I would agree OTC is in general in MUCH worse shape than listed stuff. But I still don't like the idea of turning stocks into futures, which is in essence what naked shorting does. If you want that product, that's what SSFs are for. Separate market, separate rules. If you don't like SSFs, maybe you didn't want the stock market turned into the futures market after all
I heard the story first on NPR and they didn't distinguish between shorting borrowed shares and naked shorting. It is a ban on naked shorting. Have you actually TRADED an SSF? You allude to the problem... if the shares are restricted it trades a huge var on the spread and you're better off simply selling the synthetic in the options. That's when the exchange is actually open/functioning. I don't get your unlimited risk argument. The same can be said of any short-able asset; ES futures come to mind. They are minimum-tick and deep.
I have traded SSF. Not frequently, but when you want to make a bullish play in a hard-to-borrow stock, and don't feel the need for a stop, they're the obvious choice. The risk for the market maker isn't actually unlimited, but it is the full value of the stock. Let's say XYZ is unborrowable and trading at $53. I'm the sole market maker in the XYZ SSF, and I make a tight market say, 52.50/53.10. You hit my bid. So I'm long at 52.50 and you're short. Now XYZ starts to go down in a volatile way. How can I get out? I AM the bid on the SSF - no good. I can't sell the stock - none to borrow. I can drop my ask below the market price, but any incoming bullish plays may choose the stock rather than the SSF even though I'm cheaper because they want to have a stop, or because they don't like SSFs for some reason or don't even bother to look at it. As a last resort I can buy puts, but the increase in historic volatility combined with the difficulties in writing naked puts and the extra demand for puts as a proxy for shorts is going to make that absurdly expensive. Basically, I'm stuck all the way to $0. That's what I mean by unlimited risk. I would have to have a premium to accept that risk.
I believe naked shorting is already illegal in the US, but the requirement to borrow and deliver just not enforced by the SEC. So, of course, the SEC should require delivery or the trade gets busted. Those who think that shorting more shares than the total float really would be happier in Vegas. And that's been one of the problems in the US market in recent years -- non-enforcement by the SEC, with the result that the market begins to resemble las Vegas more than an orderly securities market. Very pleased to see that the Germans have put the clamp on naked shorting, but I was under the impression that the Europeans were already enforcing the requirement to borrow, so I don't quite understand. With regard to shorting via options, I see no problem, since the increase in IV as the underlying falls will naturally put a damper on runaway shorting, and the options will follow the underlying. So if you enforce the rule against naked shorting of the underlying that should dampen runaway shorting via options. We need a more competent and vigilant SEC. Maybe that is coming under Shapiro.
I am not against shorting but I am against naked shorting. Naked shorting simply goes against the law of nature. For example, you can't naked short real estate or other physical goods. Naked shorting unnaturally alters the supply and demand side. You can't go naked long so why should they allow naked shorting?
I don't understand your argument. You are saying that just because a type of transaction can not be done with all goods, they shouldn't be allowed on any goods? Yesterday I went long a tuna sandwich. Then I consumed it, and now no one else will ever have the opportunity to own that tuna sandwich. While I was eating that sandwich, I bought a share of Citi for the exact same amount of money. I cannot do the same with the share of C that I did with the tuna sandwich; I cannot consume that share and prevent anyone else from ever owning it. Interestingly, the sandwich shop sold me that tuna sandwich naked short. I participated in their "eat for a week" program where I paid up front for 5 sandwiches, then I come in each day and they give me my lunch. They didn't have the tuna and bread when they sold them to me last week.