New SEC rule takes aim at "naked" short-sellers
Tue Feb 1, 2005 03:47 PM ET
By Michael Flaherty
NEW YORK, Feb 1 (Reuters) - Billy Robinson fielded several shareholder complaints late last year that short-sellers were abusing his company's stock.
But ever since Robinson's holding company, Proxity Inc. (PRXT.PK: Quote, Profile, Research) , was placed on a list aimed at thwarting such abuse, the complaints have dwindled. Trading volume of Proxity's penny stock has gone back to normal, he said.
"I've seen short-sellers drive a lot of small companies out of business," Robinson said. "I'm hoping this can protect us from the big bad guys."
The St. Petersburg, Florida-based Proxity is among hundreds of companies placed on a "Threshold Securities" list, which stock exchanges started issuing on Jan. 7.
The U.S. Securities and Exchange Commission now mandates the daily lists in an effort to crack down on a shady practice known as "naked" short-selling.
The move is part of the SEC's broader effort, called Regulation SHO, to reform the rules governing short-selling.
Short sellers profit when a stock falls by selling borrowed shares of a company and buying the shares back later at a lower price for return to the lender -- and pocketing the price difference.
"Naked" short selling happens when a person sells short a stock he hasn't borrowed, which can result in what's known as a "fail to deliver" after the settlement date.
In that scenario, the broker who executes the sale never receives the borrowed shares to deliver them to the buyer. These unsettled trades are often overlooked by brokerage houses. But the impact can be devastating to a small company because "naked" short-selling can cause its stock price to plunge.
HIGH THRESHOLD
The "Threshold List" identifies stocks with aggregate "fails to deliver" of at least 10,000 shares for five consecutive days, or "fails" that constitute 0.5 percent or more of the company's outstanding stock.
If a "fail" in a threshold security remains open for 13 consecutive settlement days, the broker responsible for the transaction must purchase the shares, according to Regulation SHO.
In addition, Regulation SHO says broker-dealers must locate securities available for borrowing before executing a short sale.
Therefore, placing a bearish bet on a threshold stock may be more difficult and more expensive for short sellers.
Securities experts say it is too early to assess the impact of the list.
Beginning in early January, the New York Stock Exchange, the Nasdaq, the American Stock Exchange, the Chicago Mercantile Exchange and Archipelago began issuing the daily lists.
While the lists are dominated by mostly small-capitalization companies, the names of some bigger and better-known companies such as stun gun maker Taser International Inc. (TASR.O: Quote, Profile, Research) , egg producer Cal-Maine Foods Inc. (CALM.O: Quote, Profile, Research) , and supermarket chain Winn-Dixie Stores Inc. (WIN.N: Quote, Profile, Research) also appeared.
Dozens of small companies, including diabetic treatment company HEE Corp. (HCCF.PK: Quote, Profile, Research) and wireless phone company Hop-on.com, Inc. (HPON.PK: Quote, Profile, Research) , have issued press releases saying they were pleased to be put on the list, citing concerns about naked short-sellers.
"Our inclusion on the Threshold Security List verifies what we have believed for some time now -- that trading in our company's stock has suffered from abusive short-selling practices," Hop-on Chief Executive Dan Gannon said in a Jan. 11 statement.
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