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New guidance from the Investment Industry Regulatory Organization of Canada (IIROC) aims to clarify the status of naked short selling under its trading rules.

The self-regulatory organization issued a guidance note declaring traders must have a “reasonable expectation” that they will have access to the securities required to settle their trades. If not, the order is considered prohibited under its rules on manipulative and deceptive trading.

“If the participant knows or ought reasonably to know that it is unlikely that sufficient securities will be available and accessible to deliver on settlement date, the order is not permitted to be entered,” IIROC said in its guidance note.

The guidance also addressed how to determine what constitutes a “reasonable expectation” that a trader would be able to cover their short, including whether the short seller has previously failed to cover trades, and an assessment of the difficulty of borrowing the securities being shorted.

“[W]here a client expects to receive securities after the settlement date of a short-sale trade, the participant is not permitted to rely on those securities to establish a ‘reasonable expectation’ to settle because the securities would not be available to deliver on the settlement date,” IIROC added.