NEW YORK: US market regulators issued an emergency ban on the short-selling of financial stocks yesterday, igniting big rallies in the sector that has been targeted by sellers as the credit crisis gathered pace.
The US ban came a day after the UK Financial Services Authority imposed its own temporary four-month ban on short-selling of financial stocks. National market watchdogs in France, Portugal and Ireland took similar steps.
The US Securities and Exchange Commission (SEC) ban came after SEC Chairman Christopher Cox was widely criticized for not acting to control the practice that had led to sharp declines in US and European financial stocks since the onset of the credit crunch.
French regulator AMF said it was also talking to other euro zone regulators about market dealings, leading to expectations that the ban would snowball. “Part of this is politics, and part is a view that there was going to be a significant malaise that was going to drag on for a long time, (so) that the government had to do something dramatic,” said George Mazin, a partner at Dechert LLP who advises hedge funds.
The SEC order followed a formal commission meeting Thursday night and a separate extraordinary meeting that Cox and other senior officials attended in the Capitol building the same evening. Senior administration officials asked Congressional leaders for additional authority to soothe turbulent capital markets.
Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke are seeking legislation to give the US government the power to buy up illiquid assets that are plaguing financial companies. “The emergency order temporarily banning short selling of financial stocks will restore equilibrium to markets,” Cox said in a statement. “This action, which would not be necessary in a well-functioning market, is temporary in nature and part of the comprehensive set of steps being taken by the Federal Reserve, the Treasury, and the Congress.”
Short-selling involves an investor selling stock in anticipation the price will fall — in which case the investor can buy the stock back at a lower price. Such a strategy is usually coupled with borrowing the stock that’s being sold from an institutional investor such as a pension fund.
The US short-selling ban covers 799 financial stocks, including commercial banks, insurers and the two remaining big investment banks Goldman Sachs Group Inc. and Morgan Stanley.
The SEC’s emergency order also requires institutional money managers to report new short sales of certain publicly traded securities. Morgan Stanley shares soared 22 percent to $27.80 yesterday, while Goldman jumped 19 percent to $128.40. The S&P financial index shot up 8 percent. A widely followed exchange-traded fund that tracks the S&P 500 financial sector, the Financial Select Sector SPDR, rose 17 percent.
The UK Financial Services Authority imposed a four-month ban on short-selling of financial stocks on Thursday, driving financial stocks there up by as much as 40 percent. Ireland also announced a ban on short sales.
However short sellers and hedge funds were dismayed.
“The SEC seems to be lurching from order to order late at night. If short sellers begin publishing their positions, CEOs could look at that list, and if they don’t like it they could use shareholder money and bring frivolous lawsuits against short sellers,” Jim Chanos, a well-known short seller who runs hedge fund Kynikos Associates, told CNBC television.
National market watchdogs in France, Portugal, and Ireland took similar steps, but there was no coordinated announcement in spite of exchange mergers and new pan-European trading platforms making EU-wide share trading common.
Other countries tightened up rules against “naked” short-selling, which is when investors sell the stock without owning or borrowing it, and buying it back before the trade has settled.
In Switzerland the bourse and regulators reminded investors that naked short-selling was not allowed on the Zurich-based SWX exchange. Australia slapped a ban on naked short sales, effective on Monday.
On Wednesday, the SEC issued three rules aimed at cracking down on illegal naked shorting. Yesterday’s SEC emergency action could go even further. “The Commission will continue to consider measures to address short selling concerns in other publicly traded companies.”
The SEC order will end at 11:59 p.m. EDT on Oct. 2, and could be extended for 10 days. The SEC measure can only last a total of 30 calendar days. Certain bonafide market makers are exempt from the order. Under the emergency rule, restrictions have been eased to give companies more flexibility to repurchase their stock.
