Wachtell Vs Shorts Clean

September 16, 2008 Today the SEC Must Step Up It has been just over one month since the SEC allowed its Emergency Order to lapse without putting in place an alternative means to address heightened market volatility and illegal short selling practices. This was a huge mistake. Under the Emergency Order, traders were not able to short a security without borrowing shares or entering into “bona fide” agree­ ments to borrow them. In today’s markets, short sales continue to be at record levels, there are false rumors in the marketplace about the demise of financial firms, bear raids and abusive short selling are taking place, and there is significant disruption in the fair and orderly functioning of the securities markets. The markets are in a crisis. Immediate bold measures by the SEC today are needed to constrain the abusive short selling and rumor mongering, to dampen volatility and to restore confidence in the markets. As the Federal Reserve Board and Treasury Department have done, the SEC must act now to en­ sure the stability and integrity of the markets. First, the SEC should heed market participants’ calls to immediately re-impose under its emergency powers the “Uptick Rule” (see our memos of July 1, 14 and 16). The Uptick Rule was effective for over 70 years in addressing abusive short selling and manipulative conduct. The decision to eliminate the Uptick Rule, after a pilot pro­ gram, was prompted by the SEC’s view that market changes had rendered the Rule less effective. The limitations of the SEC’s pilot program, which was conducted in a period of a rising market and unusually low volatility, are painfully clear. The risks associated with unrestricted short sell­ ing in these periods of high volatility and large market declines were necessarily beyond the pi­ lot’s scope. Second, the SEC must today adopt a market-wide rule similar to the Emergency Order that recently lapsed. This was an effective measure to temper heightened market volatility and address abusive and manipulative short selling and should be reinstituted. In July, the SEC announced that it, FINRA and NYSE Regulation would immedi­ ately begin examinations of broker-dealer and investment adviser supervisory and compliance controls, with the goal of stemming the spread of false rumors intended to manipulate security prices. Shockingly, nothing further has been heard from the securities regulators. The SEC should promptly issue a public report of the results of those examinations and provide clarity on the extent to which abusive and manipulative short selling and spreading of false rumors is tak­ ing place (see our memos dated July 1, 14 and 16). Moreover, the SEC should promptly bring enforcement actions against those who are engaged in abusive and manipulative short selling. All these measures are vital to any attempt to maintain investor confidence in the fairness and integrity of the markets. It is a time for action. Edward D. Herlihy Theodore A. Levine

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September 17, 2008 Too Little Too Late The SEC today announced three actions addressing short selling. Its actions are too little too late. First, the SEC adopted a rule requiring short sellers and their broker-dealers to deliver securities by the settlement date (three days after the transaction date) and imposing penalties for failure to do so. In addition, the SEC eliminated the option market-maker exception to the three day delivery requirement. Finally, the SEC adopted a new anti-fraud provision making it unlawful for sellers to deceive specified persons about their ability or intention to deliver securities by the settlement date. This last rule is not necessary and will not help eliminate abusive short selling practices. The measures adopted by the SEC today fall far short of the type of bold measures needed to constrain the abusive short selling and rumor mongering taking place. The securities markets continue to be in a crisis and there continues to be a significant disruption to their fair and orderly functioning. As we have previously said, the SEC should immediately re-impose, under its emergency powers, the “Uptick Rule.” In addition, the SEC must now consider other very strong measures such as using its emergency powers to place limitations on short sales for a period of time to restore a fair and orderly market. Also, it is essential for the SEC to scrutinize short sellers and their related transactions, including options and credit default swaps to determine whether these strategies are contributing to the severe dislocations taking place in the marketplace. Finally, the SEC should promptly make public the results of their examinations of the short selling activities and take immediate enforcement action against those who are engaging in this abusive manipulative conduct. Time is of the essence and the SEC must act now.

