CHAPTER 2
A CLOSER LOOK AT SECTION 17A OF THE 1934 SECURITIES EXCHANGE ACT (“THE GREAT EXCUSE PROVIDER”)
Section 17A of the ’34 Exchange Act represents the birth certificate of the DTC. In 17A (a) (1) (A) Congress makes it very clear that: “The prompt and accurate clearance and settlement of securities transactions, including the transfer of record ownership and the safeguarding of securities and funds related thereto, are necessary for the protection of investors and persons facilitating transactions by and acting on behalf of investors.” Section 17 (a) (1) (A) is thought of by most securities scholars as representing the “Mission statement” of the DTC.
Let’s breakdown this basis for Section 17A into its component parts:
1) Prompt “clearance” of transactions is necessary for the protection of investors
2) Prompt “settlement” of transactions is necessary for the protection of investors
3) Accurate “clearance” of transactions is necessary for the protection of investors
4) Accurate “settlement” of transactions is necessary for the protection of investors
5) Transfer of record ownership is necessary for the protection of investors
6) Safeguarding of securities is necessary for the protection of investors
7) Safeguarding of funds related thereto is necessary for the protection of investors
8) All 7 of the above, not "some" of them or "most" of them, are necessary for the protection of investors
Now let’s do a line-by-line analysis of how the DTCC is doing in regards to these 8 Congressional mandates.
MANDATE #:
1) PROMPT “CLEARANCE” OF TRANSACTIONS: Here the DTCC does just fine; actually they do extremely well - too well, in fact. This 4-letter phrase has been used as an excuse to reroute perhaps hundreds of billions of dollars collectively from investors’ wallets, into the wallets of abusive DTCC participants and co-conspiring, usually unregulated hedge funds. These entities swap commissions and order flow for access to the tilted playing field provided to abusive DTCC participants, and those invited to act through their in-house proprietary accounts.
The DTCC does indeed "clear" transactions at warp speed, because unlike anybody else on the planet, for them "clearing" day, equates to “payday”. The rest of us have to perform or deliver on our promises before our contracts and business deals “close” or “settle”. The DTCC, however, allows failed deliveries to “clear” by utilizing “Non-CNS delivery arrangements” and the Stock Borrow Program (SBP) at the NSCC, even if the failed deliveries are NEITHER short term nor are “legitimate” in nature, as mandated by Addendum C to the rules and regulations of the NSCC, which set up the SBP in the first place.
Notice that the crack in the ice here for this malevolent activity is that there really are legitimate reasons for failed deliveries in the system and bona-fide market makers are indeed allowed to fail delivery under certain circumstances. Unfortunately the DTCC’s interpretation of this reality is that all failed deliveries are, as if by default, “legitimate” in nature, and any evidence to the contrary is “privileged” or “proprietary” - and the DTCC is not allowed to release this data because it might reveal the “proprietary trading methodologies” of their participants.
In fact, nobody is more “Prompt” at sticking their hand out for the payment of commissions, mark-ups, and fees than the DTCC and its participating b/ds. As the purchasing b/d loans out the recently received book-entry “Entitlements” created by the purchases of their clients that involved failed deliveries (and thus needed an SBP “Lending pool” bailout), they actually get paid their client’s (the investor’s) money before that which was purchased ever shows up for delivery - if it ever does show up, and for that matter, if it ever did exist. (Note: Please read that last line through a few times to fully comprehend the rerouting of an investor’s funds to his own b/d via the “collateralization” of the loan of the recently purchased “shares” to the SBP’s lending pool)
Note also that the DTCC will argue that nowhere in Addendum C does it specifically state that the failed deliveries must be of a "short term" nature. The terminology states that they must be of a "Legitimate" nature. Since the life span of a failed delivery (or its resultant "CEBE" - Counterfeit Electronic Book Entry - or “Entitlement”) is the critical parameter that does the damage to the issuers via dilution, it is very much IMPLIED that a legitimate delivery failure must be very short term in nature. There is no such thing as a "legitimate" 56-day-old delivery failure, which Dr. Leslie Boni’s research indicates is the average age of a failed delivery at the DTCC. Any seller involved in a 56-day delivery failure has obviously proved that he has no intention whatsoever to deliver or buy these shares back, or he would have done it by now. This is especially true in issuer’s shares that have recently dropped in price - and yet the naked short sellers still refuse to cover and harvest their ill-gotten profits. Any sell order involving a 56-day-old "failed delivery" obviously shouldn't have "cleared" nor should it have been "cured" by an SBP "pseudo-borrow" in the first place - but the DTCC will argue that they didn’t know that this failed delivery was going to remain un-addressed for a prolonged time-frame when the trade was allowed to clear.
The DTCC’s SBP assumes that 100% of delivery failures are legitimate, despite the fact that history tells the DTCC that it’s the same clearing firms failing to deliver the shares of the same issuers, day-in and day-out. In a future chapter we’ll review a case where over 900 consecutive sell orders from a certain b/d failed delivery without raising any red flags at the DTCC. Yet the DTCC, a “Self-Regulatory Organization” (SRO), refuses to put 2 plus 2 together and regulate the “business conduct” of its abusive participants, as mandated for all SROs. Granted, it would be tough to for the DTCC management to discipline their owners/bosses and still expect to keep their job.
