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No. 08-2114
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UNITED STATES COURT OF APPEALS
FOR THE EIGHTH CIRCUIT
PET QUARTERS, INC., et al.,
Plaintiffs-Appellants,
v.
DEPOSITORY TRUST AND CLEARING CORP., et al.
Defendants-Appellees.
______________________________________________
On Appeal from the United States District Court
for the Eastern District of Arkansas (Western Division)
_______________________________________________
BRIEF OF THE SECURITIES AND EXCHANGE COMMISSION,
AMICUS CURIAE, IN SUPPORT OF APPELLEE, URGING AFFIRMANCE
ON ISSUE ADDRESSED
______________________________________________
BRIAN G. CARTWRIGHT
General Counsel
ANDREW N. VOLLMER
Deputy General Counsel
JACOB H. STILLMAN
Solicitor
MARK PENNINGTON
Assistant General Counsel
Securities and Exchange Commission
100 F Street, N.E.
Washington, D.C. 20549-9010
(202) 551-5189 (Pennington)
TABLE OF CONTENTS
Page
TABLE OF AUTHORITIES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . iv
INTEREST OF THE SECURITIES AND EXCHANGE
COMMISSION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
PLAINTIFFS’ ALLEGATIONS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
BACKGROUND . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
A.
Section 17A of the Exchange Act directs the Commission to
oversee the national clearance and settlement system in
accordance with the public interest and the protection of
investors. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
B.
The Commission has approved the stock borrow program
as being in compliance with the requirements of the
Exchange Act. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
ISSUE ADDRESSED BY THE COMMISSION . . . . . . . . . . . . . . . . . . . . . . . . . . 8
ARGUMENT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
I.
Plaintiffs’ case rests on an erroneous description of the legal regime
governing how securities are held, settled and cleared. . . . . . . . . . . . . . . . 9
A.
The U.C.C. prescribes the terms under which the securities
involved in this case are held . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
B.
Clearance and settlement of the securities involved in this
case are governed by NSCC’s Commission-approved rules,
including the stock borrow program. . . . . . . . . . . . . . . . . . . . . . . . . 12
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TABLE OF CONTENTS (CONTINUED)
Page
C.
II.
1.
The Continuous Net Settlement system reflects daily
securities transactions by making net transfers among
the broker-dealers’ securities accounts at DTC. . . . . . . . . . . 12
2.
At the option of the buyer, a buy-in may by used to
satisfy delivery obligations when a seller fails to
deliver securities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
3.
When shares that have not been delivered are
available to be borrowed, the stock borrow program
provides that the shares are automatically borrowed by
NSCC and delivered to buyers. . . . . . . . . . . . . . . . . . . . . . . . 16
Plaintiffs incorrectly describe the operation of the U.C.C.
and NSCC Rules. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
Plaintiffs’ state law challenges to the stock borrow program are
preempted by the Exchange Act. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
A.
State laws that conflict with federal regulatory regimes are
preempted. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
B.
Permitting state law liability for the conduct alleged in the
complaint would conflict with the Exchange Act regulatory
regime. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
1.
Plaintiffs’ direct challenges are preempted. . . . . . . . . . . . . . . 22
2.
Plaintiffs’ so-called “misrepresentation” claims are also
preempted. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
a.
Apparently abandoned claims. . . . . . . . . . . . . . . . . . . 24
b.
The inefficiency claim. . . . . . . . . . . . . . . . . . . . . . . . . . 25
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TABLE OF CONTENTS (CONTINUED)
Page
c.
III.
The mis-accounting for lender shares claim. . . . . . . . . 27
The Commission is vigorously exercising its regulatory responsibility
to prevent abusive short selling, but it has not suggested that
defendants or the clearing and settlement system are responsible for
any such abuses. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
CONCLUSION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
CERTIFICATE OF SERVICE
CERTIFICATE OF COMPLIANCE
ANTI-VIRUS CERTIFICATE
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TABLE OF AUTHORITIES
Cases
Page
Bradford National Clearing Corp. v. SEC,
590 F.2d 1085 (D.C. Cir. 1978) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3, 13
Credit Suisse First Boston Corp. v. Grunwald,
400 F.3d 1119 (9th Cir. 2005) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
Crosby v. National Foreign Trade Council, 530 U.S. 363 (2000) . . . . . . . . . . . . 21
Levy v. Ohl, 477 F.3d 988 (8th Cir. 2007) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
Merrill Lynch, Pierce, Fenner & Smith v. Ware,
414 U.S. 117 (1973) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
Nanopierce Technologies, Inc. v. Depository Trust and Clearing Corp.,
168 P.3d 73 (Nev. 2007) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9, 22, 24
passim
Savage v. Jones, 225 U.S. 501 (1912) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
Whistler Investments, Inc. v. Depository Trust and Clearing Corp.,
2008 WL 3876577 (9th Cir. Aug. 22, 2008) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
passim
Commission Releases
National Securities Clearing Corp.; Proposed Rule Change
by Self-Regulatory Organization, SEC Rel. No. 34-16514,
45 Fed. Reg. 5867 (Jan. 24, 1980) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
National Securities Clearing Corp.; Proposed Rule Change,
SEC Rel. No. 34-17422, 46 Fed. Reg. 3104 (Jan. 13, 1981) . . . . . . . . . . . . . . . . 7
In the Matter of the Full Registration as Clearing Agencies of
The Depository Trust Co. et al., SEC Rel. No. 34-20221,
48 Fed. Reg. 45167 (Oct. 3, 1983) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
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TABLE OF AUTHORITES (CONTINUED)
Commission Releases (Continued)
Page
Regulation SHO Proposing Release, SEC Rel. No. 34-48709,
68 Fed. Reg. 62972 (Nov. 6, 2003) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
Short Sales, SEC Rel. No. 34-50103,
69 Fed. Reg. 48008 (Aug. 6, 2004) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
Amendments to Regulation SHO, SEC Rel. No. 34-5612,
72 Fed. Reg. 45544 (Aug. 7, 2007) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
Emergency Order, SEC Rel. No. 34-58166 (July 15, 2008),
http://www.sec.gov/rules/other/2008/34-58166.pdf . . . . . . . . . . . . . . . . . . . . . . 30
Statutes and Rules
Securities Exchange Act of 1934, 15 U.S.C. 78a, et seq.
