# Amendments to Regulation SHO > Briefs, arguments, decisions, and more. URL: https://www.frixlaw.com/law-library/documents/fr%3A2010-4409 ## Record - **Collection:** Federal Register - **Document type:** Rule - **Published:** March 10, 2010 - **Citation:** 75 FR 11232 ## Text SECURITIES AND EXCHANGE COMMISSION 17 CFR Part 242 [Release No. 34-61595; File No. S7-08-09] RIN 3235-AK35 Amendments to Regulation SHO AGENCY: Securities and Exchange Commission. ACTION: Final rule. SUMMARY: The Securities and Exchange Commission (“Commission”) is adopting amendments to Regulation SHO under the Securities Exchange Act of 1934 (“Exchange Act”). We are adopting a short sale-related circuit breaker that, if triggered, will impose a restriction on the prices at which securities may be sold short (“short sale price test” or “short sale price test restriction”). Specifically, the Rule requires that a trading center establish, maintain, and enforce written policies and procedures reasonably designed to prevent the execution or display of a short sale order of a covered security at a price that is less than or equal to the current national best bid if the price of that covered security decreases by 10% or more from the covered security's closing price as determined by the listing market for the covered security as of the end of regular trading hours on the prior day. In addition, the Rule requires that the trading center establish, maintain, and enforce written policies and procedures reasonably designed to impose this short sale price test restriction for the remainder of the day and the following day when a national best bid for the covered security is calculated and disseminated on a current and continuing basis by a plan processor pursuant to an effective national market system plan. We believe it is appropriate at this time to adopt a short sale-related circuit breaker because, when triggered, it will prevent short selling, including potentially manipulative or abusive short selling, from driving down further the price of a security that has already experienced a significant intra-day price decline, and will facilitate the ability of long sellers to sell first upon such a decline. This approach establishes a narrowly-tailored Rule that will target only those securities that are experiencing significant intra-day price declines. We believe that addressing short selling in connection with such declines in individual securities will help address erosion of investor confidence in our markets generally. In addition, we are amending Regulation SHO to provide that a broker-dealer may mark certain qualifying sell orders “short exempt.” In particular, if the broker-dealer chooses to rely on its own determination that it is submitting the short sale order to the trading center at a price that is above the current national best bid at the time of submission or to rely on an exception specified in the Rule, it must mark the order as “short exempt.” This “short exempt” marking requirement will aid surveillance by self-regulatory organizations (“SROs”) and the Commission for compliance with the provisions of Rule 201 of Regulation SHO. DATES: Effective Date: May 10, 2010. Compliance Date: November 10, 2010. FOR FURTHER INFORMATION CONTACT: Josephine J. Tao, Assistant Director; Victoria Crane, Branch Chief; Katrina Wilson, Staff Attorney; and Angela Moudy, Staff Attorney, Division of Trading and Markets, at (202) 551-5720, at the Commission, 100 F Street, NE., Washington, DC 20549-6628. SUPPLEMENTARY INFORMATION: The Commission is amending Rules 200(g) and 201 of Regulation SHO [17 CFR 242.200(g) and 17 CFR 242.201] under the Exchange Act. Table of Contents I. Executive Summary II. Background on Short Sale Restrictions A. Short Selling and Its Market Impact B. History of Short Sale Price Test Restrictions in the U.S. C. Proposal To Adopt a Short Sale Price Test Restriction or Circuit Breaker D. Empirical Data Regarding Potential Market Impact of Short Sale Price Test Restrictions Submitted in Response to the Proposal and Re-Opening Release III. Discussion of Rule 201 of Regulation SHO A. Operation of the Circuit Breaker Plus Alternative Uptick Rule 1. Covered Securities 2. Pricing Increment 3. Alternative Uptick Rule 4. Circuit Breaker Approach Generally 5. Circuit Breaker Trigger Level and Duration 6. Determination Regarding Securities Subject to Rule 201 and Dissemination of Such Information 7. Policies and Procedures Approach B. “Short Exempt” Provisions of Rule 201 1. Broker-Dealer Provision 2. Seller's Delay in Delivery 3. Odd Lot Transactions 4. Domestic Arbitrage 5. International Arbitrage 6. Over-Allotments and Lay-Off Sales 7. Riskless Principal Transactions 8. Transactions on a Volume-Weighted Average Price Basis 9. Decision Not To Adopt a Provision That a Broker-Dealer May Mark an Order “Short Exempt” in Connection With Bona Fide Market Making Activity IV. Order Marking V. Exemptive Procedures VI. Overseas Transactions VII. Rule 201 Implementation Period VIII. Decision Not To Implement Rule 201 on a Pilot Basis IX. Paperwork Reduction Act A. Background B. Summary 1. Policies and Procedures Requirement Under Rule 201 2. Policies and Procedures Requirement Under the Broker-Dealer and Riskless Principal Provisions 3. Marking Requirements C. Use of Information 1. Policies and Procedures Requirement Under Rule 201 2. Policies and Procedures Requirement Under the Broker-Dealer and Riskless Principal Provisions 3. Marking Requirements D. Respondents 1. Policies and Procedures Requirement Under Rule 201 2. Policies and Procedures Requirement Under the Broker-Dealer and Riskless Principal Provisions 3. Marking Requirements E. Total Annual Reporting and Recordkeeping Burdens 1. Policies and Procedures Requirement Under Rule 201 2. Policies and Procedures Requirement Under the Broker-Dealer and Riskless Principal Provisions 3. Marking Requirements F. Collection of Information Is Mandatory 1. Policies and Procedures Requirements 2. Marking Requirements G. Confidentiality 1. Policies and Procedures Requirements 2. Marking Requirements H. Record Retention Period 1. Policies and Procedures Requirements 2. Marking Requirements X. Cost-Benefit Analysis A. Benefits 1. Alternative Uptick Rule 2. Circuit Breaker Approach 3. Marking Requirements B. Costs 1. Alternative Uptick Rule a. Impact on Market Quality b. Implementation and On-going Monitoring and Surveillance Costs i. Policies and Procedures Requirement Under Rule 201 ii. Policies and Procedures Requirement Under the Broker-Dealer and Riskless Principal Provisions 2. Circuit Breaker Approach a. Impact on Market Quality b. Implementation and On-going Monitoring and Surveillance Costs 3. Implementation Period 4. Marking Requirements XI. Consideration of Burden on Competition and Promotion of Efficiency, Competition, and Capital Formation A. Competition 1. Market Structure for Trading Centers and Broker-Dealers 2. Discussion of Impacts of Rules 200(g) and 201 on Competition B. Capital Formation C. Efficiency XII. Final Regulatory Flexibility Analysis A. Need for and Objectives of the Rule B. Significant Issues Raised by Public Comment C. Small Entities Affected by the Rule D. Projected Reporting, Recordkeeping and Other Compliance Requirements E. Agency Action To Minimize Effect on Small Entities F. Significant Alternatives XIII. Statutory Authority XIV. Text of the Amendments to Regulation SHO I. Executive Summary In July 2007, the Commission eliminated all short sale price test restrictions. Prior to that time, short sale price test restrictions included Rule 10a-1 under the Exchange Act, also known as the “uptick rule” or “tick test” (“former Rule 10a-1”), that applied to exchange-listed securities, 1 and the National Association of Securities Dealers, Inc.'s (“NASD”) 2 bid test, Rule 3350 (“NASD's former bid test”), that applied to certain Nasdaq securities. 3 The Commission's removal of short sale price test restrictions followed a careful, deliberative rulemaking process, carried out in multiple stages from 1999 through 2006, and was open to the public at every stage. 1 See infra note 41 and accompanying text. 2 NASD is now known as the Financial Industry Regulatory Authority, Inc. (“FINRA”). 3 See infra note 43 and accompanying text. The Commission took a number of steps as part of that process, including seeking extensive public comment and conducting a comprehensive staff study to assess whether then-current short sale price test restrictions were appropriate. For example, beginning in 1999, the Commission published a concept release in which it sought comment regarding short sale price test regulation, including comment on whether to eliminate such regulation. 4 In 2004, the Commission initiated a year-long pilot (“Pilot”) to study the removal of short sale price tests for approximately one-third of the largest stocks. 5 Short sale data was made publicly available during this Pilot to allow the public and Commission staff (the “Staff”) to study the effects of eliminating short sale price test restrictions. The findings of third party researchers were presented and discussed in a public Roundtable in September 2006. 6 In addition, the results of the Staff study of the Pilot data were made publicly available in draft form in September 2006 and in final form in February 2007. 7 4 See Exchange Act Release No. 42037 (Oct. 20, 1999), 64 FR 57996 (Oct. 28, 1999) (“1999 Concept Release”). 5 See Exchange Act Release No. 50104 (July 28, 2004), 69 FR 48032 (Aug. 6, 2004) (“Pilot Release”). 6 See http://www.sec.gov/about/economic/shopilottrans091506.pdf (the “Regulation SHO 2006 Roundtable”). 7 See http://www.sec.gov/about/economic/shopilot091506/draft_reg_sho_pilot_report.pdf and http://www.sec.gov/news/studies/2007/regshopilot020607.pdf. See also infra notes 48 to 62 and accompanying text (discussing findings of the Staff study). Since then, there has been significant market turmoil. Concurrent with the development of the subprime mortgage crisis and credit crisis in 2007, market volatility, including steep price declines, particularly in the stocks of certain financial services companies, increased markedly in the U.S. and in every major stock market around the world (including markets that continued to operate under short sale price test restrictions). 8 As market conditions continued to worsen, investor confidence eroded, and the Commission received many requests from the public to consider imposing restrictions with respect to short selling, based in part on the belief that such action would help restore investor confidence. 9 8 See Exchange Act Release No. 59748 (Apr. 10, 2009), 74 FR 18042, 18043 (Apr. 20, 2009) (the “Proposal”). 9 See id. We determined that it was appropriate to re-examine the appropriateness of short sale price test restrictions and seek comment on whether to restore any such restrictions. Thus, in April 2009 we proposed two approaches to restrictions on short selling, one that would apply on a permanent, market-wide basis and another that would apply to a particular security upon a significant decline in the price of that security (the “proposed circuit breaker approach” or “proposed circuit breaker rules”). 10 10 See Proposal, 74 FR 18042. With respect to the permanent, market-wide approach, we proposed two alternative price tests. The first alternative price test, in many ways similar to NASD's former bid test, would be based on the national best bid (the “proposed modified uptick rule”). The second alternative price test, similar to former Rule 10a-1, would be based on the last sale price (the “proposed uptick rule”). With respect to the proposed circuit breaker approach, we proposed two basic alternatives. First, we proposed a circuit breaker rule that, when triggered by a significant price decline in a particular security, would temporarily prohibit any person from selling short that security, subject to certain exceptions (“proposed circuit breaker halt rule”). Second, we proposed a circuit breaker rule that, when triggered by a significant price decline in a particular security, would trigger a temporary short sale price test for that security. In connection with this alternative, we proposed two short sale price tests. One was the modified uptick rule—that is, we proposed a circuit breaker rule that, when triggered by a significant price decline in a particular security, would temporarily impose the proposed modified uptick rule for that security (“proposed circuit breaker modified uptick rule”). The other was the uptick rule—that is, we proposed a circuit breaker rule that, when triggered by a significant market decline in a particular security, would temporarily impose the proposed uptick rule for that security (“proposed circuit breaker uptick rule”). In addition, in the Proposal we inquired whether a short sale price test restriction that would permit short selling at a price above the current national best bid (the “alternative uptick rule”), would be preferable to the proposed modified uptick rule and the proposed uptick rule. 11 We sought comment regarding the application of the alternative uptick rule as a market-wide permanent short sale price test restriction or in conjunction with a circuit breaker. 12 As a supplement to our request for comment in the Proposal and to help ensure the public had a full opportunity to comment on, among other things, the alternative uptick rule, on August 20, 2009 we re-opened the comment period to the Proposal. 13 In addition, on May 5, 2009, we held a Roundtable to Examine Short Sale Price Test and Circuit Breaker Restrictions (the “May 2009 Roundtable”). 14 Panelists included representatives of public issuers, investors, financial services firms, SROs and the academic community. 15 11 See Proposal, 74 FR at 18072, 18081, 18082. 12 See id. 13 See Exchange Act Release No. 60509 (Aug. 17, 2009), 74 FR 42033 (Aug. 20, 2009) (the “Re-Opening Release”). 14 See Exchange Act Release No. 59855 (May 1, 2009); Press Release No. 2009-101 (agenda and panelists included); Press Release No. 2009-88 (preliminary agenda included). 15 See http://www.sec.gov/spotlight/shortsales/roundtable050509/shortsalesroundtable050509-transcript.txt (unofficial transcript of May 2009 Roundtable). Although in recent months there has been an increase in stability in the securities markets, we remain concerned that excessive downward price pressure on individual securities accompanied by the fear of unconstrained short selling can undermine investor confidence in our markets generally. 16 In addition, we are concerned about potential future market turmoil, including significant increases in market volatility and steep price declines. Thus, as discussed in more detail below, after considering the comments, we have determined that it is appropriate at this time to adopt in Rule 201 a targeted short sale price test restriction that will apply the alternative uptick rule for the remainder of the day and the following day if the price of an individual security declines intra-day by 10% or more from the prior day's closing price for that security as determined by the covered security's listing market. 