and others were all targeted by short sellers long before they imploded.

Taking away the financial incentive to expose companies, short sellers say, would result in frauds going unchecked, which would ultimately result in many more people losing money in the end.


Here is something that many people don't want to hear - short sellers aren't concerned with companies that have strong and growing businesses.

Does the CEO of Microsoft stay up at night, worrying about short sellers? Amazon? Netflix?

Probably not - instead, they are focused on growing their businesses and making money from their shareholders.

If a company is seemingly obsessed with short sellers, there is a very good chance that they have something to hide. They don't want people looking under the rocks at their companies, as they are afraid of what might crawl out for the entire world to see.


Short selling is misunderstood and misrepresented by the media. The term "short and distort" is often used, but that implies that short sellers are knowingly lying about a company's situation. In many cases, short sellers are simply analyzing a company's financial reports and balance sheet, though this somehow is portrayed as a nefarious activity.

Short sellers that knowingly disseminate incorrect information about a company should be prosecuted to the fullest extent of the law, just as should somebody that is long and is pumping a stock with crazy projections or false information.

Short selling is an important part of the stock market and should never be banned, in my opinion. Those who are opposed to the practice are either uninformed or trying to hide something.

Filed under: General Knowledge

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