Short-Seller Andrew Left Charged With Fraud!

The activist short seller Andrew Left surrendered to authorities in Los Angeles on Monday to face federal criminal securities fraud charges, a spokesman for the U.S. Attorney’s Office there said.

Both the SEC and a federal grand jury in the Central District of California brought charges against Andrew Left a prominent activist short seller with multiple counts of securities fraud for a long-running market manipulation scheme reaping profits of at least $20 million.

As alleged in the indictment, Left commented on publicly traded companies, asserting that the market incorrectly valued a company’s stock and advocating that the current price was too high or too low. Left’s recommendations often included an explicit or implicit representation about Citron’s trading position—which the regulators claim created the false pretense that Left’s economic incentives aligned with his public recommendation—and a “target price,” which Left represented as his valuation of the company’s stock. Left is accused of working with hedge funds to short and distort stock prices.

Andrew Left became well known in 2021 as one of the hedge funds short GameStop stock.

Patrick's Books:
Statistics For The Trading Floor:  https://amzn.to/3eerLA0
Derivatives For The Trading Floor:  https://amzn.to/3cjsyPF
Corporate Finance:  https://amzn.to/3fn3rvC

Patreon Page: https://www.patreon.com/PatrickBoyleOnFinance
Buy Me a Coffee: https://buymeacoffee.com/patrickboyle

Visit our website: www.onfinance.org
Follow Patrick on Twitter Here: https://twitter.com/PatrickEBoyle
Patrick Boyle on YouTube

Useful Links:
Christopher Bloomstran Tweet https://x.com/ChrisBloomstran/status/1801325325390893492
Matt Levine Article: https://www.bloomberg.com/opinion/articles/2024-07-26/andrew-left-wasn-t-short-for-long?
John Hempton Substack: https://johnhempton.substack.com/p/some-thoughts-on-the-andrew-left
FT Marc Cohodes: https://www.ft.com/content/01b765c2-854e-11ea-b6e9-a94cffd1d9bf
PAPERS
Massa Zhang & Zhang Paper: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2124464
Short & Distort Paper:  https://scholarship.law.columbia.edu/faculty_scholarship/2782/
Complaints
SEC Complaint: https://www.sec.gov/newsroom/press-releases/2024-89
Department of Justice Indictment: https://www.justice.gov/opa/pr/activist-short-seller-charged-16m-stock-market-manipulation-scheme

Transcript

The SEC announced charges on Friday against the activist short seller Andrew Left and his firm, Citron Capital, for engaging in an alleged 20-million-dollar multi-year scheme to defraud his followers by publishing false and misleading statements. 

The SEC itself can’t file criminal charges but often works with the Justice Department and the US Attorney’s Office to bring criminal charges if needed and the Justice Department additionally announced a criminal case against Left, accusing him of seventeen counts of securities fraud, one count of engaging in a securities fraud scheme and one count of making false statements to federal investigators. If convicted, he could potentially face decades in prison.

According to a statement from the Department of Justice, “Left knowingly exploited his ability to move stock prices by targeting stocks popular with retail investors and posting recommendations on social media to manipulate the market and make fast, easy money.” – the best kind of money…

I know, I know, my last video was on how pump and dump schemes are now totally legal – but maybe I was wrong – we’ll have to wait and see… Luckily I included that disclaimer in my video…

Anyhow, these charges stem from an investigation into illegal trading practices – which was first reported by the Wall Street Journal in February 2022 who reported that the Justice Department had issued search warrants the prior year and seized hardware, trading records and private communications from prominent short sellers including Carson Block of Muddy Waters Research and Andrew Left of Citron Capital as part of a broad investigation into whether short-sellers used illegal trading tactics to drive down stock prices by sharing damaging research reports ahead of time. While short selling is legal, it can be illegal for short sellers to coordinate their trades with one another or to mislead the public about the independence of their research. 

Back in 2022 it was reported that subpoenas that had been issued asked about the sharing of information between activists betting against companies. Some of the allegations in the SEC complaint and indictment relate to long positions as well as short positions. So, this isn’t just about shorting stocks.

While the SEC said that they were investigating dozens of investment firms and researchers engaged in short selling, the federal prosecutors have so-far not announced charges against any other short sellers.

So, Short selling is a trading strategy that seeks to profit from a price decline in a security and involves borrowing shares of a company from an investor and selling them with the plan to buy them back later at a lower price, returning the shares to the lender. If the price declines the short seller makes the difference – less the cost of borrow.

