Short-sightedness in short selling ban

FOR many investors in the market, there are different reasons why equities are bought and sold.

Maybe a stock is undervalued. It could be that there is long-term value in a stock. Maybe it is because the chicken rice seller gave you a stock tip?

Reasons to sell can be opposite of those “buy” calls and in what we just saw in the United States with Gamestop: there are reasons to sell and take huge positions in shorting a stock when the fundamentals are eroded.

The process of going long and engaging in short-selling are intertwined in generating value in the stock market. The volatility it generates makes brokers money and allows investors to take new positions in the market.

The onset of the Covid-19 pandemic has led to a selldown that drove down stock values, creating fear that the floor of the market would be opened up and investors holding stocks would be swallowed by the selling fear.

Inevitably, there were the ridiculous calls of shutting down the stock exchange. Fortunately, wiser heads prevailed and it was decided that short selling activities would be suspended.

Shorties would have had a field day given the fear but whether the decision to ban short selling was the right call then would not have found many dissenters.

A number of markets had banned short selling due to the fear that the pandemic had brought on the market but most have since dismantled it. South Korea recently extended it to May 2 and Indonesia has extended it.

In Malaysia’s case, the authorities decided to extend the suspension of intraday and proprietary day traders short selling until Aug 29, 2021.

The temporary suspensions of IDSS and PDT Short Sale was due to expire at the end of February after it took effect on March 24, 2020.

The initial ban, said the regulators, was part of their proactive measures to mitigate potential risks arising from heightened volatility and global uncertainties.

Both the Securities Commission (SC) and Bursa Malaysia said the additional six-month suspension of IDSS and PDT Short Sale, which are used mainly as a day trading strategy, will enable Bursa to enhance the control measures for intraday short selling activities in order to promote market stability and strengthen the integrity of the capital market.

The regulators said these extensions do not affect Regulated Short Selling (RSS), which is currently in place following the lifting of its suspension on Jan 1, 2021.

The SC and Bursa Malaysia said they would continue to monitor developments affecting the securities market and evaluate the adequacy of existing measures to support a fair and orderly market as well as mitigate potential risks.

While their reasons will hold water when the market is tanking and fear grips the market, what happened since is that the FBM KLCI and the broader market rebounded strongly off the bottom of the market-gripped Covid-19 fear.

Bursa Malaysia had its best ever financial performance year and a lot of other brokers too made hefty gains from the market’s rebound.

But to say the reason for continuing with the suspension was to maintain market integrity after the stock market recovered and actually was in positive territory last year, when most of the past five years or so had the market closing lower at the end of the year from when it started, is a reach.

The heightened interest in trading on Bursa Malaysia has seen trading volumes and value hit record levels last year and it has remained high on a historical basis. Retail investors have returned strongly as a result, snapping up stocks in greater velocity than ever in recent times.

One reason for keeping the suspension in place is to not kill off the retail-driven stock market but the longer the ban on the more volatile aspect of short selling is allowed, then the price discovery process, which allowed for the initial strong rebound in March last year will increasingly get muted.

With foreign investors continuing to sell shares on Bursa Malaysia, we will then end up playing musical chairs among the local investors.

It will just be a matter of time before the dull trading days of the past return as investors start to baulk at the overvalued shares on offer.

The suspension should have been lifted on schedule and the authorities should have allowed for price discovery to resume.