NASD Asks SEC To OK Tougher Short Sale Rules
By Carol S. Remond
A Dow Jones Newswires Column
NEW YORK (Dow Jones)--The NASD is taking steps to further tighten short
selling rules for its members.
NASD has asked the Securities and Exchange Commission to approve a new
rule
that would require clearing firms to make delivery, or take affirmative
steps to
make delivery, within 10 business days after settlement date for all short
sale
transactions with no exemption.
Under current NASD rules, bona fide market making activities and
arbitraged
positions are exempt from the 10-days delivery requirement. Under the new
rule
proposed by NASD, market making activities and arbitraged positions will no
longer be exempt.
NASD said the new delivery rule is needed to address abusive short selling
activities, including naked short selling or short selling without first
borrowing securities to make delivery.
A short seller typically borrows stock from a broker to sell it into the
market, betting that the share price will fall so that he can buy the stock
back
at a lower price and pocket the difference.
NASD said that naked short selling "can result in long-term failures to
deliver, including aggregate failures to deliver that exceed the total float
of
a security." NASD said it believes that such "extended failure to deliver
can
have a negative effect on the market."
"Existing NASD rules are designed to address the settlement of short sales
transactions, but NASD has concluded that these rules need to be revised and
updated to address directly the current problems occuring in the
marketplace,"
NASD said.
The move by NASD to tighten delivery rules follows the approval by the SEC
late last year of a more aggressive NASD affirmative determination rule that
closed a loophole that allowed non-NASD members, mostly foreign brokerage
firms,
to short stocks without first borrowing shares.
NASD's affirmative determination rule stipulates that brokers and dealers
engaged in a short sale transaction must make sure that shares can be
delivered
by settlement time, three days later. Market makers engaged in bona fide
market-making activities will continue to be exempt from affirmative
determination under NASD's tougher rule which is scheduled to take effect on
April 1.
To address concerns that the non-exemption of market making activites
could
lead to a lack of liquidity, NASD said that clearing firms will be able to
request two five-days extensions if they fail to deliver stock within
10-days.
"If delivery is not made within the requisite time period, the following
trading restriction will apply until delivery is effected: the account which
has
failed to deliver against its sale, or any other accounts held at the
clearing
firm by the legal or beneficial owner of such account, would be restricted
from
selling short the same security to which the failure to deliver pertains,"
according to the new NASD delivery rule.
NASD said that the proposed rule change will reduce the amount of extended
failures to deliver in securities and will enhance the integrity of the
market
and the clearance and settlement system. This is the first time that NASD
acknowledges problems and mounting failures to deliver stock necessary to
settle
transactions.
Although separate from it, the amended NASD affirmative determination rule
and
its new delivery rule fit tightly within new short selling regulations,
known
as Regulation SHO, being put forward by the SEC. Regulation SHO is currently
under review by the SEC staff after a period during which market
participants
were invited to comment on it.
As it stands, SHO will make it easier to short large-cap stocks since they
would do away with the "uptick" rule, which bans short selling on a stock
when
the price is falling. But it when it comes to the small-cap markets, where
it's
often impossible to borrow stock, the impact of SHO will be the opposite,
making
it harder to short sell stock.
Under SHO, a broker or an investor that fails to deliver within two days
after
the settlement date will effectively be unable to short sell that stock for
90
days. The new SEC rule sets a predetermined level of so-called clearing
fails,
cases in which a broker or investor cannot deliver stock within two days
after
settlement, which will trigger the 90-day blackout during which that
customer
will not be allowed to short sell that security. That 90-day exemption would
also affect trading of U.S. securities outside the U.S.
NASD said it will announce the effective date for its new delivery rule to
members "no later than 60 days following (SEC) approval. The effective date
will
be 90 days following publication of the Notice to Members announcing (SEC)
approval."
(Carol S. Remond is one of four "In The Money" columnists who take a
sophisticated look at the value of companies and their securities and
explore
unique trading strategies.)
-By Carol S. Remond; Dow Jones Newswires; 201 938 2074;
carol.remond@dowjones.com
(END) Dow Jones Newswires
18-03-04 2128GMT
