[Federal Register Volume 63, Number 94 (Friday, May 15, 1998)]
[Notices]
[Pages 27058-27060]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-12970]


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COMMODITY FUTURES TRADING COMMISSION


New York Mercantile Exchange Proposed Specialist Market Maker 
Program

AGENCY: Commodity Futures Trading Commission.

ACTION: Notice of proposed new rule and rule amendments of the New York 
Mercantile Exchange to establish a Specialist Market Maker program.

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SUMMARY: The New York Mercantile Exchange (``NYMEX'' or ``Exchange'') 
has submitted a proposed new rule and rule amendments that would 
establish a Specialist Market Maker (``SMM'') program for certain new 
or low-volume futures contracts. The Exchange would appoint one SMM for 
each contract market that it determined would benefit from the SMM 
program. The SMM would be required to maintain a continuous physical 
presence on the floor of the Exchange throughout the regular trading 
session of the contract and to maintain a two-sided market in the 
contract for which he or she had been appointed. The SMM also would be 
required to maintain a limit order book of member and non-member (i.e., 
customer) limit orders. In return for these services, the SMM would be 
paid a contract development fee and receive various priorities with 
respect to certain transactions executed in the trading ring for the 
appointed contract.
    Acting pursuant to the authority delegated by Commission Regulation 
140.96, the Division of Trading and Markets (``Division'') has 
determined to publish the NYMEX proposal for public comment. The 
Division believes that publication of the proposal is in the public 
interest and will assist the Commission in considering the views of 
interested persons.

DATE: Comments must be received on or before June 15, 1998.

FOR FURTHER INFORMATION CONTACT:
Thomas Smith, Attorney, Division of Trading and Markets, Commodity 
Futures Trading Commission, Three Lafayette Centre, 1155 21st Street, 
NW., Washington, DC 20581. Telephone: (202) 418-5495; or electronic 
mail: [email protected].

SUPPLEMENTARY INFORMATION:

I. Description of Proposed SMM Program

A. Introduction

    By letter dated April 16, 1998, NYMEX submitted proposed new Rule 
6.45 (``Specialist Market Maker Program'') and proposed amendments to 
Rule 6.43A (``Broker Registration Requirements'') pursuant to Section 
5a(a)(12)(A) of the Commodity Exchange Act (``Act'') and Commission 
Regulation 1.41(c). The proposed new rule and rule amendments would 
establish an SMM program for certain new or low-volume futures 
contracts. The SMM program is intended to provide liquidity for new or 
illiquid markets and would be terminated once the contract obtained a 
predetermined trading volume. The SMM program is patterned after a 
market maker program at the Chicago Mercantile Exchange that was 
previously approved by the Commission on April 20, 1995.
    NYMEX intends to implement the SMM program in the Cinergy 
Electricity and Entergy Electricity futures contracts, which were 
approved by the Commission for trading on March 23, 1998. NYMEX 
anticipates listing the two new electricity futures contracts for 
trading within the next few months. The SMM program may be extended to 
other new or low-volume futures contracts at a later date.

B. SMM Eligibility Criteria

    Applications for SMM positions would be accepted from members and 
member firms. Applications also would be accepted from individuals and 
firms that were not members or member firms. Appointment as an SMM 
could not occur however, until the individual or firm had been approved 
by the NYMEX Board of Directors as a member or member firm.
    NYMEX would establish a new Exchange Committee, the Specialist 
Review Committee (``SRC''). The SRC would assess each SMM applicant's 
financial resources, operational capabilities, trading experience, 
regulatory history, and ability and willingness to promote NYMEX as a 
marketplace and would report its findings to the Board of Directors. 
Prospective SMM applicants also would need to demonstrate that they 
have the ability to provide multiple qualified personnel with the 
capability to perform the defined SMM obligations and have working 
capital in excess of $500,000. The Board of Directors would make the 
final decision as to which applicants to appoint as SMMs.
    Only one SMM would be appointed for each contract market eligible 
for the SMM program. The Board of Directors, however, may appoint a 
member or member firm as an SMM for more than one contract market.
    For any market for which an SMM has been appointed, the Exchange 
would issue an SMM trading permit to the SMM. The permit would allow 
the member or member firm to perform the SMM functions without 
incurring the cost of dedicating a membership for use in that 
designated futures contract. Thus, for example, if a member firm with 
two full NYMEX memberships were appointed an SMM in a new contract, the 
member firm would be permitted to act as the SMM for the new

[[Page 27059]]

market while also retaining the trading privileges associated with the 
two full memberships.

