July 17, 2008
Dear all:
As a sophisticated investor in the market, it is my strong belief that failure to locate shares for a borrow prior to short selling (or failing to timely deliver) is unfair to the existing share owners. The SEC has acknowledged that massive amounts of shares are sold short and the failure to deliver notes (FTDs) left in place indefinitely when it issued its grandfather clause, noting that enforcement of SHO would potentially lead to market dislocations.
It has also been publicly acknowledged for hundreds of publicly traded companies that more shares are voted than exist. This causes logistical nightmares and potential unfair results in the company management.
There is no way to track who is selling short these massive positions. If the person is allowed to sell short, I think it only fair that the short positions and the amount of FTDs become public knowledge. Thus, if a party wants to heavily short company XYZ, that fact should be known to the market place, just as the market place knows ownership positions greater than 5%. Fair is fair.
I see no reason to protect someone that claimed to have a locate (as they are required by law to do prior to selling short), and then fails to deliver. They should be required to buy back the shares immediately if they cannot deliver them, or the broker that sold them short should buy them back. As a small investor, I know that when I have tried to short a stock, if the broker cannot obtain the locate, it will not short the shares for me. Thus, the system seems to only allow larger hedge funds the unfair advantage of selling short without the locates in place. This is all the more reason to require them to immediately buy back shares that they cannot deliver for the short sale.
I see no reason to favor market makers of options either. If they want to sell short to hedge, they need to find the shares. Otherwise, sophisticated manipulators can gain leverage through the use of options when shorting, and then have the option market maker do the illegal short for him. Again, this is unfair and contrary to our system.
The FTD system currently in place is illegal when shares are not delivered, and violates laws that are currently not being enforced. Sophisticated market participants realize the loopholes and use them to their advantage. It would not be difficult at all to issue an order making them buy back shares they do not have a locate for, or have the clearing house instruct their broker to buy them back for them. If they go broke, too bad. That's the result of them intentionally breaking the law.
No company's stock price can withstand an infinite amount of stock being sold. The price will go to zero.
I also strongly believe that the laws should not be enforced for certain categories of stocks, such as the financial stocks. The law should not recognize that certain companies are more worthy of protection than others. The capital markets need TRUST and CONFIDENCE more than anything to continue to function smoothly. When the SEC decides to arbitrarily enforce some laws but not others, or enforce some laws on behalf of some companies but not others, this creates the perception that the market is rigged, and creates a huge disincentive for people to invest in the markets, ultimately leading to major market disruptions when people sell stock, or refuse to invest in the "rigged" markets any more.
Thank you for reading this and hopefully adopting my suggestions and recommendations.
Best,
Paul Maddock