Post by jannikki on Jul 5, 2007 18:40:39 GMT -4
STOCKGATE TODAY
An online newspaper reporting the issues of Securities Fraud
A 6.8% Problem With SHO - July 5, 2007
David Patch
On June 13, 2007 the Securities and Exchange Commission staff unanimously approved reforms to the 2004/5 version of Regulation SHO thus eliminating the much controversial and ill-advised grandfather clause. The SEC staff called this the next step in the elimination of abusive naked short selling.
In reality, it was merely a baby step in the land of giants. A smokescreen.
While it may be the first weeks of July, the public has yet to see how the final rule will read nearly a month later due to the significant delays by the SEC in filing this rule into the Federal Register. Such delays do not restrict the public from understanding the gist of the new rule change however and the flaws that will become apparent over the next year(s) until additional reforms are again voted upon.
Consider that although Section 17A of the Exchange Act of 1934 requires the prompt and accurate settlement of all trades, Regulation SHO only addresses long standing settlement failures that occur after a company has reached failures at potentially abusive levels instead of focusing on the letter and the spirit of the law that applies to all trades. The new Regulation SHO continues to have a "kick-in" phase that excludes potential abuses from being acted upon.
In eliminating the grandfather clause of SHO the SEC now mandates that failures to deliver that exceed 13 trade days on companies listed, as SHO threshold companies must be immediately closed out. In the past, only those fails that occurred post SHO threshold listing were required immediate closeout while the originating fails that brought the market to threshold levels, minimum 0.5% of issued and outstanding, was exempt.
The SEC has not yet defined how the mandatory close outs will commence and what time restrictions are placed on such close outs but if the past is any indicator there will be much flexibility afforded the members. Guaranteed buy-ins will not be part of the language imposed despite calls by the NASD in a March 2005 comment memo that such language be used in defining a mandatory close out.
More importantly, market makers who generate a large accumulation of fails in the system as part of their natural business operation will have no market making restrictions placed upon them during a mandatory close out phase. It will quickly become a game of survival and manipulation.
Under the new law, market makers will continue to be allowed to make a bona fide market, representing the best offer in a market without the actual inventory to represent that offer, at the same time when the law requires the firm to be a purchaser of shares in this same market. By representing the best offer, sellers of real inventory will be forced to come down to the represented offer made by the market maker if a sale is to be made. By working the offer downward, dragging real sellers down with them, the market maker can manipulate the market in order to protect the cost liability of that mandatory close out eventually closing out into a purchase from a distressed seller.
All of this of course involves only those companies with the unfortunate occurrence that the accumulation of fails exceeds the 0.5% necessary to become an SHO threshold security company.
What of those that are manipulated and subjected to smaller intervals of abuse?
To become a threshold listed security the level of fails not only has to reach critical mass but must then persist above that level for a minimum of 5 trade days. If you date back to the originating trade date, and the T+3 settlement cycle, this is a period of a minimum of 8 trade days.
Market Makers and other stock manipulators will use this delay to create market volatility and drive failures in and around the SHO levels without actually getting to the full qualification conditions. For example, simply dipping below 0.5% in fails for one day will restart the clock on threshold qualifications.
This market volatility will become mini bear raids that will take place over a short interval of time and will wipe out 10, 15, 25% or more in market cap in a process of covering fails. I illustrated just such an event in an earlier Stockgate Today article last month.
The members are well aware that spikes in settlement failures go undetected by the SEC and that the SEC only reviews settlement issues once a company has been listed on the threshold list. The SEC allows you to go in and rob a bank of $5,000 a day; they only want the call when you steal $100,000 in single swipe.
In fact, Rules 15c3-3 and 15c6-1 were put in place at a time where the industry was reviewing the impact of settlement failures to the safety and efficiency of the markets. The rules required brokers to enter into a contract for trade where trade settlement was conducted within 3-days. These rules did not state, as long as the market was above threshold levels, these rules apply to all trades.
The rules for bona-fide market making likewise allows for the "temporary" sale of shares not held in inventory in order to stabilize a market.
There is nothing temporary about a trade failing beyond 13 trade days and certainly no excuses for natural trades to exceed 13-day settlement with greater than 95% of the market trading electronically.
From a 2004 SEC concept release on improving Securities Settlement, "The U.S. clearance and settlement system settles more trades today with a lower failure rate than before Rule 15c6-1's adoption. "In May 1995, before T+3, and with an average daily volume running at 726 million shares in NYSE, Amex and NASDAQ securities, NSCC `failures to deliver' were an average of 8.43% of all deliveries. In November 1995, after the T+3 conversion, with average daily volume running at 830 million shares in the same securities, NSCC `failures to deliver' declined to 7.67%." "Speeding up Settlement: The Next Frontier," Arthur Levitt, Chairman, Commission, remarks at the Symposium on Risk Reduction in Payments, Clearance and Settlement Systems (January 26, 1996). According to NSCC, for the first seven months of 2003, the average daily failure rate has been 6.80%."
Red Flag!
