[Federal Register Volume 69, Number 162 (Monday, August 23, 2004)]
[Notices]
[Page 51869]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 04-19246]



[[Page 51869]]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-50205; File No. SR-CBOE-2003-39]


Self-Regulatory Organizations; Order Granting Approval of 
Proposed Rule Change and Amendments No. 1, 2, and 3 Thereto by the 
Chicago Board Options Exchange, Inc. Relating to Quote Sizes

August 17, 2004.
    On September 12, 2003, the Chicago Board Options Exchange, Inc. 
(``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 establish a one-year pilot 
program that would allow market makers on CBOE's Hybrid Trading System 
(``Hybrid'') to disseminate a quotation with a size of less than ten 
contracts under certain limited circumstances. On October 29, 2003, the 
CBOE filed Amendment No. 1 to the proposed rule change.\3\ On June 10, 
2004, the CBOE filed Amendment No. 2 to the proposed rule change.\4\ On 
June 28, 2004, the CBOE filed Amendment No. 3 to the proposed rule 
change.\5\ The proposed rule change, as amended, was published for 
comment in the Federal Register on July 15, 2004.\6\ The Commission 
received no comments on the proposal. This order approves the proposed 
rule change, as amended, on a pilot basis through August 17, 2005.
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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 
Deborah Flynn, Assistant Director, Division of Market Regulation 
(``Division''), Commission, dated October 28, 2003 (``Amendment No. 
1'').
    \4\ See letter from Steve Youhn, Senior Attorney, CBOE, to Nancy 
Sanow, Assistant Director, Division, Commission, dated June 9, 2003 
(``Amendment No. 2''). In Amendment No. 2, CBOE replaced the 
original rule filing in its entirety.
    \5\ See letter from Steve Youhn, Senior Attorney, CBOE, to Nancy 
Sanow, Assistant Director, Division, Commission, dated June 25, 2003 
(``Amendment No. 3''). In Amendment No. 3, CBOE made technical 
corrections to the proposed rule text.
    \6\ See Securities Exchange Act Release No. 49990 (July 8, 
2004), 69 FR 42473 (``Notice'').
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    CBOE Rules 8.7(d)(i)(B) and (d)(ii)(B), which only apply to classes 
trading on Hybrid, impose a ten contract (``10-up'') minimum quotation 
size requirement for CBOE market makers when such market makers quote 
electronically. Similarly, Interpretation .05 to CBOE Rule 8.7 imposes 
a 10-up minimum quotation size requirement for a CBOE market maker's 
initial bid or offer in classes in which Hybrid is operational.
    The Exchange proposes, on a one-year pilot basis, an exception to 
CBOE Rules 8.7(d)(i)(B) and (d)(ii)(B) to allow market makers on Hybrid 
to disseminate a quotation with a size of less than ten contracts 
whenever the underlying primary market for the option (or ETF option) 
disseminates a 1-up market (i.e., a market that reflects a quotation 
for 100 shares of the underlying security).
    In order to participate in the pilot program, a CBOE market maker 
(or the vendor that provides handheld quoting devices for the market 
maker) would be required to demonstrate to the Exchange that it has 
automated the process for adjusting the market maker's quotations to 
reflect sizes of less than ten contracts in the event the underlying 
primary market disseminates a 1-up market and to reflect sizes of at 
least ten contracts when the underlying primary market no longer 
disseminates a 1-up market. CBOE market makers that have not automated 
this process would not be permitted to avail themselves of the 
exception provided by the proposed rule change, as amended. In 
addition, the Exchange represents that it would provide to the 
Commission a report detailing the effectiveness of the program, along 
with a request either to eliminate or make permanent the pilot 
program.\7\
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    \7\ Id.
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    The Exchange also proposes to delete the language that imposes a 
10-up minimum quotation size requirement for a CBOE market maker's 
initial bid or offer in Interpretation .05 to CBOE Rule 8.7, because 
that language is duplicative of what is already contained in CBOE Rule 
8.7(d).
    The Commission finds that the proposed rule change, as amended, is 
consistent with the requirements of Section 6(b) of the Act \8\ and the 
rules and regulations thereunder applicable to a national securities 
exchange.\9\ In particular, the Commission finds that the proposed rule 
change, as amended, is consistent with Section 6(b)(5) of the Act,\10\ 
in that it is designed to promote just and equitable principles of 
trade, to remove impediments to and perfect the mechanism of a free and 
open market and a national market system, and, in general, to protect 
investors and the public interest. The Commission believes that CBOE 
Rules 8.7(d)(i)(B) and (d)(ii)(B), which currently provide for a ten-
contract minimum quotation size requirement, impose a reasonable 
obligation on CBOE market makers, who, in turn for satisfying this and 
other obligations, are entitled to receive good faith margin treatment. 
The Commission also believes that it may be reasonable for the Exchange 
to reduce to one contract, on a one-year pilot basis, the minimum 
quotation size requirement for market makers, in event that the 
underlying primary market disseminates a 1-up market, because (1) 
specialists in the underlying stock are allowed to disseminate 1-up 
markets and (2) the amount of liquidity available for CBOE market 
makers to hedge their options positions by purchasing or selling shares 
in the underlying market may be reduced when the underlying market 
disseminates a 1-up quote.
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    \8\ 15 U.S.C. 78f(b).
    \9\ In approving this proposal, the Commission has considered 
the proposed rule's impact on efficiency, competition, and capital 
formation. 15 U.S.C. 78c(f).
    \10\ 15 U.S.C. 78f(b)(5).
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    The Commission notes that the process for adjusting the size of a 
market maker's quotations in the event the underlying primary market 
disseminates a 1-up market must be automated and that this automated 
process should reduce any delays in re-adjusting the quotations to 
reflect a 10-up market when the underlying primary market no longer 
disseminates a 1-up market. In addition, the Commission believes that 
the approval of the proposal on a one-year pilot basis should provide 
the CBOE and the Commission with an opportunity to review the operation 
of the proposal and to address any potential concerns that may arise. 
Further, the Commission notes that the CBOE agreed to provide the 
Commission with a report detailing the effectiveness of the pilot 
program. In order to efficiently evaluate the effectiveness of the 
pilot program, the Commission expects the CBOE to provide its report by 
June 17, 2005.
    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\11\ that the proposed rule change (SR-CBOE-2003-39) and Amendments 
No. 1, 2, and 3 are approved, as a pilot program until August 17, 2005.
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    \11\ 15 U.S.C. 78s(b)(2).

    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. 04-19246 Filed 8-20-04; 8:45 am]
BILLING CODE 8010-01-P