1. Case Overview
In these cases, the plaintiffs were a foreign financial institution (Case 1) that was fined approximately KRW 1.06 billion by the Securities and Futures Commission (the "SFC") for violation of the prohibition against naked short selling and a domestic financial institution (Case 2) that was fined approximately KRW 350 million by the SFC on the same grounds.
2. Our Arguments and Role
In Case 1, at first instance, the court found that the plaintiff violated the Capital Markets Act by naked short selling 29,771 shares it had ordered to sell, but ruled that the fine imposed based on 41,919 shares was unlawful on the grounds that there was no objective evidence to show that the plaintiff could have predicted that the securities company would place a sell order for 41,919 SK Hynix shares. On appeal, we emphasized the specific characteristics of the plaintiff's sell orders and, relying on replies to fact-finding inquiries sent to the securities company, successfully argued that the plaintiff could reasonably have foreseen the submission of sell orders in excess of the executed volume. This led the appellate court to dismiss the plaintiff's claims.
In particular, we highlighted that the plaintiff, by placing sell orders with conditions such as CD (Careful Discretion) and GTC (Good Till Cancelled), was fully aware that orders exceeding the executed quantity would be submitted and that the plaintiff had actually received trade confirmations from the securities company, which provided it with clear knowledge of orders being submitted and executed in excess of the executed quantity. We also pointed out that the SFC appropriately exercised its discretion by partially reducing the fine with respect to unexecuted orders so that the sanction matched the degree of responsibility attributable to the plaintiff. Thereby, we focused on logically arguing that the plaintiff should be held responsibility for all 41,919 shares ordered for short sale in the market. Accordingly, we argued that the securities company’s submission of 41,919 sell quotes was within the ordinary scope of its discretion granted under CD and VWAP conditions, that the plaintiff, as a global financial institution, could have fully anticipated such market execution practices, and that the responsibility for the exercise of discretion under CD/VWAP conditions should be attributed to the plaintiff as the one who placed the orders.
Another key legal issue was whether the plaintiff qualified as a “party who entrusted the short sale order.” We contended that the plaintiff was the substantive wrongdoer who caused the short sale order to be submitted to the market, and thus, imposing the fine on the plaintiff was consistent with the systematic and logical interpretation of the Capital Markets Act, the legislative purpose of regulating short sales, and the consistent enforcement practice of the financial regulators.
In Case 2, the first-instance court upheld our arguments that even if other funds held the stock subject to short selling, violations must be determined separately for each fund and cannot be offset by cross-transactions; and that a mistaken order causing a short sale cannot constitute a justifiable reason excusing the violation. Accordingly, the claim was dismissed at first instance. On appeal, the plaintiff argued that unlike other institutions fined for short selling violations, it was not granted a reduction of the fine. We successfully defended the SFC by emphasizing the basic legal principles underlying the imposition of fines and highlighting the differences from other cases, while reinforcing the arguments made at first instance, ultimately securing a favorable final judgment.
3. Significance of the Judgments
These two appellate court decisions are the first final appellate rulings concerning fines imposed for illegal short selling, serving as important precedents for numerous related cases. In particular, the judgments clearly established that:
① Whether a short sale has occurred must, in principle, be determined separately for each collective investment property;
② The determination of fines for short sale violations does not take into account intent or negligence;
③ Regardless of whether a person has opened a trading account with a KRX member firm or is the economic beneficiary of the entrusted transaction, anyone who entrusts an illegal short sale order may be subject to fines;
④ A fine for a short sale violation has both the nature of recouping unjust enrichment and imposing sanctions, and the fact that a party suffered losses from the short sale does not render the fine unlawful;
⑤ Where an order has been “entrusted,” fines must be calculated based on the total quantity of short sale orders actually submitted, not the entrusted order quantity;
⑥ The entire quantity of short sale orders submitted to the market (including unexecuted portions) must be included in calculating fines; and
⑦ Under Article 180 of the Capital Markets Act, a short sale violation cannot be rectified, and fulfilling settlement obligations of a short sale is merely a measure to avoid forced settlement by the exchange and cannot be deemed a corrective measure.
These rulings carry great significance as they provide clear guidance on recurring issues in other similar cases and will serve as important precedents in future short selling litigation.
