Draft law draws outline of future UK short selling regime

Draft regulations reveal more detail on how the government plans to reshape the UK’s short selling regime, confirming divergence from the current EU regime in favour of a less onerous UK regime.

After Brexit, the EU’s Short Selling Regulation (SSR) was retained in UK law. In the last year, HM Treasury has conducted a review of the UK SSR with the aim of replacing it with a short selling regime that is tailored to the UK.

HM Treasury has now published a draft statutory instrument, the Short Selling Regulations 2024 (the Draft SI), which reflects the outcomes of that review. The government invites technical comments on the Draft SI by 10 January 2024.

Short selling to become a “designated activity”

The Draft SI brings the short selling of relevant shares and related instruments into the Designated Activities Regime (the “DAR”). In line with the government’s smarter regulatory framework (described below), the FCA is then empowered to make rules relating to the carrying on of these activities. This includes enabling the FCA to allow exemptions for market making activities and stabilisations. HM Treasury can also extend the market maker exemption to members of trading venues in overseas jurisdictions.

FCA to aggregate and publish net short positions

Currently the FCA publishes individual net short positions above 0.5% of issued share capital. Respondents to HM Treasury’s consultations under the SSR review suggested this acts as an artificial deterrent against firms opening net short positions exceeding that threshold for fear of public disclosure. The SSR review considered whether the public disclosure obligation could be reworked and for net aggregated positions to be published instead.

The Draft SI requires the FCA to publish aggregate net short positions based on the notifications it receives.

Notification threshold to move back to 0.2%

The SSR review sought views on whether the current 0.1% threshold for the private reporting of net short positions to the FCA is appropriate. The Draft SI has reverted the threshold to 0.2% of issued share capital, the level at which it stood prior to changes introduced during the Covid pandemic.

FCA to publish “positive” list of in-scope shares

Under the current regime, certain types of share may benefit from an exemption where the principal venue of trading is overseas. However, to be exempted, the shares must appear on a list published by the FCA. In its SSR review HM Treasury asked whether this could be done more efficiently by the FCA maintaining a "positive list" of shares that are covered by the regime rather than a “negative list” of shares that are exempt.

The Draft SI confirms that this is the approach the government is taking forward, which represents a welcome simplification of the existing regime. It includes an obligation on the FCA to publish a list of shares to which its rules apply.

Restrictions on short selling UK sovereign debt and uncovered UK sovereign CDS scrapped (except in case of emergency)

Alongside the Draft SI, HM Treasury has also published a response to its brief consultation on the sovereign debt aspects of the SSR in which it confirms that it will remove the current requirements imposed on investors when engaging in short sales of UK sovereign debt or entered into uncovered transactions in UK sovereign CDS, as well as the related net short position reporting requirements. 

The Draft SI reflects this outcome, as it does not include restrictions on short selling of UK sovereign debt or sovereign CDS. The FCA would, however, retain power to intervene in exceptional circumstances.

Introducing the Designated Activities Regime

The DAR was created by the Financial Services and Markets Act 2023 to facilitate the repeal and replacement of retained EU law. It provides a mechanism for the FCA to make rules which apply to non-financial businesses without requiring them to be authorised. HM Treasury can choose what activities will fall under this regime.

The Draft SI specifies the following as designated activities:

• entering into a “short sale” of a share; and
• entering into a transaction which creates or relates to another financial instrument where an effect of the transaction is to confer a financial advantage on the person entering into that transaction in the event of a decrease in the price or value of a share.

Part of UK’s plans for smarter regulatory framework

The Draft SI is among the first pieces of legislation which will be made under a programme to deliver a smarter regulatory framework for the UK. FSMA 2023 allows for the repeal of retained EU law relating to financial services and for it to be replaced by a combination of legislation and regulator-made rules.

HM Treasury consulted on reforms to the UK short selling regime as part of its Edinburgh Reforms package. It also consulted on the UK sovereign debt and CDS aspects of the SSR in its Mansion House Reforms.

Next steps

HM Treasury invites comments on any significant errors or oversights in the Draft SI by 10 January 2024. It intends to lay the SSRs before parliament later in 2024.