[Federal Register Volume 69, Number 172 (Tuesday, September 7, 2004)]
[Notices]
[Pages 54167-54169]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E4-2079]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-50292; File No. SR-CBOE-2004-39]


Self-Regulatory Organizations; Notice of Filing and Immediate 
Effectiveness of Proposed Rule Change and Amendment No. 1 Thereto by 
the Chicago Board Options Exchange, Inc. Relating to Extending a 
Limited Pilot Program for Maximum Bid/Ask Differentials

August 31, 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 July 7, 2004, the Chicago Board Options Exchange, Inc. (``CBOE'' or 
``Exchange'') submitted with the Securities and Exchange Commission 
(``Commission'') the proposed rule change as described in Items I, II, 
and III below, which Items have been prepared by the Exchange. On 
August 19, 2004, the Exchange filed Amendment No. 1 to the proposed 
rule change.\3\ In Amendment No. 1, CBOE changed the filing from a 
proposed rule change filed under Section 19(b)(2)of the Act \4\ to one 
filed under Section 19(b)(3)(A) of the Act.\5\ Specifically, the 
Exchange designated its filing as non-controversial pursuant to Section 
19(b)(3)(A)(iii) of the Act \6\ and to Rule 19b-4(f)(6).\7\ 
Accordingly, the proposed rule change became effective upon filing 
Amendment No. 1 on August 19, 2004. The Commission is publishing this 
notice, as amended, 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 Angelo Evangelou, Senior Attorney, CBOE, to 
Kelly M. Riley, Assistant Director, Division of Market Regulation, 
Commission, dated August 19, 2004 (``Amendment No. 1''). In 
Amendment No. 1, the Exchange submitted a new Form 19b-4, which 
replaced and superseded the original filing in its entirety.
    \4\ 15 U.S.C. 78s(b)(2).
    \5\ 15 U.S.C. 78s(b)(3)(A).
    \6\ 15 U.S.C. 78s(b)(3)(A)(iii).
    \7\ 7 17 CFR 240.19b-4(f)(6).
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes to amend its rules to extend a limited pilot 
program relating to maximum bid/ask differentials.\8\ The text of the 
proposed rule change, as amended, is available at the offices of the 
Exchange and the Commission's Public Reference Room.
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    \8\ See Securities Exchange Act Release No. 48471 (September 10, 
2003), 68 FR 54251 (September 16, 2003) (SR-CBOE-2003-08).
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II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, 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. CBOE has prepared summaries, set forth in sections A, B, 
and C below, of the most significant aspects of such statements.

[[Page 54168]]

