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F ederal R e se r v e Ba n k DALLAS. TEXAS of Dallas 75222 Circular No. 73-108 May 9, 1973 I N T E R P R E T A T I O N OF R E G U L A T I O N T (Treatment of Simultaneous Long and Short Positions) To A l l Banks, B r o k e r / D e a l e r s , an d Others C o n c e r n e d in the Ele v e n t h F e d e r a l Reserve District: A t t a c h e d is a co p y of an i n t e r p r e t a t i o n o f R egu lati on T, "Credit b y Brokers an d Dealers'1, re la t i n g to th e t r ea tment of simultaneous long and short positi ons in a m a r g i n account wi t h respect to options. Yours v e r y truly, P. E. Coldwell, President Att ac h m e n t This publication was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (FedHistory@dal.frb.org) BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM CREDIT BY BROKERS AND DEALERS INTERPRETATION OF REGULATION T Section 220.128 Treatment of simultaneous long and short positions in the same margin account when put or call options or combinations thereof on such stock are also outstanding in the account. endorsement or guarantee of any put, call, or other option; (a) The Board was recently asked whether under Regulation T, “Credit by Brokers and Deal ers” (12 C.F.R. 220), if there are simultaneous long and short positions in the same security in the same margin account (often referred to as a short sale “against the box”), such positions may be used to supply the place of the deposit of mar gin ordinarily required in connection with the guarantee by a creditor of a put or call option or combination thereof on such stock. (g) . . . (4) Any transaction which serves to meet the requirements of paragraph (e) of this section or otherwise serves to permit any offsetting transaction in an account shall, to that extent, be unavailable to permit any other transaction in such account. (b) The applicable provisions of Regulation T are §220.3(d)(3) and (5) and §220.3(g)(4) and (5) which provide as follows: “( d ) . . . the adjusted debit balance of a general accou n t. . . shall be calculated by taking the sum of the following items: * * * (3) the current market value of any securities (other than unissued securities) sold short in the general account plus, for each security (other than an exempted security), such amount as the Board shall prescribe from time to time in §220.8(d) (the Supplement to Regulation T) as the margin required for such short sales, except that such amount so prescribed in such §220.8(d) need not be included when there are held in the general a ccou n t. . . the same securities or securities ex changeable or convertible within 90 calendar days, without restriction other than the payment of money, into such securities sold short; * * (5) the amount of any margin customarily re quired by the creditor in connection with his * * * (5) For the purpose of this part (Regulation T), if a security has maximum loan value under para graph (c)(1) of this section in a general account, or under §220.4(j) in a special convertible debt security account, a sale of the same security (even though not the same certificate) in such account shall be deemed to be a long sale and shall not be deemed to be or treated as a short sale.” (c) Rule 431 of the N ew York Stock Exchange requires that a creditor obtain a minimum deposit of 25 per cent of the current market value of the optioned stock in connection with his issuance or guarantee of a put, and at least 30 per cent in the case of a call (and that such position be “marked to the market”), but permits a short posi tion in the stock to serve in lieu of the required deposit in the case of a put and a long position to serve in the case of a call. Thus, where the appro priate position is held in an account, that position may serve as the margin required by §220.3(d)(5). (d) In a short sale “against the box”, however, the customer is both long and short the same se curity. He may have established either position, properly margined, prior to taking the other, or he may have deposited fully paid securities in his margin account on the same day he makes a short sale of such securities. In either case, he will have directed his broker to borrow securities elsewhere in order to make delivery on the short sale rather than using his long position for this purpose (see also 17 C.F.R. 240.3b-3). (e) Generally speaking, a customer makes a short sale “against the box” for tax reasons. Regu lation T, however, provides in §220.3(g) that the two positions must be “netted out” for the pur poses of the calculations required by the regula tion. Thus, the Board concludes that neither posi tion would be available to serve as the deposit of margin required in connection with the endorse ment by the creditor of an option. (f) A similar conclusion obtains under §220.3(d) (3). That section provides, in essence, that the mar gin otherwise required in connection with a short sale need not be included in the account if the customer has in the account a long position in the same security. In §220.3(g)(4), however, it is provided that “[A]ny transaction which . . . serves to permit any offsetting transaction in an account shall, to that extent, be unavailable to per mit any other transaction in such account.” Thus, if a customer has, for example, a long position in a security and that long position has been used to supply the margin required in connection with a short sale of the same security, then the long position is unavailable to serve as the margin re quired in connection with the creditor’s endorse ment of a call option on such security. (g) A situation was also described in which a customer has purported to establish simultaneous offsetting long and short positions by executing a “cross” or wash sale of the security on the same day. In this situation, no change in the beneficial ownership of stock has taken place. Since there is no actual “contra” party to either transaction, and no stock has been borrowed or delivered to accomplish the short sale, such fictitious positions would have no value for purposes of the Board’s margin regulations. Indeed, the adoption of such a scheme in connection with an overall strategy involving the issuance, endorsement or guarantee of put or call options or combinations thereof ap pears to be manipulative and may have been em ployed for the purpose of circumventing the requirements of the regulations. 4 /1 6 /7 3 * * * * *