Loading Large investors have been understandably negative on the sector as, over the past year in particular, the bad news has outweighed the positive. There has been increasing evidence that credit growth is slowing and that this will continue through this calendar year. The costs associated with compensating customers, legal actions and investment in processes and systems that are needed to ensure problems don’t reoccur are already counted in the billions. Thus it is easy to see why many large investors saw potential for a profit in betting against the banks.

Leading the pack of four as the most shorted is the Commonwealth Bank, according to a Macquarie Capital report on bank shorting. National Australia Bank is the smallest volume of short selling. But there are a couple of potential near term traps for these investors. There is a chance that Hayne will not recommend too many new regulations and instead - as he did in his interim report - push banks to follow the existing regulations. Having said that even just obeying the rules properly - particularly the laws around responsible lending - will place pressure on the banking industry’s ability to lend money. And any measures from Hayne that will limit volume-based sales incentives won’t help bank revenues either.

CBA shares could rally after its earnings results. Credit:Glenn Hunt But if there are no serious additional or unforeseen recommendations coming from Hayne’s final report the immediate response from the market could be benign. The other risk for the short sellers is that the Commonwealth Bank produces a better than expected earnings report on Wednesday which would propel its shares up. And this in turn could create a short squeeze pushing the share price up further. The market is expecting cash earnings to come in around flat or slightly above the previous corresponding period. Bloomberg consensus sits at $4.92 billion.

But investors will be looking for a clearer view on how revenue and costs and margins are tracking for the second half and any indication around dividend policy. CBA trades at a significant 15 per cent premium to its peers - which would be at risk if its earnings disappoint. It also may explain why it has been the most heavily-shorted bank in Australia. While large investors have been underweight banking stocks, the Macquarie report suggests some local institutions are starting to increase their weighting slightly but offshore investors are steering clear. What’s really interesting about this report is that retail investors have been buying the banks in response to their weaker share prices. This suggests that small shareholders simply couldn’t resist the handsome yield that bank stocks offered as prices fell.

Loading But it’s a gutsy call. If the half-year dividend doesn’t fall, these small shareholders will be rewarded for their faith/greed - for now at least. If credit growth falls off a cliff in six months or a year, the dividend paid by all the banks will be under threat. And as Macquarie points out, "should Labor’s imputation credit policy be implemented this could create selling pressure in CBA from retail investors".

Indeed a Labor win would present other negatives for the banks. In the first instance it has already vowed to implement all of the Hayne recommendations, where the Coalition appears more guarded. Also changes to negative gearing and capital gains tax stand to further dampen the already falling housing prices. Whether a short seller or a retail investor, there is plenty of uncertainty surrounding a punt on the banks. The banks' results will be messy and hard to interpret as they will include plenty of one-off items associated with various asset sales. While all have made provisions related to the mistakes highlighted by the royal commission, there is potential for additional costs over the near to medium term.

When it comes to banks there is no shortage of unknown unknowns. The threat to big banks is not existential as it may be for some wealth managers but shares could still be punished further.