16 We note that investor confidence may include a number of different elements, such as investor perceptions about fundamental market risk, investor optimism about the economy, or investor trust in the fairness of financial markets as influenced by applicable regulatory protections. Although the latter can be directly influenced by Commission actions, the Commission does not have control over fundamental market risk and economic optimism. Thus, as used here, the term “investor confidence” refers to investor trust in the fairness of financial markets. By not allowing short sellers to sell at or below the current national best bid while the circuit breaker is in effect, the short sale price test restriction in Rule 201 will allow long sellers, who will be able to sell at the bid, to sell first in a declining market for a particular security. As the Commission has noted previously in connection with short sale price test restrictions, a goal of such restrictions is to allow long sellers to sell first in a declining market. 17 A short seller that is seeking to profit quickly from accelerated, downward market moves may find it advantageous to be able to short sell at the current national best bid. In addition, by making such bids accessible only by long sellers when a security's price is undergoing significant downward price pressure, Rule 201 will help to facilitate and maintain stability in the markets and help ensure that they function efficiently. It will also help restore investor confidence during times of substantial uncertainty because, once the circuit breaker has been triggered for a particular security, long sellers will have preferred access to bids for the security, and the security's continued price decline will more likely be due to long selling and the underlying fundamentals of the issuer, rather than to other factors. 17 See Exchange Act Release No. 48709 (Oct. 28, 2003), 68 FR 62972, 62989 (Nov. 6, 2003) (“2003 Regulation SHO Proposing Release”); see also Exchange Act Release No. 30772 (June 3, 1992), 57 FR 24415, 24416 (June 9, 1992) (stating that former Rule 10a-1 was “designed to limit short selling of a security in a declining market, by requiring, in effect, that each successive lower price be established by a long seller”). In addition, combining the alternative uptick rule with a circuit breaker will strike the appropriate balance between our goal of preventing short selling, including potentially manipulative or abusive short selling, from being used as a tool to exacerbate a declining market in a security and the need to allow for the continued smooth functioning of the markets, including the provision of liquidity and price efficiency in the markets. 18 The circuit breaker approach of Rule 201 will help benefit the market for a particular security by allowing participants, when a security is undergoing a significant intra-day price decline, an opportunity to re-evaluate circumstances and respond to volatility in that security. We also believe that a circuit breaker will better target short selling that may be related to potential bear raids 19 and other forms of manipulation that may be used to exacerbate a price decline in a covered security. 18 Where we use the terms “market efficiency” and “price efficiency” in this adopting release we are using terms of art as used in the economic literature proceeding under the “efficient markets hypothesis,” under which financial prices are assumed to reflect all available information and accordingly adjust quickly to reflect new information. See, e.g., Eugene F. Fama, 1991, Efficient capital markets: II, Journal of Finance; 46: 1575-1617; Eugene F. Fama and Kenneth R. French, 1992, The Cross-Section of Expected Stock Returns, Journal of Finance, 47: 427-465. It should be noted that economic efficiency and price efficiency are not identical with the ordinary sense of the word “efficiency.” 19 See infra note 36 and accompanying text. At the same time, however, we recognize the benefits to the market of legitimate short selling, such as the provision of liquidity and price efficiency. Thus, by imposing a short sale price test restriction only when an individual security is undergoing significant downward price pressure, the short sale price test restrictions of Rule 201 will apply to a limited number of securities, rather than to all securities all the time. As discussed in more detail below, 20 in response to our request for comment on an appropriate threshold at which to trigger the proposed circuit breaker short sale price test restrictions, commenters submitted estimates of the number of securities that would trigger a circuit breaker rule at a 10% threshold. 21 While commenters' analyses (including the facts and assumptions used) and their resulting estimates varied, 22 commenters' estimates reflect that a 10% circuit breaker threshold, on average, should affect a limited percentage of covered securities. 23 Given the variations in the facts and assumptions underlying the estimates submitted by commenters, the Staff also looked at trading data to confirm the reasonableness of those estimates. The Staff found that, during the period covering April 9, 2001 to September 30, 2009, 24 the price test restrictions of Rule 201 would have been triggered, on an average day, for approximately 4% of covered securities. 25 The Staff also found that for a low volatility period, covering January 1, 2004 to December 31, 2006, the 10% trigger level of Rule 201 would have, on an average day, been triggered for approximately 1.3% of covered securities. 26 20 See infra Section III.A.5. (discussing the circuit breaker trigger level). 21 See, e.g., letter from Mary Lou Von Kaenel, Managing Director, Management Consulting, Jordan & Jordan, dated June 19, 2009 (“Jordan & Jordan”); letter from John C. Nagel, Managing Director and Deputy General Counsel, Citadel Investment Group, John Liftin, Managing Director and General Counsel, The D.E. Shaw Group, and Mark Silber, Executive Vice President, Renaissance Technologies, dated June 19, 2009 (“Citadel et al. (June 2009)”); letter from Stuart J. Kaswell, Executive Vice President, Managing Director and General Counsel, Managed Funds Association, dated June 22, 2009 (“MFA (June 2009)”); letter from Ira D. Hammerman, Senior Managing Director and General Counsel, Securities Industry and Financial Markets Association, dated June 19, 2009 (“SIFMA (June 2009)”); letter from Daniel Mathisson, Managing Director, Credit Suisse Securities (USA), LLC, dated Sept. 21, 2009 (“Credit Suisse (Sept. 2009)”). 22 See infra note 306. 23 See infra note 307. 24 See infra note 309. 25 See infra note 310. 26 See infra note 311. Thus, Rule 201 is structured so that the circuit breaker generally will not be triggered for the majority of covered securities at any given time and, thereby, will not interfere with the smooth functioning of the markets for those securities, including when prices in such securities are undergoing minimal downward price pressure or are stable or rising. If the short sale price test restrictions of Rule 201 apply to a covered security it will be because and when that security is undergoing significant downward price pressure. In addition, to help ensure the Rule's workability, we are amending Rule 200(g) of Regulation SHO, substantially as proposed, to provide that, once the circuit breaker has been triggered for a covered security, if a broker-dealer chooses to rely on its own determination that it is submitting a short sale order to a trading center at a price that is above the current national best bid at the time of submission or to rely on an exception specified in the Rule, it must mark the order “short exempt.” 27 The short sale price test restrictions of Rule 201 generally will apply to a small number of securities for a limited duration, and will continue to permit short selling rather than, for example, halting short selling when the restrictions are in place. As such, we believe that the circumstances under which a broker-dealer may need to mark a short sale order “short exempt” under Rule 201 are limited. 27 We note that, as discussed in more detail below, unless a sale order is marked “short exempt,” a trading center's policies and procedures must be reasonably designed to prevent the execution or display of the order at a price that is less than or equal to the current national best bid. II. Background on Short Sale Restrictions Short selling involves a sale of a security that the seller does not own or a sale that is consummated by the delivery of a security borrowed by, or for the account of, the seller. 28 In order to deliver the security to the purchaser, the short seller will borrow the security, usually from a broker-dealer or an institutional investor. Typically, the short seller later closes out the position by purchasing equivalent securities on the open market and returning the security to the lender. In general, short selling is used to profit from an expected downward price movement, to provide liquidity in response to unanticipated demand, or to hedge the risk of an economic long position in the same security or in a related security. 29 28 See 17 CFR 242.200(a). 29 See, e.g., Exchange Act Release No. 54891 (Dec. 7, 2006), 71 FR 75068, 75069 (Dec. 13, 2006) (“2006 Price Test Elimination Proposing Release”); 2003 Regulation SHO Proposing Release, 68 FR at 62974. In this adopting release, we use the terms “liquidity provider” and “liquidity taker,” and correlative terms, in their technical sense in the literature of market microstructure. See, e.g., Larry Harris, Trading and Exchanges: Market Microstructure for Practitioners, at 70 (2003) (an introductory textbook to the economics of market microstructure). As used therein, a liquidity taker is a buyer or seller (including a short seller) who submits an order designed for immediate execution, such as a market order or a marketable limit order, while a liquidity provider is a more patient buyer or seller (including a short seller) who submits orders that may or may not be executed, and thus provides depth to the market. This usage differs from the usage of the term “liquidity provider” to refer to a bank, central bank, or other financial institution or investor who provides cash financing or otherwise increases the money supply. A. Short Selling and Its Market Impact Short selling provides the market with important benefits, including market liquidity and pricing efficiency. 30 Market liquidity is often provided through short selling by market professionals, such as market makers (including specialists) and block positioners, who offset temporary imbalances in the buying and selling interest for securities. Short sales effected in the market add to the selling interest of stock available to purchasers and reduce the risk that the price paid by investors is artificially high because of a temporary imbalance between buying and selling interest. Short sellers covering their sales also may add to the buying interest of stock available to sellers. 31 30 See id.; see also Exchange Act Release No. 29278 (June 7, 1991), 56 FR 27280 (June 13, 1991); Exchange Act Release No. 50103 (July 28, 2004), 69 FR 48008, 48009 n.6 (Aug. 6, 2004) (“2004 Regulation SHO Adopting Release”); Ekkehart Boehmer and J. Julie Wu, Short Selling and the Informational Efficiency of Prices, Working Paper, Jan. 8, 2009. 31 See, e.g., 2006 Price Test Elimination Proposing Release, 71 FR at 75069; 2003 Regulation SHO Proposing Release, 68 FR at 62974. Short selling also can contribute to the pricing efficiency of the equities markets. 32 When a short seller speculates or hedges against a downward movement in a security, his transaction is a mirror image of the person who purchases the security in anticipation that the security's price will rise or to hedge against such an increase. Both the purchaser and the short seller hope to profit, or hedge against loss, by buying the security at one price and selling at a higher price. The strategies primarily differ in the sequence of transactions. Market participants who believe a stock is overvalued may engage in short sales in an attempt to profit from a perceived divergence of prices from true economic values. Such short sellers add to stock pricing efficiency because their transactions inform the market of their evaluation of future stock price performance. This evaluation is reflected in the resulting market price of the security. 33 32 See id. 33 See 2006 Price Test Elimination Proposing Release, 71 FR at 75069-75070; 2003 Regulation SHO Proposing Release, 68 FR at 62974. Arbitrageurs also contribute to pricing efficiency by utilizing short sales to profit from price disparities between a stock and a derivative security, such as a convertible security or an option on that stock. For example, an arbitrageur may purchase a convertible security and sell the underlying stock short to profit from a current price differential between two economically similar positions. See id. Although short selling serves useful market purposes, it also may be used to drive down the price of a security or as a tool to accelerate a declining market in a security. 34 In addition, short selling may be used to illegally manipulate stock prices. 35 One example is the “bear raid” where an equity security is sold short in an effort to drive down the price of the security by creating an imbalance of sell-side interest. 36 This unrestricted short selling could exacerbate a declining market in a security by increasing pressure from the sell-side, eliminating bids, and causing a further reduction in the price of a security by creating an appearance that the security's price is falling for fundamental reasons, when the decline, or the speed of the decline, is being driven by other factors. 37 34 See, e.g., Proposal, 74 FR at 18065 (noting that a short selling circuit breaker rule would be designed to target only those securities that experience rapid severe intra-day price declines and, therefore, might help to prevent short selling from being used to drive the price of a security down or to accelerate the decline in the price of those securities). 35 See, e.g., U.S. v. Russo, 74 F.3d 1383, 1392 (2d Cir. 1996) (short sales were sufficiently connected to the manipulation scheme as to constitute a violation of Exchange Act Section 10(b) and Rule 10b-5); S.E.C. v. Gardiner, 48 S.E.C. Docket 811, No. 91 Civ. 2091 (S.D.N.Y. Mar. 27, 1991) (alleged manipulation by sales representative by directing or inducing customers to sell stock short in order to depress its price). 