On October 15, 2008, the Securities and Exchange Commission (the “Commission”) adopted an interim final temporary rule requiring certain institutional investment managers to file information on Form SH concerning their short sales and positions of section 13(f) securities, other than options.
The new rule (the “Interim Rule”) extends the reporting requirements established by the Commission’s Emergency Orders dated September 18, 2008, September 21, 2008 and October 2, 2008 (the “Emergency Orders”), but with some significant modifications. The extension became effective on October 18, 2008 and is scheduled to expire on August 1, 2009, unless the Commission acts to amend or continue the rule beyond that date.
In promulgating the Interim Rule, the Commission stated that it continues to be concerned with erratic movements in the pricing of securities and disruptions in the way that the securities markets have been functioning. The Commission stated that it is also concerned about “unnecessary or artificial price movements that may be based on unfounded rumors and may be exacerbated by short selling.” The Commission intends to use the Form SH data to evaluate whether the current rules are working and also to consider whether new restrictions are justified.
The Commission promulgated the Interim Rule without first publishing notice of the proposed rulemaking. The Administrative Procedure Act generally requires an agency to publish notice of a proposed rulemaking in the Federal Register. This requirement does not apply, however, if the Commission “for good cause finds… that notice and public procedure are impracticable, unnecessary, or contrary to the public interest.” The Administrative Procedure Act also generally requires that an agency publish an adopted rule in the Federal Register 30 days before it becomes effective. This requirement, however, does not apply if the agency finds good cause for making the rule effective sooner. Citing concerns about the “recent sudden and excessive fluctuation of securities prices and disruptions in the fair and orderly functioning of the securities markets,” the Commission believed that it had good cause to act immediately without giving advance notice.
As with the Emergency Orders, the Interim Rule requires the filing of weekly reports of short sale activity by institutional investment managers that exercise investment discretion with respect to accounts holding securities described in Rule 13f-1(c) under the Securities Exchange Act of 1934 as amended (the “Exchange Act”) that have an aggregate fair market value of at least $100,000,000. The Interim Rule extends the requirements to file Form SH until August 1, 2009 with some significant modifications:
- Beginning on October 18, 2008, the Form SH weekly filing deadline will be the last business day of the calendar week (i.e., Friday). This filing deadline is a change from the Emergency Orders, which required forms to be filed on the first business day of the week (i.e., Monday). The first filing under the Interim Rule is due on Friday, October 24, 2008 and will cover trading activity for the week beginning Sunday, October 12, 2008;
- Filers will no longer be required to disclose the value of the securities sold short (previously column 5 of Form SH), the largest intra-day short position (previously column 7 of Form SH) and the time of day of the largest intra-day short positions (previously column 8 of Form SH);
- Filers will no longer be able to exclude short positions held prior to September 22, 2008. The Interim Rule requires the reporting of all short positions, including those acquired prior to September 22, 2008. This means that the start of day position and end of day position will need to include all prior short positions to the extent those positions remain open on the relevant reporting date;
- The threshold for reporting short sales or positions in a security will be raised from a fair market value of $1 million to a fair market value of $10 million. As was the case under the Emergency Orders, the value is based on the market price of the security as of the close of trading on the New York Stock Exchange for the day in question. It is important to note that this threshold is on a security-by-security basis and is not calculated based on the aggregate short positions that the filer holds in all securities;
- In order to facilitate the Commission’s ability to review the data, Form SH filers will now be required to submit an XML tagged data file to the Commission providing the requested data; and
- Whether an institutional investment manager is subject to the Interim Rule depends on whether it filed, or was required to file, a Form 13F for the most recent calendar quarter, rather than only the quarter ended June 30, 2008.
