Sunday, November 14, 2010 5:28:19 PM
The retail investor, as pointed put by Jiff, must locate actual shares before shorting. Since it is the brokers responsibility to do so, the broker simply adheres to rule #i because the individual is usually effecting a small trade and the broker almost always has long stock sufficient to cover any amount. In addition, the documentation is easily produced.
It is for the big money that the brokers are willing to rely on condition #ii in order to get the more profitable trade. It should be obvious to all that when regulators specify rules relying on Wall Street to do things in a "reasonable" fashion, a situation occurs where people push and often exceed these flimsy boundaries.
While I don't have the full text of REG SHO in front of me, I believe that one will find, in the full text, that provisions are made for shares that are sold and not delivered: If the shares are not delivered at settlement (T+3), the broker is required to buy-in the shares on the fourth day. Of course this rarely happens because the intent of the short seller is to manipulate the price on a very short term basis. They simply buy back (the shares that they did not borrow) before the end of the 3rd day.
This is the very same thing (only the other side of the coin) as "free-riding", which is outlawed by the SEC. Please see attached site: www.investopedia.com/terms/f/freeriding.asp
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