“Regulators and politicians always need someone to blame when people lose money. The shorts, along with fair value accounting and the ‘irresponsible media,’ were easy targets for those seeking scapegoats for a half-decade of bad banking.”
Financial Times December 30, 2008 (72)
Close Out Requirements
Regulation SHO imposes a “close out” requirement to address persistent failures to deliver stock in certain “threshold securities.”(66) With limited exceptions, broker-dealers who are participants of a registered clearing agency must close out all failures to deliver that exist in threshold securities for 13 consecutive settlement days by purchasing securities of like kind and quantity (“close out”).(67) Until the open fail is closed out, the broker or dealer, and any broker or dealer for which it clears transactions, including market makers, may not effect further short sales in that threshold security without borrowing or entering into a bona fide agreement to borrow the security (a “pre-borrow”).(68)
Each SRO is responsible for providing the threshold securities list for those securities for which the SRO is the primary market.(70) Appearance on the threshold list “does not necessarily mean that there has been abusive naked short selling or any impermissible trading in the stock.”(71)
Other rules and regulations may also apply to short sales, such as Federal Reserve Board’s Regulation T margin requirements.
CONTINUE
Close Out Requirements
66. A “threshold security” is any equity security of an issuer that is registered pursuant to section 12 of the Securities Exchange Act or for which the issuer is required to file reports pursuant to section 15(d) of the Securities Exchange Act for which there is an aggregate fail to deliver position for five consecutive settlement days at a registered clearing agency of 10,000 shares or more, and that is equal to at least 0.5% of the issue’s total shares outstanding; and which is included on a list (“threshold securities list”) disseminated to its members by an SRO.
Securities of non-reporting issuers are not “threshold securities” but are subject to similar requirements under FINRA Rule 3210.
67. An “options market maker exception” formerly excepted any fail to deliver in a threshold security result from short sales effected by a registered options market maker to establish or maintain a hedge on options positions that were created before the underlying security became a threshold security. The exception did not require that such fails to deliver be closed out. The SEC eliminated the options market maker exception in October 2008. See Release No. 34-58775, amendments to Regulation SHO, 73 FR 61690.
In 2007, the close out requirement was extended from 13 to 35 consecutive settlement days for fails to deliver resulting from sales of threshold securities pursuant to Rule 144 of the Securities Act of 1933. If the fail to deliver position persists for 35 consecutive settlement days, a participant of a registered clearing agency, and any broker-dealer for which it clears transactions, including market makers, may not accept any short sale orders or effective further short sales in the particular threshold security without borrowing, or entering into a bona-fide arrangement to borrow, the security until the participant closes out the entire fail to deliver position by purchasing securities of like kind and quality. See SEC, Amendments to Regulation SHO, Release No. 34-56212 (August 7, 2007). Available at: http://www.sec.gov/rules/final/2007/34-56212.pdf
68. Key Points, op. cit.
70. You can obtain SRO threshold lists at the following sites:
Nasdaq: http://www.nasdaqtrader.com/aspx/regsho.aspx (includes Nasdaq issues, OTCBB, and other OTC issues)
NYSE: http://www.nyse.com/Frameset.html?displayPage=/threshold/
AMEX: http://www.amex.com/amextrader/tradingData/RegSHO/TrDa_RegSHO.jsp (Amex-listed securities only)
CSE: http://www.chx.com/publications/reg_sho.htm
ArcaEx: http://www.tradearca.com/traders/regsho_th.asp
71. Key Points, op. cit.
72. “Lex Column,” Financial Times, December 30, 2008. Available at:
www.ft.com
