The Securities and Exchange Commission widened its crackdown on "naked shorting" by charging the Chicago Board Options Exchange with "systemic breakdowns" in the exchange's regulatory and compliance functions.
The CBOE agreed to pay a $6 million fine and implement major reforms to settle the SEC's charges. This is the first time an exchange has been assessed a fine for violations related to its regulatory oversight role, according to the SEC. (You can read the SEC's press release here.)
The settlement follows a decision Monday by an SEC judge to fine a former Maryland banker accused by the SEC of engaging in billions of dollars in naked short trades. The Charles Schwab owned brokerage optionsXpress and its former chief financial officer were also penalized for violating laws aimed at banning naked shorting.
A naked short trade occurs when a trader sells a stock he does not own and does not intend to borrow to deliver to the buyer. An SEC rule known as Reg SHO is meant to ban the practice, which the SEC regards as abusive and harmful to markets.
The SEC says the CBOE failed to enforce the rule because its staff did not understand it and its investigators had never received formal training in the rule.
The SEC says that not only did CBOE fail to adequately detect violations and investigate claims of naked short selling, but it also took "misguided and unprecedented" steps to assist optionsXpress when it became the subject of an SEC investigation in December 2009.
"CBOE failed to provide information to SEC staff when requested, and went so far as to assist the member firm by providing information for its Wells submission to the SEC. The CBOE actually edited the firm's draft submission, and some of the information and edits provided by CBOE were inaccurate and misleading," the SEC said in a statement.
The SEC has decided not to strip or restrict the CBOE of its authority as a self-regulatory organization, citing the remedial measures the exchange has agreed to undertake.
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