Do We Need a Short Selling Ban on Bank Stocks?

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As the banking crisis drags on, one trade group is taking matters into its own hands. On May 4, Rob Nichols of the American Bankers Association (ABA) penned a letter to U.S. Securities and Exchange Commission (SEC) Chair Gary Gensler. In the letter, the CEO expressed concerns about the short selling of regional bank stocks.

Nichols argues that “short sales have followed relatively favorable earnings reports” and believes the SEC should investigate this short selling as well as “take measures to reduce the avenues for abusive trading practices.” Now, this is sparking a question: Would a short selling ban help restore stability to markets as speculation mounts that more regional banks will fall?

How likely is a short selling ban to happen? Analysts at JPMorgan speculate that a ban is certainly not beyond on the realm of possibility. The Wall Street institution also highlights how unlikely it is for the Federal Deposit Insurance Corporation (FDIC) to take over a healthy bank. JPMorgan notes that short sellers may be scaring investors into believing this crisis will lead to the demise of more regional banks. For that reason, the firm sees the ban on short selling as a possibility.

A Short Selling Ban on Bank Stocks?

It’s not hard to see why banking industry insiders would be advocating for a short selling ban. While regional banks have recently rebounded, fears that they are on the verge of collapse continue to abound. Since First Republic (OTCMKTS:FRCB) delisted from the New York Stock Exchange, both PacWest Bancorp (NASDAQ:PACW, NASDAQ:PACWP) and Western Alliance (NYSE:WAL) have been under severe scrutiny.

Both of these banks have seen their share prices plunge since the crisis began in early March. Even speculation that they may be marked as the next meme stocks hasn’t done much to restore enthusiasm. As these regional names teeter on the brink of a cliff, short sellers are seeing an excellent opportunity to pounce.

Now, though, the ABA is alleging market manipulation as short selling threatens to push banks down even more. ABA Chief Policy Officer Naomi Camper recently noted:

“We’ve been in constant communication with our members, and they’ve shared with us their concerns, including engagement that they’ve seen on social media […] And many believe that their shares have been manipulated by short sellers. They’re seeing trading in their shares that defy the underlying fundamentals, and they’re worried about it.”

Gensler responded to the requests for an investigation into the short selling of bank stocks last week. Specifically, he stated that the SEC is focused on “identifying and prosecuting any form of misconduct that might threaten investors, capital formation, or the markets more broadly.” However, Politico reports that a senior SEC official has made it clear that the agency is not currently considering any outright bans on short selling banking stocks. It is possible, though, that further investigation may change that — if the SEC finds convincing enough evidence.

What Comes Next?

It’s true that PACW and WAL have seen multiple trading halts recently as volatility has rocked the regional banking sector. However, there would have to be clear evidence of blatant market manipulation for the SEC to opt for an outright short selling ban on bank stocks. And that can be difficult to prove. Ever since the Financial Industry Regulatory Authority (FINRA) halted trading on Meta Materials Preferred Shares (OTCMKTS:MMTLP), investors have alleged market manipulation on the part of both the agency and naked short sellers. It hasn’t led anywhere yet.

If the ABA’s claims are correct, they certainly warrant an investigation. But by then, the bank stocks that the group claims are falling victim to shady practices may no longer be trading. A short selling ban may make sense, but it doesn’t seem likely at this point.

On the date of publication, Samuel O’Brient did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.

Samuel O’Brient has been covering financial markets and analyzing economic policy for three-plus years. His areas of expertise involve electric vehicle (EV) stocks, green energy and NFTs. O’Brient loves helping everyone understand the complexities of economics. He is ranked in the top 15% of stock pickers on TipRanks.

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