Sunday, January 31, 2021

A *Short* Story: That Time A Stock Corner Caused The Rest of The Market To Collapse


"He who sells what isn't his'n, Must buy it back or go to prison."
-Daniel Drew
Wall Street speculator*

Before we get to the Northern Pacific corner of aught-one here's a note on the Volkswagen corner of 2008 with the hedgies behaving in a fashion remarkably similar to last week's wailing and crying: 

So how many hedgies did Porsche really kill?

It was a classic corner. My first thought was Northern Pacific 1901 where the stock went from under $100 to $1000 during the squeeze. Although the VW squeeze was only half the magnitude it had the same effect, the speculators sell everything else as they desperately try to locate stock to cover. First up, the headline story from FT Alphaville:
Difficult to say, of course, but we’d be sellers of the €30bn figure being banded about by newspapers as they struggle to explain how speculators borrowed shares in Volkswagen, not knowing they belonged to Porsche, sold them, and then seemingly had to buy them back (from Porsche) at five times the price, before giving them to Porsche. (We won’t address the pref side of the trade!)>>>MORE

Next, some truly pathetic whining from the hedge funds via the Telegraph:

How Porsche took the wind out of the hedge funds' sails

And from Global Financial Data the action that led to the Panic of 1901:

Complete Histories – Northern Pacific – The Most Famous Stock Corner in History 

The Northern Pacific Railway was a transcontinental railroad that operated across the northern tier of the western United States from Minnesota to the Pacific Coast. The goal was to connect the Great Lakes with the Puget Sound. Along with the Southern Pacific and the Union Pacific (originally the Central Pacific, but renamed during the Civil War), it was to be the northernmost of three transcontinental railroads. The Northern Pacific Railway was approved by Congress in 1864 and given nearly 40 million acres (160,000 km2) of land grants, which it used to raise money in Europe for construction. Construction began in 1870 and the main line opened all the way from the Great Lakes to the Pacific when former president Ulysses S. Grant drove in the final “golden spike” in western Montana on Sept. 8, 1883. The railroad had about 6800 miles of track. The cost of building the Northern Pacific was much greater than Jay Cooke and other investors anticipated, pushing the Northern Pacific into bankruptcy in 1873 during the Panic of 1873, which the railroad succeeded in escaping through austerity measures, though the company had to reorganize in 1879. The company fell into bankruptcy again during the Panic of 1893 because the Northern Pacific had incurred huge costs, but was earning insufficient revenues to cover its costs. The railroad reorganized in 1896.

One of the primary problems was that the railroad lacked a direct link to Chicago, the economic center of the midwest. Not only did Villard, of the Northern Pacific, lack a direct link to Chicago, but James J. Hill, who controlled the Great Northern, and Edward Harriman, who controlled the Union Pacific, also needed a direct link to Chicago. One railroad that did offer a direct link was the Chicago, Burlington and Quincy. Charles Perkins demanded $200 per share for his railroad, and although Harriman balked at the price, Hill was willing to pay it. The Chicago, Burlington and Quincy Railway was purchased with 48.5% going to both the Great Northern and the Northern Pacific. Not content with this, Harriman decided to buy out the Northern Pacific. Harriman initiated a raid on Northern Pacific stock and was able to obtain all but 40,000 shares, a portion of which were owned by J.P. Morgan. The problem was that many traders had gone short Northern Pacific stock because the raid had made the shares overvalued, and as Daniel Drew once put it: “He who sells what isn’t his’n, must buy it back or go to prison.” Harriman had essentially, though unintentionally cornered Northern Pacific stock and there were almost no shares left to buy back to cover the shorts. The stock price then exploded. The stock had been at 95 in April 1901, and hit $150 on May 6, 1901. The highest recorded price on the New York Stock Exchange was $1000. The shorts faced economic ruin, and neither Villard nor Harriman could “win” this raid, so the two decided to call a truce....


Although they mention the $1000 print there were off-exchange trades rumored as high as $2000 after desperate shorts sold everything else they owned to buy-back a few shares.

And it was that selling that caused the panic. U.S. Steel dropped almost in half 46 to 24, the Atchison, Topeka & Santa Fe, another railroad from 76 to 43 and on and on. The Milwaukee Road has some of the history online (from George Kennan's 1922 biography of Harriman) and the New York Times of that day was much more detail oriented and much less opinionated in the news section of the paper. I'll see what is in the link-vault and on the interweb as we await the open of the futures.

ZeroHedge has been pounding the table on silver for the last couple days and I almost wrote that Wednesday's little story of the Hunt Brothers versus the silver shorts was not intended to be a roadmap but, whatevs.

which also links to a snappy little paper hosted on Wharton's servers: "Large Investors, Price Manipulation, and Limits to Arbitrage: An Anatomy of Market Corners"