Edward D. Herlihy Theodore A. Levine

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September 18, 2008 Bold SEC Action is Needed Last evening, the SEC announced two initiatives to address short selling abuses. First, Chairman Cox announced that he was asking the SEC, on an emergency basis, to adopt a new disclosure rule that would require hedge funds and other large investors to disclose their short positions in order to provide transparency in short selling. Specifically, managers with more than $100 million invested in securities would be required to promptly begin public reporting of their daily short positions. The SEC also announced that its Enforcement Division would be subpoenaing from “significant hedge funds and other institutional traders” information, including e-mails, concerning their past trading positions in specific securities. The SEC most recent announcements, while important steps, do not go nearly far enough. Immediate and stronger SEC action is necessary. The SEC needs to consider the following measures: •

The SEC should use its emergency powers to halt short selling in the securities of financial services firms and banks for a 90-day period. This action is consistent with the action taken by the FSA today. The SEC needs to do this now. The FSA announced that it is prohibiting the “active creation or increase of any short positions” in publicly quoted financial companies from this evening until January 16, 2009 (although the ban will be reviewed after 30 days). The FSA also announced that a complete review of the rules on short selling will be published in January, 2009. Hector Sants, chief executive of the FSA, said: “While we still regard short-selling as a legitimate investment technique in normal market conditions, the current extreme circumstances have given rise to disorderly markets. As a result, we have taken this decisive action, after careful consideration, to protect the fundamental integrity and quality of markets and to guard against further instability in the financial sector.”

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The new disclosure rule the SEC is considering should be modeled after Regulation 13D and should issue the rule immediately. It should require hedge funds and other institutional investors to publicly report their daily short positions if those positions exceed ¼ of 1% of the outstanding shares of a public company and should also disclose publicly whether the short sellers have any oral or written contract, arrangement, understanding or relationship (legal or otherwise) with respect to those securities. The short sellers also should be required to report to the SEC on a next-day basis if they fail to deliver securities by settlement date.

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It has been publicly reported that California Public Employees' Retirement System (CalPERS) will no longer lend shares of Goldman Sachs and Morgan Stanley. CalPERS stated that “[w]e don’t want to inadvertently contribute to the instability of these companies or the market.” The SEC should undertake a voluntary initiative among lenders of securities pursuant to which the lenders would agree for 90 days not to lend securities of any financial services firms or banks.

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The SEC, in cooperation with the Federal Reserve Board, the FSA and the Treasury Department, should undertake a 60-day comprehensive review of the credit default swap market in order to determine what rules and regulations are needed and whether there has been any improper or violative conduct by those engaged in CDS transactions. In this market crisis, it is unacceptable that there is no regulatory structure to oversee the extraordinarily important CDS market sector. At the same time, the International Swap and Derivatives Association should seek to have its members voluntarily forebear from writing any new CDS’s except if they own the underlying security.

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As we have previously suggested, the SEC, under its emergency powers, should immediately re-impose the “Uptick Rule”.

Consideration of these additional steps are vital to restoring investor confidence in the fairness and integrity of the markets and to address the crisis of confidence that now exists. Edward D. Herlihy Theodore A. Levine Carmen Woo

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September 22, 2008 Inter-Governmental Review of CDS Market and Permanent Solutions Are Required Emergency Orders The SEC late last week and over the weekend issued Emergency Orders (1) prohibiting short selling of any publicly traded securities of certain financial institutions selected by the listing markets, except in certain limited circumstances, (2) requiring institutional investment managers to disclose by filing Form SH with the SEC their short positions if certain thresholds are met (which filing will initially be non-public but will be made public two weeks after its filing date), and (3) easing restrictions on the ability of securities issuers to repurchase their securities by altering certain conditions of the Rule 10b-18 safe harbor. All these Orders will terminate on October 2, 2008 unless extended. The Order prohibiting short selling in securities of specified financial institutions has limited exceptions, including an exemption for market makers, which initially expired last Friday, when selling short as part of their market making and hedging activities related directly to market making in derivatives, exchange traded funds and exchange traded notes. As originally written, market makers could create a synthetic short position using the exemption by establishing derivatives with short exposure to the securities of the specified financial institutions and hedging their exposure by shorting the underlying stock. Yesterday, the SEC amended the Order to extend the exemption for the life of the Order but addressed the potential loophole by providing that the exemption does not apply to market makers who know that a derivative transaction will result in the customer or counterparty of such transaction establishing or increasing an economic net short position in the issued share capital of a specified financial institution. The new disclosure requirements have a significant gap that the SEC should address immediately. Under the Emergency Order, an institutional investment manager with significant short positions can avoid the disclosure requirements by holding less than $100 million of Section 13(f) securities. The SEC should require all institutional investment managers to publicly report on their short positions unless a short position has fair market value of less than $1 million and constitutes less than one quarter of 1% of the outstanding shares of the issuer. Next Steps We believe that a critical next step is for the Federal Reserve Board, the Treasury Department, the SEC and the CFTC to undertake on an urgent basis a 30-day comprehensive review of the credit default swap market. It is indefensible that the CDS market, with trillions of dollars of notional value, has virtually no regulatory oversight. The CDS market has experienced exponential growth over the last several years without transparency and other structures normally present in such a market. The CDS market is being used by speculative traders to purchase CDS protection relating to the debt of an issuer even though they have no risk of loss in connection with a credit default by such issuer. Why should we allow these CDS speculators to bet against the future of American business? Due to the limited transparency and other factors in the CDS market, speculators can affect the CDS market by quickly purchasing small amounts of CDS If your address changes or if you do not wish to continue receiving these memos, please send an e-mail to [email protected] or call 212-403-1487.

