[Federal Register Volume 79, Number 175 (Wednesday, September 10, 2014)]
[Notices]
[Pages 53798-53799]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2014-21519]
[[Page 53798]]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-72986; File No. SR-CBOE-2014-017]
Self-Regulatory Organizations; Chicago Board Options Exchange,
Incorporated; Order Approving a Proposed Rule Change, as Modified by
Amendment 1, To Amend Its Rules Related to Complex Orders
September 4, 2014.
I. Introduction
On February 19, 2014, Chicago Board Options Exchange, Incorporated
(the ``Exchange'' or ``CBOE'') filed with the Securities and Exchange
Commission (the ``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 to amend its rules relating to
complex orders. On March 3, 2014, the Exchange filed Amendment No. 1 to
the proposed rule change. The proposed rule change, as modified by
Amendment No. 1 thereto, was published for comment in the Federal
Register on March 10, 2014.\3\ On April 23, 2014, the Commission
extended the time period in which to either approve the proposal,
disapprove the proposal, or to institute proceedings to determine
whether to approve or disapprove the proposal, to June 6, 2014.\4\ On
June 5, 2014, the Commission instituted proceedings to determine
whether to approve or disapprove the proposed rule change.\5\ The
Commission then received two comment letters on proposal.\6\ 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. 71648 (March 5,
2014), 79 FR 13359 (``Notice'').
\4\ See Securities Exchange Act Release No. 72008, 79 FR 24032
(April 29, 2014).
\5\ See Securities Exchange Act Release No. 72329, 79 FR 33627
(June 11, 2014).
\6\ See letter to Kevin M. O'Neill, Deputy Secretary,
Commission, from John Kinahan, Interim-CEO, Group One Trading, L.P.,
dated July, 7, 2014 (``Group One Letter''); and letter to the Office
of the Secretary, Commission, from Martha Redding, Chief Counsel and
Assistant Corporate Secretary, NYSE, Inc., dated July 10, 2014
(``NYSE Letter'').
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II. Description of Proposed Rule Change
Under current CBOE Rule 6.53C(d)(ii), a Trading Permit Holder
representing a COA-eligible order may request that the Exchange
initiate a complex order auction (``COA'') for the COA-eligible order
before such order enters the complex order book (``COB'').\7\ In this
proposed rule change, the Exchange proposes to require all complex
orders with three or more legs to be subject to a COA prior to entering
the COB.\8\ Specifically, the Exchange proposes to amend Rule
6.53C(d)(ii) to provide that CBOE's Hybrid Trading System \9\ (the
``System'') will initiate a COA on receipt of: (1) A COA-eligible order
with two legs and request from the Trading Permit Holder representing
the order that it initiate a COA; or (2) a complex order with three or
more legs, regardless of the order's routing parameters (e.g., a
request to route directly to the COB) or handling instructions (except
for orders routed for manual handling).\10\ Thus, as proposed, all
complex orders in Hybrid classes with three or more legs would
automatically be subject to a COA (other than those routed for manual
handling) prior to entering the COB where they can leg into the
market.\11\
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\7\ Under current CBOE Rule 6.53C(d)(i)(2), the Exchange may
determine on a class-by-class basis which complex orders are
eligible for a COA, including by complex order type and origin type.
The Exchange notes that currently, in all Hybrid classes, customer,
firm and broker-dealer complex orders are eligible for a COA, and
all complex order types except for immediate-or-cancel (``IOC'')
orders are eligible for a COA in all Hybrid classes. See Notice,
supra note 3, n.8. Additionally, only marketable orders and
``tweeners'' (limit orders bettering the same side of the derived
net market) are eligible for a COA. For Hybrid 3.0 classes (i.e.
SPX), all complex order types (including IOC orders) are eligible
for a COA, but only customer complex orders are eligible for a COA.
See id. (citing CBOE Regulatory Circulars RG06-73, RG08-38, and
RG08-97).
