[Federal Register Volume 62, Number 142 (Thursday, July 24, 1997)]
[Notices]
[Pages 39883-39884]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-19446]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-38849; File No. SR-NASD-97-50]


Self-Regulatory Organizations; National Association of Securities 
Dealers, Inc.; Notice of Filing of Proposed Rule Change by the NASD 
Clarifying the Operation of SOES

July 17, 1997.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''), 15 U.S.C. 78s(b)(1), notice is hereby given that on July 14, 
1997, the National Association of Securities Dealers, Inc. (``NASD'' or 
``Association'') filed with the Securities and Exchange Commission 
(``Commission'' or ``SEC'') the proposed rule change as described in 
Items I, II, and III below, which Items have been prepared by the NASD. 
The Commission is publishing this notice to solicit comments on the 
proposed rule change from interested persons.

I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule

    The NASD is submitting this rule filing to clarify the operation of 
The Nasdaq Stock Market's (``Nasdaq'') Small Order Execution System 
(``SOES'') during non-locked and crossed market situations. 
Specifically, the NASD proposes to amend NASD Rule 4730(b)(1) to more 
explicitly state the process by which unpreferenced market orders are 
executed in SOES. In particular, Rule 4730(b)(1) is being amended to 
clarify that once SOES executes an unpreferenced market or marketable 
limit order against a SOES market maker, that market maker is not 
required to execute another unpreferenced SOES order at the same bid or 
offer in the same security until seventeen seconds has elapsed, absent 
a quotation update by the market maker within such seventeen second 
period. Below is the text of the proposed rule change. Proposed new 
language is italicized; proposed deletions are in brackets.
* * * * *
NASD Rule 4730. Participant Obligations in SOES
* * * * *
(b) Market Makers
    (1) A SOES Market Maker shall commence participation in SOES by 
initially contacting the SOES Operation Center to obtain authorization 
for the trading of a particular SOES security and identifying those 
terminals on which the SOES information is to be displayed and 
thereafter by an appropriate keyboard entry which obligates the firm, 
so long as it remains a Market Maker in SOES:

    (A) for any security for which it is a SOES Market Maker, to 
execute individual orders in sizes equal to or smaller than the 
maximum order size; and
    (B) for any NNM security for which it is a Market Maker, to 
execute individual orders equal in the aggregate to the minimum 
exposure limit.

After SOES has executed an order against a Market Maker, that Market 
Maker[s] shall not be [have a period of time following their receipt 
of an execution report in which to update their quotation in the 
security in question before being] required to execute another 
unpreferenced order at the same bid or offer in the same security 
until a predetermined time period has elapsed from the time the 
order was executed, as measured by the time of execution in the 
Nasdaq system, provided the Market Maker has not updated its 
quotation (bid, offer, or size) within such time period, in which 
case the Market Maker will become immediately eligible to receive 
another execution of an unpreferenced order. This period of time 
shall initially be established as 17 [15] seconds, but may be 
modified upon Commission approval and appropriate notification to 
SOES participants. All entries in SOES shall be made in accordance 
with the requirements set forth in the SOES User Guide.

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 NASD 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 NASD 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

    The NASD is submitting this proposal to clarify the process by 
which SOES executes unpreferenced market and marketable limit orders. 
Presently, NASD Rule 4730(b)(1) provides that:

Market Makers shall have a period of time following their receipt of 
an execution report in which to update their quotation in the 
security in question before being required to execute another 
unpreferenced order at the same bid or offer in the same security. 
This period of time shall initially be established as 15 seconds, 
but may be modified upon appropriate notification to SOES 
participants. . . .

This rule language was added to the NASD's rules in October 1991 so 
that SOES market makers would be afforded a brief fifteen-second 
opportunity to update their quotations in response to executions 
received through SOES (``15-Second SOES Execution Response Period''). 
As the current language of Rule 4730(b) reflects, the ``15-Second SOES 
Execution Response Period'' commences when a market maker has received 
notification of a SOES execution through the system. Indeed, the 
description of the ``15-Second SOES Execution Response Period'' in the 
SEC's order approving the provision provides that ``[f]ollowing receipt 
of an execution report of an unpreferenced purchase or sale through 
SOES, a market maker will have a period of time (15 seconds) to update 
its quote prior to executing any subsequent transaction on the same 
side of the market at the same

