Government at its finest, Part II

 (Read Part I first.)

Well, the SEC has issued a revised order.

IT IS THEREFORE ORDERED that, pursuant to our Section 12(k)(2) powers, the requirements of this Order shall not apply to any person that is a market maker, including an over-the-counter market maker, that effects a short sale as part of a bona fide market making and hedging activity related directly to bona fide market making in (a) derivative securities based on Covered Securities, or (b) exchange traded funds and exchange traded notes of which Covered Securities are a component. Provided, however, if a customer or counterparty position in a derivative security based on a Covered Security is established after 12:01 a.m. E.D.T on September 22, 2008, a market maker may not effect a short sale in the Covered Security if the market maker knows that the customer’s or counterparty’s transaction will result in the customer or counterparty establishing or increasing an economic net short position (i.e., through actual positions, derivatives, or otherwise) in the issued share capital of a firm covered by this Order.

I give them points for creativity!  But as far as I know, the markets are anonymous; in general, market makers have no idea who is taking the other side of their orders.  So how could they “know” that you are increasing a short position?  Maybe the key phrase is “customer or counterparty” (?).

This is just getting bizarre beyond description.  Welcome to Wonderland, Alice.


The more I think about this, the more weird it seems.  For example, suppose an options market maker really could know when I was “increasing an economic net short position”.  OK, so I could buy the underlying stock first, before I sold calls and bought puts.  Those calls and puts would decrease an existing net long position, not increase a net short…  And so, by these rules, the options market maker would be allowed to short the underlying.  Finally, I could simply sell the underlying stock and be left with my synthetic short.

Convoluted?  Not by hedge fund standards.  And it does get you there, with the only cost being the tariff to the market makers via the spread.

The emanations from our government are becoming more and more bizarre.  It is starting to make me less angry and more nervous.

Update 2008-09-25

Wall Street Firms Provide Way Around Short-Sell Ban.  Surprise, surprise…  (hat tip foss)

2 comments to Government at its finest, Part II

  • worried


    I dont get where you are coming from. There are now billions of people on this planet and they are all relying on working banking systems in one way or another. If this system ends then we would need to go back to relatively historic or primitive systems of exchange and the population would need to be massively reduced. We need sophistication in our systems to support the world as it is today.

    Today we need investors. We dont need people who get hold of investments and who then sell them to drive down prices so they can profit in the expectation a company which is required for our life to exist fails.

    I am not mainly an investor. I am a person waiting to invest at the right time. Because there are so many none investors like me all waiting we are in *more* of a mess than we would otherwise be.

    These actions are not so weird and nefarious as you paint them. They make sense in the bigger picture view.

    By all means avoid the reality and get nit picky about the details but this to me seems like a crisis that needs actions rather than endless rules and brakes and checks and stops. If this does not work then people will vote with their guns bulletts shells warships etc etc etc. Why not give the guy a chance here? You can take other actions later if he is a crook and fraud etc etc.

  • worried —

    We need to separate the TARP from the short-selling ban.

    I could be wrong about the TARP; it is so large, and so unprecedented, that I do not think anybody knows for sure what the short-term, medium-term, and long-term effects will be.

    But short sale bans are nothing new, and there is overwhelming theoretical and empirical evidence that they are a very bad idea. I will point you to Barry Ritholz’s repost of a NYT editorial from 1930, which makes the case pretty clearly, and leave it at that. To me, arguing about short-selling bans is like arguing about unicorns; I am simply not going to bother.

    I will have more to say about the TARP this week and I look forward to some engaging back-and-forth on that topic. Your point about investor confidence gets at the core of the issue, I think…

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