Naked shorting was sold to the public as a CONSPIRACY THEORY.
It was not.
It became a way to grind companies down and cover up POOR RISK MANAGEMENT.
The mechanics live in MARKET STRUCTURE: locates that never become real shares, fails that linger, and selling that outruns actual SUPPLY.
Regulation SHO was written to stop that. A short sale is supposed to start with a LOCATE. The seller is supposed to borrow, or have reasonable grounds to believe the shares can be delivered. Failures to deliver are supposed to be CLOSED OUT.
Market makers were given an EXEMPTION for bona fide market making. That exemption is the opening. It lets them sell first and source later. Leaving their short "naked". In practice, “later” can become NEVER.
Once that advantage is in place, price can be pressed by selling more CLAIMS than the company issued. The count on the tape stops matching the count at the TRANSFER AGENT.
Brokers are paid to send household orders in bulk to those market makers. That is PAYMENT FOR ORDER FLOW. The UK, Canada, and Australia banned it, and the EU is phasing it out, because the router is no longer working only for the CUSTOMER.
Buy orders are often internalized or sent through DARK POOLS. Sell orders are more likely to hit the lit market. The public tape can show SELLING PRESSURE even when buying is stronger.
WRAPPED TOKENS made the locate problem worse. One token was treated as one share and used as a locate. In cases that later blew up, those tokens were not backed by the shares they claimed to represent. The inventory was PAPER.
That is how SECURITIES SOLD, NOT YET PURCHASED can run into the HUNDREDS OF BILLIONS across just a handful of firms. The trade is booked. Delivery is deferred. RISK sits off to the side until it can’t.
Some of the firms that ran that book already FAILED. Overleverage does not stay theoretical forever.
The usual story after that is that HOUSEHOLD INVESTORS caused the damage. That story is useful. It points away from selling what was not secured, then using routing, exemptions, dark venues, and wrapped inventory to keep the position ALIVE.
This is not one ticker. It is a PLUMBING issue. Any name with thin real float, heavy synthetic supply, and persistent fails can be run the same way.
Household investors did not invent the locate, the exemption, the dark pool, or the wrapped token. They noticed the CLAIMS in circulation no longer matched what could actually be delivered.
The public case is simple. If a share is sold, it should be delivered. If a locate is claimed, it should be REAL. If a market maker exemption is used, it should be for making a market, not carrying an unending SHORT.
A free market needs SETTLEMENT, ACCOUNTABILITY, and real SUPPLY against demand. That is PRICE DISCOVERY.
#NakedShorting