Banning Short Selling Is DumbS

Oh good: due to the general sense of panic afflicting the financial world, European regulators are considering a temporary ban on short selling. This is stupid.

One thing about the stock market: it goes up, and it goes down. You can make money either way! To bet on stocks going up, you simply buy the stocks, and when they go up, voila, your investment has increased in value. To bet on stocks going down, you simply short the stocks—borrow them and wait for the price to fall, allowing the decline to accrue to you as profit.

When there is a "market panic," some regulators think it would be a great idea to ban everyone from short selling. (This idea was also in vogue during the 2008 collapse.) Corporations think this is a great idea! They hate when some famous hedge fund investor bets against their stock. It makes all the other investors say to themselves, "Hmm, perhaps there is a trouble there." This can often make the stock go down. In these cases, the short may or may not have been a self-fulfilling prophecy. But it is always a convenient excuse for a company that's performing poorly.

Guess what? None of that matters. If short sellers are wrong, the market will punish them itself. Banning short selling is the equivalent of politicians deciding that you're free to vote, but you can't vote "no." A market in which you can't bet against anything is no market at all. It's a pep rally. It's like a sports bookie who only lets you bet that the hometown team will win. It's juvenile, nonsensical pandering, a public relations move that does less than nothing to address the fundamental economic weaknesses that would lead investors to bet against the market in the first place. It is just dumb.

[NYT, photo via AP]