Regulatory Corner & J.P. Morgan in the News

CESR (Committee of European Securities Regulators) published its consultation paper for a Pan-European Short Selling Disclosure Regime. CESR proposed a two tier disclosure system involving a mixture of private and public disclosures based on the net short position. If the proposal is adopted, once a net short position reaches a specified first trigger, it would need to disclose the position to the relevant regulator. If the short then reached a second higher threshold, an additional obligation to make a public disclosure would be required. The deadline for comments was September 30, 2009.

This is seen as positive news for the harmonization of short-selling regulations throughout Europe; however, there is industry concern about the threshold levels and the requirement for public disclosure. During the third quarter, some markets relaxed regulations (e.g., Italy and the Netherlands), but others extended the short-selling bans (e.g., Austria and Japan). At a CESR conference held in Paris on September 9 and attended by the chairman of ISLA, CESR used the open forum to solicit opinions on its consultation paper and recognized the need for more consistent regulation.

Regulation SHO defines ownership of securities, specifies aggregation of long and short positions, and requires broker-dealers to mark sales in all equity securities "long," "short," or "short exempt." On July 27, 2009, the Securities and Exchange Commission took several actions relating to short selling in anticipation of the expiration of interim final temporary Rules 10a-3T under the Securities Exchange Act of 1934 and Rule 204T of Regulation SHO. The most significant development is that, after July 31, 2009, institutional investment managers were no longer required to report information on short sales or short positions to the SEC.

The SEC made permanent the temporary rule, Rule 204T, that restricts "naked" short selling in the securities market. Rule 204, requires broker-dealers to promptly purchase or borrow securities to deliver on short and long sales. The rule has resulted in a significant reduction in the amount of fails in the market. The temporary rule, approved by the SEC in October 2008, was set to expire on July 31 2009.

The Securities and Exchange Commission is extending the public comment period for possible approaches to better control short selling and may be leaning toward one of the two main alternatives being considered. The SEC said it was extending the period to gather views on allowing short sellers to come in only at a price above the highest current bid for the stock. Known as an upbid rule, the rule most closely resembles the Depression-era uptick rule that was abolished in mid-2007. The SEC commissioners are expected to make a final decision later this year.

On September 29 and 30, 2009, the Securities and Exchange Commission held a roundtable on various issues relating to securities lending, as well as short selling, including possible requirements to pre-borrow securities prior to short sales, and additional short sale disclosures. Roundtable participants included representatives from broker-dealers, corporate issuers, beneficial owner lenders, lending agents, borrowers of securities, self-regulatory organizations, international regulators and the academic community, as well as the Chairman of the Commission and several of the other Commissioners. A significant portion of the roundtable discussions were devoted to education about how the securities lending markets function and the role each of the participants plays in transactions. Major topics included cash collateral investment, proxy voting, the possibility of taking equities as collateral in the U.S., the potential benefits of using a central counterparty in the securities lending market, and the question of whether additional regulations around short selling (uptick rule, circuit breaker, etc.) would be beneficial or harmful with regard to the smooth and fair functioning of the markets. No conclusions about rule making were reached during the discussions but given the fact that the Commissioners were in attendance for the entire sessions suggests that there is a reasonable chance some rules and/or legislation will be forthcoming. J.P. Morgan was present at the roundtable and will continue to be an active participant with regulators as these issues are discussed, and we will continue to keep you updated on relevant topics.

In July, we announced the release and implementation of the Securities Lending Dashboard. Transparency and customization are essential to the management and oversight of a securities lending program. The Dashboard builds upon our existing suite of securities lending reports and allows customers to view all key and critical aspects of their securities lending activities in a single view. Customers may also customize the standard functionality to meet unique reporting needs. The Dashboard will facilitate easy access to reports, account alerts, messages and more. For more information or assistance with functionality, please contact your J.P. Morgan relationship manager.

In September, we announced the formation of the Prime-Custody Solutions Group, a team responsible for delivering the firm's integrated prime brokerage and custody platform to clients. The unit will serve hedge funds and asset managers seeking a combination of prime brokerage capabilities and securities services. Challenging market conditions have underscored the importance of partnering with a prime brokerage that can safeguard assets in a separate depository. Our creation of the Prime-Custody Solutions Group comes at a time when hedge funds are launching long-only funds and seeking structures that allow them to house certain assets with custodians, while traditional asset managers are executing long/short strategies that require financing through a prime broker. Among other benefits, our integrated approach is designed to streamline client onboarding, improve execution and collateral management, reduce financing costs, and consolidate reporting.