The Global War Against Shorts: Canada Bans Short-Selling

The US, the UK, and now Canada. Incredible! Which country is next and why is the world starting to team up against the small group of short-sellers who are not the reason for the recent troubles? This is officially a war that will prove to be disastrous for global financial markets.

After the U.S. markets closed on September 19, the Ontario Securities Commission [OSC], supported by the Canadian Securities Administrators [CSA], issued a temporary order to ban short-selling effective until October 3. The following financial securities are affected:

• Aberdeen Asia-Pacific Income Investment Company Ltd. [TSE: FAP]
• Bank of Montreal (BMO)
• Bank of Nova Scotia (BNS)
• Canadian Imperial Bank of Commerce (CM)
• Fairfax Financial Holdings Ltd. (FFH)
• Kingsway Financial Services Inc. (KFS)
• Manulife Financial Corp. (MFC)
• Quest Capital Corp. (QCC)
• Royal Bank of Canada (RY)
• Sun Life Financial Inc. (SLF)
• Thomas Weisel Partners Group Inc. (TWPG)
• Toronto-Dominion Bank (TD)
• Merrill Lynch & Co, Canada Ltd. [MLC]

The entire order can be found here.

Jean St-Gelais, Chair of the CSA and President & Chief Executive Officer of the Autorité des marchés financiers (Québec) stated:

The CSA is supportive of the action taken by the OSC today, other jurisdictions in the CSA will be taking similar action today, or in the coming days.

If that’s the case, we’re talking about a possible 12 agencies to follow the OSC (Ontario):

• Alberta Securities Commission
• British Columbia Securities Commission
• Manitoba Securities Commission
• New Brunswick Securities Commission
• Newfoundland & Labrador Dept. of Gov’t Services – Consumer & Commercial Affairs
• Northwest Territories Registrar of Securities – Legal Registries Division
• Nova Scotia Securities Commission
• Nunavut Registrar of Securities – Legal Registries Division
• Prince Edward Islands Securities Office – Consumer, Corporate & Insurance Division
• Quebec Autorité des marchés financiers
• Saskatchewan Financial Services Commission
• Yukon Territory Superintendent of Securities – Community Services

Short-selling provides a vital liquidity function in the markets, especially during bear market panic attacks. Shorts are the first ones buying (to cover) at or near short-term bottoms, giving the market the fuel it needs for a rally. If the longs lose a significant amount of capital, and shorts are not present to buy, then who are the buyers? This leads to a free fall in the market. The regulations that are being imposed not only cut off the first wave of buyers (shorts) but also scares shorts from shorting in the future. This of this as a band-aid on a gunshot wound - it just doesn’t work.

And what message does this send to the rest of world? The governments of the US, UK, and Canada pretty much run their markets whatever way they want to and fundamentals and technicals come don’t really mean too much as a result. Market manipulation and anti-free market policy does not instill confidence. In fact, I believe they instill more fear due to the uncertainty of when world governments will strike again. At this rate, I wouldn’t be surprised if shorts just threw in the towel and permanently lost confidence in their regulators.

Short-sellers are not the enemy in this war and these governments will learn that they just shot themselves in the foot.

Comments

[Ori:]

Can anyone please try to quantify short selling in terms of % of the float of every financial stock ? There is a post on the Big Picture blog that tries just that. How much is naked short selling for example and how many times can you short a stock in one day using the same strategy ?

2008 Sep 22 12:00 PM

[Redwood_1:]

The answer to your question, which is based on a false premise, seems obvious to me.

The problem never was short selling or those who engage in it. The problem is NAKED short selling and those who not only engage in it but use it aggressively to manipulate markets, further compounded by the fact that even though it has been illegal all along, it has been allowed to happen completely unfettered for so long that the agencies who should be enforcing rules prohibiting it are now powerless to reign it in.

Consequently, the only way to get a handle on it quickly, which was absolutely necessary in order to defuse a situation that would have inevitably led to market meltdown, was to temporarily halt all short selling altogether.

It's far from a perfect solution, but one that has had the desired affect, at least temporarily. It is now encumbent upon the SEC to get ahead of the problem of NAKED short selling, get all the outstanding Failures To Deliver satisfied, and then move forward with a market where orderly short selling is reintroduced in such a fashion that powerful hedge funds can no longer get away with selling what they don't possess nor have any intention of possessing.

The free marketeers who bitch about this action now should have been speaking up over the last several years while the NAKED short problem spun out of control. Since they didn't, they can all STFU now as far as I'm concerned.

2008 Sep 22 12:16 PM

[True North_:]

John's concern is valid - shorts play a important market role and confidence that the rules will not be dramatically altered without notice is critical to the proper operation of the markets in the long term. Redwood_12's point needs also to be considered, though, as naked shorts are a form of market abuse. They are tantamount to an investor "issuing" additional shares of a company, which is inappropriate. A pity the SEC hasn't moved on these more aggressively in the past, given their potential for abuse.

That being said, the OSC did not have much choice. If you read the order, the only stocks which are covered are those that are inter-listed between the US and Canada. If short selling of an inter-listed stock was banned in the US, then it also had to be banned in Canada. The OSC's aim, quite appropriately, is to prevent what they are calling "regulatory arbitrage" - a concern that seems real given the current circumstances.

Don't we live in interesting times?

2008 Sep 23 02:02 PM