C. Duties of the SMM

    The SMM's rights and obligations would be set forth in a written 
agreement (the ``SMM Agreement'').\1\ The SMM Agreement would require 
the SMM to provide a continuous physical presence on the floor of the 
Exchange throughout the regular trading session in order to maintain an 
orderly market in the appointed futures contract. During the trading 
session of the appointed market, the SMM would continuously provide bid 
and offer quotes for outright futures trades and price differentials 
for spread transactions for the contract delivery months set forth in 
the SMM Agreement.
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    \1\ The SMM Agreement would be negotiated by the SMM and SRC and 
would be subject to the approval of the NYMEX Board of Directors.
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    The SMM Agreement would establish a maximum bid/offer quote spread 
and maximum price differential for certain contract delivery months.\2\ 
At a given bid or offer, the SMM would be obligated to satisfy all bids 
and offers in the ring at the same price up to a predefined maximum 
number of contracts for any one trade.\3\ In complying with this 
obligation for a particular price, the SMM could fill a bid or offer, 
as applicable, with one or more limit orders maintained in a limit 
order book at that price (the limit order book is discussed further 
below), with a trade for the SMM's proprietary account, or with a 
combination of limit orders and trading for his or her proprietary 
account.
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    \2\ The duration of the SMM's term would be set forth in the SMM 
Agreement.
    \3\ The maximum number of contracts that the SMM would be 
obligated to fill at any one price would be set forth in the SMM 
Agreement.
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    NYMEX anticipates that a maximum bid/offer quote spread and maximum 
price differential would be set only for the ``near'' months (e.g., for 
one to three months out from the front-month contract) and the most 
active spread transactions. In addition, the SMM Agreement may provide 
for a maximum bid/offer quote spread and price differential during 
usual market conditions and a larger maximum bid/offer quote spread and 
price differential during periods of extreme volatility, extreme 
trading volume, or market emergencies. The SMM Agreement would define 
these ``unusual'' market conditions for the purposes of the SMM 
program.
    The SMM also would be required to maintain an order book of limit 
orders (``OB'') in the markets for which he or she has been appointed 
an SMM. The limit orders could be for outright futures trades or spread 
transactions. The term ``Order Book Official'' (``OBO'') would be used 
to refer to the SMM whenever the SMM was acting in the capacity of 
managing the OB.
    A customer may elect to have a limit order given to the SMM for 
inclusion in the OB. NYMEX members also may place limit orders for 
their proprietary accounts with the SMM for inclusion in the OB. The 
OBO would be obligated to accept all limit orders presented for 
inclusion in the OB. Customers also may request that non-limit orders 
be given to the OBO for execution. The OBO would not be obligated to 
accept non-limit orders.
    Upon a request from a member or clerk on the trading floor, the OBO 
would be required to disclose the prices, quantities and contract 
delivery months for the limit orders held in the OB. The promptness of 
the OBO's response would depend upon market conditions.
    All orders presented to the OBO would have to be in writing. Orders 
entered into the OB would be executed on a price-priority and time-
priority basis. The Exchange would provide the OBO with a time-stamp 
clock in the trading ring, and the OBO would be required to time-stamp 
each limit order that he or she received.
    The proposal also would provide that the SMM may, at his or her 
discretion, respond to a request for a bid or offer as part of a large-
order execution procedure. The SMM would be permitted to survey the 
ring to determine if other floor members were interested in 
participating in responding to the request.\4\
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    \4\ NYMEX current does not have a rule governing large-order 
executions. The Exchange has stated that it would submit a proposed 
large-order execution rule to the Commission pursuant to Section 
5a(a)(12)(A) of the Act and Commission Regulation 1.41(c) prior to 
its implementation.
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D. Transaction Priorities

