Senators Push SEC To Rein In Naked Short Selling
By Ronald D. Orol for MarketWatch, July 10 2009
Kaufman, a long-time top aide to Vice President Joe
Biden and a prominent figure in the Obama-Biden transition to the White House,
replaced Biden in the senate when the Delaware lawmaker became vice president.
Unlike most senators, Kaufman, who has an MBA from the Wharton School at the
University of Pennsylvania, has experience with short selling investments and
is familiar with a wide variety of securities trading strategies.
Kaufman and other lawmakers want SEC to launch a
pilot program to study whether a pre-borrow requirement would end the problem
of naked short selling. Kaufman blames naked short sellers for expediting the
downfall of Bear Stearns and Lehman Brothers.
With a pre-borrow requirement an institution would
be required to arrange formally to borrow shares, or "pre-borrow"
before engaging in a short sale. In an emergency action last year, the SEC
temporarily required hedge funds and other short-selling institutions to
pre-borrow shares.
Naked short selling is the practice of selling a
stock short without first borrowing the security or ensuring that the security
can be borrowed as is done in a conventional short sale.
Without a pre-borrow requirement it is generally
enough for a broker to determine that it has a reasonable basis to deliver the
securities when an investor seeks to borrow shares for a short sale.
Kaufman says his staffers are in discussions with
the SEC on the pre-borrow issue, but he would like to see action. He indicated
that if the agency doesn't take action he may consider introducing legislation
on Capitol Hill that would require the agency to consider a pilot program on
the issue. Kaufman also said he could consider seeking to have that provision
attached to broader bank regulatory reform legislation that is expected to be
introduced in the fall.
Kaufman and three other lawmakers on June 24 sent a
letter to SEC Chairwoman Mary Schapiro seeking to have the commission establish
a pilot program to study the pre-borrow requirement.
An SEC official declined to comment on the letter.
He argued that the SEC may be apprehensive about
taking action against short-sellers, in part, because there haven't been major
problems lately. But he warns agency officials that there are legions of hedge
funds with capital ready to take action should another concentrated downturn
take place.
"If someone has made a lot of money in a
particular endeavor, he will take that opportunity to do it again in the
future," Kaufman said.
Uptick
Separately, under pressure from lawmakers and
financial institutions, the SEC in April approved the release of five different
proposals for reinstating the up-tick rule, a provision that would limit short
selling.
The five SEC proposals, which were put out for
comment vary from reinstating an old rule to creating a new rule that would
only apply in severe market conditions. The SEC expects to adopt one or more
up-tick rules by the end of summer.
The uptick rule, which was removed in 2007 after 70
years, allowed short sales only if the preceding sale boosted a company's stock
price by at least a penny. The uptick rule was designed to make sure short
sellers couldn't dominate trading in a stock to drive its price lower.
Kaufman said he supported bringing back the uptick
rule or a variation of it known as a "bid test," which allows short
sales only after a potential buyer bid at least a penny more than the company's
stock price. He would like to see a bid test combined with another SEC proposal
that would ban short selling in a particular stock for the remainder of the day
if its share-price dips 10% or more. However, Kaufman argued that 10% is likely
too large a drop.
"If it dips 10% that's way too much,"
Kaufman said.
Comments