The Interim Rule continues the two filing exemptions that were available under the Emergency Orders with some modifications. As with the Emergency Orders, an institutional investment manager is not required to file a Form SH if it has not engaged in any short sales during the reporting period, even if the manager closes a short position during that period. In addition, there is no need to file a Form SH if on each calendar day of the reporting period, the following two conditions are met: (i) the start of day short position, the gross number of securities sold short during the day and the end of day short position in each security sold short constitute less than one-quarter of one percent of the issued and outstanding shares of that security as reported on the issuer’s most recent annual, quarterly or current report filed with the Commission; and (ii) the fair market value of the start of day short position, the gross number of shares of such security sold short during the day and the end of day short position is less than $10,000,000 (the “De Minimis Exemption”). In order to rely on the De Minimis Exemption to avoid the filing of a Form SH entirely, these conditions must be true for each security sold short during the entire reporting period (the full week).
The foregoing exemptions allow an institutional investment manager to avoid filing a report. As with the Emergency Orders, however, the investment manager may also rely on the De Minimis Exemption to exclude data from Form SH. The investment manager can take advantage of the De Minimis Exemption on a day-by-day and column-by-column basis. For example, if the filer engaged in a short sale on a particular day, but the sale meets the De Minimis Exemption, the filer may enter “N/A” for that security under the column pertaining to the number of securities sold short that day. In fact, as with the Emergency Orders, “N/A” can to be used any time a filer is required to file Form SH, but is relying on the De Minimis Exemption to omit information.
As noted above, the Interim Rule requires that certain information be filed in XML tagged data format. The XML tagged data file will contain most of the relevant information to be reported, including the name of the issuer, the CUSIP number of the issuer, the short position at the start of the day, the number of securities sold short on that day and the short position at the end of the day.
Institutional investment managers as well as the Commission have expressed concern that the public availability of Form SH information could give rise to “additional, imitative short selling.” Accordingly, as with the Emergency Orders, the Interim Rule provides that all Form SH filings will be “nonpublic to the extent permitted by law.” It is anticipated that the Commission will receive requests to disclose Form SH filings under the Freedom of Information Act (“FOIA”). In discussing the Interim Rule, the Commission noted that FOIA provides at least two exemptions under which the Commission has authority to withhold the information: (i) Exemption 4 provides an exemption for “trade secrets and commercial or financial information obtained from a person and privileged or confidential”; and (ii) Exemption 8 provides an exemption for matters that are “contained in or related to examination, operating, or condition reports prepared by, on behalf of, or for the use of an agency responsible for the regulation or supervision of financial institutions.” This language in the Commission’s discussion suggests that the Commission intends to resist FOIA requests for Forms SH. The Commission also stated in the Interim Rule that a Form SH filer should not submit a confidential treatment request, but should label its Form SH as non-public, as required by the instructions to the form.
The next Form SH is due on Friday, October 24. For the first two filings under the Interim Rule (October 24 and October 31), however, an institutional investment manager may exclude disclosure of short positions reflecting short sales effected before September 22, 2008. If the manager chooses to do so, the manager must use a fair market threshold of $1 million (as opposed to $10 million) in determining whether data can be omitted based on the De Minimis Exemption. For the October 24 and October 31 filings, an institutional investment manager is not required to file Form SH in XML format, but may file on EDGAR in the same manner as required pursuant to the Emergency Orders. Commencing with the November 7, 2008 filings, all filers will be required to submit Form SH in XML format. The Commission estimates that it will receive approximately 1,000 Form SH filings each week during the nine-month period that the Interim Rule is scheduled to be in effect. The Commission believes that the Interim Rule will help restore investor confidence and also combat manipulative trading by making it easier for the Commission to analyze short selling activity. The Commission acknowledges, however, that the Interim Rule imposes significant costs on institutional investment managers. These costs include the time it takes to track the data and legal expenses associated with filings. Overall, the Commission is of the opinion that these additional costs are justified when weighed against the potential benefits.
In releasing the Interim Rule, the Commission requested comments on many topics including the following: whether there are better ways to collect information about short sales; whether the Interim Rule will have the effect of reducing manipulative behavior and other improper conduct by short sellers; whether the Commission should amend the rule to require filers to report any synthetic arrangements that function as short sales; whether the Commission should extend the Interim Rule beyond the August 1, 2009 expiration date; and whether the Commission should promulgate a long-term or permanent short sale rule following expiration of the Interim Rule. Comments on the Interim Rule must be received on or before 60 days after the Interim Rule is published in the Federal Register.