SEC Says Salomon Broke Trading Rules on Crash Day

The Securities and Exchange Commission on Thursday accused Salomon Bros., the Wall Street trading firm, of violating rules on short sales of stock during trading on Oct. 19, 1987, the day of the crash.

Salomon agreed to settle the charges, related to the sale of $12.5 million of stock for the firm’s own account, without admitting or denying guilt. The firm agreed to accept a series of SEC-imposed sanctions. These include a censure of the firm but no financial penalty.

Short selling is the selling of a stock that one doesn’t own and can be done for several reasons, including as a way of profiting if one expects the price of a stock to fall. In this case, such sales could have offset a small part of the trading losses the firm suffered on the day of the crash.

The SEC asserted that Salomon Bros. “willfully” violated short selling rules and also “willfully” failed to cooperate with the SEC investigation by not promptly making available books and records subpoenaed by the agency.

Bob Baker, a Salomon Bros. spokesman, said the rule violations were unintentional, caused mainly by the mass confusion that reigned on the day of the crash. Salomon said that on that day “we were unaware that we had traded improperly.”

According to SEC documents, Salomon on that day sold about 300,000 shares of stock that it did not own and failed to officially mark the sales as short sales. The stock was in 19 companies listed on the New York Stock Exchange.

Under SEC rules, short sales are only permitted on an “uptick,” which means if the last different price the stock traded at was lower than the short sale price. But on Oct. 19, 1987, as the Dow Jones industrial Average plummeted 508 points, there were few upticks in the price of any stock.

Baker said the sales occurred because several Salomon Bros. traders were trying simultaneously to unload the firm’s holdings in the stocks from several internal accounts. He said the traders did not realize that they had sold more than the firm actually held.

The spokesman said the $12.5 million in short sales represented only a small fraction of the approximately $2.5 billion in stock trading the firm did that day. He noted that Salomon, like most Wall Street firms, on balance suffered large trading losses that day.

Lawrence Iason, the SEC’s New York regional administrator, declined to comment on how much money, if any, the firm saved as a result of the improper short sales. Salomon could have profited from the short sales by selling the stock it did not own at the market price and then covering its obligation to deliver the actual shares later by buying them back at a lower price.

In addition to the censure, the SEC sanctions require Salomon to assign a senior internal auditor to consult with an outside certified public accountant or lawyer and make two semiannual reviews of Salomon’s procedures in keeping track of short sales. The internal auditor must file reports with the SEC on the auditor’s findings and recommend improvements, if necessary, in Salomon’s procedures. Baker said Salomon already has taken steps to improve its procedures.