The United States Securities and Exchange Commission (SEC) has accepted an offer of settlement from Tradition Securities and Derivatives, LLC, which will see the subsidiary of Compagnie Financière Tradition pay a fine for Reg SHO violations.
The broker-dealer consents to the entry of an Order Instituting Administrative and Cease-and-Desist Proceedings.
These proceedings concern Tradition’s violations of Regulation SHO (Reg SHO) of the Exchange Act, in connection with its customer and principal merger arbitrage trading practices. Merger arbitrage involves identifying announced mergers and acquisitions of publicly traded companies, and then selling short shares of the acquiring company, while at the same time purchasing shares in the target company.
From October 2016 through May 2019 (the “Relevant Period”), Tradition repeatedly failed to satisfy Reg SHO’s order marking and locate requirements for more than 1,000 short sale trades in its customers’ accounts and approximately 50 short sale trades in its principal accounts in furtherance of its merger arbitrage trading strategy. As a result of this conduct, Tradition generated $841,627 in revenues comprised of commissions and trading profits.
During the Relevant Period, in violation of Rule 200(g)(1) of Reg SHO, Tradition mismarked (a) more than 1,000 short sales as long sales in its customers’ accounts, and (b) approximately 50 short sales as long sales in its principal accounts.
In each of these sales, Tradition improperly treated shares of the target company that were purchased as part of the merger arbitrage strategy as exchangeable with shares of the acquiring company that were sold as part of the merger arbitrage strategy. Most of these trades occurred considerably prior to the Merger Completion Date. In many instances, the trades occurred weeks, or months, prior to the Merger Completion Date.
Tradition, or as agent for a customer, improperly claimed ownership of shares of the acquiring company before the date that stock of the target company was exchanged for stock of the acquiring company. Rule 200(b)(3) of Reg SHO provides that a person shall be deemed to own a security if the person owns a security convertible into or exchangeable for it and has tendered such security for conversion or exchange.
Tradition was ineligible for this provision because, among other things, it did not, and could not, tender securities for conversion or exchange prior to the sale transactions in question because the merger had not occurred. Additionally, Tradition could not have reasonably expected that it would have the security in its physical possession or control by settlement, which, during the Relevant Period, occurred either two or three days after Tradition executed a trade.
During the Relevant Period, the mergers in question routinely were not completed until weeks, or months, after Tradition entered the mismarked short sale orders in question. As a result, Tradition should have marked such sales as short sales pursuant to Rule 200(g)(1) of Reg SHO.
For each of the more than 1,050 short sales that Tradition mismarked as long sales in both its customers’ accounts and its principal accounts, Tradition should have obtained and documented a locate as required under Rule 203(b)(1) of Reg SHO, but failed to do so.
Tradition’s commissions resulting from its customers’ merger arbitrage trading that involved mismarking of sell orders and failures to obtain locates totaled approximately $429,000.
Tradition’s profits resulting from its merger arbitrage trading activity that involved mismarking of sell orders and failures to obtain locates totaled approximately $412,627.
As a part of the settlement offer, Tradition agrees to cease and desist from committing or causing any violations and any future violations of Rules 200(g)(1) and 203(b)(1) of Reg SHO promulgated under the Exchange Act.
Moreover, Tradition is censured.
Tradition will have to, within 14 days of the entry of the Order, pay disgorgement of $841,627 and prejudgment interest of $104,205 to the Securities and Exchange Commission. Also, Tradition must within 14 days of the entry of the Order, pay a civil money penalty in the amount of $841,627 to the SEC.