allowing a variable increase in this figure to commensurate with a substantial rise in the volume of the security. Anything in excess of these numbers would be carried in an investment account and hold for at least 30 days. The investment account would therefore be subject to the 50% Reg T margin regulations. These changes would take some of the incentive away from the dealer to bend the rules and make him more of a facilitator of transactions than a speculator for his own account. Under-reporting of short interest is a constant thorn in both the listed and OTC markets. The primary cause of this is designation by the seller of a security 'long' merely the instead of 'short'. has made borrowing be Whether foreign or domestic, this seller arrangements in advance and securities will delivered on settlement day for a regular way clearance. firm, can This practice, potentially unknown to the executing only be parried successfully by obligating the lender to receive a copy of the transaction and determine its legality. I would propose making the lender responsible for the policing of security regulations and if a transaction is not marked short, a prompt disclosure must be made. I believe that the framers of the 1933 and 1934 Acts could not predict the marginability and lendability of OTC securities. If they had, some of the same rules governing transactions on our exchanges would have been made applicable to the non-listed markets. It is an unquestioned fact that diminishes as capitalization declines and our large corporations from the bear raids liquidity generally the need to protect of the past is of created a scenario that is biased toward the few large players and one that affords little to the minority. - Maybe in another 300 years. Thank you. April 7, 1987 ADDENDUM Mr. William S. Clendenin, Vice President-Director There have been too few attempts during the past several years to curb illegal short selling tactics in the Over The Counter market to the detriment of the NASDAQ system's credibility. Short sellers have operated undetected for many years. Working in conjunction with fellow market makers, they have used illegal trading patterns, loopholes in NASD rules and inadequate control in the CNS clearing system to carry out successful bear raids on many unsuspecting OTC stocks traded in the NASDAQ system. These illegal bear raids seek to drive our market makers, collapse the stock's price, and alarm the public into dumping stock so that the short sellers can step in to claim their ill-gotten rewards. The effect upon the target company can be catastrophic as financing opportunities disappear and its shares as a currency for possible acquisitions no longer exist. The following five areas appear to be where the most flagrant and repeated violations cf securities laws are being committed by short sellers. 3) 4) Misrepresentation of Short Interest Figures Buy-Ins Leading to Rollover of Short Positions 5) Capping of the Offered Side of the Market to Lower There are a number of firms which are labeled short sellers or are considered aligned with short selling groups that illegally prey on OTC issues. And there are a few firms in particular which continuously and quite blatantly violate NASD laws with regard to short selling. The names of those firms as we know them are available on request. The following is a more detailed discussion of the five major areas of concern. 1. Naked Short Selling is the most common tactic used by short sellers today. Under current NASD rules, any order taken for the sale of stock must be marked as a long or short sale. If it is a declared short sale by the customer, then the broke: accepting the order must make an affirmative determination that the customer can borrow the security and and deliver it in good form within five business days of the execution of the order. If the customer cannot give that assurance and the firm cannot borrow the stock for the customer, the order must be turned away. The SEC recently approved amendments to the Board of Governor's Interpretation on Prompt Receipt and Delivery of Securities and Article III Section 21 of the NASD Rules of Fair Practice (SEC Release No. 34-23572). The amendments which became effective on October 15, 1986 provide for additional regulation of short selling in the OTC market. However, this is not the manner in which short selling is being carried out. Orders to sell short certain OTC stocks are being accepted by houses friendly to shorts without any regard to deliverability. In fact the importance of the substantial commission and stock loan income derived from large short selling clients often outweighs the desire to follow the law by taking the proper steps to ascertain if the stock can be borroweċ. Naked short sales are effected because there are serious stock loan abuses which occur at short-friendly brokerage houses and OTC. Due to the immobilization of securities at DTC, physical deliveries are virtually extinct; and transfers between computers are the mode. Violations occur when short-friendly brokers do not bother to ascertain whether stock can be borrowed but rather simply overlend their stock positions at DTC. For example, a short seller house might find that it can only borrow 10,000 shares of a particular stock from a particular brokerage firm on a given day when the short seller actually wishes to short twice that amount. How does he accomplish his aims? A short-friendly brokerage house simply overlends its stock position at DTC. The ease with which this practice takes place is as simple as walking over to one's in-house DTC terminal and instructing DTC to overlend one's account to a short seller. This violation artificially creates selling pressure in the market at a time when there weren't enough shares to meet the loan. Overlending is very frequent not only because of its ease, but because the chances of being caught in this violation are slim. A short-friendly broker who overienės knows full well that at settlement date he most likely will not be bought in because there could well be other stock transactions that will generate a long position for them which can be used to offset the prior short. M William S. Clendenin (3) In effect, this means that shorts and their loan affiliates can use the lack of stringent controls at DTC or the nature of setclement procedures under CNS to continuously short more stock than is available without ever suffering the consequences of the violations. 2. A second flagrant violation by short sellers is their pattern of selling Short' count Stocks. These are issues that are paid in full by customers, are not covered by any margin or stock loan agreement, and are therefore unloanable. There is clear evidence and examples of cash stocks being shorted Witness the short position, in some cases substantial, in companies having shares not eligible for margin as they appear in the published monthly OTC short position listings. Whereas years ago a firm would keep all cash stocks in the customers' names and store them in a vault on the firm's premises, today mostly all cash stocks are held at DTC for the account of the brokerage house. There is strong evidence that because cash stocks are held in depository form and "street" name they are being loaned out in violation of NASD rules just like any other marginable security. DTC, being just a depository for securities owned by various brokerage houses, does not distinguish between a cash stock or a margined stock. It is up to the respective brokerage houses which own the stock to issue a loan order to DTC. If the loan desk at a fim wants to take a chance at not being caught lending out cash stock, there is no real safeguard against is happening. It is a serious violation; but since the chances of being caught are slim, firms go ahead and reap the benefit of stock loan income and commissions from their short-selling customers. 3. 4. Another abuse of the rules by short sellers takes place by A fourth violation by short sellers occurs when Buv-Ins Are |