Korea Slaps Fines on Barclays, Citi for Naked Short Selling

South Korea's financial authorities have imposed fines on global investment banks Barclays and Citigroup for engaging in naked short selling, a practice prohibited in the country. The Financial Supervisory Service (FSS) announced the penalties, which totaled KRW 18.39 billion (approximately $13.67 million), significantly lower than the initial proposed fines of KRW 90 billion.

Barclays was fined KRW 13.67 billion (around $10.5 million), while Citigroup received a KRW 4.72 billion (approximately $3.6 million) penalty. The FSS had initially recommended penalties of KRW 70 billion for Barclays and KRW 20 billion for Citigroup, based on suspected illegal short selling worth KRW 1 trillion for Barclays and KRW 500 billion for Citigroup. However, the final fines were reduced, taking into account that neither institution acted with intent and both made efforts to prevent illegal short selling.

Naked short selling involves selling stocks without first borrowing them or confirming that they can be borrowed, which is illegal in South Korea. While regular short selling is a legitimate trading strategy, post-borrowing or naked short selling is prohibited under the Capital Markets Act.

The FSS has been cracking down on naked short selling, with 42 cases penalized since the implementation of criminal penalties and fines for violations of the ban in April 2021. In July 2024, the SFC imposed fines of over KRW 271 billion on two former Credit Suisse affiliates for similar violations. However, foreign financial institutions like ESK Asset Management and Kepler Cheuvreux have lost lawsuits against the financial authorities regarding these penalties.

The financial authorities plan to complete a full investigation into illegal short selling by the end of the year and prepare for the resumption of short selling by the first quarter of 2025. The ban on legitimate short-selling has been viewed as a barrier to foreign investment in Korean stocks, with MSCI downgrading Korea's short-selling accessibility in its annual review, potentially hindering its inclusion in MSCI's developed-markets index.

Multinational banks have strongly protested against fines for short-selling violations, with BNP Paribas filing a lawsuit to overturn its fine, claiming that its naked short-selling was neither intentional nor profitable. In December 2024, the FSC fined BNP Paribas, its Korean brokerage, and HSBC Holdings a total of KRW 26.52 billion for naked short-selling activities.

The Korean financial regulator maintains that banks must be held accountable for their negligence in managing these prohibited trades. While Korea's judiciary has ruled that only shares sold without prior borrowing are subject to fines, the financial authorities argue that naked short selling is illegal regardless of the outcomes of the transactions.

In conclusion, the fines imposed on Barclays and Citi for naked short selling in South Korea serve as a reminder of the importance of compliance with local regulations. As the global investment landscape evolves, financial institutions must remain vigilant and adapt their strategies to avoid regulatory penalties and maintain their reputation in the market.