Short selling regulation

The short selling regulation is a regulation of the European Union (EU) No 236/2012 of 14 March 2012 on short selling and certain aspects of credit default swaps.

The regulation requires holders of net short positions to make notifications once certain criteria have been met. Short selling options are restricted and competent authorities are given powers to suspend or restrict short selling of such transactions under certain circumstances.

The Regulation is aimed to achieve the following:

  • To increase the transparency of short positions held by investors in certain financial instruments,

  • to mitigate settlement risk and other risks linked with uncovered or naked short selling,

  • to mitigate risks in sovereign debt markets posed by uncovered (naked) Credit Default Swaps (CDS) positions,

  • ensuring that the competent authorities have clear powers to intervene in exceptional situations which may increase systemic risks and have a negative impact on financial stability,

  • ensuring co-ordination between Member States and the European Securities and Markets Authority (ESMA) in exceptional situations.

Implementation of regulation

The regulation was implemented into Icelandic law with Act no. 55/2017. The short-selling regulation consists of Regulation (EU) no. 236/2012, as well as the Implementing Regulations and Delegated Regulations that implement the so-called technical standards.

Notification of net short positions and uncovered positions in credit default swaps (CDS)

According to the regulation, individuals and legal entities are required to report net short positions in shares and sovereign debt instruments to the competent authorities as soon as they go above or below a certain level. It is also necessary in some cases to report exposure to uncovered sovereign credit default swaps (CDS).


Net short positions in shares

A notification must be made to the competent authorities when a net short position in shares exceeds or falls below the limit of 0.2% of the issued share capital of the company that has had its shares admitted to trading on a regulated market or MTF. In addition a notification must be made every time a net short position is increased by 0.1% in excess of the aforementioned 0.2% limit. Notification must be made public if the net short position in shares exceeds 0.5% of the issued share capital of a company and for each 0.1% above that. Notifications must be made privately or in public when a net short position falls below the aforementioned limits.


Net short positions in sovereign debt instruments

A notification must be made to the competent authorities when a net short position in sovereign debt instruments exceeds or falls below certain limits. Where the total amount of outstanding debt of a state is in the range of 0 to 500 billion euros, the notification limit is 0.1%. Where the total amount of outstanding debt of a state is over 500 billion euros or where there is a market with futures for the issued sovereign debt instruments of that State, and the market is considered liquid, the notification limit is 0.5%. A notification must be made each time the net short position is increased by 0.05% above the 0.1% level and when the net short position is increased by 0.25% above the 0.5% level.

ESMA has published a list of the different thresholds for each Member State in these instruments.


Positions in uncovered sovereign credit default swaps

According to the Regulation, uncovered sovereign credit default swaps are banned. Under certain circumstances, the competent authorities may lift this ban and authorise uncovered positions. When such an exemption is granted, a notification of the uncovered position should be made by the sovereign credit default swap holders in accordance with the notification requirements for sovereign debt instruments.

Restrictions on uncovered short sales


Short selling of shares and sovereign debt instruments

According to the provisions of the short selling regulation, an uncovered short selling of shares and sovereign debt instruments is banned. When entering into a short sale of the above financial instruments, the investor should have the financial instruments available, or be ready to take appropriate measures to ensure that the financial instruments will be available on the agreed settlement date of the transaction. The requirements can be met in three ways:

  • by borrowing the shares or the sovereign debt instruments, or making alternative provisions resulting in a similar legal effect,

  • by entering into an agreement to borrow the share or the sovereign debt or having another absolutely enforceable claim under contract or property law to be transferred ownership of a corresponding number of securities of the same class so that settlement can be effected when it is due,

  • having an arrangement with a third party under which that third party has confirmed that the share has been located and has taken measures vis-á-vis third parties necessary for the natural or legal person to have a reasonable expectation that settlement can be effected when it is due.

These restrictions do not apply to the short-selling of sovereign debt instruments if the transaction serves to hedge a long position in debt instruments of an issuer, the pricing of which has a high correlation with the pricing of the given sovereign debt.

Sovereign credit default swaps

Parties may not enter into sovereign credit default swap transactions if that transaction leads to an uncovered position in a sovereign credit default swap.