This is a risky strategy as a trader’s maximum profit is capped because stock prices can’t go lower than zero, but losses can be massive if the stock price keeps rising, and over the years many short sellers have been wiped out in huge stock price rallies. I recommend that viewers avoid this strategy both due to the risk and because if we look at the long term returns of short selling funds they tend to lose about 10% per year.

Activist short sellers like Andrew Left are the most controversial short sellers as they often publish their research as part of their trading strategy. If they expose fraud or highlight a serious valuation error the market might move in their favor more quickly, but they do run the risk of being accused of wrongdoing in what is known as a short and distort scheme – the inverse of a pump and dump scheme. 

Let’s go through the accusations against Left, the evidence provided in the SEC complaint and the indictment and discuss some of Left’s run ins with securities regulators in the past.

A lot of investors and company managers hate short sellers, and they particularly hate activist short sellers as no one likes a party pooper, but… the fact that a financial reward exists for investigating illegal activity and corporate fraud keeps markets healthy. Most experienced investors agree that short sellers play a vital role in markets by exposing fraudulent activity. Research from short sellers famously exposed the fraud at Enron, Worldcom, Wirecard and the various EV manufacturers like Nikola and Lordstown. It is important that someone is out there searching for wrongdoing and keeping companies honest.

The people who get upset about short sellers like to say that they can put good companies out of business, but if a company is in good financial health, with cash in the bank and steady cashflows and the allegations are false, the company can’t really be shut down. A company doesn’t go bankrupt because its stock price falls, it goes bankrupt when it cant pay its bills, and during the bankruptcy the lenders take control of the company.

A 2014 paper by Massa, Zhang and Zhang shows that the existence of short selling in a market is good for investors as short sellers affect the behavior and incentives of corporate managers. In markets where short selling is possible, there are fewer aggressive accounting tactics being employed by corporate managers and that is beneficial to investors who are less likely to lose money to fraud. I’ll link to that paper in the description.

It is worth noting that another way short sellers have been able to make money from uncovering corporate fraud has been through the SEC whistleblower scheme.  Due to the SEC’s failure to detect Bernie Madoffs massive Ponzi scheme over its seventeen year life (despite being told about it multiple times), Congress included in the Dodd-Frank Act an SEC Whistleblower Program, which provides financial awards to whistleblowers who provide original information leading to successful enforcement actions. According to Institutional Investor, that program has paid nearly 300 million dollars to activist short sellers since its creation in 2010, meaning that a lot of fraud has been uncovered by these people – which otherwise could have gone undetected.

Andrew Left has been criticized for his use of social media and a year ago commented on his social media use and the investigation in a Bloomberg interview. 

[Andrew Left Speaking] “I don't know what the government is looking into. I assume years ago when the investigation started, six or seven years ago, I don't even know when it started.  But we're in a different environment than we have right now. You know, when you see 100 million people sign up to threads in a week, it shows you people want their opinions heard and not just their opinions on what restaurant or or what outfit they might wear, but on stocks.  So everyone is expressing their stock opinion right now.

So, the activists are just people who basically just do extra homework and express their opinion. I don't know what its exact investigation is about, but it has to do with short selling and activist short sellers”. 

 The SEC’s lawsuit against Left documents his social media posts, his published research reports along with emails and messages he sent between March 2018 and December 2020, and not all of it looks great.

Now, the allegations against Left are mostly that he took positions (from both the long and short side) put out reports saying that the stocks he had researched were either great or terrible (depending on his position), tweeted (or X’d about it), went on television to discuss his findings, with the aim of having as big an impact as possible so that the price would move and he could exit his position with a profit. 

So far, there is nothing obviously illegal about that.  You are allowed to short stocks, you are allowed to publish your research about them, and you are allowed to be a bit rude and outspoken if you wish. Left was always open about the fact that he had a position in the stocks he was talking about and didn’t hide this conflict of interests.  His openness about this is what got him into trouble in the Gamestop short squeeze back in 2021.

This approach can be legally problematic if the stock you are trying to impact is extremely illiquid, if the information you are publishing is false – and you know it is false (you are allowed to be wrong – but not to make stuff up). It can be illegal for short sellers to coordinate their trades with one another or to mislead the public about the independence of their research. It can also be illegal to lie about your track record to convince other investors that your opinions carry more weight than they reasonably should. So roughly speaking, you should be OK as long as you are being honest.  That is a bit of a feature of US securities laws – which are, mostly about disclosure.

The indictment claims that Left, publicly claimed that companies’ share prices were too high or low, often with a recommended target price and “an explicit or implicit representation about Citron’s trading position”. This, they say, “created the false pretense that his economic incentives aligned with his public recommendations”.

