How Silicon Valley Stock Market Tech Stocks REALLY

Work
 

HOW THE TECH STOCK MARKET REALLY

WORKS - IT IS ALL A FRAUD
by WILLIAM KAUFMAN
 

What is the stock market?

1) It’s not real economic activity—it’s a form of mass hysteria or mass psychosis.
2) Stock prices reflect a mass-hysteria impression of the worth of a piece of paper
you hold—a stock certificate. The worth of that piece of paper is sometimes
tethered to some economic reality of some corporation—at least partially—but
sometimes not. Often a stock price bears little relation to the economic health of a
company, as illustrated in the wildly gyrating stock price-to-earnings ratios
through the decades. Hence the stock price is often a matter of caprice, covert
manipulation, and/or unfathomable crowd psychology, not necessarily real
economic “health” or productivity.

If, say, you are fortunate enough to own a stock that has doubled or tripled in
price, this does not mean that you have accrued new wealth—that stock valuation
is meaningless as long as you still own the piece of paper (the stock certificate);
you realize that wealth only by selling the stock. And if you do cash out—sell the
piece of paper—to someone else, you are transferring to another person the hazard
of seeing that valuation drop or evaporate—an opportune fobbing off of risk to
someone else, a transfer of cash to you, but no real creation of wealth—just the
passing on of a piece of paper in exchange for currency. Eventually, down the
road, your gain will be someone else’s loss when the music stops playing and the
last holder of the piece of paper finds there is no chair for him to land on—the
stock market as Ponzi scheme.

If everyone or most people decide to sell their pieces of paper—to take their profits
—all at once, then the stock prices tumble, so the idea that everyone can cash out
and realize this imaginary wealth equally and universally is a mirage: if everyone
tried to access it at once, it would evaporate. Hence the common notion that rising
stock prices indicate a general increase in wealth or national prosperity is
delusional. A stock crash does not erase billions or trillions in “wealth” overnight,
as we are commonly told. There was never any “wealth” there to begin with, in the
sense that a stock price rationally or measurably reflects the worth of tangible
goods or services; that price is just a mass fever dream, a collective, chaotic,
bidding war about the worth of pieces of paper.

3) The stock market is a swindle.

Much of the movement of these equities markets originates in the decisions of
large funds or high-speed traders who have access to esoteric information,
advanced algorithms, or trading networks from which Joe Trader, playing the
market at home on his laptop, is excluded. Hence Joe Trader inevitably gets
screwed. The author Michael Lewis draws the veil from this complicated high-tech
rigging in a 2014 interview with CBS’s 60 Minutes:
Steve Kroft: What’s the headline here?
Michael Lewis: Stock market’s rigged. The United States stock market,
the most iconic market in global capitalism is rigged.
Steve Kroft: By whom?
Michael Lewis: By a combination of these stock exchanges, the big
Wall Street banks and high-frequency traders.
Steve Kroft: Who are the victims?
Michael Lewis: Everybody who has an investment in the stock market.
...
Steve Kroft: And this is all being done by computers?
Michael Lewis: All being done by computers. It’s too fast to be done by
humans. Humans have been completely removed from the
marketplace. “Fast” is the operative word. Machines with secret
programs are now trading stocks in tiny fractions of a second, way too
fast to be seen or recorded on a stock ticker or computer screen.
Faster than the market itself. High-frequency traders, big Wall Street
firms and stock exchanges have spent billions to gain an advantage of
a millisecond for themselves and their customers, just to get a peek at
stock market prices and orders a flash before everyone else, along with
the opportunity to act on it. . . . The insiders are able to move faster
than you. They’re able to see your order and play it against other
orders in ways that you don’t understand. They’re able to front run
your order.
Steve Kroft: What do you mean front run?
Michael Lewis: Means they’re able to identify your desire to, to buy
shares in Microsoft and buy ‘em in front of you and sell ‘em back to
you at a higher price. It all happens in infinitesimally small periods of
 time. There’s speed advantage that the faster traders have is
milliseconds, some of it is fractions of milliseconds. But it’s enough for
them to identify what you’re gonna do and do it before you do it at
your expense.
4) The MSM commentators on the markets are all industry touts.
Their unvarying counsel, under all circumstances, is this: Get into the market.Get
in if you’re not in already. Stay in if you’re already in. A plunge is a buying
opportunity. A surge is a buying opportunity. A buying opportunity is that which
puts a commission in their pockets. A mass exit from the stock market is the end
of their livelihood. I don’t know the Latin term for the logical fallacy at work here,
but I think the English translation is something like this: bullshit being slung by
greedy con artists. These are people with no more conscience or expertise than the
barking guy with the Australian accent on the three a.m. informercial raving about
a miracle degreaser or stain remover.