The SEC and DTCC have been misleading the public by identifying that 1.5% of trades fail settlement, in dollar value. Dollar value in a market such as this is less important to the total levels of failed trades. According to the SEC documents, in 2003 6.8% of the trades that fail represent 1.5% of the dollar value of a single days trading. The numbers simply imply that the smaller value companies are most abused with settlement failures.
In 1995 and before rule15c6-1 became effective trade settlements were averaging 8.43%, in November 1995, post 15c6-1, settlement failures were reduced to 7.67%, and in the first 7 months of 2003, near a decade later the NSCC, a subsidiary of the DTCC, claimed that failures had been reduced to 6.8% of all trades, a mere 1.6% improvement in a decades worth of technology and regulatory improvements.
By the numbers.
According to the NSCC, for every fifteen trades executed by Wall Street member firms and cleared through the DTCC CNS system one will fail to settle. For every fifteen trades in which an investor is stripped of their investment capital and a commission is paid to that member firm that firm will have failed to enforce timely receipt of the security sold as defined in rule 15c6-1. With this being post Continuous Net Settling (CNS), the intra-day failures due to bona-fide market making would be far greater netting out with purchases by close of business on that same day.
What a boon for Wall Street.
Literally hundreds of millions of dollars are being paid in trade commissions where the firm did not meet their obligations for prompt settlement under securities law. As an example of how much is made in trade commissions, Goldman Sach's latest quarterly filing reported trade commissions of $2 Billion for the six months ending in May 2007. If one in fifteen were on failed trades, and all things being equal, that's a mere $133 Million in commissions paid by clients for failed or delinquent services.
Under even the latest Regulation SHO guidelines only a fraction of the 6.8% in daily failures, or whatever that figure is today, will be addressed in a timely fashion. Only that percentage of fails which has accumulated to levels exceeding 0.5% in a localized market will require immediate close out. The remainder of the failed trades will be remain lost in a system until such time as it becomes economically viable for the selling member to come back and settle up. Commissions paid, accounts reduced of capital and credited with IOU's, and the investor is none the wiser that they paid for services never received.
I wish I could say I was making this up but I am not. This is all well documented on the SEC website. Mark my words here today, the changes in SHO will only increase the downside volatility and mini raids in our markets as members caught on the wrong side of a trade will manipulate our markets to insure coverage can be made profitably.
The last thing members will allow is for securities laws and new regulations to cut into their ability to turn a profit at the expense of the general public. Just watch for the sell side manipulation in the markets during the close-out activities of market makers
For more on this issue please visit the Host site at www.investigatethesec.com (posted with permission)
Copyright 2007
An online newspaper reporting the issues of Securities Fraud
A 6.8% Problem With SHO - July 5, 2007
David Patch
On June 13, 2007 the Securities and Exchange Commission staff unanimously approved reforms to the 2004/5 version of Regulation SHO thus eliminating the much controversial and ill-advised grandfather clause. The SEC staff called this the next step in the elimination of abusive naked short selling.
In reality, it was merely a baby step in the land of giants. A smokescreen.
While it may be the first weeks of July, the public has yet to see how the final rule will read nearly a month later due to the significant delays by the SEC in filing this rule into the Federal Register. Such delays do not restrict the public from understanding the gist of the new rule change however and the flaws that will become apparent over the next year(s) until additional reforms are again voted upon.
Consider that although Section 17A of the Exchange Act of 1934 requires the prompt and accurate settlement of all trades, Regulation SHO only addresses long standing settlement failures that occur after a company has reached failures at potentially abusive levels instead of focusing on the letter and the spirit of the law that applies to all trades. The new Regulation SHO continues to have a "kick-in" phase that excludes potential abuses from being acted upon.
In eliminating the grandfather clause of SHO the SEC now mandates that failures to deliver that exceed 13 trade days on companies listed, as SHO threshold companies must be immediately closed out. In the past, only those fails that occurred post SHO threshold listing were required immediate closeout while the originating fails that brought the market to threshold levels, minimum 0.5% of issued and outstanding, was exempt.
The SEC has not yet defined how the mandatory close outs will commence and what time restrictions are placed on such close outs but if the past is any indicator there will be much flexibility afforded the members. Guaranteed buy-ins will not be part of the language imposed despite calls by the NASD in a March 2005 comment memo that such language be used in defining a mandatory close out.
More importantly, market makers who generate a large accumulation of fails in the system as part of their natural business operation will have no market making restrictions placed upon them during a mandatory close out phase. It will quickly become a game of survival and manipulation.
Under the new law, market makers will continue to be allowed to make a bona fide market, representing the best offer in a market without the actual inventory to represent that offer, at the same time when the law requires the firm to be a purchaser of shares in this same market. By representing the best offer, sellers of real inventory will be forced to come down to the represented offer made by the market maker if a sale is to be made. By working the offer downward, dragging real sellers down with them, the market maker can manipulate the market in order to protect the cost liability of that mandatory close out eventually closing out into a purchase from a distressed seller.
