How to Spot a Pernicious Short-Seller

Spotting a Pernicious Short Seller

I'm not here to pump any stock, but I have to find this story interesting.  I've been stalking a company for over a year called Medical Marijuana, Inc (MJNA).  The reason for my interest in them has been that they have publicly stated that they will not engage in the manufacture or sale of marijuana in violation of Federal law.  This is a hallmark of a responsible management - obeying the law and not testing the will of law enforcement.      

The CEO recently stated in a letter to shareholders,

"I feel it is important for me to make perfectly clear that although Medical Marijuana, Inc. is not in the business of directly selling or dispensing marijuana while it remains a federally controlled substance. However, we are poised and consider ourselves well-positioned for eventual cannabis legalization. We have a plan for that eventuality, and intend to leverage our relationships and expertise to help advance a truly legal cannabis industry when the day comes. Once legalization occurs or becomes better defined regarding states rights – we can quickly implement entry into this new market. Rescheduling – if not full de-scheduling – from the Controlled Substances Act would signal the clear demarcation point of our entry into the space.

Similarly, the Company also has plans for a repeal of Industrial Hemp Farming Prohibition. The numerous uses involving biomass-to-fuel, building and construction materials, textiles, bio-plastics and others – will all be part of the future of the company. Various Congressional bills are under consideration by our nation’s lawmakers. If for no other reason than to clean up toxic soils and provide an agricultural rotational crop – the Federal Prohibition of Industrial Hemp farming needs to end. The ancillary businesses, clean, renewable and sustainable – will create a huge number of new entrepreneurial enterprises and potentially a revitalization of our overall U.S. economy. It will be interesting to see the increase in overall national GDP numbers, should we allow hemp to be grown nationwide by our agricultural industry."

I feel it is important for me to make perfectly clear that although Medical Marijuana, Inc. is not in the business of directly selling or dispensing marijuana while it remains a federally controlled substance. However, we are poised and consider ourselves well-positioned for eventual cannabis legalization. We have a plan for that eventuality, and intend to leverage our relationships and expertise to help advance a truly legal cannabis industry when the day comes. Once legalization occurs or becomes better defined regarding states rights – we can quickly implement entry into this new market. Rescheduling – if not full de-scheduling – from the Controlled Substances Act would signal the clear demarcation point of our entry into the space.
Similarly, the Company also has plans for a repeal of Industrial Hemp Farming Prohibition. The numerous uses involving biomass-to-fuel, building and construction materials, textiles, bio-plastics and others – will all be part of the future of the company. Various Congressional bills are under consideration by our nation’s lawmakers. If for no other reason than to clean up toxic soils and provide an agricultural rotational crop – the Federal Prohibition of Industrial Hemp farming needs to end. The ancillary businesses, clean, renewable and sustainable – will create a huge number of new entrepreneurial enterprises and potentially a revitalization of our overall U.S. economy. It will be interesting to see the increase in overall national GDP numbers, should we allow hemp to be grown nationwide by our agricultural industry. - See more at: http://medicalmarijuanainc.com/letter-to-shareholders-by-ceo-stuart-titus-2014-annual-report/#sthash.CbzDGY25.dpuf

Now the second part of that I fond very interesting because the Composites industry is just getting started as the tools to engineer products with optimized composite structures have hit the scene as of 7 years ago and continue to mature (See Altair Engineering for more).  The potential uses for industrial hemp are enormous, and there are already hemp-fiber reinforced polymers manufactured today.

There was an article published entitled "Hemp Oil Hustlers" that purported itself as an expose of MJNA.  The company has come out swinging over this and has filed a libel suit over the article.  This might seem like banter, but 2 of the several parties involved have settled and one has given a public statement and supplied  a video with details about the misrepresented facts.  The fact that 2 parties have settled, and these details make it pretty clear that the argument by MJNA has teeth.

Further, they have secured approval from the government of Brazil to sell their products there.  The sales story for this company seems to be getting better and better.  So what does this have to do with spotting a pernicious short seller?

While the stock price for MJNA has risen over the last several days, the growth has been HIGHLY controlled by selling from a market maker, VNDM - Vandham Securities Corp of Woodcliff Lake, NJ.  These guys are special.  They ONLY appear on the ASK side of the Level 2.  Is it possible that they have purchased 100M shares of the company while it dropped to $0.06 over the last few months?  Perhaps, but with the news above, why wouldn't they be allowing the stock to rise more and why would they be pressuring the stock lower and lower as the price fails to move forward, only ever showing 20k, 25k, 50k, shares for sale, but with volumes of 50k, 100k, 150k, 350k shares NEVER make a dent in the selling from VNDM - the price never goes up.   However, when a 10M share dump barely makes a dimple in the price of the stock, clearly someone needed to buy shares and not kill the cow.  That's how short selling works; once the upward movement gets killed, the short seller sits back and buys panicked shares and closes his position and pockets a tidy profit at the expense of average traders and investors hoping to get a lift from good and proper news.

Short selling only happens on the ask (the rules are that one cannot short onto the bid side legally in order to crush a stock).  The rules are such that the short seller needs to account for where the shares were borrowed by the time the transaction closes (3 days).  If by the time the transaction settles that shares are not delivered (term used for this accounting) then there is a violation of SEC rules.  One would have to call it awkward if the short float for a stock were to exceed the number of shares available for sale.  Clearly someone wouldn't be borrowing shares when this gets discovered.

If one could simply short-sell a stock without limit, they would have the ability to crush the desire for investors to make an investment (especially long-term) in that company.  Who would do such a thing?  For starters, anyone with enough money to manipulate the price of a stock via short-selling so as to gain by buying to close those positions when support finally fails due to a lack of price movement.   Other motivations could include competitors looking to undermine their competition so that they could try to gain market share by getting their competition landed on the side lines at a critical time.  I've no idea if either of these are the reasoning behind the short selling, but my inquiry to VNDM about the fees to short a penny stock have gone unanswered.  If that changes I'll update this article to reflect that.

From the SEC's web site there is an article containing the following:

• Selling stock short and failing to deliver shares at the time of settlement with the purpose of driving down the security’s price. This manipulative activity, in general, would violate various securities laws, including Rule 10b-5 under the Exchange Act.

While not all short selling is manipulative, what I've seen here looks VERY suspicious.  It certainly has had the effect of keeping the price under TIGHT control.

FINRA is a group that is supposed to investigate issues like this, but apparently there would seem to be no one there who actually cares, and so this seemingly manipulative short selling goes on with impunity.

I won't recommend any stock for long term investment, but for myself, I'm still a believer in what this CEO seems to be trying to do.  His results are those of one who takes the job seriously, and that warrants a closer look and a proper bit of research.  Anyone else who would consider investing in any stock traded on the OTC markets should be sure to do his/her own due diligence, and know that stocks in this market sector are volatile and can present high risk to the money invested.  This is not something to be taken lightly.

One can only hope that market makers who short sell without having shares to deliver (naked shorting) will eventually get caught in their own cross-hairs.  The one thing that seems clear to me is that when you find a market maker who is only ever on the ask side of a stock and sells many times more shares than what is shown in the level 2, then you've probably found a pernicious short-seller.  Market makers get to have a "Level 3" where they can see the shares for sale and bids being hidden by other market makers.  This is information the public is NOT privy to, so they have a certain level of "inside information" and shorting like this is clearly trading on information not available to the average trader.

It's all part of the culture on Wall Street.  The home trader is playing blind, and the market makers get to see the whole playing field.