Section 3(a)(23)(A), 15 U.S.C. 78c(a)(23)(A) . . . . . . . . . . . . . . . . . . . . . . . 5
Section 3(a)(26), 15 U.S.C. 78c(a)(26) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
Section 17A, 15 U.S.C. 78q-1 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1, 3, 4
passim
Section 17A(a)(1), 15 U.S.C. 78q-1(a)(1) . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Section 17A(a)(2), 15 U.S.C. 78q-1(a)(2) . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Section 17A(b), 15 U.S.C. 78q-1(b) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Section 17A(b)(1), 15 U.S.C. 78q-1(b)(1) . . . . . . . . . . . . . . . . . . . . . . . . . . 5
Section 17A(b)(3)(A), 15 U.S.C. 78q-1(b)(3)(A) . . . . . . . . . . . . . . . . . . . . . 5
Section 17A(b)(3)(F), 15 U.S.C. 78q-1(b)(3)(F) . . . . . . . . . . . . . . . . . . 6, 26
Section 17A(b)(3)(I), 15 U.S.C. 78q-1(b)(3)(I) . . . . . . . . . . . . . . . . . . . . . . 6
Section 19(b), 15 U.S.C. 78s(b) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6, 8
Section 19(b)(2), 15 U.S.C. 78s(b)(2) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
Section 19(b)(3), 15 U.S.C. 78s(b)(3) . . . . . . . . . . . . . . . . . . . . . . . . . . . 6, 7
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TABLE OF AUTHORITIES (CONTINUED)
Statutes and Rules (Continued)
Page
Uniform Commercial Code
Article 8-101 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
Article 8-102(a)(9)(i) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Article 8-102(a)(14) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Article 8-102(a)(17) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Article 8-501, Comment 1 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Article 8-501, Comment 3 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
Article 8-501(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Article 8-501(c) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Federal Rule of Evidence
Rule 201 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
Rules Under the National Securities Clearing Corporation
Rule 11, Sec. 1(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13, 14
Rule 11, Sec. 1(b) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
Rule 11, Sec. 1(c) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
Rule 11, Sec. 1(e) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
Rule 11, Sec. 2 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Rule 11, Sec. 3 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14, 15
Rule 11, Sec. 4 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14, 15
Rule 11, Sec. 7(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
Rule 11-5 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
Procedure VII(A) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
Procedure VII(C)(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Procedure VII(C)(2) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Procedure VII(C)(3) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
Procedure VII(E) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
Procedure VII(J) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
Procedure X(A)(1) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
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TABLE OF AUTHORITIES (CONTINUED)
Miscellaneous
Page
Responses to Frequently Asked Questions Regarding SHO,
Question 7.1 (Jan. 3, 2005)
www.sec.gov/divisions/marketreg/mrfaqregsho1204.htm . . . . . . . . . . . . . . 12, 17
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INTEREST OF THE SECURITIES AND EXCHANGE COMMISSION
The national clearance and settlement system for securities plays a crucial
role in our nation’s capital markets. Congress requires clearing agencies to be
registered with the Securities and Exchange Commission and subject to the
Commission’s comprehensive oversight under Section 17A of the Securities
Exchange Act of 1934, 15 U.S.C. 78q-1. National Securities Clearing Corporation
(NSCC), one of the defendants in this case, provides clearing services for virtually
all broker-to-broker equity and corporate debt trades in the United States, clearing
over 20 million equity transactions on an average trading day, while defendant
Depository Trust Company (DTC) plays an important role in that system as a
depository for securities.
Plaintiffs’ lawsuit threatens to disrupt or to impose substantial and
unwarranted costs on this system by seeking damages under state law against
registered clearing agencies for operation of the NSCC stock borrow program
pursuant to Commission-approved rules. Plaintiffs allege that defendants are
liable to them because the stock borrow program has facilitated manipulation of
Pet Quarter’s stock by naked short sellers. Their complaint makes direct
challenges to the program, alleging that operation of the program in accordance
with the rules gives rise to damage claims, and also purported “misrepresentation”
claims alleging that defendants have lied about the program’s operation. Both sets
of claims actually challenge the Commission’s approval of the program, and both
are therefore preempted by the Exchange Act.
As the regulator charged by Congress with overseeing the registered
clearing agencies and ensuring that the national clearance and settlement system
functions efficiently, in the public interest and for the protection of investors, the
Commission has a strong and direct interest in seeing that the threats created by
plaintiffs’ lawsuit are ended by the affirmance of the district court’s dismissal.
PLAINTIFFS’ ALLEGATIONS
The gravamen of plaintiffs’ complaint is that the stock borrow program as
operated by NSCC in accordance with Commission-approved rules facilitates
stock manipulation by naked short sellers. Thus, they begin the Summary section
of the complaint by asserting that the Stock borrow program was “purportedly
created to address SHORT TERM delivery failures by sellers of securities in the
stock market” but that the “end result of the program has been to create tens of
millions of unissued and unregistered shares to be traded in the public market,”
and that in some instances the program has “resulted in two or more shareholders
who purchase shares in separate transactions owning the same shares.”
Complaint, ¶2. After what purports to be a description of how the clearing system
and the stock borrow program work (¶¶3-6), plaintiffs aver that in operating the
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program, defendants have “permitted sellers to maintain open fail to deliver
positions of tens of millions of shares for periods of a year and even longer and
participated in a scheme to manipulate downward the price of the affected
securities” (¶6). As harms, plaintiffs allege that defendants’ conduct
has had the effect of creating millions of unregistered, illegal, free trading
shares of the issuer, (1) artificially increasing the supply of an issuer’s
shares in the marketplace; (2) driving down the price of the stock of the
issuer; (3) decreasing the value of the shareholders’ holdings in an issuer’s
stock; and (4) causing multiple owners who purchased shares in separate
transactions to own the same shares. Complaint, ¶7.
The balance of their complaint expands on these allegations that the
program has harmful effects, concluding with sixteen claims for relief for injuries
supposedly caused by defendants’ conduct (¶¶123-296).
