[Federal Register Volume 66, Number 88 (Monday, May 7, 2001)]
[Notices]
[Pages 23055-23058]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 01-11336]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-44236; File No. SR-CBOE-00-22]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change by the Chicago Board Options Exchange, Inc., Relating to 
Automatic Execution of Certain Orders on the Electronic Limit Order 
Book

April 30, 2001.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934

[[Page 23056]]

(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on June 1, 2000, the Chicago Board Options Exchange, Inc. (``CBOE'' or 
``Exchange''), 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 
CBOE. On February 23, 2001, the Exchange filed Amendment No. 1 to the 
proposed rule change. On April 10, 2001, the Exchange filed Amendment 
No. 2 to the proposed rule change.\3\ The Commission is publishing this 
notice to solicit comments on the proposed rule change from interested 
persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ In Amendment No. 1, the CBOE modified the proposed rule 
change to provide that the appropriate Floor Procedure Committee 
would determine its application to a particular option class. In 
Amendment No. 2, the CBOE modified the proposed rule change to 
reflect recent changes relating to the recent re-organization and 
re-numbering of certain provisions of CBOE Rule 6.8 See letters from 
Jaime Galvin, Attorney, CBOE, to Andrew Shipe, Attorney, Division of 
Market Regulation, SEC, dated February 22 and April 10, 2001.
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    The Exchange hereby proposes to amend its rules to provide for the 
automatic execution of certain orders resting in the Exchange's 
electronic limit order book when they become marketable. Below is the 
text of the proposed rule change. Proposed new language is italicized. 
Proposed deletions are in [brackets].
* * * * *
Chicago Board Options Exchange, Inc., Rules
* * * * *
Chapter VI--Doing Business on the Exchange Floor, Section A: General, 
RAES Operations
* * * * *
    Rule 6.8.
    (a)-(c)  No change.
    (d)  Execution on RAES.
    (i) When RAES receives an order, the system automatically will 
attach to the order its execution price, determined by the prevailing 
market quote at the time of the order's entry to the system, except as 
otherwise provided in this Rule 6.8 and the Interpretations to this 
Rule. A buy order will pay the offer, a sell order will sell at the 
bid. Marketable limit orders will not be executed to sell for less or 
buy for more than the specified price, but the order can be executed to 
sell for a higher price or buy for a lower price. However, if the 
order's limit price is under $3, RAES will execute the order only if 
the necessary bid or offer is \1/2\ point or less from the limit price. 
If the order's limit price is $3 or more, RAES will execute the order 
only if the necessary bid or offer is one dollar or less from the limit 
price.
    (ii) A Market-Maker logged on to participate in RAES (a 
``Participating Market-Maker'') will be designated as contra-broker on 
the trade.
    (iii) A trade executed on RAES at an erroneous quote should be 
treated as a trade reported at an erroneous price and adjusted to 
reflect the accurate market after receiving a Floor Official's 
approval.
    (iv) When the best bid or offer on the Exchange's book constitutes 
the best bid or offer on the Exchange and is for a size less than the 
RAES order eligibility size for that class, such fact shall be denoted 
in the Exchange's disseminated quote by a ``Book Indicator''. It is 
possible that the best bid or offer on the Exchange's book constitutes 
the prevailing market bid or offer. In those instances, a RAES order 
will be executed against the order in the book. In the event, the order 
in the book is for a smaller number of contracts than the RAES order, 
the balance of the RAES order will be assigned to participating market-
makers at the same price at which the initial portion of the order was 
executed up to an amount prescribed by the appropriate Floor Procedure 
Committee on a class-by-class basis (the ``Book Price Commitment 
Quantity''). Any remaining balance thereafter shall be (i) routed to 
the crowd PAR terminal if Autoquote is not in effect for that series; 
(ii) assigned to participating market-makers at the Autoquote price if 
Autoquote constitutes the new prevailing market bid or offer; or (iii) 
executed against any order in the book that constitutes the new 
prevailing market bid or offer with the balance of the RAES order being 
assigned to participating market-makers at that price up to the Book 
Price Commitment Quantity. Any additional remaining balance of a RAES 
order shall be handled in accordance with (ii) or (iii) of this 
paragraph.
    (v) Notwithstanding sub-paragraph (d)(iv), [for a six month pilot 
program ending August 21, 2001,] for classes of options as determined 
by the appropriate Floor Procedure Committee, for any series of options 
where the bid or offer generated by the Exchange's Autoquote system (or 
any Exchange approved proprietary quote generation system used in lieu 
of the Exchange's Autoquote system) is equal to or crosses [or locks] 
the Exchange's best bid or offer as established by an order in the 
Exchange's [customer] limit order book, orders in the book for options 
of that series will be automatically executed against participants on 
RAES up to the number of contracts equal to the applicable maximum size 
of RAES-eligible orders for that series of options (``Trigger''). In 
the event the order in the book is for a larger number of contracts 
than the applicable RAES contract limit, the balance of the book order 
will be executed manually by the trading crowd. In the limited 
circumstance where contracts remain in the book after an automatic 
execution of a book order up to the applicable RAES contract limit, and 
the disseminated quote remains crossed or locked with the Autoquote bid 
or offer, or for any series where Trigger has not yet been implemented 
by the appropriate Floor Procedure Committee, orders in RAES for 
options of that series will not be automatically executed but instead 
will be rerouted on ORS to the crowd PAR terminal or to another 
location in the event of system problems or contrary firm routing 
instructions.
    (e)-(g)  No change.
    . . . Interpretations and Policies:
    .01-.08  No change.
* * * * *
Chapter VII--Order Book Officials and Board Brokers, Section A: General
    RULE 7.4 (a)-(g)  No change.
    . . . Interpretations and Policies
    .01-.06  No change.
    .07  Electronic execution of certain orders on the Exchange's 
electronic limit order book is provided for under sub-paragraphs (d) 
(iv) and (v) of Rule 6.8.
* * * * *

