Late last week, the Securities and Exchange Commission announced that it had finally adopted amendments to its Regulation SHO, which governs short selling activity in specified “threshold securities” and voted to eliminate the “tick test” contained in Rule 10a-1 of the Securities Exchange Act of 1934, as amended. The amendments are intended to streamline and tighten the short selling restrictions contained in Regulation SHO so as to further limit naked short selling of certain publicly traded securities. At the same time, the amendments remove antiquated and artificial restrictions on legitimate short selling activity.
Regulation SHO defines a “threshold security” as an equity security of a reporting issuer (i) for which there is an aggregate fail to deliver position for five consecutive settlement days at a registered clearing agency of 10,000 shares or more, and that is equal to at least 0.5% of the issue’s total shares outstanding and (ii) that is included on a list promulgated by a self-regulatory organization. Under Regulation SHO, any broker-dealer that has a fail to deliver position in a threshold security for 13 consecutive settlement days is required to close out the fail to deliver position by purchasing securities of like kind and quantity. Pursuant to Rule 203(b)(3)(i), this “close-out” requirement did not apply to any fail to deliver position that existed prior to the time that the applicable security became a threshold security.
Under the amendments, this “grandfather” provision has been eliminated so that all fail to deliver positions in threshold securities will have to be closed out within 13 consecutive set tlement days, regardless of whether they occurred before the security became a threshold security. Any grandfathered positions will be required to be closed out within 35 settlement days of the date the amendments become effective. In addition, under the amendments adopted by the SEC, the close out requirement for fails to deliver resulting from sales under Rule 144 will be extended from 13 to 35 consecutive settlement days.
The SEC has also proposed to remove the options market maker exception to the close-out requirement. In addition, the SEC voted to propose amendments to Rule 200 and to re-propose amendments to Rule 203 of Regulation SHO to require broker-dealers marking a sale as “long” to document the present location of the securities being sold.
The SEC also voted to remove the “tick test” previously contained in Rule 10a-1 under the Exchange Act, and any short sale price tests or price restrictions imposed by any self regulatory organization. The tick test in Rule 10a-1 had prevented short sales of listed and certain traded securities at a price below the price at which the last regular way sale had taken place or at a specific price unless that price was above the next proceeding different price at which a regular way sale of the security had taken place. The removal of the “tick test” will provide short sellers with additional flexibility to sell into a down market.
The rule changes approved by the SEC will be effective 60 days after the publication of the amendments in the Federal Register.