[Federal Register Volume 64, Number 98 (Friday, May 21, 1999)]
[Notices]
[Pages 27839-27840]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 99-12817]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-41392; File No. S7-24-89]


Joint Industry Plan; Solicitation of Comments and Approval of 
Request To Increase the Number of Securities Eligible for Trading 
Pursuant to the Reporting Plan for Nasdaq/'National Market Securities 
Traded on an Exchange on an Unlisted or Listed Basis, Submitted by the 
Chicago Stock Exchange, Inc.

May 12, 1999.

I. Introduction

    On November 6, 1998, the Chicago Stock Exchange, Inc. (``CHX''), 
submitted to the Securities and Exchange Commission (``Commission'' or 
``SEC'') a request to increase the number of Nasdaq National Market 
(``Nasdaq/NM'') securities eligible for trading \1\ pursuant to the 
Joint Transaction Reporting Plan for the National Market Securities 
Traded on an Exchange on an Unlisted or Listed Basis (``Plan'').\2\ The 
Commission is approving the request to expand the number of eligible 
securities that may be traded by the CHX pursuant to the Plan from 500 
to 1000.
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    \1\ Section 12(f) of the Securities Exchange Act of 1934 
(``Act'') describes the circumstances under which an exchange may 
trade a security that is not listed on the exchange, i.e., by 
extending unlisted trading privileges (``UTP'') to the security. See 
15 U.S.C. 781(f). Section 12(f) required exchanges to apply to the 
Commission before extending UTP to any security. In order to approve 
an exchange UTP application for a registered security not listed on 
any exchange (``OTC/UTP''), Section 12(f) required the Commission to 
determine that various criteria had been met concerning fair and 
orderly markets, the protection of investors, and certain national 
market initiatives. Section 12(f) was amended on October 22, 1994; 
the amendment removed the application requirement. OTC/UTP is now 
allowed only pursuant to a Commission order or rule, which is to be 
issued or promulgated under essentially the same standards that 
previously applied to Commission review of UTP applications. The 
present order fulfills these Section 12(f) requirements.
    \2\ The signatories to the Plan, i.e., the National Association 
of Securities Dealers, Inc. (``NASD''), the CHX (previously, the 
Midwest Stock Exchange, Inc.), the Philadelphia Stock Exchange, Inc. 
(``Phlx''), and the Boston Stock Exchange, Inc. (``BSE''), are the 
``Participants.'' The BSE, however, joined the Plan as a ``Limited 
Participant,'' and reports quotation information and transaction 
reports only in Nasdaq/National Market (previously referred to as 
``Nasdaq/NMS'') securities listed on the BSE. Originally, the 
American Stock Exchange, Inc., was a Participant to the Plan, but 
did not trade securities pursuant to the Plan, and withdrew from 
participation in the Plan in August 1994.
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II. Background

    The Commission originally approved the Plan on June 26, 1990.\3\ 
The Plan governs the collection, consolidation and dissemination of 
quotation and transaction information for Nasdaq/NM securities listed 
on an exchange or traded on an exchange pursuant to unlisted trading 
privileges.\4\ The Commission originally approved trading pursuant to 
the Plan on a one-year pilot basis, with the pilot period to commence 
when transaction reporting pursuant to the Plan commenced. Accordingly, 
the pilot period commenced on July 12, 1993. The Plan has been in 
operation on a pilot basis since that time.\5\
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    \3\ See Securities Exchange Act Release No. 28146 (June 26, 
1990), 55 FR 27917 (July 6, 1990) (``1990 Approval Order''). See 
also 1994 Extension Order, infra note 5 (providing a detailed 
discussion of the history of unlisted trading privileges in OTC 
securities, and the events that led to the plan and pilot program).
    \4\ See Section 12(f) of the Act. See also December 1998 
Extension Order, infra note 5, for a more in depth description of 
the Plan.
    \5\ See Stock Exchange Act Release No. 34371 (July 13, 1994), 59 
FR 37103 (July 20, 1994) (``1994 Extension Order''), Securities 
Exchange Act Release No. 35221 (January 11, 1995), 60 FR 3886 
(January 19, 1995); Securities Exchange Act Release No. 36102 
(August 14, 1995), 60 FR 43626 (August 22, 1995); Securities 
Exchange Act Release No. 36226 (September 13, 1995), 60 FR 49029 
(September 21, 1995); Securities Exchange Act Release No. 36368 
(October 13, 1995) 60 FR 54091 (October 19, 1995); Securities 
Exchange Act Release No. 36481 (November 13, 1995), 60 FR 58119 
(November 24, 1995); Securities Exchange Act Release No. 36589 
(December 13, 1995), 60 FR 65696 (December 20, 1995); Securities 
Exchange Act Release No. 36650 (December 28, 1995), 61 FR 358 
(January 4, 1996); Securities Exchange Act Release No. 36934 (March 
6, 1996), 61 FR 10408 (March 13, 1996); Securities Exchange Act 
Release No. 36985 (March 18, 1996), 61 FR 12122 (March 25, 1996); 
Securities Exchange Act Release No. 37689 (September 16, 1996), 61 
FR 50058 (September 24, 1996); Securities Exchange Act Release No. 
37772 (October 1, 1996), 61 FR 52980 (October 9, 1996); Securities 
Exchange Act Release No. 38457 (March 31, 1997), 62 FR 16880 (April 
8, 1997); Securities Exchange Act Release No. 38794 (June 30, 1997), 
62 FR 36586 (July 8, 1997); Securities Exchange Act Release No. 
39505 (December 31, 1997), 63 FR 1515 (January 9, 1998); Securities 
Exchange Act Release No. 40151 (July 1, 1998), 63 FR 36979 (July 8, 
1998) (``July 1998 Extension Order''); and Securities Exchange Act 
Release No. 40896 (December 31, 1998), 64 FR 1834 (January 12, 1999) 
(``December 1998 Extension Order'').
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III. Discussion

