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Unformatted text preview: _-. rnmuﬂvtrngvwexea-snsv mum ii'F/C _'MAK “Ia-.2 , 2.0.93" Local short selli The fate of ABC Learning - raises interesting questions,
writes Glenn Mumford. he dramatic share price
declines at ABC Learning
during the week have again
led to calls for a change in . the rules governing short selling. The problem for Australian ' regulators is that looking at short selling is akin to. looking at an
iceberg. What you See-above the 7
surface is an Australian Securities
supervised short-selling market.
Hidden below the surface is a far
larger, much less regulated shorting capability that has arisen 7 out of the stock-lending market.
This past week hedge funds
have again been labelled the
culprit in ABC’s high-volume sell-
off — accused of targeting a stock prone to excess declines should . prices punch through a margin
lender’s nominated “maximum " security” hurdle. Forced sales of
FEM!“ i collateral stock would-then push
prices lower, creating a profitable
exit point. for short sellers.
Givengthat this shorting is taking
place outside the ASK-supervised short-selling market, this criticism of hedge funds needs to be placed
in context. . First. while it is highly likely that ' hedge funds have participated in
this process, they are certainly not
alone. Proprietary trading desks of
most of the large investment banks
have been at least as active in this , process. . A preprietary trading desk takes
positions on behalf of the bank as
principal} rather than on behalf of
clients in an agency capacity. _ Profits derived by such trading have been anincreasingly large
part of investment banking income
generation over recent years.
Ironically. following the losses by
investment banks as areth of the
sub-prime meltdown, many are,
now signalling a minding-back of
this activity; UBS announced as
much during the week. 7 It is worth outlining the differences between the two
strands of short selling.
For most retail investors it
involves the selling of what the ASX '
calls “approved short sale ‘ _ products”. This market has reasonable
depth and a range of rules,
including a maximum shorting
limit of 10 per cent of the stock
and no shorting of stocks subject
to takeover. Investors can access a
daﬂy list of approved stocks on the
ASX website. I But the bulk of shorting activity
occurs via the far less conspicuous
securities lending market. This is
where hedge funds and = , ‘
proprietary trading desks source
scrip to cover their short positions,
While these lending transactions
are recorded by the parties
involved, there is no legal ,
requirement for reporting them. This market developed once ‘
institutions and custodians . realised that they could generate additional income on their holdings I
by “lending” the stock to those '
with a desire to short sell. Shorting per se has been viewed . by market participants almost as a
necessary evil because of its
positive impact on liquidity. But
authorities have real problems with
accusations that the short sellers
are regularly targeting specific
price levels (in this case, the level
at which a margin lender may sell
stock that is held as security)
through their selling. This raises I
some key legal issues. Such action
can potentially be deemed
manipulative, in that it could be
classified as selling with the sole
purpose of driving down the stock
price. This.is a tricky situation. '
Why else would you be shorting?
The short answer is because you
have an expectation that "other _
factors” will create a price decline.
For those trading ASK-approved
short sales, there is built-in
protection against this offence
through what is known as the - uptick rule. This means that a seller cannot place an order to sell
at aprice that is lower than the last
trade. Under such an arrangement ' ,. it is difficult to argue that a short ngtreﬂds can be (long on misery _ seller is forcing a price lower. But
the uptick rule does not apply to
short selling taking place via the
stock-lending market. Accordingly
short sellers, such as the
proprietary trading desks of
investment banks or the hedge '
funds; are operating against the
threat of a review of their activity
by the Australian Securities and
investments Commission. ' To date these reviews have been
relatively low-key, given that ASX
regulations do-not specifically focus
on manipulative trading with short
selling, because of the apparent
protection offered by the uptick _
rule. In the US, market regulator
Securities and Exchange
Commission cites such activity as a
specific violation. Ironically, in the
US and the UK, in the past this '
same uptick rule has been deemed
sound protection in their short-
selling guidelines. But this has
recently changed, with first the' US
and now the UK and Canada
scrapping the uptick rule. it Editorial, page 62 7r?” he —i +"-, - ‘
- March 12, 2008 ~ ' COMMENTARY ., _ he federal Minister for
Corporate Law, Nick
Sherry, has set himself
a broadacre task in a
minefield. His mandate
across superannuation and
corporate law should be daunting
in today's environment, but like
the rest of Team Rudd. Senator
Sherry has cheerfully been ' 7 planting reviews like there is no ‘ tomorrow. While Senator Sherry is a
newcomer to corporate
regulation, and the government
needs time to acclimatise, there
are obligations to the market to .
