Short Sale Fail in a Threshold Security
A customer of an introducing broker has been short 42,000 shares of NVTX, a threshold security, since a sale executed Monday, April 7. The clearing firm reports the position has failed to deliver at the NSCC since the April 9 settlement date, and the fail has now persisted through twelve consecutive settlement days. The customer, whose account holds $600,000 of equity, calls the operations desk and asks the firm to "wait until the price comes back" before buying in. The desk also has three new retail short orders in NVTX queued for execution, and the clearing firm says no borrow is currently available.
1. Is a close-out required, and what is the deadline and responsible party?
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Yes. NVTX is a threshold security and the fail has persisted through 12 consecutive settlement days. Under Reg SHO Rule 204(b), the clearing participant must close out the fail by the beginning of regular trading on the 13th consecutive settlement day after the trade date. With 12 settlement days elapsed, that deadline is the next trading session. The introducing broker must promptly instruct and cooperate with the clearing firm; the clearing firm executes the buy-in or borrow. The absence of an available borrow does not suspend the obligation, so the desk should escalate to senior operations and be prepared to buy in the open market.
2. Can the desk honor the customer's request to wait? Explain.
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No. The close-out obligation is regulatory and cannot be waived by customer instruction. The desk should document the call and the customer's request, inform the customer in writing that the firm must act by the deadline, and not let the request delay the buy-in. The customer's $600,000 equity is irrelevant to the close-out analysis; the risk is that a delay violates Reg SHO and exposes the firm to regulatory and counterparty liability.
3. How should the queued short orders be handled?
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They should be rejected or held, not executed. For a threshold security, Rule 203(b)(3) requires the firm to have borrowed the shares or arranged to borrow before accepting a short sale. With no locate available, the orders cannot be executed. The desk should document the locate attempts and must not use customer long shares to satisfy the locate without proper authorization.