[Federal Register Volume 59, Number 172 (Wednesday, September 7, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-21927]


[[Page Unknown]]

[Federal Register: September 7, 1994]


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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-34614; File No. SR-Phlx-93-41]

 

Self-Regulatory Organizations; Philadelphia Stock Exchange, Inc.; 
Order Approving Proposed Rule Change and Amendment No. 1 to Proposed 
Rule Change and Notice of Filing and Order Granting Accelerated 
Approval to Amendments No. 2 and No. 3 to Proposed Rule Change to Adopt 
Equity Floor Procedure Advice A-2, Stopping Orders.

August 30, 1994.

I. Introduction

    On November 2, 1993, the Philadelphia Stock Exchange, Inc. 
(``Phlx'' 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 to adopt Equity Floor Procedure 
Advice (``Advice'') A-2, Stopping Orders. On June 1, 1994, the Exchange 
submitted to the Commission Amendment No. 1 to the proposed rule change 
in order to narrow the scope of its original filing, to revise certain 
language used therein and to request approval to amend its Minor Rule 
Violation and Enforcement Plan (``MRVE Plan'').\3\ On July 25, 1994, 
the Exchange submitted Amendment No. 2 to the proposed rule change in 
order to correct a typographical error.\4\ On August 24, 1994, the 
Exchange submitted to the Commission Amendment No. 3 to the proposed 
rule change to clarify certain procedural requirements.\5\
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    \1\15 U.S.C. Sec. 78s(b)(1) (1988).
    \2\17 CFR 240.19b-4 (1991).
    \3\See letter from Gerald D. O'Connell, First Vice President, 
Phlx, to Sharon Lawson, Assistant Director, Division of Market 
Regulation, SEC, dated May 31, 1994 (``Amendment No. 1'').
    \4\See letter from Gerald D. O'Connell, First Vice President, 
Regulation and Trading Operations, Phlx, to Sandra Sciole, Special 
Counsel, Division of Market Regulation, SEC, dated July 19, 1994 
(``Amendment No. 2'').
    \5\See letter from Gerald D. O'Connell, First Vice President, 
Regulation and Trading Operations, Phlx, to Sandra Sciole, Special 
Counsel, Division of Market Regulation, SEC, dated August 24, 1994 
(``Amendment No. 3'').
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    The proposed rule change, together with Amendment No. 1, was 
published for comment in Securities Exchange Act Release No. 34216 
(June 15, 1994), 59 FR 32034 (June 21, 1994). No comments were received 
on the proposal. This order approves the proposed rule change, 
including Amendments No. 2 and No. 3 on an accelerated basis.

II. Description of the Proposal

    The Exchange proposes to adopt Advice A-2 in order to codify its 
policy regarding the handling of stopped orders on its equity floor.\6\ 
Under the proposed rule change, a Phlx specialist who stops an order\7\ 
will be required to display a representative size of that order in his 
or her quote,\8\ unless the specialist executes the order immediately 
after granting the stop. In addition, proposed Advice A-2 will prohibit 
a specialist from trading as principal with a stopped order if he or 
she is holding an agency order at the same price (or better) as the 
interest for the specialist's own account. Pursuant to the Exchange's 
rules,\9\ the specialist must exercise due diligence to match the 
stopped order with such agency order.
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    \6\Proposed Advice A-2 will be followed by the designator 
``(E)'' to clarify that it applies only to the Phlx's equity floor.
    \7\An agreement to ``stop'' an order at a specified price 
constitutes a guarantee by the member who grants the stop (i.e., the 
equity specialist) that the order will be executed at the stop price 
or better. See, e.g., Phlx Rule 1018 (``Stopping an Option'').
    \8\The Phlx has indicated that, where the spread between the 
consolidated best bid and offer is greater than the minimum 
variation, a specialist who stops a buy (sell) order will be 
required to reduce that spread by bidding (offering) at a price 
higher than the prevailing bid (lower than the prevailing offer). 
Under the Phlx proposal, the specialist may display a stopped buy 
(sell) order at the stop price so long as such bid (offer) does not 
create a locked or crossed market. Finally, where the spread between 
the consolidated best bid and offer is the minimum variation, the 
Phlx specialist must reflect the stopped buy (sell) order in his or 
her quotation at the prevailing bid (offer). Telephone conversations 
between Gerald D. O'Connell, First Vice President, Regulation and 
Trading Practices, Phlx, and Beth A. Stekler, Attorney, Division of 
Market Regulation, SEC, on July 26 and August 23, 1994. As noted 
above, the specialist must display a representative size of the 
stopped order. See Amendment No. 3, supra, note 5. After being 
placed on the specialist's book, stopped stock must be executed in 
accordance with traditional auction market principles.
    \9\See Phlx Rule 218 (``Customer's Order Receives Priority''). 
See also Phlx Rules 119 (``Precedence of Highest Bid'') and 120 
(``Precedence of Offers at Same Price'').
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    The Exchange also proposes to amend its MRVE Plan to include minor 
violations of Advice A-2 and to establish a fine schedule for such 
violations. According to that schedule, inadvertent failure to adhere 
to the advice's requirements\10\ may subject a specialist to a $250 
fine; a second occurrence during a three-year running calender period 
could result in the issuance of a $500 fine. Thereafter, the sanction 
will be determined at the discretion of the Exchange's Business Conduct 
Committee.
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    \10\The Phlx has stated that it would not consider intentional 
failure to adhere to the advice's requirements to be a minor rule 
violation. Telephone conversation between Gerald D. O'Connell, First 
Vice President, Regulation and Trading Practices, Phlx, and Beth A. 
Stekler, Attorney, Division of Market Regulation, SEC, on August 23, 
1994.
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    The Phlx believes that the proposed rule change is consistent with 
Section 6 of the Act, in general, and, in particular, with Section 
6(b)(5), in that it is designed to promote just and equitable 
principles of trade and prevent fraudulent and manipulative acts and 
practices, by furthering the purposes of Rule 203 which, in turn, 
should foster a fair and orderly market in Exchange traded securities.

