[Federal Register Volume 67, Number 72 (Monday, April 15, 2002)]
[Notices]
[Pages 18292-18295]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 02-9059]



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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-45713; File No. SR-Phlx-2001-35]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change and Amendment Nos. 2, 3, 4, and 5 Thereto by the Philadelphia 
Stock Exchange, Inc. Relating to Providing Automatic Executions for 
Public Customer Orders When Another Market Is Disseminating Quotes 
Deemed Not To Be Reliable

April 9, 2002.
    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 March 12, 2001, the Philadelphia Stock Exchange, Inc. (``Phlx'' or 
``Exchange'') filed with the Securities and Exchange Commission 
(``Commission'' or ``Exchange'') the proposed rule change as described 
in Items I, II, and III below,\3\ which Items have been prepared by the 
Exchange. Phlx submitted Amendment Nos. 1, 2, 3, 4, and 5 to the 
proposed rule change on September 19, 2001,\4\ January 11, 2002,\5\ 
March 1, 2002,\6\ March 8, 2002,\7\ and April 3, 2002,\8\ respectively. 
The Commission is publishing this notice to solicit comments on the 
proposed rule change, as amended by Amendment Nos. 2, 3, 4, and 5, from 
interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ At the request of the Phlx, these Sections have been revised 
to conform to the substance of Amendment Nos. 2, 3, 4, and 5. 
Telephone call among Deborah Flynn, Assistant Director, Division of 
Market Regulation (``Division''), Commission, Jennifer Lewis, 
Attorney, Division, Commission, and Richard S. Rudolph, Counsel, 
Phlx, on February 21, 2001.
    \4\ In Amendment No. 1, the Exchange proposed to amend the rule 
text to provide that customer market orders will receive an 
automatic execution at the national best bid or offer (``NBBO'') 
based on the best bid or offer in markets whose quotes are not 
subject to relief from the firm quote requirement. See letter from 
Richard S. Rudolph, Counsel, Phlx, to Nancy J. Sanow, Assistant 
Director, Division, Commission, dated September 18, 2001 
(``Amendment No. 1'').
    \5\ In Amendment No. 2, the Exchange proposed to amend the rule 
text to describe how the Exchange would determine that quotes in 
options on the Exchange or another market or markets should be 
excluded from the Exchange's calculation of the national best bid or 
offer (``NBBO''). See letter from Richard S. Rudolph, Counsel, Phlx, 
to Nancy J. Sanow, Assistant Director, Division, Commission, dated 
January 11, 2002 (``Amendment No. 2''). Amendment No. 2 supersedes 
and replaces Amendment No. 1 in its entirety.
    \6\ In Amendment No. 3, the Exchange: (1) clarified that the 
Exchange may determine to exclude quotes from its calculation of the 
NBBO on a series-by-series basis or issue-by-issue basis, or may 
determine to exclude all options quotes from an exchange, where 
appropriate; (2) represented that it maintains, on a daily basis, 
records of each instance in which it determines to exclude quotes 
from another exchange from the Exchange's calculation of the NBBO; 
and (3) stated that it will notify other exchanges of the 
determination to exclude its quotes from the Exchange's calculation 
of the NBBO and of any determination to re-include such exchange's 
quotes in the Exchange's calculation of the NBBO. See letter from 
Richard S. Rudolph, Counsel, Phlx, to Nancy J. Sanow, Assistant 
Director, Division, Commission, dated February 28, 2002 (``Amendment 
No. 3'').
    \7\ In Amendment No. 4, the Exchange proposed to amend the rule 
text to require the Exchange to maintain a record of each instance 
in which another exchange's quotes are excluded from the Exchange's 
calculation of the NBBO, and to notify such other exchange that its 
quotes have been so excluded. See letter from Richard S. Rudolph, 
Counsel, Phlx, to Nancy J. Sanow, Assistant Director, Division, 
Commission, dated March 7, 2002 (``Amendment No. 4'').
    \8\ In Amendment No. 5, the Exchange proposed to amend the rule 
text to provide the documentation of each instance in which another 
exchange's quotes are excluded from the Exchange's calculation of 
the NBBO shall include: identification of the option(s) affected by 
such action; the date and time such action was taken and concluded; 
identification of the other exchange(s) whose quote were excluded 
from the Exchange's calculation of NBBO; identification of the 
Chairman of the Options Committee, his designee, or two Floor 
Officials (as applicable) who approved such action; the reasons for 
which such action was taken; and identification of the specialist 
and the specialist unit. See letter from Richard S. Rudolph, 
Counsel, Phlx, to Nancy J. Sanow, Assistant Director, Division, 
Commission, dated April 2, 2002 (``Amendment No. 5'').
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    The Exchange is proposing to amend Exchange Rule 1080, Philadelphia 
Stock Exchange Automated Options Market (AUTOM) and Automatic Execution 
System (AUTO-X),\9\ to provide that, in situations in which the 
Chairman of the Options Committee or his designee (or if the Chairman 
of the Options Committee or his designee is unavailable, two Floor 
Officials), determines that quotes in options on the Exchange or other 
markets are deemed not to be reliable, such quotes would be excluded 
from the calculation of the NBBO for purposes of AUTO-X, and eligible 
customer orders may be executed automatically if the Phlx quote is the 
NBBO, based on the remaining markets whose quotes are not deemed to be 
unreliable. Such determination may be made by way of notification from 
another market that its quotes are not firm or are unreliable; 
administrative message from the Option Price Reporting Authority 
(``OPRA''); quotes received from another market designated as ``not 
firm'' using the appropriate indicator; and/or telephonic or electronic 
inquiry to, and verification from, another market that its quotes are 
not firm.
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    \9\ AUTOM is the Exchange's electronic order delivery and 
reporting system, which provides for the automatic entry and routing 
of equity option and index option orders to the Exchange trading 
floor. Orders delivered through AUTOM may be executed manually, or 
certain orders are eligible for AUTOM's automatic execution feature, 
AUTO-X. Equity option and index option specialists are required by 
the Exchange to participate in AUTOM and its features and 
enhancements. Option orders entered by Exchange members into AUTOM 
are routed to the appropriate specialist unit on the Exchange 
trading floor.
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    The text of the proposed rule change, as amended by Amendment Nos. 
2, 3, 4, and 5, follows. New text is italicized.

