Mark Hynes - thoughts on corporate disclosure

Opinions on changing rules, changing best practices, and their effect on investor relations officers.

Tuesday, September 23, 2008

Short selling bans - the answer or scapegoat?

In normal times, the ability for an investor to sell a stock short is a legitimate tactic, and most often part of a hedging strategy. Short selling creates much needed liquidity.

However these are far from normal times, and the ban on short selling is to be welcomed. With the twin evils of alleged market abuse, as rumours sweep the market achieving the very result that short sellers want, and leverage of banking assets for short selling and other purposes, regulators have had very little option but to suspend this activity. Most seem to be opting for a 120 day period. Whether that is sufficient for confidence to be restored remains to be seen. And is short selling the true cause of the turmoil, or does it simply provides a wonderfully convenient political target?

2 other issues remain. First, the connection between the repeal of the US Glass Steagal Act - which separated deposit taking (and holding) banking from the securities business. It was passed (in 1933) in the aftermath of the last major crisis. If you Google Glass Steagal you get.."At the time, improper banking activity, or what was considered overzealous commercial bank involvement in stock market investment, was deemed the main culprit of the financial crash." Sound familiar?

When it was repealed (only) 8 years ago, it opened the potential for banks to do exactly what has caused the problems of today. And with these same banks being global institutions, the repeal can be seen to have had international repercussions.

Second what will the banning of short selling do to the stock lending industry? It is tempting to believe - as most commentators I have heard seem to - that stock lending is all about short selling. In fact this is far from true. Aside from the original purpose of stock lending (to help settlement where the investor had lost a certificate), stock lending fuels dividend washing, and many other legitimate processes.

So a global temporary short selling ban was an inevitable consequence; is it likely to be a long term panacea? Absolutely not.


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