Last night’s announcement by the Securities and Exchange Commission that it would extend the emergency order and consider a permanent ruling targeting naked short selling could lead to dramatic changes in the way the stock loan business is conducted and prove a boon for at least one technology provider.
LocateStock.com is one of a few organizations positioned to cash in on a likely move to more automation in the matching of borrowers and lenders in the stock loan business. Last week, it says it demonstrated its system of matching borrowers with lenders to the SEC, which said it was unaware of any other comparable system.
That’s according to John Tabacco, LocateStock.com’s president. “We are not part of any solution,” Tabacco told Traders Magazine. “We are the solution.” The SEC declined to comment.
LocateStock.com licenses its platform to prime brokers who then make it available to their customers, hedge funds looking to borrow and short, and stock lenders such as banks. The Jersey City-based technology shop has licensed the platform to three broker-dealers. About 85 institutions — borrowers and lenders — use the platform, accounting for 3,500 individuals.
The firm launched its Matador product on January 5, 2005, the day the SEC’s Reg SHO short sale ruling went into effect.
There are other organizations such as iCap and Quadriserve automating what many see as an antiquated stock loan business, but their approaches are slightly different. Quadriserve attempted to match borrowers with lenders in competition with prime brokers, but recently pulled the plug on that effort when it shuttered its broker-dealer subsidiary.
In any event, more automation is likely coming to the industry. As the stock loan business is largely manual today, any pre-borrow requirement could slow down the system. “A pre-borrow requirement does increase the use of automation in the securities lending business,” according to Josh Galper, a principal with consultancy Vodia Group and the author of several reports on the securities lending field. “Brokers will need technology to manage the process of decrementation of inventory. This is a cumbersome process to handle manually.”
Galper explains that any technology solution to the pre-borrow requirement must do two things: accurately decrement inventory and track those securities through when a short sale is made.
The SEC, last night, extended its order requiring short sellers to “pre-borrow” 17 financial stocks they want to short by having an agreement in hand to borrow the stock. The ruling is meant to prevent a short from going “naked,” or shorting without actually locating the stock beforehand.
The regulator also announced that after the emergency order expires on August 12, it would “proceed immediately to consideration of rulemaking which would become effective after public notice and comment.” That would “provide additional protections against abusive naked short selling in the broader market,” the SEC said.
Any ban would lead to less shorting initially, according to Galper. That’s because obtaining a pre-borrow will be more costly, as not all borrowers will be able to line up the stock they want to short.
According to Harvey Pitt, former SEC chairman and current chief executive of consultancy Kalorama Partners, the SEC also wants to see a technological solution to the problem of “abusive short selling.”
Pitt said in a statement that “short selling helps create market liquidity, and offsets irrational exhuberance in our securities markets. But “naked short sellers hurt companies and investors.” Kalorama Partners recently formed a partnership with LocateStock.com to provide the Lendex stock loan marketplace.
Tabacco believes his firm is well positioned to make the process more efficient. “The regulatory climate will mandate that firms that want real-time, instantaneous, dynamic locates will have to use it,” he says. “Because without our solution, people will have to pick up the phone and call their clearing house and wait to get allocated.”
