[Federal Register Volume 76, Number 169 (Wednesday, August 31, 2011)]
[Notices]
[Pages 54277-54279]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-22221]
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-65199; File No. SR-BX-2011-045]
Self-Regulatory Organizations; NASDAQ OMX BX, Inc.; Order
Approving a Proposed Rule Change Requesting Permanent Approval of the
Pilot Program Permitting BOX To Accept Inbound Routes by NOS
August 25, 2011.
I. Introduction
On July 13, 2011, NASDAQ OMX BX, Inc. (``BX'' or ``Exchange'')
filed with the Securities and Exchange Commission (``Commission''),
pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ a proposed rule change
requesting permanent approval of the Exchange's pilot program to permit
the Boston Options Exchange (``BOX'') to accept certain inbound orders
that
[[Page 54278]]
Nasdaq Options Services, LLC (``NOS'') routes from Nasdaq Options
Market (``NOM''). The proposed rule change was published for comment in
the Federal Register on July 20, 2011.\3\ The Commission received no
comment letters regarding the proposed rule change. This order approves
the proposed rule change.
---------------------------------------------------------------------------
\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ See Securities Exchange Act Release No. 64896 (July 15,
2011), 76 FR 43740 (``Notice'').
---------------------------------------------------------------------------
II. Background
BOX is an options trading facility of the Exchange under Section
3(a)(2) of the Act.\4\ Chapter XXXIX, Section 2 of the Grandfathered
Rules of the Exchange prohibits the Exchange or any entity with which
it is affiliated from acquiring or maintaining an ownership interest in
a member in the absence of an effective filing under Section 19(b) of
the Act.\5\ NOS is a broker-dealer that is a member of the Exchange,
and currently provides to members of the Nasdaq Stock Market LLC
(``Nasdaq'') that are NOM participants optional routing services to
other market centers.\6\ NOS is owned by The NASDAQ OMX Group, Inc.
(``NASDAQ OMX''), which also owns three registered securities
exchanges--Nasdaq, the Exchange, and NASDAQ OMX PHLX LLC.\7\ Thus, NOS
is an affiliate of each of these exchanges. Absent an effective filing,
Chapter XXXIX, Section 2 of the Grandfathered Rules of the Exchange
would prohibit NOS from being a member of the Exchange.
---------------------------------------------------------------------------
\4\ See Chapter 1, Section 1(a)(6) of the Rules of the Boston
Options Exchange Group LLC. See also Securities Exchange Act Release
No. 60349 (July 20, 2009), 74 FR 37071 (July 27, 2009) (SR-BX-2009-
035) (``BOX Routing Pilot Release'').
\5\ 15 U.S.C. 78s(b).
\6\ NOS operates as a facility of Nasdaq that provides outbound
routing from NOM to other market centers, subject to certain
conditions. See NOM Rules Chapter VI, Section 11(e). See also BOX
Routing Pilot Release, 74 FR at 37071.
\7\ See Securities Exchange Act Release No. 58324 (August 7,
2008), 73 FR 46936 (August 12, 2008) (SR-BSE-2008-02; SR-BSE-2008-
23; SR-BSE-2008-25; SR-BSECC-2008-01) (``BSE Approval Order''). See
also Securities Exchange Act Release No. 58179 (July 17, 2008), 73
FR 42874 (July 23, 2008) (order approving NASDAQ OMX's acquisition
of Phlx.)
NASDAQ OMX acquired the Exchange in August 2008. Prior to the
acquisition, the Exchange owned a 21.87% interest in Boston Options
Exchange Group, LLC (``BOX LLC''), the operator of BOX. Boston
Options Exchange Regulation, LLC (``BOXR'') is a wholly-owned
subsidiary of the Exchange, to which the Exchange has delegated,
pursuant to a delegation plan, certain self-regulatory
responsibilities related to BOX.