Rule 1080. Philadelphia Stock Exchange Automated Options Market 
(AUTOM) and Automatic Execution System (AUTO-X)

    (a)-(b) No change.
    (c) (i)-(ii) No change.
    (iii)-(iv) RESERVED.
    (v)(A) Where the Chairman of the Options Committee or his designee 
(or if the Chairman of the Options Committee or his designee is 
unavailable, two Floor Officials), determines that quotes in options on 
the Exchange or another market or markets are subject to relief from 
the firm quote requirement set forth in the SEC Quote Rule, as defined 
in Exchange Rule 1082(a)(iii) (the ``Quote Rule''), customer market 
orders will receive an automatic execution at NBBO based on the best 
bid or offer in markets whose quotes are not subject to relief from the 
firm quote requirement set forth in the Quote Rule. Such determination 
may be made by way of notification from another market that its quotes 
are not firm or are unreliable; administrative message from the Option 
Price Reporting Authority (``OPRA''); quotes received from another 
market designated as ``not firm'' using the appropriate indicator; and/
or telephonic or electronic inquiry to, and verification from, another 
market that its quotes are not firm. AUTOM customers will be duly 
notified via electronic message from AUTOM that such quotes are 
excluded from the calculation of NBBO. The Exchange may determine to 
exclude quotes from its calculation of NBBO on a series-by-series basis 
or issue-by-issue basis, or may determine to exclude all options quotes 
from an exchange, where

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appropriate. The Exchange shall maintain a record of each instance in 
which another exchange's quotes are excluded from the Exchange's 
calculation of NBBO, and shall notify such other exchange that its 
quotes have been so excluded. Such documentation shall include: 
identification of the option(s) affected by such action; the date and 
time such action was taken and concluded; identification of the other 
exchange(s) whose quotes were excluded from the Exchange's calculation 
of NBBO; identification of the Chairman of the Options Committee, his 
designee, or two Floor Officials (as applicable) who approved such 
action; the reasons for which such action was taken; and identification 
of the specialist and the specialist unit. The Exchange will maintain 
these documents pursuant to the record retention requirements of the 
Securities Exchange Act of 1934 and the rules and regulations 
thereunder.
    (B) Where the Chairman of the Options Committee or his designee (or 
if the Chairman of the Options Committee or his designee is 
unavailable, two Floor Officials), determines that quotes in options on 
the Exchange or another market or markets previously subject to relief 
from the firm quote requirement set forth in the Quote Rule are no 
longer subject to such relief, such quotations will be included in the 
calculation of NBBO for such options. Such determination may be made by 
way of notification from another market that its quotes are firm; 
administrative message from the Option Price Reporting Authority 
(``OPRA''); and/or telephonic or electronic inquiry to, and 
verification from, another market that its quotes are firm. AUTOM 
customers will be duly notified via electronic message from AUTOM that 
such quotes are again included in the calculation of NBBO.
    (d)-(j) No change.
    Commentary: No change.

