Introduction - by Mark Mitchell
 

I began working on a version of this story in January 2006, while serving as an editor for the Columbia Journalism Review, a publication tasked with upholding the standards of the American media. In November 2006, a hedge fund that was at the center of the scandal I was investigating offered the Columbia Journalism Review a great deal of money. Shortly before CJR accepted the money, I left my job, so I do not know if my editors, whom I believe to be honest people, would have allowed me to persevere. But I have no doubt that the hedge fund’s “beneficence” was aimed at preventing the publication of stories like this one.

And it might well have succeeded if Patrick Byrne had not approached me with an idea. Why not combine forces and spearhead a whole new approach to investigative journalism? Most media content is produced by rumpled journalists (i.e., people like me), working alone under tight constraints. Deep Capture could be something different - a power team circumventing the traditional media and pushing limits to uncover the truth.

When I entered the picture, this team had already established that a small number of law-breaking hedge funds had put the American financial system at risk of collapse. Indeed, the hedge funds are employing the same tactics that contributed to the stock market crash of 1929 and the Great Depression that followed. If you want to understand the current turmoil in our financial markets, you could do no better than to read the material in Deep Capture: The Analysis.

The lengthy (40,000 word) story that follows should help you to understand how - and why — Patrick came to embark on this project. I am the author of the story, and attest to its accuracy, but it benefits substantially from the work of the Deep Capture team: freelance researchers, bloggers, gonzo computer hackers, economists, and even a one-time foreign intelligence agent.

Some mainstream journalists will not like this story. They will perhaps disapprove of our methods or decry the advent of vigilante journalism. But most of all, they will not like this story because it is largely about them - a tale of reporters who seek to be players, but instead become pawns - a tale of prominent journalists who help cover up a massive financial crime while toadying to some of Wall Street’s slimiest operators.

Hedge Funds, Naked Short Selling, Phantom Stocks and Stock Market Collapse

And it all starts when Patrick Byrne gets a phone call from the Easter Bunny. Really, that’s what the guy calls himself - the Easter Bunny - and he talks like the Bee Gees on fast forward, a nasally frantic falsetto, on and on about some kind of conspiracy involving big time Wall Street operators, the Mafia, and a bunch of famous journalists. Somebody’s got to stop these people, the Bunny says, or the American financial system is going to come crashing to its knees. Also, the bad guys might put a bullet between the Easter Bunny’s ears.

Now, Patrick Byrne is just a CEO in Utah — he sells toasters. He doesn’t see what this has to do with him, and the Easter Bunny seems pretty weird, so he says, uh-huh, uh-huh, okey-dokey, and thinks maybe he’ll hang up the phone and go for a pastrami sandwich.

But the Easter Bunny persists. He says it’s a conspiracy, the biggest financial heist in history…look, he says, don’t believe it, but he’s going to make some predictions–and Patrick can see for himself whether they come true…

* * * * * * * *

August 12, 2005…the proudest day of Patrick Byrne’s life. Some months have past since the Easter Bunny got in touch, and now Patrick is on a conference call with 500 blue chip investors and a few journalists. He tells his telephone audience that he’s been talking to this fellow named Bob (which is another Easter Bunny alias), and Bob seems like he lines his hat with tinfoil, he really does, but he’s laid out this scheme, he’s made some predictions…so everybody please download Patrick’s computer generated slide show and follow along from home.

The first slide reads, “The Miscreants’ Ball.” Patrick says the miscreants are selling billions of dollars of stock that simply does not exist - phantom stock. They have destroyed hundreds of public companies for profit. Some journalists, meanwhile, are “crooked.” They’re “lickspittles.” They are famous journalists and they cover up the miscreants’ crimes. They attack all who oppose them. One reporter has been terrorizing a little old lady in Vegas, purported to be the Easter Bunny’s mother. Another reporter, she’s French — she’s been telling people that Patrick is running some kind of criminal cabal out of a gay bathhouse in San Francisco.

And that’s not all, follow along please with the slides — they show how the miscreants and the journalists have ties to government agencies and private investigators, maybe the Mafia, and also an arms dealer, an undercover mole, a corrupt law firm, and Eliot Spitzer. There’s mention, too, of a “master criminal from the 1980s” — call him “the Sith Lord,” like in Star Wars - he might be orchestrating all this, and Patrick can’t just sit on his hands, he’s not cut out for it, it’s his black Irish temper, so he’s going to say to the Sith Lord, to the miscreants, to the journalists: “Did I stutter? Did I stutter, or did I say I was going to take this fight to you?

“Well, now you know what I mean.”

* * * * * * * *

Patrick is the CEO of Overstock.com and, truth be told, his company sells more than just toasters. It is a discount retail outlet that sells all sorts of stuff - one of the fastest growing companies on the Web and a company that seemed, at least for a while, like it might become a serious competitor to Amazon. But in the time since the “Miscreants’ Ball” presentation, Patrick has been better known for his fight against Wall Street - and for embracing something called the Market Reform Movement.

The Market Reform Movement is an uprising born of a new era - when you don’t have to be entirely normal to make a positive difference in the world. It is a loose coalition of eloquent ranters and the ingeniously unhinged - internet lurkers, lonely muckrakers, and apocalyptic visionaries. They battled in obscurity for years before Patrick lent a sympathetic ear to the Easter Bunny, who was among the movement’s chief agitators.