He is accused of instead preparing to quickly close out positions after publishing his comments, taking profits on price moves he had caused, rather than price moves that relate to his long-term accuracy.

The indictment also accuses Left of presenting himself as independent and concealing his links with a hedge fund by fabricating invoices and wiring payments through a third party.

The prosecutors claim that he lied to law enforcement by stating that his firm never exchanged compensation with a hedge fund, while they allege that Left received more than one million dollars from two separate hedge funds.

Each of the seventeen counts of securities fraud carries a maximum penalty of 20 years in prison, while the securities fraud scheme carries a maximum term of twenty-five years and the count of a false statement to a postal inspector carries a maximum term of five years.

After reading that I’m planning on being a lot more honest with my post man when he asks me if I’m having a good day. He can expect a detailed and honest reply going forward…

So, while Left appears to have mostly targeted big liquid stocks in his reports, he did also go after some smaller less liquid stocks – which could be more problematic but, it’s not obvious that he generally published information that was false – and that he knew it was false. A Wall Street Journal article in 2015 analyzed the prior thirteen years of his short selling reports and found that the stocks he recommended shorting fell by 42% on average over the next year, implying that while his reports were influential, they were influential because they were generally accurate. His reports were allegedly quite detailed and pointed out real issues.  This is quite different to the influencer pump and dump scheme that I covered in last week’s video. As I mentioned earlier – short selling funds don’t tend to have positive long term returns, and this is because the stock market generally rises.  According to HFRX they have lost a bit over 10% per year over the last ten years.  The fact that Left’s recommendations had a positive return at all implies that he was much better than average at this.

A big part of the complaint relates to holding periods and target prices, where Left is accused of announcing to the public that he had a position and was in it for a much longer term move than his trading activity shows.  An example from the SEC report is of a stock that he bought and promoted saying that he expected it to trade to $100 per share over the next two years adding that he would increase his position at current market levels.  He is alleged to have then sold some shares the next day at a profit and appears to have traded in and out of it at prices well short of his target price.  The complaint alleges that he later discussed “juicing the stock by tweeting about it” with a colleague.

The question is, whether it is illegal to say that you will hold for two years and then sell the next day, or to say that you think a stock will hit $100 dollars, but exit your position at $28 dollars. I guess we will find out.

The complaint says that “The Defendants’ statements to the market that they would take one action when they really intended to take another were materially false and misleading and deceptive.

The complaint does not mention that two years later the stock was at 28 dollars a share, up 40%, or that it peaked in December 2020 at 56 dollars, having more than doubled.  Investors who bought and held for exactly two years – as per his original recommendation would have made money – but he had moved on to other things by then.

I would point out that it is pretty much always a mistake to buy a stock on a recommendation like this, as if someone on TV tells you that you should make an investment, you likely wont be around to get an update should they change their mind at some point in the future.

Most of the SEC complaint is about how Left’s holding periods much were shorter term than he claimed in his announcements and that he exited positions well below his stated target prices.  This is not great, it’s definitely not honest, but the complaint seems to (possibly deliberately) avoid digging into the actual content of his reports and whether the substance of his research was accurate or not.  It would be much more of a problem if his research was inaccurate, and just released to move a stock price.  They don’t seem to be accusing him of that.

The complaint highlights in its description of the defendant that the Hong Kong Futures and Securities Commission barred Andrew Left from trading securities in Hong Kong for five years. It leaves out that this ban related to a report he had written on the Chinese property developer Evergrande saying that it was insolvent and had consistently presented fraudulent information to the investing public.

Evergrande of course collapsed in 2021 when they were unable to pay the interest on their debt.  It turned out that they had consistently presented fraudulent information to the public.  I think the Hong Kong Futures and Securities Commission came out of this worse than Andrew Left.

The complaint additionally highlights that Left was sanctioned by the NFA for making false statements to sell commodity futures contracts when he worked at Universal Commodity Corp. This is a lot worse.  From what I can find online this firm sounds like a boiler room operation where he worked for nine months while he was at university. All former employees of this firm (including Left) were sanctioned in 1998 – it appears that he had stopped working there in 1994. Left told the Wall Street journal that what he had seen at UCC inspired him to become a short seller and he started investigating and shorting stocks that were being promoted in online scams.  He started a website called Stock lemon dot com, which later became Citron research – seems he wanted to French things up a bit…

Left is (of course) well known as one of the short sellers who lost money in a 2021 battle with meme stock investors, eventually closing out his short position in GameStop with large losses and halting the publication of his short reports after he said that an “angry mob” of fanatical GameStop shareholders harassed him. That story was well doccumented in Nathaniel Poppers book Trolls of Wall Street. Left told the Wall Street Journal that he did make a profit this summer when he bet against GameStop again, but he said that he had learned from his experience in 2021 not to make large bets on cult stocks.

