South Korean politicians are pressuring financial regulators to extend a ban on short selling in a bid to win the votes of retail investors, who have piled into markets ahead of important by-elections in April.
The prolonged ban on short selling, which has forced some hedge funds and institutions to divest from South Korean companies, is expected to be extended for at least another three months from mid-March, when the year-long embargo expires, according to investors and analysts.
In Seoul, what started as a question of market stability has become a political issue. More than 200,000 people have signed a petition on the presidential Blue House website demanding a permanent ban on short selling.
“It will be difficult to resume short selling just a month before the mayoral elections as the issue has become too politicised now,” said Hwang Seiwoon, a researcher at Korea Capital Markets Institute. “Most individual investors have a deep-rooted distrust of short selling.”
The growing official animus in South Korea against short sellers reflects the emerging power of retail investors. A group of amateur traders on Reddit forced huge losses on hedge funds in the US betting against gaming retail chain GameStop.
“It is the most visible and symbolic case that shows that individual investors are no longer weak,” said Albert Yong, managing director at Petra Capital Management.
In September, South Korean regulators extended a ban on short selling, which was imposed early last year during a coronavirus-driven market rout, by six months.
Shares have since staged a strong recovery on heavy retail buying, pushing the benchmark Kospi Composite index near record levels.
Retail investors bought a net Won81tn ($72.4bn) of South Korean shares over the past year, boosting the Kospi index about 40 per cent and accounting for two-thirds of daily turnover in the country’s $2tn stock market.
But the ban has left international investors unable to hedge their exposure to South Korean stocks, forcing some to exit the market completely. Since the ban was imposed in March 2020, global investors have sold a net Won18.3tn, according to official data.
Stuart Jones, chairman of the Pan Asia Securities Lending Association, said the ban meant some institutional investors were more reluctant to hold South Korean stocks.
“The feeling is: ‘If I can’t hedge my portfolio, I can’t trade this market’,” Mr Jones said.
Park Yong-jin, a ruling party lawmaker, has demanded tougher screening of illegal short selling practices and measures to expand retail investors’ access to stock borrowing.
But the Kospi’s rapid rise in recent months has fuelled concerns that a bubble may be forming in parts of the market, especially in the pharmaceutical sector.
Local hedge funds said there was no rationale for extending restrictions on funds taking bearish bets, noting that South Korea is one of only two major Asia-Pacific economies to restrict short selling, along with Indonesia.
Korean retail investors, emboldened by the success of their Reddit-based counterparts, have piled into popular short targets such as Celltrion, which climbed 14 per cent on Monday.
But the move posed little danger to short sellers, who have long since abandoned their bets against the biomedical company.
“There is a dangerous bubble in the bio sector, which was the main target of short sellers,” said Chan Lee, managing director at Petra.
The Financial Services Commission, South Korea’s financial regulator, has not commented on whether it will extend the ban. But last month, regulators announced plans to toughen penalties for naked short selling — betting that a stock will fall without first borrowing the underlying security.
Penalties can already be harsh for those convicted. On Friday, a court sentenced Lee Jong-pil, former chief investment officer of local hedge fund Lime Asset Management, to 15 years in prison for deceiving customers with risky investments in illiquid assets and causing significant losses for retail investors.