Short selling has long been controversial, with not everyone convinced that it is a good idea to be able to make money from shares that fall in value.
That is particularly the case for chief executives and boards whose companies are hit by short sellers, which can now be highly organised and swoop in behind seemingly detailed activist investor research which claims that shares in the target company are significantly over-valued.
Short selling has a long history – from Alan Bond and beyond
However, it is worth remembering that short selling and releasing nasty research on companies is hardly new – those with long memories will recall that Roland “Tiny” Rowland’s Lonhro attack on Alan Bond’s sprawling and debt-ridden corporate empire was effectively a research driven short selling attack that ended up bringing down the buccaneering entrepreneur.
Short selling and aggressive research goes back much further than the rollicking 1980s as well and the principal argument in favour of it is that it helps to establish the true value of shares in an informed market through a form of live testing, information comparison and price discovery.
ASIC soon to respond to short and distort
Now Australia is on the verge of getting a new playbook that might change the way short selling attacks and company responses play out.
After plenty of loud bleating from companies that have come under attack – some justifiably and others as a form of profitable “short and distort” arm twisting – the Australian Securities and Investment Commission (ASIC) is getting close to releasing guidelines for how companies should respond to attacks.
The key part of the keenly anticipated information paper is that boards should ask the ASX to halt trade in their shares the moment they find out an attack has been launched.
Stop trading first to allow cooler heads to prevail
That stops short sellers from profitably trading out of their short positions as the company struggles to respond to the research and attack.
Short-selling works by borrowing shares from long term shareholders for a fee, selling them on the market and then aiming to buy them back much cheaper to make a profit.
So, a trading halt means that any short selling profit could be delayed, increasing the holding costs and eating into the potential profits for the attacking short sellers and allowing boards time to develop a more detailed response to the attack.
Traditionally, going back to Alan Bond and before, the counter attack is full of bluff, bluster and denigration of the attacker and sometimes, even a blackening of the entire idea of short selling.
That often leaves long term shareholders confused when all they can see is a nasty fall in the share price, a detailed list of shortcomings about their company and some defensive remarks from their own board.
Respond with detailed facts rather than bluster and emotion
ASIC are poised to suggest a change to that formula by asking companies under attack to form a very detailed response to the attack rather than the usual emotional outburst.
One of the usual gripes about this approach from directors is they are busy running the company and that responding to short seller attacks is a huge distraction. But, their own shareholders might see things differently, given the value of their investment is on the line.
The least the directors they pay can do is to repel attacks that have the potential to reduce the value of their investment.
The call for a detailed response will also leave exposed companies that might actually deserve to be targeted with scathing research.
A recent good example of this being the failure of the disastrous and aptly named Brisbane investment firm Blue Sky Alternative Investments.
Can short sellers be effectively regulated?
The ASX has long called for critical reports to be lodged outside of trading hours, which gives the attacked company some time to prepare and respond but that plea often falls on deaf ears given that many short sellers are overseas and are effectively out of reach for direct regulation.
Using a combination of a trading halt and the ASX announcement platform to respond at least gives the “honest” target of a vindictive attack the chance to clear the air and truly inform the market.
The final and probably hardest to deliver reform would be to educate investors to really have a long think about the motives of short-sellers and their associated “research” before accepting it as gospel and selling with the ears pinned back.
Given that the skittish market reaction to many threats is to sell first and ask questions later, there is some doubt that advising investors not to panic will work.
Once someone yells fire in a crowded theatre, the exits are going to get crowded at the very least.
Perhaps it is at this stage that the fabled but elusive long term, educated investor can come along, take a balanced view of what is going on and make use of the short selling attack as a way to pick up some shares on the cheap.