Not falling short: The rise of short selling in China

Earlier this year, short sellers targeted many Chinese companies (Chinese concept stocks or “CCSs”) that had listed on US exchanges by way of reverse mergers and earned great profits. In one well-documented example, Sino-Forest Corporation (Sino-Forest), at the time one of the largest private forest industry incorporations in the world, underwent an investigation by regulators after accounting irregularities were found. Its stock slumped more than CDN$15 (US$14.65) between March and June, and its market capitalisation shrank more than CDN$6 billion in just three months. Short sellers were the biggest direct beneficiary of Sino-Forest's woes.

Short-selling refers to the general term of selling a stock that the seller doesn't own. For example, when investors predict the stock price of some US$100 shares will drop, they then “borrow” these stocks from a third party after paying certain guarantee fees, and then they sell the borrowed stocks. When the stock price indeed falls down, the investors buy up these stocks and return them to the third party, taking back their guarantee fees. If the stock price after the drop is US$50 per share and it is bought at this price, the additional US$50 is the revenue per share earned by the investors, also known as short sellers.