Update on ASIC's Response to Short Selling 23 September 2008 Release
SUMMARY OF POSITION What is ASIC response to short selling as at 9am Tuesday 23 September 2008? Prohibition ASIC has prohibited covered short selling of all securities, managed investment products and stapled securities quoted on licensed markets in Australia, subject to certain exceptions. This prohibition came into effect on 22 September 2008. Certain limited naked short sales are permitted in s1020B of the Corporations Act 2001 and are unaffected by the ASIC class orders. Certain covered short selling is also permitted in ASIC's orders, and in new orders effective from 23 September, summarised in this document. Disclosure Where covered short selling is permitted, the short selling transaction needs to be disclosed in accordance with ASIC Class Order [CO 08/751]. These reporting requirements are equivalent to end of trading day net short sale position disclosure under the ASX Market Rules. The reporting requirements came into effect on 19 September 2008, and apply to trading from 22 September. Permitted exceptions ASIC has reviewed the operation of the market since its announcements of 19 and 21 September, and had opportunity to consult with the finance industry. This document summarises decisions of ASIC to exempt some market operations from the short selling prohibition, in line with overseas developments. The prohibition on covered short sales does not apply to the following: • Hedging for existing positions ASIC has provided relief for hedging of pre-22 September positions of market makers arising from their client business, to the effect that the prohibitions on covered short sales will not apply to hedging a position that was taken by an entity prior to 22 September 2008 as part of its business of dealing as principal in equities, options or derivatives (whether OTC or exchange-traded) to fulfil orders received from clients or to respond to a client's request to trade, in each case before that date. • Dual listed entities ASIC has provided relief to enable persons engaging in arbitrage transactions in relation to the securities of dual listed entities to make covered short sales of the relevant securities in Australia. 1
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All exchange-traded options ASIC has provided relief for sales resulting from the exercise of exchange traded options issued before or after 22 September.
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Index arbitrage transactions Covered short sales as part of an index arbitrage are not currently permitted under ASIC's class orders. However, ASIC considers index arbitrage transactions that are unlikely to be a mechanism for market abuse should be allowed. ASIC has provided relief that will apply to index arbitrage.
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Market makers Certain covered short sales made by market makers are exempt from the prohibition relating to covered short sales. ASIC has determined to widen the relief for market makers in line with overseas decisions. ASIC will provide relief for transactions that satisfy all of the following requirements: (a) the market marker must be an entity that makes a market as set out in section 766D of the Corporations Act 2001 (see question 4 below for description); (b) the market marker must hold an Australian financial services licence relating to making a market or relies upon an exemption so it does not need an Australian financial services licence; (c) the covered short sale is a bona fide transaction to manage the entity's risk arising from its market making activities; and (d) the market maker must not enter into a short sale in respect of a product if it knows the client's transaction for which it is making the market will result in the client or counterparty establishing or increasing an economic net short position in respect of a product covered by the ASIC Class Orders.
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Covered short sales to manage risk associated with underwriting of dividend reinvestment plans, share purchase plans and convertible bonds and hybrids Where covered short sales occur to manage risk of underwriting these corporate transactions at the request of the relevant entity, ASIC will grant relief.
What are the reporting requirements for direct market access providers? ASIC will consider individual applications for a no-action position relieving DMA (Direct Market Access) service providers that use automated trading facilities for retail clients from a positive obligation of enquiry in relation to sell orders where the DMA operator knows from its systems that the client holds the shares the subject of the automated trading. The no-action position will be conditional on notifying clients that short sales are not permitted.
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Do the ASIC class orders apply to government securities? No. Relevantly, the prohibition applies to securities as defined in s761A. While these include debentures of a body, a government is not a body as defined in section 9. Accordingly, government securities are not included in the relevant definition of securities and thus are outside the scope of the ASIC class orders. Will these ASIC exemptions change again? The exemptions may change. ASIC will continue to monitor this market to ensure there is no misuse of the market maker and other exemptions to reinstate objectionable short selling behaviour. In particular ASIC will monitor the use of the exemptions in the CFD and options markets. ASIC will also continue to coordinate its response in line with international developments. In that regard, ASIC is part of an international group of regulators that meet daily as required.
