shortchanged

For a brief moment this afternoon, ExxonMobile had to relinquish its position as the most valuable company (by market capitalization) in the world. For a few minutes it was overtaken by – and I'm not gonna make you guess – Volkswagen. The German carmaker might be a powerhouse of engineering, but in the current economic climate it should be feeling the pinch in the form of consumers reluctant to part with their cash as much as anyone. What made its stock rise from just cents above 200 euros on Monday morning to more than 1000 euros 24 hours later in an explosion that made the dot.com bubble look like a bear market in comparison?

Just as in the IT craze of the 90s, economic fundamentals have nothing to do with it. No established company increases in value fivefold in a matter of hours. VW didn't introduce a new engine that runs on cold fusion nor did they sign a contract for the exclusive supply of Phaetons to Martians (though I bet they wish they had). The stock price has no relation to what VW is worth. But what made it climb so much?

According to reports, short sellers, those frequently maligned devils of doom, are to blame. Short sellers make their living by selling borrowed shares with the intention of repurchasing and returning them to their owner once the price of the stock has fallen. To put it simply, they bet on falling markets. These days, it ought to be like paradise for them.

VW was considered overvalued and ripe for a fall. A lot of hedge funds went short and waited for the crash. Then, over the weekend, Porsche announced it controlled 3/4 of VW's stock, practically removing these shares from the market. The German federal state where VW is headquartered controls another 20%, and they're not selling either. Only 5% of VW's stock are circulating. Funds that are short of VW and obliged to return the shares have to buy them, no matter the price. Apparently, more are short than are shares out there. And the prices go up and up.

No one will cry over hedge funds losing a few billion, and no one should care whether VW is valued at 100 euros or at 2000. At the latter price, no intelligent investor would buy. But some potentially serious problems are looming at the stock market's horizon, most related to automated mechanisms or herding behavior. For example, were VW to fall back to healthy levels, it would take the German stock index, to which it currently contributes 27%, down with it. Sheepish investors and poorly programmed algorithms would panic and might crash the whole market.

At the end of the day, who's to blame? I don't profess to really understand what's going on and wish I knew more, but one thing is for sure. If people learned to see the difference between price and value, many of the excesses, be it up or down, in stocks or in real estate would be alleviated. Crashes always follow bubbles, and bubbles develop because money can be won – in the short term – by turning your brain off and blindly following unsustainable trends. Life is better with a working brain, though, and completely independent of who the world's most expensive company is.