Probe launched over Morgan Stanley short selling in Korea

South Korea’s top financial watchdog is investigating stock short selling practices at Morgan Stanley’s Seoul office, people familiar with the matter said Monday, in the latest sign of a crackdown set to expand this week to regulate the practice that profits from a drop in stock prices.

The Financial Supervisory Service will look at Merrill Lynch and Goldman Sachs next, an official at the watchdog said, noting: “These firms are the top priority because most of the short selling takes place there, all driven by foreigners.”

Foreigners accounted for roughly 70 percent of such trading on the benchmark Kospi in August, according to Korea Exchange data, which also found that Morgan Stanley and Merrill Lynch made up almost half the short sales handled by foreign companies in the same period. Morgan Stanley declined to comment on the matter.

The investigation comes as the FSS -- newly led by a former prosecutor versed in white collar crime -- prepares to set up a team on short selling this week. Lee Bok-hyun, the new chief who took office in June, supports routine checkups to improve policy on the contentious practice.

In May 2021, authorities partially lifted a ban on short selling that had been in place since March 2020, when the restriction was enforced to forestall worsening market turmoil amid the developing COVID-19 pandemic.

Currently, investors are allowed to borrow shares only among the Kospi 200 and Kosdaq 150 -- a select group of large and small cap stocks with strong balance sheets traded on the main and junior board, respectively. Naked short sales, where investors sell stocks they have yet to borrow, remain banned and illegal.

“We won’t get just tough on illegal short sales. We will continue to step up our efforts for greater oversight to ‘correct’ any unfair market practices found along the way,” Lee said at an emergency agency meeting Monday.

The meeting was held in response to the annual Jackson Hole symposium, a three-day global economic retreat of central bankers held in-person last week in the US state of Wyoming. US Federal Reserve Chair Jerome Powell was hawkish on policy and so was Bank of Korea Gov. Rhee Chang-yong, spooking local stock and currency markets Monday.

The Kospi lost 54.14 points or 2.18 percent to finish at 2,426.89, while the Korean won weakened to 1,350.4 won per US dollar, a 13-year low. The won crossed the 1,350 mark last time in April 2009 in the wake of the global financial crisis.

“Uncertainties are still here, left unresolved, but we have strong currency reserves and economic fundamentals,” Lee said. “We can weather the worsening conditions in the global economy.”

Staring Monday, Lee’s agency is relaxing some rules so financial institutions like banks can sell foreign securities like US bonds to their overseas counterparts, without getting bogged down on every detail of laws governing such transactions. The agency expects to offset the outflows of the safe-haven asset.

“The special permission given to banks today is just another example of tools the government can use to calm the currency markets,” a senior agency official said.

Last week, Gov. Rhee of the Bank of Korea said Korea was nowhere close to facing liquidity or credit issues, noting the economy would not see a repeat of either the 1990s Asian financial crisis or 2008 global financial crisis.

By Choi Si-young (siyoungchoi@heraldcorp.com)