[Federal Register Volume 70, Number 21 (Wednesday, February 2, 2005)]
[Notices]
[Pages 5497-5499]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E5-397]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-51083; File No. SR-NASD-2004-164]


Self-Regulatory Organizations; Notice of Filing and Order 
Granting Accelerated Approval of Proposed Rule Change and Amendment No. 
1 Thereto by National Association of Securities Dealers, Inc. Relating 
to the Random Selection of Arbitrators by the Neutral List Selection 
System

January 26, 2005.
    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 October 28, 2004, the National Association of Securities Dealers, 
Inc. (``NASD''), through its subsidiary, NASD Dispute Resolution, Inc. 
(``NASD Dispute Resolution''), filed with the Securities and Exchange 
Commission (``SEC'' or ``Commission''), the proposed rule change as 
described in Items I and II, below, which Items have been prepared by 
NASD. On January 5, 2005, NASD filed Amendment No. 1 to the proposed 
rule change.\3\ The Commission is publishing this notice to solicit 
comments on the proposed rule change from interested persons and is 
approving the proposal on an accelerated basis.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Letter from Mignon McLemore, NASD, to Catherine McGuire, 
SEC (January 5, 2005).
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I. Self-Regulatory Organization's Statement of the Terms of the 
Substance of the Proposed Rule Change

    NASD Dispute Resolution proposes to amend Rule 10308 of the NASD 
Code of Arbitration Procedure (``Code'') to change the method used by 
the Neutral List Selection System (``NLSS'') \4\ to select arbitrators 
from a rotational to a random selection function by incorporating the 
random selection provision of the proposed Customer and Industry Code 
revisions.\5\ Below is the text of the proposed rule change. Proposed 
new language is in italics; proposed deletions are in [brackets].
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    \4\ NLSS is the computer program NASD uses to select arbitrators 
on a rotational basis. It has been in use since November 1998.
    \5\ NASD Dispute Resolution has filed with the SEC a proposed 
rule change to the Code to reorganize the current rules, simplify 
the language, codify current practices, and implement several 
substantive changes. The rule filing was submitted in three parts: 
Customer Code, Industry Code, and Mediation Code. The Customer Code 
was filed on October 15, 2003, and amended on January 3, 2005 and 
January 19, 2005 (SR-NASD-2003-158); the Industry Code was filed on 
January 16, 2004, and amended on February 26, 2004 and January 3, 
2005 (SR-NASD-2004-011). The Mediation Code was filed on January 23, 
2004, and amended on January 3, 2005 (SR-NASD-2004-013). It does not 
contain any provisions concerning the NLSS. The three new codes will 
replace the current Code in its entirety. The Code revision is 
undergoing SEC staff review and has not yet been published for 
comment.
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* * * * *
10308. Selection of Arbitrators
    This Rule specifies how parties may select or reject arbitrators, 
and who can be a public arbitrator.
    (a) Unchanged.
    (b) Composition of Arbitration Panel; Preparation of Lists for 
Mailing to Parties
    (1)-(3) Unchanged.
    (4) Preparation of Lists.
    (A) Except as provided in subparagraph (B) below, the Neutral List 
Selection System shall generate the lists of public and non-public 
arbitrators on a [rotating] random basis within a designated geographic 
hearing site and shall exclude arbitrators based upon conflicts of 
interest identified within the Neutral List Selection System database.
    (B) Unchanged.
    (5)-(6) Unchanged.
    (c)-(f) Unchanged.
* * * * *

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

    In its filing with the Commission, NASD included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any

[[Page 5498]]

