In an attempt to
stabilize the country's volatile markets, China has implemented a temporary ban on the short-selling of stocks. Aimed at curbing malicious short-selling, in the past similar bans have often been an indicator of larger financial woes.
Short-selling occurs when a stock is borrowed and sold immediately with the hopes of buying it back when the stock price drops, resulting in the borrower pocketing the difference. The borrower is essentially betting that the stock will do poorly in the near future and these negative bets apply downward pressure on markets.
The markets in China have experienced a turbulent three months. Widespread instability has prompted analysts to point out that this is indicative of a looming financial crisis. “China’s markets have lost almost 30 percent of their value after peaking in June, in a series of volatile plunges that have raised fears of a larger collapse,”
an International Business Times report stated. “In response, the country’s exchanges and regulators have come down hard on market manipulators even as the Communist Party and the China Securities Regulatory Commission (CSRC) have worked to implement a wide range of reform.”
Globe and Mail business columnist
George Athanassakos wrote of his negative experience with short-selling earlier this year. “Value investors do not like short selling. Shorting a stock has an unlimited downside and if an investor holds a concentrated portfolio, as value investors do, a stock going really bad can decimate his portfolio,” he concluded.
Canadian lawyer David Costa of Toronto’s
Costa Law Firm is experienced in a
variety of legal areas including, business and securities law. He reminds us how similar measures were imposed less than a decade ago. “American markets instituted a moratorium on short-selling along with a large portion of the globe after the financial crisis in 2008,” he said. “This can result in short term stability, but is by no means a long term fix.”
China’s short-selling crackdown comes after the government has injected money into the market. “China's state margin-lending agency, tasked with stabilizing the stock market, has injected 200 billion yuan ($32.21 billion) since July into five newly launched mutual funds,”
Nathan Taplin with Reuters wrote. “The China Securities Finance Corp is also managing a 120 billion yuan bailout fund formed by 21 brokerages, and last month provided 260 billion yuan in credit lines to brokerages to help them buy stocks via proprietary trading.” The persistent volatility despite these monetary boosts is what has analysts speculating that China may have an impending financial disaster.
However, China isn’t the only country cracking down on the uncertainty coming from short-selling. Greek markets, which opened again for the first time in weeks, will also have a strict ban on the practice of short-selling. “Greece’s ban on short-selling was part of the capital control agreement that went into effect in late June of this year,” lawyer David Costa added. “The ban was extended when the Athens exchange re-opened this week after a five week closure.”
Here in Canada, the Investment Industry Regulatory Organization of Canada (IIROC) introduced changes to the regulations around short-selling, as well other investment channels, in 2012. “The repeal of the “tick-test,” which prohibited a short sale unless the price was at or above the last sale price for that security, is part of a package of related policy and surveillance initiatives intended to strengthen Canada’s regulatory regime with respect to short sales and failed trades,” the
Financial Post reported at the time.
Despite our market stability, Canadian regulators may want to revisit the issue of monitoring short-selling, David Costa mentions. “American investors are currently short-selling stocks in the Canadian real estate market,” he said. “In small amounts this is a non-issue, but as concerns about a bursting housing bubble begin to rise, this could potentially be a very problematic issue for markets on both sides of the Canadian-US border.”