Short Selling Bans Deemed “Worthless” As Lansdowne, Paulson Make Massive Profits

Short selling, the practice of betting on a fall in the share price of a company, was banned as Lehman fell back in September, and only started again on January 16. And of course since then, the global markets have dived, thanks to, variously: the insuring of UK banks, the low price of oil, big reported losses, and a general lack of confidence that anything will be alright ever again. So some people must have been making mega moolah from short selling amid all these diving prices, right? Right!

A quick further explanation of shorting first. Normal share trading, or selling “long”, is buying shares at a low price and selling them for a higher price, and pocketing the difference; a short-seller however looks to profit from lower prices.

They borrow high-priced shares and sell them to someone else, and makes some money from that trade. Then when the price of those shares goes down, the short-seller uses that money to buy them back at the lower price and returns them to whoever they borrowed them from. In so doing, they pocket the difference between the high price they sold them for and the low price they bought them back for. Comprenday? Don’t worry if you don’t, all you need to know is that it’s about as far from an honest day’s graft as you can get.

John Paulson, now £300m richer.

As soon as the FSA allowed shorting again, some were in like a shot, like Lansdowne Partners, who brought an end to their two-year short position on Barclays shares, ending up with £100m. They also bagged £13m short selling stocks in insurance giant Aviva last week. And yesterday, New York hedge fund manager John Paulson added to the £100m he made from short-selling HBOS by scaling back his short position on Lloyds, bagging £200m.

Profits like these are unsettling, and there’s no doubt that short-selling can intensify stock market dips; these stories will no doubt trigger a fresh wave of demands that shorting be banned once more. Gordon Brown originally brought in the ban like a ruthless sheriff in a lawless town, saying he was going to “clean up” and stabilise the City via tighter regulation. Although US Treasury Secretary Tim Geithner said that preventing short-selling wouldn’t be “effective”, the US has announced it’s reinstating the uptick rule, a restriction on short selling, and bans have been recently extended in Australia, and potentially Japan. 

But the reality is that these bans didn’t prevent a fall in bank share prices, and now hedge fund managers are crowing about their “worthless” nature; on the uptick rule, one fund manager told the Wall Street Journal: “I think it’s a feel-good thing so Congress and everybody involved can act like they’re doing something concrete. I don’t think the short-sellers have made it any worse.”

It looks like financial stocks have bottomed out and are on their way up again, with the Nikkei finally hauling itself out of the gutter, and the FTSE rising 5% yesterday off the back of people buying bargain bank shares. Man Group and HSBC were amongst the biggest gainers, the latter jumping 14%, while Barclays managed to fend off speculation about it having to sign up to the government’s asset insurance program and rose 9%. US hedge fund Harbinger Capital must be wondering whether it picked exactly the wrong moment to go short on HSBC, as it revealed yesterday. But with markets this volatile, short-selling won’t end any time soon, and just wait til that inevitable Barclays announcement - the world will come crashing down once more, and hedge funds will get shorty accordingly.

Posted by Ben Beaumont-Thomas in Hot Money | March 11, 2009 1:22PM |