March 26, 2007
Your previous efforts on dealing with the fails on market transactions has been somewhere between poor and non-existant. The regulations in force prior to Reg SHO were not enforced, and the grandfathering of fails was a disaster.
In the last ten years, many companies have gone broke as a result of the inability to retain liquidity, the delisting from the major exchanges, and loss of available financing, because the stock was continuously shorted to the point where the number of existing shares in circulation has grossly exceeded the issued number of authorized shares.
There is no need for the grandfathering of fails. Let's get rid of this entirely with a 60 close out period.
The MM exception should not be used once the stock has become a threshold security. All fails should be closed in 35 days. Rolling fails forward by writing new options should not be permitted on threshold securities.
There are many issues beyond grandfathering and the MM exception that allow broker/dealers and investor groups like the unregulated hedge funds to manipulate stock prices. EX-clearing between broker/dealers is a big problem because the actual number of fails is concealed. Stock borrowing when a short is written does not increase the volume of shares in circulation, but broker/dealers have a great deal of liberty in borrowing stock in margin accounts without the owner's knowledge or permission. We don't know how many fails are created at the broker/dealer level because the shares are held by the broker/dealer in the street name, and only net transaction counts are reported to the DTCC. Unless the retail customer obtains his stock certificates, there is no confidence that his votes will be properly registered. If the securities were all registered in owner's names the voting problem would be eliminated.
The vague language that was deliberately used when writing Reg SHO to provide the broker/dealers with flexibility does not belong in a regulation that should protect the interests of the retail investor. What if other laws intended to protect the public were written this way. If the laws regarding bank robbery were constructed this way, the bank robbers would hardly be prosecutable. The regulation should be amended to put clear limits on broker/dealer transactions that result in failures to deliver the purchased equity.
Until the last 50 years, paying for anything before the goods or services were delivered was almost non-existant. Why should broker/dealers be allowed to collect money from the retail investor for a share entitlement on a share of stock that does not exist?
Lastly, let's have some active enforcement to assure that market manipulation by investing groups and hedge funds is eliminated. What good are regulations if they are not enforceable or enforced?