[[Page 39884]]

price.'' (footnote omitted).\1\ Because SOES does not have the 
capability to determine the exact time when a market maker receives a 
SOES execution report, at the time this rule was implemented Nasdaq 
estimated that it took up to five seconds for SOES to execute an order 
against a market maker and for the market maker to receive a report of 
the execution (the ``SOES Execution Report Communication Period''). As 
a result, SOES was programmed to uniformly add a five-second period to 
the ``15-Second SOES Execution Response Period,'' with the effect that 
the system executes unpreferenced market orders against a market maker 
in twenty-second intervals, absent a quotation update by the market 
maker.
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    \1\ Securities Exchange Act Release No. 29810 (October 10, 
1991), 56 FR 52098, 52099 (order approving file SR-NASD-91-18).
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    Recently, Nasdaq undertook to estimate the time its takes for a 
market maker to receive a SOES execution report. This analysis 
indicates that on average, the SOES Execution Report Communication 
Period is between two and three seconds, although actual time can and 
does vary depending on activity and communications traffic during 
different periods of the day. It was determined to be appropriate to 
assign a two-second period to the SOES Execution Report Communications 
Period for purposes of the rule.
    With this rule filing, therefore, the NASD proposes to explicitly 
incorporate this two-second period into Rule 4730. Specifically, the 
NASD proposes to amend Rule 4730 to provide that a market maker shall 
not be required to execute another unpreferenced SOES order at the same 
bid or offer in the same security until seventeen seconds have elapsed 
from the time of execution. The proposed rule change is designed to 
retain the ability of a market maker to respond to SOES executions 
while recognizing that, under normal circumstances, a minimal period of 
time is necessary for reports of those executions to be received by the 
market maker. The proposed amendments to Rule 4730(b) also clarify: (1) 
That a market maker becomes immediately eligible to receive another 
execution through SOES if it updates its quote (its bid, offer, or 
size) during the seventeen second period;\2\ and (2) that the seventeen 
second period arises regardless of whether the market maker executes an 
unpreferenced market order or an unpreferenced marketable limit order. 
By amending the rule in this fashion, the rule will eliminate any 
ambiguities among market participants concerning the manner in which 
unpreferenced orders are executed in SOES. These amendments will also 
address a concern about the rule noted by the SEC in its Report 
Pursuant to Section 21(a) of the Securities Exchange Act of 1934 
Regarding the NASD and the Nasdaq Market (``SEC Report'').\3\
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    \2\ The proposed amendments to Rule 4730(b) do not change in any 
way the current functionality of SOES whereby preferenced orders are 
continuously executed against a market maker without any delay 
between executions. In addition, as is presently the case during 
locked and crossed markets, SOES will execute orders (both 
preferenced and unpreferenced) against those market makers that are 
locked or crossed in five second intervals. See NASD Rule 
4730(b)(4).
    \3\ The SEC stated that ``[t]he NASD should have set forth in 
its filings with the Commission seeking approval for the [SOES 
execution] delay that the time between executions had been set at 
twenty seconds, but did not do so.'' See Appendix to the SEC Report, 
at 76.
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    The NASD believes that the proposed rule change is consistent with 
Section 15A(b)(6) of the Act and SEC Rule 11Ac1-1. Section 15A(b)(6) 
requires that the rules of a national securities association be 
designed to prevent fraudulent and manipulative acts and practices, to 
promote just and equitable principles of trade, to foster cooperation 
and coordination with persons engaged in regulating, clearing, 
settling, processing information with respect to, and facilitating 
transactions in securities, to remove impediments to and perfect the 
mechanism of a free and open market and a national market system and, 
in general, to protect investors and the public interest. Specifically, 
by clarifying the process by which unpreferenced SOES orders are 
executed in the NASD's rules, the NASD believes the proposal will 
promote fair and orderly markets and the protection of investors.

B. Self-Regulatory Organization's Statement on Burden on Competition

    The NASD believes that the proposed rule change will not result in 
any burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants, or Others

    Comments were neither solicited nor received.

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 NASD 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, 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 Room. Copies of such filing will also be 
available for inspection and copying at the principal office of the 
NASD. All submissions should refer to file number SR-NASD-97-50 and 
should be submitted by August 14, 1997.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\4\
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    \4\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-19446 Filed 7-23-97; 8:45 am]
BILLING CODE 8010-01-M