[Federal Register Volume 60, Number 198 (Friday, October 13, 1995)]
[Notices]
[Pages 53442-53444]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 95-25369]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-36332; File No. SR-CBOE-95-48]
Self-Regulatory Organizations; Notice of Filing of Proposed Rule
Change and Amendment No. 1 Thereto by the Chicago Board Options
Exchange, Inc., Relating to the Use of Proprietary Brokerage Order
Routing Terminals on the Floor of the Exchange
October 4, 1995.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act''),\1\ notice is hereby given that on August 25, 1995, the
Chicago Board Options Exchange, Inc. (``CBOE'' or ``Exchange'') filed
with the Securities and Exchange Commission (``Commission'') the
proposed rule change as described in Items I, II, and III below, which
Items have been prepared by the self-regulatory organization. On
October 3, 1995, the Exchange filed Amendment No. 1 to the proposed
rule change.\2\ The Commission is publishing this notice to solicit
comments on the proposed rule change from interested persons.
\1\ 15 U.S.C. Sec. 78s(b)(1) (1988).
\2\ In Amendment No. 1, the CBOE states that Section II.C. of
Exhibit 1 to its Form 19b-4 filing incorporates by reference the
language from Section 5 of its Form 19b-4 filing (``Self-Regulatory
Organization's Statement on Comments on the Proposed Rule Change
Received from Members, Participants, or Others''). Letter from
Burton R. Rissman, Schiff Hardin & Waite, to Francois Mazur,
Attorney, Office of Market Supervision, Division of Market
Regulation, Commission, dated October 3, 1995 (``Amendment No. 1'').
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
The CBOE proposes to adopt a policy pursuant to its Rule 6.23.\3\
Under the proposed policy, no member will be permitted to establish,
maintain or use on the floor of the Exchange any proprietary brokerage
order routing terminal and its related system (``Terminal'') without
the written approval of the Exchange. No Terminal will be approved
unless and until the member who proposes to establish it on the floor
of the Exchange has filed with the Exchange an ``Application &
Agreement for Brokerage/Order Routing Terminals in Trading Crowds''
(``Application Agreement''), and, until further action of the Board of
Directors of the Exchange, Terminals will be approved solely for the
use in the crowd trading S&P 500 Index options (``SPX options'') for
the routing of orders in SPX options.
\3\ The proposed policy was submitted to the Commission as
Exhibit A to the filing and is available from the Commission at the
address provided in Part IV of this notice, as well as at the
principal office of the CBOE.
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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 self-regulatory organization
included statements concerning the purpose of and basis for the
proposed rule change and discussed any comments it received on the
proposed rule change. The text of these statements may be examined at
the places specified in Item IV below. The self-regulatory organization
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
A firm that has applied and been approved for membership on the
Exchange (but which has not yet completed the process of becoming an
effective member) \4\ has sought Exchange
[[Page 53443]]
approval to establish and use a Terminal in the SPX options crowd. The
Terminal proposed to be used by the firm would be a wireless, hand-held
device designed to receive orders entered by the firm or its customers
from off the floor. Use of the Terminal would thus permit the firm and
its customers to transmit orders electronically directly to one or more
of its floor brokers on the floor of the Exchange, including to a
broker who is in the trading crowd. The firm's application for use of a
Terminal, which is the only such application that has been received to
date by the Exchange, has raised a number of issues that the Exchange
has determined to resolve as a matter of policy that will be applicable
to all members.
\4\ Pursuant to an extension granted by the membership
committee, the firm may become an effective member at any time on or
prior to December 19, 1995. Telephone Conversation between Michael
L. Meyer, Schiff Hardin & Waite, and Francois Mazur, Attorney,
Office of Market Supervision, Division of Market Regulation,
Commission, on September 27, 1995.
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On the one hand, the use of Terminals may facilitate the
transmission of brokerage orders to the floor of the Exchange, and, if
Terminals are successful, they may attract new customers to the
Exchange's market and provide competitive advantages to the firms which
develop and use them. On the other hand, the proposed Terminals raise a
number of important concerns that must be addressed before their use
can be approved. The purpose of the proposed rule change is to allow
Terminals to be introduced under conditions designed to address the
Exchange's concerns, and to allow a determination whether Terminals
lead to any unforeseen consequences. The following is a discussion of
those concerns and the manner in which they are dealt with by the
proposed rule change.
