TO: ALL O.T.
Copied from BOBz's:
Look out!
>>>
SEC goes after shorters??
Benson Hedges [209.240.197.13]
benson-hedges@excite.com
August 27, 1999
MARKET PLACE
SEC Probes Short-Selling Abuses by Day Traders
By GRETCHEN MORGENSON
s part of an investigation into the practices of online brokerage firms and day trading houses, the Securities
and Exchange Commission is examining whether the firms and their customers abide by the regulations
governing the short selling of stocks, which is a bet that prices will fall.
One former day trader who has told his story to regulators said the firm he was associated with employed a
system to circumvent short-selling rules and estimated that illegal short sales accounted for as much as 30
percent of the sales at one office while he was a customer.
Regulators are stepping up their scrutiny of online brokerages as the number of investors making
computerized trades at home or in day trading rooms is exploding. The number of online brokerage firms
stood at 140 in June, up from 100 six months earlier. The number of online brokerage accounts is expected
to reach 10.5 million by the end of 1999, up from 7.1 million in 1998, according to Gomez Advisors, a
research firm specializing in electronic commerce.
Regulators have grown increasingly concerned that some online firms are not fully enforcing securities
regulations.
How firms enforce the rules that apply to investors who sell stocks short is of concern to the SEC and is one
of the issues the commission is questioning online brokerages about, confirmed SEC spokesman Chris
Ullman.
Selling a stock short is a relatively sophisticated technique that enables an investor who is pessimistic about a
company's prospects to profit from a decline in its shares. A short seller essentially sells stock he does not
own, hoping to buy it back later at a lower price. If the stock rises instead, the investor will have to pay
more to buy it back than he received when he sold it, creating a loss in his account.
The business of selling stocks short is more highly regulated than the outright buying -- known as going long
a stock -- or selling of shares held by a customer in his or her account. That is because in the years
surrounding the 1929 market crash, groups of short sellers were found to have harmed investors by forcing
down the prices of certain stocks by the sheer force of excessive and unrelenting selling.
To rid the markets of such manipulations, regulators devised a rule that investors can sell short only if a
stock's last trade was at the same price or higher than the previous trade. Regulators also require that
investors who sell shares they do not own must first arrange to borrow the shares so that they can be
delivered to the person buying them. This is supposed to prevent the sales of many more shares of a stock
than are available for trading, a technique known as naked shorting. If an investor is unable to borrow a
stock, he is not supposed to be able to sell it short.
Muriel Siebert, chairman of Siebert Financial Corp., a well-known discount brokerage firm, said her firm's
computer system automatically alerts a manager if a customer tries to sell a stock that is not held in the
account. The manager then tries to locate shares to borrow. If successful, the trade is done; if unsuccessful,
the short sale is not executed.
A story in the Wall Street Journal earlier this month reported that some investors are selling short shares of
initial public offerings of stock, even though those shares are not typically available to be borrowed.
But professional traders say that naked shorting extends well beyond shares in IPOs. These people suspect
that the rapid-fire trading that is common among day traders does not leave a firm enough time to ascertain
that a stock can be borrowed before the trade is executed.
These traders also suggest that some firms flout the uptick rule and allow their customers to sell stocks they
do not own even when the stocks are declining in price.
These fears are confirmed by the experience of John Skiersch, 33, a performance artist in Chicago who lost
more than $200,000 day trading stocks in 1997 and 1998. Skiersch described how one of the two firms he
traded with allowed its customers to circumvent short-sale rules.
Upon opening an account at the firm, which Skiersch declined to identify, customers were asked to pay
$100 to have a corporation set up with its own taxpayer identification number. Then the firm created an
account for the entity that was linked to the customer's regular account. Phony stockholdings were then
placed in the corporate account.
In Skiersch's case, his "corporate" account held $200,000 to $250,000 worth of stocks for which he had
never paid a cent. The phony holdings included 500 shares each of Intel, Dell Computer, Cisco Systems and
other stocks that a customer might want to sell short.
"They manufactured these positions," Skiersch said. "The software was then tricked into believing that you
were long the positions so you could initiate sales without ever owning the stock. I believe it was intentionally
premeditated to violate the essence of the short-sale rules."
Skiersch estimated that up to 30 percent of all the sales executed in that office of the day trading firm
violated short-sale rules. "When regulators were in the office one day, the whole office was instructed not to
sell on any downticks that day," he recalled. Skiersch does not know if the questionable practices are still
taking place at the firm, but he has since talked to the SEC, the National Association of Securities Dealers
and the Illinois state securities regulator.
Day trading firms may try to skirt requirements by allowing a customer to short a stock as long as someone
else in the day trading room owns the shares in question. Day traders may also sell stocks short without
borrowing them during market hours as long as they close out their short position before the end of the day.
Regulators say both practices are against the rules. Some short sellers and other traders have argued that the
rules are outmoded and should be changed.
Several veteran Wall Street traders said that one sign of illegal shorting occurs when the daily trading volume
in a stock far exceeds the number of shares available to the public, known as the float.
One trader pointed to the recent trading in Grand Toys International, the Canadian distributor of the popular
Pokemon and Furby toys, as an example. The company has a little more than 1.5 million shares available to
public investors, but on Wednesday, almost 20 million shares, or 13.3 times the public float, changed hands.
Even if only 1 percent of those trades were short sales, they would have exceeded the public float by half a
million shares.<<< |
