In a previous post I named various places where unsettled trades can accumulate: in the desks of brokers, in pre-netting among brokers, in the Continuous Net Settlement (CNS) system, in the Stock Borrow Program (SBP), through ex-clearing, and in delivery mechanisms from offshore exchanges. For all I know, these represent just a subset of the cracks in the system. The great unanswered question is, How much financial toxic waste has naked short selling and its various equivalents left scattered throughout these cracks?
The answer is: I don’t know, and I think no one knows. I suspect no one agent has the full picture of what is going on across all of these cracks. In fact, I suspect some of these cracks are so obscure no one has a clear picture of what is going on in them individually, let alone collectively.
To some degree this is knowable a priori. We have a system that is shielded from scrutiny of every type. State regulators cannot successfully subpoena it (as various state regulators have told me) because the DTCC argues it is shielded by federal regulation. Yet when Feds try to look inside it they are simply rebuffed, and are helpless to assert themselves (as a high-level SEC official told some colleagues of mine). The Feds do not understand it (as a former DTCC employee and various Feds have told me). On those occasions that the Feds do get to look inside the system, they get shined-on (as a former DTCC official tells me and a former SEC official confirms). In fact, four years ago when I began this quest, the first thing I tried to do was to find out who regulated the DTCC, and quickly discovered that, other than a brief mention in an obscure GAO report, even the Feds are not sure if they regulate it. And yet, through this opaque system the treasure of the ages passes every week. Such system-design is a recipe for disaster.
To a lesser degree this is knowable a posteriori, though getting data about the system from the system is an exercise in Kafkaesque futility. There are endless anecdotes of trades that won’t settle, of course. There is also the partial information expressed by the Reg SHO list. There are various FOIA responses which have been pried from the SEC. And for the true aficionados, there are, lately, data files that the SEC periodically releases to the public regarding failures in one of the cracks mentioned, the CNS. Making use of these files is impractical for any members of the general public who do not employ an economist, statistician, and database expert to work the data.
Fortunately, DeepCapture employs an economist, a statistician, and a database expert to work the data. In the following series of posts I am going to reveal their output, stressing again that the failures I will be disclosing are not the totality of failures, but simply a fraction of the total, residing in just one of the cracks (the CNS) into which our federal regulator is permitted to peer.
Here is a chart showing the CNS failures from 2004, the year Reg SHO was adopted, through Q1, 2008:
Here is the same data with some key Reg SHO dates noted:
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