36 Many people blamed “bear raids” for the 1929 stock market crash and the market's prolonged inability to recover from the crash. See, e.g., Steve Thel, $850,000 in Six Minutes—The Mechanics of Securities Manipulation, 79 Cornell L. Rev. 219, 295-296 (1994); Jonathan R. Macey, Mark Mitchell & Jeffry Netter, Restrictions on Short Sales: An Analysis of the Uptick Rule and its Role in View of the October 1987 Stock Market Crash, 74 Cornell L. Rev. 799, 801-802 (1989). 37 See 2006 Price Test Elimination Proposing Release, 71 FR at 75070; 2003 Regulation SHO Proposing Release, 68 FR at 62974. B. History of Short Sale Price Test Restrictions in the U.S. Section 10(a) of the Exchange Act 38 gives the Commission plenary authority to regulate short sales of securities registered on a national securities exchange, as necessary or appropriate in the public interest or for the protection of investors. 39 After conducting an inquiry into the effects of concentrated short selling during the market break of 1937, 40 the Commission adopted former Rule 10a-1 in 1938 to restrict short selling in a declining market. 41 38 15 U.S.C. 78j(a). 39 See id.; see also 2006 Price Test Elimination Proposing Release, 71 FR at 75068; 2003 Regulation SHO Proposing Release, 68 FR at 62973. 40 The study covered two weekly periods, that of September 7-13, 1937, and that of October 18-23, 1937. See Exchange Act Release No. 1548 (Jan. 24, 1938), 3 FR 213 (Jan. 26, 1938) (“Former Rule 10a-1 Adopting Release”). 41 See id. Former Rule 10a-1 provided that, subject to certain exceptions, a listed security could be sold short (i) at a price above the price at which the immediately preceding sale was effected (plus tick), or (ii) at the last sale price if it was higher than the last different price (zero plus tick). The core provisions of former Rule 10a-1 remained virtually unchanged for almost seventy years. Over the years, however, in response to changes in the securities markets, including changes in trading strategies and systems used in the marketplace, the Commission added exceptions to former Rule 10a-1 and granted numerous written requests for relief from the Rule's restrictions. These market changes included decimalization, the increased use of matching systems that execute trades at independently-derived prices during random times within specific time intervals, 42 and the spread of fully automated markets. In addition, market developments over the years led to the application of different price tests to securities trading in different markets. 43 42 See, e.g., letter from Larry E. Bergmann, Senior Associate Director, Division of Market Regulation, SEC, to Andre E. Owens, Schiff Hardin & Waite, dated Apr. 23, 2003 (granting exemptive relief from former Rule 10a-1 for trades executed through an alternative trading system (“ATS”) that matches buying and selling interest among institutional investors and broker-dealers at various set times during the day). 43 See, e.g., Exchange Act Release No. 55245 (Feb. 5, 2007), 72 FR 6635 (Feb. 12, 2007). Former Rule 10a-1 applied only to short sale transactions in exchange-listed securities. In 1994, the Commission granted temporary approval to NASD to apply its own short sale rule, known as the “bid test,” on a pilot basis that was renewed annually until the Commission repealed short sale price tests. NASD's former bid test prohibited short sales in Nasdaq Global Market securities (then known as Nasdaq National Market securities) at or below the current (inside) bid when the current best (inside) bid was below the previous best (inside) bid in a security. As a result, until the Commission eliminated former Rule 10a-1, and prohibited any SRO from having a short sale price test in July 2007, Nasdaq Global Market securities traded on Nasdaq or the over-the-counter (“OTC”) market and reported to a NASD facility were subject to a bid test. Nasdaq securities traded on exchanges other than Nasdaq were not subject to any price test. In addition, many thinly-traded securities, such as Nasdaq Capital Market securities and securities quoted on the OTC Bulletin Board and Pink Sheets, were not subject to any price test wherever traded. According to the Staff, in 2005, prior to the start of the Pilot, NASD's former bid test applied to approximately 2,800 securities, while former Rule 10a-1 applied to approximately 4,000 securities. In July 2004, the Commission adopted Rule 202T of Regulation SHO, 44 which established procedures for the Commission to temporarily suspend short sale price tests for a prescribed set of securities so that the Commission could study the effectiveness of these tests. 45 Pursuant to the process established in Rule 202T, the Commission issued an order creating the Pilot, which temporarily suspended the tick test of former Rule 10a-1 and any price test of any national securities exchange or national securities association for short sales of certain securities. 46 The Pilot was designed to assist the Commission in assessing whether changes to short sale price test regulation were appropriate at that time in light of then-current market practices and the purposes underlying short sale price test regulation. 47 44 17 CFR 242.202T. 45 See 17 CFR 242.202T; see also 2004 Regulation SHO Adopting Release, 69 FR at 48012-48013. 46 See Pilot Release, 69 FR 48032. 47 See id. In the 2004 Regulation SHO Adopting Release, we noted that “the purpose of the [P]ilot is to assist the Commission in considering alternatives, such as: (1) Eliminating a Commission-mandated price test for an appropriate group of securities, which may be all securities; (2) adopting a uniform bid test, and any exceptions, with the possibility of extending a uniform bid test to securities for which there is currently no price test; or (3) leaving in place the current price tests.” 2004 Regulation SHO Adopting Release, 69 FR at 48010. The Staff gathered the data made public during the Pilot, analyzed the data and provided the Commission with a summary report on the Pilot (“Staff's Summary Pilot Report”). 48 The Staff's Summary Pilot Report, which was made public, examined several aspects of market quality including the overall effect of then-current price tests on short selling, liquidity, volatility and price efficiency. 49 The Pilot was also designed to allow the Commission and members of the public to examine whether the effects of the then-current short sale price tests were similar across stocks. 50 48 See http://www.sec.gov/about/economic/shopilot091506/draft_reg_sho_pilot_report.pdf and http://www.sec.gov/news/studies/2007/regshopilot020607.pdf. 49 See Staff's Summary Pilot Report at 40-47; see also id. at 22-24 (discussing the selection of securities included in the Pilot and the control group). 50 In the 2004 Regulation SHO Adopting Release, the Commission stated its expectation that data on trading during the Pilot would be made available to the public to encourage independent researchers to study the Pilot. See 2004 Regulation SHO Adopting Release, 69 FR at 48009, n.9. Accordingly, nine SROs began publicly releasing transactional short selling data on Jan. 3, 2005. The nine SROs at that time were the Amex, ARCA, BSE, CHX, NASD, Nasdaq, National Stock Exchange, NYSE and Phlx. The SROs agreed to collect and make publicly available trading data on each executed short sale involving equity securities reported by the SRO to a securities information processor (“SIP”). The SROs published the information on a monthly basis on their Internet Web sites. As set forth in the Staff's Summary Pilot Report, the Staff found little empirical justification at that time for maintaining then-current short sale price test restrictions, especially for actively traded securities. Amongst its results, the Staff found that such short sale price tests did not have a significant impact on daily volatility. However, the Staff also found some evidence that the short sale price tests dampened intra-day volatility for smaller stocks. 51 51 See Staff's Summary Pilot Report at 55-56. In addition, the Staff found that the Pilot data provided limited evidence that then-current price test restrictions distorted a security's price. 52 The Staff also found that the price test restrictions resulted in an increase in quote depths. 53 Realized liquidity levels, however, were unaffected by the removal of such short sale price test restrictions. 54 The Pilot data also provided evidence that the short sale price test restrictions reduced the volume of executed short sales to total volume and, therefore, acted as a constraint on short selling. 55 The Staff did not find, however, a significant difference in short interest positions between those securities subject to a short sale price test versus those securities that were not subject to such a test during the Pilot. 56 52 On the day the Pilot went into effect, listed Pilot securities underperformed listed control group securities by approximately 24 basis points. The Pilot and control group securities, however, had similar returns over the first six months of the Pilot. See Staff's Summary Pilot Report at 8. 53 See Staff's Summary Pilot Report at 55. 54 This conclusion is based on the result that changes in effective spreads were not economically significant (less than a basis point) and that the changes in the bid and ask depth appear not to affect the transaction costs paid by investors. Arguably, the changes in bid and ask depth appeared to affect the intra-day volatility. However, the Staff concluded that overall, the Pilot data did not suggest a deleterious impact on market quality or liquidity. See Staff's Summary Pilot Report at 40-42, 55. 55 See Staff's Summary Pilot Report at 35. 56 See id. In addition, the Commission encouraged outside researchers to examine the Pilot data. In response to this request, the Commission received four completed studies (the “Academic Studies”) from outside researchers that specifically examined the Pilot data. 57 The Commission also held the Regulation SHO 2006 Roundtable 58 that focused on the empirical evidence learned from the Pilot data (the Staff's Summary Pilot Report, Academic Studies, and Regulation SHO 2006 Roundtable are referred to collectively herein as the “Pilot Results”). 59 The Pilot Results contained a variety of observations, which the Commission considered in determining whether or not to propose removal of then-current short sale price test restrictions and subsequently whether or not to eliminate such restrictions. For example, one study concluded that former Rule 10a-1 had little or no effect on price efficiency. 60 Another study found no evidence that former Rule 10a-1 negatively impacted price discovery. 61 57 See Karl B. Diether, Kuan Hui Lee and Ingrid M. Werner, 2009, It's SHO Time! Short-Sale Price-Tests and Market Quality, Journal of Finance 64:37-73; Gordon J. Alexander and Mark A. Peterson, 2008, The Effect of Price Tests on Trader Behavior and Market Quality: An Analysis of Reg. SHO, Journal of Financial Markets 11:84-111; J. Julie Wu, Uptick Rule, short selling and price efficiency, Aug. 14, 2006; Lynn Bai, 2008, The Uptick Rule of Short Sale Regulation—Can it Alleviate Downward Price Pressure from Negative Earnings Shocks? Rutgers Business Law Journal 5:1-63. 58 See supra note 6. 59 See id. 60 See J. Julie Wu, Uptick Rule, short selling and price efficiency, Aug. 14, 2006. 61 See Lynn Bai, 2008, The Uptick Rule of Short Sale Regulation—Can it Alleviate Downward Price Pressure from Negative Earnings Shocks? Rutgers Business Law Journal 5:1-63. Generally, the Pilot Results supported removal of the short sale price test restrictions that were in effect at that time. 62 In addition to the Pilot Results, thirteen other analyses by SEC staff and various third party researchers were conducted between 1963 and 2004 addressing price test restrictions. 63 Among these were several studies that evaluated short sale price tests during times of significant market decline, including the market break of May 28, 1962, the market decline of September and October 1976, the market break of October 19, 1987, and the Nasdaq market decline of 2000-2001. The results of these studies were mixed, but generally the studies found that former Rule 10a-1 did not prevent short sales in extreme down markets and did limit short selling in up markets, and the studies provided additional support for the removal of the permanent, market-wide short sale price test restrictions in existence at that time. 62 See 2006 Price Test Elimination Proposing Release, 71 FR at 75072-75075 (discussing the Pilot Results). 63 See Staff's Summary Pilot Report at 14, 17-22 (discussing the thirteen studies). In December 2006, the Commission proposed to eliminate former Rule 10a-1 by removing restrictions on the execution prices of short sales, as well as prohibiting any SRO from having a short sale price test. 64 The Commission received twenty-seven comment letters in response to its proposal to eliminate former Rule 10a-1 and prohibit any SRO from having a short sale price test. The comments in response to the proposed amendments varied. Most commenters (including individual traders, an academic, broker-dealers, SROs and trade associations) advocated removing all short sale price test restrictions. 65 Generally, these commenters believed that short sale price test restrictions were no longer necessary due to increased market transparency and the existence of real-time regulatory surveillance that could monitor for and detect any potential short sale manipulation. 66 64 See 2006 Price Test Elimination Proposing Release, 71 FR 75068. 65 See, e.g., letter from Howard Teitelman, CSO, Trillium Trading, dated Feb. 6, 2007; letter from S. Kevin An, Deputy General Counsel, E*TRADE, dated Feb. 9, 2007 (“E*TRADE (Feb. 2007)”); letter from Carl Giannone, dated Feb. 11, 2007 (“Giannone (Feb. 2007)”); letter from David Schwarz, dated Feb. 12, 2007; letter from John G. Gaine, President, Managed Funds Association, dated Feb. 12, 2007; letter from Lisa M. Utasi, Chairman of the Board, John C. Giesea, President and CEO, Security Traders Association, dated Feb. 12, 2007 (“STA (Feb. 2007)”); letter from Gerard S. Citera, Executive Director, U.S. Equities, UBS, dated Feb. 14, 2007 (“UBS (Feb. 2007)”); letter from Mary Yeager, Assistant Secretary, NYSE Euronext, dated Feb. 14, 2007 (“NYSE Euronext (Feb. 2007)”); letter from James J. Angel, PhD, CFA, Associate Professor of Finance, McDonough School of Business, Georgetown University, dated Feb. 14, 2007; letter from Ira D. Hammerman, Senior Managing Director and General Counsel, Securities Industry and Financial Markets Association, dated Feb. 16, 2007; see also Exchange Act Release No. 55970 (June 28, 2007), 72 FR 36348, 36350-36351 (July 3, 2007) (“2007 Price Test Adopting Release”) (discussing the comment letters). 