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Sunday, July 02, 2023 10:25:44 PM
Consequences of Naked Shorting
Naked shorting exposes many important questions for retail investors: what exactly any of them has purchased- if anything- if they don’t receive any purchased or borrowed shares? “In this case, the brokers will place a marker or pledge to deliver the shares on the investors’ accounts, which are made by the seller’s clearing firm”.[21] Abusive and unchecked naked shorting can lead to a loss of shareholder rights, including disenfranchisement by overvoting and the resulting throwing out of votes by brokers to conceal the breadth of the naked shorting problem[22] which could also lead to fraudulent vote results orchestrated by broker-dealers instead of shareholders; the multiplicity of shares can lead to significant financial losses to investors and issuing companies because the traded float may be many times the authorised and outstanding (the share price is artificially diluted)[23], which can lead to companies desperate for capital having to agree to dilute their shareholders further and unnecessarily, agree to predatory debt arrangements if they could not raise the appropriate levels of liquidity via a share offering or go bankrupt, in which case short-sellers would never have to close their short position. Unchecked and unsupervised Naked Shorting could be considered a financial weapon of mass destruction to capital formation, innovation, investors, and companies that fall victim to it.
US LAWS TO ‘PREVENT’ ABUSIVE NAKED SHORTING: SEC REGULATION on Short Selling “Reg SHO” / close-out obligations and FTDS
Rule 204 of Regulation SHO[24]
“The SEC adopted Regulation SHO to address concerns regarding persistent failures to deliver and potentially abusive “naked” short selling, e.g., the sale of securities that an investor does not own or has not borrowed. What most people consider fraud.
Accordingly, Rule 204(a) of Regulation SHO requires broker-dealers to take action to close out fail-to-deliver positions (fails or FTDs) resulting from short sales in equity securities by borrowing or purchasing securities of like kind and quantity by the beginning of regular trading hours on the settlement day following the settlement date.
A violation of Rule 204 of Regulation SHO is also a violation of FINRA Rule 2010, which requires members to observe high standards of commercial honour and just and equitable principles of trade in the conduct of their business”.[25]
Bi-monthly the SEC publishes FTD (Failure to Deliver) data collected from securities clearing and settlement carried out through the National Securities Clearing Corporation (NSCC)[26] in the United States and Canada. The NSCC is registered with the SEC, however, was only recently granted permission to do so in the European Union[27] and is a minor player there. The reason the SEC requires disclosure of FTD data is to be able to monitor and enforce its rules as adopted under Regulation SHO — Regulation of Short Sales[28] to discover if there has been any naked short abuse, or persistent FTD that is causing significant harm to capital formation for companies and loss of capital gains by retail investors.
What the SEC doesn’t publish is FTDs of US-issued securities that were traded and settled abroad- where significant trading of these securities takes place. Nor does the SEC publish FTD data of direct participants of the Depository Trust Company (DTC) in the United States that transfers equities to and from many international banks and broker-dealers to facilitate the use of U.S. equities for the purposes of collateral use and trading of U.S. equities in foreign markets.[color=red][color=red][/color][/color]
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