[Federal Register Volume 77, Number 32 (Thursday, February 16, 2012)]
[Notices]
[Pages 9290-9293]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2012-3612]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-66372; File No. SR-NASDAQ-2012-021]
Self-Regulatory Organizations; Notice of Filing and Immediate
Effectiveness of Proposed Rule Change by NASDAQ Stock Market LLC
Relating to Fidelity Bonds
February 10, 2012.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act''),\1\ and Rule 19b-4\2\ thereunder, notice is hereby given that
on January 31, 2012, The NASDAQ Stock Market LLC (``NASDAQ'' or
``Exchange'') filed with the Securities and Exchange Commission
(``SEC'' or ``Commission'') the proposed rule change as described in
Items I and II below, which Items have been prepared by NASDAQ. The
Commission is publishing this notice to solicit comments on the
proposed rule change from interested persons.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
The NASDAQ Stock Market LLC proposes to amend NASDAQ Rule 3020 to
reflect recent changes to a corresponding rule of the Financial
Industry Regulatory Authority (``FINRA'').
The text of the proposed rule change is available on the Exchange's
Web site at http://www.nasdaq.cchwallstreet.com, at the principal
office of the Exchange, and at the Commission's Public Reference Room.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, the Exchange included statements
concerning the purpose of, and basis for, the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. The Exchange has prepared summaries, set forth in
sections A, B, and C below, of the most significant aspects of such
statements.
A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
1. Purpose
Many of NASDAQ's rules are based on rules of FINRA (formerly the
National Association of Securities Dealers (``NASD'')). Beginning in
2008, FINRA embarked on an extended process of moving rules formerly
designated as ``NASD Rules'' into a consolidated FINRA rulebook. In
most cases, FINRA has renumbered these rules, and in some cases has
substantively amended them. Accordingly, NASDAQ also has initiated a
process of modifying its rulebook to ensure that NASDAQ rules
corresponding to FINRA/NASD rules continue to mirror them as closely as
practicable.
This proposed rule change concerns NASDAQ Rule 3020 entitled
``Fidelity Bonds,'' which follows and incorporates by reference former
NASD Rule 3020.\3\ FINRA recently amended its rules to adopt former
NASD Rule 3020, relating to Fidelity Bonds, with certain changes, into
the consolidated FINRA rulebook as FINRA Rule 4360.\4\ NASDAQ Rule 3020
provides that ``[a] member designated to Nasdaq for oversight pursuant
to SEC Rule 17d-1 shall comply with NASD Rule 3020 as if such Rule were
part of Nasdaq's Rules.'' The Exchange proposes to amend this text to
reference new FINRA Rule 4360, which replaced NASD Rule 3020.
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\3\ The purpose of the fidelity bond is to protect a member
against certain types of losses, including, but not limited to,
those caused by the malfeasance of its officers and employees, and
the effect of such losses on the member's capital.
\4\ See Securities Exchange Act Release No. 63961 (February 24,
2011), 76 FR 11542 (March 2, 2011) (SR-FINRA-2010-059) (a rule
change to adopt a rule of the National Association of Securities
Dealers, Inc. (``NASD'') as part of the consolidation of the FINRA
rulebook). This new rule took into account Incorporated NYSE Rule
319 (Fidelity Bonds) and its Interpretation.
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NASD Rule 3020(a) generally provides that each member required to
join the Securities Investor Protection Corporation (``SIPC'') that has
employees and that is not a member in good standing of one of the
enumerated national securities exchanges must maintain fidelity bond
coverage. FINRA Rule 4360 requires each member that is required to join
SIPC to maintain blanket fidelity bond coverage with specified amounts
of coverage based on the member's net capital requirement, with certain
exceptions. NASD Rule 3020(a)(1) requires members to maintain a blanket
fidelity bond in a form substantially similar to the standard form of
Brokers Blanket Bond promulgated by the Surety Association of America.
New FINRA Rule 4360 requires members to maintain fidelity bond coverage
that provides for per loss coverage without an aggregate limit of
liability. Also, pursuant to FINRA Rule 4360, a member's fidelity bond
must provide against loss and have Insuring Agreements covering at
least the following: Fidelity, on premises, in transit, forgery and
alteration, securities and counterfeit currency. The rule change
modified the descriptive headings for these Insuring Agreements, in
part, from NASD Rule 3020(a)(1) and NYSE Rule 319(d) to align them with
the headings in the current bond forms available to broker-dealers.