It’s almost beyond description the damages caused by fraudulent activity being perversely justified by a simple 4-worded phrase. The problem is that the next 7 phrases we’ll study, which are universally ignored on Wall Street, were to be given equal weighting with the 4-worded phrase, “Prompt Clearance of Transactions”.
2) PROMPT “SETTLEMENT” OF TRANSACTIONS: In securities law parlance “Settlement” refers to a “Delivery versus payment” or “DVP” scenario. “Settlement” is defined by the SEC as “the conclusion of a securities transaction; a b/d buying securities pays for them; the selling broker DELIVERS (emphasis added) the securities to the buyer’s broker.”
Thus “settlement” necessitates the “good form delivery” of “securities”. Later we’ll discuss how “the rights to an IOU” owed by the clearing firm failing delivery to the NSCC, which the NSCC mysteriously claims to be “powerless” to call in”, are a far cry from “shares” of a “security. “Settlement” means that the money goes in one direction and that which was intended to be purchased, a “package of rights”, goes in the opposite direction. At the DTCC payment always goes smoothly because the money always shows up on time - it is debited out of the purchasing b/d’s “Settlement” account.
Delivery is a different story. “Pseudo-delivery” in an SBP-cured transaction involving a “failed delivery” always results in two entities having an “Entitlement” to the same genuine share.
Since these SBP transactions result in two parties, (the new buyer, “Buyer Bob”, and the owner of the shares chosen from the SBP’s lending pool to bailout the failed delivery, “Lender Larry”, who is handily rendered anonymous by the DTCC policies), with valid claims (as implied on their monthly brokerage statements) to the same parcel of securities, then nothing, in essence, was “delivered” - unless unregistered “pseudo-shares” were illegally created out of thin air, and subsequently delivered. Later we’ll see where UCC Article 8 allows clearing agencies to create “Entitlements” to shares, but only if these “Entitlements” are treated in a very specific fashion (see UCC Article 8-505,506 and 507 in Chapter 24). A genuine “share” has a parcel of rights attached to it – that is what a share is – a parcel of rights. The counterfeit parcel of “pseudo-shares” created in this transaction does not have the “Package of rights attendant to a specific public corporation” attached to it as does a legitimate “share” in paper certificate format, sitting in a DTCC vault.
Any U.S. Corporation only has a finite number of these “Packages of rights” legally authorized and outstanding at any given time. It is the “Package of rights” that gives a “share” its value. Further, it is the arithmetic sum of the perceived values of each individual right that give a “share” its perceived value. The package of rights, for all intents and purposes, IS the share. Paper certificates and electronic book entries are no more than “formats” to account for share ownership. The number of legitimate “packages” corresponds to the number of legally outstanding shares, i.e. issued by those that are allowed to issue shares per State Statute - namely the Board of Directors of an issuing Corporation, via a board resolution.
UCC Article 8 does indeed allow there to be “Entitlements” to shares above and beyond the number of shares legally outstanding, but the old NASD Rule 11830 and current Reg SHO determine that metric to be limited to 10,000 shares and 0.5% of the number of shares legally outstanding - and therein lies the problem. In regards to UCC-8, it’s interesting how the DTCC cites it as the basis for the right to create “entitlements” to shares out of failed deliveries. Then when you ask them why they don’t follow UCC 8-505,506, and 507 regarding the legal way to treat these “entitlements” once created, they’ll cite UCC 8-111, which states that if a Registered Clearing Agency’s rulebook (like that of the DTCC) conflicts with UCC-8, then the RCA’s rulebook will preempt UCC-8. I like to refer to this as the “cherry-picking” of UCC-8. In Chapter 24 we’ll dissect UCC-Article 8 thoroughly. It must be nice to selectively cite the parts of UCC 8 that allow the creation of these “Entitlements” to shares, and then disregard those parts of the very same law that restrict the abusive treatment of these “Entitlements”.
Another way to look at the SBP at the DTCC is that it somehow magically allows yesterday’s or the day before’s “Good delivery” of shares to be undone, in order to allow today’s trade involving a failed delivery to “clear.” For that matter, who is to say whether or not yesterday’s (or the day before’s) “Good delivery” didn’t ALSO need a “Failed delivery bailout” by the SBP? This method of “wiring” the SBP and its lending pool allows any particular paper-certificated share in a DTCC vault to be replicated many times over and simultaneously loaned out to unscrupulous participants.
Notice the Ponzi scheme similarity; just keep recycling that which appeared anyways to have been a “good delivery” from the past. In other words, these “Entitlements” are themselves allowed to be procreative, both within the SBP, and as we’ll soon see, during a dividend distribution process “hosted” by the DTCC. Note that the recycling of legitimate paper certificate-backed shares is a heinous concept in and of itself. Allowing the recycling of illegitimate and unregistered share facsimiles (“Entitlements”) is unconscionable, and held by many as nothing short of criminal, since the beneficiaries of this “oddly wired” system - abusive DTCC participants - administer and own the system.
