Abolition of Short Selling Ruled out
South Korea’s financial authority is planning to expand individual investors’ participation in the short selling market, which has been a “playing field” for foreign and institutional investors.
According to the financial industry sources on Oct. 16, Financial Services Commission (FSC) Chairman Choi Jong-ku said during a press conference held at the Government Complex Seoul a day earlier, “We will give positive consideration to creating the environment where individual investors also can participate in short selling more easily under their own investment strategy.”
The ongoing parliamentary audit of the FSC has led it to consider measures to lower barriers for small investors in the short selling market. During the recent audit, Democratic Party lawmaker Kim Byung-wook, a member of the Assembly's National Policy Committee, said, “Foreigner investors account for 60 to 80 percent of the domestic short selling market, while individual investors take up less than 1 percent. All investors should be playing on equal terms but the market is neither a level field nor is operated fairly.”
There's a reason behind it. Individual investors have been constantly calling for the abolition of short selling. This year alone, investors posted a request for banning short selling on the Cheong Wae Dae’s (the Presidential Office) online petition board as South Korean biopharmaceutical firm Celltrion Inc. still sees short selling even after it has been delisted on the secondary KOSDAQ and transferred to the benchmark KOSPI. There has been a growing public outcry for the abolition of short selling after Samsung Securities’ sloppy dividend payouts and the failure of the Seoul branch of Goldman Sachs to settle short selling transactions. Considering the fact that short sellers place a bet that the stock they sell will drop in price, stock prices will go down when the amount of short sale goes up. Unlike foreigners and institutions, individual investors who have very limited access to short selling are the ones that suffer a loss.
The financial authorities said that it is impossible to abolish short selling because it has positive functions. In the short term, short selling helps overvalued stocks be adjusted in a timely manner, prevent from market confusion caused by a stock dive in the future and boost the market through investors’ various investment strategies that make use of short selling, including hedge trading. An official from the FSC said, “Most countries, such as the United States and the European Union, also introduce the short selling system so the abolition of short selling, which is generally used in the major stock markets, goes against global consistency and it can greatly reduce the attractiveness of the South Korean market.”
The problem is that there are too many constraints for individual investors to jump into the current short selling market. According to Kim, the highest amount of short selling transactions made by individual investors a year was just 1.4 trillion won (US$1.24 billion) in the past four years. In contrast, the figures of foreigners and institutions came to 70 trillion won (US$62.25 billion) and 28 trillion won (US$24.9 billion), respectively. Under the related laws, including the Capital Market Act, there are no limitations by investor group, such as individual, institution and foreigner, so everyone can short sell.
However, individual investors face difficulties in borrowing stocks as they fall short of institutions in terms of credit rating and financial power. Only institutional investors can take part in the lending market run by the Korea Securities Depository and there is no single securities companies’ retail product that allows short selling as of Sept. Six South Korean securities firms support individuals’ short selling through stock loan services but the total amount of stock loans is less than 20 billion won (US$17.79 million).
The financial authorities have been making an every effort to come up with measures to root out unfair business practices, like naked short selling, rather than to facilitate the short selling of individual investors. There is no single country that applies all the regulations same with South Korea, including the ban on naked short selling, up-tick rule, a trading restriction that states that short selling must be either at a price above the last traded price of the security, display of asking price for short selling, report on short selling balance, official notice of balance by short selling stock, official notice of holders of large quantities of short selling stocks, among the ones that implement the short selling system, such as the United Kingdom, Australia, Japan, Singapore and Hong Kong as well as the US, the EU.
In addition, the financial regulator is revising the Capital Market Act that will make illegal short sellers subject to imprisonment and fines that are 1.5 times higher than the undue profits that they earned through illegal trading and gearing up to build a system that monitors the balance of stocks and the amount of stocks sold and bought to quickly detect illegal naked short selling cases after Samsung Securities’ dividend incident
Nevertheless, there is still a public outcry for the abolition of short selling. Accordingly, the financial authorities have come up with measures to expand investment in order to level the playing field and allows individual investors to run. However, the expansion of securities companies that provide short selling services, which is considered one of the measures that can expand short selling investment of individual investors by financial authorities, can tighten the securities industry and some experts say that there are many challenges to actually realize them as the review on detailed measures is still at an early stage. Furthermore, there are concerns that the short selling market can become “a tomb of individual investors” when they indiscriminately jump into the short selling market and lose out on their investment.