5) This market, more than most, is a big fat bubble, ready to pop.
This bubble is a cloistered biosphere of Teslas and beach houses, of con artists,
kleptocrats, and financial sorcerers. It is rigorously insulated from the dolorous
real economy inhabited by the 99 percent: declining living standards; stagnant
real hourly wages; lousy service-industry jobs; debilitating consumer and student
debt peonage; soaring medical insurance premiums and deductibles that render
many people’s swiss-cheese policies unusable; crumbling cities and infrastructure;
climate disasters of biblical proportions; and toxic food, water, and air. This stock-
market bubble has been artificially inflated by historically low interest rates (so
the suckers have to go into the market to get a return on their money) and Fed
“quantitative easing,” a technocratic euphemism for a novel form of welfare for
the one percent that has left untold trillions of “liquidity” sloshing around among
the financial elites with which to play Monopoly with one another and pad their
net worth by buying back shares of their own companies to inflate stock prices.
Moreover, this bubble is even more perilous and tenuous than previous ones
because the “air” inside is being pumped by unprecedented levels of consumer and
institutional debt that will cause a deafening “pop” when some of the key players
start to lose their shirts, and suddenly all the Peters start calling in the debts of all
the Pauls who can’t pay.

6) The end game is near. We can console ourselves that these latest innovations in
financial prestidigitation and fraud are stretched about as far as they can go. The
financial elites are out of three-card monte scams to suck the wealth out of the
economy. The heroic productivist heyday of capitalism, celebrated by Marx
 himself, is over in this country—no more driven visionary builders of railroads,
factories, skyscrapers, and highways to a better tomorrow: just endless financial
skullduggery and hoarding at the top, and for the rest of us the cold comforts of
cell phones, smart televisions, and the endless streams of plastic consumer junk
circulating through Amazon and Walmart. What Baudrillard called “the mirror of
production” is a prison for the planet earth and every species on it. All that is left
for the bipartisan predator class of the United States is scavenging: massive tax
breaks for the rich today and tomorrow, perhaps, no more Medicare, no more
Social Security, no more public schools—if they have their way, and they probably
will. Pop goes the stock market, the illusion of prosperity, the whole unsustainable
carbon-poison “economy,” and pop goes the planet and the human race. But look
at it this way: it’s a buying opportunity.

William Kaufman is a writer and editor who lives in New York City. He can be
reached at [email protected]

Silicon Valley Securities fraud, also known as stock fraud and investment fraud, is a

deceptive practice in the stock or commodities markets that induces investors to make
purchase or sale decisions on the basis of false information, frequently resulting in losses, in
violation of securities laws.[1][failed verification][2][3]

Securities fraud can also include outright theft from investors

(embezzlement by stockbrokers), stock manipulation, misstatements on a public company's
financial reports, and lying to corporate auditors. The term encompasses a wide range of
other actions, including insider trading, front running and other illegal acts on the trading floor
of a stock or commodity exchange.[4][5][6]
• External links
Types of Silicon Valley securities fraud

Corporate fraud

Corporate misconduct
Fraud by high level corporate officials became a subject of wide national attention during the
early 2000s, as exemplified by corporate officer misconduct at Enron. It became a problem of
such scope that the Bush Administration announced what it described as an "aggressive
agenda" against corporate fraud.[7] Less widely publicized manifestations continue, such as
the securities fraud conviction of Charles E. Johnson Jr., founder of PurchasePro in May
2008.[8] Then-FBI Director Robert Mueller predicted in April 2008 that corporate fraud cases
will increase because of the subprime mortgage crisis.[9]
 Dummy corporations
Dummy corporations may be created by fraudsters to create the illusion of being an existing
corporation with a similar name. Fraudsters then sell securities in the dummy corporation by
misleading the investor into thinking that they are buying shares in the real corporation.

