FINRA fines Two Sigma Securities for Regulation SHO violations
Between March 21, 2014 and May 5, 2016, the firm did not comply with the locate requirement on 3,652,905 occasions.
Two Sigma Securities, LLC has agreed to pay a fine of $225,000 as a part of a settlement with the United States Financial Industry Regulatory Authority (FINRA). The settlement concerns violations of Regulation SHO.
The Securities and Exchange Commission (SEC) adopted Regulation SHO in July 2004 to address concerns regarding persistent fails to deliver of securities from trading and potentially abusive “naked” short sales, i.e., the sale of securities that an investor does not own or has not borrowed.
According to Rule 203(b)(1), a broker-dealer is not allowed to accept an equity short sale order from another person, or effect an equity short sale for its own account, without having borrowed the security, or entered into a bona-fide arrangement to borrow the security, or reasonable grounds to believe the security can be borrowed, so that it can be delivered when due. The rule also requires documentation of compliance with the above locate requirement.
The findings show that, between March 21, 2014 and May 5, 2016, Two Sigma Securities did not comply with the locate requirement on 3,652,905 occasions, which involved the firm’s short selling in a non-market making capacity, and resulted in less than 20 fails to deliver of securities at Two Sigma’s clearing firm.
Two Sigma’s locate violations occurred as a result of two different types of coding errors that started in 2014. The coding errors resulted from inadvertent failures to include the firm’s legacy market-making strategy in net position computations, and from failures to distinguish between Threshold and non-Threshold Securities for purposes of complying with the locate requirement. Two Sigma independently detected these errors in May 2016 when it was testing an updated surveillance report for calculating available locates for complying with the locate requirement.
The first system issue caused the short and long positions related to the firm’s legacy market-making strategy to be omitted from net position computations of the firm’s market-making aggregation unit between March 21, 2014 and May 5, 2016.
The second system issue resulted from inadvertent failures to distinguish between Threshold and non-Threshold Securities in certain trade strategies for locate compliance purposes from August 2014 to May 5, 2016
Based on the foregoing, Two Sigma violated Rule 203(b)(1) of Regulation SHO and FINRA Rule 2010.
Furthermore, during the review period, Two Sigma’s supervisory system was not reasonably designed to achieve compliance with Rule 203(b)(1) of Regulation SHO.
On top of the fine, the firm agrees to a censure.
