[Federal Register Volume 66, Number 153 (Wednesday, August 8, 2001)]
[Notices]
[Pages 41641-41643]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 01-19858]


-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-44646; File No. SR-CHX-2001-10]


Self-Regulatory Organizations; Notice of Filing and Immediate 
Effectiveness of Proposed Rule Change and Amendment No. 1 Thereto by 
the Chicago Stock Exchange, Inc. Relating to Marketing Fees

August 2, 2001.
    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 May 24, 2001, the Chicago Stock Exchange, Inc. (``CHX'') filed with 
the Securities and Exchange Commission the proposed rule change as 
described in Items I, II and III below, which Items the CHX has 
prepared. On July 19, 2001, the CHX submitted Amendment No. 1 to the 
proposed rule change. The Commission is publishing this notice to 
solicit comments from interested persons on the proposed rule change, 
as amended.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------

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

    The CHX proposes to amend its membership dues and fees schedule 
effective through December 31, 2001, to provide for assessment of a 
marketing fee in instances where transactions in a subject issue meet 
certain criteria described below. The text of the proposed rule change 
is available at the principal offices of the CHX and at the Commission.

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 CHX included statements 
concerning

[[Page 41642]]

the purpose of and basis for the proposed rule change and discussed any 
comments it had received regarding the proposed rule change. The text 
of these statements may be examined at the places specified in Item IV 
below. The CHX 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
    The CHX proposes to change its fee scheduled to include a marketing 
fee of $.01 per share applicable to transactions occurring on or before 
December 31, 2001. The marketing fee would apply only to ``Subject 
Transactions'' \3\ in ``Subject Issues,'' \4\ and would not be assessed 
if the specialist trading the Subject Issue elected to forego 
collection of the fee. The CHX anticipates that, given the criteria 
that must be satisfied before an issue would qualify as a ``Subject 
Issue,'' only 3 to 5 issues currently traded on the CHX would be 
immediately subject to the marketing fee. According to the CHX, some 
issues may be eligible for only sporadic periods and produce only 
minimal marketing fees. For this reason, the CHX believes that 
specialists may opt out of the marketing fee program for an issue that 
might otherwise qualify as a Subject Issue if the specialist determines 
that any benefit of the marketing fee is not warranted in the light of 
the associated administrative burden.
---------------------------------------------------------------------------

    \3\ The CHX defines ``Subject Transaction'' to mean (a) any 
trade with a customer, whether the contra party is a specialist or a 
market maker, where compensation is paid to induce the routing of 
the order to the CHX; or (b) any trade between a specialist and a 
market maker in which the market maker is exercising rights under 
the market maker entitlement rules.
    \4\ The CHX defines ``Subject Issue'' to mean any issue which 
meets the following two criteria: (a) average daily share volume in 
the issue exceeds 150,000 shares each month during a consecutive 
two-month period; and (b) market maker share participation in the 
same issue exceeds 5% for each month during the same two-month 
period.
---------------------------------------------------------------------------

    The CHX states that, by imposing the marketing fee, it intends to 
allocate equitably the financial burden of seeking order flow for 
Subject Issues. Currently, according to the CHX, the CHX specialist 
trading a Subject issue is the sole bearer of the often substantial 
costs associated with attracting order flow to the CHX, as well as 
licensing fees assessed by the licensor of the product.\5\ Conversely, 
according to the CHX, market makers participating in transactions in 
Subject Issues on the CHX currently do not share any of these costs. 
The CHX states that the proposed rule change would allow a specialist 
trading a Subject Issue to elect (or decline) assessment of the 
marketing fee in instances where the specialist believes that it is 
appropriate for the financial burden of trading the Subject Issue. The 
CHX anticipates that the proposed rule change, and the corresponding 
specialist/market maker arrangement described below, will provide 
specialists trading Subject Issues with sufficient incentive to 
continue their efforts to attract additional order flow and increase 
market share.
---------------------------------------------------------------------------