This is not, “Delivery of that which was intended to be purchased,” i.e. A package of rights, in that the DTCC does not delineate which of the two parties, “Buyer Bob,” or “Lender Larry”, can vote the shares and receive any dividend distributions or the favorable treatment of cash dividends provided by the JAGTTRA legislation (more on that later). Several researchers and the NYSE itself have been looking into the “Over-voting” of shares issue and have found it to be pandemic. The buyer of 1 million shares of ACME Corporation (with 100 million shares outstanding) did not get a 1% equity ownership in a corporation in which 99 million other shares could be sold at any instant in time. This is independent of whether or not his particular purchase involved a good form delivery or a failed delivery. There are so many unaddressed delivery failures in the system (as admitted by the SEC as the reason they had to grandfather these in during Reg SHO to avoid market “volatility”) that he becomes a victim no matter what. A plaintiff’s attorney should not have to prove that his client’s specific trade resulted in a failed delivery. This is impossible to do when you’re dealing with an anonymous pooling of “shares” commingled with “share facsimiles”. Notice the similarity to a “Bait and switch” type of fraud.
These trades, in essence, do not settle because of the absence of “Good form delivery.” No doubt about it, these trades “clear” at “warp speed” for self-serving reasons, but they just don’t settle promptly, or sometimes at all (as Section 17A mandates). See Fig 2A. There was no delivery of that which was “advertised” for sale. The delivery of an electronic book-entry for 1 million maybe legitimate shares (or maybe pseudo-shares/ entitlements) when there are 60 million pseudo-shares/entitlements and only 100 million legitimate shares at the DTCC, does not represent delivery of that which was implied as being sold. The order put in by the buyer was for "equity ownership shares" of a public corporation. A separate issue we’ll delve into later involves the Fair Business Trade Act issues in regards to ACME shares that trade at $1 per share. What should these “Entitlements” to shares that the DTCC can later claim to be powerless to mandate the delivery of be trading at? If they were correctly advertised as non-shares, with no bundle of rights, would they have the same value as a genuine share with a genuine bundle of rights? Put more simply, should a facsimile wholly lacking any of the characteristics of the genuine article command the same price as the real thing? Or is it the industry’s failure to advertise and represent these facsimiles accurately that creates the co-mingling of value?
Note that it is the “Anonymous pooling format” that the shares in the SBP’s “Lending pool” exist in that doesn’t allow investors to tell if the electronic book entries they purchased (and which are “implied” on their monthly statement as being “shares held long” by their b/d’s clearing firm) were backed by certificated shares or not.
Thus the 4-worded phrase “Prompt settlement of transactions” couldn’t be further from the truth - but the DTCC doesn’t want to discuss this issue; they’d rather cite the "Prompt clearance of transactions”, i.e. the $1.1 quadrillion in transactions “cleared” in 2005 alone as being their forte, as well as the excuse for the myriad number of undisclosed conflicts of interest contained at the DTCC.
3) ACCURATE “CLEARANCE” OF TRANSACTIONS: “Clearance” is defined by the SEC as “the conclusion of an exchange of securities, see settlement”. Note that “clearance” and “settlement” are basically joined at the hip in the SEC’s definition. The same holds true in almost any other business in the world except at the DTCC.
Above we saw that “Settlement” is defined by the SEC as “the conclusion of a securities transaction; a b/d buying securities pays for them; the selling broker delivers the securities to the buyer’s broker.” With the notable exception of at the DTCC, the terms “clearance” and “settlement” are usually seen in tandem. “Clearance” at the DTCC basically relates to what is referred to as “locked in” trade data arriving at the DTCC. The buying and selling b/d have agreed to the terms of the transaction in regards to the number of shares involved and the price at which the deal is consummated. They’ve also agreed as to which party was to be the buyer and which is the seller. The “settlement date” is also agreed to. The DTCC, as the “referee of clearance”, allows the trade to “clear” since there are no disputed terms. These trades can be “locked in” at over a dozen different locations outside of the DTCC, as well as within the DTCC. Unlike any other trust company or banking entity in the world, the DTCC artificially “DECOUPLES” “clearance” and “settlement”. Imagine for a moment if the banking industry took an average of 56 days to clear and settle a check transaction. We’d all be driving Ferraris - for 56 days, anyways.
Recall that the DTC subsidiary of the DTCC was set up as a Limited Purpose Trust Company under the BANKING laws of the State of New York. The DTCC also decided that their participants’ payday should be based on “clearing,” and not the more important and more conventional “settlement” function (which necessitates “good form delivery” of that which was "advertised" for sale). An analogous situation might involve a realtor demanding his commission up front if he promises to "eventually" deliver a buyer to the owner of the house. Where is this realtor’s incentive to perform if he’s already been paid? The same holds true at the DTCC.
Who cares about “Delivery” when the DTCC and its participants have already all been paid their commissions, mark-ups and fees, as well as the cash value of recent “purchases” made by their clients (owed a duty of care) that they placed into the lending pool of the SBP? The problem is that a lot of these sales are for items that don’t exist, yet the DTCC participants are still allowed access to the money supplied by the unknowing purchasers of these nonexistent goods.
Ex-Clearing
The DTCC also allows for the “clearance” of trades in an even more sinister fashion. In “Non-CNS delivery arrangements” or “Ex-clearing” (“Ex-“ referring to “Out of” as in outside of the DTCC) the DTCC sees undisputed “Locked-in” trade data and agrees to utilize their facilities to process the cash portion of the transaction - but then the DTCC tells the buying and selling parties, both DTCC participants/owners, to work out the “delivery arrangements” between themselves, outside of the DTCC. The DTCC allows these trades to “clear” but then allows the failed delivery of its abusive participants/owners to set up residence OUTSIDE of the DTCC system, and not subject to the new Reg SHO laws. Thus they act as the willing conduit for the “clearing” of massive amounts of naked short selling orders, and then agree to look the other way and let the buyer and seller, who may or may not be in cahoots, worry about “good form delivery”. See Chapter 72 for a more detailed explanation of “Ex-clearing”.