66 See, e.g., letter from Giannone (Feb. 2007); letter from E*TRADE (Feb. 2007); letter from STA (Feb. 2007); letter from UBS (Feb. 2007); see also 2007 Price Test Adopting Release, 72 FR at 36350-36351 (discussing the comment letters). Two commenters (both individual investors) opposed the proposed amendments, noting the need for short sale price tests to prevent “bear raids.” 67 One commenter, although generally in support of removing all short sale price test restrictions, stated the belief that at some level unrestricted short selling should be collared. 68 This commenter supported having a 10% circuit breaker to prevent panic in the event there is a major market collapse. 69 The New York Stock Exchange (“NYSE”) also noted its concern about unrestricted short selling during periods of unusually rapid and large market declines. The NYSE stated that the effects of an unusually rapid and large market decline could not be measured or analyzed during the Pilot because such decline did not occur during the period studied. 70 67 See, e.g., letter from Jim Ferguson, dated Dec. 19, 2006; letter from David Patch, dated Jan. 1, 2007; letter from David Patch, dated Jan. 12, 2007. 68 See letter from Giannone (Feb. 2007). 69 See id. 70 See letter from NYSE Euronext (Feb. 2007). Effective July 3, 2007, the Commission eliminated former Rule 10a-1 and added Rule 201 of Regulation SHO, prohibiting any SRO from having a short sale price test. 71 The Commission stated that it determined to eliminate all short sale price test restrictions after reviewing the comments received in response to its proposal to eliminate all short sale price test restrictions, reviewing the Pilot Results, and taking into account the market developments that had occurred in the securities industry since the Commission adopted former Rule 10a-1 in 1938. 72 In addition, the Commission stated its belief that the amendments would bring increased uniformity to short sale regulation, level the playing field for market participants, and remove an opportunity for regulatory arbitrage. 73 71 See 2007 Price Test Adopting Release, 72 FR 36348. 72 See id. at 36352. 73 See id. C. Proposal To Adopt a Short Sale Price Test Restriction or Circuit Breaker On April 8, 2009, following changes in market conditions since the elimination of former Rule 10a-1, we proposed to re-examine and seek comment on whether to impose price test restrictions or circuit breaker restrictions on short selling. 74 In the Proposal, we noted that market volatility had recently increased markedly in the U.S., as well as in every major stock market around the world. 75 We also noted that although we were not aware of specific empirical evidence that the elimination of short sale price tests contributed to the increased volatility in U.S. markets, many members of the public associate the removal of former Rule 10a-1 with such volatility, including steep declines in some securities' prices, and loss of investor confidence in our markets. 76 Due to the market conditions with which we were faced and the resulting deterioration in investor confidence, we stated in the Proposal that we believed it was appropriate to propose amending Regulation SHO to add a short sale price test or a circuit breaker rule. 77 74 See Proposal, 74 FR 18042. 75 See id. at 18049. 76 See id. 77 See Proposal, 74 FR at 18047. In response to the Proposal and the Re-Opening Release, we received over 4,300 unique comment letters. 78 A number of commenters stated that they do not believe that we should reinstate any form of short sale price test restriction, whether in the form of a short sale price test restriction or a circuit breaker rule. For example, a number of commenters noted a lack of empirical evidence suggesting that such restrictions would advance the Commission's goals of restoring investor confidence and preventing short selling, including potentially abusive or manipulative short selling, from driving down the market or being used as a tool to exacerbate a declining market in a security. 79 In response to our specific request for empirical data in the Proposal, a number of commenters submitted data or referenced studies in support of their position that a short sale price test restriction would not have a positive impact on the market. 80 In addition, several commenters stated they do not believe that short selling exacerbated market declines during the Fall 2008 financial crisis, and suggested that long sale activity was a more substantial factor in those declines. 81 Other commenters stated that short selling is a small segment of the overall equity marketplace and active short sellers are an even smaller group of participants and, therefore, represented a de minimus amount of the selling pressure that the markets experienced recently. 82 As support for their arguments, commenters referenced, among other things, two recent studies by the Staff that were also discussed in the Proposal. 83 In these studies, the Staff analyzed the impact that a short sale price test might have had during a thirteen day period in September 2008, 84 as well as whether and the extent to which short selling and long selling exerted downward price pressure during a volatile period in early September 2008. 85 The first of these studies noted that, although its data was limited to historical trade and quote data from a period when no short sale price test was in place and the shape of order book and trading sequences might have differed had a short sale price test been in place, a short sale price test would likely have been most restrictive during periods of low volatility, with greatest impact on short selling in lower priced and more active stocks. 86 The second study found that during periods of price declines, the selling pressure was more intense from long sellers than from short sellers. It also found that, on average, short sale volume as a fraction of total volume was highest during periods of positive returns, noting, however, that it was also possible that there were instances in which short selling activity peaked during periods of extreme negative returns. 87 78 See http://www.sec.gov/comments/s7-08-09/s70809.shtml . 79 See, e.g., letter from Daniel Mathisson, Managing Director, Credit Suisse Securities (USA), LLC, dated June 16, 2009 (“Credit Suisse (June 2009)”); letter from Citadel et al. (June 2009); letter from Peter Kovac, Chief Operating Officer and Financial and Operations Principal, EWT, LLC, dated June 19, 2009 (“EWT (June 2009)”); letter from Stephen Schuler, Managing Member, Daniel Tierney, Managing Member, Global Electronic Trading Company, dated June 19, 2009 (“GETCO (June 2009)”); letter from SIFMA (June 2009); letter from Kimberly Unger, Executive Director, Security Traders Association of New York, Inc., dated June 18, 2009 (“STANY (June 2009)”); letter from Karrie McMillan, General Counsel, Investment Company Institute, dated June 19, 2009 (“ICI (June 2009)”); letter from Megan A. Flaherty, Chief Legal Counsel, Wolverine Trading, LLC, dated June 19, 2009 (“Wolverine”); letter from Eric Swanson, SVP and General Counsel, BATS Exchange, Inc., dated Sept. 21, 2009 (“BATS (Sept. 2009)”); letter from Michael R. Trocchio, Esq. on behalf of Bingham McCutchen, LLP, dated Sept. 30, 2009 (“Bingham McCutchen”); letter from James S. Chanos, Chairman, Coalition of Private Investment Companies, dated Sept. 21, 2009 (“CPIC (Sept. 2009)”) (citing letter from Credit Suisse letter (June 2009)); letter from Luke Fichthorn, Managing Member, John Fichthorn, Managing Member, Dialectic Capital Management, LLC, dated Sept. 21, 2009 (“Dialectic Capital (Sept. 2009)”); letter from Eric W. Hess, General Counsel, Direct Edge Holdings LLC, dated Sept. 21, 2009 (“Direct Edge (Sept. 2009)”); letter from Paul M. Russo, Managing Director and Head of U.S. Equity Trading, Goldman, Sachs & Co., dated Sept. 21, 2009 (“Goldman Sachs (Sept. 2009)”); letter from Suhas Daftuar, Managing Director, Hudson River Trading LLC, dated Sept. 21, 2009 (“Hudson River Trading”); letter from Leonard J. Amoruso, General Counsel, Knight Capital Group, Inc., dated Sept. 22, 2009 (“Knight Capital (Sept. 2009)”); letter from Richard Chase, Managing Director and General Counsel, RBC Capital Markets Corporation, dated Sept. 21, 2009 (“RBC (Sept. 2009)”); letter from Peter J. Driscoll, Chairman, John C. Giesea, President and CEO, Security Traders Association, dated Sept. 21, 2009 (“STA (Sept. 2009)”); letter from Barbara Palk, President, TD Asset Management, Inc., dated Sept. 14, 2009 (“TD Asset Management”); letter from George U. Sauter, Managing Director and Chief Investment Officer, The Vanguard Group, Inc., dated Sept. 21, 2009 (“Vanguard (Sept. 2009)”); letter from Chris Concannon, Virtu Financial, LLC, dated Sept. 21, 2009 (“Virtu Financial”); letter from Stuart J. Kaswell, Executive Vice President, Managing Director and General Counsel, Managed Funds Association, dated Oct. 1, 2009 (“MFA (Oct. 2009)”); letter from Jeffrey S. Davis, Vice President and Deputy General Counsel, The Nasdaq OMX Group, Inc., dated Oct. 7, 2009 (“Nasdaq OMX Group (Oct. 2009)”). 80 See, e.g., letter from Michael D. Lipkin, Adjunct Assistant Professor, Columbia University, dated Apr. 9, 2009 (“Prof. Lipkin”); letter from Eric Swanson, SVP and General Counsel, BATS Exchange, Inc., dated May 14, 2009 (“BATS (May 2009)”); Autore, Billingsley, and Kovacs, Short Sale Constraints, Dispersion of Opinion, and Market Quality: Evidence from the Short Sale Ban on U.S. Financial Stocks (June 19, 2009); letter from William J. Brodsky, Chairman and CEO, Edward J. Joyce, President and COO, The Chicago Board Options Exchange, Inc., dated June 19, 2009 (“CBOE (June 2009)”); letter from James S. Chanos, Chairman, Coalition of Private Investment Companies, dated June 19, 2009 (“CPIC (June 2009)”); letter from STANY (June 2009); letter from SIFMA (June 2009); letter from MFA (June 2009); letter from ICI (June 2009); letter from Joan Hinchman, Executive Director, President and CEO, National Society of Compliance Professionals Inc., dated June 19, 2009 (“NSCP”); letter from Mary Richardson, Director of Regulatory and Tax Department, Alternative Investment Management Association, dated June 19, 2009 (“AIMA”); letter from Credit Suisse (June 2009); letter from Rory O'Kane, President, TD Professional Execution, Inc, dated June 19, 2009 (“T.D. Pro Ex”); letter from Citadel et al. (June 2009); letter from William Connell, President and CEO, Allston Trading, LLC, dated June 18, 2009 (“Allston Trading (June 2009)”); letter from Wolverine; letter from Roy J. Katzovicz, Chief Legal Officer, Pershing Square Capital Management L.P., dated June 19, 2009 (“Pershing Square”); letter from GETCO (June 2009); letter from Luke Fichthorn, Managing Member, John Fichthorn, Managing Member, Dialectic Capital Management, LLC, dated June 18, 2009 (“Dialectic Capital (June 2009)”); memorandum of a meeting between representatives of Credit Suisse and the Office of Commissioner Aguilar, dated July 2, 2009, and written materials submitted at the meeting (“Credit Suisse (July 2009)”); letter from CPIC (Sept. 2009); letter from STA (Sept. 2009); letter from Ira D. Hammerman, Senior Managing Director and General Counsel, Securities Industry and Financial Markets Association, dated Sept. 21, 2009 (“SIFMA (Sept. 2009)”); letter from TD Asset Management; letter from Goldman Sachs (Sept. 2009); letter from Peter Kovac, Chief Operating Officer and Financial and Operations Principal, EWT, LLC, dated Sept. 21, 2009 (“EWT (Sept. 2009)”); letter from Charles M. Jones, PhD, Robert W. Lear Professor of Finance and Economics, Columbia Business School, dated Sept. 21, 2009 (“Prof. Jones”). See also infra Section II.D. (discussing the data and studies submitted and/or referenced by commenters). 81 See, e.g., letter from MFA (June 2009); letter from STANY (June 2009); letter from Credit Suisse (June 2009); letter from STA (Sept. 2009) (noting that “[t]he STA believes that long sellers deleveraging and anticipating withdrawals and redemptions were largely responsible for the declines”). 82 See, e.g., letter from STA (Sept. 2009). 83 See Proposal, 74 FR at 18049. 84 See Staff, Analysis of a short sale price test using intraday quote and trade data, Dec. 17, 2008 (“Staff Analysis (Dec. 17, 2008)”) at http://www.sec.gov/comments/s7-08-09/s70809-368.pdf . 85 See Staff, Analysis of Short Selling Activity during the First Weeks of September, 2008, Dec. 16, 2008 (“Staff Analysis (Dec. 16, 2008)”) at http://www.sec.gov/comments/s7-08-09/s70809-369.pdf . 86 See Staff Analysis (Dec. 17, 2008). 87 See Staff Analysis (Dec. 16, 2008). Some commenters stated that the recent market stability suggests that investor confidence has been restored and, therefore, short sale price test restrictions are not necessary. 88 Several commenters submitted data or referenced studies showing that investor confidence has recently improved. 89 A number of commenters expressed concern that any short sale price test restriction would carry with it the unintended consequences of reduced liquidity and widened bid-ask spreads, resulting in less efficient pricing in the securities markets. 90 One commenter stated its belief that because short sale price test restrictions would weaken and erode benefits of short selling such as liquidity, price discovery and the ability to manage risk, they would also weaken and erode investor confidence. 91 Many commenters stated that the reinstatement of any short sale price test restriction would impose significant costs on market participants and lead to increased transaction costs for investors. 92 In addition, several commenters noted that while the Commission is rightly trying to increase investor confidence, current short sale regulations, including Rule 204 of Regulation SHO and Exchange Act Rule 10b-21, are sufficient to address the public's concerns about potentially abusive short selling. 93 88 See, e.g., letter from Renee M. Toth, President, National Association of Active Investment Managers, dated June 12, 2009 (“NAAIM”); letter from NSCP; letter from RBC (Sept. 2009). 89 See, e.g., memorandum of meeting between representative of TD Ameritrade and the Office of Commissioner Aguilar, dated June 1, 2009, and written materials submitted at the meeting (“TD Ameritrade”); letter from RBC (Sept. 2009); letter from EWT (Sept. 2009). In addition, one commenter submitted preliminary data on the relationship between short selling and investor confidence and stated that “[w]hile it is too early to draw conclusions from this data, the evidence presented below does not suggest that there is a negative relationship between short selling activity and investor confidence.” See letter from Ingrid M. Werner, PhD, Martin and Andrew Murrer Professor of Finance, Fisher College of Business, The Ohio State University, dated June 19, 2009 (“Prof. Werner”). See also infra Section II.D. (discussing data submitted and/or referenced by commenters regarding investor confidence). 