If You Don’t Like Short Sellers, Then You Wish Blockbuster, NetZero And Circuit City Still Existed

An entrepreneur who fails to use his capital to the “best possible satisfaction of consumers” is “relegated to a place in which his ineptitude no longer hurts people’s well-being.” – Ludwig von Mises, Human Action

Do you the reader still yearn for Blockbuster Video, and the frustrations provided by what was once seen as a cutting edge company? Do you miss the late fees, that the VHS tapes and DVDs you wanted to rent were frequently out of stock, not to mention how limited Blockbuster’s stock was relative to what you can watch on Netflix NFLX , Amazon AMZN Prime, Hulu, or all manner of other internet-based sources of content today?

Do you miss NetZero and the dial-up internet access of yesteryear? How would the latter have worked out for you during the errant lockdowns of recent vintage whereby an internet connection made eating, exercising, watching and working without leaving home a possibility?

The questions posed answer themselves. Particularly in the U.S. The United States is arguably the most convenient country in the world in terms of living standards precisely because market forces regularly push the present into the past, and rush the future into the present. Some call this “creative destruction.” The better way to put is that what’s good won’t be seen as good for long if its qualities are stationary. In order to meet the needs of the world’s most demanding consumers, businesses and entrepreneurs must routinely improve on what’s presently seen as great.

If not, as in if businesses pursue stasis, they’ll soon be relegated to a place in which their ineptitude no longer hurts people’s well-being. The previous truth explains why Amazon, Google GOOG , Apple AAPL , Facebook, and Microsoft MSFT continue to spend billions each year on new ideas. If they stagnate, they’ll cease being the world’s most valuable companies.

They will because oddly vilified hedge funds and short sellers will aggressively make their presence known. In other words, the short sellers presently under attack are corporate watchdogs. Businesses not doing well by customers and users will pay for this with falling share prices. Short sellers protect us from laziness in the corporate suite. Think about it.

Really, does anyone think short sellers didn’t work their magic in helping put Blockbuster out to pasture, or Circuit City, or Borders Books? Barnes & Noble is privately owned now, but does anyone think short sellers weren’t short B&N BKS shares as Amazon increasingly signaled its ability to run circles around what represented (and represents) the past?

It’s come out in recent days that short sellers are viewed negatively by many, but those who feel this way seemingly haven’t thought about what life and living standards would be like without the market regulation that short sellers bring to the marketplace. They quite simply keep businesses honest.

This is important when it’s remembered that short sellers aren’t just taking the biggest of big risks in selling shares short. What they’re doing is forcing businesses to either improve the customer experience, or be replaced by a business that will.

Still, it’s crucial to restate the risk short sellers are taking. When they’re skeptical about the viability of a company they borrow existing shares, pay the owner of the existing shares “interest” in order to borrow them, sell the shares, pocket the proceeds, then wait in uncomfortable fashion. If their hunch about the corporation is correct such that the share price subsequently falls, they can then re-enter the market, buy the shares borrowed and sold short back, then pocket the difference.

But if they’re wrong….As evidenced by GameStop’s GME surge last week, along with AMCs, the corporate watchdogs that we call short sellers have very limited upside if they’re right, but endless downside. Which is why short sellers are once again so important: their willingness to take such gut-wrenching risk is a market signal that some investors of brains and means see something seriously wrong with the company they’re shorting. These intrepid individuals provide crucial information. Yes, they’re heroic.

Which brings us to “naked” shorting. There’s really nothing to this. Never forget that investors “naked” buy all the time. They do simply because trades don’t settle right away. Investors large and small purchase shares but cash isn’t exchanged right away. It’s just expected to be exchanged on settlement date.

Critics of “naked” shorting say that no actual shares exist when short-sellers sell. OK, so what? The buyer of the shares may not have the cash right then to purchase them either. No big deal. Ultimately the seller of shares in “naked” fashion must deliver actual shares to the buyer. If anything, “naked” redounds to long investors. For one, the “naked” seller may have to pay extra interest to an actual owner in order to borrow shares sold in “naked” fashion, and for two, any frenzy among shorts to locate the shares they must deliver to the buyer could theoretically result in a short-term spike in demand. Still, this is just theorizing.

What matters is that “naked” selling of shares doesn’t involve “phantom” shares that don’t exist. They do. When an investor sells shares, they must be delivered. It’s just an acknowledgment that transaction and settlement don’t happen at the same time. Since they don’t, we’re all theoretically naked at times as buyers and sellers.

In short, the odd focus on “naked shorting” is a silly distraction. What matters is that in their pursuit of profits, short sellers are protecting you from corporate stasis that results in a reduced experience for you, the customer. Yes, short sellers are heroes.