This, of course, leads to massive numbers of failed deliveries held outside of the DTCC, but at least the trade was allowed to “clear”, which creates the payday for all of the DTCC participants. Note that without these SBP and “Ex-clearing” bailouts these trades wouldn’t otherwise “clear” and release all of these proceeds to the DTCC participants.
The DTCC recently went public and stated that about 20% of failed deliveries are addressed by their SBP. This leaves 80% of delivery failures being “officially unaddressed” via Ex-clearing “Arrangements,” as they are referred to. If questioned about the resultant delivery failures that have a tendency to stay undelivered ad infinitum, the DTCC management says that this issue is between the buying and selling firm (their bosses). Those parties have an “unconditional contract” and the DTCC doesn’t monitor the “contracts” of their participants (even though they are a “Self Regulatory Organization” in charge of regulating the “business conduct” of their members).
There was a gigantic loophole in the old 3b-3 definition of share “Ownership” which allowed the buying b/d in a transaction to become the legal “owner” of the shares, even if they were never delivered. Recall how 17A mandated this “transference of ownership” to be accomplished. The significance here is that the new buyer of shares could turn around and sell his shares as their “Owner” without having to declare the sale as a “Short sale” - which mandated a perhaps expensive or unavailable “borrow”. Thus the first trade never settled, but that now becomes a moot point as that transaction is now well in the past, and the “shares” have moved on. Section 17A, however, mandated that the DTCC promptly "clear" and "settle" trades – It did NOT give the DTCC management the power to delegate out the “settlement” functions, and refuse to monitor as to whether “settlement” is ever accomplished in these “unconditional contracts”. Further, 15c6-1 of the ’34 Act forbids “arrangements” that artificially “Extend the settlement date” - which is exactly what occurs in Ex-Clearing.
The DTCC, as a “Qualified control location” as per “The Customer Protection Rule”-15c3-3 of the ’34 Act, is supposed to follow up on these Ex-clearing trades to make sure that “Good form delivery” leading to "Settlement" is indeed occurring, since they gave permission to the 2 parties to enter these “contracts” by utilizing “Non-CNS delivery arrangements”, via what are referred to as DTCC “securities orders”. Here again we see the DTCC management offering to act as an “Intermediary” between 2 of its participants/bosses, which effectively obfuscates the actions of the b/ds. If corrupt b/d “A” and corrupt b/d “B” wanted to engage in naked short selling activities and hide failed deliveries amongst themselves by refusing to buy-in the failed deliveries of their comrade (in exchange for the same favor), it would be much more difficult without the DTCC acting in its “Intermediary” role - there wouldn’t be any party claiming to be “unable to monitor the “unconditional contracts” of others”, and the actions of the 2 corrupt b/ds would be easier to trace, and the 15c6-1 breach would be much easier to prove.
We’ll see in future chapters how the spirit of 15c3-3 of the ’34 Act or the “Customer Protection Rule” mandates that a purchasing b/d take “possession” of purchased shares for his client OR keep these shares at one of 12 qualified “Control” locations (“the dirty dozen”) that will theoretically do it for them. Lo and behold about 99% of b/ds and banks choose the DTCC as their qualified “Control” location of choice. This idea involving the granting of “Entitlements” to shares appears to fly in the face of 15c3-3 which is the only protection from naked short selling available to issuers trading on the OTCBB and Pink Sheets of the 7 main anti-naked short selling laws.
If you take the DTCC out of the above-mentioned “Intermediary” role then a b/d failing delivery could be bought in out of the open market by the purchasing b/d. With the DTCC acting in this intermediary role, the NSCC regulation forbidding the open market buy-in of one DTCC participant by another (without “DTCC intervention”) can be accessed. Isn’t that handy! Another NSCC rule could also be accessed - this involves allowing the party failing delivery and about to be bought in yet one more dip into the lending pool to effect yet one more “Borrow” of perhaps real shares, or perhaps only share "Entitlements." When committing crimes, abusive DTCC participants would much rather be wearing their “DTCC participant hat” than their independent “b/d hat”. The obfuscation of the crimes is much easier when acting as 1 participant in a crowd of 11,000 b/ds and banks.
Back To “Accurate Clearance” of Transactions
In regards to “Accurate clearance of transactions”, how can a trade ACCURATELY “Clear” if there never was any intent to deliver that which was purchased, or meant to be purchased, i.e. the full “package of rights” with a certificated share in existence to legitimize it? Recall that during the “clearance” phase the seller pledged to honor the T+3 delivery date. These trades shouldn’t have “cleared” in the first place. “Accurate clearance” without “Settlement” makes no sense, especially when those doing the selling have a distinct history of not delivering that which they “sell”. Separating “clearance” from “settlement” makes no sense in the business or banking world. “Clearance” is similar to a nonbonding letter of intent. There is no consummation of the deal until the two parties perform, i.e. “Deliver” on their promise. The DTCC is in a hurry to “Clear” these transactions because “Clearance” equates to “Payday” for the DTCC and its participants via commissions, mark-ups, and DTCC “Clearing” and “Loan intermediary” fees. Without dipping into the “Lending Pool” of shares, the buyer’s money would sit on the “Clearing Platform” of the DTCC ad infinitum for naked short sold shares and none of the DTCC participants would get paid.
