# ASIC to review stock 'loaning' racket



## moses (16 February 2008)

THE Australian Securities Exchange is demanding a review of stock trading rules amid evidence that hedge funds are "borrowing'' shares from superannuation funds to force down prices, a practice that is mauling retirement savings.

The call follows a volatile month on the Australian share market, in which fluctuations have been magnified by short trading, a controversial technique used by traders to make profits out of a falling market.

Traders, such as hedge funds that exist to exploit market anomalies and volatility, have been borrowing large parcels of stock, mainly from superannuation funds who together own hundreds of billions of dollars' worth of Australian shares.

The shares can be used to take long or short positions - betting shares will rise or fall - or to manipulate voting at listed companies' annual meetings.

The transactions are exempt from capital gains tax. Other countries allow stock lending but do not have the same generous tax exemptions available in Australia. Stock lending can not be traced and the ASX, which runs and regulates the Australian Stock Exchange and Sydney Futures Exchange, admits it has no idea what proportion of shares have been "lent'' to traders.

David Bryant, group executive of investments at Australian Unity, which has $6.4 billion in funds under management, likened the practice to leaving a car in a car park, which lends it to local hooligans who return it damaged. The owner is left with the mess.

"It really is that simple,'' he said. "And if you put margin lending into the mix the practice adds to margin calls.''

A fund that wants to engage in short selling borrows a share and then sells it in the hope of repaying the loan of the shares by buying back cheaper shares at a later date. The practice can put downward pressure on shares, triggering margin calls for investors who have borrowed to buy stock, and exacerbating volatility in the markets.

ASX chief executive Rob Elstone said yesterday short selling was not the issue, but the related stock lending activity.

"It lacks transparency and, depending upon how many links there are in the stock-lending chain, that has the potential to raise systematic risk issues,'' he said.

Paul Fiani, the fund manager who played a big role in stopping hedge funds taking over Qantas last year, said: "Investors get paid a small fee to lend out their securities to short sellers, who then proceed to destroy the value of their underlying securities that the investor owns. We aren't believers in scrip lending.''

Mr Fiani, who runs Integrity Investment Management in Sydney, said the ASX was a huge beneficiary of hedge fund and margin lending activity, all of which serves to increase the turnover in the market.

"I would like to see all regulatory roles moved out of the ASX, so that the ASX can focus on achieving better returns for its shareholders, without distraction from the regulatory responsibilities that often conflict with this objective.''

Other fund managers, including Platypus chief investment officer Don Williams, said share lending should be curbed and regulated. He said stocks outside the top 100, which are liquid and more difficult to manipulate, should not be available for share lending.

"Shares that aren't very liquid can get really hammered by this. Philosophically they should not be allowed to be lent out for the purposes of short selling,'' he said.

He cited the example of listed music and electronics retailer JB Hi-Fi, which can be moved $1 with a trade of just 200,000 shares. 


http://www.news.com.au/business/story/0,23636,23223696-14327,00.html


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## chops_a_must (16 February 2008)

*Re: ASIC to review stock `loaning' racket*

All right then.

We'll see how the ASX fares when they turn their own exchange into an illiquid market.

Certain futures on the US bourses have already become borderline illiquid, or have reduced liquidity because of uncle ben.

Shares go up and down, and if you aren't allowed to sell, or even hedge, why would you even consider being in the Australian market anyway? All it will do is pull out massive amounts of international money from our market, which will have the same effect as short selling anyway.

Pure stupidity. Just ban short CFD's, I'm sure they do more damage. Or is it just because the ASX has never offered proper short selling facilities and therefor missed out on serious money?


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## Whiskers (16 February 2008)

*Re: ASIC to review stock `loaning' racket*



moses said:


> THE Australian Securities Exchange is demanding a review of stock trading rules amid evidence that *hedge funds are "borrowing'' shares from superannuation funds to force down prices, a practice that is mauling retirement savings.*
> 
> David Bryant, group executive of investments at Australian Unity, which has $6.4 billion in funds under management, likened the practice to leaving a car in a car park, which lends it to local hooligans who return it damaged. The owner is left with the mess.
> 
> ...