BACKGROUND
A.
Section 17A of the Exchange Act directs the Commission to
oversee the national clearance and settlement system in
accordance with the public interest and the protection of
investors.
Congress enacted Section 17A of the Exchange Act in 1975 as part of the
legislative response to the paperwork crisis of the late 1960s and early 1970s. See
generally In the Matter of the Full Registration as Clearing Agencies of The
Depository Trust Co. et al., SEC Rel. No. 34-20221, 48 Fed. Reg. 45167, 45168
(Oct. 3, 1983) (“Final Approval Order”); Bradford National Clearing Corp. v.
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SEC, 590 F.2d 1085, 1090-94 (D.C. Cir. 1978). The statute is based on
Congressional findings that the prompt and accurate clearance and settlement of
securities “are necessary for the protection of investors;” that “[i]nefficient
procedures for clearance and settlement impose unnecessary costs on investors;”
that “[n]ew data processing and communications techniques create the opportunity
for more efficient, effective, and safe procedures for clearance and settlement;”
and that linking clearance and settlement facilities and developing uniform
clearance and settlement standards and procedures “will reduce unnecessary costs
and increase the protection of investors.” Section 17A(a)(1), 15 U.S.C. 78q1(a)(1).
Congress directed the Commission, “having due regard for the public
interest, the protection of investors, and the safeguarding of securities,” to
“facilitate the establishment of a national system for the prompt and accurate
clearance and settlement of transactions in securities” in accordance with the
statutory findings and objectives. Section 17A(a)(2), 15 U.S.C. 78q-1(a)(2).
Section 17A requires every clearing agency that acts in interstate commerce to be
registered with the Commission. Section 17A(b), 15 U.S.C. 78q-1(b). 1
1
The term “clearing agency” includes entities like NSCC that act as an
intermediary in making payments and deliveries in securities
(continued...)
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Registration may not be granted unless the Commission finds that both the
clearing agency itself and the clearing agency’s rules meet specified statutory
requirements (the “Requirements”). Section 17A(b)(1), 15 U.S.C. 78q-1(b)(1).
Among the Requirements are that the clearing agency be so organized as,
and have the capacity, to be able to facilitate the prompt and accurate clearance
and settlement of securities transactions, safeguard securities and funds in its
custody or control or for which it is responsible, comply with the provisions of the
federal securities laws, enforce compliance by its participants with the rules of the
clearing agency, and carry out the purposes of Section 17A. Section
17A(b)(3)(A), 15 U.S.C. 78q-1(b)(3)(A). The clearing agency’s rules must be
designed, inter alia, to promote the prompt and accurate clearance and settlement
of securities transactions, to remove impediments to and perfect the mechanism of
a national system for the prompt and accurate clearance and settlement of
securities transactions, and, in general, to protect investors and the public interest.
1
(...continued)
transactions, as well as securities depositories such as DTC that act as
a custodian of securities in a system under which all deposited
securities of a particular class or series of an issuer are treated as
fungible and may be transferred, loaned, or pledged by bookkeeping
entry without physical delivery of securities certificates. Section
3(a)(23)(A) of the Exchange Act, 15 U.S.C. 78c(a)(23)(A).
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Section 17A(b)(3)(F), 15 U.S.C. 78q-1(b)(3)(F). Also, the rules must not impose
any burden on competition not necessary or appropriate in furtherance of the
purposes of the Exchange Act. Section 17A(b)(3)(I), 15 U.S.C. 78q-1(b)(3)(I).
Registered clearing agencies are self-regulatory organizations (SROs) under
the Exchange Act. Section 3(a)(26), 15 U.S.C. 78c(a)(26). Therefore, changes to
a clearing agency’s rules after registration may only be made pursuant to Section
19(b) of the Exchange Act, 15 U.S.C. 78s(b). That section provides that no
change may take effect unless approved by the Commission under Section
19(b)(2), 15 U.S.C. 78s(b)(2), as being consistent with the Exchange Act, or
unless permitted to take effect without prior approval pursuant to Section 19(b)(3),
15 U.S.C. 78s(b)(3).
B.
The Commission has approved the stock borrow program as
being in compliance with the Requirements of the Exchange Act.
Defendants NSCC, DTC, and a number of other clearing agencies filed
applications for registration with the Commission in 1976. Final Approval Order,
48 Fed. Reg. at 45168-69. The Commission granted each of these agencies
conditional registration. Id. It then undertook a thorough review of each clearing
agency’s operations and rules to ensure that they met the statutory Requirements
before granting full registration. Id. The Commission also published standards
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(the “Standards”) to be used by its Division of Market Regulation (now Division
of Trading and Markets) in reviewing and making recommendations concerning
whether each clearing agency should be granted full registration. Id. at 45169.
NSCC adopted the stock borrow program by rule changes that took effect
pursuant to Section 19(b)(3) during the time when it was operating under the
conditional registration. SEC Rel. No. 34-16514, 45 Fed. Reg. 5867 (Jan. 24,
1980) (notice of filing of NSCC proposed rule change adopting as a one year pilot
program procedures for borrowing securities to meet system needs); SEC Rel. No.
34-17422, 46 Fed. Reg. 3104 (Jan. 13, 1981) (notice of filing of NSCC proposed
rule change making pilot program permanent).
The Commission granted NSCC’s application for full registration in 1983,
nearly three years after the stock borrow program rules took effect. 48 Fed. Reg.
at 45178. After describing its review of NSCC’s application and the extensive
oversight it had exercised over NSCC during the pendency of that application, the
Commission stated that it had determined “that NSCC’s by-laws, rules,
procedures, and systems, as amended, are consistent with the Requirements and
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the Standards,” and that accordingly, it “believe[d] that NSCC should be granted
full registration.” Id. 2
ISSUE ADDRESSED BY THE COMMISSION
Whether plaintiffs’ state law damages claims against defendants for
operating the stock borrow program in compliance with Commission-approved
rules are preempted because they are inconsistent with, and stand as an obstacle to
the accomplishment and execution of the full purposes and objectives of, the
Exchange Act.