    \5\ The CHX states that, initially, the marketing fee will most 
likely be assessed against exchange-traded fund products that have 
an associated licensing fee.
---------------------------------------------------------------------------

    The CHX believes that its proposed marketing fee, and the purposes 
thereof, closely mirror those of the various options exchanges that 
have implemented assessment of a marketing fee in the last year. The 
CHX believes that, like its marketing fee, the marketing fee programs 
of the options exchanges have sought to establish equitable means to 
allocate fairly the burdens of attracting order flow in certain issues. 
In the CHX's view, the Commission's rationale for approval of a 
marketing fee in the options market context is equally applicable to 
the CHX's current submission.\6\
---------------------------------------------------------------------------

    \6\ See Securities Exchange Act Release No. 43833 (January 10, 
2001), 66 FR 7822 (January 25, 2001) (Order approving International 
Stock Exchange's payment for order flow rule change proposal, SR-
ISE-2000-10).
---------------------------------------------------------------------------

    The CHX states that it would calculate, bill, and collect the 
marketing fee and then remit the proceeds to the specialist firm that 
trades the Subject Issue. The specialist firm would then distribute the 
funds to order-sending firms in accordance with its payment for order 
flow arrangements or, in certain instances described below, to market 
makers who contribute to market share growth. Under the proposal, the 
CHX would refund unspent marketing fee proceeds every calendar quarter. 
The CHX proposes to issue the refunds on a pro rata basis, in amounts 
proportional to the amount of fees paid, to the market makers, floor 
brokers, and specialists that paid the fees. The CHX would not be 
obligated to refund amounts of $1,000 or less.
    The CHX notes that the proposed rule change provides for assessment 
of the marketing fee on a temporary basis only through December 31, 
2001. The CHX believes that a careful analysis of the marketing fee 
assessment and distribution process during this temporary measuring 
period will permit it to assess the impact of the marketing fee and to 
ensure that it meets its stated goals in a fair, equitable, and non-
discriminatory manner.
    Significantly, the CHX believes that its assessment and collection 
of the marketing fee may be complemented by independent contractual 
undertakings between CHX specialist firms and market makers. The CHX 
believes that, in instances where total market share in the Subject 
Issue exceeds a threshold percentage upon which the specialist and 
market makers have agreed, a specialist firm could credit to the market 
makers an amount equal to the market makers' pro rata portion of the 
percentage by which market share exceeded the threshold percentage.\7\ 
Conversely, in instances of decreasing market share, the specialist 
could expect market makers to contribute to the payment for licensing 
fees to the extent that tape revenue rebates are less than the 
licensing fee for the product. The CHX anticipates that these 
arrangements could provide market makers with an additional incentive 
to help increase CHX market share in Subject Issues and could provide 
for equitable allocation of the revenues associated with increased 
market share, just as market makers are required to share the economic 
burden of attracting order flow for Subject Issues by paying the 
marketing fee.
---------------------------------------------------------------------------

    \7\ The CHX states that a CHX specialist is entitled to a 
transaction credit, applied as a credit against the specialist's 
monthly invoice due and owing to the CHX, equal to a percentage of 
tape revenue generated by monthly trades in the issue traded by the 
specialist. According to the CHX, the percentage of tape revenue to 
which the specialist is entitled increases if CHX market share in 
the issue increases. Under the sharing arrangement outlined above, 
if increasing market share in a Subject Issue resulted in a 
specialist receiving a larger transaction credit, the specialist 
could pay a portion of the marketing fee collected on account of 
such order flow to the market makers contributing to the increase in 
order flow and corresponding market share increase.
---------------------------------------------------------------------------

2. Statutory Basis
    The CHX believes that the proposed rule change is consistent with 
Section 6(b)(4) of the Act \8\ in that it provides for the equitable 
allocation of reasonable dues, fees and other charges among its 
members.
---------------------------------------------------------------------------