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), 6(d), 11(b) and 
19(d).\11\ In particular, the Commission believes the proposed advice 
is consistent with the Section 6(b)(5) requirements 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. The Commission also believes 
that the proposed advice is consistent with the requirement of Section 
11(b), and Rule 11b-1 thereunder,\12\ that specialist transactions must 
contribute to the maintenance of fair and orderly markets.
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    \11\15 U.S.C. Secs. 78f(b), 78f(d), 78k(b) and 78s(d) (1988).
    \12\17 CFR 240.11b-1 (1991).
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    The Commission historically has been concerned that the practice of 
stopping stock may compromise the specialist's fiduciary duty to 
unexecuted customer orders on the limit order book.\13\ The Commission, 
however, has approved the practice in limited circumstances where the 
potential harm is offset by gains to the specialist's market making 
function and by the possibility of price improvement.\14\ Accordingly, 
those exchanges with stopping stock rules\15\ require their specialists 
to reduce the spread between the consolidated best bid and offer or, in 
a minimum variation market, to add size at the inside quote. The 
Commission believes that such a requirement strikes an appropriate 
balance between the interests of various market participants. Moreover, 
by encouraging accurate representation of the trading interest held by 
the specialist, it also facilitates greater transparency in the 
securities markets. In the Commission's opinion, such safeguards are a 
critical aspect of an exchange's stopping stock rule.
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    \13\See, e.g., SEC, Report of the Special Study of the 
Securities Markets of the Securities and Exchange Commission, H.R. 
Doc. No. 95, 88th Cong., 1st Sess. Pt 2 (1963).
    When stock is stopped, book orders on the opposite side of the 
market that are entitled to immediate execution lose their priority. 
If the stopped order then receives an improved price, limit orders 
at the stop price are bypassed and, if the market turns away from 
that limit, may never be executed.
    Book orders on the same side of the market are bypassed when a 
stopped order receives an execution at an improved price before 
existing limit orders at that price.
    \14\See, e.g., Securities Exchange Act Release No. 28999 (March 
21, 1991), 56 FR 12964 (March 28, 1991) (File No. SR-NYSE-90-48) 
(approving proposed rule change to permit New York Stock Exchange 
(``NYSE'') specialists to stop stock in minimum variation markets 
when (1) an imbalance exists on the opposite side of the market and 
(2) such imbalance is of sufficient size to suggest the likelihood 
of price improvement). In approving the NYSE proposal, the 
Commission found, among other things, that a stopped order is the 
equivalent of a limit order for purposes of Section 11(b) of the 
Act.
    \15\See NYSE Rule 116.30; American Stock Exchange (``Amex'') 
Rule 109; and Article XX, Rule 12 of the Chicago Stock Exchange 
(``CHX'') Rules. A Boston Stock Exchange (``BSE'') proposal to adopt 
a stopping stock rule currently is pending with the Commission. See 
Securities Exchange Act Release No. 34569 (August 22, 1994) (File 
No. SR-BSE-94-09).
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    After careful review of Advice A-2, the Commission has concluded 
that the proposed rule change should help ensure that specialists 
handle stopped orders in a manner which is consistent with their 
obligation to maintain fair and orderly markets.\16\ Under the proposed 
advice, a specialist who stops an order will, except as discussed 
below, be required to display a representative size of that order in 
his or her market. As a practical matter, the Phlx has indicated that 
the specialist must reduce the spread between the consolidated best bid 
and offer or, in a minimum variation market, add size at the inside 
quote.\17\ The Commission therefore is satisfied that proposed Advice 
A-2 should increase the likelihood that a customer whose order is 
stopped will receive price improvement and result in narrower and/or 
deeper markets. This, in turn, should enhance the liquidity and 
transparency of the market for securities traded on the Phlx.
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    \16\See Phlx Rule 203.
    \17\For further discussion of procedures by which the specialist 
must implement the advice's requirements, including the maintenance 
of auction market procedures, see supra, note 8 and accompanying 
text.
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    The Commission finds that it is reasonable for the Phlx to allow 
its specialists to execute an order immediately after granting a stop, 
so long as the specialist does not use this discretion to circumvent 
his or her market marking responsibilities. Because such circumvention 
would raise serious regulatory concerns, the Commission expects the 
Phlx to monitor compliance with Advice A-2 and to take appropriate 
action if it finds that stopped stock not executed immediately is not 
then displayed in the manner indicated in the Phlx proposal.\18\
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    \18\See supra, note 8 and accompanying text.
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    Finally, the Commission notes that Advice A-2's yielding and due 
diligence requirements merely codify how the fundamental principles of 
