SEC Follow Up Exhibits Part C SEC_OEA_FCIC_001760-2501

Reg SHO Pilot Report DRAFT 9/14/2006
Economic Analysis of the Short Sale Price Restrictions under the Regulation SHO Pilot
I Introduction
A. Background
A Study by the Staff of the Office of Economic Analysis 1
Short selling in exchange-listed stocks (“Listed Stocks”) in the U.S. has been subject to a “tick
test” since 1938. Rule 10a-1 under the Securities Exchange Act of 1934 allows short sales to
occur only at an uptick or a zero uptick (also known as a “zero-plus tick”) for Listed Stocks. That
is, short sales in Listed Stocks may be effected above the last trade price or at the last trade price
if the last trade price is higher than the most recent trade at a different price. 2 Prior to August 1,
2006, Nasdaq was not operating as an exchange and, therefore, its stocks were not Listed for the
purposes of Rule 10a-1. However, in 1994, the National Association of Securities Dealers
(“NASD”) introduced a “bid test” for Nasdaq National Market Stocks (“Nasdaq NM Stocks”),
which applies to trading on Nasdaq and trading reported to the NASD. This rule, the former
NASD Rule 3350, specifies that whenever the bid is a downtick from the previous bid, traders
other than market makers may sell short only at prices one penny above the bid. 3 Within this
report, the tick test and bid test will be described more generally as “price restrictions.”
1 For further information, questions, or comments, please contact Amy Edwards (edwardsa@sec.gov), Stewart
Mayhew (mayhews@sec.gov), Tim McCormick (mccormickt@sec.gov), or Allan Zebedee.
2 Paragraph (a) of Rule 10a-1 governs short sales of any security registered on, or admitted to unlisted trading
privileges on, a national securities exchange if such transactions are made pursuant to an effective transaction
reporting plan as defined in Rule 600 of Regulation NMS. Unless a specific exemption applies, short sales are
prohibited at a price that is either (1) below the last reported price of a transaction reported pursuant to an effective
transaction reporting plan (known as a “minus tick”); or (2) at the last reported price if that price is lower than the
last reported different price (known as a “zero-minus tick”).
3 When Nasdaq began operating as a national securities exchange, NASD Rule 3350 was replaced by Nasdaq Rule
3350 for Nasdaq NM stocks traded on Nasdaq, and NASD Rule 5100 for Nasdaq NM stocks traded over-the-counter
and reported to a NASD facility. In connection with Nasdaq commencing operations as a national securities
exchange the Nasdaq National Market was renamed to the Nasdaq Global Market and Nasdaq NM stocks were
renamed Nasdaq Global Market stocks. See NASD Rule 4200(a)(6) (providing that the Nasdaq Global Market is
the successor to the Nasdaq National Market); see also Securities Exchange Act Release No. 54071 (June 29, 2006),
Prepared by the Office of Economic Analysis 3
DRAFT