[Federal Register Volume 69, Number 38 (Thursday, February 26, 2004)]
[Notices]
[Pages 8995-8998]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 04-4270]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-49287; File No. SR-CBOE-2003-23]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change by the Chicago Board Options Exchange, Inc., Relating to its 
Autoquote Triggered Ebook Execution System

February 19, 2004.
    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 June 2, 2003, 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 CBOE. On 
September 10, 2003, the Exchange filed Amendment No. 1 to the proposed 
rule change.\3\ On December 29, 2003, the Exchange filed Amendment No. 
2 to the proposed rule change.\4\ 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\ See letter from Steve Youhn, Senior Attorney, CBOE, to Nancy 
Sanow, Assistant Director, Division of Market Regulation, 
Commission, dated September 9, 2003.
    \4\ See letter from Steve Youhn, Senior Attorney, CBOE, to Nancy 
Sanow, Assistant Director, Division of Market Regulation, 
Commission, dated December 22, 2003.

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[[Page 8996]]

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

    The Exchange proposes to amend CBOE Rule 6.8(d)(v) governing the 
operation of its ``Trigger'' functionality. 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
    This Rule governs RAES operations in all classes of options, except 
to the extent otherwise expressly provided in this or other Rules in 
respect of specified classes of options.
RULE 6.8
    (a)-(c) No change.
    (d) Execution on RAES
    (i)-(iv) No change.
    (v) Notwithstanding sub-paragraph (d)(iv), for classes of options 
as determined by the appropriate Floor Procedure Committee (``FPC''), 
for any series of options where the bid or offer generated by [the 
Exchange's] Autoquote [system (or any] (Exchange or [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 as established by an order in the Exchange's limit order book, 
orders in the book for options of that series will be automatically 
executed against participants on RAES (``Trigger'') up to a size not to 
exceed the number of contracts equal to the applicable maximum size of 
RAES-eligible orders for that series of options (``Trigger Volume''). 
The appropriate [Floor Procedure Committee] FPC is responsible for 
determining the Trigger Volume for a particular series of options. In 
the event a member in the trading crowd verbally initiates a trade with 
a book order prior to the time the book staff announces to the trading 
crowd that the order has been removed from the book by Trigger, the 
book staff will manually endorse the book order to that member(s).
    In the event the order in the book is for a larger number of 
contracts than the applicable Trigger Volume, the balance of the book 
order [will] may be executed manually by the trading crowd. In the 
limited circumstance where contracts remain in the book after an 
execution (or partial execution) of a book order up to the applicable 
Trigger Volume, [and the disseminated quote] the bid or offer generated 
by Autoquote will be one-tick inferior to the price of the book order 
such that the disseminated quote will not [remains] cross[ed] or 
lock[ed] with the Autoquote bid or offer. In these instances, or for 
any series where Trigger has not yet been implemented by the 
appropriate [Floor Procedure Committee] FPC, 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.
* * * * *

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.