    The SMM program would provide certain trading priorities to the OBO 
and to the SMM. With respect to the execution of limit orders in the 
OB, the OBO would have a 100% priority right over other proprietary 
traders and floor brokers in the ring for trades that take place at the 
OBO's bid or offer. For example, if the OB contained limit orders to 
buy a total of 10 contracts at a price of 40, the OBO would have a 
right to participate in any transactions executed at a price of 40 in 
the trading ring until all 10 of the limit orders in the OB were 
executed. With respect to this priority, no distinction would be made 
between members and customer limit orders in the OB.
    In connection with the SMM's proprietary account, the SMM would 
have priority rights with respect to trades executed (1) against the 
OB; (2) in the ring and within the SMM's bid/offer spread; and (3) as a 
cross-trade against the OB. The SMM, however, would not be obligated to 
exercise his or her priority rights. The extent of each of these 
priorities is specified below.
    The SMM would have a 10% priority right with respect to any 
transaction executed opposite the OB. For example, if a floor broker 
executed a trade opposite the OB for 20 contracts at a price of 39, the 
SMM may exercise his or her priority right and ``take'' 2 of the 
contracts at a price of 39 from the floor broker.
    The SMM would have a 40% priority right with respect to trades 
executed in the trading ring that do not involve the OB and are within 
the SMM's bid/offer spread. For example if the SMM's spread is bid 40 
and offer 50, and two floor brokers execute a trade for 20 contracts at 
a price of 40, the SMM may exercise his or her right to buy 8 of the 
contracts from the selling floor broker.
    The SMM may trade for his or her proprietary account against the 
OB, provided that the SMM follows the cross-trade procedures set forth 
in NYMEX Rule 6.40, including announcing the price and quantity of the 
contracts to be purchased and sold to the trading ring three times and 
executing the transaction in the presence of an Exchange employee 
designated to observe such transactions. If one or more floor members 
respond to the SMM's bid and offer, the SMM may exercise a right of 
priority to a maximum of 40% of the transaction. For example, if the OB 
contained limit orders to buy a total of 10 contracts at a price of 30, 
the SMM may elect to trade opposite the OB by announcing three times 
the bid and offer for 10 contracts at a price of 30 to the other floor 
members in the trading ring. If other floor members respond to the 
announcement by offering to sell 10 contracts at 30, the SMM may elect 
to exercise his or her priority and trade against four of the contracts 
in the OB. The remaining six contracts would go to the other floor 
members in the trading ring who wished to participate in the 
transaction.\5\
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    \5\ The proposal would require a member or member firm using the 
SMM facility for the execution of customer limit orders to disclose 
in writing to the customer that the SMM may trade against such 
orders and that the customer may choose not to place a limit order 
with the SMM.

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[[Page 27060]]

    The SMM's priorities would extend to floor members executing trades 
for proprietary accounts and floor brokers executing customer orders. 
Therefore, the SMM's priority may preempt the execution of customer 
orders.

E. Contract Development Fee

    The SMM would receive a contract development fee (``CDF'') as an 
incentive to perform the SMM function. The terms and duration of the 
CDF would be set forth in the SMM Agreement, and would be based upon 
the level of customer trading volume in the designated contract. Unless 
otherwise provided in the SMM Agreement, the SMM would receive $8,000 
per month if monthly customer trading volume was less than 3,500 
contracts. Once monthly customer trading volume exceeded 3,500 
contracts, the SMM would receive $8,000 plus a per contract fee for 
each transaction in excess of 3,500 that involved a customer order.

F. Specialist Floor Brokers

    The proposal would permit the SMM to contract with one or more 
floor brokers (``Specialist Floor Brokers'' or ``SFB'') to perform all 
or part of the SMM function. For example, the SMM may contract with the 
SFB to manage the OB and to perform all of the OBO obligations, 
including the OB's priority with respect to trading against the OB.
    The proposal would give significant latitude to the SMM to contract 
with an SFB. However, any contract between an SMM and an SFB would be 
subject to the review and approval of the SRC. The proposal also would 
provide that the SMM would be principally liable to the Exchange for 
the execution of all SMM obligations and duties.

II. Request for Comments

    The Commission requests comments from interested persons concerning 
any aspect of NYMEX's proposed SMM program that the commenters believe 
raise issues under the Act or Commission Regulations. In particular, 
the Commission requests comments regarding the appropriateness of: (1) 
Permitting members to place limit orders for their own accounts in the 
OB; (2)permitting member limit orders to be executed ahead of customer 
limit orders that are at the same price, but received by the OBO at a 
later time; (3) granting the SMMs trading priorities, including the 
priority to trade against the OB; and (4) permitting the SMM's trading 
priority to preempt the execution of customer orders in the trading 
ring.
    Copies of the proposed new Rule 6.45 and the proposed amendments to 
Rule 6.43A and related materials are available for inspection at the 
Office of the Secretariat, Commodity Futures Trading Commission, Three 
Lafayette Centre, 1155 21st Street, NW, Washington, DC 20581. Copies 
also may be obtained through the Office of the Secretariat at the above 
address or by telephoning (202) 418-5100.
    Any person interested in submitting written data, views, or 
arguments on the proposed SMM program should send such comments, by the 
specified date, to Jean A. Webb, Secretary, Commodity Futures Trading 
Commission, Three Lafayette Centre, 1155 21st Street, NW, Washington, 
DC 20581; transmitted by facsimile to (202) 418-5521; or transmitted 
electronically to [email protected].

    Issued in Washington, DC, on May 11, 1998.
Alan L. Seifert,
Deputy Director.
[FR Doc. 98-12970 Filed 5-14-98; 8:45 am]
BILLING CODE 6351-01-M