The Securities and Exchange Commission (SEC) released on April 10 for public comment proposed rules containing five potential approaches to short selling regulation. The proposals are all derivations of the "uptick rule," which was abolished in 2007. The proposals are divided into two, broad alternate approaches: a market-wide, permanent limitation on short sales below a certain price, or a security-specific, temporary limitation imposed only after a circuit breaker—namely, a ten percent intraday decline in the price of the security—is triggered.

With respect to the permanent approach, the SEC proposed two possible price tests: one based on the national best bid and one based on the last sale price (as in the original uptick rule).

With respect to the temporary approach, the SEC proposed either banning short sales on the applicable security or imposing an uptick rule based on one of the two aforementioned price tests. In each case, the limitation would be in effect for the remainder of the trading day.

The SEC also proposed amendments to Regulation SHO to require that a broker-dealer mark a sell order "short exempt" if the broker-dealer is relying on an exception to the relevant restriction.

The SEC's proposals were criticized by BATS Exchange CEO Joe Ratterman for being too broad and for lacking a specific plan consistent with the proposal submitted to the SEC by BATS and three other major exchanges. In a letter to SEC Chairman Mary Schapiro on March 24, Nasdaq OMX, BATS, the National Stock Exchange and NYSE Euronext recommended a modified uptick rule that would also be imposed only after a precipitous drop of "perhaps" ten percent in stock price. The exchanges proposed that only passive short sales (that is, sales that do not hit bids) at a price above the highest prevailing national bid would be allowed after the circuit breaker is triggered. This approach would be less restrictive than the SEC's proposed temporary ban on short sales but more restrictive than the SEC's uptick-based proposals. The exchanges also stressed the importance of an explicit exemption for market makers, a suggestion the SEC did not incorporate into its proposals.

The SEC expects to release a final rule after a comment period that will end 60 days after the proposals are published in the Federal Register. The SEC will hold a roundtable on May 5 which will include discussions with the exchanges. We are monitoring the proposals closely and will continue to update our clients on further developments.

Story: "BATS CEO Criticizes Proposed Short Selling Rules," Wall St. and Tech. (April 9, 2009)

SEC Press Release: available here (HTML)

Proposed Rule: available here (PDF)

Exchange Letter: available here (PDF)