an agency auction market apply in the context of stopped stock. In this 
regard, the Commission agrees with the Phlx that the advice will 
provide specialists with a ``ready reminder'' of their 
responsibilities, thereby deterring potential violations of Commission 
and Exchange rules.
    Although the Commission has concluded that Advice A-2's 
requirements are consistent with the Act, the Commission believes 
further action could be taken to ensure proper handling of stopped 
stock. Specifically, the Commission expects the Phlx to submit a 
proposed rule change to complement its floor procedure advice. In 
developing such a rule, the Phlx should consider including the 
following elements: a definition of an agreement to ``stop'' stock and 
the obligations of the member who agrees to grant the stop; the market 
conditions under which a stop should be granted; a policy for the 
execution of stopped stock and, in particular, for determining the 
price at which the order should be executed; and pilot procedures for 
minimum variation markets that are consistent with the rules of 
priority, parity and precedence.\19\
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    \19\The Commission has approved NYSE, Amex and CHX procedures 
for stopping stock in a minimum variation market on a pilot basis 
until March 21, 1995.
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    In addition, the Commission finds that the proposed amendments to 
the MRVE Plan are consistent with the Section 6(b)(6) requirement that 
the rules of an exchange provide that its members and persons 
associated with its members shall be appropriately disciplined for 
violations of rules of the exchange. In this regard, the proposal 
provides an efficient procedure for appropriate disciplining of members 
for a rule violation that is technical and objective in nature. 
Moreover, because the MRVE Plan provides procedural rights to the 
person fined and permits a disciplined person to request a full hearing 
on the matter, the proposal provides a fair procedure for the 
disciplining of members and persons associated with members, consistent 
with Sections 6(b)(7) and 6(d)(1) of the Act.
    The Commission also believes that the proposal provides an 
alternative means by which to deter violations of the Phlx's policy 
regarding specialists' handling of stopped orders, thus furthering the 
purposes of Section 6(b)(1) of the Act. An exchange's ability 
effectively to enforce compliance by its members and member 
organizations with Commission and Exchange rules is central to its 
self-regulatory functions. A rule included in an exchange's minor rule 
violation plan should not be deemed an unimportant rule. The Commission 
notes that inclusion of rules under a minor rule violation plan may 
reduce reporting burdens on a self-regulatory organization (``SRO'') 
and also may make its disciplinary system more efficient in prosecuting 
violations of such rules. This would be the case in situations where 
the initiation of a full disciplinary proceeding is unsuitable because 
such a proceeding may be more costly and time-consuming in view of the 
minor nature of the particular violation.
    In addition, because the Phlx retains the discretion to bring a 
full disciplinary proceeding for any violation included in its MRVE 
Plan, the Commission believes that adding proposed Advice A-2 to the 
MRVE Plan will enhance, rather than reduce, the Phlx's enforcement 
capabilities regarding this Exchange policy. Indeed, the Commission 
expects the Phlx to bring full disciplinary proceedings for violations 
of the advice's requirements where the violation is egregious or where 
there is a history or pattern of repeat violations.
    Finally, the Commission finds good cause for approving Amendments 
No. 2 and No. 3 prior to the thirtieth day after the date of 
publication of notice of filing thereof. Amendment No. 2 corrects a 
typographical error in the text of the proposed advice, while Amendment 
No. 3 merely clarifies procedures for implementing the advice's display 
requirement. 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. 2 and No. 3 to the proposed rule 
change. Persons making written submissions should file six copies 
thereof with the Secretary, Securities and Exchange Commission, 450 
Fifth Street, N.W., Washington, D.C. 20549. Copies of the submission, 
all subsequent amendments, all written statements with respect to the 
proposed rule changes that are filed with the Commission, and all 
written communications relating to Amendments No. 2 and No. 3 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. Sec. 552, 
will be available for inspection and copying in the Commission's Public 
Reference Section, 450 Fifth Street, N.W., Washington, D.C. 20549. 
Copies of such filing will also be available at the principal office of 
the Phlx. All submissions should refer to File No. SR-Phlx-93-41 and 
should be submitted by September 28, 1994.

IV. Conclusion

    It is therefore ordered, Pursuant to Section 19(b)(2) of the 
Act,\20\ and Rule 19d-1(c)(2) under the Act,\21\ that the proposed rule 
change (SR-Phlx-93-41), including Amendments No. 2 and No. 3 on an 
accelerated basis, is approved.
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    \20\15 U.S.C. Sec. 78s(b)(2) (1988).
    \21\17 CFR 240.19d-1(c)(2) (1991).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\22\
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    \22\17 CFR 200.30-3(a)(12) (1991).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 94-21927 Filed 8-6-94; 8:45 am]
BILLING CODE 8010-01-M