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

1. Purpose
    The Exchange is proposing to extend a limited pilot exemption to 
the Market-Maker bid/ask differential requirements contained in CBOE 
Rule 8.7(b)(iv). As part of accommodating compliance with the Linkage 
Plan,\9\ the Exchange introduced an ``autofade'' functionality which 
causes one side of CBOE's disseminated quote to move to an inferior 
price when the quote is required to fade pursuant to the terms of the 
Linkage Plan and/or when the size associated with the quote has been 
depleted by the Retail Automatic Execution System (``RAES'') (of both 
Linkage orders and non-Linkage orders).
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    \9\ The Plan for the Purpose of Creating and Operating an 
Intermarket Options Linkage (``Linkage Plan'') was originally 
approved on July 28, 2000. See Securities Exchange Act Release No. 
43086, 65 FR 48023 August 4, 2000).
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    Linkage orders are generally Immediate or Cancel limit orders 
priced at the national best bid or offer (``NBBO'') that must be acted 
upon within 15 seconds. The Linkage Plan provides several instances in 
which a Participant receiving a linkage order must fade its quote. For 
example, if a Participant receives a Principal Acting as Agent (``PA'') 
order for a size greater than the Firm Customer Quote Size and does not 
execute the entirety of the PA Order within 15 seconds, the Participant 
is required to fade its quote. CBOE's autofade functionality automates 
the fading process to ensure that members (and the Exchange) are in 
full compliance with this aspect of the Linkage Plan. Autofade moves 
CBOE's quote to a price that is 1-tick inferior to the NBBO.\10\ This 
ensures that the Exchange will not immediately receive additional 
linkage orders to allow the member to refresh the quote (either 
manually or through an autoquote update).
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    \10\ The only exception is when CBOE's NBBO quote (or next best 
quote) is represented by a customer order in the book. In such 
cases, the Exchange does not fade a booked order (it would have to 
be traded).
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    As mentioned above, autofade also applies anytime an automatic 
execution (of any order) via RAES has depleted the size of CBOE's 
quote. Once a quote is exhausted, autofade moves the quote to a price 
that is 1-tick inferior to the NBBO (as described above). Autofade is 
only necessary for classes that are not on the Exchange Hybrid System. 
Thus, this exemption is only needed until the full rollout of the 
Hybrid System is completed.
    For equity option classes that are not trading on the Hybrid 
System, the CBOE quote is generally derived from an autoquote system 
that is maintained by the Designated Primary Market-Maker (``DPM''). 
Certain DPMs utilize an Exchange-provided autoquote system while others 
employ proprietary autoquote systems. In either case, the autoquote 
system calculates bid and ask prices that are transmitted to the 
Exchange for dissemination to the Options Price Reporting Authority 
(``OPRA''). The DPM and the trading crowd separately input the size 
associated with the bid/ask prices. When an automatic execution occurs 
through the RAES system, the size associated with the quote is 
decremented until it is exhausted. However, because the autoquote 
system is only calculating prices and not quote sizes, the autoquote 
system is not aware that the size has been exhausted (or in the case of 
a remaining balance on a Linkage order, that the quote needs to fade in 
order to comply with the Linkage Plan). Therefore, the autofade 
functionality was built to override autoquote and move the quote price 
to 1-tick inferior to the NBBO. The ``override'' period only lasts for 
30 seconds. However, the override can be overridden during that 30-
second time period if the quote is manually updated by a trader or if 
the autoquote system transmits new bid/ask pricing to the Exchange.
    The exemption is for limited instances where the autofade 
functionality moves the quote in a manner that causes the quote width 
to widen beyond the bid/ask parameters provided pursuant to CBOE Rule 
8.7(b)(iv). CBOE seeks to extend on a pilot basis the temporary 
exception to the requirements of CBOE Rule 8.7(b)(iv) in cases where 
autofade causes a quote that exceeds the quote width parameters of that 
rule. The proposed exemption period lasts for a maximum of 30 seconds 
after any given autofade that caused a wider quote than allowed under 
CBOE Rule 8.7(b)(iv). Thus, to the extent a quote remained outside of 
the maximum width after the 30-second time period, the responsible 
broker or dealer disseminating the quote would be deemed in violation 
of CBOE Rule 8.7(b)(iv) for regulatory purposes. CBOE proposes that the 
pilot run until February 17, 2006 (for 18 months) when all multiply 
listed classes are trading on CBOE's Hybrid Trading System.
2. Statutory Basis
    The Exchange represents that the proposed rule change, as amended, 
will, among other things, allow the Exchange to more easily comply with 
the requirements of the Linkage Plan. Accordingly, the Exchange 
believes the proposed rule change, as amended, is consistent with 
Section 6(b) of the Act \11\ in general and furthers the objectives of 
Section 6(b)(5) \12\ in particular in that it promotes just and 
equitable principles of trade, serves to remove impediments to and 
perfect the mechanism of a free and open market and a national market 
system, and protect investors and the public interest.
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    \11\ 15 U.S.C. 78f(b).
    \12\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange believes that the proposed rule change does not impose 
any burden on competition that is not necessary or appropriate in 
furtherance of the 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

    The foregoing rule has become effective pursuant to Section 
19(b)(3)(A) of the Act \13\ and Rule 19b-4(f)(6) thereunder \14\ 
because the foregoing proposed rule does not: (i) Significantly affect 
the protection of investors or the public interest; (ii) impose any 
significant burden on competition; and (iii) become operative for 30 
days from the date on which it was filed, or such shorter time as the 
Commission may designate if consistent with the protection of investors 
and the public interest, provided that the self-regulatory organization 
has given the Commission written notice of its intent to file the 
proposed rule change at least five business days prior to the filing 
date of the proposed rule change. At any time within 60 days of the 
filing of the proposed rule change, the Commission may summarily 
abrogate such 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 purposes of 
the Act.\15\
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    \13\ 15 U.S.C. 78s(b)(3)(A).
    \14\ 17 CFR 240.19b-4(f)(6).
    \15\ For purposes of calculating the 60-day period within which 
the Commission may summarily abrogate the proposed rule change under 
Section 19(b)(3)(C) of the Act, the Commission considers that period 
to commence on August 19, 2004, the date CBOE filed Amendment No. 1 
to the proposed rule change. See 15 U.S.C. 78s(b)(3)(C).

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[[Page 54169]]

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change, as amended, is consistent with the Act. Comments may be 
submitted by any of the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
     Send an e-mail to [email protected]. Please include 
File Number SR-CBOE-2004-39 on the subject line.

Paper Comments

     Send paper comments in triplicate to Jonathan G. Katz, 
Secretary, Securities and Exchange Commission, 450 Fifth Street, NW., 
Washington, DC 20549-0609.
    All submissions should refer to File Number SR-CBOE-2004-39. 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, please use only one method. The Commission will post all 
comments on the Commission's Internet Web site (http://www.sec.gov/rules/sro.shtml). 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 Section, 450 Fifth 
Street, NW., Washington, DC 20549. Copies of such filing also will be 
available for inspection and copying at the principal offices of CBOE. 
All comments received will be posted without change; the Commission 
does not edit personal identifying information from submissions. You 
should submit only information that you wish to make available 
publicly. All submissions should refer to File Number SR-CBOE-2004-39 
and should be submitted on or before September 28, 2004.
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    \16\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\16\
Margaret H. McFarland,
Deputy Secretary.
 [FR Doc. E4-2079 Filed 9-3-04; 8:45 am]
BILLING CODE 8010-01-P