[Federal Register Volume 59, Number 2 (Tuesday, January 4, 1994)]
[Notices]
[Pages 336-338]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-46]


[[Page Unknown]]

[Federal Register: January 4, 1994]


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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-33391; File No. SR-PSE-91-11]

 

Self-Regulatory Organizations; Pacific Stock Exchange, Inc.; 
Order Approving Proposed Rule Change and Notice of Filing and Order 
Granting Accelerated Approval to Amendments No. 1 and No. 2 to Proposed 
Rule Change Relating to Method for Execution of Cross Transactions

December 28, 1993.

I. Introduction

    On August 26, 1991, the Pacific Stock Exchange, Inc. (``PSE'' or 
``Exchange'') submitted to the Securities and Exchange Commission 
(``SEC'' or ``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 relating to the method for the 
execution of cross transactions on the PSE. On June 7, 1993, the PSE 
submitted Amendment No. 1 to the proposed rule change in order to 
clarify certain terms used in the original filing.\3\ On August 18, 
1993, the PSE submitted Amendment No. 2 to the proposed rule change in 
order to clarify its interpretation of certain provisions regarding 
specialist participation in cross transactions.\4\
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    \1\15 U.S.C. 78s(b)(1) (1988).
    \2\17 CFR 240.19b-4 (1991).
    \3\See letter from Kenneth, J. Marcus, Director, Equity 
Surveillance/Compliance, PSE, to Diana Luka-Hopson, Branch Chief, 
Division of Market Regulation, SEC, dated June 3, 1993 (``Amendment 
No. 1'').
    \4\See letter from Kenneth J. Marcus, Director, Equity 
Surveillance/Compliance, PSE, to Beth Stekler, Attorney, Division of 
Market Regulation, SEC, dated August 9, 1993 (``Amendment No. 2'').
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    The proposed rule change was published for comment in Securities 
Exchange Act Release No. 29712 (September 20, 1991), 56 FR 49217 
(September 27, 1991). No comments were received on the proposal. This 
order approves the proposed rule change, including both amendments on 
an accelerated basis.

II. Description of the Proposal

    Exchange Rule 5.14(b) outlines the traditional method for the 
execution of cross transactions on the PSE.\5\ Under that rule, a 
member effecting a cross transaction must first assure that all 
existing bids or offers by the specialists, in the books or at the 
posts, at or better than the cross price, are filled at their 
limits.\6\ Thereafter the member must publicly announce both sides of 
the cross; the member's offer must be higher than his or her bid by the 
minimum trading differential permitted for that security.\7\ Rule 
5.14(b) then allows the member to execute the cross transaction at his 
or her bid or offer. Under this method, however, another member can 
``break up'' the cross by trading with either the bid or the offer side 
of the transaction when it is presented to the crowd.
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    \5\In a cross transaction, a member who holds an order to buy 
and an order to sell an equivalent amount of the same security 
wishes to execute the orders against each other. See PSE Rule 
5.14(a). Because he or she already holds both sides of the trade, 
the member does not want the orders to interact with other market 
interest.
    \6\As a general matter, the bid/offer entered at the best price 
(i.e., the highest bid or the lowest offer) is entitled to priority 
over bids/offers at inferior prices; similarly, the first bid/offer 
clearly established at a given price is entitled to priority over 
other bids/offers at that same price. See PSE Rule 5.8(c).
    \7\PSE Rule 5.3(b) sets forth the minimum trading differential 
for securities listed on the PSE.
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    The Exchange proposes to formalize several policies that its Equity 
Floor Trading Committee previously developed to encourage the execution 
of cross transactions on the PSE. Specifically, the proposed commentary 
to Rule 5.14(b) will codify the PSE's policy that all efforts should be 
made to facilitate the execution of crosses; and will clarify which 
orders a member must satisfy before he or she can execute such a 
transaction.\8\ The proposed commentary also will interpret Rule 
5.14(b), together with the PSE's priority rule,\9\ to prohibit the 
specialist from participating in a cross to establish or increase his 
or her position,\10\ unless the member effecting the transactions gives 
the specialist permission to do so.
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    \8\Among other things, see supra note 6 and accompanying text, a 
member effecting a cross first must satisfy the interest the 
specialist ``publicly displayed and verbally stated'' at the time of 
the cross.
    \9\See PSE Rule 5.8(e). Under this rule, an order originated on 
the floor to establish or increase a proprietary position must yield 
to any order originated off the floor.
    \10\According to the PSE, this policy initially was established 
on May 2, 1984. In conjunction with this filing, the Exchange has 
clarified that the specialist will be able to participate in a cross 
transaction in order to decrease his or her position. See Amendment 
No. 1, supra, note 3. Under those circumstances, the specialist's 
participation will be subject to the additional restrictions 
discussed below. See infra, notes 11-13 and accompanying text.
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    In addition, the Exchange proposes to place additional restrictions 
on when a specialist can break up a cross transaction.\11\Thus under 
the proposed commentary to Rule 5.14(b), the specialist will be 
prohibited from participating, for the benefit of his or her own 
account, on (1) either side of a customer-to-customer cross,\12\or (2) 
the customer side of a cross with the principal account of a member, 
where the cross is at a price inside the disseminated PSE market. The 
PSE, however, will interpret this provision to allow a specialist who 
is willing to better the price to participate in a cross 
transaction.\13\Finally, for purposes of Rule 5.14(b), the Exchange 
will define a ``customer order'' as an order that a broker represents 
in an agency capacity, including a professional order that is not for 
an account associated with the executing broker.
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    \11\As discussed below, see infra, notes 16-17, the proposed 
restrictions are based on recent amendments to Philadelphia Stock 
Exchange (``Phlx'') Rule 126.
    \12\This restriction will apply whether the customer orders are 
represented by the same broker or ``by separate agents,'' as defined 
in Amendment No. 1, supra, note 3.
    \13\See Amendment No. 2, supra, note 4.
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    The PSE believes that the proposed rule change maintains the 
auction at market principles of price improvement and priority to 
existing orders, while at the same facilitating the execution of 
crosses on the PSE. In addition, the PSE believes that the proposed 
rule change is consistent with policies recently adopted by other 
exchanges.\14\ The PSE states that the proposed rule change is 
consistent with Section 6(b)(5) of the Act in that these changes will 
promote just and equitable principles of trade and will protect 
investors and the public interest by continuing the effort to remove 
impediments to a free and open market.
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    \14\See infra, note 16.
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III. Discussion