2
The Commission relied on each clearing agency’s application, as well
as on the Commission’s continuous monitoring and oversight of the
agencies, including its review of each proposed rule change filed with
it. 48 Fed. Reg. at 45170-71. Specifically,
in carrying out the Commission’s general oversight
responsibilities, the Commission has reviewed, pursuant
to Section 19(b) of the Act, each of the many proposed
rule changes filed by the clearing agencies. Those rule
changes have concerned most of the major services and
systems of each clearing agency, all of the recent
enhancements to clearing agency services, and all
schedules of fees.
48 Fed. Reg. at 45171.
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ARGUMENT
The complaint in this case is virtually identical to the complaints filed in
several other cases. All of the earlier cases have by now been dismissed, and
every court that has considered the complaint, including the Nevada supreme court
and the Ninth Circuit Court of Appeals, has concluded that it is preempted because
it conflicts with the Exchange Act. See Nanopierce Technologies, Inc. v.
Depository Trust and Clearing Corp., 168 P.3d 73, 82-85 (Nev. 2007); Whistler
Investments, Inc. v. Depository Trust and Clearing Corp., 2008 WL 3876577 (9th
Cir. Aug. 22, 2008). We urge this Court to reach the same result. Before turning
to the preemption argument, however, we explain that the complaint misdescribes
the operation of the Uniform Commercial Code (U.C.C.) and the NSCC Rules of
Operation.
I.
Plaintiffs’ case rests on an erroneous description of the legal regime
governing how securities are held, settled and cleared.
Plaintiffs seek to shield their erroneous description of the settlement and
clearance system from scrutiny by asserting that the Court is bound by the
allegations of their complaint (Br. 51-56), but they do not allege that defendants
are acting inconsistently with either the U.C.C. or NSCC’s Rules. The content of
the U.C.C. and NSCC’s Rules are matters of public record that may be ascertained
-9-
by judicial notice both at the district court and in this Court, and that may be
considered on a motion to dismiss, see Levy v. Ohl, 477 F.3d 988, 991-92 (8th Cir.
2007); Fed. R. Evid. 201. The interpretation of these provisions raises issues of
law to be determined by a court, not questions of fact to be resolved by a factfinder
in a trial. In other words, the Court may assume the truth of the well-pleaded facts
alleged in the complaint for purposes of this appeal, but it should not also assume
that plaintiffs’ misdescriptions of the applicable law are true. We therefore
describe the relevant aspects of the Code and the Rules.
A.
The U.C.C. prescribes the terms under which the securities
involved in this case are held.
Article 8 of the U.C.C., “Investment Securities,” (U.C.C. 8-101) provides
that securities may be held either (1) directly through possession of a certificate or
entry on the issuer’s stock registry, or (2) indirectly, by acquisition of a “security
entitlement,” which is a form of property interest created by the Code to reflect the
fact that securities were increasingly being held through intermediaries such as
broker-dealers. See generally Prefatory Note to Revised Article 8 (1994).3 In
essence, a security entitlement is a contractual undertaking in which a securities
3
The Official Comments to each section of the U.C.C. cited
infra provide further explanation of the meaning of the relevant
provisions.
-10-
intermediary such as a clearing corporation, bank or broker-dealer agrees to treat
the entitlement holder as being entitled to exercise the rights that comprise the
security. See generally, U.C.C. 8-501, Comment 1. 4 Thus, instead of a certificate
or an entry in the issuer’s stock registry, the holder of a security entitlement has
contractual rights against an intermediary -- against DTC in the case of a brokerdealer, and against the broker-dealer in the case of broker-dealer’s customers.
Transfers of security entitlements are made on the books of the intermediary (the
books of DTC for broker-dealers, the books of broker-dealers for their customers)
rather than through delivery of a certificate or an entry on the issuer’s registry.
This arrangement facilitates efficient and safe transfers of large numbers of shares.
The intermediary may credit an account with a security entitlement even
though the intermediary does not itself hold the security. Section 8-501(c). For
4
“Security entitlement” is defined as “the rights and property interest
of an entitlement holder” with respect to a security (and other types of
financial assets) as specified in Part 5 of Article 8 (“Security
Entitlements”). U.C.C. 8-102(a)(17) (definition of security
entitlement), 8-102(a)(9)(i)(definition of financial asset as including a
security). A security entitlement is created when an intermediary
credits a security into the entitlement holder’s “securities account,”
which is an account in which a security may be credited in
accordance with an agreement under which the person maintaining
the account undertakes to treat the entitlement holder as entitled to
exercise the rights that comprise the security. U.C.C. 8-501(a); see
also U.C.C. 8-102(a)(14)(definition of “securities intermediary”).
-11-
example, the U.C.C. commentary explains that it may do so when the seller of
securities has failed to deliver them:
It is . . . entirely possible that a securities intermediary might make entries in
a customer’s account reflecting that customer’s acquisition of a certain
security at a time when the securities intermediary did not itself happen to
hold any units of that security. The person from whom the securities
intermediary bought the security might have failed to deliver and it might
have taken some time to clear up the problem . . .. U.C.C. 8-501, Official
Comment 3 (Emphasis added)
If an intermediary credits entitlements to customer accounts even though the
intermediary does not hold the security, the result may be that the total number of
securities entitlements credited to all customer accounts exceeds the number of
shares issued by the issuer. See Responses to Frequently Asked Questions
Regarding SHO, Question 7.1 (Jan. 3, 2005). 5
B.
Clearance and settlement of the securities involved in this case
are governed by NSCC’s Commission-approved Rules, including
the stock borrow program.
1.
The Continuous Net Settlement system reflects daily
securities transactions by making net transfers among the
broker-dealers’ securities accounts at DTC.
The securities that are the subject of the complaint were deposited at DTC,
either by DTC’s participants (broker-dealers and banks) or by the issuers of the
5
www.sec.gov/divisions/marketreg/mrfaqregsho1204.htm.
-12-
securities. These securities are registered on the books of the issuer in the name of
DTC’s nominee, Cede & Co. Thus, Cede & Co. is the only entity that holds these
securities directly, while the DTC participants hold only securities entitlements
created when DTC credits the securities deposited with it to participants’ securities
accounts. DTC reflects transactions among its participants by computerized bookentry changes in those accounts in the following manner.