90 See e.g., letter from Jeffrey S. Wecker, CEO, Lime Brokerage LLC, dated June 19, 2009 (“Lime Brokerage (June 2009)”) (noting that “[w]e believe there would be significant unintended consequences of the proposed restrictions, including reduction in overall market liquidity and widening of spreads * * *”); letter from Leonard J. Amoruso, General Counsel, Knight Capital Group, Inc., dated June 18, 2009 (“Knight Capital (June 2009)”); letter from MFA (June 2009); see also infra Section II.D. (discussing empirical data regarding the potential impact of short sale price test restrictions). 91 See letter from AIMA; see also letter from CPIC (June 2009) (stating “investor confidence will not be served in the long term by the adoption of rules that the Commission itself has acknowledged have no sound empirical basis and may decrease market efficiency, limit price discovery, provide less protection against upward stock price manipulations, increase trading costs, reduce liquidity and impose other potential costs on investors”). 92 See e.g., letter from Scott C. Goebel, Senior Vice President and General Counsel, Fidelity Investments, dated June 22, 2009 (“Fidelity”); letter from MFA (June 2009); letter from Credit Suisse (June 2009); letter from EWT (June 2009); letter from SIFMA (June 2009); letter from Wolverine; letter from T.D. Pro Ex; letter from ICI (June 2009); letter from Simon M. Lorne, Chief Legal Officer, Martin Z. Schwartz, Chief Compliance Officer, Millennium Management LLC, dated June 19, 2009 (“Millennium”); letter from Citadel et al. (June 2009). 93 See e.g., letter from Tim Belloto, dated May 5, 2009; letter from MFA (June 2009); letter from SIFMA (June 2009); letter from Pershing Square; letter from Paul M. Russo, Managing Director and Head of U.S. Equity Trading, Goldman, Sachs & Co., dated June 19, 2009 (“Goldman Sachs (June 2009)”); letter from CBOE (June 2009); letter from Allston Trading (June 2009); letter from STANY (June 2009); letter from Citadel et al. (June 2009); letter from STA (Sept. 2009); letter from BATS (Sept. 2009). A significant number of commenters, however, continue to urge the Commission to reinstate some form of short sale price test restriction because these commenters believe that such a measure will help to restore investor confidence. 94 One commenter stated that “we believe that a price test could have a real impact on investors' and issuers' confidence in the equities market.” 95 Some commenters have stated that a lack of price test restrictions makes them question whether they should invest in the stock market. 96 Other commenters have stated that they believe a short sale price test will aid small investors. 97 In addition, some commenters have suggested that restricting the prices at which securities may be sold short will help address steep declines in securities' prices. 98 Some Members of Congress and representatives of one SRO have also continued to express support for reinstatement of price test restrictions. 99 One such SRO representative noted that over 95% of its issuers who participated in a survey believed that the market would function better with one of the proposed short sale price test restrictions. 100 94 See, e.g., letter from Herbert C. Roubidoux, dated May 4, 2009; letter from William K. Barnard, CEO, Equity Insight, Inc., dated May 4, 2009 (“Equity Insight”); letter from Henry J. Judd, CEO, Alethium Corp., dated May 6, 2009; letter from John Sook, dated May 6, 2009; letter from Boris Finkelstein, dated May 7, 2009; letter from John E. Detraz, dated May 8, 2009; letter from Joseph Giancola, dated May 8, 2009; letter from John W. Kozak, Chief Financial Officer, Park National Corporation, dated May 19, 2009 (“Park National”); letter from Robert S. Miloszewski, dated June 1, 2009; letter from Dr. George R. Arends, dated June 1, 2009; letter from Kent Hendrickson, dated June 4, 2009; letter from Dennis Nixon, Chairman and Chief Executive Officer, International Bancshares Corporation, dated June 9, 2009 (“IBC”); letter from Brian P. Hendey, dated June 9, 2009; letter from Catherine Mapen, dated June 15, 2009; letter from Jeffrey T. Brown, Senior Vice President, Office of Legislative and Regulatory Affairs, Charles Schwab & Co., Inc., dated June 18, 2009 (“Schwab”); letter from Michael Gitlin, Head of Global Trading, David Oestreicher, Chief Legal Counsel, Christopher P. Hayes, Sr. Legal Counsel, T. Rowe Price Associates, Inc., dated June 18, 2009 (“T. Rowe Price (June 2009)”); letter from Michael R. McAlevey, Vice President and Chief Corporate, Securities and Finance Counsel, General Electric Company, dated June 18, 2009 (“GE”); letter from Janet M. Kissane, Senior Vice President, Legal and Corporate Secretary, NYSE Euronext, dated June 19, 2009 (“NYSE Euronext (June 2009)”); letter from Ronald C. Long, Director, Regulatory Affairs, Wells Fargo Advisors, dated June 15, 2009 (“Wells Fargo (June 2009)”). In addition, prior to the Proposal, a number of commenters stated that they believe that reinstatement of some form of price test restriction would help restore investor confidence. See, e.g., letter from Richard F. Vulpi, dated Sept. 24, 2008; letter from Maureen Christensen, dated Oct. 9, 2008; letter from Peter B. Eckle, CEO Associate Arrangements, dated Oct. 11, 2008; letter from Joe Garrett, dated Oct. 15, 2008; letter from Jenna L. Spurrier, dated Oct. 24, 2008; letter from Scotland Settle, dated Oct. 27, 2008; letter from Patrick McQuaid, dated Oct. 29, 2008; letter from Lynn Miller, dated Nov. 13, 2008; letter from David Sheridan, dated Nov. 18, 2008; letter from W. Romain Spell, dated Nov. 19, 2008; letter from Phil Mason, dated Nov. 19, 2008; letter from Jeff Brower, dated Nov. 20, 2008; letter from Mike Abraham, dated Nov. 20, 2008; letter from Marvin Dingott, dated Nov. 20, 2008; letter from Josh Dodson, dated Nov. 21, 2008; letter from J. Geddes Parsons, dated Nov. 21, 2008; letter from Charles Rudisill, dated Nov. 21, 2008; letter from Mike Ryan, dated Nov. 21, 2008; letter from David B. Campbell and Natalie H. Win, dated Nov. 25, 2008; letter from Edward L. Yingling, American Bankers Association, dated Dec. 16, 2008; letter from Robert A. Lee, dated Feb. 10, 2009; letter from Robert Levine, dated Feb. 17, 2009; letter from Karl Findorff, dated Feb. 19, 2009; letter from Robert Lounsbury, dated Feb. 25, 2009; letter from Dr. Bill Daniel, dated Feb. 26, 2009; letter from Glenn A. Webster, dated Feb. 26, 2009; letter from Arleen Golden, dated Mar. 2, 2009; letter from Doug Cameron, dated Mar. 2, 2009; letter from Mike Rogers, dated Mar. 3, 2009; letter from George A. Flagg, dated Mar. 3, 2009; letter from Kevin Girard, dated Mar. 4, 2009; letter from Briggs Diuguid, dated Mar. 5, 2009 (“Briggs Diuguid”); letter from Bob Young, dated Mar. 5, 2009; letter from Troy Williams, dated Mar. 6, 2009; letter from Paul Kent, dated Mar. 7, 2009; letter from Chris Baratta, dated Mar. 9, 2009 (“Chris Baratta”); see also letter from Professor Constantine Katsoris, Fordham University School of Law, dated Mar. 4, 2009 (stating that elimination of former Rule 10a-1 “hardly generates confidence on the part of a true investor who is entrusting his or her life's savings * * * to the current market”). 95 Letter from NYSE Euronext (June 2009). 96 See, e.g., letter from Phil Koepke, dated May 5, 2009; letter from Joe Wells, dated May 29, 2009; letter from Michael Anderson, dated June 1, 2009 (noting “[i]f the SEC fails to act in the best interest of all investors, then peopel (sic) like myself, will look at other investment alternatives than the Stock Market.”); letter from Anton Kleinschmidt, dated June 2, 2009 (noting that he “will not return to the equity markets” until he is “confident that the wide range of market predators such as unregulated short sellers are being effectively controlled”). In addition, prior to (and as cited in) the Proposal, commenters expressed similar concerns regarding a lack of price test restrictions. See, e.g., letter from Jeff Boyd, dated Feb. 10, 2009; letter from Tim Zanni, dated Feb. 19, 2009. 97 See, e.g., letter from Michael Anderson, dated June 1, 2009; letter from Carl H. Van Hoozier, Jr., dated June 3, 2009; letter from Kevin Adcock, dated June 3, 2009 (noting that “[w]ithout this reinstatement the market will never be judged as fair, balanced or worth the unfair risks created by the SEC removing a tried and tested 70+ year old rule”); letter from Fran Mazenko, dated June 4, 2009; letter from Daniel H. Owings, dated June 4, 2009 (noting “the elimination of the uptick rule * * * prevented the small investor from equal treatment in the market”); letter from Kathleen Jardine, dated June 4, 2009. In addition, prior to (and as cited in) the Proposal, commenters expressed similar statements regarding short sale price tests aiding small investors. See, e.g., letter from Chris Baratta (noting that while price test restrictions could not reasonably be expected to prevent market downturns, they would, in his opinion, “give the little investor a chance” in the current conditions); see also letter from Paul D. Mendelsohn, President, Windham Financial Services, Inc., dated Mar. 6, 2009 (stating that he believes former Rule 10a-1 “protected” the markets and that “suspension of the uptick rule has opened a security hole into our financial system”); letter from Bob Young, dated Mar. 5, 2009 (suggesting that reinstatement of the uptick rule “will not be a quick or total fix, but it will help”). 98 See, e.g., letter from Grant D. Wieler, dated May 8, 2009; letter from John J. Piccitto, Managing Director, John Piccitto Consulting Ltd., dated May 7, 2009 (noting that “[b]ecause the decline of the value of a stock can be very steep and very fast indeed, the ensuing `feeding frenzy' * * * should be addressed by regulators. Slowing the cascade of short selling would create both the fact and the appearance of regulatory control * * *”); letter from Mucho Balka, Esq., dated May 30, 2009; letter from George A. Mitchell, dated June 1, 2009; letter from Jason Sturm, dated June 1, 2009; letter from Erin Chieffi, dated June 2, 2009; letter from Paul Rivett, Vice President and Chief Legal Officer, Fairfax Financial Holdings Ltd., dated June 17, 2009 (“Fairfax Financial”); letter from GE; letter from Michael Lamanna, dated June 17, 2009; letter from Stanyarne Burrows, dated June 17, 2009; letter from William R. Harker, Senior Vice President, General Counsel and Corporate Secretary, Sears Holdings Corporation, dated June 19, 2009 (“Sears”); letter from Glen Shipway, dated Sept. 21, 2009 (“Glen Shipway (Sept. 2009)”). In addition, the American Bankers Association noted that its members, “both large and small, have told us that short sellers were taking advantage of the uptick rule's absence; that their stock prices were experiencing excessive downward pressure unrelated to actual conditions of the firm. * * *” and that its members expressed “that measures needed to be taken, including reinstating the uptick rule in some format, to reduce the avenues for abusive trading practices and to restore investor confidence.” Letter from Sarah A. Miller, Senior Vice President, Center for Securities, Trust and Investments, American Bankers Association, dated July 1, 2009 (“Amer. Bankers Assoc.”); see also letter from Paul Tudor Jones II, Tudor Investment Corporation, dated Oct. 10, 2008 (stating that he believes that one way to “immediately stem the decline” in the stock market would be to reinstate the uptick rule); letter from James F. Kane, Jr., dated Feb. 6, 2009 (stating that he believes that reinstating “the Up-tick Rule will go a long way in preventing speculators from ganging up on a particular stock and forcing it down”); letter from Briggs Diuguid (stating that while short sellers “make efficient markets,” he is nonetheless concerned that short selling may be a tool of manipulators when short sales are “piled on” a particular company). 99 See e.g., letter to Mary Schapiro, Chairman, from Kirsten Gillibrand, United States Senator, dated June 5, 2009; joint statement of Ted Kaufman, United States Senator, and Johnny Isakson, United States Senator, dated Sept. 29, 2009. In addition, prior to (and as cited in) the Proposal, several current and former Members of Congress have called for reinstatement of short sale price test restrictions. See, e.g., letter to Christopher Cox, Chairman, from Hillary Rodham Clinton, former United States Senator, dated Sept. 17, 2008; letter to Christopher Cox, Chairman, from Bill Sali, Member of Congress, dated Oct. 1, 2008; letter to Christopher Cox, Chairman, from Peter T. King, Member of Congress, dated Oct. 7, 2008; letter to Mary Schapiro, Chairman, from Gary L. Ackerman, Member of Congress, dated Jan. 27, 2009; letter to Mary Schapiro, Chairman, from Rep. Barney Frank and other Members of the House Financial Services Committee, dated Mar. 11, 2009; Proposal, 74 FR at 18046-18047 (noting statements by a Member of Congress and a former U.S. Senator asking the Commission to reinstate former Rule 10a-1 or some other form of short sale price test restriction). See also letter to Mary Schapiro, Chairman, from Carolyn Maloney, Member of Congress and Chairman of the Joint Economic Committee, dated Mar. 23, 2009. We note, however, that other Members of Congress have expressed concerns regarding our adopting a short sale price test restriction. See, e.g., letter to Mary Schapiro, Chairman, from Michael Crapo, United States Senator, Jim Bunning, United States Senator, David Vitter, United States Senator, Michael Enzi, United States Senator, and Mel Martinez, former United States Senator, dated June 17, 2009. With respect to comments by SRO representatives, see, e.g., letter from Janet M. Kissane, Senior Vice President, Legal and Corporate Secretary, NYSE Euronext, dated Sept. 21, 2009 (“NYSE Euronext (Sept. 2009)”); letter from NYSE Euronext (June 2009); statement of Larry Leibowitz, Group Executive Vice President and Head of Global Technology and US Executions, NYSE Euronext, dated May 5, 2009 (“NYSE Euronext (May 2009)”). In addition, prior to (and as cited in) the Proposal, one senior SRO representative endorsed the reinstatement of a short sale price test restriction. See Edgar Ortega, Short-Sale Rule Undermined as Bernanke Backs Review, Bloomberg News Service, Mar. 4, 2009 (noting comments by Duncan Niederauer, CEO, The NYSE Euronext Group, Inc., that imposing a measure such as former Rule 10a-1, “would go a long way to adding confidence” in our markets). 100 See letter from NYSE Euronext (June 2009). As we noted in the Proposal, some researchers have also indicated that they believe that they have collected data that establishes a possible association between the recent market downturn and the elimination of former Rule 10a-1. 