[Federal Register Volume 77, Number 206 (Wednesday, October 24, 2012)]
[Notices]
[Pages 65037-65039]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2012-26148]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-68070; File No. SR-C2-2012-024]
Self-Regulatory Organizations; C2 Options Exchange, Incorporated;
Order Approving a Proposed Rule Change To Adopt a Designated Primary
Market-Maker Program
October 18, 2012.
I. Introduction
On August 21, 2012, the C2 Options Exchange, Incorporated (the
``Exchange'' or ``C2'') filed with the Securities and Exchange
Commission (the ``Commission''), pursuant to Section 19(b)(1) of the
Securities Exchange Act of 1934 (the ``Act''),\1\ and Rule 19b-4
thereunder,\2\ a proposed rule change to adopt a Designated Primary
Market-Maker (``DPM'') program. The proposed rule change was published
in the Federal Register on September 7, 2012.\3\ The Commission
received no comment letters on the proposal. This order approves the
proposed rule change.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ See Securities Exchange Act Release No. 67772 (August 31,
2012), 77 FR 55257 (September 7, 2012) (the ``Notice'').
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II. Description of the Proposed Rule Change
As set forth in the Notice, C2 has proposed to adopt a DPM program.
The associated proposed rules are based on the rules governing the DPM
program on the Chicago Board Options Exchange, Incorporated (``CBOE''),
excluding certain provisions that are inapplicable to C2 (such as
provisions related to floor trading and CBOE-specific provisions) and
other provisions that the Exchange believes are outdated.\4\
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\4\ See CBOE Rules 6.45A(a)(ii)(2) and (iii), 6.45B(a)(i)(2) and
(iii), 8.80, 8.83-8.91, 8.95, and 17.50(g)(14).
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The proposed rule change defines a DPM as a Participant \5\
organization that is approved by the Exchange to function in allocated
securities as a Market-Maker and is subject to obligations under
proposed Rule 8.17. Proposed Rule 8.14 sets forth the criteria that the
Exchange will consider when reviewing a Participant organization's
application to become a DPM. Each approved DPM will retain its status
to act as a DPM for one year. After each one-year term, a DPM may file
an application with the Exchange to renew its approval to act as a DPM.
In addition, the Exchange may take action to suspend or limit a DPM's
status, consistent with Rule 8.20 (concerning termination,
conditioning, or limiting approval to act as a DPM).\6\
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\5\ A ``Participant'' is an Exchange-recognized holder of a
Trading Permit (``Trading Permit Holder'' or ``TPH''). A Trading
Permit is an Exchange-issued permit that confers the ability to
transact on the Exchange. See Rule 1.1.
\6\ CBOE's DPM rules differ from proposed Rule 8.14 in several
ways. CBOE Rule 8.83 provides that a DPM's term is unlimited (until
the Exchange relieves or terminates the DPM of its approval to act
as a DPM), and accordingly, unlike the proposed rule, lacks a
provision allowing DPMs to renew their appointments after each one
year term (cf. CBOE Rule 8.83(e)). Further, CBOE Rule 8.83
contemplates the resignation of a DPM, while the proposed rule does
not because the Exchange believes resignation would be unnecessary
given the one-year DPM term. The DPM can simply choose not to renew
its application at the end of the term or ask C2 to relieve it of
its approval (cf. CBOE Rule 8.83(f)). CBOE Rule 8.89 also permits a
DPM to sell, transfer, or assign its appointment, which is
prohibited without the prior written approval of the Exchange by
proposed Rule 8.14(g). Finally, CBOE requires an annual review of
DPM operations and performance, but because C2 only permits DPMs to
have a one-year term, the Exchange believes an annual review is
unnecessary, though in proposed Rule 8.14(e), it may conduct an
evaluation of the extent to which the DPM has satisfied its
obligations under Rule 8.17 in determining whether to renew the
DPM's renewal application (cf. CBOE Rule 8.88(a)).
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Proposed Rule 8.15 sets forth the manner in which the Exchange will
allocate securities to DPMs. Specifically, the Exchange will determine
for each security traded on the Exchange whether the security should be
allocated to a DPM and, if so, to which DPM. The proposed rule also
describes the criteria that the Exchange may consider in making
allocation determinations.
Proposed Rule 8.15 further provides that the Exchange may remove an
allocation from a DPM and reallocate the security during a DPM's term
if the DPM fails to adhere to any market performance commitments made
by the DPM in connection with receiving the allocation or the Exchange
concludes that doing so is in the best interests of the Exchange based
on operational factors or efficiency. The proposed rule also describes
the procedures the Exchange must follow prior to taking any action to
remove an allocation.
Proposed Rule 8.16 grants the Exchange the authority to establish:
(1) Restrictions applicable to all DPMs on the concentration of
securities allocable to a single DPM and to affiliated DPMs, and (2)
minimum eligibility standards applicable to all DPMs, which must be
satisfied in order for a DPM to receive allocations of securities,
including but not limited to standards relating to adequacy of capital
and operational capacity.\7\
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\7\ The Commission notes that the exercise of the Exchange's
authority under this provision would be subject to the rule filing
requirements of Section 19 of the Act and, if so required, would
have to be filed with the Commission before such changes can become
effective. See 15 U.S.C. 78s.
