I see the subletting analogy, but there's a big difference between subletting an apartment over the summer to minimize your losses (usually for ≤ your rent) and renting all the apartments in manhattan, then subletting them for profit after you corner the market.

The former seems fine, and yah, I guess I do think that the latter should be illegal, because it only benefits some wealthy jerk who can afford to corner a market.

Again, it’s not an individual or even one entity doing it. It’s several funds independently doing this.

And what if there is coordination? Are you not following the news today at all?

If there is coordination among licensed participants, I’m sure we will see some punishments doled out.

Just like all those punishments that were doled out in 2008, gotcha.

The latter likely is illegal. It would depend on the specifics but the SEC enforces market manipulation rules around cornering frequently.

Can anyone explain what utility, to the real economy, that short selling stocks provides? Practically speaking, why is shorting useful? What problems in the financial system does it solve. Asking in earnest.

Short selling accelerates price discovery in order to allow for more efficient capital allocation, thus making our overall economy stronger.

> more efficient capital allocation

Can you explain this more? More efficient on what axes? How does that translate to societal benefits that aren't just on paper?

Ok, here are the links:

* When a firm decides whether to take on new projects, they look at the projected profit of that project, and compare to their cost of capital. Only projects whose profit exceeds the cost of capital should be executed.

* Stock prices influences a firm's cost of capital, eg when raising more money.

* Relative stock prices also influence, in mergers, say, who takes over whom.

* Via all these levers and more, stock prices help select which projects of all possible ventures are realised, and who manages them.

* All of this is aimed at funding those projects that produce the highest output relative to the resources dedicated to them.

* All of this only works if stock prices are a somewhat accurate reflection of the prospects of a firm; in other words, if the share price reflects the fundamental value of the firm.

* Short sellers (and long buyers) that analyse firms and trade when they perceive a discrepancy between share price and fundamental value can trade upon that insight, which will have two effects: a) it will tend to bring the share price closer to the fundamental value, and b) it will be profitable for the firms that are correct in their assessment.

That's basically the big picture story.

There’s a better answer in this thread, but a tl;dr/eli5, is that if all I can do is buy a stock then the only information available in the price are the people who believe in the stock/bond (usually as a proxy for belief in the company). This means that all the people who believe the stock/bond is no good have no way to lend their belief to the price of the stock/bond. This represents an optimistic asymmetry in the stock/bond price. By having the ability to short, some of the asymmetry is removed thus making the price better able to reflect the future expected value of stock/bond. That’s what makes it “more efficient”.

Agreed, but something is only worth what someone is willing to pay for it. They shouldn't be crying now when other add increased price pressure.

lol come on

It's in a short seller's interest to get a company negatively in the media. This means that they will actively hunt for morally/legally/financially objectionable stunts a company might pull and leak it to journalists.

There's a lot of fun Matt Levine articles on Bloomberg about this dynamic.

Eg from https://www.bloomberg.com/opinion/articles/2020-05-29/you-ca... (https://outline.com/atF74W):

> The thing about inflating your revenue by pretending that you sold more coffee than you did is that people can go to your stores and watch you sell coffee. It is a reasonable bet that they won’t do that, because it’s incredibly boring. “Who is going to send 1,500 people to our stores to watch us sell coffee all day, count how much we sell and compare it to our financial statements,” Luckin could reasonably have thought. But the answer was “short sellers”! They actually hired people to sit around watching the coffee get made, so they caught the fraud.

I also warmly recommend his "Everything is securities fraud" rant that follows this paragraph. (note: I know nothing about stock markets (or reddit or gamestop for that matter) so someone let me know if I'm just a noob eating up some slightly smarter noob's nonsense)

In theory, it can lessen volatility since traders can bet against overvalued companies in the same way they can invest in undervalued companies. In practice, I'm not so sure if this is really how short selling works, since "the market can remain irrational longer than you can remain solvent". I do think a world without any short selling would have much more frenzied boom / bust cycles though.

Short selling incentivizes fraud investigation. Case in point: Muddy Waters.

Can the subletting of apartments lead to a Volkswagen Squeeze? (https://moxreports.com/vw-infinity-squeeze/)

The GME heavily-shorted position specifically has directly led to significant manipulation on the parts of investment firms that are now endangered by the very positions they created. If the end game of the stock market is an unregulated free-for-all, then it can't be manipulated by definition and there's going to be short cycles of calm punctuated by terrifying chaos like 2008 and today; if people want to avoid that chaos, then they have to accept the regulation of chaos-causing behavior.

Not sure if your comparison is so great.. are there apartments whose rent price fluctuates over 1000%?

Also subletting is not selling..

1) I'm not sure the magnitude of change is relevant to the analogy -- it doesn't alter the mechanics as much etc.

2) You can view renting as a sale -- the renter buying the utility of the space in exchange for a series of cash flows (but not paying for the economic upside/downside). Financial markets have the ability to separate components of assets (ex. voting vs non-voting shares) and value them; there's no reason to not do the same here.

In that structure a sublet is simply a rent on a rent.

