Canadian regulators, by following along with U.S. regulators on the no-shorting crusade, appear to have inadvertantly hurt retail investors trying to buy into bank stocks.
For the big banks that are on the no-short list - TD, CIBC, Royal Bank - bid/ask spreads on the TSX have yawned to unprecedented levels. At times Monday the difference between the asking price and the bid price on the big banks has jumped from its traditional level of about a penny or two to 20 cents or more.
Why are the short-less banks trading this way? Probably because many of the busiest traders can no longer deploy their strategies, which can involve shorting, and that means that they have pulled back and stopped trading. These aren't, by and large, pure shorting funds that were trying to drive banks down, but large algorithmic traders who try to snag the tiny differentials between bid and ask spreads.
With them gone, liquidity dries up and the spreads are yawning. That's bad news, big time, for your average Joe Mainstreet throwing in a market order for 100 shares of TD or Royal, because a smart trader is going to pick off that trade at one side of the spread and flip it on the other, pocketing the difference. That kind of trade has been happening all day Monday.
The retail investor probably has no idea he just lost out on 20 cents, or $20 on a 100-share order, or that by doing so he made someone else an instant profit.
How can one be sure that it's the short-ban that's causing the problem? It's impossible, but take a look at National Bank of Canada. It didn't make the list, and its spread is a steady 2 pennies.
One of the great focuses of exchange regulators in recent years has been to foster policies that shrink the bid/ask spread, and in one swoop the Ontario Securities Commission has rolled back the clock to the bad old days. This may yet prove to be the right thing to do, but the OSC needs to weigh the effect of the wider spreads against any good that comes from saying no to shorts.
The OSC says it's doing just that, and is carefully watching for aftershocks from the new rule.
