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SEC Denies Naked Shorting? What to Know About the Landmark GME Stock Report.

The Securities and Exchange Commission (SEC) is taking up a lot of the spotlight this week. First, it approved the first Bitcoin (CCC:BTC-USD) exchange-traded fund (ETF), a landmark in its own right. Today, it is continuing to keep interest as investors take in a huge and quite detailed report on the January price volatility in GameStop (NYSE:GME). The report is clearing the air as much as it is stoking the flames this morning; as investors digest the findings, there are still questions about GME stock and where to go from here.

Photo of the Gamestop (GME) logo On a Mobile Phone.
Source: Shutterstock / mundissima

Investors today are diving into a hefty, 45-page report from the offices of the SEC. In it, one can read a breakdown of the retail market, from the customer to the broker, then to the market-maker and the clearinghouse. It also chronicles the events of early 2021; the event saw retail investors conduct what was purported to be a short squeeze of investment firms’ short positions in GME stock. However, this report doesn’t follow the same narrative. Here’s what the SEC is saying.

SEC Releases Much-Hyped Report Into January 2021 Retail Event

The report is the result of a long-awaited SEC deep-dive into the events of January; at the time, investors saw the prices of a number of “meme stocks” surge extremely high.  The event spawned a number of concerns with the trading process for retail investors. This includes concerns over “naked shorting,” the illegal practice of lending shares of a stock that don’t exist.

The SEC’s report breaks down the process of retail investing, particularly through the scope of commission-free brokers. Of course, this lens is employed due to Robinhood’s (NASDAQ:HOOD) role in the event, as it hosted many of the buyers pumping GME stock and came into controversy after removing GME trading at the height of the event, costing retail investors.

In it, SEC officials evidence some big claims, many of which are not what retail investors have been hoping for. Most notably, the government body goes so far as to say that the markets worked as intended throughout the saga; it says the gears of Wall Street remained “sound” in structure. Naturally, many would beg to differ after the trading halt, in which retail investors claim they were robbed of millions of dollars by not having access to more shares.

GME Stock Report: SEC Denies Naked Shorting, Says GME Surge Was Entirely Retail Trader-Driven

In a series of data-backed deep dives, the SEC is refuting many of the most popular theories surrounding the events of the GME stock frenzy. Most notable is its refutation of naked shorting. Many retail traders blame naked shorting as reason for the exceedingly high short interest in GME. As such, if firms were naked shorting GME stock, they would be able to drive down the price of GME through share dilution. In turn, they could cover their short positions without as high of a loss.

The report denies naked shorting, in what is a decimating blow to retail investors who wanted to see action against hedge funds. These investors evidence large volumes of failures-to-deliver (FTDs), a metric that often helps to expose naked shorting, as a point of interest for the SEC. Much to their chagrin, though, the report claims that failures-to-deliver are not accurate enough to evidence illegal activity. Moreover, it says it did not find evidence of increased failures-to-deliver, even through the rampant price volatility.

Investors evidence GME’s short interest of over 100% at the time as evidence enough of naked shorting. On the contrary, the SEC refutes the claim. It says that short interest can in fact exceed 100%, although it’s quite rare; a lender does not need to disclose that a share was lent, meaning it can be lent multiple times. This, in turn, can push short interest past 100%.

But beyond the naked shorting discussion, there’s an even larger narrative the SEC is weaving into the report. That’s the claim that the GME price rocketing is not the product of a short squeeze. Rather, it purports that the stock rose almost entirely on simple retail-driven sentiment. It does show that a volume of short positions did in fact bolster the prices of the stock; however, the report makes the claim that “it was the positive sentiment, not the buying-to-cover, that sustained the weeks-long price appreciation of GameStop stock.”

Takeaways From the SEC’s GME Stock Report

Of course, the report is not satisfying retail investors, even if it answers a lot of questions and dispels a lot of theories about GME stock.

Investors want to see the SEC place more scrutiny on short position disclosures, especially after we’ve seen the short interest in GME stock stir up a whole lot of rumors. This is something that the report claims the SEC will be looking into going forward. It also says the agency will pursue further research into gamification by brokers, as well as off-exchange trade execution and trade restrictions.

What it doesn’t say is how the SEC will handle discovering bad actors and punishing them. It also fails to say how, or if, the agency hopes to support retail investors; many feel that they are on the losing end of the event after suffering trade restrictions. In response to the report, many are taking to social media and making their lack of closure known. Some want to see brokers punished for their trade restricting.

Others want to see changes to options in which buyers are forced to settle, rather than being able to fail to deliver. Of course, the report dispels claims of large volumes of FTDs with GameStop, but investors are seeing plenty of them elsewhere, and they want to see some sort of punishment for the lack of action.

On the date of publication, Brenden Rearick did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the Publishing Guidelines.

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