(a) Surveillance, Audit Trails and Compliance
The use of Terminals must be subject to adequate inspection and
audit by the Exchange. Moreover, the use of the Terminals must comply
with all applicable regulatory requirements.
Paragraph D of the Application Agreement requires an applicant to
agree that the use of its Terminal will conform to all applicable laws,
the rules, policies and procedures of the Commission and the Exchange,
and the provisions of the Application Agreement. Paragraph F of the
Application Agreement requires the applicant to agree that the
operation and use of all aspects of its Terminal and all orders entered
through the Terminal will be subject to inspection and audit by the
Exchange at any time upon reasonable notice. It also requires the
applicant to furnish the Exchange with such information as the Exchange
may request concerning the Terminal.
(b) Physical, Electrical and Communication Requirements
The space and frequency transmission capacity available on the
floor of the Exchange must be fairly allocated among members and other
Exchange uses, and the Terminals must be regulated to assure that they
do not interfere with other uses. Moreover, although the Exchange will
not immediately require the Terminals to interface with other Exchange
systems (such as the Exchange trade match and price reporting systems),
the Exchange reserves the authority to require such interfaces.
The Application Agreement requires the applicant to specify the
necessary physical, electrical and communication requirements of its
proposed Terminal and to describe its Terminal system in detail.
Paragraph H of the Application Agreement requires the applicant to
coordinate the installation, maintenance and use of the Terminal on the
trading floor through the Exchange's Telecommunications Department, and
Paragraph K permits the Exchange to reallocate the space allocated to
the applicant's Terminal. These requirements will allow the Exchange to
take into consideration the needs of all members in the allocation of
limited space and communication resources and to assure that Terminals
do not interfere with one another or with other Exchange systems. In
addition, Paragraph K of the Application Agreement expressly
acknowledges the authority of the Exchange to require the interface of
Terminals with other Exchange systems.
(c) Market-Making Restriction
As a result of the speed with which non-members will be able to
transmit orders through a Terminal directly to the point of their trade
on the Exchange floor, it may be possible for persons who are not
subject to Exchange regulation to perform marketmaking functions from
off the floor of the Exchange without being burdened by the cost of
maintaining Exchange memberships, or by the obligations imposed on
Exchange market makers, including the obligations to trade in the
manner prescribed by Exchange Rule 8.7, to respond to calls of Order
Book Officials pursuant to Exchange Rule 7.5, and to trade at quotes
displayed in the market maker's crowd as required as Exchange Rule
8.51, as well as other obligations, limitations and regulations imposed
on Exchange market makers by the Exchange's rules. The Exchange is
concerned that if Terminals can be used to perform market making
functions from off the floor of the Exchange, it may become undesirable
for Exchange market makers to continue to assume the costs and
obligations attendant to being a registered market maker, which, in
turn, would harm the liquidity and quality of the Exchange's market and
be detrimental to the substantial majority of public investors.
Nevertheless, the purpose of the proposed Terminals is to
facilitate the transmission of customer orders to the floor of the
Exchange. It is not to permit, whether by design or by accident, the
creation of a market-making system for Exchange transactions that will
serve as an alternative to the system established under the Exchange's
rules.
Accordingly, Paragraph C of the Application Agreement requires the
applicant to agree that its Terminal will be used to receive brokerage
orders only, that it will not be used to perform a market-making
function, and that the Terminal system will be separate from any system
which the applicant or an associated person of the applicant may use
for market making.
(d) Misuse of Information
The Exchange is concerned that knowledge of the information
transmitted through a Terminal system could be misused before that
information is disclosed to the trading crowd.\5\ One concern is that
the information in an order would not be known to the trading crowd
until the applicant or one of its associated persons had interacted
with that order--in effect internalizing it--which would be
inconsistent with the open auction market principles governing the
Exchange's trading system. A second concern is that knowledge of the
order information in the system could give the applicant or its
associated persons the ability to effect transactions or to change
quotes in the Exchange's market or in the markets for the underlying
interest or related interests before the information was available in
the market.
\5\ The Exchange believes that it would be inconsistent with
just and equitable principles of trade for a member or its
associated persons to use, or to permit the use of, information in a
customer's order prior to the disclosure of that information to the
market, except if such use is in accordance with the instructions of
the customer and is consistent with Exchange rules. Telephone
Conversation between Burton R. Rissman, Schiff Hardin & Waite, and
Francois Mazur, Attorney, Office of Market Supervision, Division of
Market Regulation, Commission, on October 3, 1995.
