It's a neat and understandable theoretical argument you present, but I think it breaks-down in reality. For a shorting campaign to work effectively in a very liquid stock (eg: PLS) the underlying fundamentals MUST support the short campaign via actual weakening
business conditions. Without that there will always be the animal spirits of buyers prepared to hit the Ask to maintain SP support, thus retarding any short campaign.
It might be useful here to compare the effects of shorting in futures markets where naked shorting is allowed (because the contracts settle much later than T+2) and the market isn't constrained by the limits of SOI. (There's no limit to the number of positions (contracts) that can be opened out of thin air at any point in time. However, they must, by definition, all be matched 1:1 with a buyer and a seller.)
The comparison is only intended to be a quick one to highlight that, even without the constants of covered shorting or SOI limitations, shorters never have unfettered run-of-house to push the price down, without push-back from buyers, unless fundamental conditions of the underlying are deteriorating. When the fundamental conditions of the underlying are, in fact, deteriorating, the buyers will adjust their expectations of the future downwards with lower bids until a new equilibrium price is discovered, and so on, and so on.
For as long as rhe fundamentals remain weak (key point!) the shorts will be in charge... until business conditions improve and the power balance shifts to the bulls (buyers).
Now, returning to the equity (stock) market, we also see heightened shorting activity in stocks whose underlying fundamentals (business conditions) are at risk of deterioration. The animal spirits of shorters activates with increased shorting activity as the underlying fundamentals confirm their thesis and actually deteriorate. Meanwhile, buyers revise their future expectations (and bids) downwards. The clearing price per share drops. Financial physics at work.
Different markets (futures v. stocks), but similar dynamics because the underlying principles don't change.
What's interesting about the stock market is that we only ever hear of the 'problems' associated with short-selling during bear markets (i.e. when actual business conditions are deteriorating). It's rarely mentioned during bull markets when early (probing) shorters who have misread conditions are losing money.
tl;dr: There's no such thing as a perpetual motion machine. In a bear market, it's the deteriorating fundamentals that provides the crucial oxygen to the shorters.
I've seen this movie before and I think I'll leave it at that. I recognise there are some passionate views to the contrary, which only seem to be aired when punters (longs) are losing money during a bear market. That's understandable, but I think most of the angst against shorting during an equity bear market is misdirected.
Nice to see more green this morning.
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