The Stock Market Is Patently Unfair

This column was originally published on RealMoney on April 25 at 8:02 a.m. EDT. It's being republished as a bonus for TheStreet.com readers.

In a fair market, the property of investors is secure and protected, the playing field is level, and rules are uniformly enforced.

Unfortunately for investors, that does not describe the current condition of the stock market. The current stock market is patently unfair.

The core issues are not complex. They are actually quite simple. Investors in stocks should consider these current realities:

1. A share may or may not be a share.
2. A vote may or may not be a vote.
3. A trade may or may not be a trade.

Shares, votes, and trades --- these involve basic, fundamental market functions that should not be at issue. But they are at issue. And a fix is needed. Here are three core principles around which stock market reform should be focused:

Investors Deserve to Know What They Own

It should be a given that brokers fully disclose exactly what sort of asset an investor owns. It's not a given because there is a sizeable roadblock: Full disclosure does not serve the financial interests of brokers.

While it's true that it's your property and you deserve to know what is in your account, don't expect the brokers to be forthcoming anytime soon. If brokers had to disclose to investors when shares are removed from their margin accounts and lent to short sellers, it might put a crimp in their massively profitable stock-lending businesses.

Brokers often generate annual yields of 10%-15% or more when they lend out your property, and rates of 25% or more are not unusual for hard-to-borrow stocks. If there were full disclosure, investors might demand a share of those lending profits.

Taxes are one obvious reason to mandate full disclosure. I own the stock of Commerce Bank(CBH) (CBH) in a margin account. Instead of getting the benefit of the 15% tax rate on dividends, last year I paid ordinary tax rates (which are more than double) on a sizable portion of my Commerce dividend (called "in lieu" income on the 1099 form).

Why is the special 15% dividend tax rate unavailable to me?

It's because I don't really have Commerce shares in my account --- despite what it says on my brokerage account statement. My broker lent my Commerce shares to a short seller who sold my shares to someone else. The borrower of my stock paid me an amount equal to the dividend, so I don't lose the dividend income. But since I don't actually have shares in my account, it's not a real dividend and the lower tax rate is not available.