Short selling in bonds exists in limited form

MUMBAI: The RBI may allow bond market players to sell securities they don’t ‘own’ and buy it back from the market within the next five days to cover their position. Under the RBI’s short-selling proposal, the lender bank can sell the repoed securities given by the borrower, and buy it back from the market within five days and wrap up the repo deal. The crucial point here is the lender will sell the security it ‘has’, but does not ‘own’. This makes it a covered short sell, as against a naked short sell, where an entity can sell a stock it neither ‘owns’ nor ‘has’.

A very limited form of short-selling exists even today. It has been a year since naked short-selling has been allowed for only intra-day transactions. The entity may sell in the morning, but must buy back the security before the end of the day.

This, however, has not served the purpose, and the market has failed to take off. A T+ 5 short-selling in the government bonds is expected to make the market more robust, and allow room for contrarian views.

For instance, a trader expecting that inflation figure will go up next Friday, can sell the bond its bank is holding against a 10-day repo deal. The trader will buy back the bond after Friday noon if inflation announced is higher, and bond prices fall. Any way, she has to buy back the bond from the market before the repo reversal.

Short selling was banned after the Harshad Mehta scam. In fact, it may be still difficult to introduce full-fledged, naked short-selling in G-secs even now, given the observations made by the joint parliamentary committee that was set up to probe the ‘92 scam. However, the RBI is understood to have sorted out the matter with the government in moving towards a modified, covered short-selling.