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Opinion

Elon Musk is wrong to praise Japanese giant's block on short-selling

Betting against companies is useful way of highlighting perceived problems

GPIF risks removing a vital check on complacent or wayward CEOs.

When the infamous Elon Musk of electric-car company Tesla praises your business strategy, you may be on the wrong side of an issue.

That means you, Japan's Government Pension Investment Fund.

Billionaire Musk has a particular knack for tweeting himself into trouble. His was slapped with a defamation suit for calling a British diver living in Thailand a "pedo guy," though a Los Angeles jury decided in Musk's favor late last week. Musk also got into hot water with the U.S. Securities and Exchange Commission for tweets about taking Tesla private.

Last week on Twitter, he found something he liked, heaping praise on GPIF, which had announced a suspension of lending stocks for short-selling purposes. It called the practice of borrowing shares to bet against companies unethical. "Bravo, right thing to do! Short selling should be illegal," Musk tweeted.

GPIF is the globe's biggest pension fund and the move affects more than $391 billion of shares the fund holds in its foreign equities portfolio.

Since Musk's company has been the constant target of short-sellers, given its failure to meet production targets, it is not surprising he had common cause with GPIF. But GPIF's move reflects its complacency, which is a problem for companies at home and abroad.

One can debate the merits of short-selling. Musk derides such traders as "value destroyers" and "jerks who want us to die." He has long complained that short-sellers do not understand Tesla's business strategy. Musk has claimed, too, that they are "constantly trying to make up false rumors" to turn a profit at the expense of shareholders.

Tesla Gigafactory 3 in Shanghai pictured during construction in October: Elon Musk's Tesla has been the constant target of short-sellers.   © VCG/Getty Images

Or is it that he cannot take the heat? Tesla is one of America's most targeted companies when it comes to short sales. Roughly 21% of its publicly-traded shares -- or $9.5 billion -- are on loan, according to S3 Partners.

GPIF's reasoning -- which I do not accept -- is that short-selling falls foul of environmental, social and governance concerns and it worries that lending out shares is counter to its stewardship responsibility over underlying investments.

Fine, but the practice can also be a healthy counterbalance to corporate hubris and spin, say, when a CEO who has not quite got the making-cars-on-schedule thing thinks it wise to dabble in missions to Mars, underground highways, linking human brains to computers or sending tiny submarines to rescue people trapped in a Thai cave. Yes, this is also Musk.

Imagine how CEOs like SoftBank's Masayoshi Son might operate if short-sellers were not a threat. Son, remember, claims to be investing in the singularity, or when the machines take over, with a 300-year time horizon, yet some of his portfolio companies are crashing to earth today. Short-sellers can play a vital role in keeping him focused in the current century.

Imagine, too, what Hong Kong's stock market might be like if not for research outfits like Muddy Waters. Whether you admire founder Carson Block's penchant for shorting companies like China Huishan Dairy Holdings and timber company Superb Summit International or not, such activists can flag troubles regulators do not see.

There are plenty of opportunities for smart short-selling now too. The Chinafication of Hong Kong is chipping away at the city's governance norms. President Xi Jinping's government, for example, has sought to obscure information on corporate ownership, making it hard to know who controls what, why and for whom.

Arguably, there has never been a better time to empower short-sellers to target companies muddying financial reality or misleading shareholders.

You can see GPIF's complacency, its desire not to have companies challenged, at home too. That may explain why, even before the ban, it did not lend its holdings of domestic shares -- just overseas ones. GPIF should be going the other way. Rather than suspending stock lending for short sales, why not expand them to domestic shares?

At the moment, its vast holdings of stocks at home -- 23.6% of its $1.47 trillion of assets as of July -- can do the opposite of what short-sellers do. It may reward mediocrity when Prime Minister Shinzo Abe wants to internationalize governance standards and buttress Japan's capitalist street cred.

Combine this with Japan's other financial behemoth, the Bank of Japan, which has been hoarding shares to juice the economy. Since 2013, it has cornered the market in exchange-traded funds, controlling $266 billion worth and counting.

These two giants, buying without question, reduce the urgency for Japanese CEOs to innovate and increase return on investment. Already, structural takeover defenses leave CEOs with little worry that suitors will suddenly make merger bids. Tokyo's effort to hold down the yen exchange rate is its own form of corporate welfare.

Now here comes GPIF to neuter investors looking to bet against complacent boards. Perhaps it is a coincidence, but just last month Muddy Waters turned its sights on Japan, a rather quiet market for short-sellers. Its target: biotech company PeptiDream. Muddy Waters doubts its business model, calling its shares massively overvalued.

Right or wrong, Japan Inc. could use more independent scrutiny and outside-the-box thinking. GPIF may believe it is promoting more ethical investing. Instead, it risks removing a vital check on complacent or wayward CEOs -- and Japan's good faith as a capitalist power. GPIF must be careful not to short Tokyo's global standing.

This article has been updated to reflect the ruling in Musk's California defamation case.

William Pesek is an award-winning Tokyo-based journalist and author of "Japanization: What the World Can Learn from Japan's Lost Decades."

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