Stock Trading

U.S. securities regulators adopted a new rule to restrict short selling more than a year after the financial crisis provoked cries to rein in investors who bet on a stock's decline.

The Securities and Exchange Commission voted 3-2 on Wednesday to approve a rule designed to put the brakes on a stock that is falling precipitously.

The new rule attempts to bridge the divide between those who argued a market-wide curb was needed to protect stocks from short sellers and others who said that restrictions would hurt market liquidity.

"The commission was cognizant of the benefits that short selling can provide to the markets," SEC Chairman Mary Schapiro said at a public agency meeting.

However, Schapiro said the SEC was also concerned that excessive downward pressure, accompanied by fear of unconstrained short selling, can destabilize markets and undermine investor confidence.

The SEC's actions drew a quick rebuke from famed short seller James Chanos, who said the new rule will harm investors' interests through higher transaction costs and missed opportunities.

Under the SEC's rule, if a stock fell by more than 10 percent in a day, a curb would kick in, allowing short selling only above the national best bid.

That restriction would last for the day the stock dropped and the day after.

Short-sellers bet on a stock's decline. In a short-sale, an investor borrows stock and sells it in the hope that its price will drop. When it does, the seller profits by buying back the stock at the lower price and returning the borrowed shares.

REPUBLICANS DISSENT

During the worst of the financial crisis, lawmakers and companies begged the SEC to clamp down on the short-sellers and said the uptick rule should be reinstated.

First adopted after the 1929 market crash, the uptick rule allowed shorting only if the last sale price was higher than the previous price. But the SEC abolished it in 2007 after concluding that it was no longer effective in modern markets.

The two Republican commissioners, Kathleen Casey and Troy Paredes, dissented and said there was no firm foundation for adopting the new short sale rule.

Paredes said there was no way to know whether implementation of the rule would boost investor confidence. "Human psychology is difficult to predict," he said.

Casey suggested that those who have been clamoring for the old uptick rule will not be satisfied until the SEC reinstated the Depression-era rule.

Casey and Paredes both raised concerns over potential compliance costs that are estimated to be in the billions of dollars. Paredes questioned the logic behind the 10 percent threshold and said there was no empirical data or analysis to support this.

The new SEC rule goes into effect 60 days after it is published in the government's official federal register. The market will then have six months to comply with requirements.