Postscript to the Berliner case

Yesterday, I was working on what may by the grace of God eventually become my next book.

Some of yesterday's work involved the Paul Berliner case. This was a real-life instance of a short-and-distort scam, i.e. one in which a manipulator drives the price of a stock down by lying about corporate events, for his own quick profit. My point, in discussing Berliner, was simply that short-and-distor does happen, though much less often than is alleged.

My ancillary point was that when it does happen, it unravels rather quickly given normal market forces.

In a lawsuit and a settlement announced on Thursday, April 24, 2008, the SEC claimed that Mr Berliner lied to other traders and institutions through internet instant mesages on November 29, six weeks after the announcement of a definitive agreement betwen The Blackstone Group and ADS that the former would acquire the latter for a price of $81.75 a share.

It is of course routine that during the period after such a deal is made, but before it is closed, the target company's stock trades in a narrow range at a discount to the contract price. The discount reflects the level of skepticism in the market about whether the deal will proceed as planned -- there may be stockholder cold feet or unanticipated regulatory barriers.

In late November, accordingly, ADS's stock price was stuck in a narrow range near $77 a share, or at a stead 6% discount to the contract price. It was in this context that Berliner started sending his messages, claiming that ADS's board was in an emergency meeting "on a revised proposal from Blackstone to acquire the company at $70/share ... due to weakness in World Financial Network -- part of ADS' Credit Services Unit...."

The message seemed plausible, and within a matter of minutes ADS' price fell below the supposedly new contract price of $70. In fact, though, there was no board meeting underway.

Eventually, Berliner was fired, forced to disgiorge his gain of about $26,000, and pay a $130,000 penalty.

Small potatoes? Yes, but still ... one can make no excuses for Berliner.

What intrigues me are two facts. First, the efficient capital markets hypothesis looks pretty good in day-to-day terms, if nbot minute-by-minute. The market saw through the b.s., and rebounded with alacrity.

Even before ADS had had a chance to put out a statement of denial, the price had recovered most of its loss.

Another thing that fascinates me? The deal actually did fall through.