[Federal Register Volume 69, Number 80 (Monday, April 26, 2004)]
[Notices]
[Pages 22576-22578]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 04-9351]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-49577; File No. SR-CBOE-2004-17]


Self-Regulatory Organizations; Chicago Board Options Exchange, 
Incorporated; Order Approving Proposed Rule Change and Amendment No. 1 
Thereto Establishing a Process for Approving and Appointing Remote 
Electronic Designated Primary Market-Makers

April 19, 2004.

I. Introduction

    On March 11, 2004, the Chicago Board Options Exchange, Incorporated 
(``CBOE'' or ``Exchange'') filed with the Securities and Exchange 
Commission (``Commission''), pursuant to Section 19(b)(1) of the 
Securities Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 
thereunder,\2\ a proposed rule change to adopt new rules establishing a 
process for approving and appointing remote electronic Designated 
Primary Market-Makers (``e-DPMs''). On March 11, 2004, the CBOE filed 
Amendment No. 1 to the proposed rule change.\3\ On March 18, 2004, the 
CBOE's rule proposal, as amended, was published for comment in the 
Federal Register.\4\ No comment letters were received on the proposal. 
This order approves the proposal and Amendment No.1 thereto.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Amendment No. 1 replaced and superceded the CBOE's original 
19b-4 filing in its entirety.
    \4\ See Securities Exchange Act Release No. 49411 (March 12, 
2004), 69 FR 12878.
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II. Description of Proposal

    The CBOE is currently in the process of proposing significant 
enhancements to its Hybrid Trading System (``CBOE Hybrid 2.0 
initiatives'') including, among other things, the addition of a 
proposed new category of CBOE market-

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making participants called e-DPMs. e-DPMs would be member organizations 
appointed to operate on CBOE as competing Designated Primary Market-
Makers (``DPMs'') in a broad number of option classes. The purpose of 
this filing is to establish rules and criteria to allow the CBOE to 
begin approving and appointing e-DPMs. In its filing, the CBOE 
acknowledges that any such e-DPM appointments would be contingent on 
Commission approval of e-DPMs and CBOE rules governing e-DPM trading 
procedures and obligations, which the CBOE has not yet submitted to the 
Commission, but plans to do so soon as a separate rule filing.
    The CBOE expects to approve and appoint a limited number of e-DPMs. 
The Exchange's Board of Directors has established a special 
appointments committee, consisting of the Lessor Director, two Public 
Directors, the Vice Chairman, and the President, to select the firms 
that would be designated as e-DPMs, and to make initial e-DPM option 
class allocations. Candidates seeking appointment as an e-DPM would be 
evaluated on the basis of how well they meet the following criteria:
     Significant market-making and/or specialist 
experience in a broad array of securities;
     Superior resources, including capital, 
technology and personnel;
     Demonstrated history of stability, superior 
electronic capacity, and superior operational capacity;
     Proven ability to interact with order flow in 
all types of markets;
     Existence of order flow commitments;
     Willingness to accept allocations as an e-DPM in 
options overlying 400 or more securities; and
     Willingness and ability to make competitive 
markets on CBOE and otherwise to promote CBOE in a manner that is 
likely to enhance the ability of CBOE to compete successfully for order 
flow in the options it trades.
    The CBOE represents that it intends to use the final factor listed 
to take into consideration in the selection process which of the 
applicants would best be able to enhance the competitiveness of the 
Exchange. ``Willingness to promote CBOE'' includes assisting in meeting 
and educating market participants, maintaining communications with 
member firms in order to be responsive to suggestions and complaints, 
responding to suggestions and complaints, and other like activities. 
Further, the CBOE would not apply this factor to in any way restrict, 
either directly or indirectly, e-DPMs' activities as market makers or 
specialists elsewhere, or to restrict how e-DPMs handle orders held by 
them in a fiduciary capacity to which they owe a duty of best 
execution.
    The CBOE represents that it would use the factor relating to the 
existence of order flow commitments to evaluate existing order flow 
commitments between the applicant and order flow providers. A future 
change to, or termination of, any such commitments considered by the 
Exchange during the review process would not be used by the Exchange at 
any point in the future to terminate or take remedial action against an 
e-DPM. Furthermore, the Exchange would not take remedial action solely 
because orders subject to any such commitments were not subsequently 
routed to the Exchange. Whether actual commitments result in orders 
being routed to the Exchange would be considered by the Exchange as a 
separate matter from the criteria for which an e-DPM's performance 
would be evaluated.
    As part of the approval of an e-DPM, the Exchange may place 
conditions on the approval based on the operations of the applicant and 
the number of option classes that may be allocated to the applicant. 
Moreover, each e-DPM shall retain its approval to operate as an e-DPM 
unless such approval is removed by the Exchange pursuant to appropriate 
rules. Finally, an e-DPM may not transfer its approval to act as an e-
DPM unless allowed by the Exchange.

