Chaos after Germany bans naked shorting

Steve Dinneen
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GERMANY sent shockwaves through the financial markets last night when it announced an immediate ban on “naked” short-selling effective from midnight last night.

The knee-jerk reaction to the sovereign debt crisis was immediately set upon by analysts who branded the panic move “desperate”.

It placed a ban on naked shorting of Eurozone sovereign bonds, as well as on 10 of its biggest financial institutions including Allianz, Commerzbank and Deutsche Bank, throwing markets into chaos.

Naked shorting is when a trader sells a financial instrument, such as a shares or bonds, that they have not yet borrowed.

The Dow collapsed 114.88 points in the wake of the announcement and the euro extended losses against the dollar to hit a four-year low of $1.22.

The move has also led to fears of a drop in funds for banks, which could result in a scramble for cash to unwind these short positions.

But a string of Eurozone nations are expected to follow suit with the ban within weeks.

Germany’s financial regulator Bafin blamed “exceptional volatility in debt securities issued by Eurozone countries” for the move. Speculators shorting Greek government bonds have been blamed for exacerbating its sovereign debt crisis.

The ban will run for almost a year, finally coming to an end on 31 March 2011.

German finance minister Wolfgang Schäuble broke the news following a meeting of finance ministers in Brussels, where a number of stringent proposals to crack down on the finance sector were discussed.

The ban attracted immediate criticism from analysts and traders for failing to prevent the very issue it is trying to address.

Analyst Win Thin, a senior currency strategist at Brown Brothers Harriman in New York, claimed the ban in its current format would be futile, noting it will not stop traders from shorting the bonds and shares using other European markets.

He said: “Given that this most recent leg of the crisis is centred on the peripheral Eurozone, we can’t see why the US or the UK would get involved. And given the global nature of the financial world, couldn’t a German investor simply use a US counterparty to get around this ban?”

The majority of credit-default swap trading takes place in New York and London.

Analysts at Bank of America Merrill Lynch issued a note titled “What’s Germany going to ban next? Rainy days, harsh words, the Macarena?”

Short-selling is when a trader borrows shares, sells them in the hope they will decrease in value and buys them back at the lower price. They then return them to the lender, pocketing the difference in price.

During the global financial crisis, the US Securities and Exchange Commission temporarily banned short-selling of financial shares in the wake of Lehman Brothers’ collapse.