"Since these short sales stem from nonexistent shares, the trades don't settle. The SEC's rules are aimed at curtailing potentially abusive or manipulative naked short selling by tracking the number of unsettled trades and then imposing limits on trading these shares.
SEC officials say previous rules work most of the time. But when market participants enter into naked short sales on a massive scale, they could have an endless supply of shares and "could drive down the price in an abusive or manipulative way," says James Brigagliano, assistant director in the SEC's Division of Market Regulation."
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