No regard for the uptick rule

With the federal government repeatedly comforting us that we don't need more regulation, just better regulation, it pays to scrutinise the new laws they bring forward to deal with the financial crisis. Their first has failed their own test.

This is the short selling bill that corporate law minister senator Nick Sherry tabled last week. It's largely very good but, in one key respect, rather than it being a case of "not more regulation, but better regulation”, it's an instance of less regulation, and worse regulation.

Ironically, the government might owe Malcolm Turnbull's opposition big time due to their successful demand for a senate committee enquiry into the law, stopping the government from bulldozing it through the parliament last week.

That deferral may have an unintended consequence: saving Prime Minister Kevin Rudd and his corporate law lieutenant from being sorely embarrassed. Embarrassed by discovering too late that the bureaucrats who drafted their new law had, most likely inadvertently, got the parliament to repeal one of the old law's key shareholder protections against predatory short-selling. Or, if the repeal was intentional, embarrassed that they had pushed it through parliament without even offering legislators a whisper that the new law contained such a dramatic regulatory u-turn.

The law in question is the 'uptick' rule. Simply, this rule slams a prudential brake on short-selling. It frustrates attempts to short-sell into an already plunging market, impeding predatory attacks calculated to drive the market down harder and faster. How it does that is simply by prohibiting short-sales if they're at a price that's lower than the stock's last sale price.

Senator Sherry's forty-page explanatory memorandum tabled in parliament last week on the new law makes zero mention of this significant rule being repealed. Not a paragraph. Not a word. Uptick rule? What uptick rule?

Sherry has a deserved reputation as a careful, decent politician, someone who would not try to sneak something like this past the parliament. Did he even know about it? Probably not. He should find out and explain why the document he presented to parliament was silent on this issue. But if the proposed repeal was indeed intentional, he should still explain why the parliament wasn't told about it, and explain why he stands in support of the change … if in fact he does.

Previously, the rule applied to naked short-selling, due to be banned. So perhaps the bureaucrats thought: if we ban naked short-selling, we don't need the uptick rule any more, right? Wrong.

It's not as if this question is trivial or is known only among the tiny cognoscenti of technical experts steeped in the finer esoterica of corporate law. For example, the Australian Shareholders Association, among others, urged the government not to repeal the uptick rule and indeed argued specifically it should extend to covered short-selling under the new regime.

So where did the clearly successful agitation to flick the uptick rule spring from? Bizarrely, from the Australian Stock Exchange.

In a paper earlier this year, ASX claimed we didn't need an uptick rule if ASIC enforces the market manipulation provisions. Yet, at the National Press Club this week, Sherry admitted he'd heard "shocking examples” of market manipulation and announced he'd asked the Corporations and Markets Advisory Committee to "take a comprehensive look at the regulatory regime governing market manipulation, with specific focus on the spreading of false information”.

So why, when the minister himself is not confident that Australia has best practice to deal with market manipulation, would he risk dismantling an elegant, simple structural mechanism that specifically bolsters his regulators' armoury. It's like a defence minister worrying if his troops have enough kit, but impounding their guns and giving them pea-shooters instead.

Perhaps anticipating such concerns, ASX itself switched horses mid-race. In a paper in October, ASX abandoned its dubious "our laws are enforced okay” position, instead claiming the uptick rule caused "trading systems complexities”.

Yes, apparently Australia should now start waiving its investor protection laws because of the ASX's IT problems. But if that wasn't enough, ASX then made its boldest play, the completely unevidenced assertion that the uptick rule could be repealed "without having any adverse consequences”, an assertion the government may have swallowed.

If ASX or the government have any proof that repealing the uptick law will have no adverse consequences, let's see it and debate it, but before not after we repeal this law.

If the government does not bring forward the evidence itself, many already stressed investors whose retirement nest eggs and savings have been slaughtered recently would salute the opposition if it insisted on the government doing this at the upcoming parliamentary enquiry.

The Shareholders Association, when opposing the removal of the uptick test, said that the ASX in advocating the repeal had "not provided any evidence that the removal of the test would be beneficial to the market. Simply offering the fact that the rule has been removed in other developed countries is not a compelling reason to follow suit.”

In fact the New York Stock Exchange, unlike its more cavalier cousin here, argued against the repeal of the uptick rule in the US where it had quietly been riding shotgun to the markets since the 1930s. Despite that, their corporate regulator, the Securities and Exchange Commission, brushed aside both the NYSE's objections and the uptick rule itself. Yet another example of American irrational exuberance that we should imitate?

Why copy them when Australia's corporate regulatory framework is far superior to theirs? (Labor reforms from last crash put us ahead, October 20).

If it wasn't so depressingly perverse, you'd laugh about the SEC's masterful timing. They buried their uptick rule in July 2007, the very moment the biggest, ugliest, toughest bear was about to rip the throat out of global stock markets and then disembowel them bit by bit in a rabid frenzy that has lasted well over a year and is not yet over. Go figure.

On Wednesday at the National Press Club, Senator Sherry was a little churlish about the opposition's insistence on a senate committee enquiry into the new short-selling law. He, and beleaguered investors generally, should be grateful for it.

John M Green is a company director, a writer and also a book publisher at Pantera Press, www.panterapress.com. He was previously an investment banker and a lawyer.