An uncovered position in a sovereign credit default swap occurs where the sovereign credit default swap does not serve to hedge against:

  • the risk of default of the issuer of a sovereign debt instrument in which the party holds a long position,

  • the risk of a decline in the value of the sovereign debt instrument in which the party holds a long position,

  • the risk of a negative change in the value of the relevant party‘s assets and obligations which are correlated to the value of the sovereign debt.

A competent authority may temporarily suspend restrictions in uncovered sovereign credit default swaps given that its sovereign debt market is not functioning properly and that such restrictions might have a negative impact on the sovereign credit default swap market.

Buy-in procedures

The regulation requires that a central counterparty in a Member State that provides clearing services for shares shall ensure that procedures are in place, which are automatically triggered for the buy-in of shares to ensure delivery for settlement, where a natural or legal person who sells shares is not able to deliver the shares for settlement within four business days after the day on which settlement is due.

Where the buy-in of the shares for delivery is not possible, an amount is paid to the buyer based on the value of the shares to be delivered at the delivery date plus an amount for losses incurred by the buyer as a result of the settlement failure. The seller of the shares who fails to settle bears liability and must reimburse the central counterparty all amounts paid.

Exemption for market making activities and primary market operations

Market makers and authorised primary dealers dealing on own account are exempt from the reporting obligation and the ban on uncovered short position in shares, sovereign debt and the ban from having an uncovered short position in sovereign credit default swaps.

If a market maker or an authorised primary dealer has an uncovered short position in sovereign credit default swaps and they go over the limits that are set for that type of position, they need to report them in accordance with the requirements set forth in the regulation.

These exemptions shall not apply automatically and are not without restrictions. They are contingent on the relevant party being defined as a market maker or authorised primary dealer and they are limited to certain financial instruments. If a party wishes to avail of these exemptions, the party concerned must notify the competent authority no less than 30 calendar days before the party intends to use the exemption. This is not the issuance of a licence but merely a notification that the relevant party intends to avail of the exemption.The competent authority may prohibit the use of the exemption if it considers that the relevant party does not satisfy all the conditions of the exemption. The competent authority is also free to halt the use of the exemptions at any time if it considers that the relevant party does not meet all the required conditions.

Halting or restriction of short selling under exceptional circumstances

Under exceptional circumstances in which financial stability or market confidence is threatened, the competent authority can step in and halt or limit short selling of financial instruments and sovereign credit default swaps. Under these circumstances the competent authority may:

  • Require natural or legal persons who have net short positions in relation to a specific financial instrument or class of financial instruments to notify it or to disclose to the public details of the position when the position reaches or falls below a notification threshold fixed by the competent authority,

  • require natural or legal persons engaged in the lending of a specific financial instrument or class of financial instruments to notify any significant change in the fees requested for such lending,

  • prohibit or impose conditions relating to natural or legal persons entering into a short-selling or comparable transaction,

  • restrict the ability of natural or legal persons to enter into sovereign credit default swap transactions or limit the value of sovereign credit default swap positions which those persons are permitted to enter into.

The competent authority also has the power to restrict the short selling of financial instruments temporarily in the case of a significant fall in price. The decrease is calculated in relation to the closing price on the previous trading day. The fall in value shall be 10% or more in the case of liquid shares. This measure shall apply for a period not exceeding the end of the trading day following the trading day on which the fall in price occurs. The competent authority may, however, extend the measure under certain circumstances. That extension shall not exceed 2 trading days after the end of the second trading day.

Powers of ESMA

ESMA and the EFTA Surveillance Authority shall perform a facilitation and coordination role in relation to measures taken by the competent authorities. ESMA shall ensure that the powers and actions pursuant to the provisions of the regulation are applied in a consistent manner between countries, particularly when market intervention powers are exercised.

ESMA and the EFTA Surveillance Authority may also intervene and halt or restrict short-selling or similar transactions in exceptional circumstances.

Practical Information

Before market makers contact the Central Bank of Iceland for further information they are encouraged to study the information that can be found on ESMA‘s website.

Any queries regarding short selling regulations shall be emailed to skortsala@sedlabanki.is.

The short selling regulation has four technical standards, Implementing Regulation (EU) 827/2012 and delegated regulations (EU). 826/2012, (EU) 918/2012 and (EU) 919/2012. The technical standards provide more detail on the implementation of the provisions of the short selling regulation.

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