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The South Korean Financial Services Commission (FSC) has committed to allowing retail market participation to directly engage in securities lending once short selling restrictions ease in May.
Following a consultation with the Korea Financial Investment Association, the FSC aims to expand the securities lending system to accommodate retail investors with a model that places the payment burden on institutional securities finance entities.
To promote active participation from securities firms, the FSC says it will work to improve rules on credit exposure limits, which are set at 100 per cent of their equity capital.
The regulator also commits to improving the risk management framework so that credit exposure limits do not constrain a firm’s securities lending services to retail investors.
Many aspects of exactly how this will work in practice remain unclear and the FSC could not be drawn to elaborate on the specific terms of how a broker-dealer might manage the risks associated with setting up a securities borrowing programme with a retail client.
It is also unknown if retail clients can act as direct lenders.
The market watchdog says the move aims to address the discrepancy in access to short selling facilities that has so far seen retail investors largely shut out the retail market due to the “high risk involved” in lending to an individual investor.
The ambitious plan comes as part of a sweeping set of regulatory reforms aimed at tackling illegal short selling which has come under intense scrutiny in South Korea.
As of 3 May, when the current ban on short selling is partially lifted, the commission expects between KRW 2 trillion (USD 1.78 billion) and KRW 3 trillion (USD 2.67 billion) to become available to lend to retail investors.
The FSC predicts more stocks will be available to borrow in the future “through close cooperation with diverse institutions”.
How to become an amateur short seller
The regulator acknowledges concerns exist about the risks of granting more short selling opportunities to retail investors and emphasises “a balanced approach is needed between retail investors’ demand for more opportunities and ensuring investor protection”.
To this end, the FSC will gradually allow retail investors to engage in short-selling according to their individual experience and capabilities.
Retail investors must complete a pre-investment education programme, which emphasises the risks and characteristics of short selling, as well as a mock investment trial that showcases the real short selling stages and process.
There will be investment caps on retail investors to prevent “excessive losses” until they become more experienced, the KSC says.
For beginners, a maximum cap for short orders will be set at KRW 30 million (USD 26,722).
For those with more than five times the short selling investment experience over the recent two years with the accumulated amount of securities borrowing of KRW 50 million (USD 44,539) or more, the cap will be KRW 70 million (USD 62,355).
For professional investors, or those with more than two years of short-selling experience, there will be no investment limit.
These limits are adjustable depending on future circumstances and risk factors, the exchanges adds.
Between now and May, the FSC says it will closely track the preparedness of different market participants.
The FSC is currently operating a task force on improving the short selling system, which is due to present its findings to the National Policy Committee of the National Assembly in February and April.