III. Discussion

    After careful review, the Commission finds that the proposed rule 
change, as amended, is consistent with the requirements of the Act and 
the rules and regulations thereunder applicable to a national 
securities exchange \5\ and, in particular, the requirements of Section 
6 of the Act.\6\ Specifically, the Commission finds that the proposal 
to approve and appoint e-DPMs and to make initial e-DPM option class 
allocations is consistent with Section 6(b)(5) of the Act,\7\ in that 
the proposal has been designed to promote just and equitable principles 
of trade, and to protect investors and the public interest.
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    \5\ The Commission has considered the proposed rule change's 
impact on efficiency, competition and capital formation. 15 U.S.C. 
78c(f).
    \6\ 15 U.S.C. 78f.
    \7\ 15 U.S.C. 78f(b)(5).
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    The Commission notes that the CBOE's proposed criteria for making 
e-DPMs selections is similar to the appointment and allocation criteria 
that is used by other exchanges that have competing specialists \8\ and 
similar to CBOE Rule 8.83, which governs selection criteria for DPMs. 
The Commission believes that the proposed criteria should be used by 
the CBOE solely for the purpose of evaluating applicants for e-DPM 
appointments and for making any option class allocations to them. The 
Commission emphasizes that the CBOE should not use the proposed 
criteria--especially the ``willingness and ability to make competitive 
markets on CBOE and otherwise to promote CBOE'' criterion--to in any 
way directly or indirectly attempt to restrict a market participant 
that is appointed as an e-DPM from performing market-making or 
specialist activities on other markets. In addition, with regard to the 
``order flow commitment'' criterion, the Commission believes that the 
CBOE should consider only any existing order flow commitments that the 
applicant has with order flow providers, and that the CBOE should not 
use those existing order flow commitments as an indicator of potential 
future order flow that an applicant may be able to bring to the CBOE.
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    \8\ See, e.g., Boston Stock Exchange Rule 18 and Philadelphia 
Stock Exchange Rule 511.
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    The Commission notes that all approvals and appointments of e-DPMs 
and allocations of options classes to such e-DPMs under this proposal 
are contingent on Commission approval of e-DPMs and CBOE rules 
governing e-DPM trading procedures and obligations. Moreover, in 
approving the e-DPM appointment criteria, the Commission is not 
prejudging the CBOE's prospective proposals relating to e-DPMs and 
other CBOE Hybrid 2.0 initiatives. If the Commission were not to 
approve e-DPMs, any e-DPM appointments made pursuant to this proposal 
would be meaningless. Approving the e-DPM appointment criteria does, 
however, afford the CBOE an opportunity to prepare for the possibility 
that the Commission will approve e-DPMs and CBOE rules governing e-DPM 
trading procedures and obligations, and reduces the time between any 
such approval and the commencement of trading by e-DPMs pursuant to the 
Exchange's proposed CBOE Hybrid 2.0 initiatives.

IV. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\9\ that the proposed rule change (File No. SR-CBOE-2004-17) and 
Amendment No. 1 are hereby approved.
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    \9\ 15 U.S.C. 78s(b)(2).


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    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\10\
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    \10\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 04-9351 Filed 4-23-04; 8:45 am]
BILLING CODE 8010-01-P