[Federal Register Volume 65, Number 62 (Thursday, March 30, 2000)]
[Notices]
[Pages 16993-16995]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 00-7843]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-42571; File No. SR-NASD-99-37]


Self Regulatory Organizations; National Association of Securities 
Dealers, Inc.; Order Approving Proposed Rule Change Relating to Use of 
Hard To Borrow Lists

March 23, 2000.

I. Introduction

    On August 4, 1999, the National Association of Securities Dealers, 
Inc. (``NASD'' or ``Association''), through its wholly owned 
subsidiary, NASD Regulation, Inc. (``NASD Regulation''), filed with the 
Securities and Exchange Commission (``Commission'' or ``SEC''), 
pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ a proposed rule change to 
amend NASD Rule 3370. The proposal permits the use of a ``Hard to 
Borrow'' list to comply with affirmative determination requirements for 
short sales. The NASD submitted Amendment No. 1 to the proposed rule 
change on November 1, 1999.\3\ Notice of the proposed rule change, as 
amended, was published in the Federal Register on January 7, 2000.\4\ 
The Commission received no comments on the proposal.\5\ This order 
approves the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Letter from Alden Adkins, Senior Vice President and 
General Counsel, NASD Regulation, to Katherine England, Assistant 
Director, Division of Market Regulation, Commission, dated October 
26, 1999.
    \4\ See Securities Exchange Act Release No. 42306 (January 3, 
2000), 64 FR 49261 (``Notice'').
    \5\ Per the Commission's request, NASD submitted an additional, 
technical amendment to the proposed rule change deleting a sentence 
from the descriptive portion of the Notice. The sentence stated that 
member firms that rely on ``Hard to Borrow'' lists would be required 
under the proposed rule change to maintain such lists. This 
requirement is not stated in the actual text of the proposed rule 
change, which was published as part of the Notice. See Letter from 
Mary N. Revell, Associate General Counsel, NASD Regulation, to 
Katherine England, Assistant Director, Division of Market 
Regulation, Commission, dated March 14, 2000.
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II. Description of the Proposal

    NASD Rule 3370 was designed to prevent abusive short selling and 
ensure that short sellers satisfy their settlement obligations. The 
rule currently requires a member or associated person to make an 
affirmative determination prior to executing certain short sales that 
it will receive delivery of the subject security, or be able to borrow 
or otherwise provide delivery of the security, by

[[Page 16994]]

settlement date. The rule also provides that the member or associated 
person must record the identity of both the individual and the firm 
contacted who offered assurances that the subject security would be 
delivered by settlement date or be available for borrowing by 
settlement date. The rule does not specify the manner in which 
compliance with its requirements must be recorded.
    NASD Rule 3370 currently permits members and associated persons to 
rely on ``blanket'' or standing assurances that securities will be 
available for borrowing on settlement date to satisfy their affirmative 
determination obligations, provided that the information used to 
generate the ``blanket'' or standing assurance is less than 24 hours 
old and the member delivers the security on settlement date.\6\ 
``Blanket'' assurances are commonly referred to as ``Easy to Borrow'' 
lists. The rule further provides that if a member relying on a blanket 
or standing assurance fails to deliver the security on settlement date, 
the NASD will deem such conduct inconsistent with the terms of the 
rule, absent mitigating circumstances adequately documented by the 
member.
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    \6\ See Securities Exchange Act Release No. 36859 (February 20, 
1996), 61 FR 7127 (February 26, 1996) (File No. SR-NASD-95-62), 
approving reliance on ``blanket'' assurances.
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    A ``Hard to Borrow'' list is a list that includes all securities of 
a given category that are difficult to borrow or unavailable for 
borrowing. A user of such list may believe it reasonable to infer, 
under appropriate circumstances, that a specific security absent from 
the list is easy to borrow. Currently, however, NASD Rule 3370 does not 
specifically allow a member to rely on a ``Hard to Borrow'' list in 
this way.
    The proposed rule change will permit members and associated persons 
to rely on a ``Hard to Borrow'' list for any short sales executed in 
The Nasdaq Stock Market (``Nasdaq'') National Market (``NM'') or 
exchange-listed securities, provided that (a) the creator of the list 
attests in writing that any Nasdaq NM or exchange-listed securities not 
included on the list are easy to borrow or are available for borrowing, 
and (b) any securities restricted pursuant to Uniform Practice Code 
(``UPC'') 11830 are included on the list.
    Securities restricted pursuant to UPC 11830 are Nasdaq securities 
that, as published by the NASD, show an aggregate clearing short 
position of 10,000 shares or more and that are equal to at least 0.5% 
of the total shares outstanding of the issue. The NASD represents that 
in practice, securities falling into this category are difficult to 
borrow. By explicit terms of the proposal, a ``Hard to Borrow'' list 
must include all such securities in order to qualify for use.
    Under the proposed rule change, the member will be able to refer to 
the ``Hard to Borrow'' list before executing a short sale in a given 
security. If that security is not on the list, the member or associated 
person will be considered to have made the requisite affirmative 
determination and will be permitted to execute the short sale without 
taking any further steps to satisfy the affirmative determination rule. 
Conversely, if the security is on the list, then a member or associated 
person will not be permitted to execute the short sale without taking 
additional steps to ensure the security's availability.
    As with the current rule's provisions with respect to ``Easy to 
Borrow'' lists, a member or associated person will be permitted to use 
a ``Hard to Borrow'' list under the proposal only if the information 
used to generate the list is less than 24 hours old and the member 
delivers the security on settlement date. The proposal provides that if 
the member does not deliver the security on settlement date, the NASD 
shall consider such conduct--absent documented mitigating 
circumstances--inconsistent with the terms of NASD Rule 3370.
    The proposed rule change will permit the use of ``Hard to Borrow'' 
lists only for Nasdaq NM and exchange-listed securities. For Nasdaq 
SmallCap and other over-the-counter equity securities not in this 
category, members will continue to be required to take active steps to 
determine stock availability. According to NASD Regulation, Nasdaq NM 
and exchange-listed securities are liquid and highly capitalized, and 
are less likely to be subject to shore sale abuses than Nasdaq SmallCap 
and other over-the-counter equity securities, which generally are more 
thinly traded and illiquid and potentially more vulnerable to short 
sale abuses.