\8\ The Exchange explains that this proposed change applies to
Hybrid classes only, and not Hybrid 3.0 classes. See Notice, supra
note 3, n.7. In this regard, the proposed rule change proposes to
amend CBOE Rule 6.53C, Interpretation and Policy .10 to indicate
that complex orders in Hybrid 3.0 classes, regardless of the number
of legs, will initiate a COA in the same manner they currently do.
See id.
\9\ The proposed rule change proposes to amend CBOE Rule
6.53C(d)(ii) to say that the System, rather than the Exchange, will
send the RFR message. See id. at n.9. Because the System will
automatically send the RFR message when the conditions set forth in
CBOE Rule 6.53C(d)(ii) are met, the Exchange believes using the term
``System'' in the rule text is appropriate. See id.
\10\ The Exchange explains that if a complex order with three or
more legs contains an instruction to route for manual handling, such
as to PAR, and through such manual handling routes to the COB, the
proposed rule change would provide that such order will initiate a
COA prior to entry on the COB, even if the PAR operator requests
that the order not initiate a COA. See Notice, supra note 3, n.10.
\11\ The Exchange states that this automatic initiation of a COA
does not apply to stock-option orders. See id. at n.11.
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The Exchange proposes to amend CBOE Rule 6.53C(d)(ii) to provide
that CBOE's System will reject back to a Trading Permit Holder any
complex order with three or more legs that includes a request pursuant
to CBOE Rule 6.53C, Interpretation and Policy .04 \12\ that the order
not initiate a COA.\13\ The Exchange also proposes to amend CBOE Rule
6.53C(d)(ii), which currently provides that only a Trading Permit
Holder representing an order may request that the order initiate a COA,
to also provide that PAR operators handling an order may request that a
COA-eligible order initiate a COA.\14\
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\12\ CBOE Rule 6.53C, Interpretation and Policy .04 provides
that Trading Permit Holders routing complex orders directly to the
COB may request that the complex orders initiate a COA on a class-
by-class basis and Trading Permit Holders with resting complex
orders on PAR may request that complex orders initiate a COA on an
order-by-order basis.
\13\ See Notice, supra note 3, at 13362.
\14\ CBOE believes that permitting orders resting on PAR to
initiate a COA is consistent with other CBOE rules. See id. at n. 15
and accompanying text (citing to CBOE Rule 6.53C(d), which,
according to the Exchange, states that complex orders may be subject
to a COA once on PAR, and CBOE Rule 6.53C, Interpretation and Policy
.04(a), which, according to the Exchange, states that Trading Permit
Holders with resting complex orders on PAR may request that complex
orders initiate a COA).
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According to the Exchange, this proposed rule change will address
the concern that market makers may reduce the size of their quotations
in the leg markets because of the presence of certain complex orders
that are designed to circumvent the ``Quote Risk Monitor Mechanism''
(``QRM'') settings established by market makers.\15\ CBOE describes the
QRM as a functionality designed to help market makers provide liquidity
across most series in their appointed classes without being at risk of
executing the full cumulative size of all their quotes before being
given adequate opportunity to adjust their quotes.\16\
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\15\ See Notice, supra note 3, at 13363.
\16\ See id. at 13361.
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The QRM, according to CBOE, generally operates by allowing market
makers to set a variety of parameters, which, if triggered, will cause
the System to cancel a market maker's quotes in all series in an
appointed class after executing the order that triggered the
parameter.\17\ CBOE states that the System performs the QRM parameter
calculations to determine if the QRM has been triggered after each
execution against a market maker's quotes.\18\ According to the
Exchange, when a complex order legs into the regular market (i.e.,
executes against individual quotes for each of the legs in the regular
market), all of the legs of a complex order are considered as a single
execution for purposes of the QRM, and
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not as a series of individual transactions, because each leg of the
complex order is contingent on the other leg.\19\ Thus, the System
performs the QRM parameter calculations after the entire complex order
executes against interest in the regular market. In contrast, if the
legs of the complex order had been submitted to the regular market
separately and without any complex order contingency, the System would
perform the QRM parameter calculations after each leg executed against
interest in the regular market. According to the Exchange, this
differential treatment may result in market makers exceeding their risk
parameters by a greater number of contracts when complex orders leg
into the regular market.\20\
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\17\ See id. at 13360-61. CBOE states that the System performs
the parameter calculations after an execution against a market maker
quote occurs in order to assure that all quotations are firm for
their full size. See id. at 13361.
