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Short Selling Restrictions A Great Indicator of Imminent Stock Market Crashes

Stock-Markets / Financial Crash Feb 27, 2010 - 07:05 AM GMT

By: Mike_Shedlock

Stock-Markets

Best Financial Markets Analysis ArticleInquiring minds are investigating Fannie Mae's stunning $72 billion loss for 2009 as well as new short selling curbs. The two are actually related. Let's take a look.


Please consider Fannie Posts $72 Billion Loss for '09

Fannie Mae reported a staggering $72 billion net loss for 2009, underscoring the challenges that still face the nation's largest mortgage financier and offering more grim news for taxpayers who may ultimately pick up the bill.

The Washington-based company posted a $15.2 billion fourth-quarter loss and said it asked the U.S. Treasury for another $15.3 billion to stay afloat, bringing its total bailout tab past $76 billion. The quarterly results were an improvement from the year-ago period, when Fannie reported a $25.2 billion loss, but the annual loss surpassed the year-earlier loss of $58.7 billion.

While some analysts warn that efforts to modify loans are simply postponing foreclosures and delaying losses, Fannie Chief Executive Michael Williams said the company remained committed to preventing foreclosures. "Our overriding objective is keeping people in their homes whenever possible," he said in a statement.

The government took over Fannie and Freddie nearly 18 months ago as rising loan defaults burned big holes in the companies' balance sheets. The government has agreed to absorb unlimited losses for the next three years and up to $400 billion after that. So far, the companies have taken a combined $127 billion in Treasury support, making this bailout one of the most expensive from the financial crisis.

Short Selling Limits Yet Again

Proving that the SEC has learned nothing from history (I have a nice Fannie Mae example to prove it), the S.E.C. Moves to Put Limits on Short-Selling

The Securities and Exchange Commission voted on Wednesday to limit short-selling of stocks that are falling rapidly in price, The New York Times’s Floyd Norris reports. The rule was adopted on a 3-to-2 vote, with the two Republican members saying that no case had been made to justify any further action against short-selling.

The limits would apply to any stock whose price has fallen at least 10 percent during a day’s session. After that, short-selling would still be legal but not unless the sale was at a price higher than the best bid price then available.

The S.E.C. chairwoman, Mary L. Schapiro, said the rule would force short sellers to stand in the back of the line, unable to sell shares until all actual owners who wanted to sell had been able to do so.

“The reason this rule makes sense is because it recognizes that short-selling can potentially have both a beneficial and a harmful impact on the market,” she said in a statement.

The rule makes no more sense than putting buy restrictions on stocks that advance 10 percent. How many variations of this silly rule are we going to see anyway?

In July 2008, they put short selling restrictions on Fannie Mae and Freddie Mac. How well did that work out? Inquiring minds can tune into this real time play by play call.

Flashback Tuesday, July 15, 2008: SEC Panic - Shorting Curbs Placed on GSE Stocks

The panic at the Fed, the SEC, and the Treasury department continues. In an emergency action the SEC Curbs Shorting of GSE Stocks, Considers Limits for Wider Market.

.....

Shorting Curbs Can't Help

Shorting curbs cannot possibly help when the problem is solvency not liquidity. In spite of the announcement, shares of Fannie and Freddie are down another 19% each as of 1:40 PM Central.

If the SEC intended to cause a short covering rally in the GSEs, it sure failed miserably. Indeed, the market response shows just how futile the actions of the SEC, the treasury department, and the Fed are.

When that action failed, the SEC restricted more financial short selling.

Flashback Wednesday, July 16, 2008: SEC Restricts Shorting 19 Financial Stocks

Big brother has now decided to step in and force the price of all financial stocks up with this SEC short sale order.

So now the SEC is issuing short sale restrictions on financials because Bernanke says it's important for them to rise.

I have news for Bernanke and the SEC. This won't work. China had short sale restrictions on and it did not stop the Shanghai index from falling over 50%. Insolvency cannot be cured by short sale restrictions and many of those companies are insolvent.

All these short sale restrictions are going to do is create a vacuum. Once the shorts are driven out these shares will plunge. And who wants to buy a bond or provide capital knowing or even thinking share prices were artificially inflated.

That action finally triggered a short squeeze. It continued for a week or so. I commented on it a couple days later.

Flashback Friday, July 18, 2008: Short Squeeze In Financials Continues

Fannie Mae is up another 25% today to $13.66 in the wake of Selective Enforcement of Regulation SHO and Bernanke's statement: "It's important for Fannie Mae and Freddie Mac bonds and stocks to rise so they can keep raising capital and aid the mortgage market."

This move in financials is going to fail spectacularly once the panic buying ends, but for now the bulls are having a bit of fun.

Wow. I forgot that utterly stupid comment by Bernanke "It's important for Fannie Mae and Freddie Mac bonds and stocks to rise so they can keep raising capital and aid the mortgage market."

Fannie Mae never did raise any more capital. That short squeeze was the beginning of a violent end. Taxpayers have now bailed out Fannie Mae and Freddie Mac to the tune of $127 billion dollars. Recently Congress upped the taxpayer liability to infinity. Taxpayers are now on the hook for every penny of future losses.

How well did those short selling curbs work? History will be the judge.

As I said on July 16, 2008 ....

All these short sale restrictions are going to do is create a vacuum. Once the shorts are driven out these shares will plunge.

Interestingly, my friend "HB" pinged me earlier today with a very similar, but even more ominous comment.

"Short selling restrictions are a great indicator of imminent market crashes. The biggest market declines in history all happened shortly after short selling restrictions were introduced."

Don't count on that happening again, but if it does, you have fair warning.

By Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

Click Here To Scroll Thru My Recent Post List

Mike Shedlock / Mish is a registered investment advisor representative for SitkaPacific Capital Management . Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction.

Visit Sitka Pacific's Account Management Page to learn more about wealth management and capital preservation strategies of Sitka Pacific.

I do weekly podcasts every Thursday on HoweStreet and a brief 7 minute segment on Saturday on CKNW AM 980 in Vancouver.

When not writing about stocks or the economy I spends a great deal of time on photography and in the garden. I have over 80 magazine and book cover credits. Some of my Wisconsin and gardening images can be seen at MichaelShedlock.com .

© 2010 Mike Shedlock, All Rights Reserved.


© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Comments

SC
28 Feb 10, 05:43
Short Selling Restrictions A Great Indicator of Imminent Stock Market Crashes

They seem not to understand that limiting short selling will not keep a stock price up nor even stop a price going down too quickly. For a price to go down all you need is a fall off in buying support and of course when shorters are in the market to cover they actually provide the very buying that put's in at least a temporary floor on price.

Clueless ,all they are doing is guaranteeing a reduction in liquidity which if anything would actually exacerbate a stock price plummet as sellers failed to find buyers in the market.Anotehr fine examle of bureaucrats meddling with something they do not understand.


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