Review of “How Constraining Are Limits to Arbitrage? Evidence from a Recent Financial Innovation”

by Alexander Ljungqvist[1] and Wenlan Qian[2], Working Paper 19834 of the National Bureau of Economic Research

In this NBER Working Paper, Alexander Ljungqvist and Wenlan Qian (“L&Q”) independently analyzed 332 reports published by 17 small activist short-sellers (who L&Q refer to as “shallow-pocketed arbitrageurs”) spanning from 2006 until 2011.  L&Q made the following observations:

  • Short sellers spend considerable money conducting their research while facing high lending fees, difficulty borrowing shares, and expensive put option premiums.
  • Despite these challenges, short sellers are quite successful in correcting the overpriced stocks: “On average, the prices of target companies in our sample fall by 21.9% over 3 months and by 56.8% over 12 months, net of market movements.”
  • Short sellers overcome their high costs by publishing very detailed reports revealing new negative information that, only if credible, results in investors selling their holdings causing large share price declines.
  • With considerable accuracy, the short sellers’ reports are usually proven to be true:  “For example, 35% of targets are subsequently delisted, 38% replace their auditors or see their auditors resign, and 23% restate earnings. In fact, in only 19% of cases do subsequent investigations by the SEC, the Department of Justice, or a stock exchange disprove the alleged facts contained in the reports.”
  • Only short sellers “…with a history of making claims that are subsequently confirmed are able to induce the longs to sell and thereby put pressure on a target’s share price.  And it is only credible reports that generate profits for the [shorts], net of shorting fees: without credibility, prices do not fall significantly.”
  • Reports “…that present new facts previously unknown to investors (e.g., resulting from on-the-ground detective work) result in longs selling and rapid price corrections whereas reports that merely reinterpret known data do not.”
  • The three largest publishers of reports analyzed by L&Q were Citron Research (106), Alfred Little (37), and Asensio & Co. (34).
  • Chinese companies accounted for 51.3% of the sample.  However, L&Q asserts that their findings were “qualitatively unchanged” if they remove the Chinese companies from their sample.
  • The three short sellers with the “largest immediate market impact” were Chimin Sang (-19.9% on 3 reports), Alfred Little (-19.2% on 7 reports), and Muddy Waters (-18.0% on 5 reports).
  • The three short sellers with the largest market impact measured over three months were Asensio & Co. (-58.9% on 4 reports), Absaroka Capital Management (-54.1% on 2 reports), and GeoInvesting (-39.8% on 8 reports).
  • Short sellers “…also face the risk of being sued by their targets.”  However, the “…very real risk of lawsuits will, to some extent, keep the [shorts] from making claims they cannot substantiate.”
  •  The “…mean cumulative abnormal return is -56.8% over the 12 months following the release of a report, with 80 of the 113 targets experiencing negative abnormal returns.  This suggests that the information the [shorts] release usually proves correct.”
  • L&Q independently analyzed each short seller’s track record to gauge the credibility of the reports.  L&Q’s calculated an 81% credibility rating for the entire group of short sellers and a 100% credibility rating for Alfred Little.

L&Q’s research “…illustrates why financial markets need short sellers to function well.”  Furthermore “…the short sellers in our sample are information producers who help correct mispricing and thereby help make markets more efficient. This is all the more remarkable given that many targets in our sample were held by highly sophisticated investors who apparently did not spot the overvaluation until it was too late.”

I strongly concur with L&Q’s findings and believe their detailed analysis proves the value of the reports published on  I welcome L&Q to update their analysis at some point to include 2012 and 2013 short seller reports, as well as to calculate the price declines of short seller targets over even longer periods of time (such as one or two years after publication).  This is imperative given that over longer periods of time the “market” more accurately gauges the merits of any valuation dispute.

It is in the best interests of investors that the exchanges and the SEC find ways to better engage small activist short sellers in their fight against securities fraud.   The current Dodd-Frank Whistleblower program has, to date, failed to substantively reward short seller whistleblowers.  The exchanges are less interested in protecting investors and more keen to protecting themselves from legal entanglements that may arise from delisting any given company as a result of short seller allegations.  Yet the short sellers, as L&Q have conclusively shown, are usually right.

Note: All quotations in this review are copyright 2014 by Alexander Ljungqvist and Wenlan Qian.  The public may purchase L&Q’s report online in .pdf format from ($5) for electronic delivery.  Journalists can obtain copies for free.

