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Key Takeaways
- Regulation SHO governs equity-sale marking, short-sale locates, delivery close-outs and the Rule 201 price test.
- A locate gives the broker reasonable grounds to believe the shares can be borrowed before the short sale goes through.
- Rule 204 forces delivery failures closed on a fixed schedule: by the open on T+2 for an ordinary short sale.
- Reporting-company threshold tests use 10,000 shares, 0.5% of shares outstanding and five consecutive settlement days.
- Rule 201’s covered-stock price trigger is separate from threshold-list status.
What is Regulation SHO?
Regulation SHO is the SEC rule set that governs the mechanics of equity short sales. The broker marks the order, establishes the locate and handles delivery. Clearing participants close out delivery failures on Rule 204’s schedule. Rule 201 adds a separate price test for covered stocks after a 10% decline from the prior official close.
Rules 203 and 204: locate and close-out requirements
Rule 203 requires borrowing, a bona fide borrowing arrangement or reasonable grounds to believe the shares can be borrowed and delivered when due, with its own provision for bona fide market making.
Rule 204 separately requires a purchase or borrowing close-out by its deadline. The ordinary short-sale deadline is the beginning of regular trading on the settlement day after settlement date. Qualifying long-sale and bona fide market-making fails get until the third settlement day after settlement.
A missed close-out triggers the pre-borrow provisions. The market-making locate treatment does not remove these delivery duties.
Formula
Reporting-company threshold tests: aggregate fails ≥ 10,000 shares and ≥ 0.5% of shares outstanding for five consecutive settlement days, with inclusion on the SRO list.- Fails are measured at a registered clearing agency.
- For 40 million shares outstanding, 0.5% equals 200,000 shares.
- FINRA Rule 4320 has a separate non-reporting-security test using 10,000 shares and $50,000 in fail value.
- Rule 201’s price test uses a 10% decline from the prior official closing price for covered securities.
Threshold securities example
XYZ is an exchange-listed reporting company with 40,000,000 shares outstanding and a prior official closing price of $18. A registered clearing agency records 260,000 aggregate fails on each of five consecutive settlement days, and the security is included on the threshold list. The next regular session, XYZ trades at $16.20.
- Share test: 260,000 fails ≥ the 10,000 share minimum
- Percentage test: 260,000 / 40,000,000 = 0.65%, above the 0.5% threshold
- Duration test: five consecutive settlement days satisfied
- Price test trigger: $18.00 × 0.90 = $16.20
The 260,000 fails equal 0.65% of shares outstanding and meet the threshold tests. Separately, the $16.20 trade is a 10% decline from $18 and triggers Rule 201. The price test restricts display and execution of covered short sales at or below the national best bid for the rest of that day and the following day, with the rule’s short-exempt treatment.
XYZ has 40 million shares outstanding and 260,000 aggregate fails on each of five consecutive settlement days. The fails equal 0.65% of outstanding shares, exceeding both the 10,000-share and 0.5% tests. XYZ also appears on the reporting-company threshold list, the last condition.
FINRA Rule 4320 covers a separate non-reporting category. It uses a 10,000-share minimum and $50,000 fail-value test over five consecutive settlement days, with inclusion on FINRA’s list.
Rule 201 short sale price test example
XYZ’s prior official close is $18. A 10% decline reaches $16.20. A qualifying regular-session trade at that level triggers Rule 201 for the rest of the day and the following day.
The rule governs the display and execution of covered short sales relative to the national best bid, with its short-exempt provisions. This price trigger is separate from settlement-failure status.
Regulation SHO and option pricing
Borrow availability and financing terms shape the stock hedge behind option positions. When borrow gets scarce, the higher cost of shorting the hedge shows up in the relationship between call and put prices, so check short interest, the borrow rate and the option chain together.
Limitations of Regulation SHO
- Read the threshold list as a delivery signal. It counts settlement failures, so pull short interest, short-sale volume and Rule 201 status separately.
- Under Rule 201, short sales still trade above the bid. The rule governs display and execution at or below the national best bid, and qualifying orders use the rule’s short-exempt treatment.
- Plan for the close-out. A locate rests on reasonable grounds to believe shares can be borrowed, so fails still occur, and Rule 204 forces an ordinary short-sale fail closed by the open on T+2.
- Check the category first. Reporting and non-reporting securities use different threshold tests, and qualifying long-sale and bona fide market-making fails get a longer close-out period.
Bottom line
Regulation SHO sets the rules for short selling equity securities: mark the sale, establish a locate, deliver or close out on schedule, and follow the Rule 201 price test after a 10% decline. Read the threshold list and the price test as separate signals, one about settlement failures and one about price declines.
Clear answers
Frequently Asked Questions
Sources and Further Reading
- FINRA Rule 4320: Short Sale Delivery Requirements
- FINRA 2025 Annual Regulatory Oversight Report: Regulation SHO
- Cboe: U.S. Equities Reg SHO Threshold Securities
- Cboe: U.S. Equities Short Sale Circuit Breakers
- FINRA: Short Interest Reporting Frequently Asked Questions
- Nasdaq Trader: Short Sale Circuit Breaker (Rule 201)
How entries are sourced, calculated and updated: editorial methodology.