No More Short Selling... Since it Worked So Well Before

It’s illegal to get naked in Germany…at least in your shorts…for now.

As of midnight last night, “naked short” positions – in which the seller doesn’t own the underlying security – in Germany’s 10 largest banks, European government bonds and sovereign credit default swaps have been banned.

This is an egregious attempt at a coverup. Something we’re getting used to here in Beijing.

The US tried it first in 2008. Greece tried it too, a year and a half later. But we know from those experiences, the Germans have, in fact, done nothing to protect their banks and bonds.

Greek and American shares plunged after their respective bans.

We’re sure the Bundestag meant well. But here’s what they’ve really done:

  • Highlighted the 10 German stocks most likely to fail
  • Changed the rules suddenly, without warning
  • Alienated investors who have otherwise been willing to go along to get along.

And…confirmed most subscribers’ suspicion that euro bonds are vulnerable

“Here we go again,” our sell-side strategist Dan Amoss says with glee, “More ad hoc policy announcements from politicians who don’t like the consequences of their own actions. Have European politicians learned nothing from 2008?

“Restricting honest short selling (i.e., brokers locate and borrow the reference security that’s sold short in a reasonable time frame) sucks liquidity out of markets. After the US ban on selling short financial stocks in September 2008, we had a brief rally followed by a breathtaking free fall – mostly because the liquidity provided by ‘evil speculators’ disappeared.

“Maybe rampant ‘naked CDS’ speculation is, in fact, driving European sovereign bonds down to ridiculously low prices. I don’t know. But what I do know is that if prices were truly lower than the fundamentals justified, then value-seeking buyers would enter the market, and the short sellers would cover their positions.

“The bottom line is that if politicians don’t like market prices for their sovereign bonds, then they should take the action necessary to restore investor confidence and the liquidity that goes along with that confidence.”

Addison Wiggin
for The Daily Reckoning