Ipreo in the News
26 March 09
Fresh push to stop abusive short selling in the US
SEC to bring back uptick rule; exchanges chime in
Abusive short selling, blamed by Richard Fuld for bringing down Lehman Brothers, is against the law. Now plans are afoot to prevent it from happening in the first place. Little resistance is expected, even from hedge funds, and IROs at vulnerable companies may soon be able to sleep better at night.
SEC chair Mary Schapiro already announced she would consider bringing back the old uptick rule for short selling at an April 8 SEC meeting, and she confirmed those plans before a Senate committee today. Anticipating that meeting, NYSE Euronext, NASDAQ OMX and BATS Trading this week proposed an alternative rule in a joint letter to the SEC. They want to help stop abusive short selling while allowing healthy market-making and hedging to continue.
The SEC removed the decades-old uptick rule in July 2007. Some market observers say the change contributed to the jump in volatility and short selling that summer. Others say the rule wouldn't have made any difference in the turmoil around the subprime mortgage crisis.
'There was no reaction in the market when the uptick rule was eliminated – no increase in short selling, no announcement effect, no news effect,' says Frank Hatheway, NASDAQ's chief economist.
'If you were large and liquid, getting rid of the uptick rule had little to no effect,' agrees Marc Greene, head of global markets intelligence at Ipreo. 'Where it could have hurt was the less liquid smaller and mid-cap companies because short sellers could pile on to push down the price.'
Greene is part of a growing chorus calling for better enforcement, not more rules. 'Let's be clear: the uptick rule would not have prevented the financial crisis. And reinstating it will have mainly a psychological effect. The real fix will to police abusive short selling.'
Outlawing short selling is out of the question, as proven by the ban on short selling financial stocks last fall. 'The trouble with the ban was that it created a lot of problems in the liquidity of the 900 stocks it eventually covered,' Hatheway says. 'Spreads widened out, volatility took off quite sharply, and liquidity came way down.'
The SEC is now looking for a way to reduce selling pressure, particularly when the market needs it most, while at the same time preserving the liquidity that short selling provides.
One reason why the SEC can't just reinstate the old uptick rule is because each exchange used to have its own version. When the SEC introduced Reg SHO to regulate short selling in 2005, it sought harmony among the different uptick rules by getting rid of them. Today, under Reg NMS, with trading dispersed among different venues, a single rule is needed.
The exchanges are proposing to go further than the old uptick rule by making short sellers sell above the highest available bid, preventing them from starting downward price pressure by hitting the bid.
'The main reason we find this so much more attractive is that without centralized trading in the market, you have to find some way to enforce compliance,' Hatheway says. As the exchanges said in their letter to the SEC, 'It is conceptually simple, likely to be more effective in dampening downward price pressure, and easier to program into trading and surveillance systems than the original uptick rule.'
The exchanges also propose a 'circuit breaker' that would trigger the new uptick rule only after a dramatic stock price drop in a single trading session. 'It could be an adjustable parameter,' Hatheway adds. 'The SEC could change the percentage depending on market conditions.'
Hatheway says the exchanges' scheme would be 'easy to implement, fast to implement, and easy to comply with.'
Greene believes the SEC will stop short of forcing investors to disclose short positions: 'Disclosure is just not on the table. That would be of real harm not only to hedge funds but to the entire investment industry.'
NASDAQ is planning a webinar next week for issuers to talk about the proposed rule.
Neil Stewart
