The SEC's Naked Shorting Order Hurt Bank Stocks

Yup, to no great surprise (not to me, anyway), a study of the SEC's naked shorting publicity stunt has found that it actually hurt trading in the 19 bank stocks it was supposed to help.

A link to the study can be found here, and was conducted by a professor at a business school in Lausanne, Switzerland. Thomas Kirchner comments that the study "shows that by some measures, it even had a detrimental effect on the market of the very stocks that the SEC sought to protect."

No surprise here, because the SEC issued the order (as it admits) not because of actual naked shorting, but as a "preventive" measure. In other words, because it had nothing better to do, and was seeking to divert attention from its lousy performance in handling the credit crunch.

Bris’ study shows that as is often the case when the government gets involved in the markets, the law of unintended consequences took over. Market quality declined in the 19 stocks, which Bris shows through a number of metrics.

Also, Kirchner points out:

• The performance of the stocks on the list has been worse than that of comparable firms, but not because of short selling. Weekly short selling activity has little effect on weekly returns. “After controlling for short sales, the performance of [these] stocks is still worse than for comparable firms.” The group underperformed its peers by 10 percent.
• Shorting activity before the SEC emergency order was highest for firms that were issuing convertible bonds. The implication is that much shorting is done by convertible bond arbitrage funds rather than vicious short sellers who try to destroy companies.

If the SEC was a responsible regulator, and not weak-kneed and politically driven, the emergency order would never have been issued in the first place. So don't expect the SEC to do anything in response to actual data showing what a bad idea it was.

© 2008 Gary Weiss. All rights reserved.