Speaker: There will be some new rules that investors will have to adhere to. Starting Monday, the Securities and Exchange Commission is setting new regulations on how investors can short certain financial stocks including Fannie Mae and Freddie Mac. Now, where the new rules are really good for business in the long run, they are great for my next guest, he runs LocateStock.com, he is a CEO, his name is John Tabacco and he joins me now from Washington. His company helps people find stock to short.
Now John, quickly explain to viewers the definition of a short sale and why it's so important and it occurs so frequently in the stock market?
John Tabacco: Well, thanks for having me on and it's very important that people understand that short selling is a very integral part of the capital market. Short sellers add liquidity. Short selling is something that's been part of the market for years and short selling is a mechanism where people can take bets against the market so they bet that the stock is going down rather than the traditional bet of a stock going up and if you sell something that you don't own, you need to borrow that to deliver it to the person you sold it to.
Speaker: Basically you borrow the stock and then when it goes down in value, you give it back and you keep in your pocket, the difference. You give it back to the broker who lent it to you, right.
John Tabacco: You sell stock and you borrow shares to deliver it to the person who purchase them, okay. At a later date and time, when that stock decreases in value, you go into the marketplace, you buy new shares and you return those shares to the person who you borrowed them from. So they have no risk, there's no risk inherent in that transaction. It's a fully collateralized transaction and it's a tremendous part of the marketplace and capital markets are supported by short sellers. They maintain the efficiencies in the marketplace and they add liquidity.
Speaker: By the way John, China does not have any short selling going on, it's outlawed there. Some say that helped inflate the bubble in China. What do you say to that?
John Tabacco: I am not really an expert on International Short Selling rules. As right now we're focusing on the good work of the SEC. They have come in, they've identified the problem, they've given the major prime brokers and clearing houses, two-and-a-half years since Reg SHO went into effect.
Speaker: But John, here's the deal, I mean we saw a bump up in stock for a number of financial firms about 17 or 19 of them, the SEC said, you cannot do what's called naked short selling against these companies and including Fannie Mae and Freddie Mac, meaning that you actually have to physically, when you borrow those shares, you have to have them in hand, you can't just go out and do a short sale without them. Is that what's going on?
John Tabacco: Well, since 2005, reg SHO has told the prime brokers and clearing firms that they had to enter into a bona fide agreement and establish reasonable grounds that they could borrow the shares. Now the new emergency ruling by the SEC hasn't outlawed naked shorting. It's still a function that has to go on in the marketplace. Market makers need to go in and short stop that they don't borrow. But what the SEC has done is very important, and it's very important in protecting companies in that, if you're going to borrow shares and you're going to sell stock short, you need to actually borrow them, not just rely on someone else's representation that you can borrow them, you actually need to have them now and I think it's a very critical point, Chris Scott and the guys at the SEC, they've got their white hats on and they're really doing what needs to be done unless the bigger question is this, why only 19 companies? Are we going to just keep being reactive, we're going to just protect --
Speaker: Right, and I think the rules are temporary too. John, thank you so much for joining us tonight. Keep us posted on the development with these new rules. Now, but they are temporary though, but thank you John.
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