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Accordingly, Paragraph E of the Application Agreement requires the
applicant to agree that neither it nor its
[[Page 53444]]
associated persons (as defined in the Application Agreement) will trade
with others transmitted through the Terminal. There are two exceptions
to this restriction. First, the applicant or an associated person will
be able to trade with an order in the Terminal system if no one wishes
to trade with it. Second, the applicant and its associated persons will
be able, if they so desire, to participate in the order on the same
basis that other market makers who do not have priority participate.
Paragraph E also prohibits the applicant and its restricted persons
from using for their own benefit any information contained in any order
in the Terminal system until that information has been disclosed to the
trading crowd.
Initially, the Exchange will limit the use of Terminals to the SPX
options trading crowd for routing of orders in SPX options. This
limitation will give the Exchange the opportunity to observe how the
Terminals are being used in a crowd which is active enough to bring to
light any unforeseen problems and to gain experience with the use of
Terminals in that trading crowd before the Exchange implements the
policy floor-wide.\6\
\6\ The Commission notes that any decision to extend the policy
floor-wide would have to be submitted to the Commission as a
proposed rule change pursuant to Section 19(b) of the Act.
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The Exchange believes that the proposed rule change is consistent
with Section 6(b) of the Act, in general, and furthers the objectives
of Sections 6(b)(1) and 6(b)(5) of the Act, in particular, in that the
proposal is designed to improve communications to and from the
Exchange's trading floor in a manner that gives the Exchange necessary
monitoring tools and that is designed to prevent fraudulent and
manipulative acts and practices, promote just and equitable principles
of trade, perfect the mechanisms of a free and open market, and protect
investors and the public interest.
(B) Self-Regulatory Organization's Statement on Burden on Competition
The Exchange believes that the proposed rule change will not impose
any inappropriate burden on competition. To the contrary, the Exchange
believes that the proposed rule change will promote competition among
brokers by encouraging the development and use of new systems designed
to facilitate the execution of customer orders, while preserving the
benefits of the auction market for all customers. The proposed rule
change does place conditions on the use of the proposed Terminals, but
the Exchange believes those conditions are reasonably necessary and
appropriate for the protection of investors and in furtherance of the
other purposes of the Act.
(C) Self-Regulatory Organization's Statement on Comments on the
Proposed Rule Change Received from Members, Participants, or Others
Written comments on the proposed rule change were neither solicited
nor received. In a collateral document addressed to the Exchange after
the proposed policy was adopted, counsel for the firm referred to above
which seeks to establish a Terminal on the Exchange floor stated that
the conditions imposed by the Application Agreement were ``unauthorized
restrictions'' and then stated:
In particular, paragraph C of the [Application] Agreement limits
the use of the terminals to certain kinds of orders, namely, ones
that ``do not create a pattern of offering in the aggregate either
to make two-sided markets or simultaneously to represent opposite
sides of the market in any class of options.'' In addition to being
vague and ambiguous, this restriction lacks any basis in the rules
of the Exchange. Equally important, this restriction violates the
letter and spirit of the Securities Exchange Act of 1934, as
amended, in that it: undermines investor protections; erects
impediments to the mechanism of a free and open market and a
national market system; inhibits the economically efficient
execution of securities transactions; and unnecessarily impairs
competition.\7\
\7\ See Amendment No. 1 supra note 2.
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III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within 35 days of the date of publication of this notice in the
Federal Register or within such longer period (i) as the Commission may
designate up to 90 days of such date if it finds such longer period to
be appropriate and publishes its reasons for so finding or (ii) as to
which the self-regulatory organization consents, the Commission will:
(a) by order approve such proposed rule change, or
(b) institute proceedings to determine whether the proposed rule
change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views and
arguments concerning the foregoing. Persons making written submissions
should file six copies thereof with the Secretary, Securities and
Exchange Commission, 450 Fifth Street NW., Washington, D.C. 20549.
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 inspection and copying in the
Commission's Public Reference Section, 450 Fifth Street NW.,
Washington, D.C. Copies of such filing will also be available for
inspection and copying at the principal office of the above-mentioned
self-regulatory organization. All submissions should refer to File No.
SR-CBOE-95-48 and should be submitted by November 3, 1995.
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\8\
\8\ 17 CFR 200.30-3(a)(12) (1994).
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Jonathan G. Katz,
Secretary.
[FR Doc. 95-25369 Filed 10-12-95; 8:45 am]
BILLING CODE 8010-01-M