The Great Short-Selling Swindle Explained

The recent decisions by major market regulators to reduce market volatility by restricting short-selling have generated much controversy.

Most media coverage has sought to educate the public as to what short-selling is and debate whether the growth of the practice is a cause or merely a symptom of the financial crisis gripping the world. Questions have also been raised as to whether it should be permitted or not.

Despite this, I have not seen anybody attempt to explain how short-selling has been abused in the last year to lead us to the situation we have today.

This article aims to uncover how short-selling has been abused as a tool of market manipulation and deception on the Australian Markets (the ASX). Before continuing, it is essential that you understand the following terms: short-selling, hedge fund, short-position, long-position, margin calls and stop-loss order.

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ASIC Bans all Short Selling in Australia

In a surprise move last night, the Australian Securities and Investments Commission (ASIC) has banned ALL short selling in Australia – both naked short selling and covered short selling. This came as a surprise to many people [including myself] considering their previous statements that expressed their satisfaction with their previous restrictions, which only affected naked short selling.

The ban commences from the start of trading this morning (Monday 22nd September).

In their statement, ASIC expressed concern that short selling bans that have recently been enacted in a number of markets around the world may result in hedge funds moving their activities to Australia and increasing “unwarranted activity” here.

These new restrictions are more extensive than those enacted elsewhere, which have generally only targeted financial stocks.

Short Selling Bans Imposed in UK and USA

In response to the recent unprecedented volatility in the financial markets, the US Securities and Exchange Commission (SEC) and the UK Financial Services Authority (FSA) have both imposed temporary bans on the short selling of financial stocks.

For those not in the know, short selling is the act of selling stock one does not own, with the aim of buying it back at a lower price and profiting from the difference. This strategy is used to make money in a falling market, or when one expects a fall in the near future.

Large hedge funds have been blamed for abusing short selling to manipulate the market and contributing to the deterioration of world stock prices. 

The US ban applies to 799 stocks, and will initially last for 10 days, but may be extended. The UK ban applies to 32 companies and will last until the beginning of January 2009.

In Australia, our own so-called regulator ASIC has stated that we already have restrictions on short selling. Many people would consider this laughable.

I have an article that’s been sitting on the back-burner concerning my opinion of the role of short selling in the world stockmarket turmoil. It will follow next.

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