On Monday, the Securities and Exchange Commission (SEC) charged optionsXpress Holdings Inc. with repeatedly indulging in deceptive short-sale transactions in the past. OptionsXpress, a Chicago-based retail online brokerage company was acquired by Charles Schwab Corporation (SCHW) in September 2011 for $1.0 billion.
Reason Behind the Allegation
The SEC claimed that optionsXpress failed to comply with the Regulation SHO of the Exchange Act, according to which, the brokers are required to settle the customer’s short sale transactions by buying and delivering the stock within three days. According to the SEC, optionsXpress deliberately created the impression of closing-out the short sale obligations without actually delivering the stock.
Call options were sold simultaneously with the buying of shares to create the delusion of settlement of the sale. However, the purchased shares were never delivered to the buyer. Instead, the call options were exercised on the day of share purchase and the shares were resold without actually getting delivered to the original buyer, which contradict the securities law of the SEC.
From October 2008 through March 2010, before optionsXpress was acquired by Schwab, these short sales were allegedly carried out by optionsXpress in several securities of firms such as Sears Holdings Corporation (SHLD), American International Group, Inc. (AIG) and Chipotle Mexican Grill, Inc. (CMG).
Impact of the Deception
In January 2010, the customers involved in the misleading trades of optionsXpress accounted for, on average, 47.9% of the daily trading volume, affecting the market for the issuers.
Moreover, six customer accounts in optionsXpress bought nearly $5.7 billion worth of securities and sold short about $4 billion of call options in 2009. An accused customer, Feldman himself purchased $2.9 billion of securities and sold short nearly $1.7 billion of options through his account at optionsXpress.
The SEC believes that optionsXpress and the involved customers earned profits at the cost of the true buyers by not delivering the shares.
Implications
Though, optionsXpress has been charged for misconduct in the short sale transactions carried out by it prior to its merger, the consequences of these charges will have to be faced by Schwab in the form of elevated legal expenses. Moreover, this lawsuit may compel the clients to reconsider their business relations with the company, which can substantially hurt its goodwill and in turn, its profitability.
Currently, Schwab retains a Zacks #2 Rank, which translates into a short-term Buy rating.
AMER INTL GRP (AIG): Free Stock Analysis Report
CHIPOTLE MEXICN (CMG): Free Stock Analysis Report
SCHWAB(CHAS) (SCHW): Free Stock Analysis Report
SEARS HLDG CP (SHLD): Free Stock Analysis Report
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