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 CBOE 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 CBOE has prepared summaries, set forth in sections 
A, B, and C below, of the most significant aspects of such statements.

[[Page 23057]]

A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. Purpose
    The Exchange is developing a system enhancement to its electronic 
limit order book (``EBook''), called AutoQuote Triggered EBook 
Execution (``Trigger''), that will allow certain orders resting in the 
book to be automatically executed in the limited situation where the 
bid or offer for a series of options generated by the Exchange's 
Autoquote system (or any Exchange approved proprietary quote generation 
system used in lieu of the Exchange's AutoQuote system) is equal to or 
crosses the Exchange's best bid or offer for that series as established 
by a booked order.
    The Trigger enhancement to EBook will provide for more timely and 
efficient execution of book orders. Currently, when the AutoQuote bid 
or offer crosses a booked order, the disseminated quote is changed to 
reflect the order in the book, due to book priority, and will not 
change unless the booked order is traded. A ticket is printed which 
alerts the book staff and the crowd that one or more orders in the book 
are inverted with the quote and that a trade should take place to take 
the order out of the book. This situation can occur for several series 
within the same class and can continue undetected for some time, 
particularly since many classes are on call-up displays which can make 
it difficult for the Designated Primary Market Maker (``DPM'') staff to 
identify such situations. By providing for the automatic execution of 
book orders in this situation, Trigger will significantly reduce the 
burden on DPMs to execute book orders, particularly in fast markets.\4\
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    \4\ It is expected that the implementation of Trigger will also 
eliminate the vast majority of orders ``kicked-out'' of RAES in the 
situation where firms seeking out pricing anomalies detect the 
skewed quote and submit a RAES eligible order(s) to trade at the 
book price.
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    Only series in which AutoQuote (or any Exchange approved quote 
generation system) is employed are eligible for Trigger. If Trigger has 
been activated for a particular class of options, as Autoquote changes 
and the quote either touches or crosses an order in the book, the 
Trigger process will be initiated and the book order(s) will be 
automatically traded up to the RAES contract limit applicable for that 
particular class of options. The booked order will be immediately taken 
out of the book and a last sale will be disseminated. A ticket will be 
printed on the book printer notifying the book clerk that a trade has 
been executed and an endorsement is required. After the book clerk 
verifies with the DPM that the trade is valid based on movements in the 
underlying security, the trade will be endorsed by the book clerk.\5\ 
In most instances, the trade will be endorsed to the RAES ``wheel'' up 
to the applicable RAES contract limit, however, the Trigger system will 
have the functionality to allow the trade to be endorsed manually (as 
is done today) when appropriate.
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    \5\ If the DPM determines that the trade is not valid, such as 
if the trade was based on an erroneous print in the underlying, the 
order will be re-booked and the last sale will be canceled.
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    The Trigger will execute, at most, a quantity equal to the 
applicable RAES contract limit. If a number of contracts greater than 
the applicable RAES contract limit exist in the book, the crowd will 
manually execute the remaining contracts in the book. In the limited 
circumstance where contracts remain in the book after a Trigger 
execution and the out-of-line disseminated quote has not changed, 
orders in RAES for options of that series will be ``kicked-out'' of 
RAES and will be immediately and automatically routed to a broker's PAR 
terminal in the trading crowd (absent contrary instructions of the 
firm), where they will be represented by the broker and, if executable, 
will ordinarily be executed in seconds. Because these orders remain 
RAES eligible, they will be entitled to receive firm quote treatment 
when they are represented in the crowd.