Herein lies one of the largest UNDISCLOSED CONFLICTS OF INTEREST within the system. If an investor had visibility or knowledge of the system, he would not want his check cashed UNTIL that which he thought he was purchasing (a package of rights) was safely delivered. This would ensure that the trade was “Accurately” cleared, as per Section 17A. “Accurate clearance” might also imply that both the buying and the selling party have access to the same information prior to the “locking in” of the trade data, i.e. ”full disclosure of all material facts pertaining to the “Character” of the securities being purchased”, as per the preamble to the 1933 Securities Act. If the “clearance referee”, the NSCC, possesses material information in regards to the “Character” of the securities of an issuer (20 gazillion failed deliveries at the DTCC) then it has a duty to relay that information to any buyer of these securities, before “clearing” any trade involving securities in which that information was intentionally withheld. Otherwise all U.S. investors would be relegated to buying a “pig in a poke” – which is the current situation.
In “Clearing,” the “Locked-in” trade data submitted by the buying firm states in essence, “My client wants to buy 100 “real” shares of ACME from you at 10-cents per real share with the trade, “Settling” (which mandates good form delivery) on T+3. If the selling firm intends to sell 100 “share entitlements” of “Acme” for 10-cents per “Entitlement” that he hopes never settles then he’d better proffer that in the trade data he enters to allow “Accurate clearance” where the representations being made by both parties are “Accurate”. That currently never happens.
“Clearance” is basically a rubber stamp of very little importance. Everybody agrees to the terms of the trade and the DTCC, finding no clerical errors, decrees that this trade is hereby “cleared”. “Settlement”, on the other hand, is directly related to market integrity.
So, to recap, naked short selling crimes are facilitated by the DTCC’s artificial “Decoupling” of “clearance” from “settlement”, and the resultant focusing-in on Section 17A’s “prompt clearance” by the DTCC - while the investors focus in on 17A’s “accurate settlement”, which is vital to market integrity. The resulting conflict of interest between “clearance-oriented” agents and their “settlement-oriented” clients (feeding them commissions) has given rise to this “Industry within an industry” we refer to as naked short selling.
Just how the DTCC is allowed to separate “clearance” from “settlement”, and have their participants paid their commissions and mark-ups based on “clearance” alone, without “settlement”, has many securities scholars scratching their heads. The blanket assumption that all failed deliveries are “legitimate” by default, despite a clear history to the contrary in many cases, prohibits any semblance of “clearance” being “Accurate”. An “Accurate” clearance system would recognize obvious patterns of abuse involving the same clearing firms selling the same issuer’s stock and constantly failing in deliveries. Trades involving sellers with a distinct history of constantly failing deliveries in a given issue would not “clear” in an “Accurate” clearance system. Of course, it is impossible to have an “Accurate” clearance system if “clearance” has previously been “Decoupled” from the “settlement” of the same trade. At the DTCC basically everything “clears” unless there was a gross clerical error made.
Don’t fail to notice that all of these extra “Entitlements” above and beyond the number of legally “outstanding” shares, are all fair game for creating yet more commissions, fees, mark-ups, and collateralization cash when they’re loaned out via the SBP. This fact alone might represent hundreds of billions of dollars of extra income for the DTCC participants over the decades. Why? Because they’re all readily sellable. Unfortunately for investors this extra supply of “readily sellable” entitlements that creates a windfall for DTCC participants weighs down heavily on the share price of the invested-in company. As we are all painfully aware, in the “zero sum” ballgame on Wall Street, all extra cash heading towards DTCC participants, is matched to the penny with investor losses.
The DTCC system welcomes the naked short selling efforts of their co-conspirators. The participants with their client’s shares in the lending pool need delivery failures to be able to convert the cash value of their client’s shares into their own cold hard cash. The participants that work mainly off of commissions gladly welcome delivery failures leading to more “entitlements” to buy and sell. Abusive DTCC participant market makers gladly welcome the naked short selling efforts of others to help them reap their rewards from the share price tanking. Abusive DTCC participant clearing firms gladly welcome all of this extra order flow created by the sale of nonexistent shares. If the DTCC worked on a “Delivery vs. payment” basis then all of this collateral income based on the sale of nonexistent shares being allowed to “clear” at the DTCC without ever settling would be gone. Does the term “Undisclosed conflict of interest” and the ’34 Act’s forbidding of this ring a bell?
4) ACCURATE “SETTLEMENT” OF TRANSACTIONS: In regards to “Accurate settlement of transactions”, again the delivery of the “Package of rights” that was promised must occur in order to have the delivery aspect of “Settlement”(the other aspect being payment). When that which was “Borrowed” to allow “Clearing” of the trade involving a failed delivery exists in an anonymously pooled format, and can be replaced right back into this same “Lending pool” by the new purchaser nanoseconds after the transaction is completed, then this trade never “Settled”, because that which was delivered is not that which was “Advertised” i.e. a certain % equity ownership of ACME with an attached “package of rights” specific to ACME. In a legal short sale, there is supposed to be a legitimate and well documented “borrow”. If the DTCC’s SBP were to have integrity, then the lending pool of shares should have dropped by the number of shares loaned out and stayed at this level UNTIL the loan was repaid.