At the closing of the acquisition by NASDAQ OMX, the Exchange
transferred its interest in BOX LLC to MX US, a wholly-owned
subsidiary of the Montreal Exchange Inc. Although the Exchange no
longer holds an ownership interest in BOX LLC, it continues to hold
self-regulatory obligations with respect to BOX. The Exchange,
together with BOXR, retains regulatory control over BOX, and the
Exchange, as the SRO, remains responsible for ensuring compliance
with the federal securities laws and all applicable rules and
regulations.
NASDAQ OMX also currently indirectly owns NOS, a registered
broker-dealer and a BOX market participant. Thus, NOS is deemed an
affiliate of the Exchange, BOX and BOXR. See BOX Routing Pilot
Release, 76 FR at 37071. See also BSE Approval Order, 76 FR 46936.
---------------------------------------------------------------------------
On August 7, 2008, in connection with the acquisition of the
Exchange by NASDAQ OMX, the Commission approved an affiliation between
the Exchange and NOS for the limited purpose of permitting NOS to
provide routing services for Nasdaq for orders that first attempt to
access liquidity on Nasdaq's system before routing to the Exchange,
subject to certain other limitations and conditions.\8\ On July 17,
2009, the Exchange filed an immediately effective proposed rule change
to modify the conditions for the affiliation between NOS and the
Exchange, to permit the Exchange to receive certain orders routed by
NOS from NOM without first checking the NOM book for liquidity on a
one-year pilot basis.\9\ Specifically, the Exchange proposed to permit
NOS to route from NOM Exchange Direct Orders and orders in NOM Non-
System Securities (including Exchange Direct Orders).\10\ The Exchange
now seeks permanent approval of this inbound routing pilot.\11\
---------------------------------------------------------------------------
\8\ See BSE Approval Order, 73 FR at 46944.
\9\ See BOX Routing Pilot Release.
\10\ NOS provides to NOM participants routing services to other
market centers. Pursuant to Nasdaq's rules, NOS: (1) Routes orders
in options currently trading on NOM, referred to as ``System
Securities;'' and (2) routes orders in options that are not
currently trading on NOM (``Non-System Securities''). See NOM Rules,
Chapter VI, Section 1(b) and 11. When routing Non-System Securities,
NOS is not regulated as a facility of Nasdaq, but as a broker-dealer
regulated by its designated examining authority. See also BOX
Routing Pilot Release, 74 FR at 37071. ``Exchange Direct Orders''
are orders that are directed to an exchange other than NOM as
directed by the entering party without checking the NOM book. See
NOM Rules Chapter VI, Section 1(e)(7).
\11\ See Notice.
---------------------------------------------------------------------------
III. Discussion and Commission Findings
After careful review, the Commission finds that the proposed rule
change is consistent with the requirements of the Act and the rules and
regulations thereunder applicable to a national securities
exchange.\12\ Specifically, the Commission finds that the proposed rule
change is consistent with Section 6(b)(1) of the Act,\13\ which
requires, among other things, that a national securities exchange be so
organized and have the capacity to carry out the purposes of the Act,
and to comply and enforce compliance by its members and persons
associated with its members, with the provisions of the Act, the rules
and regulation thereunder, and the rules of the Exchange. Further, the
Commission finds that the proposed rule change is consistent with
Section 6(b)(5) of the Act,\14\ which requires, among other things,
that the rules of a national securities exchange be designed to prevent
fraudulent and manipulative acts and practices; to promote just and
equitable principles of trade; to foster cooperation and coordination
with persons engaged in regulating, clearing, settling, and processing
information with respect to, and facilitating transactions in
securities; to remove impediments to and perfect the mechanism of a
free and open market and a national market system; and, in general, to
protect investors and the public interest. Section 6(b)(5) also
requires that the rules of an exchange not be designed to permit unfair
discrimination among customers, issuers, brokers, or dealers.
---------------------------------------------------------------------------
\12\ In approving this proposed rule change, the Commission has
considered the proposed rule's impact on efficiency, competition and
capital formation. 15 U.S.C. 78c(f).
\13\ 15 U.S.C. 78f(b)(1).