III. Discussion

    After careful review, the Commission finds that the proposed rule 
change is consistent with the Act and the rules and regulations 
thereunder, and, in particular, with the requirements of Section 15A 
\7\ of the Act applicable to a registered securities association.\8\ 
Specifically, the Commission finds that approval of the proposed rule 
change is consistent with Section 15A(b)(6) \9\ of the Act, which 
requires, among other things, that the Association's rules be designed 
to prevent fraudulent and manipulative acts and practices, to promote 
just and equitable principles of trade, and, in general, to protect 
investors and the public interest.
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    \7\ 15 U.S.C. 78o-3
    \8\ In approving this proposal, the Commission has considered 
the proposed rule's impact on efficiency, competition, and capital 
formation. 15 U.S.C. 78c(f)
    \9\ 15 U.S.C. 78o-3(b)(6).
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    The Commission believes that the proposal is likely to reduce the 
time and effort required for a member or associated person to make the 
requisite determination that a security is available for borrowing. 
This is because a person using a ``Hard to Borrow'' list needs to check 
the security against what is usually a relatively short roster of 
unavailable issues rather than locate it in a long ``Easy to Borrow'' 
list that may include thousands of names.
    Thus the Commission finds that the proposed rule change will 
promote the objectives of Section 15A(b)(6) by reducing the 
administrative burdens on members in complying with the affirmative 
determination rule, thereby expediting the execution of short sales on 
behalf of investors and possibly affording them better executions.
    At the same time, the Commission believes that NASD Rule 3370 as 
amended under the proposal will continue to assure that short sales are 
effected only when the securities being sold are in fact readily 
available for borrowing, and will continue to protect against conduct 
inconsistent with the purposes of the rule.
    When the creator of a ``Hard to Borrow'' list attests in writing, 
as the proposal requires, that any securities not included on the list 
are available for borrowing or are easy to borrow, reliance on such 
``Hard to Borrow'' list is substantially similar to reliance on an 
``Easy to Borrow'' list, which is already permitted under NASD Rule 
3370.\10\ The proposed rule change further stipulates that in order to 
qualify for use, a ``Hard to Borrow'' list must

[[Page 16995]]

include any Nasdaq security that has a clearing short position large 
enough to warrant the special requirements of UPC 11830.\11\
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    \10\ According to NASD Regulation, it will be the responsibility 
of the member or associated person using the list to determine that 
the creator of the list is reliable. As noted below, if the security 
is not delivered by settlement date, the member or associated person 
will be deemed to have acted in a manner inconsistent with the terms 
of the rule, absent mitigating circumstances. In addition, NASD 
Regulation may investigate whether the creator of the list, if a 
member, has acted in a manner inconsistent with NASD Rule 2110 
regarding standards of commercial honor and principles of trade. 
Telephone conversation between Thomas R. Gira, Vice President, 
Market Regulation, Mary N. Revell, Associate General Counsel, NASD 
Regulation, et al., and Gordon Fuller, Special Counsel, and Ira 
Brandriss, Attorney, Division of Market Regulation, Commission 
(February 18, 2000).
    \11\ The Commission notes that because UPC 11830 applies only to 
Nasdaq securities, this extra measure of protection is provided only 
for Nasdaq securities.
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    As in the case of reliance on an ``Easy to Borrow'' list, a member 
or associated person will be permitted to rely upon a ``Hard to 
Borrow'' list only when the information on the list is no more than 24 
hours old. Likewise, the member or associated person will be obligated 
to maintain a written record of the determination that the security was 
available for borrowing, including the identity of the individual and 
firm that offered the assurance that securities absent from the list 
were available for borrowing or easy to borrow.
    Moreover, NASD Rule 3370, as amended, will put members on notice 
that even if they have relied on the information provided by a ``Hard 
to Borrow'' list, if they in fact fail to deliver the security by 
settlement date, they will be deemed to have acted in a manner 
inconsistent with the rule.

IV. Conclusion

    For the above reasons, the Commission finds that the proposed rule 
change is consistent with the provisions of the Act, and in particular 
with Section 15A(b)(6).
    It is Therefore Ordered, pursuant to Section 19(b)(2) \12\ of the 
Act, that the proposed rule change (SR-NASD-99-37) is hereby approved.
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    \12\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority. \13\
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    \13\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 00-7843 Filed 3-29-00; 8:45 am]
BILLING CODE 8010-01-M