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

1. Purpose
    The Exchange proposes to amend Rule 6.8(d)(v), which governs the 
operation of the Autoquote Triggered EBook Execution system 
(``Trigger'').\5\ Trigger allows orders resting in the book to be 
automatically executed in the limited situation when the Autoquote 
(Exchange or proprietary) bid (offer) for a series would equal or cross 
the Exchange's best offer (bid) for that series as established by a 
booked order.\6\ In these instances, Trigger removes from the book and 
automatically executes and assigns to market makers orders up to the 
RAES eligible order size for that series (``Trigger Volume''). If the 
size of the order in the book exceeds the applicable Trigger Volume 
size, the balance of the booked order is executed manually by the 
trading crowd, in full, at the book price.
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    \5\ The Commission approved the rule governing the Trigger 
system in Securities Exchange Act Release No. 44462 (June 21, 2001), 
66 FR 34495 (June 28, 2002) (approving SR-CBOE-00-22) (``Original 
Order''). For a detailed description of the operation of the Trigger 
system, see the Original Order and Securities Exchange Act Release 
No. 45992 (May 29, 2002), 67 FR 38530 (June 4, 2002) (approving SR-
CBOE-2002-12).
    \6\ Although Autoquote would cross or lock the order in the 
book, the Exchange does not disseminate the crossed or locked 
market. Instead, the disseminated bid (offer) will be one tick away 
from the book offer (bid). For example, if the Autoquote bid would 
lock the book offer at 1.30, the disseminated quote will be 1.25 x 
1.30, with the 1.25 representing Autoquote and the 1.30 representing 
the book. Additionally, for Trigger-situations, the DPM typically 
sets a default size (e.g., 10 contracts) that is smaller than the 
actual disseminated size for non-Trigger situations.
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    The operation of Trigger results in the full size of the booked 
order being executed, regardless of its size and without regard to the 
Autoquote disseminated size. For example, if the order in the book is 
for 200 contracts and the Trigger Volume level is set at 50 contracts, 
all 200 contracts in the book receive execution (50 via Trigger and the 
balance via open outcry). This has the result of requiring crowds to 
execute orders of a size greater than their disseminated firm quote 
size. To address this, CBOE proposes to amend the Rule to provide that 
Trigger will continue to provide automatic execution up to the Trigger 
volume level but that the crowd may determine to execute manually any 
remaining balance of the order in open outcry. Any unexecuted balance 
of the book order in excess of the Trigger Volume level will remain in 
the book (as is the case today) and the Autoquote will remain crossed 
or locked. This proposal would have the effect of giving the crowd the 
ability to execute the remaining contracts (in excess of the Trigger 
Volume level) without obligating them to do so.
    For illustrative purposes, consider the following example:

------------------------------------------------------------------------
                                        Price                Size
------------------------------------------------------------------------
AQ.............................  1.00 x 1.20.......  100 x 100
Book...........................  0.95 x 1.10.......  10 x 2500

[[Page 8997]]

