Share the article
twitter-iconcopy-link-iconprint-icon
share-icon
RegulationsMay 19 2020

EU regulators lift short selling ban, but could reimpose it

Six EU securities regulators coordinate the lifting of their short selling bans, but have left open the possibility of reimposing them should extreme volatility reignite again. 
Share the article
twitter-iconcopy-link-iconprint-icon
share-icon
Esma main

The securities regulators of six eurozone countries have lifted exceptional measures to ban short selling transactions following dramatic recoveries in stock markets along with significant falls in volatility.

The European Securities and Markets Authority (ESMA) said it had coordinated the lifting of the restrictions by the national regulators. This is in contrast to two months ago when each regulator rolled out its own measures, which caused confusion among market participants and tension between some regulators. 

For instance, the UK’s Financial Conduct Authority was apparently caught by surprise and struggled to comply with some of the reporting measures related to shares and derivatives covered by the ban that trade on UK markets. Market sources also reported a tussle between the Italian and German regulators over which one had jurisdiction over an exchange traded fund, which held bank shares, and traded in both jurisdictions. 

In the intervening period some of the measures were aligned by regulators with ESMA’s help. 

A key concern among some of the regulators, particularly in Italy, was that already weak banking stocks could face a rout from heavy short selling, further undermining confidence in those institutions. However, a number of trade associations argued that comparable securities in countries with short selling bans performed no better than those where no such restrictions existed. 

At the time, shares covered by the ban comprised nearly a third of the traded volumes in EU equities.  

Increasing uncertainty

The World Federation of Exchanges (WFE) recently compiled academic research showing that short selling bans are disruptive for the orderly functioning of markets, as they are found to reduce liquidity, increase price inefficiency and hamper price discovery. “Banning short selling interferes with price formation, thereby increasing uncertainty. That can only artificially amplify volatility and probability of default, the opposite effect to that claimed, and hampers the ability of markets to serve the real economy,” it said in a statement.  

Instead of prohibiting short selling, the WFE favours circuit breakers, which kick in when securities fall by a certain amount within a given time frame and are used on US exchanges. The WFE said this can slow down markets in times of stress, giving participants more time to assimilate information so they can make more informed decisions. 

"The end of the short selling restrictions will be welcomed by many in the market, and were difficult to operationally implement in such a short space of time, as well as containing a number of legal uncertainties. This may be why the majority of the EU did not adopt such restrictions," says Tim Cant, a regulatory partner at law firm Ashurst.

On May 18, the securities regulators of France, Spain, Italy, Belgium, Greece and Austria decided to end the bans, citing calmer market conditions.  

“Since the implementation of the ban, the authority has observed a progressive normalisation,” said French regulator the Autorité des marchés financiers (AMF) in a statement. “Markets have partly reduced their losses, trading volumes and volatility have returned to levels that are still high compared to mid-February, however this reflects market participants’ uncertainties in the current context.”  

Italy’s Commissione Nazionale per le Società e la Borsa echoed that statement saying they had observed a “progressive normalisation”. 

The Austrian Financial Market Authority (FMA) said ending the restrictions was a step back towards normality and a positive signal for small and professional investors.

Markets on notice

However, should another bout of severe market volatility erupt there is a strong possibility of short selling bans being quickly reimposed. 

The FMA said the short selling ban had contributed to limiting “irrational overreactions” in the market and in retaining investors’ trust in the stability of the Austrian financial market. 

However, the AMF was among the most vocal defenders of the restrictions and said it will closely monitor financial markets considering that the coronavirus pandemic and the uncertainties surrounding its impact on the economy constituted a serious threat to market confidence. Explaining the ban it imposed on March 17, but had now revoked, it said a uniformly declining market, with considerable uncertainties about the future extent of those falls, an increase in short selling could have had a procyclical influence. The AMF said it wanted to avoid this, which is why it imposed the ban. 

“Should the markets’ situation require it, the authority calls for coordinated European action. As a reminder, ESMA’s decision requiring net short positions holders to report new positions of 0.1% of the issued shares capital is still in force,” the AMF said in its statement. 

ESMA said the measure remains in force until June 16, warning that it could be renewed adding that it “is prepared to use its powers to ensure the orderly functioning of EU markets, financial stability and investor protection”.

This measure is also unpopular with market participants, particularly smaller and non-EU ones, as many find it difficult to monitor and report trades that fall within the threshold. Industry sources said this could see less activity in EU capital markets as those participants will be concerned about falling foul of the reporting requirements. 

The six authorities are also the same ones which imposed short selling bans during the 2007-9 global financial crisis, and at that time, they also fostered considerable confusion and generated criticism from market participants. 

This article first appeared in The Banker's sister publication Global Risk Regulator.

Was this article helpful?

Thank you for your feedback!

Read more about:  Regulations , Western Europe