SEC Considering Crackdown on Short Sellers

The Securities and Exchange Commission is expected to present its new chairman, William Donaldson, with the opportunity to change the rules governing the trading practice of short-selling. Many companies and politicians have complained that the short-selling techniques have the effect of manipulating stock prices.

A short-seller borrows shares of stock from his broker and sells them in the current market, agreeing to purchase the shares at a later date and repay the original loan. The short-seller banks on the hope that the shares will lose money before the loan is due. But it's more than a hope - short-selling is a science performed by those who research the companies carefully and have good reason to believe the stock will lose value before the payback date.

Referred to in the foreign press as "the Al-Qaeda of the money world," the traders who specialize in short-selling are developing a reputation for actually being behind the ruin of some businesses.

A recent article in USA Today described short-sellers as "detested by the majority of investors in mutual funds and other vehicles with a stake in seeing stocks go up."

Until now the regulation on short sales has been to forbid short sales from occurring if a stock is price is falling (known as the uptick rule), but even this rule does not protect all stocks. The New York Stock Exchange enforces the uptick rule, but NASDAQ, for example, does not.

The SEC staff attempted to propose a change to the short-seller rules while Harvey Pitt was at the helm, but Mr. Pitt did not look favorably upon the change. Now it's Mr. Donaldson's turn. The former chairman of the New York Stock Exchange and co-founder of the investment bank Donaldson Lufkin and Jenrette has an intimate knowledge of stock trading and the effects of short-selling. The SEC is expected to propose changing the rules this week.

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