[Federal Register Volume 69, Number 239 (Tuesday, December 14, 2004)]
[Notices]
[Pages 74551-74553]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E4-3611]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-50813; File No. SR-ISE-2004-31]


Self-Regulatory Organizations; International Securities Exchange, 
Inc.; Notice of Filing of Proposed Rule Change and Amendment No. 1 
Thereto Relating to System-Assisted Quotation Services

December 7, 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 September 30, 2004, the International Securities Exchange, Inc. 
(``ISE'' or ``Exchange'') filed 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 November 16, 2004, the ISE filed Amendment No. 1 to the 
proposed rule change.\3\ The Commission is publishing this notice to 
solicit comments on the proposed rule change, as amended, from 
interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Amendment No. 1 replaced and superseded the original filing 
in its entirety.

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[[Page 74552]]

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

    The ISE proposes to codify in its rules descriptions of certain 
functionality it provides to market makers to assist them in meeting 
their quotation obligations. The text of the proposed rule change, as 
amended, is below. Proposed new language is in italics.
* * * * *
Rule 804. Market Maker Quotations
    (a)-(f) No change.
    (g) Automated Quotation Adjustments. A market maker may establish 
parameters by which the Exchange will automatically restate:
    (1) the prices of a market maker's quotations in all series of an 
options class, at prices specified by the market maker, if the market 
maker trades, in the aggregate, a specified number of contracts 
(established by the market maker), within an Exchange-established time 
frame, in that class;
    (2) the price of a market maker's quotations in an options series 
if the number of contracts that the market maker is willing to buy or 
sell at a specified price is exhausted; and
    (3) the size of a market maker's quotation in an options series to 
10 contracts if, as a result of an execution in that series, the market 
maker's quotation is decremented below that size and the Exchange's 
best bid (offer) would be less than 10 contracts.
* * * * *

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 had 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 this rule change is to codify in the ISE's rules 
certain services the ISE offers market makers to help them manage their 
quotations. By way of background, ISE Rules 803 and 804 require market 
makers to maintain continuous and firm quotations. To comply with this 
requirement, each ISE market maker employs its own sophisticated 
proprietary quotation and risk management systems to determine the 
prices and sizes at which its quotes. The ISE system itself also 
contains several voluntary tools that market makers can use to assist 
them in meeting their quotation obligations. ISE market makers are not 
required to use the ISE-provided functionality and can program their 
own systems to perform the same functions if they prefer. The three 
tools the ISE offers are:
     ``Speed bump'' functionality. A market maker's risk in an 
options class is not limited to the risk in a single series of that 
class. Rather, a market maker faces exposure in all series of a class, 
requiring that the market maker off-set or otherwise hedge its overall 
position in a class. The speed bump functionality helps a market maker 
limit this overall exposure and risk. Specifically, the functionality 
permits a market maker to establish parameters in the central system to 
move its quotations in all series of an option to an inferior price 
when the market maker trades a specified number of contracts in that 
class as a whole within a fixed time period. That time period currently 
is a rolling 30 seconds.\4\ Market Makers can specify a number of 
contracts (``the exposure limit'') by class. For example, if a market 
maker establishes an exposure limit of 1,000 contracts in XYZ options, 
the system will move the market maker's quotations in all series of XYZ 
options to an inferior price following one or more transactions that 
result in the aggregate execution of 1,000 contracts in XYZ options, 
regardless of the series in which those trades occur. By limiting its 
exposure across series, a market maker is better able to quote 
aggressively in an option, knowing that the speed bump will 
automatically move all its quotations in a class when its exposure 
limit is hit.
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    \4\ If the ISE were to change this time period it would do so in 
a notice to market makers.
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     ``Tick-worse'' functionality. Among other things, ISE 
Rules 803 and 804 require: (1) Primary Market Makers to provide 
continuous quotations in all their assigned options; and (2) 
Competitive Market Makers generally to provide continuous quotations in 
60 percent of their assigned options. If the size of a market maker's 
quotation in a series is exhausted, ISE rules effectively require the 
market maker to immediately establish a new quotation, either at the 
same or different price. ISE provides market makers with ``tick-worse'' 
functionality that allows market makers to pre-define the prices and 
sizes at which the system will automatically move their quotation 
following an execution that exhausts the size of their existing 
quotation. Having this functionality in the central exchange system--
rather than having market makers themselves send refreshed quotations 
when they receive a report of an execution exhausting their 
quotations--helps market makers maintain continuous quotations when 
their displayed quotations are exhausted.
     ``Step-up'' functionality. Until recently, ISE Rule 804(b) 
required that all of the ISE's disseminated quotations be for at least 
10 contracts. To achieve compliance with that requirement, the rule 
prohibited market makers from initially entering a quotation of less 
than 10 contracts. Furthermore, if a market maker's quotation fell 
below 10 contracts due to executions at the quotation price, and the 
disseminated ISE quotation would be less than 10 contracts, ISE Rule 
804(b) also required market makers to reestablish their quotation for 
at least 10 contracts (at the same price or a different price). In 
order to help market makers meet these obligations, the ISE developed 
the ``step-up'' functionality permitting a market maker to refresh its 
quotation to 10 contracts when an execution decrements the quotation 
below that size (if the best disseminated quotation on the Exchange 
would be less than 10 contracts). The Commission recently approved 
amendments to ISE Rule 804 eliminating the requirement that the ISE 
disseminate quotations of at least 10 contracts.\5\ Under ISE Rule 
804(b), while market makers still must initially establish quotations 
of at least 10 contracts, they do not need to reestablish 10-contract 
quotes if their quotation is decremented due to executions at the 
quotation price. Although there is no current regulatory need for the 
step-up functionality, certain market makers continue to use it to 
maintain 10 contract quotations, and the ISE continues to offer it as a 
voluntary tool.
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    \5\ See Securities Exchange Act Release No. 49602 (April 22, 
2004), 69 FR 23841 (April 30, 2004) (SR-ISE-2003-26).
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2. Statutory Basis
    The Exchange believes the basis under the Act for this proposed 
rule change is the requirement under section 6(b)(5) \6\ that an 
exchange have rules that are designed to prevent fraudulent and 
manipulative acts and practices, to promote just and equitable 
principles of

[[Page 74553]]

trade, to foster cooperation and coordination with persons engaged in 
regulating, clearing, settling, processing information with respect to, 
and facilitating transaction in securities, to remove impediments to 
and perfect the mechanism for a free and open market and a national 
market system, and, in general, to protect investors and the public 
interest. In particular, the rule change will codify the ability of ISE 
members to use ISE-provided functionality to maintain competitive and 
liquid quotations.
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    \6\ 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

    The Exchange has not solicited, and does not intend to solicit, 
comments on this proposed rule change. The Exchange has not received 
any unsolicited written comments from members or other interested 
parties.

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 Exchange 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 proposed rule 
change 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-ISE-2004-31 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-ISE-2004-31. 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 office of the 
ISE. 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 
publicly available. All submissions should refer to File Number SR-ISE-
2004-31 and should be submitted on or before January 4, 2005.
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    \7\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\7\
Jill M. Peterson,
Assistant Secretary.
 [FR Doc. E4-3611 Filed 12-13-04; 8:45 am]
BILLING CODE 8010-01-P