A move to bring Canadian short-selling rules in line with United States securities law could reverberate through Canada’s junior capital markets as regulators look to limit a controversial trading strategy used to finance high-risk companies, notably in the cannabis industry.
Earlier this month, an Ontario government task force recommended banning a sophisticated short-selling technique used by hedge funds active in Canada’s small-cap public markets. Short selling is a bet that a company’s share price will drop.
In anticipation of a financing deal, a hedge fund will short a company’s shares, then buy into the deal to cover the short position, acquiring a block of newly issued shares at a discount to the market price.
The technique allows funds to earn a quick profit with relatively little risk and makes it easier for investment bankers to find lead buyers for speculative deals. Critics, however, allege the technique often pushes the boundaries of securities law, as investment bankers, company insiders and hedge funds work together to facilitate the short position.
“If this type of short selling is done, and it’s done intentionally with the knowledge of an unannounced transaction that they plan to purchase on, then there is an extremely good chance that it would be violating existing insider trading rules and market manipulation rules,” said Cindy Tripp, a former managing director at GMP Securities and member of the Ontario Capital Markets Modernization Taskforce, which is overseeing a review of the province’s securities laws.
“We were pretty surprised by stakeholders speaking to us about this sort of being routine and being accepted in certain market segments,” she said. “We were also struck at how much potential pressure there is on issuers to go along with this practice in order for them to raise capital.”
In a wide-ranging report published two weeks ago, the task force suggested prohibiting investors from participating in a financing deal if they have previously shorted the same securities. In practice, this would likely involve a restricted period ahead of a deal, similar to what exists in U.S securities law, Ms. Tripp said.
https://www.theglobeandmail.com/business/article-proposal-to-ban-short-selling-ahead-of-deals-to-shake-up-junior/