    \8\ 15 U.S.C. 78f(b)(4).
---------------------------------------------------------------------------

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

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

[[Page 41643]]

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

    On May 17, 2001, the CHX received written comment regarding the 
proposed rule change from Susquehanna Partners, GP, a CHX market maker 
firm. In its comment letter, Susquehanna raised three principal bases 
for objecting to the marketing fee and made collateral reference to one 
possible adverse consequence of the marketing fee.\9\
---------------------------------------------------------------------------

    \9\ The CHX states that Susquehanna had raised the same 
objections at a meeting of the Strategic Planning Subcommittee on 
Payment for Order Flow on May 8, 2001. The CHX also notes that, 
following a lengthy exploration of the issue raised by all parties 
in interest, and notwithstanding market maker opposition to he 
marketing fee, this subcommittee voted, by clear majority, in favor 
of the proposed rule change.
---------------------------------------------------------------------------

    Two of Susquehanna's objections focus on the issue of revenue and 
the financial impact of the marketing fee on market makers. 
Specifically, Susquehanna argues that imposition of the marketing fee 
is not appropriate because CHX specialists currently receive a portion 
of the tape revenue generated by transactions on the CHX, whereas 
market makers do not share in this revenue. As set forth above, the CHX 
believes that this issue would be resolved to the parties' mutual 
benefit by agreements between specialists and market makers that 
provide for a rebate of the marketing fee to market makers who 
contribute to market share growth.
    Susquehanna also argues that because the marketing fee is 
structured on a pershare basis as opposed to a per-trade basis, 
providers of large liquidity like Susquehanna will pay a 
disproportionate amount of the marketing fee. In the CHX's view, this 
argument ignores that the marketing fee will not be assessed in 
instances where the order is not the result of payment for order flow. 
According to the CHX, market makers who participate in large share 
transactions that arrive at the CHX independently of payment for order 
flow will not be forced to pay a marketing fee with respect to such 
trades. The CHX believes that per-share assessment of the marketing fee 
is appropriate because payment for order flow generally is made on a 
per share basis, permitting a virtual ``pass through'' of the marketing 
fee to order-sending firms.
    Finally, Susquehanna argues that the CHX would be harmed if 
Susquehanna departs from the floor, removing a source of liquidity for 
large-sized orders. The CHX believes that it has adequate sources of 
liquidity without Susquehanna, should Susquehanna decline to bear its 
proportionate share of order flow costs by ceasing operations on the 
CHX floor in order to avoid assessment of the marketing fee.

III. Date of Effectiveness of the Proposed Rule Change and Timing 
for Commission Action

    The foregoing rule change proposal has become immediately effective 
pursuant to Section 19(b)(3)(A) of the Act \10\ and Rule 19b-4(f)(2) 
thereunder \11\ because the CHX has designate it as establishing or 
changing a due, fee, or other charge of the CHX. At any time within 60 
days after the filing of the rule change, the Commission may summarily 
abrogate the rule change if it appears to the Commission that such 
action is necessary or appropriate in the public interest, for the 
protection of investors, or otherwise in furtherance of the purpose of 
the Act.\12\
---------------------------------------------------------------------------

    \10\ 15 U.S.C. 78s(b)(3)(A)(ii).
    \11\ 17 CFR 240.19b-4(f)(2).
    \12\ For purposes of calculating the abrogation date, the 
Commission considers the 60-day period to have commenced on July 19, 
2001, the date on which the CHX amended the filing.
---------------------------------------------------------------------------

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the forgoing, including whether the proposed rule 
change in consistent with the Act. 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-
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 at the 
Commission's Public Reference Room. Copies of such filing will also be 
available for inspection and copying at the principal office of the 
Exchange. All submissions should refer to File No. SR-CHX-2001-10 and 
should be submitted by August 29, 2001.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\13\
---------------------------------------------------------------------------

    \13\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 01-19858 Filed 8-7-01; 8:45 am]
BILLING CODE 8010-M