    The following examples illustrate the operation of the Trigger 
process. Assume that there is a 10 contract buy order in the book for 
$5. Assume that the disseminated quote for the particular series is 5-
5\1/8\ and the RAES limit is 50 contracts. When the underlying moves, 
the Exchange's AutoQuote system will also update the quotes for the 
options overlying that stock. Now assume that the underlying stock 
ticks down, causing AutoQuote to go down to 4\7/8\-5. In this instance, 
the Trigger process will initiate and the following sequence of events 
will occur. The CBOE's disseminated quote will remain 5-5\1/8\ because 
of the order in the book. Trigger will be activated and the book order 
will be automatically executed for 10 contracts. The quote will change 
to 4\7/8\-5, if that is still the current quote from AutoQuote.
    Normally, the Trigger process will involve the execution of small 
orders, such as in the above example. If in the above example, the 
order in the book is 100 contracts instead of 10 contracts, the 
following sequence of events will occur. Trigger will automatically 
execute the book order up to 50 contracts, the RAES contract limit. 
CBOE's disseminated quote will still be 5-5\1/8\, because of the 
remaining 50 contracts in the book. A ticket will be printed on the 
book printer notifying the clerk that 50 contracts were executed at $5 
and that 50 contracts remain in the book. The remaining 50 contracts 
will be handled manually by the crowd. Once the remaining 50 contracts 
are executed, the quote will change to 4\7/8\-5, if that is still the 
current quote from AutoQuote. If prior to execution of the remaining 
contracts, the AutoQuote subsequently ticks back to 5-5\1/8\, the 
Trigger will be re-set and the remaining 50 contracts will be 
automatically executed if the AutoQuote returns to 4\7/8\-5. If prior 
to the execution of the remaining contracts, orders are entered into 
RAES for the particular series of options, and AutoQuote remains 
unchanged at 4\7/8\-5 (i.e., AutoQuote remains out-of-line with CBOE's 
disseminated quote), the RAES orders will be kicked-out of RAES and 
automatically routed to the trading crowd.
    The Exchange believes that by providing for orders resting in the 
book to be automatically executed in the limited situation where the 
AutoQuote bid or offer touches or crosses the bid or offer of a booked 
order, customer orders in the book will be executed in a more timely 
manner. Eliminating manual execution of these orders will also 
significantly reduce the burden on DPMs to execute book orders, 
particularly in fast moving markets. The number of book trade-throughs 
should also be reduced. It should be noted that the Exchange expects 
that Trigger will eliminate the vast majority of RAES kick-outs 
currently provided for in paragraph (c) of Exchange Rule 6.8. To 
protect the integrity of the Trigger system, the Exchange will 
gradually roll out the Trigger enhancement to all options classes 
throughout the floor.
    The Exchange also proposes to add an interpretation .08 to Exchange 
Rule 7.4, that references the electronic execution of certain orders on 
the electronic limit order book that is provided for by paragraphs (b) 
and (c) of Exchange Rule 6.8.
2. Statutory Basis
    The proposed rule change is consistent with and furthers the 
objectives of Section 6(b)(5) of the Act,\6\ in that it is designed to 
remove impediments to a free and open market

[[Page 23058]]

and to protect investors and the public interest.
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    \6\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

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

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

    No written comments were solicited or received with respect to the 
proposed rule change.

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 self-regulatory organization 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, including whether the proposal is 
consistent with the Act. 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 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 CBOE. All submissions 
should refer to File No. CBOE-00-22 and should be submitted by May 29, 
2001.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\7\
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    \7\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 01-11336 Filed 5-4-01; 8:45 am]
BILLING CODE 8010-01-M