[Federal Register Volume 65, Number 89 (Monday, May 8, 2000)]
[Notices]
[Pages 26649-26651]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 00-11402]


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SECURITIES AND EXCHANGE COMMISSION

(Release No. 34-42740; File No. SR-CHX-00-11)


Self-Regulatory Organizations; Notice of Filing and Order 
Granting Accelerated Approval of Proposed Rule Change by the Chicago 
Stock Exchange, Incorporated Relating to the Trading of Nasdaq/NM 
Securities on the CHX

May 1, 2000.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'') \1\ and Rule 19b-4 thereunder \2\ notice is hereby given that 
on April 25, 2000, the Chicago Stock Exchange, Incorporated (``CHX'' or 
``Exchange'') filed with the Securities and Exchange Commission 
(``Commission'') the proposed rule change as described in Items I and 
II below, which Items have been prepared by the Exchange. The 
Commission is publishing this notice to solicit comments on the 
proposed rule change from interested persons and to grant accelerated 
approval of the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    The Exchange has requested a six-month extension \3\ of the pilot 
program relating to the trading of Nasdaq/NM securities on the 
Exchange. Specifically, the pilot program amended Article XX, Rule 37 
and Article XX, Rule 43 of the Exchange's rules. The pilot currently is 
due to expire on May 1, 2000. The Exchange proposes that the pilot 
remain in effect on a pilot basis through November 1, 2000. The text of 
the proposed rule is available at the Exchange and at the Commission.
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    \3\ In the original filing, the Exchange requested a one-year 
extension of the pilot program. In a telephone call on May 1, 2000, 
between Paul O'Kelly, Executive Vice President, Market Regulation 
and Legal, CHX, and Katherine England, Assistant Director, Division 
of Market Regulation (``Division''), Commission, the Exchange agreed 
to a six month extension for the pilot.
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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 Exchange included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any comments it received regarding the proposed rule change. 
The text of these statements may be examined at the places specified in 
Item III below. The Exchange 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

1. Purpose
    On May 4, 1987, the Commission approved certain Exchange rules and 
procedures relating to the trading of Nasdaq/NM securities on the 
Exchange.\4\ Among other things, these rules rendered the Exchange's 
BEST Rule guarantee (Article XX, Rule 37(a)) applicable to Nasdaq/NM 
securities and made Nasdaq/NM securities eligible for the automatic 
execution feature of the Exchange's Midwest Automated Execution System 
(the ``MAX'' system).\5\
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    \4\ See Securities Exchange Act Release No. 24424 (May 4, 1987), 
52 FR 17868 (May 12, 1987) (order approving File No. SR-MSE-87-2); 
see also, Securities Exchange Act Release Nos. 28146 (June 26, 
1990), 55 FR 27917 (July 6, 1990) (order expanding the number of 
eligible securities to 100); 36102 (August 14, 1995), 60 FR 43626 
(August 22, 1995) (order expanding the number of eligible securities 
to 500); 41392 (May 12, 1999), 64 FR 27839 (May 21, 1999) (order 
expanding the number of eligible securities to 1000).
    \5\ The MAX system may be used to provide an automated delivery 
and execution facility for orders that are eligible for execution 
under the Exchange's BEST Rule and certain other orders. See CHX 
Rules, Art. XX, Rule 37(b). A MAX order that fits within the BEST 
parameters is executed pursuant to the BEST Rule via the MAX system. 
If an order is outside the BEST parameters, the BEST rule does not 
apply, but MAX system handling rules remain applicable.
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    On January 3, 1997, the Commission approved,\6\ on a one year pilot 
basis, a program that eliminated the requirement that CHX specialists 
automatically execute orders for Nasdaq/NM securities when the 
specialist is not quoting at the national best bid or best offer 
disseminated pursuant to Commission Rule 11Ac1-1 (the ``NBBO''). When 
the Commission approved the program on a pilot basis, it requested that 
the Exchange submit a report to the Commission describing the 
Exchange's experience with the pilot program. The Commission stated 
that the report should include at least six months of trading data. Due 
to programming issues, the pilot program was not implemented until 
April 1997. Six months of trading data did not become available until 
November 1997. As a result, the Exchange requested an additional three-
month extension to collect the data and prepare the report for the 
Commission.
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    \6\ See Securities Exchange Act Release No. 38119 (January 3, 
1997), 62 FR 1788 (January 13, 1997).

