Short Selling in Australia: History, Regulation, and ASIC's Role

Short selling is a complex but integral part of financial markets, allowing investors to profit from declining stock prices. In Australia, this practice has evolved significantly over the years, with the Australian Securities and Investments Commission (ASIC) playing a crucial role in its regulation. This blog post explores the history of short selling in Australia, its current regulatory framework, and ASIC's involvement in overseeing this practice.

What is Short Selling?

Short selling involves selling financial products that the seller doesn't own, with the intention of buying them back later at a lower price. There are two main types of short selling:

1.Covered short selling: The seller has an existing securities lending arrangement to have a 'presently exercisable and unconditional right to vest' the products in the buyer at the time of sale.

2. Naked short selling: The seller doesn't have a securities lending arrangement in place. This type is generally not permitted in Australia for section 1020B products.(1)

The History of Short Selling in Australia

The practice of short selling in Australia has a long history, with significant developments occurring over the past few decades:

• Early 20th century: Short selling emerges, primarily used by institutional investors and hedge funds.
• 1987: The stock market crash leads to increased scrutiny of short selling practices.
• 2008: During the Global Financial Crisis, ASIC imposes a temporary ban on all forms of short selling to stabilize volatile markets.
• 2009: The ban is lifted, but stricter reporting requirements and regulations are introduced.(2)

ASIC's Role in Regulating Short Selling

ASIC plays a crucial role in overseeing short selling activities in Australia. Some key aspects of their involvement include:

1.Regulatory Framework: ASIC permits covered short selling under the Corporations Act 2001 but generally prohibits naked short selling.

2.Reporting Requirements: Short sellers must report their net short positions to ASIC, which publishes this data daily to promote transparency.

3.Market Surveillance: ASIC actively monitors trading activities to detect suspicious patterns that may indicate market manipulation.

4.Enforcement Actions: The commission has the authority to take action against entities that violate short selling regulations.(3)

Activist Short Selling

A notable trend in recent years is the rise of activist short selling. This involves taking a short position and then publicly disseminating negative information about a company to drive down its stock price. ASIC has issued guidelines for these campaigns to ensure market integrity.(4)

ASIC notes that activist short selling campaigns tend to target:

• Entities with complex and opaque corporate structures and accounting practices
• Companies with poor disclosure
• Lower market capitalization companies
• High growth/high risk industries
• Sectors that are technically complex or easily misunderstood (e.g., medical research, technology, and mining)

Impact on the Australian Market

Short selling can have both positive and negative effects on the financial markets:

Benefits:

• Enhances liquidity
• Aids in price discovery
• Can expose corporate fraud or overvaluation

Risks:

• Can increase market volatility
• Potential for market manipulation

ASIC's Approach to Short Selling Campaigns

ASIC takes various steps in response to activist short selling campaigns, including:

1. Engaging with market operators to ensure a fully informed market
2. Examining trading activity of short sellers throughout the campaign
3. Engaging with the activist short seller (if their identity is known)
4. Engaging with the target entity to verify claims in the short report
5. Collaborating with overseas regulators for foreign-based activist short sellers
6. Taking action for breaches of the law when necessary(5)

Short Selling Reporting

ASIC requires short sale reporting of transactions and positions above certain thresholds under sections 1020AB and 1020AC of the Corporations Act. This information is published by market operators and ASIC to maintain market transparency.(6).

Conclusion

Short selling remains a controversial but important aspect of Australia's financial markets. While it can contribute to market efficiency and expose corporate malpractice, it also carries risks of market manipulation and undue volatility. ASIC's ongoing efforts to regulate and monitor short selling practices aim to strike a balance, ensuring the benefits of short selling while protecting market integrity and investor interests.

For those interested in learning more about short selling in Australia, ASIC provides a wealth of resources, including daily short position reports and detailed regulatory guides.(7)

Disclaimer: This blog post is for informational purposes only and does not constitute financial advice. Always consult with a qualified financial professional before making investment decisions.