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Joe Campbell, a 32-year-old small business owner from Gilbert, Arizona, liked to trade the stock market in his spare time. But in November 2015, he got caught in a disastrous trade he will never forget.
The story of his devastating short position in KaloBios Pharmaceuticals spread like wildfire in the financial press after he described how his $37,000 account balance quickly turned to negative $106,000 on the heels of unexpected news on a crowdfunding website.
Key Takeaways
- Joe Campbell made headlines in November 2015 because of a disastrous trade he made.
- He held an unhedged short position in KaloBios Pharmaceuticals overnight after the company received an unexpected capital investment that caused the stock’s price to rise as much as 800%.
- His $37,000 account balance quickly turned to negative $106,000 on the heels of the unexpected news.
- Because of these losses, Campbell started a crowdfunding page that garnered mixed reviews and low returns but brought a lot of media attention to his situation.
- His experience points to the fact that short selling is a trading strategy that should only be considered by experienced traders.
How a Short Seller’s Account Went to Negative $106K
Campbell’s trade was highly risky in at least three ways:
- It was a short trade without any hedge. With short sales, potential losses are theoretically infinite, because a stock price can continue to rise. In the case of a long position, losses are limited because the price of a stock can only go to zero.
- His trade was in a very low-priced stock. Penny stocks and those priced very low often see high levels of volatility.
- He held the position overnight when there was less liquidity and limited access to the market, making traders even more vulnerable to events such as unexpected news releases.
KaloBios in Trouble
KaloBios, which developed antibody-based drugs to treat cancer, announced in a press release that it planned to wind down operations because of limited cash resources. The release also stated that it engaged Brenner Group, a restructuring firm, to assist with liquidating company assets.
The negative news attracted the attention of short-sellers eager to profit from a further decline in the value of the company’s stock.
The Short Trade
Campbell was among the short sellers hoping to profit from the company’s demise. On Nov. 18, he sold $33,000 in KaloBios stock in his ETrade Financial account at an average price of about $2 a share. He then went into a work meeting, planning to hold the position overnight. He stated on his GoFundMe page: “I was holding KBIO short overnight for what I thought was a nice $2 fade coming.”
After the close of trading, KaloBios issued a press release announcing that “an investor group comprised of Martin Shkreli and associates together have acquired more than 50% of the outstanding shares of KaloBios, and that the company is in discussions with Mr. Shkreli regarding possible direction for the company to continue in operation.”
Shkreli, a hedge fund manager and entrepreneur, was the founder and chief executive officer (CEO) of Turing Pharmaceuticals. He became infamous in 2015 after his company dramatically raised the price of a drug used to treat AIDS and cancer patients, and has since been sentenced to federal prison for securities fraud.
Although it is a risky venture, short selling does benefit the market because it adds liquidity, provides capital to smaller companies, and contributes to efficient price discovery.
KaloBios Stock Soars
The company’s stock soared by as much as 800% in extended-hours trading on the news of Shkreli’s investment. When Campbell got out of his meeting, he received a message from a concerned friend who knew that he was short KBIO.
At first, he worried that he may have lost his entire account of $37,000. He quickly learned that the situation was even worse: The stock price spiked to $16, and his account was now negative by over $100,000. After he called his online broker, his short position was covered at an average price of around $18.50, resulting in a negative balance of over $106,000.
The stock continued to rise and surged the following week, after Shkreli tweeted that he wouldn’t sell any more stock to those looking to short sell it, stating: “I spoke with my counsel and advisers and decided to stop lending my KBIO shares out until I better understand the advantages of doing so.”
Because Shkreli owned such a large proportion of the outstanding shares, his decision made it hard for the remaining short traders to exit their positions. The situation was reminiscent of the 2008 short squeeze in Volkswagen when Porsche increased its stake in the company. Volkswagen’s stock price rocketed higher and short-sellers struggled to cover their positions because of the lack of supply in the stock.
Crowdfunding Campaign
Reacting to the devastating loss, Campbell quickly launched a GoFundMe campaign asking for help with his massive margin call.
He was at least partially conscious of risk, stating that the $37,000 in his account was capital that he could afford to lose. He made it clear on his GoFundMe page, however, that he made the false assumption that there was a safeguard in place to prevent his account from going negative: “Never in my wildest dreams did I imagine that ETrade would NOT have some sort of stop or circuit breaker in place that would automatically cut a position if the account went to $0.”
He ended by saying: “My plan moving forward is to liquidate mine and wife’s 401(k)s and try to work out a payment plan with ETrade. What an expensive lesson that was. I hope my story helps someone else from the same.”
The page received a range of responses from sympathetic to harshly critical. However, he was able to raise over $5,300 through 151 donations before removing the campaign.
What Is Short Selling?
Short selling is a trading strategy whereby a trader bets that an asset’s price will decline. The trader borrows shares they believe will drop in value, sell them immediately to buyers who pay the full market price, and then buy more shares at a lower price. These shares are then returned to the brokerage firm, allowing the trader to keep the difference. It is a risky strategy as the potential for loss is unlimited as prices can climb to infinite levels.
How Risky Is Short Selling?
Short selling is a very risky trading strategy and isn’t meant for novice traders. In fact, even some experienced traders can risk losing a lot of money in the process. That’s because it involves speculation that the price of an asset will drop. Traders borrow shares and then sell them to buyers for full market value. Once the price drops, they purchase new shares, give them back to the broker, and pocket the difference. The potential for loss is unlimited because there is no limit to how high prices can go. Other risks include increases in brokerage fees, which can eat away at a trader’s profits.
What Happened to KaloBios Pharmaceuticals?
KaloBios Pharmaceuticals filed for Chapter 11 bankruptcy in December 2015. The move came after authorities arrested Martin Shkreli on charges of securities fraud. Shkreli provided funding to the company to help it afloat. The company reemerged from bankruptcy six months later and received a cash injection of $14 million from investors. In 2017, the company announced it changed its name to Humanigen and would focus on neglected and rare diseases.
The Bottom Line
Investing can be an exhilarating experience with the potential for great rewards. But with the possibility of big gains comes the potential for major losses, too. Holding a short position as a company fails can lead to problems if the business should declare bankruptcy and delist.
Traders should understand the risks of certain trading strategies like short selling. Short selling involves speculation and should only be used by experienced traders. Without the proper know-how, any gains you may realize from short selling could be upended if things shift in the wrong direction and put your account balance in the red.
