Tuesday, April 27, 2010


In olden days a short sale could only be executed at a price that was higher than the previous price for the security, or at the same price if the price before had been an "uptick." Reg SHO now requires that before executing a short sale, broker-dealers have to locate the securities so that the laws of supply and demand are not distorted by "naked short selling" in which people sell stock that doesn't even exist short, artificially depressing its price. If the broker-dealer executes a short sale without reasonably believing the shares can be delivered by the lender, they have violated the rule.

In May 2010 Reg SHO is being updated to impose a temporary version of the old uptick rule that applies when a "circuit breaker" is tripped for a particular security. Starting in May, if a security drops during the day by 10% or more below its most recent closing price, short sellers will not be able to sell short at or below the current best bid price for the security. In other words, people “selling long,” which means selling the shares they own, will have priority and will be able to liquidate their holdings before short sellers can jump onto the pile. As the SEC states in their unique brand of English: a targeted short sale price test restriction will apply the alternative uptick rule for the remainder of the day and the following day if the price of an individual security declines intra-day by 10% or more from the prior day’s closing price for that security. By not allowing short sellers to sell at or below the current national best bid while the circuit breaker is in effect, the short sale price test restriction in Rule 201 will allow long sellers, who will be able to sell at the bid, to sell first in a declining market for a particular security. As the Commission has noted previously in connection with short sale price test restrictions, a goal of such restrictions is to allow long sellers to sell first in a declining market. In addition, by making such bids accessible only by long sellers when a security’s price is undergoing significant downward price pressure, Rule 201 will help to facilitate and maintain stability in the markets and help ensure that they function efficiently. It will also help restore investor confidence during times of substantial uncertainty because, once the circuit breaker has been triggered for a particular security, long sellers will have preferred access to bids for the security, and the security’s continued price decline will more likely be due to long selling and the underlying fundamentals of the issuer, rather than to other factors.

Friday, April 23, 2010

Painful Options Question

As I was saying in today's Friday Free Broadcast, the Series 7 questions on options will often not involve calculations. For many people, questions similar to the one below are among the most difficult because they force the test taker to really know how options work:

Which of the following option series trades at the highest premium?
A. ABC Apr 30 put
B. ABC Apr 40 put
C. ABC May 45 put
D. ABC Jun 45 put

Okay, it seems there may be information missing. Unfortunately, there isn't. No stock price provided in the question? There's your clue--it can't matter what the stock price is. The test is hard, but it's not a rigged game. If the stock price were required to answer the question, it would be provided. It wasn't provided, so it doesn't matter. Why doesn't it matter? Because puts with higher strike prices are worth more money, period. No matter where the stock is right now, the right to sell it for $45 is worth more than the right to sell it for $40 or $30. So, the answer has to be the May 45 put or the Jun 45 put. Which one gives the buyer more time to win? The Jun 45 put. That's the one that's worth the most.


Wednesday, April 21, 2010


Just a quick word on how we handle comments at this blog. If you have a question related to the exam, I publish your comment and usually respond to it. As long as it helps the other blog visitors to prepare for their exams, and as long as you refrain from profanity and insults, I publish it immediately.

On the other hand, if you think this blog is your format for ranting, insulting, and generally making a fool of yourself, while financial services professionals are spending their valuable time studying for their license exams, think again. Or, go ahead and vent with your head down until the foam covers your keyboard. Either way, you won't be seeing your words published at this blog. There are millions of outlets for you in the blogosphere, but we have no room and no time for such foolishness here.

Thanks, and we appreciate your cooperation in advance.

Friday, April 16, 2010

Every little thing

I've passed my Series 65 exam within the past two years, so if I wanted to I could register as an investment adviser. I have no criminal or disciplinary activity in my past, so I would definitely be granted a license by the State of Illinois Securities Department to start telling people what to do with their money or managing their brokerage accounts in exchange for a percentage of assets. But, unfortunately, my record-keeping skills are atrocious. I'm always getting notices from the IL Dept. of Revenue about late filings, penalties, and interest. I'll print my monthly account statement for the Roth IRA but inexplicably forget to print statements for the SIMPLE IRA. So, I stink at keeping records, and record keeping is a big deal for both advisers and broker-dealers. On Friday mornings, I usually go to the FINRA website and see what kind of rule violations are going on in the industry. For the firms, it's usually a lack of good record-keeping that gets them in trouble. They fail to report trades to TRACE (corporate bonds), or they submit reports that are inaccurate. Every little thing has to be perfect, as AXA Advisors discovered recently, according to this disciplinary action summary I'm reading right now. Apparently, on a few trades in municipal securities, the firm reported to the RTRS system that they had acted in a "principal" capacity, when, in reality, they had acted in an "agency" capacity. This, of course, also caused the firm to deliver customer trade confirmations that were inaccurate. Penalty? $20,000 fine.
Geeze. If you read the summary, you'll notice that AXA didn't bother to argue--they used AWC (acceptance, waiver, and consent) to settle the matter. On the other hand, I saw that in another case, the respondents appealed the NAC decision to the SEC, and are now appealing the SEC decision to the federal appellate courts.
However, we can only have so much fun with one blog post, and it's time for me to head to the office pretty soon, anyway.

Monday, April 12, 2010

Ending My Margin Adventure

So my margin account adventure ended with a wimper, not a bang. I just logged into my TD Ameritrade account and saw that the "margin balance," or what the exam calls the "debit register" or "debit balance," is at zero. After selling the 90 shares of HSP (Hospira) for $4,723 on March 1, the "DR" or "margin balance" sat stubbornly at eight or nine dollars, increasing gradually with the margin interest charges. Too lazy to deposit money into the account, I just waited for the next dividend payment to come in, and on April 1 and April 7 three little dividends came in--$5.60, $5.50, and $7.60--from Northern Trust, Bancorp South, and Merck, respectively. They're all marked "qualified dividends," which means that--until and unless Congress and the President (fiscal policy) take the kinder, gentler tax rate of 15% away--those little payments are darned tax efficient, even if this is just a taxable brokerage account. Your exam calls this type of investment account a "margin account," but that just means it's approved for margin. IF I want or need to, I can purchase securities on margin or borrow money against the value of my stock and bond assets. However, I have never bought securities "on margin," and I have only taken one margin loan against "SMA."
So, what did I learn from my 10-month adventure in margin?

  1. Being forced to sell stock to pay the margin loan is really stupid. Those 90 shares of Hospira that I sold to pay off the loan would have generated $1,000 in dividends over my holding period and possibly increased in value by 50-100%.
  2. The real world uses different terminology than the Series 7, but the concepts are exactly the same as what you study for your exam. My account doesn't use the term "SMA," or "debit balance," but you quickly get used to the terms "available funds for trading" and "margin balance."
  3. I will never use margin again.

My adventure was highly educational, and the $4,000 loan was totally necessary when I took it. But, if you see me blogging about another adventure in margin, please remind me that I no longer engage in that sort of foolishness.

I could borrow $4,790.72 from "SMA" right now with just a few clicks of the mouse, but I won't do it. Just like I won't walk down to the liquor store at the end of the block this evening. Nothing illegal about either activity, but as someone who has experienced both destructive pursuits, I can say with confidence that I'm better off without it.