Corporate watchdog bans short selling to stabilise market

The Australian Securities and Investments Commission has announced a total ban on short selling for 30 days in a bid to prevent “unwarranted price fluctuations” on the skittish sharemarket.

The Australian Securities and Investments Commission has announced a total ban on short selling for 30 days in a bid to prevent “unwarranted price fluctuations” on the skittish sharemarket.

Short selling is the practice of selling shares that you do not own in the hope that the price will fall and you can buy the shares at a cheaper price.

There are two types of short selling – covered short selling (where the short seller borrows the stock they wish to sell) and naked short selling (where the stock is not borrowed). Both forms have been banned by ASIC.

The decision to ban short selling in Australia follows similar bans in the US and Britain. ASIC was worried that not following the overseas bans could leave the Australian market susceptible to an influx of hedge funds that have been forced out of the US and Europe.

The move is likely to result in a sustained rally on the Australian sharemarket, as hedge funds are forced to “cover” their short positions by buying shares they originally hoped to sell.

But opinions are mixed on whether the ban is a good idea.

Supporters says the temporary bans will help stabalise the market during a time of extreme volatility and will also prevent short-selling attacks by hedge funds, who have been accused of using rumours and speculation to drive share prices down.

But some commentators point out that short selling provides a degree of liquidity to the markets. AMP Capital Investors’ chief economist Shane Oliver called ASIC’s decision a “bit of an overreaction” and said the ban could be disruptive.

Business Spectator columnist Alan Kohler says the ban could even spark another wave of selling. He argues hedge funds will be badly damaged by the decision, as one of their key differentiators between traditional investment funds is gone. This could lead investors to pull their money out of hedge funds, which will in turn force hedge funds to start selling assets to raise money.

Regardless of who is right, investors appear to have welcomed the ban. The local sharemarket (which opened an hour late to give traders time to adjust to the move) has already climbed more than 4%.

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