Uptick Rule Debate Needs Some Clear Heads

First, let me state right up front that I am an unabashed supporter of short selling. I have shorted in the past and will do so again in the future. (I am restricted from shorting stock at my place of employment but am able to short ETFs.) Shorting is not only a legitimate practice, it is a necessary one. Accusing shorts of being unpatriotic is a ridiculous assertion propagated mainly by the pitchfork crowd and vested interests, in my opinion.

Having said that, the cacophony arising from some regarding the reinstatement of the uptick rule is approaching hysteria. You would think, given some of the comments regarding the re-imposition of the uptick rule, communist hoards had arrived at America’s shores, ready to destroy capitalism, baseball, mothers and apple pie as we know it.

Those saying that re-instating the uptick rule is somehow a war on the shorts fail to appreciate that exchanges have all sorts of rules designed to slow markets down, such as circuit breakers on the stock exchange and lock limits on commodity futures markets. Such limits are an implicit recognition that panic and mania are destabilizing to markets. Financial market destabilization can affect the economy in general. George Soros is correct in that perception can become reality, and frenzy in the financial markets can have vast consequences in the real economy. (Soros has also explained, correctly in my opinion, how easy it is wreck stocks through the derivatives market.)

Bubbles are enormously distorting events that misallocate resources in the economy. However, those making the argument that shorts should be given carte blanche seem not to understand that grossly undervalued assets are also highly distorting to the economy. Just as bubbles allocate capital towards ventures which are likely to be highly uneconomic, busts allocate capital away from opportunities that are likely to be highly economic. Both booms and busts misallocate resources within the economy, bubbles by creating an artificial demand that otherwise would not be there, and busts by creating a lack of demand that otherwise would be there.

Surely, those who are against short-selling restrictions are just as in favour of limiting the distortions in the economy caused by busts as they are of those caused by booms. And surely, if they argue that making it easier to short dampens bubbles, they also must recognize that making it harder to short dampens busts. So what is the big deal that we make it slightly harder to short stocks?

Frankly, I have no idea if the uptick rule will make it harder to sell stocks short. However, the shrillness of this debate has gone over the top, from both those advocating and defending short sellers. This is a time for rational discussion and emotions to be put aside.

Comments

[Alan Young:]

I heartily support your observation about the quality of the debate: we need reasoned discussion to reach the truth, not shouting matches and hysteria. So I commend you for making this point.

So, what about the uptick rule? Some control of shorting seems indicated, but is this really the best tool available?

Personally, I don't care whether I execute the short sale at $9.89 or 9.90--the difference is too small to matter, but in fact after the uptick the short is more profitable. It just might take a bit more patience. Not a bad restriction for the retail investor, but perhaps an bit more of an impediment to big block trades.

The other rule that needs enforcing is the requirement that the shares actually be delivered. It's the naked shorts, I imagine, that are the most corrupting.

Apr 15 04:52 AM

[jerrypan:]

upstick rule will make "short" at high price, which in my opinion will not prevent stock plunge. Contrary, it might make things worse.

Apr 15 06:26 AM

[WD216:]

Why does the government continue to change the rules and steer the game in their favor? This only props up their house of cards more. If they put back the short up tick rule (and they aren't talking a 1 cent difference) then they should also put into effect a long down tick rule, after all we don't want another 1999 bubble do we? Of course this is said in jest, however until the government lays its grubby hands off the free markets this country will not recover.

Apr 15 08:38 AM

[msoori:]

Shorting is fine, but Naked Shorting should be illegal. When you can keep borrowing unlimited number os shares from thin air, thats not playing fair.

Apr 15 08:48 AM

[johnm:]

I am neither for or against the rule, but what I am for is a level
playing field.

Trading is one of the most competitive endeavors. If a subset of
market participants are exempt from the rule, they are given a
vicious edge over the ones who have to follow the rule.
So if you insitute an uptick rule, I say enforce it on everyone.
Do not give an exemption to specialists, market makers, block
trader, option market makers ... (the list could go on).

My view is that with or without a rule, the fundamentals will be
reflected in the stock sooner or later but the rule can indeed
change the short term dynamics in the market.

Apr 15 09:33 AM

[Baboon:]

Nobody should be exempt from uptick rule. If they can't apply the uptick rule to market makers so they should not impose the rule on anybody else.

Apr 15 03:03 PM

[Baboon:]

Nobody should be exempt from uptick rule. If they can't apply the uptick rule to market makers so they should not impose the rule on anybody else.

Apr 15 03:03 PM

[Longinvestor:]

Toro: "First, let me state right up front that I am an unabashed supporter of short selling. I have shorted in the past and will do so again in the future."

Well Mr. Bull, let me state up front that I think short selling is only gambling. You have not invested one single penny in the company you are "shorting". You belong in a casino among other gamblers instead of posing as a stock market investor. I think short selling of stock should be outlawed entirely. Enjoy yourselves in Las Vegas or Monaco!

Apr 15 03:19 PM

[AJB7:]

Like the author and others, I do short but have no principled objection to reinstating the uptick rule, the absense of which I believe only benefits day traders. One thing that did not come out in the above discussion however, is the value of short selling as a portfolio risk hedge. Currently I am long a set of retail stocks and short another set. In effect I have taken some or all of the overall market direction risk out, leaving only my risk on individual stock valuations. There is benefit to me in this, and also the market itself which becomes more efficient but not necessarily more bearish.

Apr 15 04:53 PM

[ifuwish2:]

i be glad when they do this and i hope it stops shorters and those who try i hope you get burned and burned good

Apr 15 08:01 PM