Helen Coonan (NSW, Liberal Party, Manager of Opposition Business in the Senate) Share this | Hansard source

I will speak briefly on the Corporations Amendment (Short Selling) Bill 2008. At a time of uncertainty and volatility in global financial markets, it is well recognised that governments around the world need to reassess and improve the regulation of corporate and financial markets. It is important that the government’s response to the global financial crisis helps to improve the situation. It is important that the government gets it right. Unfortunately, we do not think the government has handled the financial crisis all that well. The Rudd Labor government is the only major Western government whose actions have actually made the impact of the financial crisis worse.

The coalition supports legislation that improves investor and business confidence in Australia’s regulatory framework for the financial markets. Elements of this bill, in our view, do not quite do this, and I will speak a little bit about that later. Whilst the coalition supports the intentions of this bill, it of course has some gaps, and I will refer to that shortly. The Corporations Amendment (Short Selling) Bill 2008 has three schedules. Schedule 1 of the bill clarifies ASIC’s powers in relation to short selling, and it has coalition support. Schedule 2 of the bill bans naked short selling, and it has coalition support. Schedule 3 of the bill deals with the disclosure of covered short sales and, whilst we have some concerns, which I will outline, we will be supporting schedule 3.

I will now address in a little more detail the individual schedules. According to the explanatory memorandum, the bill aims to clarifies ASIC’s powers in relation to short selling, prohibit naked short selling and provide better disclosure of covered short selling. Short selling is an equities trading technique whereby a trader aims to trade in a manner that will allow them to profit from a falling market. Effectively, a short sale, or ‘going short’, involves a trader selling a stock that he or she does not own with the hope of buying it back at a lower price. The profit comes from the difference between the proceeds of the sale at the higher price and the cost of the acquisition at the lower price.

Short selling can be described as being either naked or covered. Naked short selling occurs when a trader sells a share that he or she does not have in their possession. This can occur because there is a three-day settlement period between when the sale is made and when the share ownership has to be settled. Typically, a trader who engages in naked shorting would seek to sell a share that he or she does not own at a higher price and then use the three-day settlement period to acquire the same share, up to three days later, at a lower price. Effectively, naked short selling means that the trader is selling a share that he or she has not yet acquired.

Covered short selling occurs when a trader seeks to cover a short sale by first borrowing the stock, usually from a super fund or insurance company. When engaging in covered shorting, the trader actually has possession of the share that he or she wishes to short with because of the borrowing arrangement. The trader then sells the borrowed share, later purchasing it back at a lower price to return to the lender.

Why then is the Senate being asked to clarify ASIC’s powers, ban naked short selling and better disclose covered short selling? As short selling involves selling into a falling market, the effect of flooding the market with yet more shares for sale causes share prices to drop even lower. Short selling became somewhat of a bogey earlier this year during the share market decline in January and February. Whilst the merits of short selling is a topical argument among financial professionals, the issue for the government is more about the effective regulation and disclosure of short selling.

Schedule 1 of this bill clarifies ASIC’s powers in relation to short selling. Previously, there have been questions as to whether ASIC or the ASX should regulate short selling. In these uncertain times there does need to be certainty and clarity as to the strength and effectiveness of our regulatory framework. Under schedule 1, ASIC is given the authority to regulate all aspects of short selling. Any confusion over which entity has regulatory oversight for short selling will now be removed, and we support this measure.

Schedule 2 of the bill bans naked short selling outright. However, under schedule 2, ASIC is left with a regulatory carve-out power to allow exemptions to this ban on naked short selling where it sees fit. As naked short selling represents less than two per cent of all sales conducted in Australia, this ban is unlikely to have a major effect on the operation of the financial markets. The first two schedules of this bill are clearly positive measures that will restore some confidence in our regulatory framework. Whilst ASIC and the ASX have already been able to ban and regulate short selling through issuing orders, this legislation will confirm ASIC’s authority.

Schedule 3, however, is a bit more problematic, and we think that is the case on a number of fronts. The coalition strongly supports the concept of an appropriate disclosure regime for short selling, which would lead to enhanced market integrity. We support measures that provide greater transparency and enhanced disclosure. The strength and integrity of the Australian financial markets are of great importance not only to so-called mum and dad investors but also to institutional investors and of course superannuation funds. It is of the utmost importance that there is in place a disclosure regime that provides the basis for a strong and honest marketplace. However, schedule 3 as it stands does not in our view provide certainty, nor does it remove ambiguity. I just want to outline some of our concerns. Although we do not seek to excise schedule 3 from this bill, we do believe that the minister and Treasury need to do some work to sort out what we perceive as the gaps. There are some primary questions which remain unanswered and gaps throughout the schedule which we believe we should bring to the attention of the Senate to look at in this debate. Perhaps the minister might address them in his remarks. We think that, without clarity, they will only provide distortion and uncertainty to an already volatile market.

