(Updated with further detail on the fake SEC suit.)

NEW YORK ( TheStreet) -- A controversial short-seller who has made a career out of accusing Chinese companies of fraud was the victim of a hoax on Tuesday.

According to a document that rippled across the Internet, the Securities and Exchange Commission filed a civil suit against Carson Block, the short-seller who composes critical reports on Chinese companies under the name Muddy Waters, alleging stock manipulation.

The document, however, was a fake. SEC spokesman John Nester confirmed as much Tuesday morning. "We've issued no such release," he said. He declined to comment further.
Carson Block

Phony SEC press releases and other documents are nothing new, especially in the Internet age. The commission has in the past pursued enforcement actions against individuals who have created and released them.

A vibrant social-media network dedicated to Chinese stocks has developed over the last few years. The fake SEC complaint was posted and reposted by dozens of Twitter users. It also found its way to several market-focused blogs and Web sites.

The complaint was a fairly obvious fabrication. Marred by grammatical errors, it carried the litigation release number "21053." The true SEC document referred to by that number is the announcement of a permanent injunction against a Victor Ragucci in April 2010.

Block, who, by his own admission, takes short positions in the stocks he publicly accuses, has certainly made enemies. His scathing research reports have predated the implosions of Rino International and China MedieExpress. A third report, on Duoyuan Global ( DGW), came days before the New York Stock Exchange halted trading in the stock.

A fourth, which accused the Toronto-listed Sino-Forest of brazen fraud, has sparked concern among investors that accounting problems exist at Chinese companies beyond the small-cap names that entered the public markets through obscure avenues, such as reverse mergers. The Sino-Forest controversy, which has drawn in even world-class investors such as hedge-fund manager John Paulson, has has helped cause the China stock-fraud phenomenon to make the front pages of the world's major newspapers, along with the high-profile troubles of Longtop Financial ( LFT), an NYSE-listed stock that went public through an IPO. (Paulson has reportedly unloaded his position in Sino-Forest.)

Block got his start almost exactly a year ago, when he put out a report on Orient Paper ( ONP) that sparked a long-short battle that played out on these very Web pages.

Orient Paper has denied Block's allegations and has avoided the utter disasters that have afflicted his other targets; its stock recently traded at $3.19. (Block stands by his research on the paper company.)

The SEC hoax drew such immediate interest from followers of China stocks because it seemed as though U.S. securities regulators had turned their attentions away from the companies accused of fraud -- and toward their accusers.

Since last year, the SEC has been conducting an investigation into Chinese small-cap stocks, based in part on claims made by short-sellers, who place bets that make money when share prices decline.

The fake complaint against Block attempted to use familiar SEC legal lingo to paint a picture of short-seller fraud and stock manipulation -- one in which short-sellers concoct evidence of fraud against companies out of thin air and then sell those reports to hedge funds ahead of making the allegations public on the Internet.

Several Chinese companies have made similar charges against their short-seller critics, going so far as to threaten litigation, including a small-appliance maker called Deer Consumer Products ( DEER) and, just on Monday, the micro-motor manufacturer Harbin Electric ( HRBN). A long-promised leverage buyout of Harbin has attracted many doubters, including a short-seller whose tactics are similar to Block's, even after Monday's announcement that the company's board had signed a definitive agreement to sell Harbin to a group led by its founder.

Yet another embattled Chinese company, Sino Clean Energy ( SCEI), has not only filed suit against its short-seller critics, but promised to distribute a rather unique form of special dividend. If Sino Clean wins its litigation and obtains a judgment or settlement against its short-side adversaries, the company said in a recent press release, it intends to pay out that windfall to its shareholders.

Investigating Chinese Reverse Mergers

-- Written by Scott Eden in New York

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