Internet fraud
According to enforcement officials of the Securities and Exchange Commission, criminals
engage in pump-and-dump schemes, in which false and/or fraudulent information is
disseminated in chat rooms, forums, internet boards and via email (spamming), with the
purpose of causing a dramatic price increase in thinly traded stocks or stocks of shell
companies (the "pump"). In other instances, fraudsters disseminate materially false
information about a company in hopes of urging investors to sell their shares so that the stock
price plummets. [10]

When the price reaches a certain level, criminals immediately sell off their holdings of those
stocks (the "dump"), realizing substantial profits before the stock price falls back to its usual
low level. Any buyers of the stock who are unaware of the fraud become victims once the
price falls.[11]

The SEC says that Internet fraud resides in several forms:

• Online investment newsletters that offer seemingly unbiased information free of charge about
featured companies or recommending "stock picks of the month". These newsletter writers
then sell shares, previously acquired at lower prices, when hype-generated buying drives the
stock price up. This practice is known as scalping. Conflict of interest disclosures incorporated
into a newsletter article may not be sufficient. Accused of scalping, Thom Calandra, formerly
of MarketWatch, was the subject of an SEC enforcement action in 2004.[12][13]
•
• Bulletin boards that often contain fraudulent messages by hucksters. [14]
• E-Mail spams from perpetrators of fraud.[15]
• Phishing
Insider trading

Main article: Insider trading

There are two types of "insider trading". The first is the trading of a corporation's stock or
other security by corporate insiders such as officers, key employees, directors, or holders of
more than ten percent of the firm's shares. This is generally legal, but there are certain
reporting requirements.[16]

The other type of insider trading is the purchase or sale of a security based on material non-
public information. This type of trading is illegal in most instances. In illegal insider trading, an
insider or a related party trades based on material non-public information obtained during the
performance of the insider's duties at the corporation, or otherwise misappropriated. [17]
Microcap fraud
Main article: Microcap stock fraud
In microcap fraud, stocks of small companies of under $250 million market capitalization are
deceptively promoted, then sold to an unwary public. This type of fraud has been estimated to
cost investors $1–3 billion annually.[18] Microcap fraud includes pump and dump schemes
involving boiler rooms and scams on the Internet. Many, but not all, microcap stocks involved
in frauds are penny stocks, which trade for less than $5 a share.
Many penny stocks, particularly those that sell for fractions of a cent, are thinly traded. They
can become the target of stock promoters and manipulators.[19] These manipulators first
purchase large quantities of stock, then artificially inflate the share price through false and
misleading positive statements. This is referred to as a pump and dump scheme. The pump
and dump is a form of microcap stock fraud. In more sophisticated versions of the fraud,
individuals or organizations buy millions of shares, then use newsletter websites, chat rooms,
stock message boards, press releases, or e-mail blasts to drive up interest in the stock. Very
often, the perpetrator will claim to have "inside" information about impending news to
persuade the unwitting investor to quickly buy the shares. When buying pressure pushes the
share price up, the rise in price entices more people to believe the hype and to buy shares as
well. Eventually the manipulators doing the "pumping" end up "dumping" when they sell their
holdings.[20] The expanding use of the Internet and personal communication devices has
made penny stock scams easier to perpetrate.[21] But it has also drawn high-profile public
personalities into the sphere of regulatory oversight. Though not a scam per se, one notable
example is rapper 50 Cent's use of Twitter to cause the price of a penny stock (HNHI) to
increase dramatically. 50 Cent had previously invested in 30 million shares of the company,
and as a result made $8.7 million in profit.[22] Another example of an activity that skirts the
borderline between legitimate promotion and hype is the case of LEXG. Described (but
perhaps overstated) as "the biggest stock promotion of all time", Lithium Exploration Group's
market capitalization soared to over $350 million, after an extensive direct mail campaign. The
promotion drew upon the legitimate growth in production and use of lithium, while touting
Lithium Exploration Groups position within that sector. According to the company's December
31, 2010, form 10-Q (filed within months of the direct mail promotion), LEXG was a lithium
company without assets. Its revenues and assets at that time were zero. [23][24] Subsequently,
the company did acquire lithium production/exploration properties, and addressed concerns
raised in the press.[25][26]

Penny stock companies often have low liquidity. Investors may encounter difficulty selling their
positions after the buying pressure has abated, and the manipulators have fled.