There are some concerns, as I said, and I will just outline a few of them. We have no indication of whether covered short sales data will be released on a fortnightly basis or a daily basis, amongst other data release models. We know that most industry groups are in favour of the US model where institutional investment managers, super funds, hedge funds and the like report short sales, which are kept confidential for two weeks before being made public. Any such model allows for the protection of both strategic and proprietary trading positions involving short sales as positions are kept confidential for what might be regarded as an appropriate amount of time. The next-day release of data could encourage free riding and may leave stocks susceptible to predatory behaviour. The key point is that certainty is not provided here and we must know how regularly positions will be disclosed and what kind of time lag will exist for disclosure.

Key industry groups would prefer that all covered stock positions be disclosed to the ASX, as market operator, on a timely basis. The disclosure of covered short sales to other brokers—as proposed in option 2 of the government’s exposure draft—where positions are disclosed to the ASX and not to other brokers, could undermine commercial advantages and cause further market deterioration. There are many concerns that option 2 of the exposure draft, where brokers become aware of all short positions, would expose commercially sensitive and active investment research to other participants, and of course this could distort the market and, as I said, encourage free riding. It has been suggested to us that a system flag, formerly used in CHESS by the ASX for stamp duty, could be used to capture or stop lending transactions. This would move the reporting burden from the broker to the market operator who already appears to have an automated system. This system could be used to capture stock lending and therefore enhance the disclosure of short sales.

We know the government’s preferred option 2 of the exposure draft leaves disclosure to the broker. Schedule 3 of the bill suggests, although without certainty, that the financial services licensee, who could actually be an individual broker or a firm, is responsible for disclosing covered short sales. We think more certainty must be provided here. Who will the disclosure requirements actually fall to—the broker, the individual, the fund or the market operator? I would imagine that covered short sales positions would be disclosed on a stock by stock basis—that seems to be one of the few assumptions vested in what otherwise is, I think, an unclear schedule. But the significant question remains: what form of presentation would be required? Will stock tallies be presented on an aggregate total or will it be a daily total?

If stock lending becomes the chosen transaction measure instead of finalised covered short sales, will the total amount of stock lent be required to be disclosed or will it be a daily transaction balance of lending? The same questions apply to finalised covered short sales. Either way the implications for the market are considerable. The way in which these disclosure requirements will operate will change the behaviour of the Australian market permanently, and certainty is of the utmost importance, particularly in what it is no doubt agreed is a somewhat volatile environment.

The schedule also does not stipulate who exactly has to report and when. This would be problematic as there are no threshold indications. As many short sales are conducted by very small operators it is likely that undue administrative costs would eventuate for small market players if they were part of the regime. A substantial holding threshold has been argued to be required by industry and market participants. Industry participants argued that a disclosure exemption for positions accounting for, say, 0.25 per cent or less of the total percentage of the shares could be helpful in exempting small participants from undue administrative costs. Based on this assumption the establishment of an approved list of participants who are permitted to short sell and disclose their positions would create a further level of transparency and a seamless administrative regime.

As you can see, Mr Acting Deputy President, there are some unanswered questions as to how this schedule will operate in a technical and practical sense. Obviously the aim here is to provide certainty to the market. No doubt this will be something that will need to be addressed. Through our discussions with industry and other stakeholders, together with the Senate economics committee inquiry, it has been abundantly clear that there is a concern with the way in which schedule 3 has been drafted and a compelling need to fill in the gaps.

I will just make one more observation regarding the way in which this bill has been presented and the supposed urgency of it being passed. It was looked at, of course, in the Scrutiny of Bills Committee and the latest Alert Digest pointed out that schedule 3 of the bill is to commence on proclamation. We do not know when that will be but, in any event, it will be within 12 months of assent. The explanatory memorandum gives no reason at all in explaining the period of delay of commencement being any longer than six months and the committee has sought advice as to the reason for the delay.

The minister has talked a lot about the need for urgency. We understand that there is a requirement that as much certainty as possible is provided to the market but it is difficult to see, with many gaps in schedule 3, where the case for urgency is when the schedule as it stands does not provide the very certainty being sought for it. So, whilst we are not moving to excise the schedule, we do think it is appropriate to watch closely to see how the government will work out the detail that we consider should have been available at the time we are considering the bill. Apart from those remarks the opposition will support the bill.