[1] Alexander Ljungqvist is the Ira Rennert Chair of Finance and Entrepreneurship at NY University Stern School of Business.

[2] Wenlan Qian is an assistant professor in the department of finance at the National University of Singapore Business School.

Court Victory for Free Speech Will Protect Investors

On 8/16/12 the New York Supreme Court’s Honorable Justice Carol R. Edmead dismissed Silvercorp Metals’ (NYSE: SVM) defamation lawsuit brought against numerous parties including myself.  Justice Edmead found that my blog posts on Silvercorp were an expression of my opinion of the company and protected by my First Amendment right of free speech (the full text of her ruling can be found here).  I applaud this decision that protects my rights and assures investors will continue to hear alternate viewpoints from bloggers who might otherwise be afraid to express negative opinions due to the threat of legal retaliation.

Over the past two and a half years I have publicly shared signs and evidence of fraud or questionable practices of over a dozen U.S. listed Chinese companies.  I publicly accused seven companies of defrauding their investors.  All seven have either been delisted or halted by the various stock exchanges where they traded.  The SEC charged three of the companies and/or their management with fraud.  My complete track record of all my reports can be found (here).

Three companies: Deer Consumer Products (NASDAQ: DEER), Sino Clean Energy (NASDAQ: SCEI) and Silvercorp Metals (NYSE: SVM) were the focus of’s continued mission (announced 12/19/11) to expose fraud, corruption, and other crimes by managements who utilize threats, false arrests, violent force, kidnappings, corruption of foreign officials and abuse of the legal system to silence their critics and deprive them of their right of free speech and expression of their investment opinions.  In addition to Justice Edmead’s dismissal of Silvercorp’s defamation lawsuit, I am very pleased to see that NASDAQ halted trading in DEER on 8/13/12 and announced its intent to delist SCEI on 8/7/12.

My efforts are now focused on Silvercorp.  I plan to publish a new report later this week.

Game Over for China Natural Gas: SEC Charges Company with Fraud

SEC filed a complaint yesterday alleging fraud against China Natural Gas and its Chairman Qinan Ji, (formerly NASDAQ: CHNG).  This marks the 3rd complaint in the past 3 months filed by the SEC against Chinese frauds first exposed by Jon Carnes, the owner of A*L.  On February 22nd, the SEC charged Ming Zhao, Chairman of Puda Coal, with fraud (link here).  On April 23rd, the SEC charged SinoTech Energy and its Chairman with fraud (link here).  The SEC’s press release and complaint against CHNG can be found here.

Mr. Carnes was the first to publicly accuse CHNG of fraud in an anonymous report published February 12, 2010 in an online blog.  An archive of the original report is available here.  Mr. Carnes removed the reports from the blog after being threatened by an agent of CHNG Chairman Qinan Ji.

In the SEC’s press release accompanying the complaint, John M. McCoy III, Associate Director of SEC’s Los Angeles Regional Office, stated:

“Ji betrayed China Natural Gas investors by misusing company funds to benefit his family and repeatedly lying about it.  Ji’s misconduct caused China Natural Gas to file a series of false reports with the SEC and showed total disregard for his obligations as an officer and director of a company whose stock trades in the U.S.”

The SEC’s complaint focuses on two events:

1)   Qinan Ji loaned over $14 million to friends and relatives without disclosing it and later lying to cover it up.

2)   Qinan Ji acquired Lingbao Yuxi for $19.6 million without board approval or properly disclosing the transaction.

Importantly, the SEC noted that its investigation of CHNG is continuing.

A*L commends the SEC’s actions and hopes the agency will continue pursuing fraudulent Chinese companies despite the inherent difficulty the SEC (and investors) face collecting settlements from Chinese entities.

A*L Scores Again: SEC Charges SinoTech Energy with Fraud

On February 22, 2012 the SEC charged Puda Coal’s chairman with fraud (link here), confirming each of the allegations in a report (link here) published on A*L on April 8, 2011. On August 16, 2011, A*L blew the whistle exposing the massive fraud at Sinotech Energy (CTESY.PK) in a report titled “SinoTech Energy: Enhanced Oil Recovery or Capital Extraction” (link here).  Unlike other numerous RTO frauds, Sinotech was a $120 million IPO listed on NASDAQ underwritten by UBS and Lazard Capital Markets that raised in total $168 million from investors and was audited by E&Y.