All of this of course involves only those companies with the unfortunate occurrence that the accumulation of fails exceeds the 0.5% necessary to become an SHO threshold security company.
What of those that are manipulated and subjected to smaller intervals of abuse?
To become a threshold listed security the level of fails not only has to reach critical mass but must then persist above that level for a minimum of 5 trade days. If you date back to the originating trade date, and the T+3 settlement cycle, this is a period of a minimum of 8 trade days.
Market Makers and other stock manipulators will use this delay to create market volatility and drive failures in and around the SHO levels without actually getting to the full qualification conditions. For example, simply dipping below 0.5% in fails for one day will restart the clock on threshold qualifications.
This market volatility will become mini bear raids that will take place over a short interval of time and will wipe out 10, 15, 25% or more in market cap in a process of covering fails. I illustrated just such an event in an earlier Stockgate Today article last month.
The members are well aware that spikes in settlement failures go undetected by the SEC and that the SEC only reviews settlement issues once a company has been listed on the threshold list. The SEC allows you to go in and rob a bank of $5,000 a day; they only want the call when you steal $100,000 in single swipe.
In fact, Rules 15c3-3 and 15c6-1 were put in place at a time where the industry was reviewing the impact of settlement failures to the safety and efficiency of the markets. The rules required brokers to enter into a contract for trade where trade settlement was conducted within 3-days. These rules did not state, as long as the market was above threshold levels, these rules apply to all trades.
The rules for bona-fide market making likewise allows for the "temporary" sale of shares not held in inventory in order to stabilize a market.
There is nothing temporary about a trade failing beyond 13 trade days and certainly no excuses for natural trades to exceed 13-day settlement with greater than 95% of the market trading electronically.
From a 2004 SEC concept release on improving Securities Settlement, "The U.S. clearance and settlement system settles more trades today with a lower failure rate than before Rule 15c6-1's adoption. "In May 1995, before T+3, and with an average daily volume running at 726 million shares in NYSE, Amex and NASDAQ securities, NSCC `failures to deliver' were an average of 8.43% of all deliveries. In November 1995, after the T+3 conversion, with average daily volume running at 830 million shares in the same securities, NSCC `failures to deliver' declined to 7.67%." "Speeding up Settlement: The Next Frontier," Arthur Levitt, Chairman, Commission, remarks at the Symposium on Risk Reduction in Payments, Clearance and Settlement Systems (January 26, 1996). According to NSCC, for the first seven months of 2003, the average daily failure rate has been 6.80%."
Red Flag!
The SEC and DTCC have been misleading the public by identifying that 1.5% of trades fail settlement, in dollar value. Dollar value in a market such as this is less important to the total levels of failed trades. According to the SEC documents, in 2003 6.8% of the trades that fail represent 1.5% of the dollar value of a single days trading. The numbers simply imply that the smaller value companies are most abused with settlement failures.
In 1995 and before rule15c6-1 became effective trade settlements were averaging 8.43%, in November 1995, post 15c6-1, settlement failures were reduced to 7.67%, and in the first 7 months of 2003, near a decade later the NSCC, a subsidiary of the DTCC, claimed that failures had been reduced to 6.8% of all trades, a mere 1.6% improvement in a decades worth of technology and regulatory improvements.
By the numbers.
According to the NSCC, for every fifteen trades executed by Wall Street member firms and cleared through the DTCC CNS system one will fail to settle. For every fifteen trades in which an investor is stripped of their investment capital and a commission is paid to that member firm that firm will have failed to enforce timely receipt of the security sold as defined in rule 15c6-1. With this being post Continuous Net Settling (CNS), the intra-day failures due to bona-fide market making would be far greater netting out with purchases by close of business on that same day.
What a boon for Wall Street.
Literally hundreds of millions of dollars are being paid in trade commissions where the firm did not meet their obligations for prompt settlement under securities law. As an example of how much is made in trade commissions, Goldman Sach's latest quarterly filing reported trade commissions of $2 Billion for the six months ending in May 2007. If one in fifteen were on failed trades, and all things being equal, that's a mere $133 Million in commissions paid by clients for failed or delinquent services.
Under even the latest Regulation SHO guidelines only a fraction of the 6.8% in daily failures, or whatever that figure is today, will be addressed in a timely fashion. Only that percentage of fails which has accumulated to levels exceeding 0.5% in a localized market will require immediate close out. The remainder of the failed trades will be remain lost in a system until such time as it becomes economically viable for the selling member to come back and settle up. Commissions paid, accounts reduced of capital and credited with IOU's, and the investor is none the wiser that they paid for services never received.
I wish I could say I was making this up but I am not. This is all well documented on the SEC website. Mark my words here today, the changes in SHO will only increase the downside volatility and mini raids in our markets as members caught on the wrong side of a trade will manipulate our markets to insure coverage can be made profitably.
The last thing members will allow is for securities laws and new regulations to cut into their ability to turn a profit at the expense of the general public. Just watch for the sell side manipulation in the markets during the close-out activities of market makers
For more on this issue please visit the Host site at www.investigatethesec.com (posted with permission)
Copyright 2007