Q&A: Cracking down on abusive practices by short sellers
Short sellers should not be able to profit from misleading information they publish, says Robert Staley of Bennett Jones.
There is growing pressure on Canada’s securities regulators to ensure that the integrity of our capital markets is not undermined by short-sellers making false or misleading claims intended to manipulate company share prices. For now, the Canadian Securities Administrators, which represents the country’s 13 provincial and territorial regulators, has said only that it is in the early stages of a study to look into abusive short-selling practices. CBA National caught up with Robert Staley, a partner and securities litigator at Bennett Jones in Toronto, to share his insight on what needs to be done.
CBA National: What seems to be the problem with short selling?
Robert Staley: Two things are problematic from a regulatory perspective — all because of the ability to get information out easily through the internet and on investor chat sites that people follow. First, you have anonymously published research articles that are designed hit pieces, and they would typically be preceded by one or more people taking short positions with the knowledge that the research is coming. Often the research isn’t fabricated, but it can have lots of distortions, half-truths, overstatements. And so it’s designed to achieve an outcome, which is to depress the stock price. But it’s not the sort of balanced research, thoughtful research that you would get if you, you know, went through a bank dealer for example. The other thing is companies will actually publish research in their own names, and it’s their business to short sell or to issue reports that are designed to drive down the stock price. Either those parties are themselves shorting, or the research is pre-circulated to people who are shorting the stock. And again – it’s typically a mix of half-truths, overstatements, misrepresentations combined with some statements of fact.
N: But there are prohibitions against misrepresenting information, aren’t there?
RS: That’s right, but there are thresholds in the statutes that make it hard to prove. You have to prove there’s a misrepresentation and a lot of times these are presented as comments or statements of opinion as opposed to questions or statements of fact. It’s designed to achieve an outcome while actually making a positive statement of an incorrect fact. If you’re careful, you can draft a whole bunch of really nasty questions designed to drive down the stock price without actually making a positive misrepresentation. But you know what you’re doing, and everyone knows what you’re doing.
N: What can targeted companies do by way of taking legal action?
RS: Outside of securities laws, there are tort laws that could address this -- including claims of defamation and injurious falsehood. We’re seeing allegations of conspiracy between the people who published research and short sellers to drive down prices and cover shorts. But it’s difficult because in a free and democratic society people should be allowed to comment freely, as long as they’re not telling deliberate untruths and commenting on a stock. And you don’t want there to be a chilling effect on people’s ability to comment if they say something the company doesn’t like that could get them into trouble. But regulators are concerned.
N: But there are legal options available.
RS: Well, the problem is that a lot of companies just don’t want to take the time or effort to deal with every significant misrepresentation. And remember, the statements are often published anonymously, so you have no idea who to sue. Also, to the extent that the stock price is affected, it’s the shareholders who suffer, and not the company. So there’s an issue as to whether the company can sue on account of the loss of the shareholders.
N: Could they have a private right of action?
RS: They could. But you have to get people to band together to do that, and you have the same issues in terms of who to go after. There’s just so much of it going on and so little that actually gets picked up.
N: So what would be a good way to address the problem?
RS: Well, the thing about regulators is that they typically have extensive subpoena powers, and they can go and find information that you typically can’t get from a private right of action. And so that’s one reason why there’s benefit in giving them more authority and more tools. If you look at the securities legislation, the one thing that you could look to is to amend the statutes to provide for deemed reliance where there are misrepresentations made by people who are engaged in the practice of short selling or fuelling short selling. So if somebody is just issuing research independently or they comment on something, that’s different than if somebody is publishing research so that they can profit from it personally by depressing the stock price or by selling the research to somebody in advance for that purpose. That’s something for which you would develop rules to regulate with lower thresholds in terms of establishing liability. Look, no one has a problem with short sellers – they serve a useful role in the market. The real issue is when there’s misleading and untrue information out there in the market that allows the short sellers to profit. We have to figure out who’s behind it and who profited from it.