Wirecard: Journalists and short sellers didn't back down
The downfall of Wirecard is one of the most incredible financial stories of the last few weeks. The size of the fraud, how obvious and well-reported it was, how long it dragged on, and the extent that government, E&Y, and other institutions went to protect and cover for the company. As The Economist explains:
Wirecard’s stockmarket value on DAX (German exchange) in 2018 surged above €24bn ($28bn). Here, it seemed, was a European fintech champion: a digital-payments firm headed for global glory. Wirecard has admitted it has a €1.9bn hole in its accounts. Its founder and boss, Markus Braun, once lauded as a visionary, quit on June 19th and was arrested and bailed this week on suspicion of false accounting and market manipulation. The firm faces bankruptcy or a fire-sale.
So how long has thing been going on? A long time. Didn't someone notice? They did. They always do. The institutions fight for their darlings.
If you want the treasure trove of information that has been unearthed and letters that have been sent to the Board, it's all here. Again, from The Economist:
The pressure intensified in the past 18 months with a series of articles in the Financial Times, informed by short-sellers and whistle-blowers. Instead of taking these seriously, Germany’s markets regulator, BaFin, seemed keener to shore up confidence in Wirecard and attack the attackers. It temporarily banned shorting of the firm’s stock, a first, and opened a criminal case against journalists for suspected manipulation.
Big banks and investors, including Deutsche Bank and its DWS fund-management arm, backed Wirecard and kept the faith, in some cases doubling down, even as more and more red flags popped up. Many did scant due diligence, instead relying on puff pieces churned out by sell-side analysts right to the end: half a dozen still had buy recommendations on the stock when Mr Braun resigned. Wirecard’s auditor, EY, faces scrutiny, too. German media, for the most part, swallowed Wirecard’s line that it was the victim of a nefarious plot by Anglo-Saxon marauders.
Volkswagen, Deutsche Bank, now Wirecard?
Not looking great for German corporate culture. Where were the auditors? It's not a good look for EY, reports the FT:
The head of audit at a rival accounting firm to EY said: “It is beyond the realms of reality that EY wouldn’t have had [the bank balance confirmations] unless they did a very poor audit. Cash is easy to audit. If investors can’t trust the cash number, what can they trust?”
In a statement issued on Thursday, EY said that there were “clear indications that this was an elaborate and sophisticated fraud, involving multiple parties around the world in different institutions, with a deliberate aim of deception”. The company argued that “even the most robust audit procedures may not uncover this kind of fraud”.
Somebody made money off of this, right?
One of them was Fahmi Quadir, the Founder of Safkhet Capital Management. She wrote an excellent letter to the German government body in defense of short selling after they banned it in the case of Wirecard. In her words:
The vast majority of daily trading is driven by algorithms and technical signals, trading which includes buying and selling (or equivalently, short sales). In a 2017 JP Morgan report, it is estimated that only 10% of trading volume is driven by fundamental, discretionary traders.
As a trading strategy, short selling is widely acknowledged as beneficial and a necessary countervailing force to maintain market efficiency. In response to the EU Commission report on short selling, IMF staff wrote, “Short selling has many benefits which help improve market quality…. Augments liquidity, for every (short) seller there is a party on the other side of the transaction who is willing to pay the given price."
I find this compelling. There is so much upward pressure in markets these days, maybe even more so in private markets. There is no doubt quite a bit of fraud around. But it's risky. On all fronts. If you get the timing wrong, you can be right but not rich. This piece from Saber Capital Management explains why he puts shorting in the "too hard" pile.
I don’t like shorting because I think it’s a difficult task. The best short sellers often are 100% correct in their analysis, but if they are “early” (meaning the stock keeps climbing for months or even years before their thesis comes to fruition), they can lose all (or more) of their money that they allocated to that short trade. So it’s generally an uphill battle when you are betting against stocks.
For those who get it right and stay in with conviction, they deserve their rewards. Want to go deeper? You can find your tribe at Fraud Fest, the annual conference convened by Berkeley was virtual this year and held this week. Here was the conference agenda to give a sense of topics and speakers.
Without active fraud fighters, how are we suppose to have truth and trust in the integrity of our institutions?