Short seling: The T+3 Close-Out Requirement

L

luckybastard

As we all know, the SEC created a new set of rules for shorting on september 17. After that, they created additional rules prohibiting the shorting of financial stocks, but I want to talk about the 'general' rules, as they were created on september 17. In particular about this one:

Hard T+3 Close-Out Requirement; Penalties for Violation Include Prohibition of Further Short Sales, Mandatory Pre-Borrow
The Commission adopted, on an interim final basis, a new rule requiring that short sellers and their broker-dealers deliver securities by the close of business on the settlement date (three days after the sale transaction date, or T+3) and imposing penalties for failure to do so.

If a short sale violates this close-out requirement, then any broker-dealer acting on the short seller's behalf will be prohibited from further short sales in the same security unless the shares are not only located but also pre-borrowed. The prohibition on the broker-dealer's activity applies not only to short sales for the particular naked short seller, but to all short sales for any customer.
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http://www.sec.gov/news/press/2008/2008-204.htm

Can anybody explain what that means ? Does that mean that you can still short naked, but you now HAVE to cover within 3 days ? Or does this mean that from now on, you are not allowed to short naked at all anymore and you need to have the stock borrowed first ?
 
Quote from luckybastard:

As we all know, the SEC created a new set of rules for shorting on september 17. After that, they created additional rules prohibiting the shorting of financial stocks, but I want to talk about the 'general' rules, as they were created on september 17. In particular about this one:



http://www.sec.gov/news/press/2008/2008-204.htm

Can anybody explain what that means ? Does that mean that you can still short naked, but you now HAVE to cover within 3 days ? Or does this mean that from now on, you are not allowed to short naked at all anymore and you need to have the stock borrowed first ?
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Thats my read...

Can't violate the the rules until the settlement period expires...

If your out before T+3... no crime... no time..

Your broker is held to enforce these sec rules... If your not square the broker will fill you at market on or before T+4.
 
I'd love a clear explanation of this rule as well.

Thanks to the short positions I held at the close on 9/18 I received an email from IB this morning saying that I might be subject to buy in today to ensure their compliance if I fail to act and close my short position in a timely manner.

This was confusing to me since the positions had already been closed. Maybe the simplest explanation is that IB sends this email to everyone who had a short position whether or not it has since been closed. In any case, I called them for clarification. Unfortunately, the brief conversation I had with an IB rep did little to clarify.

I emphasized that my position was already flat. However, the IB rep seemed to say that I might get bought in anyway since, if I understood correctly, the shares I bought to cover have not settled themselves and cannot be delivered.

That doesn't make much sense, though, since any shares the broker buys at T+3 to ensure delivery would also be unsettled.

Thought?
 
This happened to me today as well. I was forced to cover and close out about half of my short positions in several stocks. Two of them in fact were still on the shortable list! So I guess I could have covered, then re-shorted them and gotten another 3 days before I covered. Not worth the trouble though.

I understand the no-naked short rule gives no room for IB to allow a few extra days for settlements, it must be T+3 (or T+4), but what happened to their large stock inventory? Did they get all their borrows from GS and LEH?
 
The firms were complaining Thursday that the SEC really didn't explain the rules. I don't think they know. I think it was dictated to them, either by homeland security, or the Three Letter Guys. Just look how the SEC did it. Every see them do anything like that before.

Regardless, it appears a rule never enforced now carries such penalties, and who knows what they are, no one is willing to even err by mistake.

These are strange times indeed.

PS. I actually had a stock loan officer tell me buyins were today. They actually are tomorrow, which is T plus 4 from Thursday.
 
I understand it as absolutely no naked short selling. The Hard T+3 means you must locate the stock before you short it. Settlement takes 3 days, T+3. So if I short GS and cover it before the close my BD still has to deliver the borrowed shares on settlement day, 3 days from now. If they can't deliver the borrowed shares by settlement then no customers of the BD can short the stock for 30 days, without pre-borrowing the stock first, which means the BD must have the borrowed shares in it's vault before a short position is opened.

It was explained to me today that if the BD locates 50k shares of GS that it can borrow. And if one customer shorts 20k shares, then no other customer can use those shares to short for the rest of the day. So then the BD only has 30k of the original 50k shares that it's customers can use. And if another customer shorts 30k shares then no other customers of that BD can short GS for the rest of the day. But the two customers that did short can short and then cover in and out of a 20k or 30k position all day long. So first come first serve. If you don't short the stock in the morning before everyone else and reserve those shares for your account, there won't be any shares left to short by the afternoon.
 
Your missing the "reasonably believes" provision of the order.

You can go short naked or otherwise... Be flat by T+4... if not point the finger back to your broker as you reasonably believed he had you covered.

The SEC is not going to prosecute retail traders unless your volume and intent is malicious. They are going to fine and hang your broker.
 
tomu, There is a vast difference between locate and settlement. this new rule allows naked shorts to take place so long as they are covered within the settlement period of T+3.

For example, 10 people can still use a common locate of 50,000 shares (total 500,000 short on trade date) and only one will have the shares available on settlement date. the others will fail their trades if they have not already closed out the trade. The 500,000 short still impacted the market on trade date.

The only solution is a real hard pre-borrow rule not a hard settlement rule. Hard pre-borrow guarantees settlement. Hard settlement allows for failures that require secondary action and regulatory audits to detect fraud.
 
Rules are one thing. But I'm noticing the way these firms are acting. They are being diligent in excess of the law in cases.

Either the Feds that were put in after the BSC debacle are on the alert, or the fines are so onerous as to really scare people who, up to now, thought themselves above the law.

The way Tomu explains it, IB, who used to offer a lot of pennies as locates, is taking this a step farther. Patchie is saying they can lend that first 30 several tlimes over, as long as it's put back by T+3. But they aren't doing it that way.

I"m glad. Why should these guys usurp the 33 act, and have their own secondaries on an hourly basis? The law is specific. You can only lend hypothecated fully paid shares.

Rules are so annoying.
 
Quote from tomu:

I understand it as absolutely no naked short selling. The Hard T+3 means you must locate the stock before you short it. Settlement takes 3 days, T+3. So if I short GS and cover it before the close my BD still has to deliver the borrowed shares on settlement day, 3 days from now. If they can't deliver the borrowed shares by settlement then no customers of the BD can short the stock for 30 days, without pre-borrowing the stock first, which means the BD must have the borrowed shares in it's vault before a short position is opened.
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I'm selling a stock today that I don't own. On settlement date (T+3) my BD has to deliver the shares to the guy that I've sold them to. If my BD doesn't have any shares, they must borrow them somewhere. If they don't have any shares and can't borrow them, they 'fail to deliver' and now under these new rules, are in deep trouble.

But now let's say, I'm selling a stock today and I'm covering 2 minutes later. Which means that on the end of T+3 my BD has to deliver the shares I sold to the buyer I sold them to. However, my BD also receives shares on the end of T+3 from the guy I've bought them from. So, technically, as long as I'm flat end of day, the sale isn't even a short sale and my BD doesn't have to deliver 'borrowed' shares, they can just deliver the shares i've bought. Or am I missing something ? :)

To answer my own question: I'm afraid that the rule is that the clearing firm can't match trades on T+3 like that (e.g. even if they get delivered shares I bought, they still have to borrow shares first, sell those to the buyer and then give back the shares they receive as a result of my buy, to the lender). However I can't find any clear rule that states it like this ... This 'small' detail has a huge impact on us, daytraders ...
 
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