[Federal Register Volume 61, Number 155 (Friday, August 9, 1996)]
[Notices]
[Pages 41675-41677]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-20308]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-37521; File No. SR-PSE-96-01]
Self-Regulatory Organizations; Order Approving Proposed Rule
Change and Notice of Filing and Order Granting Accelerated Approval of
Amendment Nos. 2 and 3 Thereto by the Pacific Stock Exchange, Inc.
Relating to its Options Firm Quote Rule
August 2, 1996.
On January 16, 1996, 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 to amend its Options Firm Quote
Rule (Rule 6.86, the ``Rule'') in order to codify some related floor
policies and also to clarify certain provisions of the Rule. Notice of
the proposed rule change was published for comment and appeared in the
Federal Register on March 4, 1996.\3\ No comment letters were received
on the proposal. On May 17, 1996, the Exchange filed Amendment No. 1 to
the proposal.\4\ On June 27, 1996, the PSE filed Amendment No. 2 to the
proposed rule change,\5\ and on July 25, 1996, the Exchange filed
Amendment No. 3 to the proposal.\6\ This order approves the PSE
proposal as amended.
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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. 36883 (February 23,
1996), 61 FR 8321 (March 4, 1996).
\4\ See letter from Michael D. Pierson, Senior Attorney, Market
Regulation, PSE, to James T. McHale, Attorney, Office of Market
Supervision (``OMS''), Division of Market Regulation (``Division''),
Commission, dated May 16, 1996 (``Amendment No. 1''). Amendment No.
3 supersedes and replaces Amendment No. 1.
\5\ In Amendment No. 2 the Exchange revised proposed Commentary
.05(a) to make clear that with respect to combination orders
involving option contracts on one side of the market, market makers
in a trading crowd would only be responsible for providing an
aggregate of 20 contracts; however, if a combination order is for
option contracts on both sides of the market, market makers must
provide a depth of 20 contracts on both sides of the market.
Additionally, the Exchange revised proposed Commentary .07 to
clarify that a floor broker, who has the opportunity to execute a
limit order at the disseminated market price, but instead quotes a
better price than the limit price stipulated on the order ticket and
the market then changes so that the order can no longer be executed
at the original disseminated price, will be held liable for the
execution of a minimum of 20 contracts at the original disseminated
price. See letter from Michael D. Pierson, Senior Attorney,
Regulatory Policy, PSE, to James T. McHale, Attorney, Office of
Market Supervision (``OMS''), Division of Market Regulation
(``Division''), Commission, dated June 26, 1996 (``Amendment No.
2'').
\6\ In Amendment No. 3 the Exchange clarified a potential
ambiguity in proposed Commentary .05(c) to Rule 6.86 by deleting a
sentence which specified certain types of contingency orders to
which Rule 6.86 did not apply. In addition, Amendment No. 3 deletes
a sentence in proposed Commentary .05(c) which stated that the list
of types of contingency orders to which the Rule applies would not
be considered exhaustive. Finally, in Amendment No. 3 the PSE
further clarifies proposed Commentary .07 to provide that the
executing floor broker will be held liable to his customer for a
minimum of 20 contracts at the original disseminated price, if the
floor broker had the opportunity to execute the customer's limit
order, but instead made a failed attempt to improve the execution.
See letter from Michael D. Pierson, Senior Attorney, Market
Regulation, PSE, to James T. McHale, Attorney, OMS, Division,
Commission, dated May 16, 1996 (``Amendment No. 3'').
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I. Description of the Proposal
The Exchange is proposing to modify its Options Firm Quote Rule as
follows:
Order Identification
Subsection (a) of the Rule currently provides that members and
member organizations who enter orders for execution on the options
floor must ascertain the account origin of such orders and provide a
notation of the account origin on the order ticket. The Exchange is
proposing to modify this provision to provide that such members and
member organizations would be required to communicate such account
information to the executing member organization. Accordingly, the
member or member organization entering the order must indicate to the
executing member organization whether the order is for the account of a
customer, firm or market maker.
The proposal would also set forth the duty of executing floor
brokers to inquire personally as to the account origin of each eligible
order upon receipt thereof or prior to its execution and to note such
information on the order ticket.
Finally, under the proposal, the executing member organization and
the clearing member organization would bear greater responsibility with
respect to the proper identification of orders that are executed on
behalf of non-members of the Exchange.
