Custody-Only Trading

DEFINITION of 'Custody-Only Trading'

A system in which shares must be registered to the holder by name and can only be traded in physical form. The adoption of custody-only trading requires any purchases or transfers of stock to be placed through the issuing company's transfer agent. The transfer agent cancels the shares received from the seller, and issues a new share certificate for an equivalent number of shares to the buyer. While custody-only trading is a cumbersome process, some companies implement it to counter "naked" short selling.

BREAKING DOWN 'Custody-Only Trading'

While conventional short selling involves the sale of borrowed stock, "naked" short selling refers to short sales by traders who have no intention of borrowing and then selling the stock. Rather, they simply resort to short selling without borrowing the stock or ensuring that it can be borrowed, thereby driving down the price of the stock precipitously. Since custody-only trading requires purchase and sales of physical shares only, there is no stock for short-sellers to borrow or pretend to borrow, thereby discouraging naked shorting. In 2008, the SEC banned "abusive" naked short selling in the United States.

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