make messages clear, not
confusing. The ministers whose .
portfolios cover the capital 3
markets know'there is no need to
panic, and this is a time to voice
the mantra to investors that
markets go up and down, and
that a cautious, rational response
to investments is needed. They
must ensure any perceived The Weekend Australian Financial Review www.afr.con1 ‘ entrainment. _
«A ' Once more the danger lies in too much regulation ' regulatory gaps do not chise
investor confidence. . The market itself is in re ason-
able shape, despite a bearish run
for several months as global
growth slows and some optimistic
parameters become unstuck. Yes,
there are losers from the recent
'rout affecting a small number of
companies. Investors who dived '
in on the basis of scant under-‘
standing and a' good vibe have
little reason to whine. That said, the market isn’t
perfect. The practice of stock
lending has been swept into retail consciousness, but like hedge fund I “raids” the-issue is overdone.
Absent evidence of collusion, it
seems short sellers have picked out vulnerabilities that would prObably_ have emerged anyWay. And some
directors of the’pas't week's, bunny,
ABC Learning Centres,he;avily .
geared and close-to margin calls
on big share loans, fitted the bill.
The market regulators on Friday
decided it was time to reach deeper into the boardroom and
explicitly require disclosure of
margin loans and terms on
material stakes of company - shares. Banking covenants and default triggers may also get
exposed under the new guidance.
But if the impact of “evolving
community expectations” is to
dissuade directors from owning 'shares in the companies they supervise, it is a poor outcome, _ Investments Commission — about
privacy concerns, the latest . response is justified in making the market more transparent, but
is a concession the regulators
were Caught napping on the issue.
Still, it’s bettor‘thau a kneejerk
reaction like new legislation. Senator Sherry recently
announced other reviews that
affect investors. some more lfthe impact is_ to dissuade directors from oWning shares
in the companies they supervise, it is a poor outcome. - and will discourage active risk taking. All directors will now be
more cautious about their loan'
exposures. Who wants to be a
sitting duck for. short sellers? 7
The AFR disclosed earlier in
the week discussions between
gtwernment and the regulators -
Australian Securities Exchange ‘ and Australian Securities and . incendiary than others. Greater transparency and accountability in
executive remuneration could be
code for binding shareholder votes ' — an unwarranted intervention. And any move to “strengthen - '
disclosure regarding corporate
sustainability reporting without .' imposing regulatOry burdens on business” sounds oxymoronic. ._ ..-____ .mum-i....r.Midsummmunrawrgaumsna cammamum.“are.“Hugues“as.an.L.......-..;m..-W.-“.-a..._-¢.iAmendment“ m. On Friday, Senator Sherry met
with his working group on simpli-
fying product disclosure state—
ments. The aim is to overcome
unwieldy and unreadable docu-
ments and encourage companies
to use plain English, enable com- parisons across asset classes and keep it short, under 10 pages.
Their first outing is expected to be
new 10w-doc banking products for
home owners. Product disclosure in super-
annuation will get a'thorough
going over, with governance and
marketing of self-managed super
funds targeted for reform. The last thing business needs is
mixed messages from government = about financial markets. Directors are .already under substantial
personalrliability from state and
federal laws, and a High Court
decisionin Sons of Gwalia has
exacerbated the difficulties.
.What the business community
needs is a fair hearing of the
consequences of any reforms. ...
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This note was uploaded on 08/13/2010 for the course FINS 2624 R taught by Professor Yippie during the Three '10 term at University of New South Wales.
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