Hedge Funds Attack EU Proposals On Short Positions
Thursday, February 03, 2011

A European Union proposal, for the public disclosure of the net short positions of individual hedge fund managers, risks distorting financial markets and will not be effective, according to an independent study commissioned by the Alternative Investment Management Association (AIMA), the global hedge fund association.

The report by Oliver Wyman, the international management consulting firm, updates the findings from its previous report last year, and analyses the impact of the European Commission’s draft short-selling regulations, which propose the public disclosure of individual managers’ net short positions above 0.5% of outstanding share capital, on trading activity in equity markets.

It comes as European lawmakers are to continue to consider changes to those proposed regulations. Under the existing timetable, a vote by the European Parliament’s Economic and Monetary Affairs Committee on possible amendments to the Commission’s original draft regulations could take place on February 14, 2011.

The Oliver Wyman study, in fact, concludes that the proposed regulations would not be effective in meeting the needs of companies wishing to raise capital, investors seeking efficient risk management or regulators addressing financial stability. Overall, it says, the benefits of these disclosure requirements seem negligible in comparison with the increases in the cost of capital and the associated negative impact on the real economy.

For example, the study finds that “fund managers noted a variety of concerns that they have initially experienced due to the disclosure proposals. Broadly, they have seen liquidity decrease as a result of disclosure proposals and have seen a consequent widening in bid-ask spreads. Certain strategies have identified a pronounced fear of short squeezes in the market, and most participants noted that access to working with corporate management has decreased.”

In addition, it shows that “investors are already choosing to divert a portion of their alternative investments dedicated to Europe to other geographies rather than accommodate the new proposals,” and that “equity investments are now beginning to follow those flows.” Those with discretionary investments are choosing to place their capital elsewhere, where they can invest without similar regulatory restrictions.

The study’s authors say that, while market transparency on short positions is desirable, it can be achieved more effectively than the current proposals by the publication of either aggregated or anonymous short positions.

The study recommends that European policymakers adopt a regulatory framework in line with other major financial jurisdictions, such as the United States and Hong Kong, where there is no reliance on public disclosure by individual managers. In those countries, the study says that private disclosure to regulators and public disclosure of aggregate short positions has proven to be a “balanced” approach.

“The hedge fund industry supports increasing market transparency through the publication of aggregated short positions," said Andrew Baker, AIMA’s chief executive officer. "We also support reporting of positions to national regulators. But as the findings of this independent study highlight, there are serious unintended consequences of disclosing individual managers’ positions to the market – including a decrease in liquidity, lower returns for end investors including retail investors, and the likelihood that investments will move to other jurisdictions where returns are not constrained by inappropriate regulations.”