The SEC accuses Left of touting Citron Capital as a successful hedge fund with double and triple-digit returns by writing “investor letters” that he publicly posted.  They highlight that he never managed any outside capital, and that Citron Capital was a vehicle to trade his own money.  On the next page (for a bit of contrast) they say that Left presented Citron Research as publishing “independent research” and held himself out as a “private investor,” which is what they had just said he was on the prior page.

To me it adds more weight to his belief in his research - that he was betting his own money rather than customer money, as If he got things wrong he personally took the hit.

A lot of the accusations are about him boasting to colleagues that he could move the market with a single tweet.  That he could “destroy” or “kill” companies, because he had a “hot voice” – meaning that people listened to him.  He doesn’t come off well in any of these quotes – but there is not much in the complaint showing that he published false information.  Most of the criticism is that he didn’t hold his positions as long as he said that he would and that he exited positions before they hit his price targets. Meaning that his price targets were possibly exaggerated for dramatic effect.

The indictment alleges that Left used his advance knowledge and control over the timing of a market-moving event to build his positions using inexpensive, short-dated options contracts that expired from the same day that he published his commentary to within five days. Left also allegedly submitted limit orders, often prior to publication of his commentary, to close his positions as soon as the company’s shares reached a certain price and at prices vastly different from the target prices that Left recommended to the public.” If you are talking up a stock on TV while you have limit orders in place to sell it into a spike, that seems dishonest to me, I wouldn’t do it myself, but I’m not sure how illegal it is, as long as you are not spreading false information, which they don’t appear to be accusing him of. He could make the argument that cutting his size into price spikes was just “risk management,”  and while that doesn’t sound all that likely to me, it might be hard to prove what someone was thinking at the time they entered a trade.

He is accused of providing some hedge funds with advance notice of his reports so that they could make trades in advance of the report being released. The indictment says that Left was provided compensation by at least one hedge fund and that he misled investors by stating his reports were the results of his own independent research and were not shared with any other investors before publication.

The indictment doesn’t identify any hedge funds that he is accused of working with. But the SEC complaint accuses him of receiving compensation from Anson Funds, a Dallas-based hedge fund, in connection with critical reports on two stocks.

This part is the most damning section of the SEC complaint which alleges that in September 2018, Anson Advisors contacted Left about issuing a short recommendation on a Canadian marijuana stock called Namaste. In exchange, it is alleged that Anson Advisors agreed to pay Left a share of its fund’s profits from its short position.

Left allegedly agreed to the arrangement and responded “DONE…let me kill it.” Left bragged that “these retail holders are nervous. we will hit them.”

The complaint says that Left and a portfolio manager worked together to prepare short reports and tweets, which Citron Research published in September and October 2018. Left gave a price target of twenty five cents on the stock.  In a Bloomberg interview he said that he would keep shorting Namaste till it goes to zero. The complaint says that ten minutes later he asked the portfolio manager if they should cover their short position. The position was allegedly covered at prices ranging between $1.42 and $3, and my more mathematically inclined viewers will have already noted that zero does not fit anywhere within that price range.

The question here is whether Left really believed that Namaste was a terrible stock or if he just said it was in exchange for payment.

In October 2018 he is alleged to have messaged “Portfolio Manager One” and requested that Anson establish a short position in another cannabis stock - IGC and share the profits with him. The portfolio manager allegedly agreed to pay a share of its fund’s profits from trading around Citron Research’s bearish tweets on IGC. This doesn’t seem as bad to me – as this time it was at least his own idea to publish the report.

Left is then accused of taking steps to conceal that he was being compensated by Anson by asking Anson to send him his share of trading profits through a Third-Party Intermediary, to which Anson agreed.

The complaint says that the Third-Party Intermediary then submitted invoices to Anson Funds for research services that the Third-Party Intermediary never performed, and inaccurately stated that the amounts invoiced were for their own benefit, when in fact they were for the benefit of Left. Anson Funds allegedly paid the Third-Party Intermediary based on these false invoices, and Left invoiced the intermediary for consultation services and more than $1.1 million dollars was funneled to Left.

I don’t really know why he would have wanted to conceal these payments, maybe we’ll learn more as the trial approaches.

Another unnamed hedge fund is alleged to have entered into a compensation plan with Left and traded around reports and tweets issued by Citron capital, paying 2.6 million dollars for this service.

