For a long while, my CEI colleagues and I have touted the vital role that short sellers play in a free market economy. CEI Founder and Chairman Emeritus Fred Smith has written that short selling is essential for “the market’s ability to stabilize, to ensure that all information positive as well as negative reaches the market price.” I wrote in Reason that “most economists—both liberal and conservative—have seen shorts as a valuable counterweight to the market euphoria that creates bubbles.”
Short sellers have given early warnings about individual companies such as Enron that were later found to have committed fraud. They have also sounded the alarm bells about business bubbles that turned into systemic crises exacerbated by public policy, such as the mortgage mania that turned into the financial crisis of 2008.
So it’s worth listening to those short sellers’ warning that the environmental, social, and governance (ESG) mania today is causing both market participants and government regulators to overlook what they say are serious flaws in some “green” companies’ business and accounting practices.
The shorting campaign is being led by prominent short seller Carson Block, who heads the trading firm Muddy Waters Capital. Block’s shorting and exposing of accounting irregularities at Chinese companies trading on U.S. stock exchanges led to bipartisan congressional action and, in the case of Luckin Coffee, a $180 million penalty for fraud from the Securities and Exchange Commission (SEC).
In the last few weeks Block has announced short positions in the solar company Sunrun, one of the leading providers or residential solar energy systems, and Hannon Armstrong Sustainable Infrastructure Capital, which provides capital and services to the renewable energy industry. Block’s Muddy Waters has issued detailed reports on both Sunrun and Hannon outlining his reasons for shorting the firms.
In the Sunrun report, Block’s firm Muddy Waters gives a critique of the company’s business and accounting practices. The report states of Sunrun, “We see it as an uneconomic business built on three shaky pillars: The equity story of exaggerated ‘Subscriber Values’ and ‘Gross / Net Earning Assets,’ funding growth through abusing tax incentives, and issuing ABS that could be exposed to a RUN bankruptcy.”
Sunrun has issued a response to Block’s report in which it states, “For over 10 years, our investors, lenders and independent authorities have closely diligence [sic] our tax and valuation procedures, which Muddy Waters incorrectly describes.” Yet Block seems to have won over veteran short-seller Jim Chanos, who famously gave an early warning 20 years ago on Enron’s shenanigans. In a series of tweets, Chanos recommends Block’s report, rightly points to, among other things, “the overvaluation of the leased [solar] systems by appraisers”
Block told me in a recent conversation that many other companies in “green” sector also have “fantastical assumptions” that investors should be aware of. Yet the SEC—the government entity charged with investor protection—is focusing not on the accuracy of financial measures from ESG-themed companies, but forcing all companies to disclose inherently subjective measure of how “green” they supposedly are.
In her dissenting statement on the SEC’’s massive climate disclosure rule—in which the SEC puts itself in a position of weighing how “green” a public company’s business practices are—Commissioner Hester Peirce gave a stark warning. Peirce posited that in addition to the rule’s threats to energy sector robustness and capital formation that CEI scholars and many others have noted, the rule would also distract the SEC from its core mission of ensuring accurate information for investors about the financial conditions of public companies.
She argued that filling SEC reports with inherently subjective information about the “sustainability” of companies’ practices “undercuts the credibility of the rest of the information in these important filings.” She added, “We have other important work to do, and the climate initiative distracts us from it.”
Block’s short selling initiative boosts Peirce’s arguments by highlighting basic accounting issues at ESG-themed firms that the SEC’s climate rule and general “green” crusade may distracting it from pursuing.
Former CEI Research Associate Josh Rutzick contributed to this post.