SEC Follow Up Exhibits Part C SEC_OEA_FCIC_001760-2501

Reg SHO Pilot Report 2/12/2007
Following sharp price drops in the fall of 1937, the Commission performed a study of the
transactions of 20 securities on the NYSE for the periods September 7-13 and October 18-23 of
that year 23 and found that short sales constituted a significant portion of the transactions in the
declining market. The Commission adopted new short-selling rules, including a rule to formally
define what is meant by a short sale and Rule 10a-1, the tick test. 24 This version of the tick test
prohibited short sales “at or below the price at which the last sale, regular way, was effected on
such exchange.” The rule was adopted on January 24, 1938 and went into effect February 8,
1938.
The tick test was amended March 10, 1939 to allow for short selling at a zero uptick, or
in other words at the last trade price, “provided that the last sale price was higher than the last
different price which preceded it.” 25 Certain exemption letters have been granted over the years,
such as the exemption for diversified exchange traded funds. 26 However, the basic structure of
this rule has remained essentially unchanged since 1939.
The Commission’s Special Study (1963) identified three objectives of the tick test, which
have been consistently used by the Commission as a framework for discussing the effectiveness
of the regulation. These objectives are that the rule should:
(1) Allow relatively unrestricted short sales in an advancing market;
(2) Prevent short selling at successively lower prices, thus eliminating short selling as a
tool for driving the market down; and
(3) Prevent short sellers from accelerating a declining market by exhausting all remaining
bids at one price level, causing successively lower prices to be established by long
sellers.
23 SEC Release No. 1548, January 24, 1938, 3 FR 213 (January 26, 1938).
24 Rule 3b-3 under the Exchange Act sets forth the definition of "short sale" and identifies the specific instances for
determining a long position. 17 CFR 240. 3b-3.
25 See the Fifth Annual Report of the Securities and Exchange Commission, Fiscal Year Ended June 30, 1939,
United States Government Printing Office, Washington, available at
http://www.sechistorical.org/collection/papers/1930/1939_SEC_AR.pdf
26 See, e.g., Letter re: SPDRs (January 27, 1993); Letter re: MidCap SPDRs (April 21. 1995); Letter re: Select Sector
SPDRs (December 14, 1998); Letter re: Units of the Nasdaq-100 Trust (March 3, 1999); Letter re: ETFs (August 17,
2001) (class letter).
Prepared by the Office of Economic Analysis 13