The self-replenishing aspect of the “Lending pool” of shares provided by the SBP negates the concept of ”good form delivery” because there was no legitimate “borrow” involved. For true “Settlement” involving the “Delivery” of that which was “advertised” to occur, the “Borrowed” shares would have to be sequestered off to the side UNTIL THE BORROWED SHARES WERE RETURNED TO THE LENDER. Otherwise new investors would be buying a lesser percentage of ownership of a company with a lot more readily sellable shares/entitlements than “advertised”, because a b/d is obviously going to let a client sell anything represented on his monthly brokerage statement as “shares held long.” If they didn’t then the whole baseline fraud involving gazillions of “Entitlements” above the 0.5% metric would be exposed. This is the simple explanation of why the fraud is industry-wide – every part of the system has much to lose by accurately defining what is in customer accounts. Best to treat facsimiles as genuine, or the rubes get wise to the game, and start squawking about material harm.
Again, in the case of unaddressed delivery failures, these aren’t “shares” in any sense, and they are certainly not being “held long” by anybody. Buying a lesser percentage ownership of a much more damaged company than has been disclosed reeks of a “Bait and switch” fraud. In fact it is actually worse than one because in a “Bait and switch” fraud, at least the victim gets 100% ownership of the inferior product.
5) TRANSFER OF RECORD OWNERSHIP: In regards to the “Transfer of record ownership”, the DTCC has a lot of explaining to do. For starters, in a transaction involving b/d “B’s” client “Buyer Bob” purchasing 1 million ACME shares that, due to a failed delivery, needed an SBP “pseudo-borrow” of shares from b/d “L’s” anonymous client “Lender Larry” in order to clear, the “Record owner” both before and after the transaction was “Cede and Co.”, the nominee for the DTCC. Recall how the DTCC graciously volunteered to act as the “Intermediary” that would “own”, in a surrogate fashion, all shares in street name "for enhanced efficiency purposes only". Isn’t that a convenient way to hide the fact that there was no “transfer of record ownership”? While it is true that b/d “L’s” DTCC participant account will be debited 1 million shares and b/d “B’s” account will be credited 1 million Acme shares, this is not the kind of “Transfer of record ownership” that Congress had in mind. A legitimate “Transfer of record ownership” involves a transferor and a transferee, and a clean and clear transfer and conveyance of the ownership of the entire “package of rights” that an ACME share represents. In a DTCC style “Transfer of record ownership”, “Lender Larry” never gets contacted and told that he can no longer vote at ACME meetings or sell his shares.
Don’t be confused by the fact that “Lender Larry” is indeed “Entitled” (see Chapter 24 concerning UCC Article 8 definitions) to a matching dividend from the borrower of his shares. He is, however, not “Entitled” to vote at any meetings or entitled to any preeminent rights, dispositive rights, or rights to the favorable treatment of cash dividends as per the JAGTTRA legislation. “Lender Larry” is conveniently rendered anonymous by the DTCC SBP, for reasons of “enhanced efficiencies” no doubt, so these issues rarely get noticed until regulators and researchers noticed that “over-voting” was pandemic. Imagine a tender offer being voted on wherein both the yeas and nays ended up with 80% of the votes “outstanding”.
“Lender Larry” knows nothing about this transaction and still thinks that he solely “owns” that particular parcel of shares he sees on his monthly brokerage statement. It is easy to see how this perversion occurs, as having the DTCC relegated as the “Legal” owner of all “street name” shares really does expedite the clearing process so that each trade doesn’t necessitate the seller signing off on a cumbersome “Deed-like” instrument. Instead of using the terminology “The transferring of record ownership” perhaps the phrase “Clean and clear” or the term “Definitive” should precede the “Transferring of ownership” that Congress envisioned. It is impossible to have had historically legitimate “Transfers of ownership” via an electronic book entry when in ACME’s case there are 160 million electronic book entries in existence at the DTCC, and only 100 million certificated shares in the DTCC vaults. By definition, the trades involving the 60 million “Pseudo-shares”/entitlements could not have involved the “Transfer of record ownership”, whether or not the actual shareholders of the phantom shares can be identified or not. All of these “ownership” issues and the manipulations thereof were provided by the loophole in the old 3b-3 definition of “Ownership”. The conveyance of legal “Ownership” to the new buyer of shares before delivery was effected is insane, because of the resultant ability of naked short selling fraudsters to in essence bypass the “settlement” phase of prior transactions, making that lack of prior settlement a moot point that is never detected.
Without an identifiable shareholder losing ownership and being made aware of such, the “Transfer of ownership” is a misrepresentation - and the creation of an unregistered yet "readily sellable" second parcel of share-facsimiles out of thin air is the net result especially if both the buyer and seller continue to receive a month-end brokerage statement “Implying” the ownership of and custody of the same parcel of shares, and their b/ds allow them to sell that which is represented on their monthly brokerage statements as being “shares held long”.
Thus the “Dispositive” right of being able to sell this share or share facsimile must also be being “Counterfeited”, in essence unbeknownst to the issuer and all of the purchasers of these shares, and share facsimiles/entitlements. Recall that the right to sell a parcel of shares at a time of one’s choosing (a “Dispositive” right) is one of the rights attendant to legitimate “shares”. The column on a monthly brokerage statement entitled “Shares held long” should perhaps more aptly be entitled “Shares/pseudo-shares/entitlements that may or may not have a certificated share in a DTCC vault to justify its existence held long”, or “rights to an IOU from a clearing firm failing delivery to the NSCC which the NSCC claims to be “powerless” to buy-in”.
