On 11 July 2023, HM Treasury published the Government Response on its Call for Evidence on the Short Selling Regulation (“SSR”), published last December. Also announced was a Consultation on the Short Selling Regulation for Sovereign Debt and Credit Default Swaps (“CDS”). Taken together, these proposals amount to a significant reform of the UK short selling regime.
What are the main changes?
There are three headline proposals:
- Replacing the public disclosure of short positions with an aggregate disclosure regime – in other words, individual short sellers (such as investment managers) will no longer be identified. Instead, the FCA will be responsible for publishing a single percentage figure for the total short positions in each issuer.
- Raising the threshold for the notification of short positions in shares traded on UK venues from 0.1% to 0.2%. This is a restoration of the position prior to the onset of the Covid pandemic.
- Abolishing the entire short selling regime for UK sovereign debt and sovereign credit default swaps, both in terms of the notification of short positions and the prohibition on uncovered short positions.
Why is this happening now?
The Response and Consultation Paper are part of the package of reforms announced by Chancellor Jeremy Hunt in his Mansion House speech on 10 July 2023. On the same day, the Treasury published Building a Smarter Financial Services Regulatory Framework for the UK, setting out its planned delivery of regulatory reform, together with further announcements on the Investment Research Review and the UK Securitisation Regulation.
It is no secret that reform of the SSR has been high on the UK government’s agenda for some time. Notwithstanding the Response’s observation that views on the importance of short selling to healthy markets vary, it has long been viewed by the industry as onerous and with dubious foundation in academic research. Public disclosure has also been blamed for “copycat” strategies and for exacerbating short squeezes. The reforms go a long way in addressing these concerns.
Any other points of interest in the Response?
Apart from the headline announcements, the Treasury also provided feedback on other aspects of SSR that can be expected to find their way into the final revised rules:
- The prohibition on uncovered (“naked”) short positions in shares will continue.
- Operational difficulties in manually inputting short position on the FCA portal were noted, as was the lack of a “golden source” for total issued share capital – both indicating possible areas of reform.
- The market maker exemption is seen as an essential feature of SSR and will be carried forward.
- The FCA’s emergency powers in SSR will be retained, but they will be required to publicly set out its approach to using these.
- Problems associated with the current “negative” list of shares exempted from UK SSR have been noted and the idea of a “positive” list of in-scope shares will be explored.
Why is there a separate Consultation on the SSR for sovereign debt and CDS?
The Treasury has clearly decided that the regime for UK government bonds is a leftover from onshoring the EU SSR, post-Brexit, and is ripe for abolition. It cites a number of factors in supporting this view:
- Global bodies such as the International Organisation of Securities Commissions (“IOSCO”) support international standards for short selling of shares but not those for sovereign debt, and this is reflected in the position of other major jurisdictions such as the US and Singapore.
- The EU SSR was drafted during the European debt crisis and its implementation was originally opposed by the UK.
- Studies by both the International Monetary Fund and ESMA since the introduction of the regime for sovereign debt and CDS requirement found potential negative impacts on liquidity.
- The huge size of the UK government bond market means that the liquidity and hence settlement concerns that support the argument for prohibiting uncovered selling in shares do not apply.
The only aspect of UK sovereign debt and CDS SSR that seems likely to survive are the FCA’s emergency intervention powers. Even here, the Consultation notes the very high bar that the FCA has set for imposing short selling bans and expects the retention of these powers to be relevant only in very exceptional circumstances.
What happens next?
The Treasury announced that it will empower the FCA to create and consult on the detailed rules of the revised SSR for shares through a draft Statutory Instrument (“SI”) to be published before the end of 2023. It says that it intends to seek technical feedback on the draft SI “where appropriate” - suggesting a limited opportunity to propose drafting changes at this stage. There will also need to be an FCA consultation on the proposed new regime in due course.
The consultation period for removing sovereign debt SSR from the statute book closes on 7 August 2023. Treasury and FCA work on the reform of both parts of SSR is expected to progress in tandem thereafter.