SEC to limit ‘short selling’ of Fannie Mae, Freddie Mac shares

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It’s bear-hunting season on Wall Street.

The Securities and Exchange Commission is invoking emergency powers to limit ‘short selling’ in Fannie Mae and Freddie Mac shares, as well as in stocks of major brokerages, Chairman Christopher Cox told Congress today. And the SEC will consider extending the order to the rest of the market as well.

Short sellers borrow stock and sell it, betting the price will drop. If their bet is correct, they can buy new shares later at a lower price, repay the borrowed stock, and pocket the difference between the sale price and the repurchase price.

The SEC will require traders to ‘pre-borrow’ shares of Fannie, Freddie and major brokerages before selling them short, Cox said. That then would lock up those shares, preventing them from being borrowed by other short sellers. In effect the SEC is trying to limit so-called naked shorting, which is selling stock without actually having the shares in hand or located. Naked shorting already can be illegal, depending on the circumstances, but the rules against it haven’t been widely enforced.

Cox told the Senate Banking Committee that an emergency order would be released today. UPDATE: Read the SEC’s order here.

As the stock market has plunged this year, short sellers have ramped up their bearish bets, increasing the downward pressure on share prices -- and particularly battered financial issues.

“In addition to this emergency order, we will undertake a rulemaking to address the same issues across the entire market,” Cox said.

But so far, Cox’s plan doesn’t seem to be doing much to lift shares of Fannie or Freddie. Fannie was down $1.61 to $8.12 at 10:45 a.m. PDT; Freddie was down $1.22 to $5.89.