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http://online.wsj.com/article/SB ... 85344139674042.html

WASHINGTON—The Securities and Exchange Commission narrowly approved curbs on short selling, addressing what some consider a cause of the 2008 financial crisis despite criticism that there was no evidence to support the move.

The commission voted 3-2 on party lines to make the curbs final, in another indication Chairman Mary Schapiro is having trouble gaining unanimity for her ambitious agenda to toughen the nation's securities rules.

In short selling, investors try to profit by borrowing shares and selling them. If the shares fall, the investors can buy them back at a lower price and pocket the difference. When financial stocks were diving during 2008, critics said speculators were abusing the tactic to artificially drive down the price of certain stocks.

Ms. Schapiro said she recognized that short selling can benefit the market, but added: "We also are concerned that excessive downward price pressure on individual securities, accompanied by the fear of unconstrained short selling, can destabilize our markets and undermine investor confidence in our markets."

Her critics, including the two Republican commissioners, didn't buy it.

The rule is "rooted in conjecture and too speculative," said Republican Commissioner Troy Paredes. Fellow Republican Kathleen Casey said the commission found no empirical evidence short selling contributed to the market turmoil.
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The rule applies to stocks that decline at least 10% in a single day. For such stocks, the SEC will allow short selling only if the price of the sale is above the highest bid price nationally. In other words, the short seller is blocked from dumping the shares at a cut-rate price.

The curbs will apply for the remainder of the day the stock falls 10% and the following trading day.

The rule is a variation of the "uptick rule," eliminated in 2007, in which investors could short a stock only after it rose, or ticked higher.

The SEC last year asked for comments on whether it was wise to restore an uptick rule and concluded it wasn't workable because lightening-fast computer-generated trades make it hard to pinpoint moments when a stock is ticking higher.

Some Wall Street firms and investor groups blasted the SEC's decision. Republicans had earlier criticized Ms. Schapiro for pushing through a rule requiring greater climate-change disclosures from companies.

"The unintended consequence of this rule will be an erosion of confidence at a critical time when the economic recovery is struggling to take hold," said James Chanos, a frequent short seller who is chairman of the Coalition of Private Investment Companies.

"The lack of the uptick rule had nothing to do with the market collapse in 2008—it was bad policies all around that created that disaster," said Bill Fleckenstein, who ran a short-only hedge fund until he closed it in early 2009. "It's more monkeying with the system and doing things that address issues that have nothing to do with the underlying problem."

The SEC estimated that the rule, which takes effect in six months, will cost the industry $1 billion to implement and another $1 billion annually.
[SEC]

Troy Paredes

At the peak of the financial crisis in 2008, executives such as John Mack, then chief executive of Morgan Stanley, appealed for a ban on short selling of some stocks as financial shares tumbled to levels that created fears the companies would go out of business. In late 2008, regulators imposed a short-term ban on the shorting of many financial and other stocks, but financial shares tumbled even after the ban, which was eventually lifted after markets had stabilized.

Rep. Gary Ackerman (D., N.Y.) applauded the SEC's action, saying it is a "vital step toward combating the artificial manipulation of stocks." Sens. Ted Kaufman (D., Del.) and Johnny Isakson (R., Ga.) called for even tougher action. They said in a joint statement that the rule will be of "limited use, helping only in the worst-case scenarios that could occur during a terrorist attack or financial crisis."

The rule "is not going to mean much to most of the people who are shorting stocks for fundamental reasons," which defines most hedge funds and mainstream short sellers, said Mike Long, partner at Short Alert Research, in Charlotte, N.C. Short sellers, he noted, largely short a stock on strength and buy back the shares on weakness, so they aren't actively selling shares into a falling market—they are buying. During normal market volatility, the rule would affect only a few stocks, according to SEC staffers. During the relatively smooth 2004-06 years, for example, only about 1.3% of stocks hit the 10% threshold on a given day. Oct. 10, 2008, shows where a high-water mark for the rule might be. On that day, 68% of stocks fell more than 10%.

Some traders were concerned that the rule includes market makers, who sometimes use short selling to hedge risk when taking the other side of investors' trades.

"It's a huge issue," said Kevin Fischer, head of the block-execution desk for Interactive Brokers Group Inc. He said the move could make it harder for investors to sell "call" options, which convey the right to buy a company's stock. The SEC said exemptions, if needed, could be added later.