Trades in these securities clear through NSCC’s continuous net settlement
system. See generally NSCC Rule 11, Sec. 1(a); Final Approval Order, 48 Fed.
Reg. at 45170 n.32; Bradford, 590 F.2d at 1091 n.2. Under that system, NSCC
becomes the contra-party to each purchase or sale of securities. NSCC assumes
the obligation of each member that is receiving securities to receive and pay for
those securities, and it assumes the obligation of each member that is delivering
securities to make the delivery. Rule 11, Secs. 1(b), (c), (e); Procedure VII(A).
NSCC is also assigned the receiving party’s right to receive securities and the
delivering party’s right to receive payment. Id.
The assumption of these obligations and the assignment of these rights by
NSCC place it between the delivering member and the receiving member – the
delivering member is obligated to deliver securities to NSCC; the receiving
member is obligated to accept and pay for securities delivered by NSCC; and
-13-
NSCC is obligated to receive and pay for securities from the delivering member,
and to deliver securities to the receiving member. Id.
All member purchases and sales of a given security are netted daily based
on the trade date, so that each member is required to deliver to NSCC or receives
from NSCC only the difference between the total amount of each security that it
bought and the total amount that it sold during the trading period. Procedure
VII(C)(1). A member that owes NSCC securities is described in NSCC Rules as
having a short position, a member that is entitled to receive securities from NSCC
has a long position, and a member that is neither obligated to deliver nor entitled
to receive securities has a flat position. Rule 11, Secs. 1(a), 2. 6
For each member with a short position in a security at the close of business
on settlement date, NSCC instructs DTC to deliver securities from the member’s
account at DTC to NSCC’s account at DTC. Rule 11, Secs. 3, 4; Procedure
VII(C)(2). NSCC then instructs DTC to deliver those securities from NSCC’s
6
“Short position” in this context means only that the member has an
obligation to deliver securities to NSCC. It does not mean that the
securities were sold short in the market.
-14-
account to the DTC accounts of members with long positions in the security. Rule
11, Secs. 3, 4; Procedure VII(C)(3). 7
2.
At the option of the buyer, a buy-in may by used to satisfy
delivery obligations when a seller fails to deliver securities.
Sometimes, members do not have sufficient securities on deposit at DTC to
meet their delivery obligation to NSCC on settlement date. Procedure VII(C)(3).
Fails to deliver may be caused by reasons other than naked short selling. For
example, human or mechanical errors or processing delays can result from
transferring securities, thus causing a failure to deliver on a long sale within the
normal three-day settlement period.
When a delivery failure occurs, NSCC allocates the fails to members that
are due to receive securities according to NSCC Rules (Procedure VII(E)). This
allocation may cause the receiving member to whom the fail is allocated to have a
long position, i.e., to be entitled to receive securities from NSCC. (The receiving
member is not obligated to pay for the securities until their delivery.)
A member that has failed to receive securities has two options: it may
either maintain that position and wait for delivery to be made to it as securities are
delivered to NSCC, or it may file a Notice of Intention to Buy-in with NSCC.
7
Details of the procedures for establishing each member’s position on
settlement date are set forth in Rule 11-5.
-15-
Rule 11, Sec. 7(a), Procedure VII(J). In response to the filing of such a Notice,
NSCC takes a series of steps to facilitate the buy-in, including, if necessary,
executing the buy-in in the marketplace of its choice, through the agents of its
choosing. (Typically it will instruct the buyer to make the purchase). Procedure
X(A)(1). When a buy-in is executed, any financial loss incurred in the purchase is
allocated in accordance with NSCC procedures to members with short positions in
the security. Id.
3.
When shares of securities that have not been delivered are
available to be borrowed, the stock borrow program
provides that available shares are automatically borrowed
by NSCC and delivered to buyers.
The stock borrow program is operated by NSCC as an alternative to the
buyer either waiting for the securities to be delivered by the seller or initiating a
buy-in. The program is intended to improve the efficiency of the clearance and
settlement system by increasing the likelihood that purchasers will receive
delivery of their securities on settlement date even though insufficient securities
have been delivered to NSCC on that day. See NSCC Rules, Addendum C. Under
the applicable Rules, the program is automated and operates without the exercise
of discretion by NSCC.
-16-
Members wishing to participate in the program as lenders notify NSCC of
securities that they have on deposit with DTC that are available to be borrowed for
delivery to receiving members. Id. NSCC will borrow those shares if it has
unsatisfied delivery obligations on a particular settlement date. Id. Borrowed
securities are transferred from the lending member’s account to an NSCC account
at DTC, and are then used to satisfy delivery obligations to members with long
positions that would otherwise fail to receive.
The lending member is credited with the market value of the securities
borrowed, and the long position in the member’s account will reflect the
borrowing of the shares until those shares are returned, i.e., the account will reflect
that the member is owed shares. Id. Borrowed stock is returned to the lender
through normal allocation in the continuous net settlement system as securities
become available. Id. Alternatively, the lender, like any other member with a
long position, may initiate buy-in procedures by submitting a Notice of Intention
to Buy-in. Until the securities are returned to it, the lending member cannot sell or
re-lend them. See Responses to Frequently Asked Questions Regarding SHO (Jan.
3, 2005). 8
8
www.sec.gov/divisions/marketreg/mrfaqregsho1204.htm.
-17-
C.
Plaintiffs incorrectly describe the operation of the U.C.C. and
NSCC Rules.
The foregoing summary of the applicable U.C.C. provisions and NSCC
Rules makes clear that plaintiffs’ description of the continuous net settlement
system and the stock borrow program that are created by NSCC’s Rules is flawed
in essential respects. Among their erroneous allegations are that (1) the stock
borrow program is the only way that fails to deliver can be cured, (2) NSCC is at
fault for “permitting” fails to deliver to remain open, and (3) the continuous net
settlement system or the stock borrow program results in the creation of “phantom
shares.”
(1) A member that has failed to receive securities can obtain those
securities through a buy-in, which will not involve the stock borrow program at
all. Conversely, a member that receives securities from the stock borrow program
will not have to initiate a buy-in, and will not be aware that the securities it
receives are borrowed; rather, it will receive the borrowed shares from NSCC
along with delivered shares..
