South Korea Extends Short-Selling Ban to Stabilize Markets and Ensure Fairness
In a decisive action to protect retail investors and ensure fair trading practices, South Korea has announced the reinstatement of a short-selling ban, effective from Monday and set to last until at least June. This move, communicated by the Financial Services Commission (FSC), comes as a response to the ongoing volatility in financial markets and perceived unfair advantages enjoyed by institutional investors.
Initially lifted in May 2021 for major stocks listed in the KOSPI200 and KOSDAQ150 indices, the ban’s extension underscores a cautious approach towards full deregulation of short-selling practices, which involves selling borrowed shares with hopes to repurchase them at lower prices for profit.
FSC Chairman Kim Joo-hyun stated that the reinstatement is intended to rectify the market’s “tilted playing field,” particularly underlining the unfair trades conducted by some foreign investment banks. This has led the FSC to reinforce its regulatory measures, including the formation of an investigative team to scrutinize and clamp down on illegal activities such as naked short-selling, where investors short-sell without confirming the availability of shares to borrow.
Reflecting their stringent regulatory posture, South Korean authorities have signaled potential fines against two Hong Kong-based investment banks for such illicit practices and have previously penalized firms including Credit Suisse.
The FSC will revisit the ban in June to evaluate the possibility of its removal, contingent on market conditions. The market’s regulatory environment, particularly around short-selling, is pivotal for South Korea’s ambition to achieve developed-market status from MSCI.
By re-establishing the short-selling ban, South Korea aims to protect its markets from undue volatility and maintain fairness for all investors. This move is part of a broader effort to balance regulatory oversight with market freedoms, ensuring that the interests of retail investors are not overshadowed by larger, institutional entities.
Short selling is a trading strategy :
Short selling is a trading strategy used in the stock market where an investor borrows shares of a company from a broker and sells them on the open market at the current price. The bet is that the stock price will decline in the future, allowing the investor to buy the shares back at a lower price, return them to the broker, and pocket the difference as profit.
Here’s how the process typically works:
- Borrow: The investor borrows shares from a broker, which typically requires a fee or interest.
- Sell: Immediately sells the borrowed shares at the current market price.
- Price Drop: The investor waits for the stock price to drop as anticipated.
- Buy Back: Once the price drops, the investor buys the same number of shares back at the lower price.
- Return Shares: The investor returns the shares to the broker or lender.
- Profit: The difference between the sell price and the buyback price, minus any fees or interest, is the investor’s profit.
Example of Short Selling:
Suppose an investor believes that TechCo’s stock, currently trading at $50, is overvalued and will decrease in price. They borrow 100 shares from their broker and sell them for the current price, receiving $5000 (100 shares * $50). As predicted, TechCo’s stock falls to $40. The investor then buys back the 100 shares at this lower price for $4000 and returns the shares to the broker. The investor’s profit is $1000 minus any fees or interest charged by the broker for the borrowed shares.
Note that short selling strategy comes with high risk. If the stock price increases instead of falling, the short seller will have to buy back the shares at a higher price, leading to a loss. The potential losses on a short sale are theoretically unlimited, since there’s no cap on how high a stock price can rise.