Australia's Short Selling Ban - One Day Wonder?

We are now half way through the 30 day prohibition of covered short selling in Australia. Has it been effective?

On Sunday 21 September 2008, ASIC imposed a total ban on covered short selling securities on the Australian Securities Exchange. (Naked short selling and covered short selling of financial securities were banned on 19 September 2008.) The reasons for the total short selling ban were given as:

• short selling of stocks, particularly financial stocks, may be causing unwarranted price fluctuations.
• necessary to maintain fair and orderly markets in these exceptional times of global crises of confidence in financial markets.
• a circuit breaker to assist in maintaining and restoring confidence

The following table shows the impact on selected financial and materials indices and companies in the day following the ban, 22 September 2008, and the movement in index levels/prices in the period that followed.

Security	Share Price Increase 19/9/08 – 22/9/08	Share Price Decline 22/9/08 – 10/10/08
Financials (XFJ)	+5.1%	-18.5%
ANZ	+8.1%	-20.1%
CBA	+6.0%	-11.3%
MQG	+5.3%	-24.6%
NAB	+5.7%	-14.4%
WBC	+4.9%	-18.3%
Materials (XMJ)	+9.8%	-30.2%
BHP	+12.2%	-30.1%
FMG	+25.4%	-62.5%
RIO	+9.4%	-34.2%
All Ordinaries (XAO)	+4.3%	-22.0%

Not surprisingly, the ban had the desired impact immediately after announcement, but why did it fail to provide support in the two weeks that followed?

The simple reason for this is that as short selling had little to do with the crisis enveloping the Australian sharemarket and other global sharemarkets, imposing a short selling ban was never going to provide the solution. The crisis brought about by financial companies leveraging exposure to falling asset prices continues to unfold.

Now that the short term supply/demand impact of the ban has passed, longer term factors are emerging.

For example, the most prevalent hedge fund strategy in Australia is equity long/short; whereby managers invest in Australian companies expected to outperform and offset these investments with short sales. Most equity long/short managers are net long investors. A small number of managers will seek to be market neutral. Few will carry net short positions, even in exceptional circumstances.

Banning short selling prevents equity long/short managers from effecting their strategy. As these managers abandon the strategy because they cannot manage the short side, they will be closing short sales AND and selling long positions. As these managers are generally net long, this is likely to have a depressing impact on share prices.

Those equity long/short managers holding on to their existing short sales awaiting a lift in the ban, will not be inclined to close those positions as further short sales in other securities cannot be opened to provide cover for long investments. This will have the effect of REDUCING buying in companies under sharemarket pressure, when short sellers would otherwise be buying to cover their positions, further depressing share prices.

Furthermore, the ban has increased uncertainty for many investors reducing their appetite to hold Australian shares and further depressing share prices.

In summary, while the covered short selling ban had the desired impact on the first day of trading following the ban, it appears to have been ineffective in achieving the desired aims of the ban, as we have seen:

• heightened fluctuations (falls) in share prices
• unfair and disorderly markets
• reduced investor confidence