(2) NSCC’s job is to account for securities that are delivered into the
system and to instruct DTC to make transfers among participants’ accounts to
reflect those deliveries. It does not have the authority to require either delivery by
-18-
sellers that fail to deliver or buy-ins by buyers that have not received securities.
Moreover, it has no mechanism for determining whether particular fails to deliver
have occurred because of illegal naked short selling or for some legitimate reason,
and it does not have any standards that would guide it in deciding whether a buyin should be made.
(3) While the operation of the U.C.C. may result in more shares being
credited to customer accounts in the form of security entitlements than have been
issued, that fact is a recognized feature of the statutory scheme, arising from the
fact that broker-dealers are permitted to credit accounts with security entitlements
even though the firm is not holding an equivalent number of shares. In contrast, as
operated under NSCC Rules, the continuous net settlement system and the stock
borrow program do not result in more shares being credited to DTC participants’
accounts than have been issued by the issuer and are being held by DTC.
First of all, DTC (through its nominee) is shown on the issuer’s books as the
record holder of the shares deposited with it, so DTC cannot hold more shares than
the issuer has issued. DTC, in turn, credits its participants’ accounts with
securities entitlements only up to the number of shares it has on deposit, so the
total number of entitlements in those accounts also will not exceed the number of
issued shares.
-19-
Next, as noted, the continuous net settlement system operated by NSCC is
essentially an accounting system that records delivery and receive obligations
among NSCC members. Under NSCC Rules, NSCC will not direct DTC to
transfer more shares out of a selling member’s account than the member has in that
account. Instead, NSCC will show the seller as owing delivery (i.e., having a
short position) to the extent that the account has an insufficient number of shares
to cover all deliveries required that day, and it will allocate the resulting fails to
deliver to purchasing members, who will be shown as being owed delivery (i.e.,
having long positions). As a result, there will not be more shares in NSCC
members’ accounts at DTC than are issued.
Finally, when shares are borrowed through the stock borrow program,
NSCC will instruct DTC to transfer shares that are in a lender’s account to
NSCC’s account, from where they will be transferred to buyers – a lender’s DTC
account will be debited the lent shares, and the buyer’s DTC account will
ultimately be credited with those shares. The seller will continue to have the same
short position. All that the stock borrow program does is shift the consequences
of the failure to deliver from a buyer that would otherwise be allocated a fail to
receive to a lender that has indicated that it is willing to lend its shares and await
delivery of replacement shares. This shift cannot possibly increase the number of
-20-
securities issued, any more than the buyer’s decision to either wait or initiate a
buy-in can do so.
II.
Plaintiffs’ state law challenges to the stock borrow program are
preempted by the Exchange Act.
A.
State laws that conflict with federal regulatory regimes are
preempted.
State laws are “naturally preempted to the extent of any conflict with a
federal statute.” Crosby v. National Foreign Trade Council, 530 U.S. 363, 372
(2000). A court will find conflict preemption “where it is impossible for a private
party to comply with both state and federal law, and where under the
circumstances of a particular case, the challenged state law stands as an obstacle to
the accomplishment and execution of the full purposes and objectives of
Congress.” Id. (internal citations, quotation marks, and brackets omitted). “What
is a sufficient obstacle is a matter of judgment, to be informed by examining the
federal statute as a whole and identifying its purpose and intended effects.” Id. at
373. In Crosby (530 U.S. at 373), the Court quoted Savage v. Jones, 225 U.S. 501,
533 (1912):
For when the question is whether a Federal act overrides a state law,
the entire scheme of the statute must of course be considered and that
which needs must be implied is of no less force than that which is
expressed. If the purpose of the act cannot otherwise be
accomplished – if its operation within its chosen field else must be
-21-
frustrated and its provisions be refused their natural effect – the state
law must yield to the regulation of Congress within the sphere of its
delegated power.
SRO rules that are approved by the Commission preempt conflicting state
law. Credit Suisse First Boston Corp. v. Grunwald, 400 F.3d 1119, 1128 (9th Cir.
2005), citing Merrill Lynch, Pierce, Fenner & Smith v. Ware, 414 U.S. 117, 127
(1973).
B.
Permitting state law liability for the conduct alleged in the
complaint would conflict with the Exchange Act regulatory
regime.
1.
Plaintiffs’ direct challenges are preempted.
Though one would scarcely know it from plaintiffs’ brief, which mentions
them only in a footnote (Br. 18, n.16), eight of their sixteen claims for relief
directly challenge the stock borrow program by alleging that the program’s
operation in compliance with Commission-approved rules violates Arkansas law.
Plaintiffs’ brief offer no defense of these claims, presumably because it is
obviously inconsistent with the federal regulatory regime to award damages
against persons engaged in conduct that has been approved under that regime. See
Nanopierce, 168 P.3d at 84-85; Whistler, *6.
-22-
2.
Plaintiffs’ so-called “misrepresentation” claims are also
preempted.
Plaintiffs stake their case in this Court entirely on so-called
“misrepresentations” made by defendants, namely that (1) defendants claim that
shares delivered through the stock borrow program are borrowed when the
procedures created by NSCC Rules actually result in a purchase (Claims 1 and 5),
(2) defendants claim that they efficiently clear and settle trades when in fact the
clearance and settlement system is inefficient because fails to deliver may remain
open for an extended period of time (Claims 2 and 6), (3) the way defendants
account for borrowed shares misstates the number of shares held by lending
members (Claims 3 and 7), and (4) defendants claim that if a buyer notifies NSCC
of an intent to buy-in a failed to deliver security, NSCC will buy the shares when
in fact it cures the fail to deliver with borrowed shares (Claims 4 and 8).
Similarly to the way it handled the direct challenges, plaintiffs’ brief barely
mentions the purchased-rather-than-borrowed claim or its mirror image, the
borrowed-rather-than-bought-in claim (Br. 49-50), so perhaps they are abandoning
those allegations as well. In any event, we will discuss first the apparently
abandoned claims, then the efficient settlement claim and finally the misaccounting claim.
