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New EU Regulation on short selling as of 1 November

October 11, 2012

As of 1 November, Regulation No. 236/2012 on short selling and certain aspects of credit default swaps (hereinafter – Regulation) will be directly applied in the European Union.

The main purpose of the Regulation is uniform disclosure of information in the EU, reduction of risk, and enhancement of transparency. It is also important that uncovered short selling of shares and of sovereign debt may lead to the risk of settlement failures and instability; in order to reduce such risk, it is appropriate to place proportionate restrictions on uncovered short selling of such instruments.  

Short selling is the sale of a security or sovereign debt securities that the seller does not own at the time of the short sale, including the sale where the seller has borrowed the security or the debt instrument, or made arrangements they can be borrowed, in order to be able to make them available at the time of settlement.  

The requirements are applicable to natural or legal persons having significant 1) net short positions relating to shares, and 2) net short positions relating to sovereign debt and positions in sovereign uncovered credit default swaps.   

1) For net short positions in relation to shares, a two-tier model of information disclosure is introduced: (i) at the threshold of 0.2% of the share capital issued by the issuer (percentage change of 0.3%, 0.4%, 0.5%, 0.6%, etc. exceeded or crossed downwards), notification of the position will have to be made privately to the Bank of Lithuania; (ii) at the upper threshold – 0.5% of the share capital issued by the issuer, the Bank of Lithuania will publicly disclose this position notified by a person.    

2) Notifications of significant net short positions relating to sovereign debt securities will have to be made to the Bank of Lithuania and will not be publicly disclosed. Two initial notification thresholds are introduced on the date of coming into effect of the Regulation: (i) the threshold of 0.1% when the total amount of the remaining issued sovereign debt securities is EUR 0 to 500 billion and (ii) 0.5% when the total amount of the remaining issued sovereign debt securities is more than EUR 500 billion or when there is a liquid futures market involving specific sovereign debt securities. Later, individual notification thresholds will be introduced to every state which has issued sovereign debt securities.

The notification requirements cover not only short positions created by trading shares or sovereign debt on trading venues but also short positions created by trading outside trading venues and net short positions created by the use of derivatives.  

Where positions relate to sovereign debt securities, credit default swaps relating to the issuers of the sovereign debt securities should be taken into account.

The obligation to calculate the position held and to ensure that on the settlement date the entity holds an adequate amount of financial instruments is imposed on the holder of the position.  

Information about the position held will have to be provided to the Bank of Lithuania as from 1 November, and the position created will have to be reported by 3:30 p.m. on the next trading day  at the latest. 

Information must be provided by filling the form provided in Annex II of the Commission delegated regulation. The notification must be given to the Bank of Lithuania at:  da...@lb.lt).

In relation to uncovered short selling of shares, it is necessary for a natural or legal person to have an arrangement with a third party under which the third party has confirmed that the share has been located, which means that the third party confirms that it considers that it can make the share available for settlement when it is due.  In relation to uncovered short selling of sovereign debt, the fact that a short sale will be covered by the purchase of the sovereign debt during the same day can be considered an example of offering a reasonable expectation that settlement can be effected when it is due.   Sovereign credit default swaps should be based on the insurable interest principle.

The Regulation is available here.

Notification requirements relating to net short positions and information prospectuses have been imbedded in Commission Delegated Regulation No 862/2012.  

Requirements for the calculation of net short positions are available here.

It is also of benefit for market participants to get introduced to the document “Questions / Answers” prepared by the European Securities and Markets Authority’s (ESMA), which sets out various Regulation provisions in detail; market participants can also ask ESMA their questions here.       

Natural persons can be subject to liability for breaches of the provisions contained in the Regulation under Par 1 of Article 173(5) of the Code of Administrative Offences of the Republic of Lithuania, legal persons under Item 10 of Article 93(1) of the Law in Financial Markets. 

For more information, e-mail at ljur...@lb.lt or ofruz...@lb.lt 

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