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Proposed Rule 8.17 describes the obligations of a DPM, including
the general obligation that a DPM must fulfill all of the obligations
of a Market-Maker under Exchange Rules. In addition, the rule sets
forth additional requirements applicable to DPMs, such as heightened
quoting obligations and a duty to make competitive markets on the
Exchange. In particular, DPMs will be subject to a requirement to
provide a continuous quote throughout each trading day in 99% of their
non-adjusted series (or 100% minus one put-call pair of each assigned
class). Proposed Rule 8.18 sets forth the specific financial
requirements for DPMs.
Proposed Rule 8.19 grants a trade participation right to DPMs, and
gives the Exchange authority to establish a participation entitlement
formula that is applicable to all DPMs.\8\ The proposed rule provides
that: (1) A DPM will be entitled to a participation entitlement only if
quoting at the best bid or offer disseminated on the Exchange
(``BBO''); (2) a DPM may not be allocated a total quantity greater than
the quantity that the DPM is quoting at the BBO; and (3) the
participation entitlement is based on the number of contracts remaining
after all public customer orders in the Book at the BBO have been
satisfied. The proposed rule also provides that the collective DPM
participation entitlement shall be: 50% when there is one Market-Maker
also quoting at the BBO and 40% when there are two or more Market-
Makers also quoting at the
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BBO.\9\ If only the DPM is quoting at the BBO (with no Market-Makers
quoting at the BBO), the participation entitlement will not be
applicable and the allocation procedures under Rule 6.12 (Order
Execution and Priority) will apply.
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\8\ The Commission notes that any changes to the participation
entitlement formula would be subject to the rule filing requirements
of Section 19 of the Act and, if so required, would have to be filed
with the Commission before such changes can become effective. See 15
U.S.C. 78s.
\9\ Cf. CBOE Rule 8.87 (providing a different DPM participation
entitlement--50% if there is one Market-Maker quoting at the BBO,
40% when there are two Market-Makers quoting at the BBO, and 30%
when there are three or more Market-Makers quoting at the BBO).
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The Exchange proposed modifications to Rule 6.12 to accommodate the
participation entitlement for DPMs. The proposed rule change provides
that both PMMs and DPMs may be granted participation rights up to the
applicable participation right percentage designated in Rule 8.13 and
proposed Rule 8.19. Rule 6.12 also provides that, while the Exchange
may activate more than one trade participation right for an option
class (including at different priority sequences), in no case may more
than one trade participation right be applied on the same trade.
Further, the proposed rule provides that: (1) A DPM's order or quote
must be at the best price on the Exchange; (2) a DPM may not be
allocated a total quantity greater than the quantity that it is quoting
(including orders not part of quotes) at that price; (3) in
establishing the counterparties to a particular trade, the DPM's
participation right must be first counted against its highest priority
bids or offers; and (4) the DPM's participation right will only apply
to any remaining balance of an order once all higher priorities are
satisfied. The proposed rule change also adds paragraph (b)(2) to Rule
6.12 to provide for an optional small order priority overlay.
Proposed Rule 8.20 governs the Exchange's authority to terminate,
condition, or otherwise limit the approval of a DPM. The proposed rule
provides that the Exchange may take such action if the Participant
incurs a material financial or operational change, or if it fails to
comply with any of the requirements under C2 Chapter 8 regarding DPM
obligations. The proposed rule also describes the procedures the
Exchange must follow if it chooses to exercise its authority under the
proposed rule.
Proposed Rule 8.21 provides that a DPM must maintain information
barriers that are reasonably designed to prevent the misuse of
material, non-public information with any affiliates that may conduct a
brokerage business in option classes allocated to the DPM or act as a
specialist or Market-Maker in any security underlying options allocated
to the DPM, and otherwise comply with the requirements of CBOE
incorporated Rule 4.18 regarding the misuse of material non-public
information. The rule also requires a DPM to provide its information
barriers to the Exchange and obtain prior written approval.
Finally, the Exchange is amending Rule 17.50(g)(14) to add DPM
quoting obligations to the Exchange's Minor Rule Violation Plan
(``MRVP'').\10\
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\10\ The CBOE Rule 17.50(g)(14) provides that third and
subsequent offenses will be referred to its business conduct
committee, unlike the proposed rule change which allows C2 to either
fine a Market-Maker $5,000 for a third or subsequent offense, or
refer it to its business conduct committee.
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III. Discussion
The Commission finds that the Exchange's proposed rule change to
adopt a DPM program on C2 is consistent with the requirements of the
Act and the rules and regulations thereunder applicable to a national
securities exchange.\11\ In particular, the Commission believes that
the proposal is consistent with the requirements of Section 6(b)(5)
\12\ of the Act, which require, among other things, that the rules of
an exchange be designed to promote just and equitable principles of
trade, to foster cooperation and coordination with persons engaged in
regulating, clearing, settling, 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, protect investors and the public
interest.\13\ Moreover, Section 6(b)(5) requires that the rules of a
national securities exchange be designed to not permit unfair
discrimination between customers, issuers, brokers or dealers.\14\
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\11\ In approving this proposal, the Commission has considered
its impact on efficiency, competition, and capital formation. 15
U.S.C. 78c(f).