Accountant fraud
Further information: Accounting scandals
In 2002, a wave of separate but often related accounting scandals became known to the
public in the U.S. All of the leading public accounting firms—Arthur Andersen, Deloitte &
Touche, Ernst & Young, KPMG, PricewaterhouseCoopers— and others have admitted to or
have been charged with negligence to identify and prevent the publication of falsified financial
reports by their corporate clients which had the effect of giving a misleading impression of
their client companies' financial status. In several cases, the monetary amounts of the fraud
involved are in the billions of USD.[27]

Boiler rooms
Main article: Boiler room
Boiler rooms or boiler houses are stock brokerages that put undue pressure on clients to trade
using telesales, usually in pursuit of microcap fraud schemes. Some boiler rooms offer clients
transactions fraudulently, such as those with an undisclosed profitable relationship to the
brokerage. Some 'boiler rooms' are not licensed but may be 'tied agents' of a brokerage house
which itself is licensed or not. Securities sold in boiler rooms include commodities and private
placements as well as microcap stocks, non-existent, or distressed stock and stock supplied
by an intermediary at an undisclosed markup.

Mutual Fund fraud

Main article: 2003 Mutual-fund scandal
A number of major brokerages and mutual fund firms were accused of various deceptive acts
that disadvantaged customers. Among them were late trading and market timing. Various SEC
rules were enacted to curtail this practice.[28] Bank of America Capital Management was
accused by the SEC of having undisclosed arrangements with customers to allow short term
trading.[29]

Short selling abuses

Main articles: Pump and dump and Short and distort
Abusive short selling, including certain types of naked short selling, are also considered
securities fraud because they can drive down stock prices. In abusive naked short selling,
stock is sold without being borrowed and without any intent to borrow. [30] The practice of
spreading false information about stocks, to drive down their prices, is called "short and
distort". During the takeover of Bear Stearns by J.P. Morgan Chase in March 2008, reports
swirled that shorts were spreading rumors to drive down Bear Stearns' share price. Sen.
Christopher Dodd, D-Conn., said this was more than rumors and said, "This is about
collusion."[31]

Ponzi schemes
Main article: Ponzi scheme
A Ponzi scheme is an investment fund where withdrawals are financed by subsequent
investors, rather than profit obtained through investment activities. The largest instance of
securities fraud committed by an individual ever is a Ponzi scheme operated by
former NASDAQ chairman Bernard Madoff, which caused up to an estimated $64.8 billion in
losses depending on which method is used to calculate the losses prior to its collapse. [32][33]

Pervasiveness of securities fraud

The Securities Investor Protection Corporation (SIPC) reports that the Federal Trade
Commission, FBI, and state securities regulators estimate that investment fraud in the United
States ranges from $10–$40 billion annually. Of that number, SIPC estimates that $1–3 Billion
is directly attributable to microcap stock fraud.[18] Fraudulent schemes perpetrated in the
securities and commodities markets can ultimately have a devastating impact on the viability
and operation of these markets.[34]

Class action securities fraud lawsuits rose 43 percent between 2006 and 2007, according to
the Stanford Law School Securities Class Action Clearinghouse. During 2006 and 2007,
securities fraud class actions were driven by market wide events, such as the 2006
backdating scandal and the 2007 subprime crisis. Securities fraud lawsuits remained below
historical averages.[35]

Some manifestations of this white collar crime have become more frequent as

the Internet gives criminals greater access to prey. The trading volume in the United
States securities and commodities markets, having grown dramatically in the 1990s, has led
to an increase in fraud and misconduct by investors, executives, shareholders, and other
market participants.

Securities fraud is becoming more complex as the industry develops more

complicated investment vehicles. In addition, white collar criminals are expanding the scope of
their fraud and are looking outside the United States for new markets, new investors,
and banking secrecy havens to hide unjust enrichment.

A study conducted by the New York Stock Exchange in the mid-1990s reveals approximately
51.4 million individuals owned some type of traded stock, while 200 million individuals owned
securities indirectly. These same financial markets provide the opportunity for wealth to be
obtained and the opportunity for white collar criminals to take advantage of unwary investors.
[citation needed]

Recovery of assets from the proceeds of securities fraud is a resource intensive and

expensive undertaking because of the cleverness of fraudsters in concealment of assets
and money laundering, as well as the tendency of many criminals to be profligate spenders. A
victim of securities fraud is usually fortunate to recover any money from the defrauder.
Sometimes the losses caused by securities fraud are difficult to quantify. For example, insider
trading is believed to raise the cost of capital for securities issuers, thus decreasing overall
economic growth.[36]

Characteristics of victims and perpetrators

Any investor can become a victim, but persons aged fifty years or older are most often
victimized, whether as direct purchasers in securities or indirect purchasers
through pension funds. Not only do investors lose but so can creditors, taxing authorities, and
employees.

