[Federal Register Volume 61, Number 16 (Wednesday, January 24, 1996)]
[Notices]
[Pages 1958-1959]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 95-1032]



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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-36730; File No. SR-CHX-95-18]


Self-Regulatory Organizations; Chicago Stock Exchange, 
Incorporated; Order Granting Approval to Proposed Rule Change Relating 
to Priority and Precedence of Agency and Professional Orders

January 17, 1996.

I. Introduction

    On July 14, 1995, the Chicago Stock Exchange, Incorporated (``CHX'' 
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 modify the priority and 
precedence of agency and professional orders. On July 26, 1995, the 
Exchange submitted to the Commission Amendment No. 1 to the proposed 
rule change.\3\

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See letter from David Rusoff, Foley & Lardner, to Glen 
Barrentine, Senior Counsel, Division of Market Regulation, SEC, 
dated July 26, 1995. In Amendment No. 1, the Exchange notified the 
Commission that the proposed rule change was approved by the 
Exchange's Executive Committee on July 20, 1995.
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    The proposed rule change was published for comment in Securities 
Exchange Act Release No. 36373 (Oct. 16, 1995), 60 FR 54268 (Oct. 20, 
1995). No comments were received on the proposal.

II. Description of Proposal

    Currently, under the Exchange's rules, specialists are not required 
to accept professional orders for the book unless such orders better 
the existing market.\4\ A specialist also is not required to provide 
primary market protection to professional orders pursuant to the 
Exchange's Best Rule \5\ as it does for 

[[Page 1959]]
agency orders.\6\ Moreover, a specialist may retain priority over a 
professional order provided it is displaying its interest, including 
the size, over the quotation system (``Specialist Priority Rule''). 
Specialists, however, are always required to give precedence (i.e., 
yield) to agency orders.\7\ On the other hand, under the current CHX 
rules, agency orders do not have priority over professional orders, and 
professional orders that have established time priority are not 
required to give precedence to agency orders.\8\

    \4\ See CHX Article XXX, Rule 2. A professional order is any 
order for the account of a broker-dealer, the account of an 
associated person of a broker-dealer, or any account in which a 
broker-dealer or an associated person of a broker-dealer has any 
direct or indirect interest. See Interpretation .04 of CHX Article 
XXX, Rule 2.
    \5\ See Article XX, Rule 37(a). Under the Exchange's Best Rule, 
Exchange specialists are required to guarantee executions of market 
and limit orders under certain circumstances. For all agency limit 
orders in Dual Trading System issues, the specialist must fill the 
order if the bid or offer at the limit price has been exhausted in 
the primary market, there has been price penetration of the limit in 
the primary market (a trade through of a CHX limit order), or the 
issue is trading at the limit price on the primary market, unless it 
can be demonstrated that such order would not have been executed if 
it had been transmitted to the primary market or the broker and 
specialist agree to a specific volume related or other criteria for 
requiring a fill.
    \6\ Professional market orders with a ``Z'' designator receive 
automatic executions based on the CHX's Best Rule. The Z designator 
may be used by an order sending firm after it negotiates with the 
specialist and the specialist agrees to accept the firm's 
professional orders for automatic execution on the CHX's automated 
order routing and execution system (``MAX''). Limit orders sent with 
the ``Z'' designator will be represented on the specialist's book as 
professional orders and do not receive the benefits of the Best 
Rule. Securities Exchange Act Release No. 35505 (Mar. 17, 1995), 60 
FR 15613 (Mar. 24, 1995) (File No. SR-CHX-95-09).
    \7\ See CHX Artile XXX, Rule 2.
    \8\ With regard to the display of limit orders, however, the 
Exchange has represented to the Commission that all bids and offers 
that improve the current CHX quote are displayed in the revised CHX 
quotation. Telephone conversation between George Simmon, Craig Long, 
and David Rusoff, Foley & Lardner, and Holly Smith, Ivette Lopez, 
Glen Barrentine, and Jennifer Choi, Division of Market Regulation, 
SEC, on December 19, 1995. See also CHX Rule 7, Article XX. 
Therefore, assuming that the primary market quote in XYZ is 20\1/4\-
20\1/2\, if a professional order to buy 1,000 shares of XYZ at 20\1/
4\ was entered at 9 a.m. and a public agency order to buy 1,000 of 
XYZ at 20\1/4\ was entered at 9:05 a.m., the CHX specialist 
quotation would show at least 2,000 shares of XYZ at 20\1/4\.
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    The Exchange believes that the interplay among the Specialist 
Priority Rule, the Best Rule, and the Exchange's other rules of 
priority and precedence \9\ often results in the unintended anomaly of 
providing the professional order the benefit of the Best Rule and/or 
the specialist being unable to retain priority over professional orders 
as provided in the Specialist Priority Rule. For example, assume a 
specialist accepts a professional order for his book and thereafter an 
agency order is entered on the book at the same price. If the agency 
order is due a fill under the Best Rule because of prints in the 
primary market, the professional order must also be filled because it 
has higher (i.e., time) priority in the book. Moreover, assume a 
specialist bid is entered first in time and thereafter a professional 
order and an agency order at the same price are entered respectively. 
Under the current rules, even if the specialist's bid may retain 
priority over the professional order and only has to yield to the 
public agency order at the same price, in this situation the specialist 
bid must yield to both orders because the professional order has time 
priority over the public agency order.