Not good at all.

Until regulators get their finger out and catch up, the more publicity the better to pressure super funds to get out of the practice.


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## xoa (16 February 2008)

*Re: ASIC to review stock `loaning' racket*

Boo hoo. The stock market was overvalued and is correcting nicely. That's what's supposed to happen. I'm not shedding any tears for greedy baby boomers who get burned, after trying to exploit superannuation tax loopholes.


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## chops_a_must (16 February 2008)

*Re: ASIC to review stock `loaning' racket*



Whiskers said:


> Not good at all.
> 
> Until regulators get their finger out and catch up, the more publicity the better to pressure super funds to get out of the practice.




Regulate what? A market that never goes down?


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## Whiskers (16 February 2008)

*Re: ASIC to review stock `loaning' racket*



chops_a_must said:


> Regulate what?




Super funds are a special case... to protect the retirement savings of contributers. Loaning shares in this fashion is an unacceptable risk. Close the CGT loophole at least, because it gives large funds an unfair market advantage. 



> A market that never goes down?




Obviously not!

PS:



xoa said:


> I'm not shedding any tears for greedy baby boomers who get burned, after trying to exploit superannuation tax loopholes.




I don't think the boomers are lending the shares, the super fund managers are and deminishing the value of all super holdings including yours.


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## Garpal Gumnut (16 February 2008)

moses said:


> THE Australian Securities Exchange is demanding a review of stock trading rules amid evidence that hedge funds are "borrowing'' shares from superannuation funds to force down prices, a practice that is mauling retirement savings.
> 
> 
> 
> http://www.news.com.au/business/story/0,23636,23223696-14327,00.html




Thanks for the thoughts.

There are 2 matters that need urgent attention.

1. Stock lending needs to be less opaque

2. Stock held on margin by directors needs to be declared in addition to merely holdings as exists at present.

Otherwise there will be more AFG's.

gg


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## 123enen (16 February 2008)

Super funds have an obligation and responsibility to increase the value of member funds. It is immoral for these super funds to "loan" shares out towards a strategy that is designed to REDUCE the value of superannuation for their members.

Imagine the members that are nearing 65 years of age and nearing retirement, and will soon draw on their super. Their funds were played with and manipulated at a critical time in their life and some of their super is lost in the process with little opportunity to recover. 

Lending of shares by super funds should be immediately stopped. 

It is regrettable but understandable when genuine market forces have an adverse impact on a persons superannuation, but when this superannuation is affected by such self interested manipulative forces it is a disgrace. This is especially so when one of the conspiritors is the fund that has an obligation to grow your investment.


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## IFocus (16 February 2008)

123enen said:


> *Super funds have an obligation and responsibility to increase the value of member funds. It is immoral for these super funds to "loan" shares out towards a strategy that is designed to REDUCE the value of superannuation for their members*.




Short selling is not a strategy to reduce stock valuations its a strategy used because the stock price is likely to fall. If the strategy timing is wrong then the short seller gets crushed or squeezed by buyers chasing value its really simple if the value is not there then buyers will not buy.

For professional to talk about the current market problems being caused by short selling is at best uniformed comment, when by so called market professionals I have yet to see where its not their own agenda driven, miss leading and quite disgraceful.

They would have to be living under a rock not to have heard about the current world word financial crisis and woes of the US economy followed by Europe followed by Japan. 

Our market is pricing in this massive risk, valuations are secondary for the moment IMHO.

Read up about the Hunt brothers who tried to manipulate a market!

The example of JBH is a shocker its in a down trend currently trading at 10.55 from a high of $17 ish Oct.

