ADR Forum

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The Problem

Short selling is a bet that a stock price will decline. A short seller borrows stock and then sells it, hoping to buy back the same amount of stock later, at a lower price, for return to the lender. Short selling is legal.

Naked short selling involves selling stock without first borrowing (or sometimes even locating) the stock. If a naked short seller does not borrow the stock he sold, he will be unable to deliver that stock to the buyer to close the transaction. This is called a “failure to deliver” (FTD). Naked short selling is generally illegal, though market makers are allowed to temporarily naked short for the sake of bona fide market making. FTDs are always illegal when delivery failure exceeds 13 days.

Exchanges do not disclose whether short sales are naked and supply no information on FTDs. Even worse, in transactions where shares are not delivered, brokerages issue stock IOUs called “share entitlements.” Retail customers’ account statements do not distinguish between real shares and share entitlements.