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	Short Selling


Table of contents
Short Selling
Developments in the Volume of Short Selling
Technical Short
Reverse Certificates

Short Selling

Short selling is the sale of a security that is not owned by the seller. The seller must borrow the securities to be sold from another entity. Short selling contributes to the liquidity in the market.

Equities, Index Linked Notes (ILN) bonds, and T-bills can be sold short on the TASE. Short selling is a “reverse investment” transaction, in that selling precedes buying. In a short sale, the investor profits when the price of the security declines, and loses when the price rises.

Parties to a Short Sale

The parties involved in a short sale are the borrower, the lender and usually, a TASE member mediates between them:

· Lender – the owner of a security who is willing to lend it to someone else. The main lenders are institutional investors – provident funds, insurance companies, mutual funds and ETF issuers.

· Borrower – borrows the security in order to sell it short.

· TASE member – mediates between the lender and the borrower.

Loan Note

To perform a short sale, the securities to be sold must first be borrowed by means of a loan note.

The loan note includes the following information, among other things:

· The loan period – as agreed between the parties. The maximum loan period is until the end of the next calendar year.

· Details of the arrangements between the parties – lending fees, as well as dividends, bonus shares and other corporate actions during the loan period in respect of the borrowed securities.

· Waiver by the lender of voting rights attached to the securities during the loan period

· Collateral – due to the risk that the security’s price may rise, the short seller generally deposits collateral for the lender (a TASE member, other than a bank, that lends securities must collect collateral from the borrower).

During the loan period, the borrower compensates the lender for the various corporate actions that accrue to the security (dividends, rights, interest, etc.) and pays a borrowing fee, as agreed in the loan note. At the end of the loan period, the borrower buys the securities and returns them to the lender.


	Developments in the Volume of Short Selling
	Short selling balances have steadily increased over recent years, to a peak of NIS 5.3 billion in shares and NIS 5 billion in bonds in February, 2007. The volume of short selling is usually measured abroad using the SIR (short interest ratio). The SIR is determined by dividing the monetary value of the balance of short sales by the TASE’s average daily turnover. This ratio actually denotes the number of trading days needed to close open short positions. At the TASE, the SIR stands at 2.9 (January, 2007). The main reasons for the growth in short selling volumes are related to the increased supply of securities for loan: · Greater awareness of the advantages of lending shares for short selling – lending securities allows institutional investors to benefit from borrowing fees for the balance of securities they hold, thereby increasing returns for their members or for themselves. · Increased activity and sophistication in the market for TA-25 index derivatives – derivatives operators using a combined strategy of buying derivatives and selling the underlying asset create demand for borrowing of “TA-25 baskets”. The baskets include all shares included in the index, according to each share’s relative weight in the index. · Creation of lending pools by TASE members – the TASE allows the creation of lending pools by TASE members, based on a “general loan note” signed with customers lending shares to the member or borrowing shares from it. The lending pools significantly simplify lending and borrowing. The general loan note enables lenders of securities to authorize a TASE member to lend a predetermined amount of securities, without the need to handle each lending transaction separately. The borrower of the securities can obtain a sort of “credit line” through the general loan note, to be used as needed. TASE members report to the TASE each week on all short sale transactions, as well as on short sales covered. The TASE publishes weekly short sales statistics on its website.


	Technical Short
	In a technical short, securities that are not owned by the seller can be sold, without borrowing the securities. For example: Selling securities during trading, and buying them later that day. Selling a dual-listed share, when the seller holds the share in an account abroad, or buys it abroad on the same trading day. Selling a share derived from the exercise of an option or convertible bond. Selling a share to be obtained from the allocation of bonus shares. Selling a security which the seller bought in an offering, but has not yet been allocated.


	Reverse Certificates
	Reverse certificates are financial instruments that perform contrary to the index that serves as the underlying asset, and are traded on the TASE. In other words, a decline in the index tracked by the reverse certificate increases its value, and vice versa. Reverse certificates enable investors to profit when the index declines. Reverse certificates allow investors to act similarly to short sellers, without the need for loan notes. A strategy similar to short selling can also be achieved through the derivatives market.