Sounds more like brokers trying to make up excuses for bad advice

Liked Chops and Garpels comments also 

Focus


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## Whiskers (16 February 2008)

IFocus said:


> Short selling is not a strategy to reduce stock valuations its a strategy used because the stock price is likely to fall. If the strategy timing is wrong then the short seller gets crushed or squeezed by buyers chasing value its really simple if the value is not there then buyers will not buy.




I just think it's similar to the subprime lending business. There's just too much risk for a super fund to be engaging in unless the members are fully aware before they subscribe their funds. I don't think most superanuants would be happy with too much exposure to this practise.

It does have the effect of reducing super fund income to the extent that the super fund has lost the ability to trade the shares themselves for whatever term the loan is, (albeit they get a nominal interest rate) and what happens if the equity fund looses money to the extent that it cannot return the shares on the due date!? Possible if the market turned quickly, trading in a share suspended for significant periods. Do these share loans have mortgage style insurance?

That could be an enormous loss to the super fund. One which I think they should not be allowed to take unless clearly identified in advance as a certain high risk class of investment.


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## ROE (17 February 2008)

Uncle Warren always said derivatives is the

"Mass weapon of financial destruction"


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## BSD (17 February 2008)

I have no issue with shorts. 

What I do have an issue with is the ASX protecting the interests of their insto clients and removing broker codes from SEATS. 

You were previously able to see when one dealer was whacking down a price and you could make the decision to step back and see how low they were prepared to sell and then rev the stock up at pace when they had finished selling. 

Squeezing a short in the illiquid stock was a lot easier and you had the ability to determine whether a stock was being whacked by a number of people or just an aggressive shorter or forced seller. 

I cannot believe the ASX dropped broker codes. I always thought transpearancy was a key feature for efficient markets.


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## IFocus (17 February 2008)

Whiskers said:


> I just think it's similar to the subprime lending business. There's just too much risk for a super fund to be engaging in unless the members are fully aware before they subscribe their funds. I don't think most superanuants would be happy with too much exposure to this practise.




Whiskers as far as I understand there is no risk to the fund lending the stock,  the risk is that they may not be paid for lending but the stock always remains theirs. Also for the lender there is no leverage involved so confused by your sub prime comment!

Sub prime lending was allowing people to borrowed large sums of money with very little or no surety. Then that was turned into leveraged financial products wrongly rated from AAA to what ever and on sold to others who seemingly had no understanding of what they were buying.




> It does have the effect of reducing super fund income to the extent that the super fund has lost the ability to trade the shares themselves for whatever term the loan is, (albeit they get a nominal interest rate) and what happens if the equity fund looses money to the extent that it cannot return the shares on the due date!? Possible if the market turned quickly, trading in a share suspended for significant periods. Do these share loans have mortgage style insurance?




Actually provides income so improves income again this confuses me! If the fund or lender wants the stock back they simply take it. ie if I take a short position and the lender wants their stock back the broker who has lent the stock and allowed me to use it to take a short simply rings me and says you will exit now no ifs no negotiation the ownership resides with the lender not me not the broker it is lent on that principle.  



> That could be an enormous loss to the super fund. One which I think they should not be allowed to take unless clearly identified in advance as a certain high risk class of investment.






The risk resides with the broker / trader again I don't understand your comments



Focus


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## Whiskers (17 February 2008)

IFocus said:


> Whiskers as far as I understand there is no risk to the fund lending the stock,  the risk is that they may not be paid for lending but the stock always remains theirs. Also for the lender there is no leverage involved so confused by your sub prime comment!
> 
> 
> The risk resides with the broker / trader again I don't understand your comments




Hi focus.

My understanding, as also mentioned in moses's post, is the whole idea of the equity funds borrowing the share is to trade long or short, ie to sell to take the profits if price rises and buy back to give share back at a lower price or to sell and hope to buy back and return at lower price. 

My interpretation is that they are borrowing to leverage the number of shares they control and actually sell the shares to add to the shorting pressure by mass selling. They get more leverage by avoiding tieing up significant funds in margin cover and they avoid disclosure of what would otherwise be reportable short trades probably exceeding the allowed limit of short trades sold in the market. 

