SEC and FSA ban short selling on financials

The FSA revealed its plan yesterday, with the SEC following suit in the early hours of this morning.

In the UK, traders were prohibited from actively creating or increasing net short positions in publicly quoted financial companies from midnight last night. The rules cover any instrument that provides a net economic exposure to a financial company, including contracts for difference, futures and options.

In addition, the FSA will require daily disclosure of net short positions in excess of 0.25% of ordinary share capital from September 23 a move that will massively increase compliance and disclosure burdens on banks and asset managers.

However, the regulations do not apply to market makers, defined as those firms dealing as a principal in equities, options or derivatives to fulfil client orders, respond to client requests to trade or to hedge positions arising from those trades. The short selling ban also does not apply if the trade was entered into before September 19.

The rules will remain in force until January 16, although they will be reviewed after 30 days.

While we still regard short-selling as a legitimate investment technique in normal market conditions, the current extreme circumstances have given rise to disorderly markets, commented Hector Sants, chief executive of the FSA. As a result, we have taken this decisive action, after careful consideration, to protect the fundamental integrity and quality of markets and to guard against further instability in the financial sector.

The SEC announced a similar ban this morning, covering securities of 799 financial companies with immediate effect. The US regulator's statement follows its decision to bank naked short selling on all public companies on Wednesday, a rule that came into force yesterday.

The SEC has also provided limited exceptions for certain market makers, as well as for short sales that occur as a result of automatic exercise or assignment of equity options held prior to the order becoming effective. However, the rules are merely delayed until 11.59pm on September 19 for any firm selling short as a result of market-making activities in derivatives referenced to financial stocks or the hedging of positions related to this business.

The prohibition on short selling will last until 11.59pm on October 2.