My point is that it's not clear to me how the mechanism of short-selling itself implies market manipulation.

Point taken on how subletting is not selling.

So if there isn't one entity short 140%, is it that there are multiple chains of shorting, like shorts on top of shorts that leads to the 140% target?

Not totally familiar with all this, just trying to understand.

You buy a share. You now rent it to someone else. They sell the share again (and hope to buy it back later at a lower price). Same share has been sold twice. The 2nd buyer of that share can then rent it again to another seller which increases total short interest.

Yes. If I short a share, I’m selling the share to someone and planning to buy it back later. That person who bought the shares from me can then lend them to someone else... so now two shares are being shorted when only one real share exists.

So, closing the loop back to the original analogy, you shouldn't be able to sublet an apartment with an occupancy rate of 4, out to 8 people.

Correct. It's akin to fractional reserves [https://www.thebalance.com/what-is-fractional-reserve-bankin...]

Could you elaborate on how shorting past 100% is comparable to subletting? How is shorting alike borrowing something?

Ok, so, there's a concert by <insert favourite musician> in 4 weeks.

Tickets are sold at 100$. But the show is extremely popular, so the tickets are traded, and the price shoots up to 300$. You think the price is still going to go higher, so you buy a ticket for 300$. The price goes up to 400$, you sell the ticket, and you made 100$. (You were long, and the price went up - you made money.)

Now, the price goes to 5000$. You think, well, that's way too much - you're sure the price is coming down. So, what to do? Well, your friend Mike is going to go to the concert, he has a ticket, and he wants to keep it. He doesn't care what the price is, he's going to the concert. So, you say, listen, Mike, can I have the ticket for a week or so? I'll give it back before the concert. He says, sure, and hands you the ticket.

You go and sell the ticket for $5000. A week later the ticket price has come down to a more reasonable $4000. So, you go buy a ticket for $4000, and hand it back to Mike. You received $5000, spent $4000, and made $1000, because you were short, and the price went down.

That's the basic mechanic of short selling.

Now, assume the price is going up though. The price could go up to $100000. The date of the concert is coming closer. Mike wants his ticket back. Dang, you have to go out and buy the bloody ticket for $100000. You lost your shirt, because the price went up while you were short a ticket.

Ok, price is back at $5000. You think the price is going to fall, and want to short. You put an ad in the paper saying that you have a ticket to sell. Joe calls and wants to buy the ticket. However, Mike is out for lunch. You tell Joe to transfer the money, you'll mail him the ticket. When Mike comes back, you ask Mike to borrow the ticket. He might or might not give it to you - if he doesn't then you either have to buy it from someone else, or you're stiffing Joe.

That's a naked short.

Thank you for this example, this really improved my understanding

I don't know whether this might be too long or boring, but I've extended the tale further a bit:

Now, price is back at $5000. You want to go short, but big time this time around.

You're going to Mike and borrow the ticket, and to Steve and borrow his ticket, and all your 8 friends (MSetc), and borrow their tickets and sell them to Anna, Betsy, Charlotte, etc (ABC). Now you're short 8 tickets, you'll have to buy back 8 tickets later to give back to your friends (SMe).

However, your hedge fund buddy (HFB) also thinks the price is too high, and wants to sell. He goes to Anna, Betsy, Charlotte etc. and asks whether he could borrow their tickets. Well, why would they give him their tickets? Well, he'll give it back in time, and he'll throw in a 2$ borrow fee for every day he has the tickets borrowed. Sure, they say, and he goes out and sells those 8 tickets to Redditors.

However, turns out that it's an Indy band, and they had only sold 15 tickets in total, 8 to your friends, and 7 to random other people (ROP).

There's a net supply of 15 tix.

Your friends SMe have 0 tickets, have lent 8 tickets, so are long 8 tickets.

You have 0 tickets, have borrowed 8 tickets, so are short 8 tickets. (Replace "borrow 8" by "lent -8", if you want.)

ABC have 0 tickets, have lent 8 tickets, so are long 8 tickets.

HF buddy has 0 tickets, has borrowed 8 tickets, so is short 8 tickets.

Redditors have 8 tickets, haven't borrowed or lent, so are long 8 tickets.

All of the above have a total 8 tickets (Redditors) = 24 long position (SMe, ABC, Redditors) minus 16 short position (You, HFB).

Random other people have the remaining 7 tickets.

Total ticket supply = 15. Total long = 24+7 = 31. Total short = 16. And, 31-16 = 15 net.

This is how short interest (16) can exceed net supply (15).

If the price goes up 10$, the total price of the tickets (=market cap) goes up 150$. The longs win 310$, the shorts lose 160$.

If the price goes down 10$, the total price of the tickets (=market cap) drops 150$. The longs lose 310$, the shorts win 160$.

Ok. Penultimate step.

Now concert comes closer. You owe SME their 8 tickets, and HFBuddy owes ABC their 8 tickets. However, Redditors are not selling their tickets. So, you and HFBuddy go out to random other people (who have 7 tickets in total) and want to buy back 16 tickets! They might give it to you, but when they realise what's going on, they might want $20000 per ticket. Or more! You have to pay up, and what you need is more than what's available on the market!! They won't sell it! Price rises!