101 Commenters also submitted data or referenced studies they believe support the contention that a price test restriction would have a positive impact on the market. 102 In addition, there have been reports of significant short selling in connection with the use of credit default swaps (“CDS”), particularly in the securities of significant financial institutions, 103 and it has been suggested that the interaction between and amplifying effects of CDS and short selling may be a reason to reinstate a short sale price test. 104 101 See Proposal, 74 FR at 18047, n.64; see also letter from Yavni Bar-Yam, New England Complex Systems Institute, dated June 23, 2009 (“Yavni Bar-Yam”); Dion Harmon and Yaneer Bar-Yam, April 2009, Technical Report on SEC Uptick Rule Proposals, New England Complex Systems Institute. 102 See, e.g., letter from NYSE Euronext (June 2009); letter from Schwab; letter from Richard J. Adler, Managing Director, European Investors, Inc., dated June 19, 2009 (“European Investors (June 2009)”); letter from Richard J. Adler, Managing Director, European Investors, dated Sept. 21, 2009 (“European Investors (Sept. 2009)”); letter from William Furber, High Street Advisors, L.P., dated June 18, 2009 (“High Street Advisors”); letter from Park National; letter from IBC; letter from Daniel P. Amos, Chairman and CEO, Aflac Incorporated, dated June 23, 2009 (“Aflac”); letter from J. Austin Murphy, PhD, Professor of Finance at Oakland University, School of Business Administration, dated Apr. 9, 2009 (“Prof. Murphy”); letter from Martin B. Napor, dated June 17, 2009 (“Martin Napor”); see also infra Section II.D. (discussing empirical data submitted in response to the Proposal and the Re-Opening Release). 103 See Proposal, 74 FR at 18047, n.65 (referring to an article by George Soros, The Game Changer, available at http://www.ft.com/cms/s/0/49b1654a-ed60-11dd-bd60-0000779fd2ac.html). Similarly, in response to the Proposal, commenters raised concerns about CDS and short selling. See, e.g., letter from Edward D. Herlihy, Theodore A. Levine, Wachtell, Lipton, Rosen & Katz, dated June 17, 2009 (“Wachtell”); letter from GE. 104 See Proposal, 74 FR at 18047, n.66 and accompanying text. Further, as we stated in the Proposal, questions and comments have been raised about the role that short selling, and in particular potentially abusive short selling, may have had in connection with the recent price fluctuations and disruption in our markets. 105 As such, prior to issuing the Proposal, in the latter part of 2008, we took a number of other short sale-related actions aimed at addressing these concerns. For example, due to our concerns that false rumors spread by short sellers regarding financial institutions of significance in the U.S. may have fueled market volatility in the securities of some of these institutions, on July 15, 2008, we issued an emergency order (“July Emergency Order”) 106 pursuant to section 12(k)(2) of the Exchange Act 107 which imposed borrowing and delivery requirements on short sales of the equity securities of certain financial institutions. We noted in the July Emergency Order that false rumors can lead to a loss of investor confidence. Such loss of investor confidence can lead to panic selling, which may be further exacerbated by “naked” short selling. As a result, the prices of securities may artificially and unnecessarily decline well below the price level that would have resulted from the normal price discovery process. 108 If significant financial institutions are involved, this chain of events can threaten disruption of our markets. 109 105 See Proposal, 74 FR at 18047-18048. 106 See Exchange Act Release No. 58166 (July 15, 2008), 73 FR 42379 (July 21, 2008). 107 15 U.S.C. 78 l (k)(2). 108 See July Emergency Order, 73 FR 42379. 109 See id. Due to our concerns regarding the impact of short selling on the prices of financial institution securities, on September 18, 2008, we issued another emergency order prohibiting short selling in the publicly traded securities of certain financial institutions. 110 Our concerns, however, were not limited to financial institutions, given the importance of confidence in our markets and the rapid and steep declines in the prices of securities that generally we were seeing at that time. 111 Such rapid and steep price declines can give rise to questions about the underlying financial condition of an institution, which in turn can erode confidence, even without an underlying fundamental basis. 112 This erosion of confidence can impair the liquidity and ultimate viability of an institution, with potentially broad market consequences. 113 110 See Exchange Act Release No. 58592 (Sept. 18, 2008), 73 FR 55169 (Sept. 24, 2008) (“Short Sale Ban Emergency Order”). 111 See, e.g., July Emergency Order, 73 FR 42379; Short Sale Ban Emergency Order 73 FR 55169; Exchange Act Release No. 58572 (Sept. 17, 2008), 73 FR 54875 (Sept. 23, 2008) (“September Emergency Order”). 112 See Short Sale Ban Emergency Order, 73 FR 55169; September Emergency Order, 73 FR 54875. 113 See id. These concerns resulted in our issuance on September 17, 2008 of an emergency order under Section 12(k)(2) of the Exchange Act, in part targeting short selling in all equity securities. 114 Pursuant to the September Emergency Order we imposed enhanced delivery requirements on sales of all equity securities under Rule 204T of Regulation SHO. 115 114 See September Emergency Order, 73 FR 54875. 115 See id. In addition, we issued an emergency order, and subsequent Interim Final Temporary Rule, Rule 10a-3T, to require disclosure of short sales and short positions in certain securities. The temporary rule expired on August 1, 2009. See Exchange Act Release No 58591 (Sept. 18, 2008) 73 FR 55175 (Sept. 24, 2008); Exchange Act Release No. 58785 (Oct. 15, 2008), 73 FR 61678 (Oct. 17, 2008). Rule 204T, among other things, required participants of a registered clearing agency to close-out fails to deliver resulting from short sales of any equity security by purchasing or borrowing the security by no later than the beginning of trading on the day after the fail to deliver occurred. We adopted the provisions of the September Emergency Order as an Interim Final Temporary Rule in October 2008 because of our continued concern about the potentially negative market impact of large and persistent fails to deliver. 116 116 See Exchange Act Release No. 58773 (Oct. 14, 2008), 73 FR 61706 (Oct. 17, 2008) (“Interim Final Temporary Rule 204T”). Our adoption of Interim Final Temporary Rule 204T followed a series of other steps aimed at reducing such fails to deliver and addressing potentially abusive short selling. These steps included eliminating the “grandfather” and options market maker exceptions to Regulation SHO's close-out requirement, 117 and proposing and subsequently adopting a “naked” short selling anti-fraud rule, Rule 10b-21. 118 Although we recognize that fails to deliver can occur for legitimate reasons, we remained concerned about the impact of large and persistent fails to deliver on market confidence. Results from Staff analysis indicate that our actions to further reduce fails to deliver are having their intended effect. For example, these results indicate that fails to deliver in all equity securities have declined significantly since the adoption of Interim Final Temporary Rule 204T. 119 To help further our goal of reducing fails to deliver by maintaining the reductions in fails to deliver achieved by the adoption of Interim Final Temporary Rule 204T, as well as other actions taken by the Commission, we adopted the substance of Interim Final Temporary Rule 204T as a permanent rule, Rule 204, in July 2009. 120 117 See Exchange Act Release No. 56212 (Aug. 7, 2007), 72 FR 45544 (Aug. 14, 2007) (eliminating the “grandfather” exception to Regulation SHO's close-out requirement); September Emergency Order, 73 FR 54875 (eliminating the options market maker exception to Regulation SHO's close-out requirement). Following the issuance of the September Emergency Order, we adopted amendments making permanent the elimination of the options market maker exception. See Exchange Act Release No. 58775 (Oct. 14, 2008), 73 FR 61690 (Oct. 17, 2008) (“Options Market Maker Elimination Release”). 118 See Exchange Act Release No. 58774 (Oct. 14, 2008), 73 FR 61666 (Oct. 17, 2008); September Emergency Order, 73 FR 54875; Exchange Act Release No. 57511 (Mar. 17, 2008), 73 FR 15376 (Mar. 21, 2008). 119 See Memorandum from the Staff Re: Impact of Recent SHO Rule Changes on Fails to Deliver, Nov. 4, 2009 at http://www.sec.gov/spotlight/shortsales/oeamemo110409.pdf (stating, among other things, that the average daily number of aggregate fails to deliver for all securities decreased from 2.21 billion to 0.25 billion for a total decline of 88.5% when comparing a pre-Rule to post-Rule period); Memorandum from the Staff Re: Impact of Recent SHO Rule Changes on Fails to Deliver, Nov. 26, 2008 at http://www.sec.gov/comments/s7-30-08/s73008-37.pdf; Memorandum from the Staff Re: Impact of Recent SHO Rule Changes on Fails to Deliver, Mar. 20, 2009 at http://www.sec.gov/comments/s7-30-08/s73008-107.pdf. 120 See Exchange Act Release No. 60388 (July 27, 2009), 74 FR 38266 (July 31, 2009) (“Rule 204 Adopting Release”). Rule 204 contained some modifications to address commenters' concerns. See id. Despite the significant decline in fails to deliver and the more recent stability in the securities markets, concerns persist about rapid and steep price declines in securities and erosion of investor confidence in our markets. Thus, we continued to examine whether there are other actions that the Commission should take, including re-evaluating whether a short sale price test should be reintroduced or a circuit breaker rule should be imposed. As we stated in the Proposal, when we eliminated all short sale price test restrictions in July 2007, we acknowledged that circumstances may develop that could warrant relief from the prohibition in Rule 201 of Regulation SHO for a short sale price test, including a short sale price test of an SRO, to apply to short sales in any security. 121 Thus, in determining whether or not to propose, and now adopt, a short sale price test rule or circuit breaker rule, we have considered the recent turmoil in the financial sector and steep declines and extreme volatility in securities prices. 122 121 See Proposal, 74 FR at 18048; see also 2007 Price Test Adopting Release, 72 FR at 36348. 122 See, e.g., Proposal, 74 FR at 18048 (noting the turbulence in the securities markets at the time we issued the Proposal and during the eighteen months prior thereto). As discussed in this adopting release, we remain mindful that short selling provides benefits to the market. For example, legitimate short selling can play an important and constructive functional role in the markets, providing liquidity and price efficiency. Short sellers also play an important role in correcting upward stock price manipulation. 123 Because short sale price test restrictions may lessen some of these benefits, it is important that any short sale price test regulation is designed to limit any potentially unnecessary impact on legitimate short selling. 123 See, e.g., Staff's Summary Pilot Report at 9. Thus, as discussed in detail below, we are adopting in Rule 201 a targeted short sale price test restriction that will be based on the current national best bid and that will apply only if the price of an individual security declines intra-day by 10% or more from that security's prior day's closing price on the listing market for that security. We are also amending Rule 200(g) of Regulation SHO to address when a broker-dealer may need to mark certain sell orders “short exempt.” D. Empirical Data Regarding Potential Market Impact of Short Sale Price Test Restrictions Submitted in Response to the Proposal and Re-Opening Release In the Proposal, we requested that commenters provide empirical data to support their views and arguments with respect to the proposed short sale price test rules and the proposed circuit breaker rules. 124 Overall, the interpretations and results of the analyses submitted were mixed and sometimes conflicted with each other. In addition, the methods used in the empirical analyses submitted ranged from simple plots of data points to carefully constructed econometrics. The Pilot Results, while dated, in our view should continue to inform our decisionmaking where relevant, and none of the empirical studies discussed below have given us reason to question the rigor or validity of the Pilot Results. 124 See, e.g., Proposal, 74 FR at 18049. A number of commenters submitted data or referenced studies in support of their position that a short sale price test restriction would not have a positive impact on the market. 125 In contrast, and as we noted in the Proposal, some commenters have indicated that they believe that they have collected data that establishes a possible association between the recent market downturn and the elimination of former Rule 10a-1. 126 Commenters also submitted data or referenced studies in support of the contention that a price test restriction would have a positive impact on the market. 127 We summarize below findings from these studies and discuss our views with respect to the studies. 125 See, e.g., letter from BATS (May 2009); Autore, Billingsley, and Kovacs, Short Sale Constraints, Dispersion of Opinion, and Market Quality: Evidence from the Short Sale Ban on U.S. Financial Stocks (June 19, 2009); letter from CBOE (June 2009); letter from CPIC (June 2009); letter from STANY (June 2009); letter from SIFMA (June 2009); letter from MFA (June 2009); letter from ICI (June 2009); letter from NSCP; letter from AIMA; letter from Credit Suisse (June 2009); letter from T.D. Pro Ex; letter from Citadel et al. (June 2009); letter from Allston Trading (June 2009); letter from Knight Capital (June 2009); letter from Wolverine; letter from Pershing Square; letter from GETCO (June 2009); letter from Dialectic Capital (June 2009); letter from Hudson River Trading; memorandum regarding meeting with Credit Suisse (July 2009); letter from CPIC (Sept. 2009); letter from STA (Sept. 2009); letter from SIFMA (Sept. 2009); letter from TD Asset Management; letter from Goldman Sachs (Sept. 2009); letter from EWT (Sept. 2009); letter from Prof. Jones; see also letter from NAAIM; letter from Prof. Werner; memorandum regarding meeting with TD Ameritrade; letter from Adam V. Reed, Julian Price Associate Professor of Finance, University of North Carolina at Chapel Hill, dated Sept. 21, 2009 (“Prof. Reed”); letter from RBC (Sept. 2009); letter from Daniel Mathisson, Managing Director, Credit Suisse Securities (USA), LLC, dated Mar. 30, 2009 (“Credit Suisse (Mar. 2009)”); Ana Avramovic, What Happened When Traders' Shorts Were Pulled Down?, Credit Suisse Market Commentary (Sept. 2008) (“Avramovic (Sept. 2008)”). 