Commentary .05
Proposed Commentary .05 sets forth certain types of orders that are
subject to the Rule and the extent to which the Rule applies to such
orders. The Rule specifically addresses the treatment of combination
orders, spread orders, straddle orders and contingency orders. With
respect to combination orders involving option contracts on one side of
the market, market makers in a trading crowd would only be responsible
for providing an aggregate of 20 contracts; however, if a combination
order is for option contracts on both sides of the market, market
makers must provide a depth of 20 contracts on both sides of the
market.\7\ Moreover, market makers would be required to provide a depth
of 20 contracts on both sides of the market for spread and straddle
orders. The proposed Commentary also enumerates the types of
contingency orders that are subject to the Rule, i.e. ``minimum''
orders of 20 contracts or less, market not-held, limit not-held and
delta orders that can be executed immediately, and all-or-none orders
of twenty contracts or less.
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\7\ See Amendment No. 2, supra note 5.
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The proposed Commentary also provides that in executing contingency
orders pursuant to the Rule, the order ticket must be time stamped upon
being taken into the trading crowd. Finally, the proposed Commentary
states that such orders are entitled to 20 contracts on the market
disseminated at that time.
Commentary .06
Proposed Commentary .06 provides that market makers must be
afforded a reasonable opportunity to update their disseminated markets
for the execution of consecutive eligible customer orders in options on
the same underlying security. The Commentary further provides that such
orders shall be executed on a time priority basis so that the order
with the earliest time stamp will receive a guaranteed fill of 20
contracts.
Commentary .07
Proposed Commentary .07 provides that if a floor broker can
immediately execute a limit order at the disseminated market price, but
instead, the floor broker quotes a better price than the limit price
stipulated on the order ticket, and the market then changes so that the
order can no longer be executed at the disseminated market price, the
floor broker shall be held liable to the customer for the execution of
a minimum of 20 contracts at the original disseminated price.\8\
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\8\ See Amendment Nos. 2 and 3, supra, notes 5 and 6,
respectively.
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Commentary .08
Proposed Commentary .08 designates those market makers to whom the
order book official may, pursuant to current
[[Page 41676]]
Subsection (d), allocate the balance of contracts necessary to provide
an execution of 20 contracts when the response of the members present
at the trading post is insufficient to provide a depth of 20 contracts.
Specifically, such allocations may be made to market makers who: (1)
are present at the trading post at the time of a call for a market; and
either (2) hold an appointment in the option classes at the trading
post or (3) regularly effect transactions in person for their trading
accounts at that trading post.
In addition, this proposed Commentary provides that market markers
who have logged on to the Exchange's Automatic Execution system
(``Auto-Ex''),\9\ but who are not present in the trading crowd will not
be eligible for an allocation by the order book official pursuant to
current Subsection (d).
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\9\ The Auto-Ex system permits eligible market or marketable
limit orders sent from member firms to be executed automatically at
the displayed bid or offering price. Participating market makers are
designated as the contra side to each Auto-Ex order and are assigned
by Auto-Ex on a rotating basis, with the first market maker selected
at random from the list of signed-on market makers. See Securities
Exchange Act Release No. 34946 (November 7, 1994), 59 FR 59265
(November 16, 1996).
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II. Discussion
The Commission finds that the proposed rule change relating to the
PSE's Options Firm Quote Rule is consistent with the requirements of
the Act and the rules and regulations thereunder applicable to a
national securities exchange, and, in particular, the requirements of
Section 6(b)(5) \10\ in that it is designed to facilitate transactions
in securities, promote just and equitable principles of trade, and
protect investors and the public interest. Specifically, with respect
to ``order identification,'' the Commission believes that the rule
change further clarifies the account origin responsibilities of the
parties involved in a trade which is subject to the Rule. The rule
change requires, among other things, that the executing floor broker
verify whether the order is being executed for the account of a
customer, firm or market maker. This clarification provides objective
criteria against which the executing floor broker's actions can be
measured and, thus, should make enforcement of the Rule more effective
for the Exchange.
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\10\ 15 U.S.C. 78f(b)(5).
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Moreover, the Commission believes that interpreting the Options
Firm Quote Rule as set forth in new Commentary .05 is consistent with
the Act and the intent of the Rule.\11\ The Rule currently provides
that all non-broker/dealer customer orders are entitled to execution at
the bid or offer which is displayed as the disseminated market quote up
to a depth of 20 contracts. With regard to combination orders, the
Exchange has proposed clarifying that market makers are responsible for
providing an aggregate of 20 contracts for combination orders on one
side of the market, but 20 contracts on both sides of the market for
combination orders on two sides of the market. The Commission believes
this is reasonable since interpreting the Rule to require market makers
to provide 20 contracts for combination orders involving options on the
same side of the market would essentially create a ``40-up''
requirement, and potentially place undue burdens and capital risks on
the PSE's options market makers.