    Prior to 1985, the Commission generally did not permit exchanges to 
extend unlisted trading privileges to non-exchange listed securities 
such as Nasdaq/NM securities. However, in 1985, the Commission began to 
permit exchanges, on a temporary basis and subject to certain 
limitations, to extend unlisted trading privileges to a maximum of 
twenty five securities. These limitations, to required the NASD and the 
exchanges to enter into a plan for consolidated transaction and 
quotation dissemination of the UTP securities.\6\ In 1986, the Midwest 
Stock Exchange (now the CHX) entered into an interim plan which 
subsequently was superseded by the Plan, which is currently operating 
on a pilot basis. In 1990, the Commission expanded the maximum number 
of eligible securities to 100,\7\ and in 1995, the Commission approved 
a request by the CHX\8\ to further increase the number to 500.\9\ 
Accordingly, CHX today trades up to 500 Nasdaq/NM securities pursuant 
to unlisted trading privileges.
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    \6\ See Securities Exchange Act Release No. 22412 (September 16, 
1985), 50 FR 38640.
    \7\See 1990 Approval Order, supra note 3.
    \8\See letter from George T. Simon, Foley and Lardner, to 
Katherine England, Assistant Director, Commission, dated January 9, 
1995.
    \9\See Release No. 34-36102, Supra note 5.
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    The CHX would now like to raise the number of UTP-eligible 
securities from 500 to 1000. In commenting on the Commission's July 
1998 Extension Order, the CHX asked the Commission to expand the number 
of Nasdaq stocks eligible for unlisted trading from 500 to 1000 
issues.\10\ In support of the proposal, the CHX cited to the 
Commission's approval of the previous increase. Further, the Exchange 
believes that investors directly benefit from the proposal because the 
CHX is the only auction-based market for Nasdaq securities. In the 
December 1998 Extension Order, the Commission solicited comment 
regarding the CHX's request.\11\
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    \10\ See letter from George T. Simon, Foley and Lardner, to 
Robert Colby, Commission, dated November 6, 1998. In response to a 
request by the Commission for additional information, the CHX 
submitted a second letter regarding its proposal. See letter from 
Patricia L. Levy, CHX, to Mariane H. Duffy, SEC, dated January 27, 
1999. In this letter, the CHX represented that 485 Nasdaq stocks are 
currently assigned to its specialists and due to the 500 issue 
limit, it had to drop 18 Nasdaq stocks. Additionally, the Exchange 
represented its capacity to handle the increase to 1000 issues and, 
further noted that despite a recent increase in volume, excess 
capacity remains. The CHX also represented that it is in the process 
of expanding its capacity. Id.
    \11\ See December 1998 Extension Order, supra note 5.
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    The Commission received two comment letters addressing the CHX's 
proposal, as well as two letters from the CHX responding to the NASD's 
letter.\12\

[[Page 27840]]

