We have reported previously on the FSA's temporary ban on short selling of stocks in the UK financial sector, and the disclosure requirements that applied to existing short positions (click here to see our most recent post).

The FSA has now published a discussion paper (DP 09/1) setting out analysis and conclusions from a comprehensive review of short selling. The paper repeats the FSA's view that short selling is normally a legitimate trading activity that tends to enhance price liquidity and efficiency, although it notes that short selling can be used to commit market abuse and can lead to disorderly markets.

The paper considers a number of potential restrictions on short selling including a blanket ban, bans restricted to "naked" short selling (where the short seller has not covered his position in advance by borrowing securities), "circuit breakers" (which suspend trading of a company's stocks where there is an abnormal rise or fall in a share price) and "tick rules" (which prevent short selling where the last transaction in a company's stocks was at a lower price than the preceding transaction). The FSA has concluded that none of the restrictions represent proportionate responses to the day-to-day risks of short selling, but reserves the right to intervene on an emergency basis if market conditions require it.

The paper proposes a tighter disclosure regime than the temporary regime: a net short position which represents an economic interest of 0.5% of the issued capital of any company must be disclosed (previously the disclosure obligations applied to positions in companies in the financial sector only, although the threshold was lower, at 0.25%). Once disclosed, additional disclosures are required if the short position crosses the 0.5% threshold as a result of a decrease in the net short position or crosses any 0.1% threshold over 0.5%, whether as a result of an increase or a decrease in the position. The existing rules on disclosure of short positions during a rights issue will continue to apply.

The FSA has invited comments on the discussion paper, which can be submitted in electronic form or on paper, to reach the FSA by 8 May 2009.

Links to the discussion paper and the response form can be found by clicking here.