Yesterday the SEC announced its intent to enforce Regulation SHO which became effective on September 7, 2004. The rule was enacted to "establish uniform locate and delivery requirements in order to address problems associated with failures to deliver, including potentially abusive “naked” short selling (i.e., selling short without having borrowed the securities to make delivery)".
There are many arguments against short sellers, but in fairness they do facilitate liquidity and bring discipline to the markets by punishing the securities of poorly managed companies. Some do not like to admit it for fear of killing the goose that lays golden eggs, but any honest trader or broker who has ever worked directly with a trading desk or broker on the floor can attest that lack of transparency for delivery or enforcement of this rule has created a dysfunctional market for both small and large investors.
If the SEC truly follows up on its intent to fairly discipline violators, then it is worth taking a look at these top 50 securities that currently have a disproportionately high number of shorted shares relative to their outstanding total common shares.
Business Services (PRAA; CSGP)
Consumer Staples (CALM; TRLG; LEE; RAH)
Consumer Discretionary (NTRI; HZO; LTM; TPX; PII)
Retail-Wholesale (JOSB; NILE; BIG; ZLC; BWLD; ARO; GMCR; PFCB; ETH; NFLX; RRGB)
Medical (ARTC; ALXN; AMED; DNDN)
Industrial Products (FTEK; VPRT)
Construction (BZH; SPF)
Computer/Technology (NETL; EMKR; SIGM; PALM; AMSC; OTEX)
Finance (DSL; CORS; EWBC; ZION; ABR; RWT)
On average, the above securities have 62% of their total outstanding shares shorted. Some of these securities are also on the NYSE and Nasdaq Threshold lists whereby "sellers have failed to deliver 10,000 shares or more in the past five trading days and the level of “fails'’ is a minimum of 0.5 percent of the shares outstanding".
The SEC’s latest action may not put an end to the bear market, but at least innocent companies will stand a better chance if not associated with those guilty of poor or fraudulent management. Ultimately, this should help allow our capital markets to function as they were intended which is based upon the merit of results.