The short-selling ban of financial stocks by France, Italy, Belgium and Spain has been met with disapproval by the investment industry.

The countries announced the ban on Thursday in the hope that it would calm down the markets and reduce volatility. Andrew Shrimpton, member at financial advisory firm Kinetic Partners, said that the ban, which will be in effect for at least fifteen days, will only reduce price volatility for a few days at best.

“As demonstrated in 2008, when similar bans were in place, volatility increases after a day or so because liquidity in the stocks is significantly reduced. This measure will reduce the ability for banks to raise capital and increase the risk of a full blown recession in the countries that have adopted the ban,” he explained.

The CEO of the Alternative Investment Management Association, Andrew Barker, said the global hedge fund association does not think these bans will help the current market situation. “Past experience has shown that bans on short selling do not prevent market falls and indeed can exacerbate volatility. Independent academic research also supports this conclusion.

“Short-selling is a legitimate market practice which helps capital markets function effectively. It was only last year that the Committee of European Securities Regulators, the predecessor to ESMA, recognised in an official report that ‘legitimate short selling plays an important role in financial markets. It contributes to efficient price discovery, increases market liquidity, facilitates hedging and other risk management activities and can possibly help mitigate market bubbles’,” he pointed out.

EDHEC-Risk Institute also said the decisions are contrary to empirical evidence. In a statement, the institute said academic studies “have documented the positive contribution of short-sellers to market efficiency and shown that constraining short sales significantly reduces market quality – by reducing liquidity and increasing volatility – and can have unintended spillover effects.”

EDHEC Business School Professor Ekkehart Boehmer and his co-authors have studied short selling activities, and have found that “short sellers are important contributors to efficient stock prices, that short interest contains valuable information for the market, that information is impounded faster and more efficiently into prices when short sellers are more active and that short sellers change their trading around extreme return events in a way that aids price discovery”, the statement said.

Other studies have shown that previous short-selling bans degraded the market quality of those stocks, while the most recent study found that a short-selling ban led to a systematic increase, rather than decrease, in the volatility of market indices. None of the studies found indication that the bans reduced downward pressure in a significant matter.

EDHEC-Risk Institute has therefore denounced “the decisions to impose or extend short-selling bans as a political smokescreen that is likely to be counterproductive, both directly by disrupting market functioning and degrading market quality at a most testing time, and indirectly by further fuelling defiance vis-à-vis sovereign states and the continued inability of their political institutions to address the causes of the current crisis”.

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