"Short Selling": Be Careful What You Wish For
With anxiety riding high in the stock market, the SEC and Treasury in crisis management mode, we are all vulnerable to bad policy making in the back rooms of Washington hotel rooms. The SEC has an epiphany that they cannot monitor short selling trading practices for impropriety. Short Selling regulations have been in effect for years without any notable enforcement. I think we can all agree that this needs to be rectified.
Now as solutions to unchecked "Financial Engineering" in the form of derivatives, have leveraged good paper of all kinds to ridiculous levels and Credit Rating Agencies have defined just about all paper as good paper, the banning of short selling is becoming part of this solution. I agree that we need to stop the "Runaway Train" by banning short selling of financial institutions temporarily and provide liquidity longer term by removing non performing paper from their books.
I do not agree that banning of short selling should be extended to all equities traded. Cracking down on "Naked" shorting is a must, but be careful what you wish for in banning the legal practice of Short Selling. Sirius XM Radio and other companies require short selling to facilitate the selling of their debt in the form of Convertible Bonds. The Bond Investors hedge in shorting the underlying equity reduces risk in buying the bonds. Although this practice adds dilution to the common shares, it secures the cash necessary to continue operations.
There are limited debt refinancing options available to all companies, not just Sirius XM. Although Mel has said that convertible bonds are not what he prefers, banning short selling would make less attractive to buyers these bonds and would further reduce their negotiating leverage and options to refinance debt.
In conclusion, I believe that legal short selling must be allowed to continue because it is a necessary counter balance to the market when appropriately enforced. Naked Short selling must be criminalized not fined, and enforcement must be paid for from funds received in forfeiture from the offenders. Treasury, the FBI, the SEC, and Homeland Security need to find a way to monitor, prosecute offenders, and protect companies and shareholders from this illegal practice. Banning legal short selling would further erode investor options in a free market that helps to set realistic values on company equity. I am as frustrated as anyone else with stock price manipulation but, let's not throw out the baby with the bathwater.