SA's finance authority now wants short sellers to openly report their bets

Timothy Rangongo , Business Insider SA

Feb 06, 2019, 06:16 PM

SA's financial authority wants to introduce stricter regulation of short selling.
The regulator proposes that all short-selling transactions should be flagged, and that it should be alerted of sizeable short positions
The JSE has some reservations about the proposals.

The Financial Sector Conduct Authority (FSCA) is looking to shake up the regulation of short selling in South Africa.

Short selling is a way to profit from falling prices. Short sellers basically bet against asset prices on the expectations that they will fall. The seller doesn't own the shares, but borrows them and buys them back for less in the future.

Fraser Perring of Viceroy. (Bloomberg TV)

Short-selling can get nasty, and can contribute to market volatility. If, for example, many short sellers pile into a share, it will add to market concern about the company, and worsen selling.

Short sellers also have a vested interest in publishing bad news about a company. Take for example the short seller Viceroy, whose reports on Steinhoff, Capitec and Aspen sent their share prices into a tailspin.

Read more: All-out war as furious Viceroy fires back at critics. But these 4 questions remain unanswered.

The 2008 financial crisis was partly triggered by short selling, and complex financial instruments used to short the US housing market eventually helped sink the global economy. Meanwhile, most regulators had no knowledge of the big shorts and didn't see the trouble coming.

A visual depiction of Dr. Michael Burry shorting subprime housing by buying up credit-default swaps on mortgage bonds in 2005. (The Big Short/Paramount)

Fast-forward more than a decade later, and FSCA wants to take firmer control of short selling. It issued a discussion paper, setting out how to best approach short sales going forward.

In the paper, the FSCA proposes that South Africa adopt two separate models of reporting and disclosure, which will apply at the same time:

1. Flagging

All short selling transactions will be flagged.

"Under this framework, the individual short sales are ‘flagged’ or ‘marked’ by the authorised users on the exchange," say Bridget King and James Peart of Cliffe Dekker Hofmeyr.

This will allow the exchange to know exactly how much securities are being shorted, which can then be disclosed to the public.

2. Threshold

"At a lower threshold of 0.2% of the issued capital of the security, the authorised user must report the short position of the client to the FSCA, who will keep this information private at this point," say King and Peart.

However, "should the short position increase to the higher threshold of 0.5% of the issued capital of the security, then the FSCA will publicly disclose this position".

The JSE welcomes FSCA’s proposals to enhance the regulatory framework for short selling in SA, says Shaun Davies, director of market regulation at the exchange. He tells Business Insider SA that "short selling is an important feature of any securities market but it is necessary to ensure that it is undertaken in a manner that does not compromise the integrity of the market."

However, the JSE has some reservations which it will share with the authority.

Market participants have until 15 February 2019 to respond to the discussion paper.