The rule changes proposed by the SEC for selling stocks short are meant to curtail “naked” short selling, selling stock short without locating a borrow. They tighten up procedure between lender and borrower through broker dealers. For example, in the past a short seller would sell stock and then call the broker for a “locate," a stock available at the dealer to borrow. And even if he called first and the dealer had no “available locate” at the current time, the dealer probably told the seller to go ahead knowing that the locate would come at some point.

It's still not clear how to interpret the new procedure, but it looks like now “the locate” must be currently in the box. This is going to raise the cost of borrowing. In other words, the rebate rate credit to the short sellers account (the interest they earn on the cash they generate by selling the stock) will be less.

In general this will cause those making markets in options, convertible bonds, CDS, and other derivatives where short stock is used to hedge to need better prices. In general, liquidity will go down.

And strangely the SEC chose to start this program with a group of 19 stocks, all financials, that seem especially important to the financial system. They are:
 

• BNP Paribas (BNPQF) (BNPQY)
• Bank of America (BAC)
• Barclays (BCS)
• Citigroup (C)
• Credit Suisse (CS)
• Daiwa Securities (DSECY)
• Deutsche Bank (DB)
• Allianz SE (AZ)
• Goldman Sachs (GS)
• Royal Banks (RBS)
• HSBC Holdings (HBC) (HSI)
• JPMorgan Chase (JPM)
• Lehman Brothers (LEH)
• Merrill Lynch (MER)
• Mizuho (MFG)
• Morgan Stanley (MS)
• UBS (UBS)
• Freddie Mac (FRE)
• Fannie Mae (FNM)

These companies need their stock prices up so they can sell stock and raise capital. I can tell you that today every “market maker” is a little shy about selling this group of stocks short today until all these things are clarified.
 

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