Firm Settles FINRA and NYSE Arca Charges for Short Sale Violations
Commentary by Steven Lofchie
A firm providing execution and routing services to broker-dealers settled FINRA and NYSE Arca charges for (i) effecting short sales without obtaining locates, (ii) reporting short sale transactions to the FINRA/NYSE trade reporting facility ("TRF") without short sale indicators and (iii) maintaining inaccurate blotters of its securities purchases and sales.
In separate Letters of Acceptance, Waiver and Consent, the regulators stated that that the firm was under the incorrect impression that, if its clients obtained locates for their short sale orders, it was not required to obtain a locate when effecting a principal short sale to carry out client short sale orders on a riskless principal basis. Additionally, FINRA found that the firm incorrectly believed that short sale indicators were not required in TRF reports of short sale transactions that it satisfied as a riskless principal.
FINRA also determined that the firm's purchases and sales blotters were inaccurate because the firm recorded the riskless principal legs of the transactions. Specifically, the firm recorded (i) the execution of a client sale order instead of a purchase for its own account when purchasing a security from its client to satisfy a client sale order and (ii) the execution of a client buy order instead of a sale for its own account when selling a security to its client to satisfy a client buy order.
The regulators found that the firm violated FINRA Rules 2010 ("Standards of Commercial Honor and Principles of Trade"), 4511(a) ("General Requirements"), 6182 ("Trade Reporting Short Sales") and 7230B(d)(6), Exchange Act Section 17(a) ("Rules and Regulations"), and SEA Rules 203(b)(1) and 17a-3(a)(1).
To settle the charges, the firm agreed to (i) a censure and (ii) a $300,000 total fine, $195,000 of which will go to FINRA and $105,000 of which will go to NYSE Arca.
Commentary
The requirement that a firm obtain a locate when it is executing a riskless principal short sale for a client that itself has done a locate makes no sense. The firm will be delivering, on its sale, the security that the client has delivered to it. There is absolutely no benefit in the second locate. Presumably the regulators would not require a second locate for an agency transaction. If that is the case, then why would there be a need for one in the case of a riskless principal transaction?
If the proper interpretation of the locate requirement is as the regulators claim in this enforcement action, then the locate requirement should be amended promptly. The regulators should eliminate requirements that serve no purpose.