SEC Approves New Short Sale Price Test

February 24, 2010

At an open meeting on February 24, 2010, the Securities and Exchange Commission adopted a new short sale price test by a 3-2 vote.  Commissioners Casey and Paredes opposed the rule in forceful, articulate statements that the rule is not necessary based on any empirical analysis, is not properly formulated to address real problems in the market, and does not meet the goals of fostering investor confidence in the fairness of the markets.


The new Rule 201 will restrict short selling only when a stock price has triggered a circuit breaker by falling at least 10 percent in one day.  At that point, non-exempt short sale orders could be displayed or executed only if the order price is above the current national best bid.


Rule 201 will include the following key features:

  • Short Sale-Related Circuit Breaker:  The circuit breaker will be triggered for a stock any day in which the price declines by 10 percent or more from the prior day's closing price.
  • Duration of Price Test Restriction:  Once the circuit breaker has been triggered, the restriction will apply to short sale orders in that stock for the remainder of the day as well as the following day.
  • Securities Covered by Price Test Restriction:  The rule generally will apply to all NMS stocks, which are equity securities listed on a national securities exchange, whether traded on an exchange or in the over-the-counter market.
  • Alternative Uptick Rule:  Once the trigger is hit, trading centers must apply policies and procedures reasonably designed to prevent non-exempt short sale orders from being displayed or executed at or below the national best bid price.
    • This is more restrictive than the prior uptick rules and would allow only passive short selling.  Short sellers cannot actively take liquidity, allowing only long sellers to sell into the bid while the restriction is in place.
    • Short sale orders may be displayed one quotation increment above the bid.  The quotation increment is governed by Rule 612 of Regulation NMS.
    • The rule only applies while the consolidated tape is open, currently as much as 4 a.m. until 8 p.m. ET.
    • The rule does not apply to short sales executed in bona fide foreign markets.
  • Exemptions:
    • The rule does not provide an exemption for market makers, derivatives market makers, or hedging transactions.
    • The rule provides a new exemption for orders sent subject to policies and procedures reasonably designed to assure that the order was priced above the bid at the time it was sent.
    • The rule includes certain exemptions that were part of former Rule
      10a-1: securities sold subject to delayed delivery, odd-lot sales, domestic and foreign arbitrage sales, riskless principal transactions, sales resulting from overallotments and VWAP trades.
  • Short Exempt Marking Rule:  The new rule will provide a short exempt marking requirement to facilitate the use of exemptions from the rule.

The release will call for monitoring and a study of the effect of the rule on options market makers.


The new rule will be effective 60 days after the publication of the release in the Federal Register and will have a six month implementation period.


We will issue a more detailed analysis of the rule when the release becomes available.


If you have questions regarding this newsflash, please contact any of the lawyers listed below or your regular Davis Polk contact.

Daniel N. Budofsky212 450
Annette L. Nazareth 202 962 7075
Lanny A. Schwartz212 450
Gerard Citera212 450
Robert L.D. Colby202 962
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