Fund Managers Slam Short Selling Bans
Wednesday, August 17, 2011

The Managed Funds Association (MFA) and the Alternative Investment Management Association (AIMA), the global alternative investments and hedge fund associations, have both responded negatively to the temporary short selling bans on bank shares introduced by France, Italy, Belgium and Spain.

The MFA has, in fact, submitted letters to European Union government ministries and market authorities on the decision by certain market authorities to restrict short selling. In its letters, it suggests that they “to consider the past experience when market authorities have implemented short sale restrictions. As demonstrated by empirical evidence from short sale restrictions in 2008, the restrictions had a detrimental effect on markets and investor confidence.”

More particularly, it asks that the authorities should look at the past experience with short selling restrictions, which shows that such restrictions are counterproductive, further deteriorate investor confidence and increase volatility; and impair the ability of investors to manage risk, leading many to sell additional securities to balance their portfolios.

In addition, it points out that restrictions freeze the ability of financial institutions to raise capital through convertible bond and convertible preferred security issuances because they prevent investors who purchase the convertible products from hedging the risk with offsetting short sales. The absence of a consultation period also undermines investor confidence and creates market uncertainty with respect to interpretive guidance and compliance efforts, the MFA said.

The MFA urges the authorities “to refrain from, or reconsider implementing, a short sale ban and to consider alternative measures to short sale restrictions, as evidence shows that such bans have proven to be more harmful than beneficial to markets.”

In support of those views, AIMA’s chief executive officer Andrew Baker said: “We do not think these bans will help the current market situation. Past experience has shown that bans on short selling do not prevent market falls and indeed can exacerbate volatility. Independent academic research also supports this conclusion.”

“Short-selling is a legitimate market practice which helps capital markets function effectively,” he added. “It was only last year that the Committee of European Securities Regulators recognized in an official report that legitimate short selling plays an important role in financial markets. It contributes to efficient price discovery, increases market liquidity, facilitates hedging and other risk management activities and can possibly help mitigate market bubbles.”

AIMA supported a statement by the European Securities and Markets Authority (ESMA) on market abuse which emphasized that market abuse is prohibited. Andrew Baker confirmed that “market abuse is illegal and has always been condemned by our industry. If there is any proof of market abuse having taken place then the authorities should take appropriate action against the perpetrators. If there is any suggestion of market abuse, however, then it may be appropriate to take more targeted action rather than impose blanket bans of this sort.”