Wednesday, August 24, 2011

Stock Market Manipulation

A stock trader can make money in two ways:
  • Long (trader expects stock price to go up):
    • Buy a stock and sell it later at a higher price.
  • Short (trader expects stock price to go down):
    • Buy put options.  Put options go up in value if the stock price goes down.
    • Borrow a stock, sell it, buy it back later at a cheaper price and then return the stock to the lender.
News can move the stock price up or down, depending on if the news is positive or negative.

Manipulation of stocks, which is illegal, happens when traders spread false rumours to move the stock price.  A trader may be long a stock and spread false positive news, or may short a stock and spread false negative news.

In the mid-morning of March 16, 2011, news came out that the EU energy minister had claimed the Japanese nuclear crisis is out of control.  This caused the stock market to plunge.  Later, the EU energy minister’s spokesperson tried to clarify it by saying that this was not based on anything new or privileged information.  It didn’t matter.  The damage was done.

CNBC explains how this was likely stock manipulation.  You can watch it here (it starts 28 minutes and 18 seconds into the recording).

Here’s the transcript:
Melissa Lee:  “What started as a quiet day on the market, turned into a violent sell off around 11 AM eastern time on the back of the EU Energy Minister’s comments about the Japan nuclear situation, talking about catastrophes happening in a matter of hours.  But Dr. J actually saw some unusual activity which raised some eyebrows…” 
Jon Najarian:  “Yeah, well, in a host of indices and in particular Nasdaq and S&P. The S&P, if you took a look at the March 12 25…puts.  They were bought, about 5,000 of them were bought like bang, bang, bang, bang.  And then 4 minutes before 11 o’clock, to Melissa’s point, it’s started hitting on Twitter that they re-purposed some of that information, about that EU Energy Minister.  Then, next thing you know, both Dow Jones and Reuters put it out, as if it was new news again, which to me was not new news.  This was 8 hours old.  And the markets went into a free fall.  We went down from about 45, 50 points negative in the Dow Jones industrials to over 200 and the fear was lit in everybody’s trading room and the next thing you saw was people basically just run for the hills.  And those options that were purchased for about 90 cents, in the case of the S&P March 12 25 puts, went to $7.60.  [Jon Najarian snaps his finger]” 
Melissa Lee:  “Did you see them being sold immediately afterwards?” 
Jon Najarian:  “No, I did see most of them being sold around $3, and then they re-loaded, basically when, strangely enough, the US energy people came out and started commenting about moving Americans outside of Tokyo and telling them to stay in their homes, if they stay there, and all that sort of thing.  I mean, the fear mongering here, folks, is on a level I’ve not seen before.  Some of it’s suspicious, like I say because, it’s been repurposed, this information.  If you’re just smart and you make a great trade, kudos to you.  If you’re somebody who then basically puts out information to create fear to the upside or downside, that seems pretty close to criminal.” 
Melissa Lee:  “JJ…based on your experience, does this also strike you as odd?” 
JJ:  “Yes, I think Jon’s 100% right…”
Manipulation, front-running, insider-trading and quid-pro-quo are rampant on Wall Street, however very few of these crooks are caught and punished.

Please note that for capitalism to work effectively, there needs to be sufficient rules and rule enforcement.  However, enforcement from agencies such as SEC has been impotent.  Even when Harry Markopolos notified the SEC three times about Bernie Madoff, the SEC did nothing.


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