France, Italy, Spain and Belgium have each imposed bans on short-selling to try to stop the plunge in value of European banks last week to their lowest in almost two-and-one-half years. Short sales are bets that a stock price will decline over time. Short-sellers sell borrowed shares, buy them back later at a lower price and then pocket the difference.
Although the European regulators recognize that short-selling can be a valid trading strategy, they are concerned that it has been improperly used in conjunction with false market rumors to cause a downward spiral in stock prices. In France, there has been much speculation that a deterioration in the country's creditworthiness would result in instability of its major banks. Authorities are concerned that such speculation could result in a self-fulfilling prophecy. As a result of this and other concerns, the European Securities and Markets Authority, which supervises European Union market policy, have imposed the short-selling bans to limit the possible benefits of spreading false rumors, achieve a regulatory level playing field and stabilize the financial markets.
The four countries followed in the footsteps of South Korea and Greece, which both enacted temporary bans on short sales a few days earlier. In France and Spain, the short-sale ban will last at least 15 days and will only apply to certain stocks in the financial sector. Belgium has banned short sales on four financial stocks for an undisclosed period, while it is unclear which stocks the Italian ban covers, or for how long it will be in place.
The European Union countries' current ban on short-selling is reminiscent of the SEC's temporary ban on short sales of 799 financial stocks during the 2008 financial crisis – a strategy that resulted in a brief rally but which ultimately was unable to prevent the plunge in U.S. markets. Only time will tell whether the European markets' volatility will be unaffected by the recent short-selling bans or whether these measures will produce the desired effect of helping to calm the roiling markets in Europe and throughout the world.