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[[Page 26650]]

    On December 31, 1997, the Commission extended the pilot program for 
an additional three months, until March 31, 1998, to give the Exchange 
additional time to prepare and submit the report and to give the 
Commission adequate time to review the report prior to approving the 
pilot on a permanent basis.\7\ The Exchange submitted the report to the 
Commission on January 30, 1998, Subsequently, the Exchange requested 
another three-month extension, in order to give the Commission adequate 
time ot approve the pilot program on a permanent basis.
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    \7\ See Securities Exchange Act Release No. 39512 (December 31, 
1997), 62 FR 1517 (January 9, 1998).
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    On March 31, 1998, the Commission approved the pilot for an 
additional three-month period, until June 30, 1998.\8\ On July 1, 1998, 
the Commission approved the pilot for an additional six-month period, 
until December 31, 1998.\9\ On December 31, 1998, the Commission 
approved the pilot for an additional six-month period, until June 30, 
1999.\10\ On June 30, 1999, the Commission approved the pilot for an 
additional seven-month period, until January 31, 2000.\11\ On January 
31, 2000, the Commission approved the pilot for an additional three-
month period, until May 1, 2000.\12\ The Exchange now requests another 
extension of the current pilot program, through November 1, 2000. The 
Exchange also submitted to the Commission a report relating to 
executions in accordance with the pilot program, to enable the 
Commission to continue its review of the pilot program on April 27, 
2000.\13\
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    \8\ See Securities Exchange Act Release No. 39823 (March 31, 
1998), 63 FR 17246 (April 8, 1998).
    \9\ See Securities Exchange Act Release No. 40150 (July 1, 
1998), 63 FR 36983 (July 8, 1998).
    \10\ See Securities Exchange Act Release No. 40868 (December 31, 
1998), 64 FR 1845 (January 12, 1999).
    \11\ See Securities Exchange Act Release No. 41586 (June 30, 
1999), 64 FR 36938 (July 8, 1999).
    \12\ See Securities Exchange Act Release No. 42372 (January 31, 
2000), 65 FR 6425 (February 9, 2000).
    \13\ See Letter to Katherine England, Assistant Director, 
Division, Commission, from Paul B. O'Kelly, Executive Vice 
President, Market Regulation and Legal, CHX, dated April 27, 2000.
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    Under the pilot program, specialists must continue to accept agency 
\14\ market orders or marketable limit orders, but only for orders of 
100 to 1,000 shares in Nasdaq/NM securities rather than the 2,099 share 
limit previously in place. Specialists, however, must accept all agency 
limit orders in Nasdaq/NM securities from up to and including 10,000 
shares for placement in the limit order book. As described below, 
however, specialists are required to automatically execute Nasdaq/NM 
orders only if they are quoting at the NBBO when the order was 
received.
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    \14\ The term ``agency order'' means an order for the account of 
a customer, but does not include professional orders, as defined in 
CHX Rule, Art. XXX, Rule 2, Interp. and Policy .04. The rule defines 
a ``professional order'' as 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.
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    The pilot program requires the specialists to set the MAX auto-
execution threshold at 1,000 shares or greater for Nasdaq/NM 
securities. When a CHX specialists is quoting at the NBBO, orders for a 
number of shares less than or equal to the auto-execution threshold 
designated by the specialist are executed automatically (in an amount 
up to the size of the specialist's quote). Orders in securities quoted 
with a spread greater than the minimum variation are executed 
automatically after a fifteen second delay from the time the order is 
entered into MAX. The size of specialist's bid or offer is then 
automatically decremented by the size of the execution. When the 
specialist's quote is exhausted, the system will generate an autoquote 
at an increment away from the NBBO, as determined by the specialist 
from time to time, for either 100 or 1,000 shares, depending on the 
issue.\15\
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    \15\ Specifically, the autoquote is currently for one normal 
unit of trading (usually 100 shares) for issues that became subject 
to mandatory compliance with Commission Rule 11Ac1-4 on or prior to 
February 24, 1997 and 1000 shares for other issues.
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    When the specialist is not quoting a Nasdaq/NM security at the 
NBBO, it can elect, on an order-by-order basis, to manually execute 
orders in that security. If the specialists does not elect manual 
execution, MAX market and marketable limit orders in the security that 
are of a size equal to or less than the auto-execution threshold is 
less than or equal to the NBBO. If the specialists elects manual 
execution, the specialist must either manually execute the order at the 
NBBO or a better or act as agent for the order in seeking to obtain the 
best available price for the order on a marketplace other than the 
Exchange. If the specialist decides to act as agent for the order, the 
pilot program requires the specialist to use order-routing systems to 
obtain an execution where appropriate. Market and marketable limit 
orders that are for a number of shares greater than the auto-execution 
threshold are not subject to these requirements, and may be canceled 
within one minute of being entered into MAX to designated as an open 
order.
2. Statutory Basis
    The CHX believes that the proposed rule is consistent with the 
requirements of the Act and rules and regulations thereunder that are 
applicable to a national securities exchange, and, in particular, with 
the requirements of Section 6(b).\16\ In particular, the proposed rule 
is consistent with Section 6(b)(5) \17\ of the Act in that it designed 
to promote just and equitable principles of trade, to remove 
impediments and to perfect the mechanism of a free and open market and 
a national market system, and, in general, to protect investors and the 
public interest.
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    \16\ 15 U.S.C. 78f(b).
    \17\ 15 U.S.C. 78f(b)(5).
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    Th CHX's proposal is intended to conform CHX specialist obligations 
to those applicable to OTC market makers in Nasdaq/NM securities, while 
recognizing that the CHX provides a separate, competitive market for 
Nasdaq/NM securities. The rules establish execution procedures and 
guarantees that attempt to provide executions reflective of the best 
quotes among OTC market makers and specialists in Nasdaq/NM securities 
without subjecting CHX specialists to execution guarantees that are 
substantially greater than those imposed on their competitors.