\12\ 15 U.S.C. 78f(b)(5).
\13\ Id.
\14\ Id.
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The Commission finds that the proposed rules are designed to
promote just and equitable principles of trade consistent with Section
6(b)(5) of the Act \15\ to the extent they require DPMs to undertake
certain obligations to the C2 market, including requirements to provide
continuous two-sided quoting and meet operational capacity
requirements. These requirements should help ensure that DPMs provide
liquidity in their allocated classes.
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\15\ Id.
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Pursuant to the proposed rules, the transactions of a DPM must
constitute a course of dealings reasonably calculated to contribute to
the maintenance of a fair and orderly market. A DPM must fulfill all of
the obligations of a Market-Maker under C2's rules, and must satisfy
the additional requirements imposed on a DPM in the securities
allocated to it. In particular, a DPM must, for example: (1) Provide
continuous quotes in at least the lesser of 99% of the non-adjusted
option series or 100% of the non-adjusted option series minus one call-
put pair of each option class allocated to it; (2) assure that each of
its displayed market quotations are for the number of contracts
required by Rule 8.6(a); (3) make competitive markets on the Exchange;
(4) supervise all persons associated with the DPM to assure compliance
with the C2 rules; (5) maintain minimum net capital in accordance with
C2's rules; (6) maintain information barriers that are reasonably
designed to prevent the use of material, non-public information; and
(7) continue to act as a DPM and to fulfill all of a DPMs obligations
while approved as a DPM. If C2 finds any failure by a DPM to comply
with the requirements of C2 Chapter 8 regarding DPM obligations and
responsibilities, or if, for any reason, the Exchange believes that a
Participant should no longer be eligible to act as a DPM or be
allocated particular securities, then C2 may terminate, condition, or
otherwise limit a Participant's approval to act as a DPM pursuant to
Rule 8.20. Together, these provisions are designed to help assure that
DPMs maintain and comply with their obligations to the Exchange and, in
so doing, protect investors and the public interest by promoting fair
and orderly trading on C2.
Under C2's proposed rules, DPMs would receive certain benefits for
their heightened responsibilities. For example, proposed Rule 6.12
allows DPMs to be granted a participation entitlement pursuant to
proposed Rule 8.19. A DPM may receive the participation entitlement
only when it is one of the Participants quoting at the best price.
Further, pursuant to Rule 8.19(b)(3), a DPM will not receive its
participation entitlement in trades for which a Preferred Market-Maker
receives a participation entitlement. In addition, pursuant to Rule
6.12(b)(2)(B), the small order preference only applies to the
allocation of executions among non-customer orders and Market-Maker
quotes existing in the Book (i.e., a DPM may not take advantage of this
preference to execute an incoming order for 5 or fewer contracts if
there is a customer order resting in the Book).
The Commission believes that a DPM must have sufficient affirmative
obligations to justify favorable
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treatment. The Commission believes that C2's DPM requirements,
including those requiring additional liquidity and competitive quoting,
impose sufficient affirmative obligations on the Exchange's DPMs, while
allowing public customer orders at the best price to continue to be
satisfied before a participation entitlement will be applied.
Accordingly, the Commission believes that these requirements are
consistent with the Act.
The Commission also finds that C2's proposed DPM qualification
requirements are consistent with the Act. In particular, the Exchange's
rules provide an objective process by which an applicant can become a
DPM on the Exchange and are designed to provide for oversight by C2 to
monitor for continued compliance by DPMs with the terms of their
application for such status and the Exchange's rules. The proposed
rules require that the Exchange consider several factors in determining
whether to allow a Participant to act as a DPM, including the
applicant's adequacy of capital, operational capacity, trading
experience, regulatory history, and willingness and ability to promote
the Exchange. These factors should ensure that those organizations
approved to act as DPMs have the ability to supply liquidity, quote
competitively, and perform their obligations competently.
The Exchange also may condition its approval for an applicant's DPM
status, including by imposing conditions on the capital or operations
of the applicant or the number of securities allocated to the
applicant, which should contribute to the Exchange's ability to ensure
that a DPM applicant is able to perform its DPM functions. The
Commission believes that the financial requirements for DPMs proposed
by the Exchange are designed to promote investor protection by ensuring
that DPMs have sufficient capital to maintain an orderly market for
their allocated securities.
Finally, the Commission believes that the Exchange's proposed
procedures for allocating securities to DPMs should help to ensure that
securities traded by the Exchange are allocated in an equitable manner,
giving all DPMs a fair opportunity to obtain allocations. In addition,
the Commission believes that the Exchange's proposed rule limiting each
DPM's term to one year should open opportunities to all Participants to
become a DPM.
IV. Conclusion
It is therefore ordered, pursuant to Section 19(b)(2) of the
Act,\16\ that the proposed rule change (SR-C2-2012-024) be, and hereby
is, approved.
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\16\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\17\
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\17\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2012-26148 Filed 10-23-12; 8:45 am]
BILLING CODE 8011-01-P