126 See Proposal, 74 FR at 18047, n.64; see also letter from Yavni Bar-Yam; Dion Harmon and Yaneer Bar-Yam, April 2009, Technical Report on SEC Uptick Rule Proposals, New England Complex Systems Institute. 127 See, e.g., letter from Jeff Wang, dated May 7, 2009 (“Jeff Wang”); letter from NYSE Euronext (June 2009); letter from Schwab; letter from European Investors (June 2009); letter from European Investors (Sept. 2009); letter from High Street Advisors; letter from Park National; letter from IBC; letter from Aflac; letter from GE; letter from Michael R. Grupe, Executive Vice President, Research & Investor Outreach, National Association of Real Estate Investment Trusts, dated June 19, 2009 (“NAREIT”); letter from Kurt N. Schacht, Managing Director, Linda L. Rittenhouse, Director, Capital Markets Policy, CFA Institute Centre for Financial Market Integrity, dated Aug. 21, 2009 (“CFA”); letter from Martin Napor. Several commenters cited empirical evidence showing that short selling contributes to market liquidity, price discovery, and market efficiency and that restrictions on short selling, particularly bans on short selling, may impede liquidity, price discovery, and market efficiency. 128 While we agree with commenters that short selling contributes to market liquidity, price discovery and market efficiency and while these studies provide relevant information with respect to the effects of a short selling ban, they do not address the effects of a short sale price test restriction, or more specifically for purposes of Rule 201, a circuit breaker that, when triggered, imposes the alternative uptick rule. 129 In fact, because Rule 201 does not impose a ban on short selling but instead continues to allow short selling (although at a price above the national best bid) when the short sale price test restriction has been triggered, the Rule's structure will help preserve the benefits of short selling. 128 See, e.g., letter from BATS (May 2009); letter from AIMA; letter from CBOE (June 2009); letter from CPIC (June 2009); letter from Credit Suisse (June 2009); letter from GETCO (June 2009); letter from ICI (June 2009); letter from NSCP; letter from TD Asset Management; letter from T.D. Pro Ex; letter from STANY (June 2009); letter from Hudson River Trading; letter from Allston Trading (June 2009); letter from Knight Capital (June 2009); letter from Pershing Square; letter from Wolverine; letter from Citadel et al. (June 2009) (referencing Lawrence E. Harris, Ethan Namvar and Blake Phillips, Price Inflation and Wealth Transfer during the 2008 SEC Short-Sale Ban, (Apr. 2009)); Matthew Clifton and Mark Snape, The Effect of Short-selling Restrictions on Liquidity: Evidence from the London Stock Exchange (Dec. 19, 2008); Recent Trends in Trading Activity, Short Sales and Failed Trades and Study on the Impact of the Prohibition on the Short Sale of Inter-Listed Financial Sector Issuers by Investment Industry Regulatory Organization of Canada (IIROC) (February 2009); See Autore, Billingsley, and Kovacs, Short Sale Constraints, Dispersion of Opinion, and Market Quality: Evidence from the Short Sale Ban on U.S. Financial Stocks (June 19, 2009); memorandum regarding meeting with Credit Suisse (July 2009); see also letter from Credit Suisse (Mar. 2009). 129 See id. In addition, several commenters cited research showing that short selling may be beneficial to price discovery and market efficiency, but that did not address the effect of a short sale price test restriction on price discovery or market efficiency. See letter from CPIC (June 2009) (citing Jonathan Karpoff and Xiaoxia Lou, Do Short Sellers Detect Overpriced Firms? Evidence from SEC Enforcement Actions, Working paper, 2008); letter from Goldman Sachs (Sept. 2009) (citing Jonathan Karpoff and Xiaoxia Lou, Short Sellers and Financial Misconduct, Working paper, 2009); letter from Pershing Square (citing Jonathan Karpoff and Xiaoxia Lou, Do Short Sellers Detect Overpriced Firms? Evidence from SEC Enforcement Actions, Working paper, 2008); letter from CPIC (Sept. 2009) (citing Jonathan Karpoff and Xiaoxia Lou, Short Sellers and Financial Misconduct, Working paper, 2009). Another commenter submitted a study showing that short sellers trade after news stories and that short sellers effectively process publicly available information. See letter from Prof. Reed. While this study uses short selling volume data to support its conclusion that short sellers do not disproportionately engage in information-based manipulation, it does not directly examine the impact of a short sale price test restriction, and, therefore, has limited utility for purposes of evaluating the potential market impact of Rule 201. Some commenters cited a study (the “Pre-Borrow Study”) which did not find a relationship between changes in short interest and changes in trading volume, and which concluded that “short sales do not have a significant effect on market liquidity: Other factors drive liquidity.” 130 We note, however, that the correlation between changes in short interest and changes in trading volume may not be an accurate measure of the impact of short sales on liquidity. Economic theory does not tend to support using changes in trading volume as a measure of liquidity. 131 Trading volume itself, as opposed to changes in trading volume, is considered a measure of liquidity, though other measures, such as effective spreads and price impact, are considered by many to be better measures of liquidity and are more commonly used for measuring the liquidity of equities. 132 In addition, changes in short interest do not necessarily measure the volume of short selling. In fact, short interest is a “snapshot” variable, so the change in short interest does not necessarily measure correctly the volume of short selling, which is what the Pre-Borrow Study is trying to examine. Thus, we do not believe that the results in the Pre-Borrow Study cited by commenters should be interpreted to suggest that short sales are unimportant for liquidity. We also note that the Pre-Borrow study does not reconcile its results to a large body of conflicting evidence, including (but not restricted to) analyses in the comments mentioned above, showing that short selling contributes to market liquidity and that restrictions on short selling, particularly bans on short selling, may impede liquidity. 133 130 See, e.g., letter from Patrick M. Byrne, Chairman and CEO, Overstock.com, Inc., dated May 29, 2009 (“Overstock.com (May 2009)”) (citing Robert J. Shapiro and Nam D. Pham, The Impact of a Pre-Borrow Requirement for Short Sales on Failures-to-Deliver and Market Liquidity, Apr. 2009; letter from Brian D. Pardo, Chairman and CEO, Life Partners Holding, Inc., dated May 28, 2009 (“Life Partners Holding”) (citing the Pre-Borrow Study). 131 The reason why we cannot interpret a change in trading volume as a measure of liquidity can be illustrated by the following example: A less liquid stock can experience an increase (positive change) in trading volume and a more liquid stock can experience a decrease in trading volume. Measuring liquidity by changes in trading volume will mischaracterize the less liquid stock as more liquid and the more liquid stock as less liquid. 132 See, e.g., Tarun Chordia, Richard Roll, and Avanidhar Subrahmanyam, 2001, Market Liquidity and Trading Activity, Journal of Finance, 34: 501-530; Joel Hasbrouck and Duane J. Seppi, 2001, Common Factors in Prices, Order Flows and Liquidity, Journal of Financial Economics, 59: 383-411; Yakov Amihud, 2002, Illiquidity and stock returns: cross-section and time-series effects, Journal of Financial Markets, 5: 31-56. 133 See supra note 128 (referencing, among others, empirical evidence cited by commenters as showing that short selling contributes to market liquidity). Several commenters provided analyses showing that short interest initially fell immediately after the repeal of former Rule 10a-1 and that either short interest or short selling volume fell for specific stocks over periods leading up to the Short Sale Ban Emergency Order. 134 Overall, these analyses show that the negative returns of financial securities in the weeks both before and during the Short Sale Ban Emergency Order are unlikely to be the result of short selling activities. 135 We note that, although these studies create some doubt about whether certain price declines during that time period were caused by short sellers, because the analyses provided are specific to the Short Sale Ban Emergency Order and to a time period during which there was significant market turmoil, the analyses are less relevant regarding the potential impact on returns of the circuit breaker approach of Rule 201. 134 See, e.g., letter from Dialectic Capital (June 2009); letter from MFA (June 2009); letter from STA (Sept. 2009); Avramovic (Sept. 2008). 135 See Avramovic (Sept. 2008); letter from Credit Suisse (June 2009). Several other commenters stated that the absence of a short sale price test restriction has been detrimental to prices and provided information on share prices, volume and/or short interest that they believe support this statement. 136 We note that, while some of the noted price changes coincide with changes in short selling activity, some do not. 137 Moreover, because these studies look at a long horizon ( e.g., months instead of minutes), it is not clear that the evidence provided is relevant to support such conclusion. Thus, it is difficult to conclude from these analyses that the absence of a short sale price test restriction and the actions of short sellers resulted in issuer prices falling below their fundamental values. 136 See, e.g., letter from Park National; letter from GE; letter from Aflac; letter from IBC; letter from Jeff Wang; letter from Martin Napor. 137 For example, some of the noted price declines coincide with increases in short interest. See letter from Aflac; letter from IBC. Other noted price changes do not correlate with changes in short interest or short selling activity. See letter from Dialectic Capital (June 2009); letter from MFA (June 2009); letter from Peter J. Driscoll, Chairman, John C. Giesea, President and CEO, Security Traders Association, dated June 19, 2009 (“STA (June 2009)”); Avramovic (Sept. 2008). One commenter cited a study that used intra-day short selling transaction data to examine the impact of short selling on volatility and found that the removal of former Rule 10a-1 did not exacerbate volatility. 138 We note that, while the study analyzed a period prior to and after the removal of former Rule 10a-1, it analyzed only a six-week period following the elimination of former Rule 10a-1, which may minimize the study's statistical significance. We also note that although the Staff found, in the Staff's Summary Pilot Report presenting the Staff's analysis of the data made public during the Pilot, that short sale price tests in effect at that time did not have a significant impact on daily volatility, the Staff also found some evidence that the short sale price tests dampened intra-day volatility for smaller stocks. 139 138 See letter from Citadel et al. (June 2009) (citing Ekkehart Boehmer, Charles M. Jones, and Xioayan Zhang, Unshackling Short Sellers: The Repeal of the Uptick Rule (Nov. 2008)). 139 See Staff's Summary Pilot Report at 55. In contrast, other commenters submitted data showing an increase in volatility from July 2007 through November 2008 to support the conclusion that the absence of a short sale price test restriction caused an increase in market volatility. 140 As discussed above and in the Proposal, 141 concurrent with the subprime mortgage crises and credit crisis in 2007, U.S. markets experienced increased volatility and steep price declines, particularly in the stocks of certain financial issuers. We are not aware, however, of any empirical evidence that the elimination of short sale price test restrictions contributed to the increased volatility in the U.S. markets. In addition, the data showing an increase in volatility since the elimination of former Rule 10a-1 submitted by commenters in response to the Proposal does not address the extent to which other factors may have influenced the increased volatility. Moreover, because these studies look at a long horizon ( e.g. , months instead of minutes), it is not clear that the evidence provided is relevant to support such conclusion. Thus, the relationship between the elimination of short sale price test restrictions and the increased volatility remains unclear. 140 See, e.g. , letter from NAREIT; letter from High Street Advisors; letter from European Investors (June 2009); letter from European Investors (Sept. 2009). 141 See Proposal, 74 FR at 18043. Several commenters submitted data on the percentage of short sales that might be affected by a short sale price test restriction. 142 One commenter submitted data indicating that the alternative uptick rule, adopted on a permanent, market-wide basis, could affect up to 37% of short sale orders. 143 As acknowledged by this commenter, however, this number does not indicate how severely the short sellers would be affected, how the number might change in different market conditions, or whether the number would result in changes in market quality. 144 In addition, as acknowledged by the commenter, the number also does not account for how order submission strategies would differ based on the alternative uptick rule. 145 142 See letter from Prof. Jones; letter from BATS (May 2009) (stating that, on its own market during May, June, September and October 2008, 12% to 13% of all executions were short sellers trading at a price less than the last execution price). 143 See letter from Prof. Jones (stating that, during the period from July 6, 2007 through the end of August 2007, an average of 37% of submitted short sale orders in NYSE-listed Russell 3000 stocks were either market orders or marketable limit orders). 144 See id. 145 See id. In addition, as discussed in more detail below, 146 in response to our request for comment on an appropriate threshold at which to trigger the proposed circuit breaker short sale price restrictions, commenters submitted estimates of the number of securities that would trigger a circuit breaker rule at a 10% threshold. 147 While commenters' analyses (including the facts and assumptions used) and their resulting estimates varied, 148 commenters' estimates reflect that a 10% circuit breaker threshold, on average, should affect a limited percentage of covered securities. 149 Given the variations in the facts and assumptions underlying the estimates submitted by commenters, the Staff also looked at trading data to confirm the reasonableness of those estimates. The Staff found that, during the period covering April 9, 2001 to September 30, 2009, 150 the price test restrictions of Rule 201 would have been triggered, on an average day, for approximately 4% of covered securities. 