FINRA Rule 4360 also eliminates the specific coverage provisions in
NASD Rule
[[Page 9291]]
3020(a)(4) and (a)(5), and NYSE Rule 319(d)(ii)(B) and (C), and
(e)(ii)(B) and (C), that permit less than 100 percent of coverage for
certain Insuring Agreements (i.e., fraudulent trading and securities
forgery) to require that coverage for all Insuring Agreements be equal
to 100 percent of the firm's minimum required bond coverage.\5\
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\5\ Members may elect to carry additional, optional Insuring
Agreements not required by FINRA Rule 4360 for an amount less than
100 percent of the minimum required bond coverage.
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Further, FINRA Rule 4360 requires that a member's fidelity bond
include a cancellation rider providing that the insurer will use its
best efforts to promptly notify FINRA in the event the bond is
cancelled, terminated or ``substantially modified.'' Also, the rule
change adopted the definition of ``substantially modified'' in NYSE
Rule 319 and would incorporate NYSE Rule 319.12's standard that a firm
must immediately advise FINRA in writing if its fidelity bond is
cancelled, terminated or substantially modified.\6\ FINRA added
supplementary material to FINRA Rule 4360 requiring members that do not
qualify for a bond with per loss coverage without an aggregate limit of
liability to secure alternative coverage. Specifically, a member that
does not qualify for blanket fidelity bond coverage as required by
FINRA Rule 4360(a)(3) is required to maintain substantially similar
fidelity bond coverage in compliance with all other provisions of the
rule, provided that the member maintains written correspondence from
two insurance providers stating that the member does not qualify for
the coverage required by FINRA Rule 4360(a)(3).
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\6\ NYSE Rule 319 defines the term ``substantially modified'' as
any change in the type or amount of fidelity bonding coverage, or in
the exclusions to which the bond is subject, or any other change in
the bond such that it no longer complies with the requirements of
the rule.
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FINRA Rule 4360 requires each member to maintain, at a minimum,
fidelity bond coverage for any person associated with the member,
except directors or trustees of a member who are not performing acts
within the scope of the usual duties of an officer or employee. As
further detailed below, the rule change eliminated the exemption in
NASD Rule 3020 for sole stockholders and sole proprietors. The rule
change also increased the minimum required fidelity bond coverage for
members, while continuing to base the coverage on a member's net
capital requirement. To that end, FINRA Rule 4360 required a member
with a net capital requirement that is less than $250,000 to maintain
minimum coverage of the greater of 120 percent of the firm's required
net capital under Exchange Act Rule 15c3-1 or $100,000. The increase to
$100,000 modifies the present minimum requirement of $25,000.
Under the new FINRA Rule 4360, members with a net capital
requirement of at least $250,000 must use a table in the rule to
determine their minimum fidelity bond coverage requirement. The table
is a modified version of the tables in NASD Rule 3020(a)(3) and NYSE
Rule 319(e)(i). The identical NASD and NYSE requirements for members
that have a minimum net capital requirement that exceeds $1 million are
retained in the new Rule; however, the rule adopts the higher
requirements in NYSE Rule 319(e)(i) for a member with a net capital
requirement of at least $250,000, but less than $1 million. Under the
new rule, the entire amount of a member's minimum required coverage
must be available for covered losses and may not be eroded by the costs
an insurer may incur if it chooses to defend a claim. Specifically, any
defense costs for covered losses must be in addition to a member's
minimum coverage requirements. A member may include defense costs as
part of its fidelity bond coverage, but only to the extent that it does
not reduce a member's minimum required coverage under the rule.
Under prior NASD Rule 3020(b), a deductible provision may be
included in a member's bond of up to $5,000 or 10% of the member's
minimum insurance requirement, whichever is greater. If a member
desires to maintain coverage in excess of the minimum insurance
requirement, then a deductible provision may be included in the bond of
up to $5,000 or 10% of the amount of blanket coverage provided in the
bond purchased, whichever is greater. The excess of any such deductible
amount over the maximum permissible deductible amount based on the
member's minimum required coverage must be deducted from the member's
net worth in the calculation of the member's net capital for purposes
of Exchange Act Rule 15c3-1. Where the member is a subsidiary of
another member, the excess may be deducted from the parent's rather
than the subsidiary's net worth, but only if the parent guarantees the
subsidiary's net capital in writing.\7\ FINRA Rule 4360 provides for an
allowable deductible amount of up to 25% of the fidelity bond coverage
purchased by a member. Any deductible amount elected by the firm that
is greater than 10% of the coverage purchased by the member \8\ would
be deducted from the member's net worth in the calculation of its net
capital for purposes of Exchange Act Rule 15c3-1.\9\ Like the NASD and
NYSE rules, if the member is a subsidiary of another FINRA member, this
amount may be deducted from the parent's rather than the subsidiary's
net worth, but only if the parent guarantees the subsidiary's net
capital in writing.
