According to a person with knowledge of the situation, federal prosecutors in Washington are investigating short seller behaviour related to the recent volatility in U.S. bank shares brought on by the failure of three regional lenders since March.
As government efforts to stabilise the industry have failed and investor concerns over the health of local lenders have grown, short sellers, traders who make money by betting that shares will decline, have come under scrutiny in recent days.
According to the source, the Justice Department is “interested” in their involvement in the financial crisis because they may have engaged in securities market manipulation.
According to Reuters last week, other regulators are also investigating possible market manipulation by short sellers, but the examination by criminal prosecutors—which has not previously been reported—raises the stakes for prospective offenders.
Regulators in California and the chairman of the U.S. Securities and Exchange Commission, Gary Gensler, have stated they are keeping an eye out for any potential misbehaviour.
The standard for launching a formal probe is very high and it is unclear whether prosecutors would ultimately bring any charges, the person said.
A spokesperson for the Justice Department did not respond immediately to request for comment.
The KBW Regional Banking index (.KRX) has slumped 24% since the day before regulators shuttered Silicon Valley Bank, the first lender to collapse, on March 10.
Short sellers arrange to borrow shares they consider overvalued and sell them in the hopes that if the price drops they can repurchase them for less and pocket the difference.
They have profited from the banking crisis, reaping $1.2 billion in paper profits during the first two days of May, according to data from analytics firm Ortex. A brief rebound in bank stocks on Friday squeezed some of those negative bets.
Critics say short sellers hurt companies, but short sellers and advocates say they act as an important check on public firms.
Last week, the American Bankers Association urged the SEC to probe “significant” short sales of bank shares that did “not appear to reflect the issuers’ financial status,” including some that followed favorable earnings reports, the group wrote.
“We have also observed extensive social media engagement about the health of various banks and the sector generally that appears disconnected from the underlying financial realities,” it added.
Since at least 2021, the Justice Department and the SEC have been investigating potential manipulation by short sellers and hedge funds around the publication of negative research reports.
The source did not say whether the latest interest in bank stocks was related to that pre-existing probe.