151 The Staff also found that for a low volatility period, covering January 1, 2004 to December 31, 2006, the 10% trigger level of Rule 201 would have, on an average day, been triggered for approximately 1.3% of covered securities. 152 Thus, we believe that the short sale price test restriction of Rule 201 is structured so that generally it will not be triggered for the majority of covered securities at any given time and, thereby, will not interfere with the provision of market benefits such as liquidity and price efficiency for those securities, including when prices in such securities are undergoing minimal downward price pressure or are stable or rising. 146 See infra Section III.A.5. (discussing the circuit breaker trigger level). 147 See supra note 21. 148 See infra note 306. 149 See infra note 307. 150 See infra note 309. 151 See infra note 310. 152 See infra note 311. Several commenters submitted data on indexes of investor confidence to argue that investor confidence has been restored and, therefore, short sale price test restrictions are not necessary. 153 In addition, one commenter submitted preliminary data, drawn in part from investor confidence indexes, on the relationship between short selling and investor confidence and stated that “[w]hile it is too early to draw conclusions from this data, the evidence presented * * * does not suggest that there is a negative relationship between short selling activity and investor confidence.” 154 Another commenter submitted a survey showing that its clients put more money into the markets between Fall 2008 and Spring 2009 and that many of its clients do not believe that an overhaul of financial services regulation would restore investor confidence. 155 153 See, e.g. , letter from RBC (Sept. 2009); letter from EWT (Sept. 2009); letter from CPIC (June 2009); see also letter from NAAIM (citing press articles as evidence of increased investor confidence). 154 Letter from Prof. Werner. 155 See memorandum regarding meeting with TD Ameritrade. We also note that some other commenters submitted surveys showing that reinstituting a short sale price test restriction would improve investor confidence. 156 One commenter submitted a survey showing that over 95% of the issuers participating in the survey believed that the market would function better with a short sale price test restriction and stated that this data “suggests that a price test would boost confidence.” 157 156 See, e.g. , letter from NYSE Euronext (June 2009); letter from CFA; see also letter from Schwab. 157 Letter from NYSE Euronext (June 2009). While the analyses of investor confidence indexes submitted by commenters do contain measures of investor confidence, we believe that the investor confidence indexes cited are designed to capture elements of investor confidence not directly affected by regulatory changes. Investor confidence indexes often capture measures of systematic risk or optimism about the economy, as opposed to measures of investor confidence related to regulation designed to provide investor protections. In addition, in light of the surveys that were submitted in support of a short sale price test restriction as a means to restore investor confidence, 158 we do not believe that the surveys submitted to argue that a short sale price test restriction would not improve investor confidence 159 provide strong evidence on this point. 158 See, e.g. , letter from Schwab; letter from NYSE Euronext (June 2009); letter from CFA. 159 See, e.g. , memorandum regarding meeting with TD Ameritrade. Although in recent months there has been an increase in stability in the securities markets, we remain concerned that excessive downward price pressure on individual securities accompanied by the fear of unconstrained short selling can undermine investor confidence in our markets generally. Further, we are concerned about potential future market turmoil, including significant increases in market volatility and significant price declines, and the impact of any such future market turmoil on investor confidence. Thus, we believe it is appropriate to adopt the targeted short sale price test restrictions contained in Rule 201. In summary, we have reviewed the empirical data, analyses and studies submitted and carefully considered them in connection with our determination that it is appropriate at this time to adopt in Rule 201 a short sale price test restriction combined with a circuit breaker approach. III. Discussion of Rule 201 of Regulation SHO In the Proposal, we proposed two approaches to restrictions on short selling: one that would apply on a market-wide and permanent basis and one that would apply only to a particular security during a significant market decline in the price of that security ( i.e. , a circuit breaker approach). 160 With respect to the permanent, market-wide approach, we proposed two alternative short sale price tests: the proposed modified uptick rule, based on the current national best bid, and the proposed uptick rule, based on the last sale price. With respect to the circuit breaker approach, we proposed two alternative circuit breaker tests: one that would temporarily prohibit short selling in a particular security when there is a significant decline in the price of that security and one that would temporarily impose either the proposed modified uptick rule or the proposed uptick rule on short sales in a particular security when there is a significant decline in the price of that security. 160 See Proposal, 74 FR 18042. In addition, in the Proposal we inquired whether a short sale price test restriction that would permit short selling at a price above the current national best bid, i.e. , the alternative uptick rule, would be preferable to the proposed modified uptick rule and the proposed uptick rule. 161 We sought comment regarding the application of the alternative uptick rule as a market-wide permanent price test restriction or in conjunction with a circuit breaker. 162 We received two comment letters regarding applying the alternative uptick rule on a permanent, market-wide basis 163 and seven comment letters with respect to applying the alternative uptick rule in combination with a circuit breaker. 164 To allow us to further consider the alternative uptick rule, on August 20, 2009, we re-opened the comment period to the Proposal. 165 In addition, on May 5, 2009, we held the May 2009 Roundtable 166 at which panelists discussed the proposed short sale price test restrictions and circuit breaker rules. 161 See Proposal, 74 FR at 18072, 18081, 18082. 162 See id. 163 See letter from William Hartley, dated May 8, 2009; letter from Glen Shipway, dated June 19, 2009 (“Glen Shipway (June 2009)”). 164 See letter from BATS (May 2009); letter from Johnny Peters, ChFC, dated May 20, 2009; letter from Credit Suisse (June 2009); letter from SIFMA (June 2009); letter from Goldman Sachs (June 2009); letter from NYSE Euronext (June 2009); letter from Eric W. Hess, General Counsel, Direct Edge Holdings LLC, dated June 23, 2009 (“Direct Edge (June 2009)”). In addition, in connection with the May 2009 Roundtable, panelists expressed support for the alternative uptick rule. See statement from NYSE Euronext (May 2009); opening remarks of James J. Angel, Ph.D., CFA, Associate Professor of Finance, McDonough School of Business, Georgetown University, dated May 5, 2009. We also note that prior to the Proposal, four exchanges, NYSE Euronext, Nasdaq OMX Group, BATS, and National Stock Exchange, submitted a comment letter recommending a circuit breaker combined with a price test that would allow short selling only at an increment above the current national best bid. See letter from National Stock Exchange, NYSE Euronext, Nasdaq OMX Group, and BATS, dated Mar. 24, 2009 (“National Stock Exchange et al. ”). NYSE Euronext, in its subsequent comments, stated that it supported the proposed modified uptick rule applied on a permanent and market-wide basis rather than the position expressed in the earlier March 24, 2009 letter. See statement from NYSE Euronext (May 2009); letter from NYSE Euronext (June 2009). 165 See Re-Opening Release, 74 FR 42033. 166 See supra note 14. As noted above, we received over 4,300 unique comment letters in response to the Proposal and Re-Opening Release. 167 In discussing the provisions of Rule 201, we highlight and address below the main issues, concerns, and suggestions raised by commenters. 167 See supra note 78. A. Operation of the Circuit Breaker Plus Alternative Uptick Rule We are adopting in Rule 201 a circuit breaker approach combined with the alternative uptick rule. Specifically, Rule 201(b)(1) provides that “[a] trading center shall establish, maintain, and enforce written policies and procedures reasonably designed to: (i) Prevent the execution or display of a short sale order of a covered security at a price that is less than or equal to the current national best bid if the price of that covered security decreases by 10% or more from the covered security's closing price as determined by the listing market for the covered security as of the end of regular trading hours on the prior day; and (ii) Impose the requirements of paragraph (b)(1)(i) of this section for the remainder of the day and the following day when a national best bid for the covered security is calculated and disseminated on a current and continuing basis by a plan processor pursuant to an effective national market system plan.” 168 168 Rule 201(b). Thus, Rule 201 will require a trading center 169 to have policies and procedures reasonably designed to prevent it from executing or displaying any short sale order, absent an exception, at a price that is equal to or below the national best bid if the price of that security decreases by 10% or more from the security's closing price as determined by the listing market for the covered security as of the end of regular trading hours on the prior day. 170 As discussed in more detail below, we believe that such a Rule will help prevent short sellers from using short selling as a tool to exacerbate a declining market in a security. 169 Consistent with the Proposal, Rule 201(a)(9) states that the term “trading center” shall have the same meaning as in Rule 600(b)(78). Rule 600(b)(78) of Regulation NMS defines a “trading center” as “a national securities exchange or national securities association that operates an SRO trading facility, an alternative trading system, an exchange market maker, an OTC market maker, or any other broker or dealer that executes orders internally by trading as principal or crossing orders as agent.” See 17 CFR 242.600(b)(78). The definition encompasses all entities that may execute short sale orders. Thus, Rule 201 will apply to any entity that executes short sale orders. 170 Any such execution or display will also need to be in compliance with applicable rules regarding minimum pricing increments. See 17 CFR 242.612. See also infra Section III.A.2. 1. Covered Securities Consistent with the proposed permanent, market-wide short sale price test restrictions and proposed circuit breaker rules, Rule 201 will apply to any “covered security.” As proposed and as adopted, Rule 201 defines “covered security” to mean any “NMS stock” as defined under Rule 600(b)(47) of Regulation NMS. 171 Rule 600(b)(47) of Regulation NMS defines an “NMS stock” as “any NMS security other than an option.” 172 Rule 600(b)(46) of Regulation NMS defines an “NMS security” as “any security or class of securities for which transaction reports are collected, processed, and made available pursuant to an effective transaction reporting plan, or an effective national market system plan for reporting transactions in listed options.” 173 Thus, Rule 201 will apply to any security or class of securities, except options, for which transaction reports are collected, processed, and made available pursuant to an effective transaction reporting plan. As a result, Rule 201 generally will cover all securities, except options, listed on a national securities exchange whether traded on an exchange or in the OTC market. 174 As discussed further below, it will not include non-NMS stocks quoted on the OTC Bulletin Board or elsewhere in the OTC market. 171 See Rule 201(a)(1). 172 17 CFR 242.600(b)(47). 173 17 CFR 242.600(b)(46). 174 We note that there may be securities that are listed on a national securities exchange but that are not NMS stocks because they do not meet the definition of “NMS stock.” Thus, these securities will not be subject to the short sale price test restrictions of Rule 201. In response to our requests for comment, some commenters stated that any short sale price test adopted by the Commission for NMS stocks should also apply to non-NMS stocks quoted on the OTC Bulletin Board or elsewhere in the OTC market. 175 One commenter indicated that failure to apply a short sale price test restriction applicable to NMS stocks to non-NMS stocks quoted on the OTC Bulletin Board or elsewhere in the OTC market would cause investors to have inappropriately negative views about the OTC market and the firms whose securities are quoted there. 176 This commenter and another commenter also stated that not including non-NMS stocks quoted on the OTC Bulletin Board or elsewhere in the OTC market in a short sale price test restriction could have a negative impact on the ability of firms whose securities are quoted OTC to raise capital. 177 Commenters noted that many issuers of securities that are quoted OTC are “small, emerging growth companies,” 178 that may have a particular need to raise capital in the equity markets. 179 One commenter noted that “less liquid stocks and the stock of less capitalized firms that trade in the OTC markets are in need of as much, if not more, protection from manipulative behavior than NMS stocks” 180 while another stated that “OTC Bulletin Board and Pink Sheet securities would appear to be prime targets for manipulative shorting practices.” 181 Commenters also noted that applying a price test rule uniformly to NMS stocks and to non-NMS stocks quoted on the OTC Bulletin Board or elsewhere in the OTC market could reduce the costs of such a rule because market participants would need only one set of programs and systems designed to ensure compliance with the rule, rather than different programs and systems for securities covered by the rule and securities not covered by the rule. 182 175 See letter from Peter J. Chepucavage, General Counsel, Plexus Consulting LLC, The International Association of Small Broker Dealers and Advisors [Text truncated at 120,000 characters. The full text is on the page linked above.] --- Source: Frix Law Library, https://www.frixlaw.com/law-library/documents/fr%3A2010-4409. Public record. Not legal advice.