by Ian Striplin
  Equity Analyst, Gradient Analytics LLC (a Sabrient Systems company)

The very nature of borrowing shares, securities lending, and short selling is opaque. During recent equity events, existing reporting procedures exacerbated the misperception of short interest levels and influenced the intentional short squeeze mechanics. Without rehashing what has been discussed at length, written about, and even chronicled in film, the SEC has been put in a difficult – but not unmanageable – position to “do something” about nefarious practices among some powerful short sellers. As a result, the SEC is proposing Rule 10c-1 under the Exchange Act, which would require any person who loans a security on behalf of itself or another person (Lender) to provide the specified material terms of their securities lending transactions to a registered national securities association (RNSA).

While the proposal impacts many asset classes, the securities lending market is dominated by US equities, and we focus on those impacts here at Gradient Analytics. Our clients look to us for differentiated short ideas built on a foundation of earnings quality concerns. Along with other liquidity measures, Gradient has always been mindful of short interest, not only to avoid crowded short trades but also to provide fresh ideas to our institutional clientele. If anything, we believe our research will stand to benefit from increased transparency, which demands greater effort to find actionable short ideas.

There are many items on SEC chairman Gary Gensler's agenda, and this may simply be the “topic of the day.” Indeed, we believe the short-seller bogeyman fits well with other recent demands – including a congressional stock trading ban, forced ESG investment, and T+0 (i.e., same-day) settlement of security transactions. In the interim, we looked at the proposal and came away with several thoughts, many of which one also might find in the comment section of the SEC website.  Read on…