Potential perpetrators of securities fraud within a publicly traded firm include any dishonest
official within the company who has access to the payroll or financial reports that can be
manipulated to:
1. overstate assets
2. overstate revenues
3. understate costs
4. understate liabilities
5. understate pennystock

Enron Corporation[27] exemplifies all five tendencies, and its failure demonstrates the extreme
dangers of a culture of corruption within a publicly traded corporation. The rarity of such
spectacular failures of a corporation from securities fraud attests to the general reliability of
most executives and boards of large corporations. Most spectacular failures of publicly traded
companies result from such innocent causes as marketing blunders (Schlitz),[37] an obsolete
model of business (Penn Central, Woolworth's),[38] inadequate market share (Studebaker),
[39] non-criminal incompetence (Braniff).[40]
Other effects of securities fraud

Even if the effect of securities fraud is not enough to cause bankruptcy, a lesser level can
wipe out holders of common stock because of the leverage of value of shares upon the
difference between assets and liabilities. Such fraud has been known as watered stock,
analogous to the practice of force-feeding livestock great amounts of water to inflate their
weight before sale to dealers.

Penny stock regulation

The regulation and prosecution of securities fraud violations is undertaken on a broad front,
involving numerous government agencies and self-regulatory organizations. One method of
regulating and restricting a specific type of fraud perpetrated by pump and
dump manipulators, is to target the category of stocks most often associated with this
scheme. To that end, penny stocks have been the target of heightened enforcement efforts. In
the United States, regulators have defined a penny stock as a security that must meet a
number of specific standards. The criteria include price, market capitalization, and
minimum shareholder equity. Securities traded on a national stock exchange, regardless of
price, are exempt from regulatory designation as a penny stock, [41] since it is thought that
exchange traded securities are less vulnerable to manipulation.

[42] Therefore, CitiGroup (NYSE:C) and other NYSE listed securities which traded below $1.00

during the market downturn of 2008–2009, while properly regarded as "low priced" securities,
were not technically "penny stocks". Although penny stock trading in the United States is now
primarily controlled through rules and regulations enforced by the United States Securities and
Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA), the
genesis of this control is found in State securities law. The State of Georgia was the first state
to codify a comprehensive penny stock securities law.[43] Secretary of State Max Cleland,
whose office enforced State securities laws[44] was a principal proponent of the legislation.
Representative Chesley V. Morton, the only stockbroker in the Georgia General Assembly at
the time, was principal sponsor of the bill in the House of Representatives. Georgia's penny
stock law was subsequently challenged in court. However, the law was eventually upheld
in U.S. District Court,[45] and the statute became the template for laws enacted in other states.
 Shortly thereafter, both FINRA and the SEC enacted comprehensive revisions of their penny
stock regulations. These regulations proved effective in either closing or greatly
restricting broker/dealers, such as Blinder, Robinson & Company, which specialized in the
penny stocks sector. Meyer Blinder was jailed for securities fraud in 1992, after the collapse of
his firm.[46] However, sanctions under these specific regulations lack an effective means to
address pump and dump schemes perpetrated by unregistered groups and individuals.

