9:27 am - SEC banned short selling certain financial US stocks

What is short-selling and 'naked' shorting? WASHINGTON (AP) - As part of a wide-ranging effort to contain Wall Street'sworst financial crisis since the Great Depression, the Securities and ExchangeCommission took the unprecedented step Friday of banning short sales of stock in799 financial companies. What follows are questions and answers about the government's decision: Q. What is short-selling? A. The activities of short-selling might sound lewd at times -- there's"naked shorting" and "covering your shorts" -- but the practice of selling stockshort is pretty straightforward. Investors "sell short" if they think the shares of a particular company aregoing to decline and they want to profit from the drop. To do this, an investor borrows shares of Company X, usually from theirbroker, and then immediately sells them at their market price, say $100 pershare. If the share price falls, let's say to $80, the investor buys back theshares and returns them to the broker. The investor pockets the difference -- inthis case, $20 per share. The practice can be risky. If the shares increase in value, the investor hasto buy them back at a higher price, losing money in the process. Q. Why did the SEC temporarily ban the practice? A. The government and some money managers blame widespread short-selling byhedge funds for contributing to the collapse of Lehman Brothers Holdings Inc.,American International Group Inc. and other troubled companies by driving downtheir share prices. Shares of the two surviving investment banks, Goldman Sachs Group Inc. andMorgan Stanley, saw sharp price drops this week. On Wednesday, Morgan Stanleyshares fell 24.2 percent while Goldman's dropped 13.9 percent. Such sharp drops erode the market's confidence, which makes it harder forthe companies to raise capital and could scare away clients, further weakeningthe companies. The SEC's ban gives financial companies time to stabilize "without the dailydrumbeat of hedge funds shorting them on a coordinated basis," said PhilOrlando, chief equity market strategist for Federated Investors Inc., whichmanages $330 billion in assets. New York Attorney General Andrew Cuomo said Friday his office willinvestigate whether some short sellers spread rumors and negative information todrive down the share prices of Lehman, AIG, Goldman and other firms. Q. What's naked shorting? A. Naked shorting involves selling shares without actually borrowing them, apractice that critics say is particularly prone to abuse, because it potentiallyenables more shares to be sold into the market than actually exist. The SEC temporarily banned naked shorting of 19 financial companies in July.On Wednesday, it restricted the practice but did not ban it outright. Some moneymanagers have called for the SEC to prohibit naked shorting. Q. How much are short sellers really to blame for the mess we're in? A. That's a hotly disputed question. The SEC said that in normal times"shorts" can make markets more efficient and bring in more capital, but addedthat a "time out" is needed. Richard Baker, president of the Managed Funds Association, a trade group forhedge funds, said shorting is "an essential risk management tool." Q. Will the SEC's move work? A. On Friday, it certainly helped reverse the slide in financial companies'sshares, as Goldman and Morgan Stanley each jumped about 20 percent. The hope is that by the time the ban is lifted, the rest of the government'srescue plan, which includes acquiring some of the toxic mortgage-related assetsfrom large banks, will kick in and the market will stabilize on its own. But Baker at the MFA argued that by the time this summer's temporary ban onnaked shorting was lifted, the shares of the 19 covered companies had droppedanyway. Copyright 2008 Associated Press. All rights reserved. This material may not be