September 18, 1996
Re: Affirmative Determination for Short Sales -- NASD Conduct Rule 3370 (Rule 3370)
We are in receipt of your letter dated August 19, 1996 to Mr. Thomas Gira, Nasdaq Office of General Counsel requesting interpretive advice regarding "affirmative determination" requirements for short sales under NASD rules which was referred to our office for a response.
In your letter you request interpretive advice as to whether "registering as a Nasdaq CQS market maker" would permit your firm "to short securities without borrowing the stock to assure delivery". We assume this means not having to do an affirmative determination as to stock availability prior to execution of a short sale. In addition, you represent that your firm would be engaging in short selling activity to hedge the firm's issuance of over-the-counter put and call options (non-listed options). Further, you understand that the firm would be subject to buy-in risk for non-delivery.
Rule 3370(b)(2)(B) states that "[N]o member shall effect a "short" sale for its own account in any security unless the member or person associated with a member makes an affirmative determination that the member can borrow the securities or otherwise provide for delivery of the securities by the settlement date. This requirement will not apply to ... bona fide market making transactions by a member in securities in which it is registered as a Nasdaq market maker...". Therefore, a member who is registered as a Nasdaq market maker and is involved in bona fide market making activity is not required to make an "affirmative determination" prior to selling short the securities in which the firm is registered.
Based on the above, the relevant question is whether the activity contemplated by your firm would qualify for the "bona fide market making" exception. In this connection, to the extent that a registered market maker engages in short selling activity solely to hedge an option position, such short sale would not constitute bona fide market making activity in the security in which the market maker is a registered market maker, and, thus, would not be exempt from the affirmative determination requirement. Accordingly, if your firm were to effect short sales solely to hedge a conventional option position, such short sales would not be exempt from the affirmative determination requirement.
I hope that this letter is responsive to your inquiry. Please note, however, that the foregoing is a staff opinion. Under NASD and NASDR procedures, any final determination regarding the applicability of NASD rules rests with the various committees, and ultimately, the NASD or NASDR's Board of Directors. In addition, if any of the representations contained in this letter are incorrect or change in any material respect, then the conclusions or opinions stated will not apply.
If you should have any questions concerning this letter, please contact me at (202) 728-8014.
David A. Spotts
Office of General Counsel, NASDR