Don’t confuse a “DTCC style” transfer of ownership and “Borrow” with legitimate ones done in a legal short sale. Also, don’t let the fact that these debts are collateralized mislead you into thinking that a legitimate “borrow” was effected. CASH COLLATERALIZATION OF A DEBT DOES NOT CONSTITUTE “GOOD FORM DELIVERY” leading to “Settlement”. As we’ve seen before, the introduction of “Intermediaries” and “Anonymous pooling” can be used to obfuscate the truth quite effectively.
6) SAFEGUARDING OF SECURITIES: In regards to the “Safeguarding of securities”, the DTC runs the share “Depository” and is the “legal custodian” of these certificates held in their vaults. Congress’s demand for “Dematerialization” allowed the DTC to convert 1 paper-certificated share into 1 electronic book-entry “share”. The DTC is now the “Legal custodian” of these electronic book-entries as well, and has the same “Safeguarding” and “Depository” roles for them as they do for the paper certificates in their vaults. What kind of a legal “Custodian”, “Safeguarder” or “Depository” would allow the paper certificates under their custody to act as the template for “counterfeit electronic book-entries” (i.e. an electronic book-entry without a paper certificate in existence to justify its existence) to enter the system and coexist in an undetected manner alongside legitimate electronic book-entries?
Recall that a case can be made that these “Entitlements” up to the 0.5% of the number of outstanding shares level are indeed legal. If creating “Entitlements” above these levels were somehow justifiable, then what kind of a “Legal custodian” would then refuse to make this information public to prospective investors - to warn them of the artificially diluted nature of the share structures of these issuers? If it was something that just had to be done for reasons of market integrity then be proud of your actions and announce then from the mountain tops. What kind of “Legal custodian” would do these things? Would it be a self-serving legal “Custodian” like the DTCC and its 11,000 b/ds and banks, with a gigantic monetary interest in having trades involving failed deliveries to “Clear” at blinding speeds BUT NEVER SETTLE? The DTCC might as well be renting paper certificates out of the back door of the vaults on an hourly-rental basis to those wanting to run off some copies at the local copy center.
Note that if the vaults containing paper certificates were being monitored by some member of the Federal Reserve other than the DTCC, then miscommunications might offer a valid excuse for a few counterfeit electronic book-entries above the Rule 11830 threshold levels. In our system, however, the DTCC is responsible for the clearance and settlement responsibilities, as per 17A, AS WELL AS acting as the "legal custodian" of the vault contents and electronic book entries. "Legal custodians" as well as “surrogate owners” owe certain fiduciary duties to those for whom they are acting.
7) SAFEGUARDING OF FUNDS RELATED THERETO: In regards to the “Safeguarding of funds related thereto”, Buyer Bob’s money was taken from him and he was placated by being given a book entry on his monthly statement “Implying” the ownership and custodianship of a “Package of rights” attached to a specific U.S. Corporation. He actually got a lesser % ownership of a more damaged company than “Advertised”. As far as his cash, as soon as his b/d places these “shares/entitlements” into the lending pool of the SBP it goes into his own b/d’s DTCC sub account collateralizing the loan made to cover the failed delivery of a DTCC participating clearing firm. That cash will flow into the pockets of this abusive DTCC participant as the share price tanks from more of this type of activity at the DTCC, because all the clearing firm failing delivery needs to do is maintain collateral on the loan - which is “marked to market” on a daily basis. As the share price tanks so do the collateralization requirements.
The naked short seller actually gets to pocket the proceeds of his sale of nonexistent shares to “Buyer Bob” before he ever even considers covering the naked short position - not that this thought would ever cross his mind. Even experienced securities lawyers have trouble with understanding this concept. Again, don’t get distracted because the debt is being collateralized. That doesn’t do “Buyer Bob” any good. Buyer Bob’s trade hasn’t “settled” yet but the fraudster that sold him nonexistent shares has Bob’s money flowing into his wallet, as Bob watches the share price of his investment tank from the presence of all of these bogus share facsimiles/entitlements adding arithmetically to the “Float” of “Readily sellable” shares of his investment choice.
Bob’s investment losses match the fraudster’s gains on a penny-for-penny basis. This doesn’t sound like the proper “Safeguarding of funds related thereto” in the case of “Buyer Bob’s” transaction. If “Buyer Bob’s” funds were being safeguarded then his check wouldn’t be cashed UNTIL delivery of that which he thought he was buying occurred. “Buyer Bob’s” funds are being preyed upon, not safeguarded. Buyer Bob’s funds, and those of other investors, drive this entire larcenous circuit. Perhaps that’s why the investor’s money is referred to as “the Mark”, as these funds are “Marked” as the target for all of Wall Street to prey upon.
The proposed Reg SHO suggested the banning of the unconscionable act of the naked short selling firm’s having access to the buyer’s money, the “Mark”, until after the short covering took place. The final draft of Reg SHO could not include it for “Technical reasons” as the DTCC claims to have no way of knowing if the “Mark” (the investor’s money) came from a failed delivery or from a “Good form delivery” - because the Continuous Net Settlement (CNS) (“the great obfuscator”) system nets out on a daily basis all cash transfers and it does not differentiate between cash originating from sales involving failed deliveries and cash paid for shares involving a good delivery. Again, notice the role of anonymity and “Intermediaries” to obfuscate what is really going on. The securities industry agreed that it was a heinous concept, but couldn’t do anything about it, because of how the DTCC designed the CNS. In Chapter 3 we’ll do an in-depth analysis of the DTCC’s “Continuous Net Settlement” (CNS).