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

    The Exchange does not believe that the proposed rule change will 
impose any inappropriate burden on competition.

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

    Written comments were neither solicited nor received.

III. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the foregoing including whether the proposal is 
consistent with the Act. Persons making written submission should file 
six copies thereof with the Secretary, Securities and Exchange 
Commission, 450 Fifth Street, N.W., Washington, DC 20549-0609. 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

[[Page 26651]]

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. Copies of such filings will also be available for 
inspection and copying at the principal office of the Exchange. All 
submissions should refer to File No. SR-CHX-00-11 and should be 
submitted by May 30, 2000.

IV. Commission's Findings and Order Granting Accelerated Approval 
of Proposed Rule Change

    The Commission finds that the Exchange's proposal is consistent 
with the requirements of the Act and the rules and regulations 
thereunder applicable to a national securities exchange.\18\ 
Specifically, the Commission finds that the proposed rule change is 
consistent with Section 6(b)(5) \19\ of the Act, which requires that an 
Exchange have rules designed to prevent fraudulent and manipulative 
acts and practices, to promote just and equitable principles of trade, 
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. The Commission also believes that 
the proposal is consistent with Section 11A(a)(1)(C) \20\ and 
11A(a)(1)(D) \21\ of the Act. The proposal is consistent with Section 
11A(a)(1)(C) in that it seeks to ensure economically efficient 
execution of securities transactions. Moreover, the proposal is 
consistent with Section 11A(a)(1)(D) in that it attempts to foster the 
linking of markets for qualified securities through communication and 
data processing facilities.
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    \18\ In reviewing this proposal, the Commission has considered 
its impact on efficiency, competition and capital formation. 15 USC 
78c(f).
    \19\ 15 U.S.C. 78f(b)(5).
    \20\ 15 U.S.C. 78k-1(a)(1)(C).
    \21\ 15 U.S.C. 78k-1(a)(1)(D).
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    The Commission notes, however, that while the Exchange has been 
working toward establishing a linkage, specialists and OTC market 
makers do not yet have an effective method of routing orders to each 
other. The Commission expects the Exchange to continue to work towards 
establishing a linkage with the Nasdaq systems as requested in the 
January 1997 Order.\22\ In connection with this effort, the Commission 
has requested an update on the information provided in the December 21, 
1999 and April 27, 2000 reports using the Exchange's surveillance 
system. The Commission requests that the Exchange supplement the 
available trading data so that it can consider issues concerning the 
pilot program, including the circumstances involving orders that are 
not automatically executed through MAX, whether orders are given the 
NBBO shown at the time the order is received or the NBBO posted at the 
time the order is executed, and what explanations are available for 
price disimprovment. The Commission's is extending the pilot program 
through November 1, 2000 so that the Exchange may compile this data for 
the Commission's review. The Commission requests that the Exchange 
provide a report addressing the above no later than August 15, 2000.
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    \22\ See January 1997 Order, supra note 7.
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    Upon approval of SR-CHX-99-27,\23\ wherein the Exchange last sought 
an extension of this pilot, the Commission also requested that the 
Exchange rewrite Article XX, Rule 37 and Article XX, Rule 43 of the 
Exchange's rules so these rules clearly explain the difference between 
how listed (or dually traded) securities and over-the-counter (or 
Nasdaq/NM) securities are routed and executed by the Exchange, and 
submit the new proposed language to the Commission for review and 
approval. Further, the Commission requested that the Exchange include 
in its rules an explanation of how the provisions of the Exchange's 
Best Rule interact with the Exchange's Rules governing automatic 
execution of orders. The Exchange has been working with Commission 
staff in an effort to revise these rules, and the Commission expects 
that these efforts will continue until the Exchange has sufficiently 
clarified these rules for their members and the public.
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    \23\ See Securities Exchange Act Release No. 42372 (January 31, 
2000), 65 FR 6425 (February 9, 2000).
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    Thus, the Commission's approval of the pilot extension has several 
ramifications. Approval will: (1) Allow the Exchange to operate the 
BEST pilot without interruption; (2) provide a period for compilation 
of additional data; and (3) allow the Exchange additional time to 
revise the language of the existing rules for clarity and ease of 
understanding in the public interest and for protection of investors.
    The Commission does not want to interrupt the current operations of 
the Exchange's pilot while the above-described issues are being 
addressed. The Commission, therefore, finds good cause for approving 
the proposed rule change prior to the thirtieth day after the date of 
publication of notice of filing thereof in the Federal Register.
    It is therefore ordered, pursuant to Section 19(b)(2) \24\ of the 
Act that the proposed rule change (SR-CHX-00-11), be, and hereby is, 
approved through November 1, 2000.

    \24\ 15 U.S.C. 78sZ(b)(2).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\25\
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    \25\ 17 CFR 200.30-3(a)(12).

Jonathan G. Katz,
Secretary.
[FR Doc. 00-11402 Filed 5-5-00; 8:45 am]
BILLING CODE 8010-01-M