'Seumeulseumeul' Short Selling Ban... Short Covering 'Chance'

Lee Bok-hyun, Governor of the Financial Supervisory Service, is drinking water during the audit at the National Assembly's inspection of the Financial Supervisory Service held on the 11th. Photo by Yoon Dong-joo doso7@

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[Asia Economy Reporter Junho Hwang] "In a situation where market conditions are rapidly changing and the psychological anxiety of market participants is maximized, the financial authorities can take any market stabilization measures."

"If there is severe market polarization due to psychological anxiety, exceptions such as banning short selling will not be made."

This is the view on short selling expressed by Lee Bok-hyun, Governor of the Financial Supervisory Service, during this year's National Assembly audit (on the 6th and 11th). Following Governor Lee's remarks, expectations for a ban on short selling have increased. In the securities industry, there is a forecast that a 'short cover' strategy following a short selling ban could be effective.

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Kim Min-gyu, a quantitative researcher at KB Securities, stated on the 14th, "There is no clear evidence that the stock market decline stopped due to a short selling ban, but from the perspective of individual stocks, it is necessary to prepare in advance for 'short cover' candidates."

Short selling is a method of borrowing stocks to sell them, and if the stock price falls, buying them back at a lower price (short cover) to return the borrowed stocks.

Researcher Kim analyzed, "Short cover, which involves buying stocks to repay loan balances and liquidate short selling positions, often accompanies stock price increases, but the timing of profit realization varied in each case."

Looking at the returns after the short selling ban for stocks with a high proportion of loan balances, in 2011, profits occurred during the first week after the short selling ban.

In the case of OCI, the loan balance ratio before the short selling ban was 20.34%, but the stock price rose 4.40% during the first week of the ban. Hanjin Shipping (14.81%) also rose 5.68%, and Pan Ocean (stock return 20.85%), Seoul Semiconductor (27.25%), and Orion Holdings (21.69%) also increased.

In 2020, the first week after the short selling ban saw a decline, but high returns were observed one month later. Helixmith, with a loan balance ratio of 44.88%, saw its stock price fall by -2.98% in the first week after the ban but rose 38.81% after one month. HDC Hyundai Development, with a loan balance ratio of about 26.12%, fell -1.06% in the first week but rose 28.98% over one month.

Looking at just these two cases, the conclusion is that buying stocks with a high loan balance ratio and active short selling at the time of the short selling ban and waiting for the first month of short cover is effective.

On the 11th, dealers were working in the dealing room of Hana Bank in Euljiro, Seoul. On that day, the KOSPI index opened at 2193.02, down 39.82 points (1.78%) from the previous trading day. The won-dollar exchange rate opened at 1428.0, up 15.6 won. Photo by Moon Honam munonam@

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However, this formula did not always apply. In 2008, if the market continued to decline after the short selling ban, short cover did not translate into profits. Jeil Planning, with a loan balance ratio of 39.50%, fell -0.67% in one week and -26.22% over one month. Yusoo Holdings (20.44%) also dropped from -7.58% to -38.63%.

Researcher Kim said, "Therefore, if short selling is banned, it is necessary to focus on stocks where the proportion of short selling in trades with high short cover potential is high and where the loan balance ratio, which will be repaid, is also high." He also selected and presented stocks with rising earnings estimates and expected earnings growth next year.

In the KOSPI 200, he pointed out LG Innotek, OCI, S-1, KEPCO Engineering & Construction, GS Construction, LS ELECTRIC, SK Chemicals, DL, and GKL. In the KOSDAQ 150, EcoPro BM, L&F, JYPEnt., Alteogen, and Paradise were considered to meet these conditions.

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However, the key is whether the short selling ban will be implemented. As the stock market has recently plunged, opinions calling for a short selling ban have been raised in the market. However, it is still uncertain whether the government will actually impose a short selling ban.

Governor Lee, who mentioned the possibility of a short selling ban, is a former prosecutor and a key figure in the Yoon Seok-yeol administration's financial team, but the short selling ban is a decision made by the full vote of the nine members of the Financial Services Commission. He is only one of the nine members.

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