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\7\ Under NYSE Rule 319(b), each member organization may self-
insure to the extent of $10,000 or 10% of its minimum insurance
requirement as fixed by the NYSE, whichever is greater, for each
type of coverage required by the rule. Self-insurance in amounts
exceeding the above maximum may be permitted by the NYSE provided
the member or member organization certifies to the satisfaction of
the NYSE that it is unable to obtain greater bonding coverage, and
agrees to reduce its self-insurance so as to comply with the above
stated limits as soon as possible, and appropriate charges to
capital are made pursuant to Exchange Act Rule 15c3-1. This
provision also contains identical language to the NASD rule
regarding net worth deductions for subsidiaries.
\8\ FINRA notes that a member may elect, subject to
availability, a deductible of less than 10 percent of the coverage
purchased.
\9\ NASD Rule 3020 bases the deduction from net worth for an
excess deductible on a firm's minimum required coverage, while FINRA
Rule 4360 would base such deduction from net worth on coverage
purchased by the member.
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Consistent with NASD Rule 3020(c) and NYSE Rule 319.10, FINRA Rule
4360 requires a member (including a firm that signs a multi-year
insurance policy), annually as of the yearly anniversary date of the
issuance of the fidelity bond, to review the adequacy of its fidelity
bond coverage and make any required adjustments to its coverage, as set
forth in the rule. Under FINRA Rule 4360(d), a member's highest net
capital requirement during the preceding 12-month period, based on the
applicable method of computing net capital (dollar minimum, aggregate
indebtedness or alternative standard), is used as the basis for
determining the member's minimum required fidelity bond coverage for
the succeeding 12-month period. The ``preceding 12-month period''
includes the 12-month period that ends 60 days before the yearly
anniversary date of a member's fidelity bond. This would give a firm
time to determine its required fidelity bond coverage by the
anniversary date of the bond.
Further, FINRA Rule 4360 allows a member that has only been in
business for one year and elected the aggregate indebtedness ratio for
calculating its net capital requirement to use, solely for the purpose
of determining the adequacy of its fidelity bond coverage for its
second year, the 15 to 1 ratio of aggregate indebtedness to net capital
in lieu of the 8 to 1 ratio (required for broker-dealers
[[Page 9292]]
in their first year of business) to calculate its net capital
requirement. Notwithstanding the above, such member would not be
permitted to carry less minimum fidelity bond coverage in its second
year than it carried in its first year.
Based in part on NASD Rule 3020(a), FINRA Rule 4360 exempts from
the fidelity bond requirements members in good standing with a national
securities exchange that maintain a fidelity bond subject to the
requirements of such exchange that are equal to or greater than the
requirements set forth in Rule 4360. Additionally, consistent with NYSE
Rule Interpretation 319/01, FINRA Rule 4360 continues to exempt from
the fidelity bond requirements any firm that acts solely as a
Designated Market Maker (``DMM''),\10\ floor broker or registered floor
trader and does not conduct business with the public. FINRA Rule 4360
does not maintain the exemption in NASD Rule 3020(e) for a one-person
firm.\11\ Historically, a sole proprietor or sole stockholder member
was excluded from the fidelity bond requirements based upon the
assumption that such firms were one-person shops and, therefore, could
not obtain coverage for their own acts. FINRA has determined that sole
proprietors and sole stockholder firms can and often do acquire
fidelity bond coverage, even though it is currently not required, since
all claims (irrespective of firm size) are likely to be paid or denied
on a facts-and-circumstances basis. Also, certain coverage areas of the
fidelity bond benefit a one-person shop (e.g., those covering customer
property lost in transit).
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\10\ See [sic] Exchange Act Release No. 58845 (Oct. 24, 2008),
73 FR 64379 (Oct. 29, 2008) (Order Approving File No. SR-NYSE-2008-
46). In this rule filing, the role of the specialist was altered in
certain respects and the term ``specialist'' was replaced with the
term ``Designated Market Maker.''