    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, and, in 
particular, with the requirements of sections 6(b) and 11(a).\15\In 
particular, the Commission believes that the proposed rule change is 
consistent with the Section 6(b)(5) requirement that the rules of an 
exchange be designed to promote just and equitable principles of trade, 
to prevent fraudulent and manipulative acts and, in general, to protect 
investors and the public interest; and with the section 6(b)(8) 
requirement that the rules of an exchange not impose any unnecessary 
burden on competition. The Commission also believes that the proposed 
rule change does not operate in a manner inconsistent with the 
traditional auction market principle of customer priority, as embodied 
in section 11(a) of the Act.
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    \15\15 U.S.C. 78f(b) (1988).
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    After careful review, the Commission has concluded that the 
proposed rule change should further competition among the exchanges, as 
well as between exchanges and other markets, and should increase the 
opportunities for the efficient execution of cross transactions. In the 
past, the Commission has recognized the competition that exists between 
various markets for order flow, and especially for block business. 
Several exchanges recently have sought Commission approval to amend 
their rules, on the grounds that exchange rules may hinder members' 
ability to execute a cross transaction without interference and thus 
may place an exchange at a competitive disadvantage. Despite serious 
reservations, the Commission has approved those proposals which are 
consistent with traditional auction market principles.\16\
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    \16\See, e.g., Securities Exchange Act Release Nos. 27205 
(August 31, 1989), 54 FR 37180 (September 7, 1989) (File No. SR-
Phlx-89-17) (approving Phlx proposal to prohibit members from 
interfering, with either side of an agency cross or the customer 
side of a facilitation cross, by buying or selling for their own 
account at the cross price; except that a specialist can participate 
to the extent of a publicly disseminated bid or offer at that 
price); and 31343 (October 21, 1992), 57 FR 48645 (October 27, 1992) 
(File No. SR-NYSE-90-39) (approving New York Stock Exchange 
(``NYSE'') ``clean cross'' proposal to allow members to execute 
agency crosses of 25,000 shares or more, at a price at or within the 
prevailing quotation, without interference, irrespective of any pre-
existing bids or offers at the cross price; however, the cross could 
be broken up at a better price).
    Several other proposals to facilitate the execution of crosses 
on a given exchange are pending with the Commission, including File 
Nos. SR-Amex-92-41 (American Stock Exchange ``clean cross'' 
proposal) and SR-MSE-93-05 (Chicago Stock Exchange proposal to 
encourage specialists to refrain from interfering in cross 
transactions).
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    In response to today's competitive market environment, the PSE has 
proposed to codify its policy that members should make their best 
efforts not to interfere in another member's cross transaction and, in 
particular, that the specialist should not participate unless he or she 
is liquidating a position. The PSE also has proposed to add a new 
requirement, based on a comparable rule on the Phlx, that the 
specialist's proprietary bid or offer yield to the customer side of a 
cross transaction at the cross price.\17\ Looking at the proposal as 
whole, the Commission believes that it will clarify the roles of 
various market participants and assure that, under routine 
circumstances, crosses are executed in a fair and orderly manner. In 
sum, the Commission finds that this proposed rule change should improve 
the PSE's ability to compete for block business and should enhance the 
depth and liquidity of the Exchange market.\18\
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    \17\As noted above, this part of the PSE proposal is based on 
recent amendments to Phlx Rule 126. See supra, note 16. Briefly, the 
Phlx requires that a member's proprietary bid or offer yield to the 
customer side of a cross transaction at the cross price. In 
approving the Phlx proposal, the Commission took note of the fact 
that most principal trading activity on the floor of that regional 
stock exchange, other than facilitation crosses, is undertaken by 
the specialist.
    \18\The Commission appreciates all the exchanges' competitive 
concerns with respect to the facilitation of cross transactions and, 
at the same time, continues to emphasize the importance of adherence 
with traditional auction market principles.
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    In terms of auction market principles, the Commission believes that 