 
Bestquote......................  1.00 x 1.10.......  100 x 2500
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    Trigger Vol.: 50 contracts
    AQ Default Size: 10 contracts
    Assume a move in the underlying causes AQ to want to move to 1.10 x 
1.30. This activates Trigger (i.e., AQ bid would lock the book offer--
1.10 x 1.10). In this instance, Trigger automatically executes the book 
order up to the Trigger Volume level (50 contracts) and assigns the 
contracts to market makers in the crowd. Because the Exchange will not 
disseminate a locked market, however, the disseminated quote will be 
1.05--1.10, 10x2450. The 1.10 offer represents the balance of order in 
the book. The 1.05 bid represents the Autoquote price and default size. 
The crowd will have the ability to manually execute the remaining 
contracts at 1.10. When the balance of the book order trades, the new 
disseminated Autoquote price will be 1.10 x 1.30.
    The Exchange submits that Rule 11Ac1-1 under the Act (the ``Quote 
Rule''),\7\ in its simplest form, requires the responsible broker or 
dealer (``responsible BD'') to be firm for its quotes (for price and 
size). The Exchange notes that in Trigger situations, the responsible 
BD on the Exchange is firm for all of its disseminated quotes. CBOE 
notes that there are three relevant periods relating to Trigger and 
explains how the operation of Trigger during each period is consistent 
with the Quote Rule, as follows.
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    \7\ 17 CFR 240.11Ac1-1.
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    Immediately Prior to Trigger Activation: Prior to the change in the 
underlying price that causes a change in the Autoquote price, the 
Exchange disseminates a 1.00 x 1.10, 100 x 2500 size market, for which 
it is firm. The $1.00 bid represents the crowd's autoquote while the 
$1.10 offer represents an order in the book.
    At the time of Trigger Activation and Immediately Thereafter: When 
a Trigger situation occurs (i.e., the autoquote bid would lock the book 
offer), it is important to note that the Exchange does NOT disseminate 
a locked or crossed market. Instead of sending a $1.10 bid, autoquote 
internally calculates a price that is one tick lower than the locked 
price ($1.05) and then sends that quote, which the Exchange collects 
and disseminates to quotation vendors as a firm quote. In this 
instance, the Exchange's disseminated offer is still for the balance of 
the book order (2450 contracts) at $1.10. Because Autoquote does not 
send and hence CBOE does not disseminate a $1.10 bid, CBOE states that 
there is no firm quote liability for a 1.10 bid. The disseminated 1.10 
offer is still firm.
    The operation of Trigger results in the removal of contracts from 
the book for execution by the crowd. Today, the whole size of the book 
order is removed from the book. This has the result of forcing the 
trading crowd to buy (sell) all 2500 contracts in the book, even if 
they do not desire to purchase (sell) all of them and even though their 
disseminated size was substantially smaller. While the Quote Rule 
requires the responsible BD to be firm for quotes it disseminates, CBOE 
states that nothing in this rule requires an entity to purchase (sell) 
the entire size of the disseminated quote (i.e., the BD who puts up the 
quote must be firm, not the person who tries to hit it). In fact, 
according to CBOE, this is completely inconsistent with the Quote Rule, 
as it imposes an unfair obligation upon the trading crowd (i.e., to buy 
(sell) the entire size of the book order) where there rightly is none.
    The Exchange notes that the filing proposes to amend what it views 
as an inequitable operation of Trigger such that only a number of 
contracts equal to the Trigger Volume Size would now be removed. The 
remainder of the contracts would stay in the book where they may be 
executed against by either the crowd or any other person that wants to 
trade with that order. The proposed change to the rule language of Rule 
6.8(d)(v), which states ``the balance of the book order may be executed 
manually by the trading crowd'' clarifies this point.
    Additionally, CBOE states that, because CBOE's own Quote Rule \8\ 
is based on, and operates in compliance with, the SEC's Quote Rule, its 
proposal is also consistent with the SEC's Quote Rule. The Exchange 
represents that it is firm for all of the quotes it disseminates. 
Furthermore, the Exchange submits that Rule 11Ac1-1(b)(1)(i)\9\ 
requires an Exchange to, among other things, ``* * * collect, process 
and make available to quotation vendors the best bid, the best offer, 
and aggregate quotation sizes for each subject security * * *'' In this 
regard, the Exchange states that it collects and disseminates all 
quotes sent to it. Autoquote does not send, and hence CBOE states that 
it does not have an obligation to collect and disseminate, a quote that 
would lock the book price. For this reason, the Exchange submits that 
its proposal satisfies all of the Exchange's obligations under the 
Quote Rule.
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    \8\ CBOE Rule 851.
    \9\ 17 CFR 240.11Ac1-1(b)(1)(i).
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2. Statutory Basis
    According to CBOE, the proposal would continue to ensure that 
customers receive automatic executions of their booked orders up to the 
Trigger Volume level. The proposal is also consistent with the Quote 
Rule in that the CBOE crowd, as the responsible BD, will continue to 
honor its disseminated quotes. Therefore, the Exchange believes the 
proposed rule change is consistent with the Act and the rules and 
regulations under the Act applicable to a national securities exchange 
and, in particular, the requirements of section 6(b) of the Act.\10\ 
Specifically, the Exchange believes that the proposed rule change is 
consistent with the section 6(b)(5) \11\ requirements that the rules of 
an exchange be designed to promote just and equitable principles of 
trade, to prevent fraudulent and manipulative acts and, in general, to 
protect investors and the public interest.
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    \10\ 15 U.S.C. 78f(b).
    \11\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    CBOE does not believe that the proposed rule change will impose any 
burden on competition that is not necessary or appropriate in 
furtherance of purposes of the Act.

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:

[[Page 8998]]

    (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. Comments 
should be submitted electronically at the following e-mail address: 
[email protected]. All comment letters should refer to File No. SR-
CBOE-2003-23. This file number should be included on the subject line 
if e-mail is used. To help the Commission process and review your 
comments more efficiently, comments should be sent in hard copy or by 
e-mail but not by both methods. 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 be submitted by March 18, 2004.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\12\
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    \12\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 04-4270 Filed 2-25-04; 8:45 am]
BILLING CODE 8010-01-P