Related subjects
• Accounting scandals
• Allen Stanford
• China Medical Technologies, U.S. Department of Justice criminally indicted CMED's CEO and
CFO for securities fraud and wire fraud conspiracy for stealing more than $400 million from
investors as part of a seven-year scheme.
• Corporate abuse
• Dot-com bubble
• Enron
• FBI
• Financial crisis of 2007–2010
• Illicit financial flows
• Insider trading
• Madoff investment scandal
• Bernie Madoff
• Martin Shkreli
• Microcap stock fraud
• Operation Broken Trust
• Penny stock
• Private Securities Litigation Reform Act
• Pyramid scheme
• Sarbanes-Oxley Act
• Securities Class Action
• Selling away
• Taylor, Bean & Whitaker, top-10 U.S. wholesale mortgage lending firm that ceased business
following multibillion-dollar fraud revelations
• Trading Places
• United States Securities and Exchange Commission
• White-collar crime
• Worldcom
References
1.  
• "Securities Fraud Awareness & Prevention Tips faq by FBI, accessed February 11, 2013
•  
• Nathaniel Popper (February 10, 2013). "Complex Investments Prove Risky as Savers Chase
Bigger Payoff". The New York Times. Retrieved February 11, 2013.
•  
• "2012 NASAA Top Investor Threats". North American Securities Administrators Association
(NASAA). 2011-08-31. Retrieved February 11, 2013. A con artist will use every trick in the
book to take advantage of unsuspecting investors, including exploiting well-intended laws, in
order to fatten their wallets
•  
• "Testimony: Testimony Concerning Insider Trading(Linda Chatman Thomsen, September 26,
2006)".
•  
• Norris, Floyd (April 14, 2005). "Trading Scandal May Strengthen Stock Exchange". New York
Times. Retrieved May 3, 2008.
•  
• San Francisco FBI web link, supra
•  
• "The President's Leadership in Combating Corporate Fraud". Georgewbush-
whitehouse.archives.gov. Retrieved 2012-02-18.
•  
• Kang, Cecilia (2008-05-16). "Ex-PurchasePro Chief Found Guilty of Fraud, Obstruction".
washingtonpost.com. Retrieved 2012-02-18.
•  
• ABCnews.go.com, Retrieved May 18, 2008
•  
• "Updated Investor Alert: Social Media and Investing -- Stock Rumors". Sec.gov.
Retrieved 2015-11-15.
•  
• "Internet Fraud: How to Avoid Internet Investment Scams". Sec.gov. Retrieved 2012-02-18.
•  
• "SECURITIES AND EXCHANGE COMMISSION, Plaintiff, I COMPLAINT VS. THOM
CALANDRA, Defendant" (PDF). sec.gov.
•  
• Vardi, Nathan. "Calandra Quits Amid Probe, Forbes, January 23, 2004, article". Forbes.com.
Retrieved 2013-11-21.
•  
• "Internet Fraud". Sec.gov. Retrieved 2013-11-21.
•  
• "N.Y. broker charged in e-mail spam stock scam". Usatoday.Com. 2011-02-02.
Retrieved 2013-11-21.
•  
• Larry Harris, Trading & Exchanges, Oxford Press, Oxford, 2003. Chapter 29 "Insider Trading"
p. 584
•  
• Laws that Govern the Securities Industry U.S. Securities and Exchange Commission,
accessed March 30, 2007
•  
• "Securities Investor Protection Corporation > Who > Not FDIC". SIPC. Retrieved 2013-11-21.
•  
• SEC (2005-01-11). "Pump&Dump.con". U.S. Securities and Exchange Commission.
Retrieved 2006-11-21.
•  
• FINRA (2012). "Spams and Scams". Financial Industry Regulatory Authority. Retrieved 2012-
07-29.
•  
• Harry Domash (2000-06-12). "Internet Makes Scams Easy". San Francisco Chronicle.
Retrieved 2006-06-15.
•  
• Zakarin, Jordan (11 January 2011). "Importing By Encouraging Fans To Invest". Huffington
Post. Retrieved 30 March 2012.
•  
• "Lithium Exploration Group: Beware of Mailmen Bearing Gifts". Seeking Alpha. 10 May 2011.
Retrieved 30 March 2012.

 
How Wall Street’s ‘fear
gauge’ is being rigged,
according to one
whistleblower
By Mark DeCambre and Francine McKenna
One of the most popular measures of volatility is being manipulated, charges one
individual who submitted a letter anonymously to the Securities and Exchange
Commission and the Commodity Futures Trading Commission.

The letter makes the claim to regulators that fake quotes for the S&P 500
index SPX, +0.26% are skewing levels of the Cboe Volatility Index VIX, -
2.50% which reflects bearish and bullish options bets 30-days in the future on the
S&P 500 to gauge implied stock-market volatility (see excerpt from the letter
below).
The flaw allows trading firms with sophisticated algorithms to move the VIX up or down by simply posting quotes on
S&P options and without needing to physically engage in any trading or deploying any capital. This market
manipulation has led to multiple billions in profits effectively taken away from institutional and retail investors and
cashed in by unethical electronic option market makers.