    \9\ See CHX Article XX, Rules 15 (Precedence of Bids); 16 
(Precedence of Bids at Same Price); 17 (Precedence of Offers); 18 
(Precedence of Offers at Same Price); 19 (Precedence of Offers to 
Buy ``Seller's Option''); and 20 (Claim of Prior or Better Bid).
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    The Exchange states that due to this anomaly, specialist are 
hesitant to accept professional orders. The Exchange proposes to add 
interpretation and policy .05 to Rule 2 of Article XXX of the 
Exchange's Rules to give specialists an incentive to accept 
professional orders for inclusion in the book.
    Currently, as well as under the proposed rule change, when a 
professional order ``has the post,'' (i.e., is the highest priority 
order in the specialist's book at a given price), the professional 
order would not be required to yield precedence to an agency order at 
the same price that has not established time priority over the 
professional order. Under the proposal, however, in the event that the 
agency order is due a fill under the Exchange's Best Rule, the agency 
order would be filled even though the professional order, which has a 
higher priority on the book, is not filled. Therefore, although an 
incoming MAX order will be filled against the professional order and 
not against subsequently entered agency orders that have not 
established time priority, if the subsequently entered agency orders 
are due a fill under the Best Rule, the agency orders would be executed 
without filling the professional order, which only has post protection.
    Moreover, under the proposed rule change if a specialist's own 
order has the post (i.e., an order that originates with the specialist 
as dealer is the highest priority order in the specialist's book at a 
given price) and a professional order and an agency order are 
subsequently entered in the book at the same price, the professional 
order must yield precedence to the agency order if the specialist's own 
order yields precedence to the agency order. Therefore, the specialist 
bid second, and the professional order third. This proposed 
interpretation and policy is intended to allow the agency order to 
displace the specialist's order while at the same time allow the 
specialist's order to retain priority over the professional order in 
accordance with the Specialist Priority Rule.

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 Section 6(b).\10\ The Commission 
believes the proposal 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.

    \10\ 15 U.S.C. 78f(b).
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    The Commission believes that the proposed rule change is consistent 
with the requirements of the Act because it may contribute to the depth 
and liquidity of the CHX market if, as the CHX suggests, more order 
flow is attracted to the Exchange. The Commission notes that the 
Exchange has represented that the proposed rule change does not affect 
the primary market protection afforded to agency orders under the 
Exchange's Best Rule, affect the standing of agency orders in relation 
to a dealer's orders for its own account, or modify the conditions 
under which a specialist's bid may retain priority over a professional 
order. In addition, the Exchange has represented to the Commission that 
the proposed rule change will not affect the application of the 
Exchange's current quote dissemination policy, which requires all 
customer limit orders, regardless of priority, to be displayed in the 
CHX specialist's quote when the customer order improves the 
specialist's quote or the national best bid or offer. The Commission, 
therefore, believes that the rule change will not disadvantage public 
agency orders.

IV. Conclusion

    It is therefore ordered, pursuant to section 19(b)(2) of the 
Act.\11\ that the proposed rule change (SR-CHX-95-18) is approved.

    \11\ 15 U.S.C. 78s(b)(2).
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    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\12\

    \12\ 17 CFR 200.30-3(a)(12).
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[FR Doc. 95-1032 Filed 1-23-96; 8:45 am]
BILLING CODE 8010-01-M