\18\ See id.
\19\ See id.
\20\ See id.
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The Exchange believes that the potential risk to market makers of
complex orders legging into the regular market limits the amount of
liquidity that market makers are willing to provide in the regular
market.\21\ In particular, according to the Exchange, market makers may
reduce the size of their quotations in the regular market because of
the presence of these complex orders that are designed to circumvent
QRM and risk the execution of the cumulative size of market makers'
quotations across multiple series without market makers' being aware of
these complex orders or having an opportunity to adjust their
quotes.\22\ Accordingly, the Exchange believes that reducing market
maker risk in the regular market by requiring complex orders in Hybrid
classes with three or more legs to be subject to a COA--which will
allow market makers to react accordingly, including adjusting their
quotes to avoid the circumvention of their QRM parameter settings--will
benefit investors by encouraging market makers to provide additional
liquidity in the regular market and enhance competition in those
classes.\23\ According to the Exchange, this potential benefit to
investors far exceeds any ``perceived detriment'' to requiring certain
complex orders to be subject to a COA prior to potential interaction
with the leg markets.\24\ The Exchange notes that complex orders with
three or more legs will still have opportunities for execution through
a COA, in the COB or in the leg markets if they do not execute at the
end of the COA.\25\
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\21\ See Notice, supra note 3, at 13362.
\22\ See id.
\23\ See id.
\24\ See id.
\25\ See id.
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In the Notice, the Exchange states that it will announce the
implementation date of the proposed rule change in a Regulatory
Circular to be published no later than 90 days following the effective
date of this proposed rule change.\26\ The Exchange also states that
the implementation date will be no later than 180 days following the
effective date of this proposed rule change.\27\
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\26\ See Notice, supra note 3, at 13363.
\27\ See id.
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III. Summary of Comment Letters
As noted above, the Commission received two comments, both
expressing support for the proposed rule change.\28\ One commenter
stated that it believes CBOE's proposal is a reasonable response to the
problem of complex orders circumventing market makers QRM
parameters.\29\ The other commenter stated that it believes that the
proposal will allow market makers to better rely on the Exchange's QRM
to remove quotes when a market makers risk tolerance is exceed, which,
according to the commenter, will allow market makers to provide
quotations with large sizes and tight spreads.\30\
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\28\ See supra note 6.
\29\ See NYSE Letter, supra note 6, at 2.
\30\ See Group One Letter, supra note 6, at 2.
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IV. 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.\31\ In particular, the Commission finds that the proposed
rule change is consistent with Section 6(b)(5) of the Act,\32\ 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 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. The Commission notes that participating in a COA will
provide complex orders with three or more legs an opportunity for price
improvement through the auction mechanism. The Commission also notes
that both commenters expressed support for the proposal.
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\31\ In approving this proposal, the Commission has considered
the proposed rule's impact on efficiency, competition, and capital
formation. See 15 U.S.C. 78c(f).
\32\ 15 U.S.C. 78f(b)(5).
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V. Conclusion
It is therefore ordered, pursuant to Section 19(b)(2) of the
Act,\33\ that the proposed rule change (SR-CBOE-2014-017) is approved.
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\33\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\34\
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\34\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2014-21519 Filed 9-9-14; 8:45 am]
BILLING CODE 8011-01-P