\14\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------
Recognizing that the Commission has previously expressed concern
regarding the potential for conflicts of interest in instances where a
member firm is affiliated with an exchange of which it is a member, the
Exchange previously proposed, and the Commission approved, limitations
and conditions on NOS's affiliation with the Exchange.\15\ Also
recognizing that the Commission has expressed concern regarding the
potential for conflicts of interest in instances where a member firm is
affiliated with an exchange to which it is routing orders, the Exchange
previously implemented limitations and conditions to NOS's affiliation
with the Exchange to permit the Exchange to accept orders routed
inbound to BOX by NOS from NOM that do not first attempt to access
liquidity on the NOM book.\16\ The Exchange states it has met these
conditions: \17\
---------------------------------------------------------------------------
\15\ See BSE Approval Order, 73 FR at 46944.
\16\ See BOX Routing Pilot Release, 74 FR at 37072.
\17\ See Notice, 76 FR at 43741.
---------------------------------------------------------------------------
First, the Exchange and FINRA have entered into a
Regulatory Contract. Pursuant to the Regulatory Contract, FINRA has
been allocated regulatory responsibilities to review NOS's compliance
with BOX's rules through FINRA's examination program.\18\ Also
[[Page 54279]]
pursuant to the Regulatory Contract, however, BX retains ultimate
responsibility for enforcing its rules with respect to NOS, except to
the extent they are covered by an agreement with FINRA pursuant to Rule
17d-2 under the Act (``17d-2 Agreement''),\19\ in which case FINRA is
allocated regulatory responsibility.
---------------------------------------------------------------------------
\18\ The Exchange also states that NOS is subject to independent
oversight by FINRA, its Designated Examining Authority, for
compliance with financial responsibility requirements. See Notice,
76 FR at 43740, n.8.
\19\ 17 CFR 240.17d-2.
---------------------------------------------------------------------------
Second, FINRA and BX will monitor NOS for compliance with
the Exchange's trading rules, and will collect and maintain certain
related information.\20\
---------------------------------------------------------------------------
\20\ Pursuant to the Regulatory Contract, both FINRA and the
Exchange will collect and maintain all alerts, complaints,
investigations and enforcement actions in which NOS (in its capacity
as a facility of Nasdaq routing orders to BOX) is identified as a
participant that has potentially violated applicable Commission or
Exchange rules. The Exchange and FINRA will retain these records in
an easily accessible manner in order to facilitate any potential
review conducted by the Commission's Office of Compliance
Inspections and Examinations. See Notice, 76 FR at 43741, n.10.
---------------------------------------------------------------------------
Third, FINRA will provide a report to the BOXR's chief
regulatory officer (``CRO''), on a quarterly basis, that: (i)
Quantifies all alerts (of which FINRA is aware) that identify NES as a
participant that has potentially violated Commission or Exchange rules,
and (ii) lists all investigations that identify NES as a participant
that has potentially violated Commission or Exchange rules.\21\
---------------------------------------------------------------------------
\21\ See id.
---------------------------------------------------------------------------
Fourth, the Exchange has adopted Chapter XXXIX, Section
2(c) of the Grandfathered Rules of the Exchange, which requires NASDAQ
OMX, as the holding company owning NOS and affiliated with BOX through
the ownership of the Exchange, to establish and maintain procedures and
internal controls reasonably designed to ensure that NOS does not
develop or implement changes to its system, based on non-public
information obtained regarding planned changes to the Exchange's
systems as a result of its affiliation with the Exchange, until such
information is available generally to similarly situated Exchange
members, in connection with the provision of inbound order routing to
the Exchange.\22\
---------------------------------------------------------------------------
\22\ See chapter XXXIX, Section 2(c) of the Grandfathered Rules
of the Exchange. See also Notice, 76 FR at 43741.