If they are in fact trading in this way then there is leverage involved to control more shares than they would otherwise  be able, to manipulate prices and potentially loose significant amounts and not be able to buy back the equivilant number of shares to return to the super funds.


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## chops_a_must (17 February 2008)

Whiskers said:


> They get more leverage by avoiding tieing up significant funds in margin cover and they avoid disclosure of what would otherwise be reportable short trades probably exceeding the allowed limit of short trades sold in the market.
> 
> If they are in fact trading in this way then there is leverage involved to control more shares than they would otherwise  be able, to manipulate prices and potentially loose significant amounts and not be able to buy back the equivilant number of shares to return to the super funds.




Like I said above, it's purely an ASX issue and problem.

If leverage and excessive shorting is the problem, then CFD's should be banned. But it's much easier to blame "hedge funds" because the ASX wont make money off them. What if it turns out the hedge funds are just using ASX DMA CFD's to muck around with the market? What would the ASX do then?

If there was no benefit to the funds and subsequently fund participants, they wouldn't be doing this. Most funds rely on dividends, not trading income for the returns. Shorting does not alter the dividend distribution, all shares have to be bought back at some stage as well, and the owners have rights to call the shares away at any time should the need arise. Don't know how it would be possible for a short seller to not return the full amount of shares to the original holder.

I just don't understand your point Whiskers. Next you'll be wanting put buying to be outlawed. Or if the market makers couldn't short, would you see puts at all?

The market is not an idyllic fairytale. It's a vehicle for making money. And that's what this is about. If hedge funds are borrowing shares from super funds to short, they aren't going through ASX channels. Therefor not making them any money. Yet the ASX has products that can be used to short, which hedge funds are obviously not using. So a convenient scape goat it becomes.

I would take anything the ASX with a grain of salt, because after all, they are just trying to market their own products.


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## Whiskers (17 February 2008)

chops_a_must said:


> Like I said above, it's purely an ASX issue and problem.




You don't get my point chops. 



> If leverage and excessive shorting is the problem,




I'm not against shorting. Shorting pre se is not the issue. According to the reports they can trade (actually buy and sell) the shares long or short. The main issue is that this loaning practise has developed to give these equity funds more leverage and avoid CGT, increasing their capacity to influence the market.That gives these equity funds an unfair advantage.

This brings up the second issue of the subprime type risk to super funds. Given the reports say the shares are actually traded long and short, the super funds stand a real risk of loosing some or all of their shares lent. A number of fund managers have spoken out against the practise of loaning shares particularly from super funds. 

To me this adds weight to the suggestion that there is probably something untoward going on, such as under the table kick-backs for the few fund managers that are involved.

You would have to be pretty niave to seriously believe


> If there was no benefit to the funds and subsequently fund participants, they wouldn't be doing this.



given the litany of examples of cases like HIH, Enron not to mention the subprime protaganists feathering their own nest from the funds they were charged to protect. 

The subprime type risk is that it appears from my reading that there is a contractural time element involved preventing the share owner from reposessing the shares something like a property rental contract. That being the case the funds are effectively bundling shares (property) into deals that they entrust to the "fund that wants to engage in short selling borrows a share and then sells it in the hope of repaying the loan of the shares by buying back cheaper shares at a later date."

Really if you borrowed the shares and sold them, expecting the market to fall, but the market turned against you and the owner says give them back NOW, you would have to buy them back more expensively. I can't see these equity funds being exposed like that. There is either a fixed term contract or an exec payoff involved to forget about the shares for awhile or say good bye to them as a 'business loss'.

What I see, and understand the managers that are also complaining, is the big concern for super funds is that we could see some milked of their assets and transferred around under the table to the execs involved but hidden by creative accounting like all those other famous corporate collapses where the execs plead ignorant.

If this is established to be the case it is far more than just an ASX problem.


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