The whistleblower’s claims are consistent with those documented by John Griffin,
professor of finance at the University of Texas and Ph.D. candidate Amin Shams in
May 2017 in research that says the cost of manipulating less-liquid SPX options
would be more than paid for by a successful bet on the direction of the VIX. The
paper is consistent with the whistleblower’s conclusion—that manipulators are
moving prices of the SPX options by spoofing at settlement—entering quotes for
trades that are never executed—to “paint the tape” and, therefore, influence the
value of expiring VIX derivatives.
Opinion: How S&P 500 options may be used to manipulate VIX ‘fear gauge’
The VIX has underpinned a number of strategies described as so-called short-
volatility, which imploded dramatically last Monday when VIX, also known as Wall
Street’s fear gauge, registered its largest percentage change in its history,
cratering bets that volatility measures would fall, if not remain muted.

Short volatility products, notably, VelocityShares Daily Inverse VIX Short Term
ETNXIV, -0.75% tumbled 90% in after-hours trade Feb. 5 as the Dow Jones
Industrial Averaged DJIA, +0.16% plunged 1,175 points, or 4.6%, marking its
sharpest point drop in the blue-chip gauge’s 121-year history. Another product,
the exchange-traded fund ProShares Short VIX Short-Term Futures ETF SVXY, -
0.44% known by its ticker SVXY, also tanked last week.
Credit Suisse, the sponsor, of VelocityShares Daily, or XIV, said it planned to
liquidate the product on Feb. 21.
The spectacularly wrongway short bets had become one of the most popular
trades on Wall Street because volatility had gone eerily absent for a protracted
period, encouraging investors, who were lamenting the narrow trading ranges
present during that period of placidity, to make more aggressive wagers to
generate richer returns. Those moves also came amid ultralow rates for
government bonds, particularly the 10-year Treasury note TMUBMUSD10Y, -
1.11%
Jason Zuckerman, attorney at law firm, Zuckerman Law, who is representing the
anonymous whistleblower, told MarketWatch that his client is concerned about
unfair markets.

“My client is concerned about VIX manipulation that has already caused investors
to incur massive losses and is eager to prevent further harm from investors,”
Zuckerman said.

The whistleblower would also like the market regulates to play a more active role
in preventing further harm to investors including requiring more accurate and
comprehensive disclosures about the various risks that are associated with
products linked to VIX,” he said.

The letter urges “the SEC and CFTC to promptly investigate the matter before
investors suffer additional losses due to this fraud.”

Zuckerman’s whistleblower further charges that the average retail investor isn’t
aware of how exchange-traded products like XIV are rebalanced daily and that a
“mismatch” in the nature of short-volatility products means “a larger move in
spot-volatility in either direction requires excessive buying or selling pressure
whenever short volatility assets are dominant.”

Messages to the SEC and the CFTC weren’t immediately returned.

The whistleblower claim also comes amid heightened regulatory scrutiny around
short-VIX products, including former CFTC Commissioner Bart Chilton, who told
MarketWatch that warnings about products like XIV should be written in “big, bold
24-point font and in red letters.”
A CBOE press release said that Feb. 5-Feb. 9 was the busiest week in the
exchange’s history with a record weekly high of 48.29 million contracts traded.
However, shares of CBOE, which merged with merged with Bats Global Markets
last year, lost 20% last week when after the market mayhem cast doubt on
whether these products would remain viable choices for traders.
CBOE executives are confident its VIX product will continue to do well in all market
conditions. On its earnings call, John Deters, CBOE’s chief strategy officer, told
analysts, “It’s really an exceptional event when the level of VIX increases and
doubles in a matter of just a handful of days. That’s occurred, and now we’re at a
point where — and professionals know this — we’re at a point where the short VIX
strategy tends to work quite well.”

CBOE Chairman and CEO Edward Tilly refuted concerns about the impact of the
problems at some exchange-traded products and added that the exchange saw
record trading volume in VIX futures and options in 2017. “The activity we see
from issuers of XIV and SVXY is less than 5% of all VIX futures trading,
representing average daily volume of about 12,000 contracts,” Trilly said. Non-
institutional holders of these ETPs were approximately 21% of total holdings in the
last reported period, he said, with the remainder consisting of “sophisticated
institutional users who employ inverse VIX ETPs as part of a diverse mix of trading
and investing strategies.”