Proving that A*L was right once again, on April 23, 2012, the SEC charged Qinzeng Liu, SinoTech’s chairman and controlling shareholder, with securities law violations after he admitted to:

“… secretly siphoning at least $40 million from a SinoTech bank account in the summer of 2011. He then stood silently by as SinoTech – attempting to counter negative Internet reports that the company was potentially fraudulent – falsely assured investors that the company had that money and more in the bank.”

The complaint asserts that in SEC filings, SinoTech management:

“… represented that the company had purchased 16 LHD units worth $94 million. In fact, the company only acquired 11 such units worth less than $17 million.”

The SEC’s valuation of SinoTech’s LHD units affirmed our contributor’s conversation with Radial Drilling Services, a competitor, who estimated “an LHD unit should cost between only $300-700k depending on ‘bells and whistles’ installed, be it shallow or deep well units.”

According to the SEC, in order to hide the $77 million difference in the equipment cost, SinoTech tried to get its equipment supplier to make false statements supporting the inflated purchase prices.

Furthermore, the SEC stated that SinoTech “continued to materially misrepresent the value of its equipment – and by extension the company – in numerous filings and press releases following its November 2010 IPO.”  The SEC’s press release and link to the full complaint can be found (here).

The SEC’s complaint validates our report’s conclusion that SinoTech used an import agent to inflate LHD unit cost while funneling shareholders’ cash out of the public company.  Where did the $77 million SinoTech overpaid for LHD units go?

SinoTech was the 7th fraud exposed by A*L and proves again the valuable service that short sellers provide to the market (as explained by “Alfred Little” here).

A*L continues to fight to defend the First Amendment free speech rights of its contributors who bravely exposed fraud and corruption committed by more than a dozen Chinese U.S. listed companies.

The continuing mission of A*L is to bring Chinese companies that have threatened our contributors’ lives, free speech and privacy to justice.  As such, A*L and its contributors continue to offer their full assistance to the SEC and other regulators.  A*L currently only publishes reports on Chinese companies that continue to attempt, through threats, kidnappings, physical violence or abuse of legal process, to silence their critics.

SEC Charges Puda Coal Chairman Ming Zhao with Defrauding Investors, PLUS Progress in A*L’s Campaign to Protect its Contributors

On 12/19/11 I announced that the new mission of (“A*L”) is to expose a small group of Chinese companies that have threatened our contributors’ lives, free speech and privacy.  As such, A*L will only publish reports on Chinese companies that continue to attempt, through threats, kidnappings, physical violence or legal process, to silence their critics.  All other reports were archived and removed from the site.  Today I would like to share our contributors’ recent progress against Deer Consumer Products, Inc. (NASDAQ: DEER) and Silvercorp Metals (NYSE: SVM) and highlight recent news on Puda Coal (Pink Sheets: PUDA).

In a 9/20/11 Globe & Mail article (here) SVM Chairman Rui Feng announced “Our lawyers are now working with DEER’s lawyers to launch a lawsuit together to subpoena these people behind the scenes.”  After SVM selectively responded to the allegations of the short sellers, it began filing lawsuits against anyone publicly critical of the company with at least a dozen real and imaginary defendants named to date in a half dozen complaints in three countries.

In an article focused on SVM published on 11/11/11 in the Economic Observer (here), Benjamin Wey was quoted vouching for SVM’s “innocence” in the end.  In a Chinese Southern Weekend article published on 12/15/11 (here), both Rui Feng and Benjamin Wey were quoted as the spokespersons for SVM and DEER, respectively.

Then on 12/20/11 (here) a contributor to A*L announced that the SEC refused a Freedom of Information Act request to hand over records on DEER indicating pending or prospective law enforcement proceedings by the SEC against DEER.  But it appeared short sellers suffered a serious setback later that same day, when SVM announced (here) it “has been advised that Chinese law enforcement agents have opened a criminal case to investigate and find the creators of false and fraudulent reports by anonymous parties such as IFRA, Alfred Little and others, attacking Silvercorp and its Chinese subsidiaries.”

The next day, DEER issued its own press release (here) that completely ignored the question of whether DEER was under investigation by the SEC and instead simply pointed out the continued efforts against short sellers disclosed by SVM the day before, providing a link to SVM’s press release announcing the Chinese criminal case.   Why did DEER not deny the SEC investigation, unless the investigation was real and DEER was simply dodging the question?