the proposed rule change strikes an appropriate balance between the 
competing needs of various customer orders represented for execution on 
the PSE and the proprietary trading operations of Exchange members and 
member organizations, including specialists. The Commission notes that 
Rule 5.14(b) will continue to require that a member effecting a cross 
transaction first assure that all existing bids or offers on the 
specialist's book or represented in the trading crowd, at or better 
than the cross price, are filled at their limits.\19\ On that basis, 
the Commission has concluded that the PSE proposal adheres to the 
auction market principles of time and price priority and that this 
method for the execution of crosses (and, in particular, the priority 
granted to the customer side of the transaction) will not disadvantage 
existing orders.\20\ In fact, limit orders on the PSE which coincide 
with the cross price could benefit from being assured of receiving an 
execution at that price.
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    \19\See supra, note 6.
    \20\In this regard, the PSE proposal contrasts favorably with 
other rule changes approved by the Commission, such as the NYSE's 
clean cross proposal, see supra note 16.
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    Furthermore, the Commission finds that the PSE proposal does not 
restrict the opportunity for customer orders to receive price 
improvement. To this end, the Commission interprets the proposed 
commentary to Rule 5.14(b), and the Exchange agrees with that 
interpretation,\21\ to allow the specialist to participate in a cross 
transaction to provide one side with a better price, notwithstanding 
the other provisions of this rule.\22\ In addition, under the PSE's 
method, it is possible for interest in the trading crowd, including an 
order for the principal account of a member, to break up the cross and 
to improve the price.
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    \21\See Amendment No. 2, supra, note 4.
    \22\Id.
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    Finally, the Commission believes that the PSE proposal would not 
grant priority, parity or precedence to the order of a member in a 
manner inconsistent with section 11(a)(1)(G) of the Act or SEC Rule 
11a1-1(T)(a)(3) thereunder.\23\ For purposes of its proposed rule 
change, the PSE has defined the term ``customer order'' as an order 
that a broker represents in an agency capacity, including a 
professional order that is not for an account associated with the 
executing broker. Because this definition of ``customer order'' 
excludes (and, thus, does not grant priority to) an order for an 
account over which the broker or an associated person of the broker 
exercises investment discretion, the Commission is satisfied that the 
proposed rule change complies with section 11(a).
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    \23\17 CFR 240.11a1-1(T)(a)(3).
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    The Commission finds good cause for approving Amendments No. 1 and 
No. 2 prior to the thirtieth day after the date of publication of 
notice of filing thereof. Amendments No. 1 and No. 2 merely clarify 
certain language used in the original filing and make no substantive 
changes to the proposed rule. Finally, the Commission did not receive 
any comments on the original proposal, which was noticed for the full 
statutory period.
    Interested persons are invited to submit written data, views and 
arguments concerning Amendments No. 1 and No. 2 to the proposed rule 
change. Persons making written submissions should file six copies 
thereof with the Secretary, Securities and Exchange Commission, 450 
Fifth Street, NW., Washington, DC 20549. Copies of the submission, all 
subsequent amendments, all written statements with respect to the 
proposed rules change that are filed with the Commission, and all 
written communications relating to Amendments No. 1 and No. 2 between 
the Commission and any persons, 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, DC 20549. Copies 
of such filing will also be available at the principal office of the 
PSE. All submissions should refer to File No. SR-PSE-91-11 and should 
be submitted by January 25, 1994.

IV. Conclusion

    It is therefore ordered, pursuant to section 19(b)(2) of the 
Act,\24\ that the proposed rule change (SR-PSE-91-11), including 
Amendments No. 1 and No. 2 on an accelerated basis, is approved.

    \24\15 U.S.C. 78s(b)(2) (1988).
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    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\25\
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    \25\17 CFR 200.30-3(a)(12) (1991).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 94-46 Filed 1-3-94; 8:45 am]
BILLING CODE 8010-01-M