Note: Deep Capture has met the Easter Bunny (who also uses the alias Bob O’Brien) on several occasions. We think he’s brilliant, and consider him part of our team, but we maintain a pledge never to ask for his real name because he fears for his safety. Shortly after the Easter Bunny’s initial call to Patrick, a clique of journalists with close ties to the miscreants begin a two-year campaign to unmask him. Throughout, they suggest that the Easter Bunny is somehow suspicious - a criminal, maybe. Then, finally, in September 2005, The New York Post publishes the sinister, hot-off-the-presses news that the Easter Bunny is, in fact, a used medical equipment salesman named Phil.

Whatever. The Bunny and his fellow town criers have what is surely the world’s largest database of Wall Street malfeasance. Patrick examines their data with an open mind. He lends some structure to their efforts. He funds an expanded investigation. And gradually, he comes to see, clear as day - there is a crime. It is a financial heist of monstrous proportions, and Patrick believes it threatens the stability of the American financial system. He decides to fight the criminals.

And then, something amazing happens: the Market Reform Movement goes mainstream. Members of Congress, brave individuals inside the Securities and Exchange Commission, the U.S. Chamber of Commerce, famous trial lawyers, respected economists and recovering stock brokers all reach the same conclusion: hundreds of companies have been victimized by the very crimes that Patrick laid out in his “Miscreants’ Ball” presentation - the ones that the Easter Bunny and his band of blogging oddballs have been describing for years.

* * * * * * * *

The crimes are the work of Wall Street hedge fund managers and brokers who engage in a common trading strategy known as short-selling. A short sale is a way of making money when the price of a stock goes down. You borrow shares from someone else and immediately sell them off. If the price drops, you buy the shares back and return them to the original owner, pocketing the difference. If a company goes out of business, short-sellers hit the jackpot.

This is perfectly legal and unobjectionable. But some short-sellers do not play by the rules. A small group of powerful hedge fund managers stop at nothing to annihilate the companies they sell short. Their tactics include: blackmail, smear campaigns, espionage, fraud, harassment, extortion, bribery, rumor-mongering, sabotage, off-shore money laundering, political cronyism, frivolous lawsuits, witness tampering, biased financial research, false identities, bogus credit ratings, bribery, libelous blogs, bad science, forgery, wiretapping, counterfeiting, collusion, lying, cheating, threats and theft.

Their most egregious trick is to sell “phantom stock.” By exploiting a glitch in Wall Street’s computerized trading system, and a loophole in federal regulations, some hedge funds sell virtually unlimited amounts of stock that they have not yet borrowed or purchased. This is often referred to as “naked short selling.” Hedge funds use this tactic to flood the market with supply and drive down prices - which is blatantly illegal.

Patrick has written a blog explaining how this works in laymen’s terms. An economist has written a detailed history of “failures to deliver” (i.e. stock sold and not delivered, because it is phantom stock) for Regulation magazine, published by the Cato Institute. A former SEC Chairman has spoken extensively against the problem. Many other researchers, several professors, a former SEC economist, and a former deputy secretary of commerce have also written papers on the subject. If you are interested in the mechanics of the crime, read some of those papers here, here, here, here, here, and here.

But it is enough to know that by the time Patrick gives his “Miscreants’ Ball” presentation, the Securities and Exchange Commission has published a list of more than 300 companies whose stock has been sold but never delivered in excessive quantities. In other words, a significant fraction of the stock sold in more than 300 companies is phantom stock. If you think you own shares in one of these companies, the chances are that a broker has sold you air to satisfy a crooked hedge fund client. The computer might say that you own stock, but in reality, you do not.

In addition to the 300-plus companies on the SEC’s list, as many as 1,000 companies have already been wiped off the map by illegal short-selling, according to some experts.

Short-sellers’ collusive behavior and dubious tactics might have contributed to the demise in March, 2008, of Bear Stearns, America’s fifth-largest investment bank. The Chairman of the SEC recently told the U.S. Senate that the SEC is investigating precisely this possibility. The consensus among economists is that if the Federal Reserve had not intervened, the fall of Bear Stearns would have triggered the collapse of the American financial system. Similarly collusive “bear raids” contributed to the great crash of 1929.

SEC officials fail to prosecute the criminals even as they suggest that miscreant short-sellers have put the American financial system at morbid risk.

Clearly, this is a scandal of epic proportions.

Which raises the question: Where the hell is our media?

[Wednesday, September 17, 2008

SEC Issues New Rules Against Abusive Naked Short-selling

WASHINGTON -- U.S. securities regulators issued new rules Wednesday designed to protect investors against so-called "naked" short-selling, including requiring short sellers to deliver securities by the close of business on the settlement date and making clear that those lying about their ability or intention to deliver on time are breaking the law. "These several actions today make it crystal clear that the SEC has zero tolerance for abusive naked short selling," said Securities and Exchange Commission Chairman Christopher Cox. Cox was criticized by Senate Banking Committee Chairman Christopher Dodd on Tuesday for not doing more to prevent abusive naked short selling.-- Too late! The damage has been done! - aaheart]

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