The complaint says that by making false and misleading statements to the market that Left and Citron Capital had not, and would not, receive money from hedge funds, when in fact they had and were receiving payments, Left concealed his own and Citron Capital’s financial motivations in issuing publications, and perpetuated the false and misleading impression that Citron Research was an independent research firm.

It is worth noting that the two cannabis stocks mentioned in this section of the complaint did collapse in value when the cannabis stock bubble burst - but neither Left nor the hedge fund he was working with appear to have held on to their positions long enough to make that long term return.  They exited their positions too quickly.  The SEC complaint does not point out any specific lies that were told about the stocks in question, the lies were about the independence of the research and the compensation arrangements in place – along with exaggerated price targets and holding periods.

The charge of making false statements to federal investigators relates to this part of the story too, where Left is accused of denying to a postal inspector that there had ever been compensation between him and a hedge fund.

There are a lot of allegations of making false or misleading statements in the complaint mostly relating to whether they were adding to or cutting positions, examples like telling CNBC that he was extremely short a stock when he had already covered 75% of his short position or telling readers that he had never been compensated by a third party to publish research when that is alleged to have been untrue.

Other examples that the SEC calls “Misleading Half-Truths” are telling readers that he was long General Electric stock, without disclosing that he had limit orders in place to sell and in fact did sell his GE stock within sixty-five minutes of publishing his report.

Matt Levine at Bloomberg who was a securities lawyer in a prior career wrote in his column on Friday that “In the government’s telling, Left lied about a lot of stuff — his independence, his credentials, how he got paid, and most crucially whether he was still long or short the stocks he was writing about”, but the government says less about the central things he said to the public: like whether the stocks were good or bad investments.” Levine argues that if Left believed those things based on real research, and was mostly correct, then he would have a pretty good argument that what he did wasn’t really fraud, even if he was dishonest about his own positions and cynical about his audience. If he was just making stuff up to manipulate stocks, on the other hand, there’s not much defense.

John Hempton – an Australian hedge fund manager wrote about the case on his Substack arguing that Andrew Left had a good track record, and that most of the time when he called something a fraud he was right about it being a fraud. Hempton argues that given how often he was right, it might be difficult to argue that he didn’t believe the words “fraud” and “smoking gun” when he said them.

Hempton points to Chronos – one of the stocks mentioned in the complaint and describes that section as self-defeating. He points out that the SEC seems concerned that Left called Chronos a fraud, but that the SEC later charged Chronos with fraud and Chronos settled. Hempton argues that it will be effectively impossible to argue that Left did not believe Chronos was a fraud when he suggested that it was. After all he was right.

He goes on to say “As for the price target - six years later - Chronos is trading almost precisely at Andrew Left’s price target.

A number of people have pointed out online that if the SEC are going to go after investors who publish outrageous price targets, there are more egregious examples than Andrew Left.  Cathie Wood has a price target of one thousand five hundred dollars on Zoom – the video conferencing app that competes with all of the other identical video conferencing apps. It is trading at sixty dollars per share right now.  That would be quite a gain.  She says that Tesla will rocket 1350% over the next five years.  I’ll put a link in the video description to a tweet from Christopher Bloomstran who breaks down how unlikely this prediction is to work out.  

Mark Cohodes – another well-known short seller wrote an article for the FT about four years ago called “Pump-and-dump stock trading needs new rules for the digital age” He argued that “whether you own shares or are betting against a company, it’s misleading to tell investors that you have a specific view on a company and then profit from a trade in the opposite direction.

He argued that in the age of social media it is too easy to whip up excitement or panic about a stock online and that regulators could impose a ten-day minimum holding period on investors or short sellers who take a large position in a stock and then disseminate market-moving information, whether by publishing a report, going on media outlets, speaking at conferences or posting on social media. He says that if both longs and shorts were required to hold a position they have advocated - for 10 days, the market is given an opportunity to evaluate the quality and credibility of their information. If the promoter is worried that the price might crash back to earth within 10 days, they shouldn’t be touting the stock to begin with.  If they want to trade in and out of a stock quickly, all they have to do is keep quiet about it.

James Spertus, a lawyer for Left, told Bloomberg that the government’s case is “defective” and his client had no duty to disclose his personal trading intentions. Spertus said that Left published “truthful information” which is needed for markets to be efficient. He went on to say “The DOJ and the SEC threaten the integrity of the securities markets and put the health of our financial system at risk by trying to silence a publisher of truthful information who also trades in the securities he writes about,” 

Thanks for tuning in to this week’s podcast which is entirely supported by viewers like you on Patreon. Have a great week, and talk to you in the next one, bye.