Steinhoff: probe opacity of share lending
THE PAIN AND knock-on effect of the Steinhoff meltdown on the general public’s savings are all over the tabloids every day. So is the sensation created by all the I-told-you-soers who benefited from the meltdown and obviously revel in the pain of their competitors in the investment industry.
Major stakeholders are still baffled by how it could have happened, while Parliament is calling for an inquiry into the matter that tainted South Africa as a whole.
We will probably never learn the truth of the actual sequence of events during the meltdown process, but certain facts are now known.
On December 7, 2017, the Wall Street Journal reported that before the previous day’s announcement of the admission of accounting irregularities and the subsequent resignation of chief executive Markus Jooste a staggering “40 percent of Steinhoff ’s Johannesburg-listed shares and more than a quarter of its Frankfurt-listed shares were on loan to investors betting that the share price would fall according to HIS Markit”. By Friday, December 8, more than half of Steinhoff’s shares were out on loan, despite a nearly 87 percent drop in the share price from the pre-announcement levels.
The main principles of securities lending is that the lender must be in the same economic position at the completion of the loan than it would have been in had it continued to hold the securities in its portfolio – that includes all corporate actions such as income distributions, share splits, rights issues and others.
Second, the lender has the right to recall the securities at any time for any reason. The borrowing of securities is aptly summed up by the European Central Bank: “Borrowing can be used for trading (taking risk for profit), arbitrage (making riskless profit from unjustified price differences) or hedging (reducing risk) purposes.”
The massive downside pressure on Steinhoff ’s share price probably originated from short sellers such as Viceroy, who did in-depth research on the company and exposed dubious transactions.
Further massive downside pressure probably originated from holders of rather illiquid Steinhoff debt instruments and had to take positions to protect capital.
The gearing by directors whereby Steinhoff shares were bought and funded by debt also added to downside pressure as the financiers probably had to take action to limit their losses with the meltdown resulting in some positions involuntary liquidated. What has transpired raises serious questions, though.
Compliance
It is understandable that large investors such as retirement funds and even unit trusts lent out shares for additional income as they probably viewed their Steinhoff holdings as a long-term investment – Bloomberg reported that the day before the meltdown ten analysts rated Steinhoff shares a buy and eight rated them hold – so yes, it made sense from a fundamental point of view.
But the big question is whether the lenders of the stock were aware of what was going on behind the scenes? Were they and, where applicable, the trustees, aware of the massive amount of Steinhoff shares out on loan as the main reason for borrowing a share is betting that the share price would fall?
Why did they continue to lend out shares after the announcement of the admission of accounting irregularities and the subsequent resignation of chief executive Markus Jooste, and even after Viceroy released a damning report “unearthing Steinhoff’s skeletons”? In some instances the lender’s overall returns may have been diluted due to the lender maintaining his economic exposure to Steinhoff shares.
From a legal point of view, the transaction between a lender and borrower involves a transfer of title from the lender to borrower, who has the obligation to make the opposite title transfer to the lender at some stage. Surely, the company’s shareholder register should reflect the changes in shareholders and shareholdings? There may be a lag between the transactions and the capturing of the shares, but certain trends may be picked up if monitored thoroughly.
Ordinary investors and even fund managers had been caught totally unawares when Steinhoff suddenly collapsed. If they were aware of the massive short-position as reflected by the stock out on loan their investment decisions could have been different.
In a discussion paper in May 1997, the International Organisation of Security Commissions warned inter alia about the possibility of severe downward pressure on stock prices or market disruptions arising from manipulative behaviours by short sellers, as well as those attempting to corner the market. Well, this is exactly what happened with Steinhoff, and it is likely to happen to other listed shares as well, unless the relevant authorities up their game and start to properly regulate this opaque market in earnest.
There is a definite need for a circuit breaker for dual-listed shares where the primary listing is offshore and the South African listing is secondary. In the case of Steinhoff we have seen that the shares out on loan have been out of kilter with the percentage on the Frankfurt exchange.
The parliamentary hearings into Steinhoff should not be limited to the possible wrongdoings, such as accounting irregularities, but should include the opacity of share lending activities – therefore who lent Steinhoff shares and who the borrowers were.
Can Steinhoff recover? It seems the situation at Steinhoff remains highly uncertain, but even some of the I-told-you-soers on Steinhoff forget about how a high-flyer super group fell from a high of R152 per share to R6 per share in April 2009 and is today trading at approximately R42 per share. Steinhoff or Bitcoin?