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\11\ See Securities Exchange Act Release No. 28021 (May 16,
1990) 55 FR 21131 (May 22, 1990) (order approving PSE's original
proposal requiring ten-up markets on a one-year pilot basis). The
Exchange subsequently increased its minimum size guarantee for non-
broker/dealer customer orders from 10 to 20 contracts, See
Securities Exchange Act Release No. 34891 (October 25, 1994) 59 FR
54653 (November 1, 1994).
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With respect to new Commentary .06, the Commission believes that it
is appropriate and consistent with the Act \12\ for market makers to
have a reasonable opportunity to update their market quotes for the
execution of consecutive eligible customer orders in options on the
same underlying security. Moreover, to provide that such orders shall
be executed on a time priority basis so that the order with the
earliest time stamp will receive a guaranteed fill of 20 contracts, is
a fair interpretation of the Rule.
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\12\ Cf. 17 CFR 11Ac1-1(c). This firm quote rule, applicable to
certain equity securities, generally allows market makers a
reasonable period of time to update their quotations following an
execution. See Securities Exchange Act Release No. 37502 (July 30,
1996).
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Commentary .07 provides that if a floor broker can immediately
execute a limit order at the disseminated market price, but instead the
floor broker quotes a better price than the limit price stipulated on
the order ticket, and the market then changes so that the order can no
longer be executed at the disseminated market price, the floor broker
shall be held liable to the customer for the execution of a minimum of
20 contracts at the original disseminated price. The Commission
believes that this should be an effective measure to protect investors
by ensuring that a customer's executable limit order is filled at the
limit price even if the floor broker makes a failed attempt at
improving the execution. Finally, Commentary .08 provides an
appropriate method to designate which market makers in the trading
crowd are eligible to be allocated option contracts.
The Commission finds good cause for approving Amendment Nos. 2 and
3 to the proposal prior to the thirtieth day after the date of
publication of the notice of filing thereof in the Federal Register.
Specifically, in filing Amendment No. 2, the Exchange recognizes that
some combination orders involve both sides of the market (e.g.
``strangles''\13\). Amendment No. 2 changes Commentary .05(a) to
clarify that while a market maker's responsibility with respect to
combination orders on one side of the market is to provide an aggregate
of 20 contracts, the market maker must provide a depth of 20 contracts
on both sides of the market for combination orders that involve an
order for option contracts on both sides of the market. Amendment No. 2
also strengthens Commentary .07 by clarifying that a floor broker, who
has the opportunity to execute a limit order at the disseminated market
price, but instead quotes a better price than the limit price
stipulated on the order ticket and the market then changes so that the
order can no longer be executed at the original disseminated price,
will be held liable for the execution of a minimum of 20 contracts at
the original disseminated price.
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\13\ A strangle is a combination order involving the same
underlying stock in which the put and the call have the same
expiration date but different exercise prices.
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Amendment No. 3 eliminates language in Commentary .05(c) that would
have prohibited application of the Rule to certain types of contingency
orders. The Exchange has determined that it is more appropriate to
define those types of orders to which the Rule applies, rather than
defining those orders to which the Rule does not apply. Additionally,
in Amendment No. 3 the PSE has eliminated a sentence in Commentary
.05(c) which stated that the list of types of contingency orders to
which the Rule applies would not be considered exhaustive. The
Commission believes that these changes strengthen the proposal by
setting forth a clear and finite set of contingency order types to
which the Rule applies. Finally, Amendment No. 3 further amends
proposed Commentary .07 to provide that the executing floor broker will
be held liable to his customer for a minimum of 20 contracts at the
original disseminated price, if the floor broker had the opportunity to
execute the customer's limit order, but instead made a failed attempt
to improve the execution. The Commission believes
[[Page 41677]]
that this portion of Amendment No. 3 clarifies a potential ambiguity in
the interpretation of new Commentary .07, and, therefore, is not a
substantive change to the proposal.
Based on the above, the Commission finds good cause for approving
Amendment Nos. 2 and 3 to the proposed rule change on an accelerated
basis and believes that the proposal, as amended, is consistent with
Sections 6(b)(5) and 19(b)(2) of the Act.
III. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning Amendment Nos. 2 and 3. 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 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,
N.W., Washington, D.C. 20549. Copies of such filing will also be
available for inspection and copying at the principal office of the
PSE. All submissions should refer to the File No. SR-PSE-96-01 and
should be submitted by August 30, 1996.
It therefore is ordered, pursuant to Section 19(b)(2) of the
Act,\14\ that the proposed rule change (SR-PSE-96-01) is approved.
\14\ 15 U.S.C. 78s(b)(2).
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For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\15\
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\15\ CFR 200.30-3(a)(12).
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Jonathan G. Katz,
Secretary.
[FR Doc. 96-20308 Filed 8-8-96; 8:45 am]
BILLING CODE 8010-01-M