Locate Requirement

Before executing a short sale, a firm must:

1. A.Wait for an uptick onlyA tick test is a condition on the price at which a short sale may print, not a condition on securing the shares. It is not the general pre-trade obligation, and in any case it addresses a different concern from the one the locate requirement was written to solve.
2. B.Own the shares alreadyIf the customer already owned the shares the trade would be a long sale, not a short sale. Selling stock one does not own is the defining feature here, and that is precisely why arrangements to borrow must be made.
3. C.Locate/borrow the shares to deliverCorrect - locate before shorting.
4. D.Get SEC approvalThe SEC writes rules; it does not sign off on individual orders. The duty falls on the firm, which must satisfy itself before execution that the security can be borrowed and delivered.

Why: Under the locate requirement, the firm must have reasonable grounds to believe the security can be borrowed and delivered.

A market maker engaged in bona fide market making activity in a security enters a short sale as part of that activity. Does the market maker automatically bypass Regulation SHO's locate requirement simply because it is acting as a market maker?

1. A.Yes, but only for market makers in exchange-listed securitiesWrong. This invents a distinction based on listing status that is not the relevant basis for how market making provisions apply.
2. B.Yes, bona fide market makers are entirely exempt from all Regulation SHO requirementsWrong. This overstates the exemption; market maker status does not eliminate all locate-related obligations without confirming how specific provisions apply.
3. C.Not automatically -- the principal must confirm how the specific activity and applicable provisions actually apply, rather than assume a blanket exemptionCorrect. Market maker status is relevant to certain Reg SHO provisions but does not automatically eliminate all locate-related obligations without confirmation.
4. D.No, market makers are subject to identical locate requirements as any other short seller in every respectWrong. This overstates the opposite extreme; Reg SHO does include provisions specifically relevant to bona fide market making that must be properly applied.

Why: Not automatically. While Regulation SHO includes certain provisions relevant to bona fide market making activity, the principal cannot assume market maker status alone eliminates all locate-related obligations without confirming how the specific activity and applicable provisions actually apply.

A trader tells his principal that he did not contact any specific lender before entering a short sale order, reasoning that the security is generally very liquid and he assumed a borrow would obviously be available. What must the principal explain about this reasoning?

1. A.A general assumption based on the security's overall liquidity, without any actual inquiry to a source, does not satisfy the requirement to affirmatively determine borrow availability.Correct. An affirmative determination requires an actual inquiry, not a general liquidity assumption.
2. B.The reasoning is adequate, since highly liquid securities are exempt from the locate requirement entirely.Wrong. General liquidity does not exempt a security from the locate requirement.
3. C.The reasoning is adequate as long as the security has never previously had a fail to deliver.Wrong. A clean fail history doesn't substitute for the required affirmative determination on this specific order.
4. D.The reasoning is adequate as long as the trader documents his assumption in the order ticket.Wrong. Documenting an assumption doesn't transform it into the required affirmative determination based on an actual inquiry.

Why: The locate requirement calls for an affirmative determination, based on reasonable grounds, that the security is available to borrow for settlement; a general assumption based on a security's overall liquidity, without any actual inquiry to a source, does not satisfy that affirmative determination requirement.

A registered representative at Fictional Bridge Securities takes a customer order to sell short 500 shares of a NASDAQ-listed stock the customer does not currently own. Before the firm may accept and execute this order, what does Regulation SHO require?

1. A.Confirm that the customer holds an equivalent long position in a related security before accepting the order.Wrong. Holding a related long position does not substitute for a locate; the locate requirement applies specifically to the security being sold short, regardless of other positions in the account.
2. B.Obtain a locate, reasonable grounds to believe the security can be borrowed and delivered by settlement, and be able to document it.Correct. Regulation SHO requires this locate before the short sale order is accepted or executed, and the firm must be able to show how the locate was satisfied.
3. C.Wait until the security appears on the threshold securities list before accepting the order.Wrong. Threshold securities list status reflects an existing pattern of unresolved fails; it is a consequence that can follow inadequate locates, not a precondition the firm should wait for.
4. D.File a short interest report with FINRA reflecting the new short position before execution.Wrong. Short interest reporting is a periodic, aggregate obligation reported after settlement, not a pre-trade condition tied to an individual order.

Why: Regulation SHO's locate requirement obligates a broker-dealer to have reasonable grounds to believe that the security can be borrowed and delivered by the scheduled settlement date before accepting or effecting a short sale order. The firm's stock loan or trading desk typically satisfies this by checking an easy-to-borrow list or contacting a lending source directly, and the firm must be able to document that the locate was obtained. This is a pre-trade obligation tied to the specific order, distinct from the firm's periodic short interest reporting or its handling of aged fails-to-deliver. A short sale accepted without a documented locate violates the rule even if the trade later settles without incident.