German regulator investigates Volkswagen shares manipulation

The German financial regulator, BaFin, has started a formal investigation into market manipulation of Volkswagen's shares after they quadrupled in value and then fell by almost half over a three day period. BaFin said the probe could lead to administrative or criminal sanctions.

This action follows criticism of Germany's accounting rules, after Porsche's disclosures last weekend revealed it had a much higher stake in rival car manufacturer Volkswagen than investors were previously aware of.

On October 26, Porsche announced it held 42.6% of ordinary shares and 31.5% in cash-settled options on ordinary shares to hedge against price risks, representing an effective total stake of 74.1% in Volkswagen. This was more than the 35.14% shareholding Porsche had disclosed on September 16.

If Porsche settles its options, the company would receive the difference between the Volkswagen share price and the underlying strike price in cash. Porsche said it would then buy Volkswagen shares at their market price. Porsche intends to increase its stake in Volkswagen to up to 75% in 2009, to achieve a controlling interest in the company.

Porsche's larger than expected holdings, along with the German state of Lower Saxony's stake of 20.1%, meant that there was an effective free float of only 5.8%. This presented a squeeze for short sellers as they scrambled to cover positions from a much smaller pool of shares than they previously thought.

Volkswagen's equity price rose to €1005.01 on October 28 from €210.52 at the end of last week. It then plummeted back down again to close at €512 on October 29.

As a result of these price movements, German stock exchange Deutsche Börse lowered Volkswagen's weighting in the Dax to 10% from 27% on October 28. Porsche said on October 29 it would sell up to 5% of Volkswagen's shares so that short sellers could fulfil their delivery obligations without causing "further market distortions", which caused heavy losses for them earlier this week.

Investors have complained about the lack of transparency around options positions. Under German law, cash-settled options do not need to be disclosed to shareholders because they do not result in an entitlement to acquire shares. BaFin said that as a supervisory authority it does not have the remit to impose stricter disclosure requirements; this would instead be an issue for the country's legislature.

Porsche blames the short sellers for creating price distortions and dismisses any claims of wrong doing on its part. "Porsche denies all responsibility for these market distortions and for the resulting risks to which the short sellers have exposed themselves," said the company on October 29.

The company claimed it had complied with all the applicable capital markets law provisions and it was not active in the market during the recent share price movements.

"Allegations of price manipulation by Porsche are therefore without any foundation whatsoever," Porsche stated.

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