U.S. Securities and Exchange Commission Chairman Christopher Cox said an emergency order targeting abusive short sales is aimed at avoiding bank runs amid a "high risk" of investor panics.
The order, barring so-called naked short sales, is a "prophylactic" step to keep stock manipulators from spreading lies and fueling a "stampede," Cox said Wednesday on a conference call with reporters. The Washington-based agency so far hasn't seen an increase in such trades, he said.
"What we're simply trying to remove are tools of mischief," Cox said. "A run on the bank, which can take hold quickly, would likely be turbocharged by illegal naked short selling."
The temporary order, to take effect July 21, requires traders making short sales to borrow shares of government- sponsored mortgage buyers Freddie Mac and Fannie Mae, as well as 17 brokerages. The measure may make it more difficult to maliciously drive down stocks, after Bear Stearns Cos. and IndyMac Bancorp Inc. collapsed amid investor concern they were faltering.
Evidence suggests there is a "high risk" of bank runs based not only on "objective and neutral information, but also the stampede, panic kind," he said. If an institution fails, "it should not be based on the deliberate manufacture of false information and illegal naked short selling."
The SEC doesn't expect the measure, to be in effect as long as 30 days, will slow legitimate short sales involving financial stocks, he said. The order will include "tailored provisions" for market makers who facilitate trades both in equities and options, he said without giving details.
The agency is investigating whether trading abuses contributed to the collapse of Bear Stearns in March and the 75 percent drop in the market value of Lehman Brothers Holdings Inc. this year.
In traditional short selling, traders borrow stock through a broker aiming to profit by selling shares at a higher price and buying them back later at lower prices to repay the loan.
Naked short sellers don't borrow the shares. While such transactions are legal under some conditions, manipulative traders can abuse the sales to drive down prices, flooding the market with orders to sell shares they don't have.