---------------------------------------------------------------------------
Fifth, NOS was authorized to route NOM Exchange Direct
Orders without checking the NOM book, and orders in NOM non-system
securities, inbound to the Exchange from NOM for a pilot period of
twelve months, which was subsequently extended to September 15,
2011.\23\
---------------------------------------------------------------------------
\23\ See Notice, 76 FR at 43741. See also Securities Exchange
Act Release No. 65177 (August 19, 2011) (SR-BX-2011-058). The
Commission notes that the original pilot period of twelve months
began on August 16, 2009, but was extended several times. See
Notice, 76 FR at 43740, n.5.; and SR-BX-2011-058, supra.
The Exchange believes that by meeting the above-listed conditions it
has set up mechanisms that protect the independence of the Exchange's
regulatory responsibility with respect to NOS, and has demonstrated
that NOS cannot use any information advantage it may have because of
---------------------------------------------------------------------------
its affiliation with the Exchange.\24\
\24\ See BOX Routing Pilot Release, 76 FR at 43741.
---------------------------------------------------------------------------
In the past, the Commission has expressed concern that the
affiliation of an exchange with one of its members raises potential
conflicts of interest, and the potential for unfair competitive
advantage.\25\ Although the Commission continues to be concerned about
potential unfair competition and conflicts of interest between an
exchange's self-regulatory obligations and its commercial interest when
the exchange is affiliated with one of its members, for the reasons
discussed below, the Commission believes that it is consistent with the
Act to permit NOS to provide inbound routing to the Exchange on a
permanent basis instead of a pilot basis, subject to the other
conditions described above.
---------------------------------------------------------------------------
\25\ See, e.g., Securities Exchange Act Release Nos. 54170 (July
18, 2006), 71 FR 42149 (July 25, 2006) (SR-NASDAQ-2006-006) (order
approving Nasdaq's proposal to adopt Nasdaq Rule 2140, restricting
affiliations between Nasdaq and its members); 53382 (February 27,
2006), 71 FR 11251 (March 6, 2006) (SR-NYSE-2005-77) (order
approving the combination of the New York Stock Exchange, Inc. and
Archipelago Holdings, Inc.); 58673 (September 29, 2008), 73 FR 57707
(October 8, 2008) (SR-Amex-2008-62) (order approving the combination
of NYSE Euronext and the American Stock Exchange LLC); 59135
(December 22, 2008), 73 FR 79954 (December 30, 2008) (SR-ISE-2009-
85) (order approving the purchase by ISE Holdings of an ownership
interest in DirectEdge Holdings LLC); and 59281 (January 22, 2009),
74 FR 5014 (January 28, 2009) (SR-NYSE-2008-120) (order approving a
joint venture between NYSE and BIDS Holdings L.P.).
---------------------------------------------------------------------------
The Exchange has proposed four ongoing conditions applicable to
NOS's routing activities, which are enumerated above. The Commission
believes that these conditions mitigate its concerns about potential
conflicts of interest and unfair competitive advantage. In particular,
the Commission believes that FINRA's oversight of NOS,\26\ combined
with FINRA's monitoring of NOS's compliance with BOX's rules and
quarterly reporting to the BOXR's CRO, will help to protect the
independence of the Exchange's regulatory responsibilities with respect
to NOS. The Commission also believes that Chapter XXXIX, Section 2(c)
of the Exchange's Grandfathered Rules is designed to ensure that NOS
cannot use any information advantage it may have because of its
affiliation with the Exchange.
---------------------------------------------------------------------------
\26\ This oversight will be accomplished through the Regulatory
Contract between the Exchange and FINRA, and, as applicable, a 17d-2
Agreement.
---------------------------------------------------------------------------
IV. Conclusion
It Is Therefore Ordered, pursuant to Section 19(b)(2) of the
Act,\27\ that the proposed rule change (SR-BX-2011-045) be, and hereby
is, approved.
---------------------------------------------------------------------------
\27\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\28\
---------------------------------------------------------------------------
\28\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------
Elizabeth M. Murphy,
Secretary.
[FR Doc. 2011-22221 Filed 8-30-11; 8:45 am]
BILLING CODE 8011-01-P