protection to drive up the spreads of such CDSs, thereby sending a misleading signal to the marketplace that the credit default risk of an issuer has increased. At the same time, the traders either have or establish a short position on the common stock of the issuer. These trading activities may drive down the prices of the securities of that issuer. We urge that a 30-day review be undertaken immediately and the results of such review be publicly issued, along with recommendations for comprehensive changes to address the problems and issues identified in the review. In addition, the SEC needs to find a more permanent, market-wide solution to constrain the abusive short selling, market manipulation and rumor-mongering that have adversely affected the markets. The SEC should consider the following: •

As we have previously suggested, the SEC should re-impose the “Uptick Rule” on a temporary basis (see our memos of July 1, August 14 and September 17, 2008).

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The SEC should adopt a permanent disclosure rule which would require public disclosures of any oral or written contract, arrangement, understanding or relationship (legal or otherwise) with respect to short positions in securities in addition to the information required by Form SH. The SEC should consider expanding its disclosure requirements to include disclosures of any CDS contracts and option transactions that are based on issuers with securities in which the institutional investment manager also has short positions.

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It has been publicly reported that California Public Employees’ Retirement System (CalPERS), the asset management division of Bank of America, and the New York and New Jersey state pension funds have stopped lending shares of certain financial companies to short sellers. We urge the SEC to encourage a voluntary initiative among lenders of securities pursuant to which the lenders would agree for 90 days not to lend securities of any financial services firms or banks.  The SEC’s Investment Management Division should also examine whether there is a potential conflict of interest for a mutual fund or a pension fund to lend securities to a short seller when the results of the short seller’s trading may adversely affect the NAV of the mutual fund or the value of the pension fund’s portfolio.

As we have previously noted, the SEC must promptly complete its ongoing investigations into abusive and manipulative short selling and the spread of false rumors, bring enforcement actions against those who have engaged in such practices, and issue a public report of its findings. Edward D. Herlihy Theodore A. Levine Carmen Woo

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November 20, 2008 Reinstate the “Uptick Rule” The worldwide securities and credit markets continue to experience unprecedented meltdowns and volatility. Millions of investors are losing their life savings and retirement assets. There continues to be widespread manipulative short selling and bear raids. The investing public is losing confidence in the integrity of our markets. For the past 5 months, we have called on the SEC to reinstate the “Uptick Rule” which helps limit downward spirals by allowing a stock to be sold short only after a rise from its immediately prior price. Despite widespread market participants’ calls to do so, the SEC has failed to act. The SEC must reinstate the Uptick Rule now to address the short selling, bear raids, and the spreading of false rumors. Nearly all the reasons that the SEC gave for repealing the Uptick Rule in July 2007 are not valid in today’s turbulent markets. In fact, the very same conditions that led to the adoption of the Rule in 1938 exist today. Historically, the SEC has placed a leadership role during market crises to assure that the markets are fair and orderly. The SEC has not hesitated in the past to be creative and innovative in protecting the securities markets and the financial intermediaries from manipulative conduct. Decisive action cannot await the appointment of a new SEC Chairman. The SEC must take a leadership role in restoring investor confidence. It is long overdue. The SEC and Chairman Cox must act now. There is no tomorrow. The failure to reinstate the Uptick Rule is not acceptable.

Edward D. Herlihy Theodore A. Levine

If your address changes or if you do not wish to continue receiving these memos, please send an e-mail to [email protected] or call 212-403-1476.