The NASD states that it opposes the expansion to 1000 securities. 
First, the NASD notes that over-the counter market makers are not able 
to trade the most actively traded exchange listed securities and argues 
that it is still trying to obtain access to trading of non-19c-3 
securities through the Intermarket Trading System/Computer Assisted 
Execution System (``ITS/CAES'') linkage.\13\ Second, the NASD raised 
concerns regarding autoquoting.\14\ The NASD argues that the proposal 
could create significant message traffic in the Nasdaq system, as well 
as needless and avoidable capacity repercussions for Nasdaq. Moreover, 
the NASD believes that the proposal is not consistent with the Act 
because it believes that the expansion would not serve to achieve the 
goals of unlisted trading privileges since ``data gathered by the 
NASD's Economic Research Department shows that a significant portion of 
the CHX specialist quotes are not competitive.''\15\ The NASD asserts 
that: CHX specialists are almost never at the national best bid/best 
offer (``NBBO'') in the securities in which they make a market; CHX 
specialists account for a disproportionate number of quote updates; CHX 
specialists account for an insignificant portion of the volume in the 
securities in which they make a market; and CHX specialists have a 
disproportionately higher quote to trade ratio than Nasdaq market 
makers. For these reasons, the NASD concludes that permitting CHX 
specialists to trade an additional 500 securities might harm market 
quality. Finally, the NASD submitted statistical data regarding CHX and 
NASD volume in OTC/UTP securities, as well as quotation information 
concerning securities quoted under the Plan, to support its supposition 
to the proposal.
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    \12\ See letter from Robert E. Aber, Senior Vice President and 
General Counsel, NASD, to Jonthan G. Katz, Secretary, Commission, 
dated February 12, 1999 (``NASD Letter''); letter from Gene L. Finn, 
Finn Associates, to Jonathan G. Katz, Secretary, Commission, dated 
February 11, 1999; letter from Paticia L. Levy, Senior Vice 
President and General Counsel, CHX, to Jonathan G. Katz, Secretary, 
Commission, dated March 3, 1999 (``CHX Letter No. 3''); and letter 
from George T. Simon, Foley and Lardner, to Robert Colby, Deputy 
Director, Division of Market Regulation, Commission, dated April 1, 
1999.
    \13\See Securities Exchange Act Release No. 40260 (July 24, 
1998), 63 FR 40748 (July 30, 1998) requesting comments on whether to 
extend the ITS/CAES linkage to non-19c-3 securities.
    \14\See Autoquoting is the computerized updating of stock 
prices. The CHX allows its members to autoquote Plan securities. The 
NASD generally prohibits this conduct, in part to ensure adequate 
capacity. See NASD IM-4613.
    \15\See NASD Letter, supra note 12.
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    The CHX submitted a third letter responding to the NASD's 
comments.\16\ In the third letter, the CHX provided statistical 
information to refute the position of the NASD. Further, the CHX 
addressed the NASD concerns regarding ITS/CAES, autoquote, and the 
goals of unlisted trading privileges. The CHX further noted that the 
Commission approved the previous expansion from 100 to 500 securities, 
notwithstanding similar comments from the NASD regarding ITS/CAES at 
that time. The CHX also challenged the validity of the NASD's capacity 
concerns resulting from the CHX member's use of autoquote.
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    \16\ See Letter CHX Letter No. 3, supra note 12.
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    The Commission does not find the NASD's arguments determinative and 
believes that it is appropriate at this time to expand the number of 
Nasdaq/NM securities that the CHX may trade under the Plan. As noted, 
the Commission has separately solicited comment on the issue of 
expanding the ITS/CAES linkage to non-19c-3 securities. Although CHX 
autoquoting substantially increases capacity burdens of Nasdaq, the 
Commission does not view these quotes as in themselves negative for the 
markets. Nor has the Commission received evidence that expanding the 
number of securities would otherwise have a negative effect on the 
markets or on the protection of investors. On the contrary, the 
Commission believes this expansion, from 500 to 1000 Nasdaq/MN 
securities has the potential to enhance competition and result in 
better executions for investors. The expansion should enhance the 
protection of investors and the public interest, further competition, 
increase the transparency of the markets, and is a prudent approach 
that will enable the Participants and the Commission to gain useful, 
instructive experience concerning operation of the Joint OTC/UTP Plan 
and its competitive effects, pending permanent approval of the Plan. In 
addition, the Commission notes that it will continue to monitor the 
CHX's ability to perform its responsibilities under the Joint Plan.

IV. Solicitation of Comment

    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, NW., Washington, DC 20549-0609. 
Copies of the submission, all subsequent amendments, all written 
statements with respect to the proposed amendment that are filed with 
the Commission, and all written communications relating to the proposed 
amendment 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 at the 
Commission's Public Reference Room. All submissions should refer to 
File No. S7-24-89 and should be submitted by June 11, 1999.

V. Conclusion

    The Commission finds that it is consistent with Section 11A of the 
Act to increase the number of UTP-eligible Nasdaq/NM securities that 
the CHX may trade from 500 to 1000 securities.\17\ In reviewing the 
proposal described herein, the Commission has considered the public 
trading activity in Nasdaq/NM securities, the character of the trading, 
the impact of the increase on the existing markets for the securities 
and the desirability of removing impediments to, and the progress that 
has been made towards, development of a national market system.\18\ 
Specifically, the Commission believes that the expansion should 
increase transparency and serve to provide the Participants with 
additional information to evaluate the effects of the proposed course 
of action for the pilot program. This, in turn, should further the 
objectives of the Act in general, and specifically those set forth in 
Sections 12(f) and 11A of the Act and in Rule 11Aa3-1 and Rule 11Aa3-2 
thereunder.
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    \17\ The Commission has considered the proposal's impact on 
efficiency, competition and capital formation.
    \18\ 15 U.S.C. 781(f)(1)(E)(i) and (ii).
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    It is therefore ordered, Pursuant to Sections 12(f) and 11A of the 
Act and (c)(2) of Rule 11Aa3-2 thereunder, that the CHX's request to 
expand the number securities eligible for trading pursuant to the Joint 
Transaction Reporting Pan for Nasdaq/National Market securities traded 
on an exchange on an unlisted or listed basis is hereby approved.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\19\
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    \19\ 17 CFR 200.30-39a)(29).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 99-12817 Filed 5-20-99; 8:45 am]
BILLING CODE 8010-01-M