\11\ A one-person member (that is, a firm owned by a sole
proprietor or stockholder that has no other associated persons,
registered or unregistered) has no ``employees'' for purposes of
NASD Rule 3020, and therefore such a firm currently is not subject
to the fidelity bonding requirements. Conversely, a firm owned by a
sole proprietor or stockholder that has other associated persons has
``employees'' for purposes of NASD Rule 3020, and currently is, and
will continue to be, subject to the fidelity bonding requirements.
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2. Statutory Basis
The Exchange believes that its proposal is consistent with Section
6(b) of the Act \12\ in general, and furthers the objectives of Section
6(b)(5) of the Act \13\ in particular, in that it is designed to
promote just and equitable principles of trade, 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, by updating and clarifying the requirements governing
fidelity bonds. The Exchange believes that the proposed requirements of
Rule 4360, including, but not limited to, requiring each member that is
required to join SIPC to maintain blanket fidelity bond coverage,
increasing the minimum requirement fidelity bond coverage and
maintaining a fidelity bond that provides for per loss coverage without
an aggregate limit of liability promotes investor protection by
protecting firms from unforeseen losses. The proposed amendments will
conform NASDAQ Rule 3020 to recent changes made to a corresponding
FINRA rule, to promote application of consistent regulatory standards.
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\12\ 15 U.S.C. 78f(b).
\13\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition
The Exchange does not believe that the proposed rule change will
impose any burden on competition not necessary or appropriate in
furtherance of the purposes of the Act.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
No written comments were either solicited or received.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Because the foregoing proposed rule change does not: (i)
Significantly affect the protection of investors or the public
interest; (ii) impose any significant burden on competition; and (iii)
become operative for 30 days after the date of the filing, or such
shorter time as the Commission may designate, it has become effective
pursuant to 19(b)(3)(A) of the Act \14\ and Rule 19b-4(f)(6) \15\
thereunder.
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\14\ 15 U.S.C. 78s(b)(3)(A).
\15\ 17 CFR 240.19b-4(f)(6). In addition, Rule 19b-4(f)(6)
requires a self-regulatory organization to give the Commission
written notice of its intent to file the proposed rule change at
least five business days prior to the date of filing of the proposed
rule change, or such shorter time as designated by the Commission.
The Exchange has satisfied this requirement.
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The Exchange has requested that the Commission waive the 30-day
operative delay. The Commission believes that waiver of the operative
delay is consistent with the protection of investors and the public
interest because the proposed rule change presents no novel issues, and
NASDAQ members are currently subject to FINRA Rule 4360. Therefore, the
Commission designates the proposal operative upon filing.\16\
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\16\ For purposes only of waiving the 30-day operative delay,
the Commission has considered the proposed rule's impact on
efficiency, competition, and capital formation. See 15 U.S.C.
78c(f).
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At any time within 60 days of the filing of the proposed rule
change, the Commission summarily may temporarily suspend such rule
change if it appears to the Commission that such action is necessary or
appropriate in the public interest, for the protection of investors, or
otherwise in furtherance of the purposes of the Act.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Act. Comments may be submitted by any of
the following methods:
Electronic Comments
Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
Send an email to [email protected]. Please include
File Number SR-NASDAQ-2012-021 on the subject line.
Paper Comments
Send paper comments in triplicate to Elizabeth M. Murphy,
Secretary, Securities and Exchange Commission, 100 F Street NE.,
Washington, DC 20549-1090.
All submissions should refer to File Number SR-NASDAQ-2012-021. This
file number should be included on the subject line if email is used. To
help the Commission process and review your comments more efficiently,
please use only one method. The Commission will post all comments on
the Commission's Internet Web site (http://www.sec.gov/rules/sro.shtml).
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for Web site viewing and printing in
the Commission's Public Reference Room, 100 F Street NE., Washington,
DC 20549, on official business days between the hours of 10
[[Page 9293]]
a.m. and 3 p.m. Copies of the filing also will be available for
inspection and copying at the principal office of the Exchange. All
comments received will be posted without change; the Commission does
not edit personal identifying information from submissions. You should
submit only information that you wish to make available publicly. All
submissions should refer to File Number SR-NASDAQ-2012-021 and should
be submitted on or before March 8, 2012.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\17\
Kevin M. O'Neill,
Deputy Secretary.
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\17\ 17 CFR 200.30-3(a)(12).
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[FR Doc. 2012-3612 Filed 2-15-12; 8:45 am]
BILLING CODE 8011-01-P