- Spain has banned short-selling for a month. IBEX 35 had fallen by close to 40% in under 30 days.
- Research proves that banning shorting does not prevent stock market slides.
- President Donald Trump would be severely mistaken if he were to follow Spain’s example.
Short sellers in Spain will have to wait a month before they can resume shorting. Spain’s securities regulator, Comisión Nacional del Mercado de Valores (CNMV), has banned the practice. This move is to stem the “extreme volatility” following the coronavirus pandemic.
Critics of short-selling argue that the practice exacerbates market moves in times of panic selling.
The Spanish ban on short-selling will start Tuesday and is extendable. Spain’s leading index IBEX 35 has fallen by nearly 40% since February 19th when coronavirus cases in the country reached worrisome levels.
Currently, coronavirus cases in Spain have exceeded 11,000. The death toll is approaching 500.
Blood on the Streets Rains on Trump’s Parade
In an election year, Spain’s move might be tempting for Trump, who has banked his re-election hopes on a strong economy.
While the stock market is not the economy, its performance is strongly correlated to the health of the economy. And a stock market crash negatively impacts retirement savings accounts such as the 401(k).
Furthermore, Trump has made it a point of cheering stock market rallies ever since his inauguration.
With the stock market crash now threatening to wipe out all the gains recorded since January 20th, 2017, Trump will lose a significant campaign talking point if the southward movement in equities persists.
Why a Ban on Shorting Doesn’t Work
Considering this weekend’s interest rate cuts by the Fed have failed to stem the stock market’s free fall, it would be tempting for Trump to try Spain’s strategy. But it’s not likely to amount to much.
A ban on short-selling only has symbolic consequences rather than any meaningful impact. It does not solve the underlying problem. The coronavirus will ravage the economy as people stay home, and economic activity weakens considerably.
The Cons Outweigh the Pros of Shorting Bans
A 2009 study found that the U.S. Securities and Exchange Commission’s decision in September 2008 to ban shorting in about 1000 stocks temporarily failed.
The researchers wrote:
In fact, these stocks consistently underperform during the whole period the ban is in effect. This suggests that the shorting ban did not provide much of an artificial boost in prices.
Proponents of short-selling, on the other hand, have argued that the practice does have advantages.
In 2010, the Committee of European Securities Regulators said that the practice contributes to “efficient price discovery, increases market liquidity,” “facilitates hedging and other risk management activities,” and will “possibly help mitigate market bubbles.”
Trump will be tempted to pull out all the stops to save his campaign, but he would be wise to leave the stock market alone.
Disclaimer: The opinions in this article do not necessarily reflect the views of CCN.com.