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 on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV 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
    The purpose of the proposed rule change is to permit the Exchange 
to exclude from the calculation of NBBO (for purposes other than the 
NBBO Feature as described in footnote 10, infra) certain quotes from 
other markets that are deemed not to be reliable.\10\ The consequence 
of this change would be that customer market orders and marketable 
limit orders received via AUTOM that were otherwise eligible for 
automatic execution may receive an automatic execution based upon 
reliable quotes, rather than a manual execution, provided that the Phlx 
quote is the NBBO.
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    \10\ Under current Exchange rules, certain AUTO-X eligible 
orders may be automatically executed at the NBBO disseminated by 
another options exchange, provided that the NBBO is not better than 
the specialist's best bid/offer by a predetermined ``step-up 
parameter.'' The enhancement is known as the ``NBBO Feature.'' The 
NBBO Feature would execute AUTO-X eligible orders at the NBBO for 
certain options designated by the Options Committee as eligible for 
the NBBO Feature, called ``automatic step-up options.'' See Exchange 
Rule 1080(c)(i).
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    Under current Exchange rules, orders for equity options received 
via AUTOM that would otherwise be eligible for automatic execution via 
AUTO-X are nonetheless executed manually where the specialist's bid or 
offer is inferior to the current best bid or offer in another market by 
any amount.\11\ Therefore, if another market is disseminating the NBBO, 
AUTO-X will not permit the automatic execution of an otherwise eligible 
order even if such other market's disseminated quote is unreliable. 
Phlx believes this unreasonably and unfairly deprives customers who 
send their eligible orders to the Exchange via AUTOM expecting to 
receive an automatic execution (where the Phlx disseminated quote is 
the NBBO) of the benefits of such an execution. Moreover, Phlx believes 
this creates the risk that operational or other failures at another 
market will result in the Exchange potentially being flooded with 
orders that will have to be manually processed--thereby increasing the 
potential for errors, missed executions, and other adverse 
consequences, as more fully described below.
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    \11\ See Exchange Rule 1080(c)(i)(C)(3).
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    The Exchange believes that the customer and the marketplace are 
better served by permitting the Exchange (subject to adherence to 
carefully defined standards and procedures) to ``filter'' out 
unreliable quotes of other markets so as to permit the AUTO-X feature 
to continue to execute otherwise eligible orders where the Exchange's 
quote is the ``true'' NBBO (i.e., the NBBO determined after excluding 
the unreliable quotes).
a. Unreliable Quotes
    As stated above, where the NBBO Feature (as described in footnote 
10, supra) is not engaged, in circumstances in which the Phlx 
specialist's best bid or offer in a series is inferior to the current 
best bid or offer in another market by any amount, orders for such 
series that would otherwise be eligible for automatic execution are 
executed manually. Currently, this is true even when the quotes 
disseminated by the exchange with the superior bid or offer are not 
reliable.
    A quote could be deemed not to be reliable because of notification 
from another market that its quotes are not firm or are unreliable; 
administrative message from OPRA; quotes received from another market 
designated as ``not firm'' using the appropriate indicator; and/or 
telephonic or electronic inquiry to, and verification from, another 
market that its quotes are not firm.
b. Consequences of Manual Execution
    The Exchange has sought to ensure that customer orders would not be 
disqualified from receiving an automatic execution due to another 
market's dissemination of unreliable quotes. The Exchange believes that 
manual execution of customer market orders in the circumstances 
described above deprives customers of automatic executions to which 
they should be entitled. The Exchange believes it would be unfair to 
deprive all eligible customer orders of automatic executions where the 
Phlx quote would be the NBBO but for the away market's unreliable 
quote, simply because another exchange is disseminating unreliable 
quotes that cause orders otherwise eligible for AUTO-X to be handled 
manually.
    The Exchange believes if it determines that such quotes are 
unreliable, such quotes should be filtered from AUTOM in the 
calculation of NBBO for purposes of determining AUTO-X eligibility, and 
the customer's order should be executed automatically based on the 
Exchange's quote and quotes from other exchanges that are not deemed to 
be unreliable.
c. Procedures and Conditions for Determining Unreliable Quotes
    Proposed Rule 1080(c)(v)(A) authorizes the Chairman of the Options