8) ALL OF THE ABOVE BEING NECESSARY FOR THE “PROTECTION OF INVESTORS”: In conclusion, Congress noted that ALL of the above entities were needed for the “Protection of investors” but it is fairly obvious that the DTCC and its participants’ interpretation of 17A differs substantially from Congressional intent - and yet every time a victimized issuer tries any self-help measures, the DTCC, and sometimes the regulators as well, pull out the Section 17A card and play it - thereby thwarting the self-help attempt.
Let’s summarize the performance of the DTCC on these mandates: The DTCC is batting 1 out of 8 on these Congressional mandates - and the one they did follow was done for self-serving reasons, i.e. “prompt clearance” in order to get paid quickly. Does it not seem larcenous to proactively disconnect “clearance” from “settlement”, and then stick your hand out for your share of the investor’s funds? Is it not shifty to boost profits via the “Super-prompt clearance” of millions of trades, and then proactively not only refuse to follow up on “Settlement” matters, but instead actively set up the meticulous infrastructure to make sure not only that “Settlement” doesn’t occur (i.e. claiming to be “Powerless” to buy-in your own IOUs), but also to hide the fact that settlement isn’t occurring? By refusing to acknowledge the damaged nature of corporations with a plethora of unaddressed delivery failures, are investors not being misled, at the very least? Note that Section 17A’s wording also hints at the fiduciary duty of care owing to investors by those taking a commission and “Acting on behalf of investors” (Agency law).
Section 17A represents the “Birth certificate” of the DTC, almost like the “Articles of Incorporation” of a corporation. The 8 Congressional mandates comprise what amounts to be Congress’s “Mission statement” for the DTC. Congress basically gave the DTC their job assignment. Go do these 8 things because the industry is in the middle of a “Paperwork crisis”, and we need this new clearing and settlement entity to help matters out.
In terms of the SEC’s mission statement goals of investor protection and market integrity being of the highest order, far and away two of the DTCC’s 8 Congressional mandates stand out as being of the highest importance to attain investor protection and market integrity. They are the “Prompt settlement of trades” and the “Accurate settlement of trades”. Unfortunately these are the 2 mandates that the DTCC not only falls on their face in attaining, but pro-actively goes well out of their way in making sure that they don’t get attained. There is no innocent explanation for why that is the state of affairs.
The least important of the 7 mandates from an investor protection and market integrity point of view concerns “Prompt clearance of transactions”, which the DTCC excels at – unfortunately, for self-serving reasons. In fact, after the intentional “Decoupling” of “clearance” from “settlement”, the “Prompt clearance of transactions” becomes 180-degrees antipodal to the goals of investor protection and market integrity. An informed investor would plead with the DTCC not to clear his trade if he was being led into an ambush. Yet whenever the baseline fraud involving grossly more electronic book entries at the DTCC then there are certificated shares in their vaults to justify is in danger of being exposed, the DTCC pulls out their Section 17A flag and waves it briskly, while stating that we do things this way because Section 17A mandates the Supersonically “Prompt clearance of transactions”. Essentially, we do it this way because Congress made us do it this way!
This was the reasoning proffered for why the SEC should disallow the exodus from the DTCC of frustrated issuers that had had enough of the rampant undisclosed conflicts of interest at the DTCC. If these issuers would have gone to a paper-certificate-based system, then these trades wouldn’t have “Cleared promptly enough”. What they forgot to mention is that barring “paper and ink” counterfeiting, the much more important “Settlement” issues would have been 100% efficient - a failed delivery of a certificate results in no check being cashed - no “delivery” results in no payment. There would have been no credit extended to abusive DTCC participants selling nonexistent share “look alikes” to naïve investors in order to get their hands on the investor’s funds.
I will grant that an efficient “Settlement” system is not as “Prompt” as the current DTCC system, wherein every trade clears no matter how obviously larcenous it is from a historical point of view. But then again, what’s the hurry in placing a bet on a corporation preordained to an early death. Congress didn’t mention anything about a trade-off between speed, and investor protection/market integrity.
In essence, the recently attempted exodus from the DTCC amounts to the victimized issuers and their shareholders approaching the DTCC and telling them, “you’re not fulfilling Congressional mandates #’s 2 through 7 of Section 17A, so we’ll have our Transfer Agents take over in that capacity, and have them execute items 2 through 7.” The DTCC countered by noting the fact that this exodus is not consistent with mandate #1 of 17A, and reminded the world of how “promptly” they “cleared” $1.1 quadrillion in trades in 2005, and how slow paper-certificated transactions are.
THEY DIDN’T OFFER ANY COMMENTS REGARDING THEIR FAILURE TO FOLLOW MANDATES NUMBER 2 THROUGH 7, WHICH CAUSED THE NO-CONFIDENCE CRISIS IN THE FIRST PLACE. I CAN’T EMPHASIZE ENOUGH HOW THAT UNFORTUNATE 4-WORD PHRASE “PROMPT CLEARANCE OF TRADES” HAS CHANGED THE FACE OF WALL STREET, AND HOW SECTION 17A WILL GO DOWN IN HISTORY AS “THE GREAT EXCUSE PROVIDER”.