Short Selling Regulation: Call for Evidence

Following the launch of a Call for Evidence on the functioning of the Retained Short Selling Regulation (UK SSR) in December 2022 in which the HM Treasury sought to determine how the current SSR framework works for financial market participants and whether or not changes are desired to accommodate for UK market specifics (please see EventID #18581 in this context), the Treasury has now published a corresponding consultation response paper. The response paper summarizes the feedback the regulator has received to its consultation and describes the Treasury’s way forward in this matter. In this context, it shall also be noted that the consultation was a first step in the government’s efforts to repeal the currently retained Retained Short Selling Regulation and replace it with an own short selling regime primarily administered by the Financial Conduct Authority, FCA.
#### Background
In the consultation, the Treasury primarily sought feedback on the following issues:
– the general functioning of the current regulation;
– the adequacy of the restrictions relating to „naked“ short sales;
– the adequacy of the current position reporting regime, including the appropriateness of current reporting thresholds and increments;
– the perception about the current public disclosure requirements as regards net short positions exceeding „0.5% of issued share capital of a publicly traded company“;
– the use of such disclosures by financial market participants;
– the appropriateness of the current exemption regime for market makers;
– the assignment of intervention powers to the Financial Conduct Authority (FCA) in case of malfunctioning markets; or
– the possible effects if the UK were to remove the short selling ban provisions under a future UK regime.
#### Key Responses of market participants
(1) General functioning of the regime: As far as the general functioning of the UK SSR is concerned, respondents overall found the current regime adequate and functioning well. However, there were also reservations and calls for further regulatory enhancements to promote transparency, prevent market abuse, and ensure overall market confidence. Specifically, some stakeholders favored modifications to the existing SSR to alleviate disproportionate burdens and improve efficiency.
(2) General prohibition of uncovered short sales: As far as restrictions on „naked“ short sales are concerned, most respondents to the Call for Evidence supported the continuation of restrictions on uncovered short selling of shares. While there were differing opinions on the treatment of liquid and illiquid stocks (some found that different restrictions should apply based upon the liquidity of the asset), the prevailing view was that the current covering arrangements are effective in preventing settlement issues without being overly burdensome.
(3) Position reporting: As far as position reporting is concerned, all respondents agreed that the FCA should monitor short selling activity for reasons such as ensuring market stability and integrity, detecting potential market abuse, and identifying potential corporate misconduct issues, which is why the reporting of short positions is important. However, a large number of commenters found that the current reporting regime is somewhat disproportionately burdensome, particularly the current 0.1% disclosure threshold which was introduced during COVID-19 to counteract significant market volatility. Furthermore, respondents critisized that currently firms are required to manually input individual position reports into the FCA’s reporting portal, making the process time-consuming. Respondents believed that automated report submission would be more efficient and save time and resources. Finally, the 15:30 next trading day report submission deadline was also considered problematic, particularly for firms operating in different time zones.
(4) Short selling disclosures: There was a diverse range of opinions on how short selling disclosure should be implemented to strike a good balance between transparency, market confidence, and avoiding undesirable market behaviors. Several industry respondents, especially from the fund and asset management sector, believed that the existing short selling disclosure rules have a negative impact on the price discovery process. They were concerned that the current regulations lead to copycat behavior and short squeezes due to public disclosure of individual positions, which in turn discourages short selling above the 0.5% disclosure threshold. Others supported the current individual position disclosure regime as the information would be „useful for liquidity and risk management purposes“. Issuers also argued that individual disclosure helps them engage with their investors effectively.
#### Way forward
Based on the feedback received, the Treasury concludes that the current short selling framework is still fit for purpose, but needs targeted modifications primarily to ease reporting burdens on firms. Therefore, it has decided to take the following measures to improve the current regime – as quoted:
1. The government will replace the current public disclosure regime based on individual net short positions with an aggregated net short position disclosure regime.
2. The government will increase the current disclosure threshold for net short position reporting to the FCA from 0.1% to 0.2%.
The new regime will be implemented via corresponding regulation that the FCA will be consulting on in due course. The Treasury therefore also plans to extend the powers of the FCA to enable it to deliver all aspects of the new regime.