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Committee or his designee (or if the Chairman of the Options Committee 
or his designee is unavailable, two Floor Officials) to determine that 
quotes in specified options or series of options or in respect of 
specified markets are not reliable under the specific circumstances set 
forth in the proposed rule.
    This authority would be expected to be exercised upon the request 
of the specialist, and only upon notification from another market that 
its quotes are not firm or are unreliable; receipt of administrative 
message from OPRA; receipt of quotes from another market designated as 
``not firm'' using the appropriate indicator; and/or telephonic or 
electronic inquiry to, and verification from, another market that its 
quotes are not firm.
    As stated above, the Chairman of the Options Committee or his 
designee (or if the Chairman of the Options Committee or his designee 
is unavailable, two Floor Officials) would be authorized, under the 
circumstances set forth above, to determine when quotes from another 
market may be deemed unreliable. Such designee would be required to be 
a member of the Options Committee.
    The Exchange would be permitted to determine to exclude quotes from 
its calculation of the NBBO on a series-by-series basis or issue-by-
issue basis, or would be permitted to determine to exclude all options 
quotes from an exchange, where appropriate.\12\
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    \12\ See Amendment No. 3, supra note 6.
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    Phlx also proposes to amend the rule text to require the Exchange 
to maintain a record of each instance in which another exchange's 
quotes are excluded from the Exchange's calculation of the NBBO, and to 
notify such other exchange that its quotes have been so excluded.\13\
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    \13\ See Amendment No. 4, supra note 7.
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    In addition, Phlx proposes to amend the rule text to provide that 
documentation of each instance in which another exchange's quotes are 
excluded from the Exchange's calculation of NBBO shall include: 
identification of the option(s) affected by such action; the date and 
time such action was taken and concluded; identification of the other 
exchange(s) whose quotes were excluded from the Exchange's calculation 
of NBBO; identification of the Chairman of the Options Committee, his 
designee, or two Floor Officials (as applicable) who approved such 
action; the reasons for which such action was taken; and identification 
of the specialist and the specialist unit. The Exchange will maintain 
these documents pursuant to the record retention requirements of the 
Securities Exchange Act of 1934 and the rules and regulations 
thereunder.\14\
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    \14\ See Amendment No. 5, supra note 8.
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d. Re-Inclusion of Quotes in Calculation of NBBO
    Proposed Rule 1080(c)(v)(B) authorizes the Chairman of the Options 
Committee or his designee (or if the Chairman of the Options Committee 
or his designee is unavailable, two Floor Officials), to determine that 
quotes in options on the Exchange or other markets previously deemed 
not to be reliable pursuant to proposed Rule 1080(c)(v)(A) are again 
reliable, such quotations would again be included in the calculation of 
NBBO for such options.
    Such determination would be permitted to be made by way of 
notification from another market that its quotes are firm; 
administrative message from OPRA; and/or telephonic or electronic 
inquiry to, and verification from, another market that its quotes are 
firm. AUTOM customers would be duly notified via electronic message 
from AUTOM that such quotes are again included in the calculation of 
NBBO.\15\
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    \15\ The Exchange notes that it has filed an amendment to a 
proposed rule change that proposes to institute a similar 
``filtering'' feature for unreliable away-market quotes in relation 
to the NBBO Feature. For reasons similar to those specified in this 
filing, the Exchange has proposed to filter our unreliable quotes of 
other markets when calculating the NBBO so as to permit automatic 
executions at the ``true'' NBBO (i.e., excluding the unreliable 
quotes), where the criteria of the NBBO Feature are met, rather than 
handling those orders manually. The Exchange proposes that the 
circumstances and procedures under which filtering may occur for 
purposes of the instant filing would be identical to those requested 
to apply to the NBBO Feature. See Securities Exchange Act Release 
No. 45714 (April 9, 2002) (SR-Phlx-00-93).
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2. Statutory Basis
    The Exchange believes that the proposed rule change, as amended, is 
consistent with section 6(b) of the Act \16\ in general, and with 
section 6(b)(5),\17\ in particular, because it is designed to perfect 
the mechanisms of a free and open market and the national market 
system, protect investors and the public interest and promote just and 
equitable principles of trade by allowing customer market orders to be 
executed automatically when another market is disseminating unreliable 
quotes that would otherwise cause such orders to be executed manually.
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    \16\ 15 U.S.C. 78f(b).
    \17\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The Phlx does not believe that the proposed rule change, as 
amended, 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 either solicited or received.

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 Phlx 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, as 
amended, 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 the 
Phlx. All submissions should refer to File No. SR-Phlx-2001-35 and 
should be submitted by May 6, 2002.


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    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\18\
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    \18\ 17 CFR 200.30-3(a)(12)
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 02-9059 Filed 4-12-02; 8:45 am]
BILLING CODE 8010-01-P