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GENERAL QUESTIONS 1. What is a naked short sale? A naked short sale is a sale of a product that the seller does not currently own or have a presently exercisable and unconditional right to vest in someone else at the time of sale. There is more guidance on what is a naked short sale in the Regulatory Guide 196 Short selling: Overview of s1020B released by ASIC on Friday 19 September 2008. 2. What is a covered short sale? A covered short sale is a sale of a product that the seller does not currently own but does have a presently exercisable and unconditional right to vest in someone else. Sometimes the presently exercisable and unconditional right to vest is acquired through a securities lending arrangement. 3. How long will the prohibitions be in place? The effect of these measures will be monitored closely and reviewed within 30 days after commencement of ASIC Class Order [CO 08/752] for non-financial securities. In the case of financial securities, the measures will be implemented until the previously announced short selling legislation becomes effective. The UK and US have also imposed time limits on their announcements. 4. Who are "market makers" under ASIC Class Order [CO 08/752]? Market makers include entities that satisfy all of the following requirements: (a) the entity makes a market as set out in section 766D of the Corporations Act 2001 (ie. regularly states a price at which it is prepared to deal and others have a reasonable expectation they will regularly be able to effect transactions at the stated prices); (b) the entity holds an Australian financial services licence relating to making a market or relies upon an exemption so it does not need an Australian financial services licence; (c) the covered short sale is a bona fide transaction to manage the entity's risk arising from its market making activities; and (d) the market maker must not enter into a short sale in respect of a product if it knows the client's transaction for which it is making the market will result in the client or counterparty establishing or increasing an economic net short position in respect of a product covered by the ASIC Class Orders.
Therefore the market makers exemption will cover some activities such as: • Client facilitation ie. selling stock to a client thereby "filling" the client demand at a price which is certain, prior to the broker covering the position in the market (at the broker's own risk). • Hedging certain OTC equity swaps.
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Guaranteeing VWAP to a client, where the broker will short throughout the day and then cross with the client at the end of day at guaranteed VWAP price. Enabling market making to hedge CFD products where the client holds a long position.
5. How does the prohibition sit against regulation in other jurisdictions? Other regulators around the world, from jurisdictions such as France, Germany, Canada (Ontario) and Ireland, have moved following the action taken in the UK and US. ASIC Class Order [CO 08/752] prohibits covered short sales over all securities, managed investment products and stapled securities unless an exemption applies. This differs from the measures implemented in other jurisdictions which apply only in relation to financial securities. Some jurisdictions also require timely disclosure to the regulatory authority and the relevant market of short positions held at the end of a business day. 6. How does the regulation of short selling in Australia fit with regulation in the US and UK? A summary is below. UK Creating or increasing a net short position in a UK financial sector company. A net short position gives rise to an exposure (short), whether direct or indirect, in the equity share capital of a company. The prohibition covers all instruments (eg CFDs, spread bets, options, futures and depository receipts) as well as covered short selling. Market makers – entities who deal as principals in equities US Short selling of any publicly traded securities of any of the 799 Included Financial Firms. Australia Covered short selling of Australian securities, managed investment products and stapled securities traded on licensed markets unless an exemption applies.
What is prohibited
Exemptions
Market makers – where Some exemptions apply the client is not creating as set out in the summary or increasing an on page 1. 5
When to disclose
options or derivatives to fulfil orders received from clients. Daily disclosure when a person has a disclosable net short position (greater than 0.25% of company’s issued capital) for a UK financial sector company. Daily disclosure when a person has a disclosable net short position (greater than 0.25% of the company’s issued capital) that relates to securities which are the subject of a rights issue.
economic net short position. Weekly disclosure (first business day of the week) by institutional investment managers of previous week’s daily short sales of certain publicly traded securities. Brokers and dealers must mark all sell orders of any equity security as “long” or “short”. Daily disclosure of covered short sales must be given where covered short sales are allowed.
7. Who financial market participants should contact with urgent commercial issues. Market participants should contact ASIC and their industry body with issues they may have concerning the prohibitions. These issues will be raised and addressed as ASIC is and will continue to work closely with industry bodies to resolve implementation issues of these urgent prohibitions. Contact details: Camille Blackburn: Colin Luxford: Andrew Fawcett: 02 9911 2901 02 9911 2008 03 9280 3358
8. Who members of the public should contact with questions or concerns. If members of the public have concerns or questions after reading this Q&A, please contact ASIC's helpdesk on 1300 300 630.
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