By Paul Rickard

If you are wondering why the Australian share market has become so volatile, particularly within a single trading day where it seems to move around on almost nothing, one of the reasons is the rapid growth in short selling. Used by high-frequency traders and other professional investors, short-selling is selling something that they don’t already own.

It is the opposite of going long or buying something to make a profit. Whereas a trader or investor might buy a share in the hope of selling it at a higher price and making a profit, a trader going short first sells a share that he or she doesn’t own, with the aim of buying it back at a lower price in the future and thereby making a profit. To sell a share short, you need to be able to borrow the stock (usually from a fund manager), make the sale, buy back the stock, and return the shares to the lender. 

To see how this is growing, consider the chart below. This shows the short sale positions for our top 20 companies in 2015 as a percentage of their shares on issue. At the end of January, the average ASX top 20 company had 0.83% of their ordinary shares sold short. It has risen steadily since, and by 29 October, the average had climbed to 1.72%. Now 1.72% might not sound like a lot, but with the top 20 having a market capitalisation of $850 billion, this means that around $15 billion of shares in top 20 companies has been sold short, which is equivalent to three full days of ASX turnover.

A company like Woolworths, which is out of favour with so many investors, has 9.16% of its ordinary shares short sold - alone worth $2.8 billion!

And if you think short selling is confined to the top 20 stocks, it can have a more material influence on mid cap stocks. Table 1 shows the biggest 15 short positions in the market by the percentage of ordinary shares sold short. Metcash has 22.0% of its shares sold short, Myer is at 19.46% and JB Hi-Fi is at 12.5%. Each of the top 15 has more than 10.0% of their shares sold short. 

Table 1 - Top 15 Short Positions at 29 October 

(source: ASIC)

Taking Metcash as an example, one way to look at these numbers is to say that there are “’owners” for 122% of Metcash’s ordinary shares. No doubt, this has taken care of any excess demand and massively increased the pool of Metcash shares in “ready for sale” hands. At some stage, of course, the short sellers face the problem of buying back these shares.

Is short selling bad for markets and investors?

Short selling is not, in theory, bad for markets or investors. It arguably leads to an efficient market where price equilibrium is obtained more quickly. It means that there are buyers in the gloom - and booms don’t always turn into bubbles after an explosive top. In the government bond market, for example, short selling has been around for decades is very much “de rigueur”.

In the stock market, it is a little different. Some will argue that it is because shares are generally more volatile (and hence there may be times when short selling is not desirable), but it is also because the investors are more diverse.

Unlike the Australian Government bond market where the participants are professionals and have the ability to short sell if they so desire, the share market has a strong retail base. For all practicable purposes, retail investors cannot short sell. Many fund managers are also prohibited from engaging in short selling.

As short selling is not available to all, ASIC requires that the market be informed of short positions and accordingly, short sellers are obliged to report their positions each day. ASIC then aggregates and publishes the information, from which Table 1 was drawn.

ASIC reporting must be more timely

But there is a problem with this short position reporting. ASIC gives the short sellers 3 trading days to report their positions, with publication of the aggregated information not occurring until 4 trading days after the positions were sold short.

This means that the data you see in Table 1 (which ASIC published around midday on Wednesday) didn’t reflect the market’s position on Tuesday night, or Monday night, or last Friday - it’s positions from last Thursday night, 29th October. 4 days old!

So much does, and will happen, over 4 days. It is hard enough looking at the market over 10 minutes, let alone 4 days! 

There’s not a short seller who doesn’t know their positions on trade date, and while there may be the odd technical issue to overcome, there is no obvious reason why reporting should not occur on trade date, with publication the following day. 

Will timely reporting reduce short selling?

More timely reporting won’t hurt the short sellers, and also probably won’t reduce the incidence of short selling. I am not against short selling per se.

I am, however, a strong advocate of a level playing field.  If I am not allowed to short sell, then I want to know what the short sellers are doing - and I need this information to be timely and something that I can potentially use in my investment decision making. In 2015, 4 days after trade date is not good enough. 

Over to you, ASIC.