Terry Murden's Business Blog: Watchdog finds a short solution by lifting the ban

Published on Wednesday 7 January 2009 10:09

IT looks as if the Financial Services Authority has managed to find a compromise on the short-selling issue that should help settle a few nerves.

While the politicians remain the most vocal supporters of retaining the ban on shorting financial stocks, those who are closer to the money markets are broadly in favour of lifting the prohibition, together with the requirement that participants continue with full disclosure.

This should help keep the hedge funds on their toes and provide the rest of us with some assurance that they are being watched. The FSA has also indicated that the ban could be re-introduced if it sees fit.

But lifting the ban is the right thing to do as it signals to the market that some semblance of normality is returning; or at least paves the way for such an eventuality.

Short selling was demonised last year, with some of its fiercest critics pointing the finger of blame on its practitioners for the collapse of the banks. While they may have played their part, the evidence is much less convincing. Even after the ban was introduced in September, the value of bank stocks continued their decline. Though some of the short selling undoubtedly included the spivs and speculators made famous by Scotland's first minister Alex Salmond, it may also be argued that some of them were ahead of the game in understanding the mess about to hit the banking sector.

In a much wider context, the short sellers are a vital part of the market, not least in helping to provide liquidity that may now return.

Of course, the big fear among those supporting a continuation of the ban is that lifting it will spark a return to the volatility we had last year. One of those who wanted the ban to remain was David Cumming, head of UK equities at Standard Life, who said in Scotland on Sunday before Christmas that there was a risk of more turmoil if the ban was lifted.

Whether he proves to be right will be shown in the next few weeks, though much will also depend on what happens in the wider economy. The worst of the banking crisis may be over, but the results season will soon be upon us with heavy losses expected. That is already factored into the price, but the markets do not want any further surprises.

Terry Murden is Business and City Editor of Scotland on Sunday