The financial authorities confirmed that the penalty surcharges imposed on 13 global investment banks (IB) for violating short selling regulations totaled 16 times the unjust gains these IBs obtained. There has been criticism among investors that government penalties for illegal short selling by global IBs are weak, but the government is evaluated to have issued a high level of sanctions.
The Securities and Futures Commission, under the Financial Services Commission, held its 5th regular meeting on the afternoon of Dec. 12 at the Government Seoul Office in Gwanghwamun, and voted to impose a penalty surcharge of 760 million won on one global IB for violating short selling regulations. Thus, the sanctions against illegal short selling targeting 13 global IBs conducted by the financial authorities over the past 1 year and 4 months have been completed. The total amount of penalty surcharges imposed on the 13 IBs is 83.65 billion won.
Earlier, the Financial Supervisory Service (FSS) launched an investigation on Nov. 2023 into the compliance violations of the top 14 global IBs involved in short selling transactions in Korea. These 14 firms account for over 90% of the total short selling volume by foreigners. The FSS discovered that among them, 13 firms engaged in illegal activities such as naked short selling and referred the matter to the Securities and Futures Commission.
Short selling is an investment technique that involves selling stocks that one does not own. Borrowing stocks to sell them, anticipating a decline in their price, and then buying them back at a lower price to repay is considered legal. However, naked short selling, which is the practice of selling before borrowing, is illegal.
The Securities and Futures Commission has been undergoing the process of imposing penalty surcharges, beginning with 26.5 billion won against BNP Paribas and HSBC in December 2023.
The financial authorities determined that the actual gains obtained by the 13 global IBs through illegal activities such as naked short selling amounted to 5.1 billion won. Compared to the unjust gains, the penalty surcharge of 83.65 billion won is 16.4 times higher. Some IBs are reported to have recorded negative revenue due to naked short selling. A financial authority official noted, 'We reviewed the cases based on strict and consistent standards, regardless of whether there was any profit or not.'
In the past, the financial authorities only imposed fines of several million won for illegal short selling, leading to criticism of weak penalties. As criticism mounted that it turned the domestic capital market into a playground for foreigners, the financial authorities strengthened penalties for violations of short selling regulations from fines to penalty surcharges through amendments to the Capital Markets Act in April 2021. This is the reason the Securities and Futures Commission was able to impose a penalty surcharge of over 80 billion won this time. In July of last year, it also imposed a record penalty surcharge of 27.173 billion won on two affiliates of the former Credit Suisse Group (CSAG·CSSL).
The Securities and Futures Commission identified major causes for the violations of short selling regulations by 13 global IBs as inadequate independent trading unit operations and arbitrary interpretations and applications of stock borrowing contracts. For example, some firms submitted sell orders (naked short selling) by recognizing stocks as sellable balances only after confirming their borrowing possibilities and confirmed the number of shares needed for settlement only after submitting the sell orders. Some IBs even entered incorrect quantities and types different from actual borrowing into the balance management system due to staff errors.
Short selling in the domestic capital market will be fully resumed starting from the 31st of this month. The Financial Services Commission stated, 'Many global IBs have participated in improving the short selling system, such as establishing computerized systems,' and added, 'Efficient prevention of naked short selling will be possible through ongoing monitoring of short selling transactions.' The Financial Services Commission further noted, 'As the uncertainty related to short selling regulations has been resolved, access for foreign investment in our market is expected to improve.'