-23-
a. Apparently abandoned claims. With respect to the buyrather-than-borrow claim, it is hard to see how plaintiffs would have been injured
even had all the misrepresentations alleged in the complaint occurred, but it is
particularly difficult to understand how plaintiffs could have been injured by
whether transactions carried out under the stock borrow program are called loans
rather than sales – the way the program works is described in the rules, and the
name by which the transaction is called cannot harm plaintiffs. Regardless, the
claim is preempted because the Commission has approved the name “stock borrow
program” as well as the description of the program in NSCC’s Rules as involving
the borrowing of shares, so a state law finding that the program does not involve
borrowing would be inconsistent with the Commission’s determination that it
does. See Nanopierce, 168 P.3d at 83; Whistler, *5.
The borrow-rather-than-buy-in claim is contrary to the applicable rules,
under which borrowed shares are delivered to receiving members automatically, so
there would be no reason to initiate a buy-in when the stock borrow program is
employed. Even putting aside this substantial problem with the claim, the
argument is simply that defendants committed fraud by acting in compliance with
NSCC’s Rules. For the reasons we have discussed, that claim is preempted in
-24-
light of the Commission’s approval of those Rules. See Nanopierce, 168 P. 3d at
82-83; Whistler, *6.
b. The inefficiency claim.. The complaint accuses defendants
of representing that “they efficiently clear and settle trades” when in fact they are
“not clearing and settling trades that result in open fail to deliver positions,
because these trades are processed through the Stock Borrow Program and
therefore remain unsettled for extended periods of time.” ¶ 135. 9 It further alleges
that plaintiffs are injured by defendants’ representations with regard to efficiency
because “in fact” defendants “are not using the Stock Borrow Program to clear and
settle trades efficiently but rather to mask inefficiencies in their clearance and
settlement process by covering open fail to deliver positions with borrowed shares
for extended periods of time.” ¶ 146.
In order to prove their allegation that defendants falsely claimed that “they
efficiently clear and settle trades” in order to “mask inefficiencies,” plaintiffs
would first have to prove that defendants in fact do not “efficiently clear and settle
9
To buttress the inefficiency claim, plaintiffs allege that defendants
have represented that they maintain an orderly flow of security and
money balances, that members lend stock to cover temporary
shortfalls in the continuous net settlement system, and that the
securities loaned through the stock borrow program enable the NSCC
to satisfy delivery obligations not filled through normal deliveries.
¶136.
-25-
trades;” otherwise, there would be nothing to mask. Yet when the Commission
approved the rules as being consistent with the statutory Requirements and the
Commission-issued Standards, it thereby found that, among other things, the rules
were designed to promote the prompt and accurate clearance and settlement of
securities transactions, remove impediments to and perfect the mechanism of a
national system for the prompt and accurate clearance and settlement of securities
transactions, and, in general, to protect investors and the public interest. See
Section 17A(b)(3)(F). Those findings are not consistent with a finding, which
would be the essential premise of plaintiffs’ claim here, that the system is
inefficient.
Thus, plaintiffs seek to challenge the Exchange Act regulatory regime by
asking a state court, applying state law, to determine that a system that the
Commission has found to be efficient is not efficient, and then to find that
defendants’ failure to disclose this “inefficiency” is a form of fraud, compensable
in damages. If accepted, plaintiffs’ theory of liability could be used to challenge
any aspect of the Commission-approved clearance and settlement system, or,
presumably, and other aspect of the securities markets governed by Commissionapproved rules, and it would make uniform regulation impossible. That theory
would therefore impermissibly stand as an obstacle to the accomplishment and
-26-
execution of the full purpose and objectives of Congress in creating the Exchange
Act’s self-regulatory regime, and it is preempted. See Nanopierce, 168 P.3d at 8384; Whistler, *5. 10
c.
The mis-accounting for lender shares claim. Finally,
the complaint alleges that the way the borrowed shares are accounted for in the
“lending member’s” account creates a misleading impression as to how many
shares the lender holds. This allegation rests on the erroneous premise, discussed
above, that the lender’s account continues to show the loaned shares as being still
10
In their brief, plaintiffs seek to make a new argument that is not
reflected in the allegations of the complaint. They now assert that
defendants “misrepresented and misused the program so as to permit
failures to deliver to remain uncured for months and even years” (Br.
15), and that they have “have permitted sellers to maintain fail to
deliver positions of millions of shares for weeks, months, and years”
while affirmatively misrepresenting to the public that they “operate
the stock borrow program ‘only to cover temporary’ shortfalls in the
delivery of shares sold in securities transactions” (Br. 18). The
alleged harm arises not from any misrepresentation, but purely from
the alleged fact that fails are “permitted” to remain open longer than
plaintiffs believe should happen. But we have seen that defendants
have not “permitted” this to occur – they have neither the authority
nor the responsibility to close out open fails to deliver. Rather, if
fails persist it is because sellers have not delivered and buyers have
not initiated buy-ins, presumably because they are content to await
delivery. Neither of these causes is subject to defendants’ control. In
short, even the “misrepresentation” advanced in the brief, like the one
alleged in the complaint, is nothing but another attack on how the
program approved by the Commission operates.
-27-
available in the account even after they have been borrowed. Putting that difficulty
aside, the way in which borrowed shares are accounted for is established by the
applicable NSCC Rules, and a state law finding that the Rules themselves are
fraudulent is preempted. See Nanopierce, 168 P.3d at 84; Whistler, *5. 11
11
Here again, plaintiffs’ brief makes an argument not alleged in their
complaint (Br. 16-17), namely that defendants have been hiding the
fact that a buyer that receives borrowed shares may re-lend them
before the borrowed shares have been returned to the original lender,
and that the recipient of the re-lent shares may “likewise re-lend
them.” They also accuse the Commission of having deliberately
joined in this supposed deception by seeking to conceal the relevant
facts from the courts in which it has filed amicus briefs (Br. 52-53).
The fact that the recipient of borrowed shares may re-lend them is an
obvious feature of the program because a buyer that receives
borrowed shares (technically, whose DTC account is credited with a
securities entitlement for those shares) has exactly the same rights as
a buyer that receives shares delivered by a seller, and those rights
include the rights to sell or lend the securities. (This aspect of the
program does not create more shares because, as explained above, the
shares are accounted for as being debited from the lender’s account.)