That's a short squeeze.

ROP, Redditors, ABC, SME get rich (31 long), and you and HFbuddy lose (16 tix). Hey, you wonder, how can so many people get rich, nearly twice as many as lose? Well, they don't really - remember, 15 people will go to the concert. They won't sell the ticket. They don't care about the price. There is a 15 net supply. Someone ends up with the ticket, with the concert. Not 31 get rich, but 16 get rich, and 16 lose. 15 end up holding the tickets, going to the concert (= being long term share holders.) They might still sell the ticket, then they might win or lose.

Ok. Now, final step.

The Redditors are a fine bunch. They won't sell, and they won't lend their tickets to evil shorters! They like the band, and they will prevail.

But you know, one of the ROP is not that keen on music, and when HFBuddy offers him $5100 for the ticket he bought for $5000, yeah, he sells it. HFBuddy loses a bit, but hey. He gives the borrowed ticket back to Anna, closing this short. So, now he asks her, "would you sell it back to me? $5100 dollars." She is not as keen as the Redditors, and sells it to him. HFBuddy loses a bit, but hey. He gives the ticket back to Betsy. So, now he asks her, "would you sell it back to me? $5100 dollars." .....

Ok, you see where this is going. After a while, he can give back the ticket to Henrietta, and he is out of the short position. Bought 1 Ticket from a ROP, and closed out all his short positions, by buying from the people he had just returned it to. HFBuddy is out of his short, with a bit of a loss.

So, Redditors have 8 tickets left, and they're HODLing, ROP have 6 (since one of them sold out) - and Henrietta has a ticket. You ask Henrietta whether she'd sell it. She does. You take that one ticket and give it to Steve, ask whether he'd sell it back to you. He does. You go to all the other friends MSe friends (except Mike), close out your shorts, and buy it back. Finally, you give the last ticket to Mike, closing out your entire short position.

Now, who has tickets? Mike 1, ROP 6, and Redditors 8. Together 15 tickets. You and HFBuddy are out of their short position, even though 6 ROP and all 8 Redditors held on to their tickets and their long position for dear life.

Price had gone up from 5000 to 5100, so both you and HFbuddy have lost 800 each on their short, total of 1600, (while ABC and MSE (minus Mike plus one ROP)) each made 100, being long, total of 1600.

Now the hype dies down. Nobody wants the tickets anymore, and now Mike, 6 ROP, and the 8 Redditors have to go to the concert.

The Redditors don't really want to go to the concert, they were in it for the LOLs. So now they're trying to sell. Couple of original MSE and ABC say, yeah, I'd be willing to see the band, but I'll only pay 100$ for the ticket.

Redditors lose their shirt, or go to see the concert.

(That's being long term share holder. :)

So while "you" and HFbuddy are closing out the shorts, there are 16 transactions - that's significant volume, isn't it?

I followed the analogy, this is incredibly detailed and makes a lot of sense. Thank you for the detail in this comment!

shorting is identically borrowing. You borrow the stock from someone who owns it, and resell it at the current price. Then later down the road, you buy it back at the lower price and return it to the original owner. You have made money on whatever that difference is. This is not a metaphor, this is how shorting operates.

It can easily go over 100% if the person you sell it to also lends it to someone to short (and they have no clue that the share they bought was involved a short, already).

Note - this is why it's possible to lose your shirt when you are shorting. Eventually you will need to return that stock you've sold, which means buying it at whatever the price is. So if it goes WAAAY up, you lose a lot of money. In contrast to buying a stock, where you can only lose your position.

Not the parent or even a participant in this thread, but thank you- this is the first time I've ever been given an explanation for shorting that is clear, concise, and understandable to me.

> Eventually you will need to return that stock you've sold

What happens if you don't?

It's not "you" who is doing it, it's your broker. And the reason they will 100% do that is because they want to keep their SEC license. The rest of the problem is between you and your broker, settled in real $.

As another responder says; a broker will close out the position for you and come after you for whatcha owe them.

It's not comparable because you can't rent an apartment from someone then sell the ownership of the apartment to someone else because you don't own it.

There's no way of making it comparable without making some kind of derivative contract against the deed to the property but then it's back to traditional shorting.

I said this somewhere else, but you should think of the rent as ownership of the utility of the space for a fixed tenor. The only reason you can't easily trade it is most contracts restrict that, but removing that friction, it really isn't too different.

It isn't

Shorting is literally borrowing the stock and then reselling it, so a shorter is pretty analogous to someone renting and then immediately subletting an apartment (Yes, there's the rent/buy distinction, which is what leads to short squeezes, but close enough). To get past 100% short interest just means some of the subletters have sub-sublet.

There's supposed to be a law where the stock has to exist and be obtained before you can "borrow" it to short. The law was created in 2008 I believe but from what I understand, there are loopholes in it.

https://www.sec.gov/news/press/2008/2008-204.htm