Funds News

Short sellers decry scapegoating as SEC eyes rules

* SEC considering uptick, circuit breakers in Washington

* Short sellers defend strategy as necessary

NEW YORK, April 8 (Reuters) - Short sellers are scapegoats and the victims of politics, said traders and asset managers on Wednesday as regulators met in Washington to propose new restrictions on the trading strategy that profits from falling stocks.

Members of the U.S. Securities and Exchange Commission recommended five new rules, including a modified “uptick rule,” intended to relieve the downward pressure on plunging stock markets. [ID:nN08516817]

The SEC, which now will seek public comment, is under pressure from some lawmakers and executives to do something to stem the financial crisis -- but some industry observers said short sellers are false targets.

“The problem is that the managements of the banks and brokers screwed themselves up, short sellers did not,” said hedge fund manager Doug Kass, who heads Seabreeze Partners Management.

“Short sellers just made people notice how many bank managements lied like ministers of finance on the eve of devaluation,” Kass said.

Short sellers sell borrowed shares with the hope of buying them back later at a lower price. They’ve been blamed by some as markets hit multiyear lows over the last several months.

Richard Gates, portfolio manager at long/short mutual fund TFS Capital, said of the SEC, “They have five different options, but there should be a sixth option: to keep the markets the way they are.

“It seems like short sellers are a total scapegoat in this instance, and regulators want to look like they’re protecting individuals,” Gates said. “I’m not sure this is the most effective way.”

Some 60 percent of brokers, hedge funds, and other institutional investors surveyed by research and consulting firm TABB Group said liquidity will suffer if the original uptick rule is reinstated. More than 80 percent said hedge funds would be hit hardest.

The study, published last week, predicted a modified uptick rule was the most likely outcome, noting “recent history shows that regulatory action against short selling has sharp, short-lived impact.”

The SEC may bring back the uptick rule, repealed in 2007 after decades of use, which allowed short sales only when the last price was higher than the previous price. It is also considering a modified version to account for trading and technology changes, which would focus instead on the last bid.

There are three options that include circuit breakers, which would trigger a temporary suspension of short selling a particular stock, or the temporary application of the price or bid test.

“In the end this is politically driven and basically micromanagement,” said a trader at a midsized proprietary trading group, who did not want to be identified because he was not authorized to speak for the firm. (Additional reporting by Jennifer Alban; Editing by Brian Moss)