Furthermore, whether a lender is lending borrowed shares or
delivered shares, the manner in which NSCC accounts for those
shares will be in accordance with the Commission-approved rules
governing the stock borrow program, so that this claim is merely
another impermissible attempt to hold that a federally approved
program is a form of fraud under state law.
-28-
III.
The Commission is vigorously exercising its regulatory responsibility to
prevent abusive short selling, but it has not suggested that defendants
or the clearing and settlement system are responsible for any such
abuses.
Plaintiffs claim that the Commission has only “now recognized” potential
problems with naked short selling (Br.54), but this assertion ignores history. The
Commission adopted Regulation SHO in 2004 to address concerns with possible
manipulative naked short selling. See Regulation SHO Proposing Release, SEC
Rel. No. 34-48709, 68 Fed. Reg. 62972, 62975-78 (Nov. 6, 2003) (discussing
problems potentially caused by naked short selling); Short Sales, SEC Rel. No. 3450103, 69 Fed. Reg. 48008, 48009 (Aug. 6, 2004) (adopting Regulation SHO and
explaining that certain provisions of Regulation SHO are designed to reduce short
selling abuses); 48013 n.53 (noting that most commenters welcomed the
regulation as a means to address naked short selling manipulation). Among other
requirements, Regulation SHO (1) requires broker-dealers to locate securities that
are available for borrowing prior to effecting a short sale in any equity security,
and (2) requires clearing agency participants (such as broker-dealers) to close out
fail to deliver positions by purchasing securities of like kind and quantity for
securities that are identified by a formula established by the regulation as having a
substantial amount of fails. Short Sales, 69 Fed. Reg. at 48014, 48016-17.
-29-
The Commission revisited the issue in 2007, when it amended Regulation
SHO to eliminate so-called “grandfathering,” under which certain shares had not
been covered by the close out requirement. See Amendments to Regulation SHO,
SEC Rel. No. 34-56212, 72 Fed. Reg. 45544 (Aug. 7, 2007). And it recently
adopted an emergency order temporarily requiring all persons to borrow or to
arrange to borrow certain securities prior to effecting an order for a short sale of
those securities. See Emergency Order, SEC Rel. No. 34-58166 (July 15, 2008). 12
Thus, the Commission is not a latecomer to the effort to prevent abusive
short selling. Rather, it has been and remains quite active in carrying out its
regulatory responsibilities. However, in all of this, the Commission’s focus has
been on establishing sufficient assurances that short sellers have located, arranged
to borrow, or borrowed the shares they are selling in order to prevent market
manipulation. The Commission has not identified any cause for concern in this
regard with respect to defendants or the clearing and settlement system, much less
with the stock borrow program.
12
www.sec.gov/rules/other/2008/34-58166.pdf
-30-
CONCLUSION
For the foregoing reasons, the ruling of the district court that plaintiffs’
claims are preempted should be affirmed.
Respectfully submitted,
BRIAN G. CARTWRIGHT
General Counsel
ANDREW N. VOLLMER
Deputy General Counsel
JACOB H. STILLMAN
Solicitor
___________________________________
MARK PENNINGTON
Assistant General Counsel
Securities and Exchange Commission
100 F Street, N.E.
Washington, D.C. 20549-9010
(202) 551-5189 (Pennington)
September 17, 2008
-31-
CERTIFICATE OF SERVICE
I hereby certify that on September 17, 2008, I caused two copies of the brief
amicus curiae of the Securities and Exchange Commission and a diskette
containing a PDF version of the brief to be served on the following by overnight
delivery.
James W. Christian
Sean Greenwood
Scott R. Link
CHRISTIAN, SMITH & JEWELL LLP
2302 Fannin, Suite 500
Houston, TX 77002
(713) 659-7617
Counsel for Plaintiff-Appellants
John R. Knight
32 Morningside Place, Suite 1006
Memphis, TN 38104
(901) 454-0188
Counsel for Plaintiff-Appellants
Rex A. Staples
Stephen W. Hall
Lesley M. Walker
North American Securities
Administrators Association, Inc.
750 First St., NE, Suite 1140
Washington, DC 20002
(202) 737-0900
Counsel for Amicus Curiae NASAA
Scott K. Attaway
David Federick
KELLOGG, HUBER, HANSEN,
TODD, EVANS & FIGEL, P.L.L.C.
1615 M St., N.W., Suite 400
Washington, DC 20036
(202) 326-7900
Counsel for Plaintiff-Appellants
Gregg M. Mashberg
Charles S. Sims
Karen D. Coombs
PROSKAUER ROSE LLP
1585 Broadway
New York, NY 10036
(212) 969-3000
(212) 969-2900 (facsimile)
Counsel for Defendants-Appellees
Peter G. Krumpe
WILLIMS & ANDERSON PLC
Twenty Second Floor
111 Center St.
Little Rock, AR 72201
(501) 396-8431
(501) 372-6453 (facsimile)
Counsel for Defendants-Appellees
I also caused 10 copies of the brief and a diskette containing a PDF version
of the brief to be delivered to the Clerk of this Court:
Michael E. Gans, Clerk of Court
Thomas F. Eagleton Courthouse
Room 24.329
111 South 10th St.
St. Louis, MO 63102
________________________
Mark Pennington
CERTIFICATE OF COMPLIANCE
In accordance with Federal Rule of Appellate Procedure 32(a)(7)(C) and
Eighth Circuit Rule 28A(c), the undersigned certifies that this brief complies with
the applicable type-volume limitations. Exclusive of the portions exempted by
Federal Rule of Appellate Procedure 32(a)(7)(B)(iii), this brief contains 6,890
words. This certificate was prepared in reliance on the word-count function of the
word-processing system (Wordperfect 11) used to prepare this brief.
_________________________
Mark R. Pennington
ANTI-VIRUS CERTIFICATE
The diskette has been scanned for viruses and is virus free.
________________________
Mark Pennington
This is a copy of a public record, reproduced as it was published. It is not legal advice, and it may not be the version a court would rely on. Check the official source before you cite it.