Shortly thereafter local police in the hometown of SVM’s Chinese subsidiary made the first arrests.   Rui Feng’s fight against the “short and distort” had achieved what seemed like a major victory.  With short sellers’ researchers in jail, how could anyone document and collect any more evidence challenging SVM?  The local police performed exactly as expected, yielding immediate and tangible results for SVM’s campaign to silence its critics.

News of the arrests spread, naturally firing up the bullish animal spirits and prompting Global Hunter Securities analyst Joe Giamichael to publish a research note on January 23rd citing the arrests of short sellers’ researchers in China (here) as first among several reasons to be bullish again on depressed Chinese reverse merger stocks.  Mr. Giamichael then specifically highlighting DEER as among five of “those best positioned to create value over the balance of 2012” and explaining that the timing and conditions were right for a short squeeze.

Unfortunately for DEER investors, Joe Giamichael’s bullish timing once again could not have been worse.  Just three days later on January 26th FBI agents raided Benjamin Wey’s NYGG Wall Street headquarters.  An FBI spokesman interviewed by the New York Times (here) confirmed that the agency “conducted a search in conjunction with an ongoing F.B.I. investigation.”

On January 31st, Joe Giamichael abruptly dropped coverage of DEER (here) to better “allocate resources elsewhere.”  Clients familiar with Mr. Giamichael’s research should question how DEER suddenly became a waste of resources.  Mr. Giamichael had a “buy” rating on DEER since 6/15/10 and only the week before considered DEER one of the “best positioned to create value over the balance of 2012.”

That same day, short sellers received further good news from New York Supreme Court Justice Carol Edmead when she announced her preliminary decision (here) to dismiss DEER’s defamation complaint against Alfred Little for lack of personal jurisdiction in New York.  The next day, DEER replaced its counsel (here) in the defamation suit, Robert Knuts, with John Bostany, a trademark lawyer who recently added fighting “short and distort” campaigns to the list of specialties on his website (

In another clear victory for anonymous publishers and researchers, on 2/23/12 NY Supreme Court Justice Carol Edmead in the matter of DEER vs. Alfred Little ordered (here) that defendant “Alfred Little” may proceed anonymously, in accordance with the terms of a confidentiality agreement, while the parties further explore the proper jurisdiction.  Justice Edmead issued her order after reviewing in camera confidential affidavits and supporting documents from Mr. Little and his associates documenting threats, intimidation and corruption by Chinese companies listed in the U.S. and Canada that she found to be “extensive, detailed and compelling.”

Then on 2/22/12 A*L’s contributors achieved their greatest victory to date when the SEC announced it charged Puda Coal (“PUDA” Pink Sheets) chairman Ming Zhao and former CEO Liping Zhu with conducting a scheme of stealing and selling Puda Coal’s key Chinese subsidiary.  The SEC complaint included all of the allegations in the report first published on A*L on April 8th (here) and noted that Zhao and Zhu commenced their scheme just weeks after PUDA announced to its shareholders that the Shanxi provincial government had awarded PUDA the lucrative monopoly rights to consolidate smaller coal companies in its region.

Robert Khuzami, Director of the SEC’s Enforcement Division stated in the press release (here) accompanying the civil complaint that “Zhao and Zhu duped investors with promises that their money would be invested in a Chinese coal company when in fact the company was an empty shell that had been looted by the defendants.”  I encourage everyone to read the SEC’s complaint filed (here) and compare it to the April 8th report (here) published on A*L and referenced on page 11, paragraph 27 of the SEC’s complaint.  I am very proud that the SEC’s complaint confirms our contributors’ report was 100% accurate about PUDA, a feat that no other short seller has matched to date.

Unlike PUDA, not every fraud can be as easily exposed by short sellers, delisted by the Exchange and charged by the SEC.  Smaller or better-concealed frauds take longer to expose.  But since fraud is a binary, black or white matter, public companies found guilty of any amount of fraud should be forced to make amends to their victims.  Whether or not the short sellers deserve medals for their efforts is something we can disagree on.  However, their effectiveness in the past two years at exposing fraud is in sharp contrast to the total portfolio destruction caused by the legions of “professional” research analysts and bankers who earned tens of millions in fees raising billions of dollars from investors but would not spend $500 to obtain the official ownership records that proved PUDA was an empty shell.

Based on the continued successful track record of A*L contributors I expect further progress in the days and weeks ahead as DEER’s defamation suit gets dismissed and the truth comes out about SVM.

Until then,

Simon Moore

Managing Editor

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DISCLAIMER: Some of the information on this site is wrong. Always do your own research.