BUS430 International Business Graded Project- Naked Short Selling

Graded Project Graded Project

NAKED SHORT SELLING

Overview

The declining values in Fannie Mae and Freddie Mac stocks in 2007–2008 were the result of risky mortgages and foreclosures. This led to a surplus of declining real property values in the United States and a significantly negative impact on equity prices and financial markets in the United States and around the world. It's likely that this topic will be studied for many years, as Alan Greenspan, former Federal Reserve Chairman, has referred to it as a once-in-a-century "financial tsunami." On the following page are graphic representations of the stock price per share for Fannie Mae (FNM) (Figure 1) and Freddie Mac (FRE) (Figure 2), the holders of approximately 50 percent of the mortgages in the United States.

Instructions

Read the boxed article, "Reinflating Real Property Values," by A. J. Cataldo and Anthony P. Curatola, from Strategic Finance, October 2008. Then respond to the questions that follow. Feel free to use Google, Wikipedia, or any other reliable Internet sources for your research. Be sure to verify your answers by checking multiple sources.

Project Questions

1. Fannie Mae and Freddie Mac are GSEs. Define GSE with a brief explanation. (10%)

2. To slow the decline of market values of Fannie Mae, Freddie Mac, and 17 other financial firms, the Securities and Exchange Commission (SEC) suspended naked shorting for a short period.

a. What is a long position in a stock? (5%)

b. What is a short position in a stock? (5%)

c. What is a naked short position in a stock? (Distinguish between a short and a naked short.) (10%)

d. Are retail investors or traders permitted to naked short a stock? (10%)

e. Who is permitted to naked short a stock (assuming there has been no suspension of this practice)? (5%)

3. a. Following the first SEC suspension of naked shorting (post–June 2008), did other nations follow this practice? (5%)

b. If not, explain why. If so, list a few. (5%)

4. When the temporary suspension of naked shorting was imposed by the SEC, stock prices increased, due to a "short squeeze." Explain the term "short squeeze." (10%)

5. The problems with Fannie Mae, Freddie Mac and other financial institutions were said to have been caused by the securitization of risky mortgages issued to uncredit- worthy borrowers along with credit default swaps to insure these risky mortgages. The credit default swaps weren't capitalized—there was nothing available to pay off on these credit default swaps, so when the borrower defaulted on the mortgage and the credit default swap was to be "cashed in," there was nothing available and these securitized mortgages became worthless.

a. Worldwide, what's the approximate value of credit default swaps in circulation during this period? (5%)

b. How did this amount compare to U.S. and worldwide gross domestic product (GDP) during this period? (5%)

6. a. In what currency is oil traded? (5%)

b. In what currency are credit default swaps traded? (5%)

7. a. Will the U.S. dollar remain the currency of choice? (5%)

b. Have any nations called for a switch from the U.S. dollar? (10%)