comments it received on the proposed rule change. The text of these 
statements may be examined at the places specified in Item III below. 
NASD 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
    NASD Dispute Resolution is upgrading its computer technology, in 
what is known as the Mediation and Arbitration Tracking and Retrieval 
Interactive Case System (``MATRICS''), which will replace its two case 
management systems: CRAFTIS \6\ and NLSS. NASD will implement MATRICS 
in a series of releases, in which various functions from CRAFTIS and 
NLSS will be adapted and programmed to operate within MATRICS.\7\ NASD 
has determined that the NLSS components of MATRICS are ready to be 
developed. Most functions of NLSS will be transferred to MATRICS.
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    \6\ CRAFTIS is the legacy software application that NASD Dispute 
Resolution uses to support its case administration function. It uses 
an old technology platform and is not Web-based.
    \7\ A new component for MATRICS, the Web-based arbitration claim 
filing system, has already been developed and became effective on 
August 5, 2004. Parties may access the online system at http://apps.nasd.com/mediation_&_arbitration/online_filing.asp. The SEC 
approved the final version of the system on June 16, 2004. See 
Securities Exchange Act Rel. No. 49876 (June 16, 2004), 69 FR 35090 
(June 23, 2004).
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    As part of this computer technology upgrade, NASD has determined 
that MATRICS should select arbitrators on a random basis, instead of a 
rotational basis, like NLSS currently does. NASD is proposing to switch 
from rotational to random for several reasons. First, other self-
regulatory organizations, governmental entities, and private 
alternative dispute organizations select panels for their arbitration 
cases by generating a random list of arbitrators. For example, the New 
York Stock Exchange (NYSE) \8\ and the Society of Maritime Arbitrators 
\9\ offer to the parties a random list selection procedure to select 
panels to decide claims in their respective arbitration forums. The 
California Department of Industrial Relations,\10\ the Federal 
Mediation and Conciliation Service,\11\ and the Federal Emergency 
Management Agency \12\ also use random list selection. Some state 
courts that provide alternative dispute resolution services also use 
random list selection to choose arbitrators for their hearings.\13\
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    \8\ The SEC approved for immediate effectiveness a NYSE request 
to extend its pilot program, the Voluntary Supplemental Procedures 
for Selecting Arbitrators (``Voluntary Procedures''), which allows 
parties to, among other things, select arbitrators using the Random 
List Selection method. See Securities Exchange Act Rel. No. 49915 
(June 25, 2004), 69 FR 39993 (July 1, 2004).
    \9\ Society of Maritime Arbitrators, Inc., Recreational and 
Small Commercial Vessel Salvage Arbitration (visited Sept. 29, 2004) 
<http://www.smany.org/sma/salvrule.html>.
    \10\ California Department of Industrial Relations, State 
Mediation and Conciliation Services, How to Request an Arbitration 
List (visited Sept. 1, 2004) <http://www.dir.ca.gov/csmcs/HowToRequestPanel.html>.
    \11\ Federal Mediation and Conciliation Service, Arbitration 
FAQs (visited Sept. 1, 2004) <http://www.fmcs.gov/internet/faq.asp?categoryID=133#Q16532>.
    \12\ Federal Emergency Management Agency, Arbitration Guidelines 
For The Cerro Grande Fires (visited Sept. 1, 2004) <http://www.fema.gov/cerrogrande/arbitration/guide.shtm>.
    \13\ See, e.g., U.S. Bankruptcy Court for the Middle District of 
Tenn. (ADR Program); Nev. Sup. Ct. Arb. R. 6; and Minn. R. 5530.0900 
(2004).
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    Second, in order for a rotational system to operate effectively and 
efficiently, a large amount of computer code is required to manage and 
maintain the arbitrator rotation. According to NASD, a rotational 
selection system works best if the data that the system uses to 
generate the lists remain static. However, the data input into NLSS 
changes frequently. For example, in the last two years, NASD Dispute 
Resolution has added eight hearing locations, and, in that time, has 
added approximately 1,000 new arbitrators to the database. Once these 
changes to the data are input into NLSS, the rotational system attempts 
to incorporate them when it generates new lists. Any attempt to modify 
the computer code to accommodate these changes is time-consuming and 
costly. Also, maintaining a selection system that is purely rotational 
is cumbersome because additional code is needed to track the histories 
of each selection to ensure that all arbitrators have an equal 
opportunity to appear in the rotation, which directly affects list 
selection.
    Last, NASD understands that, under a random selection system, it is 
possible for a particular arbitrator to be selected for consecutive 
lists more frequently than another arbitrator. However, a statistical 
comparison of one arbitrator's selection to another, using a large 
sample of eligible arbitrators and lists generated, should show that 
one arbitrator is not being selected for lists more frequently than any 
other.\14\ While NASD acknowledges this anomaly in a random selection 
system, NASD believes that the benefits of such a system, such as ease 
of design, cost-efficient maintenance, and overall fairness of random 
selection (as well as the increased perception of fairness) will 
strengthen the operation of the forum.\15\
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    \14\ In fact, the same comparative analysis conducted under a 
rotational method should yield a statistically similar result.
    \15\ NASD will hire an outside consultant to audit the random 
selection system after it has been operational for one year and 
independently verify that the random selection system is operating 
as described in this proposed rule change. NASD will also keep 
statistics on the arbitrators selected by the random selection 
system who appear on an arbitrator list in order to monitor the 
effectiveness of the random selection system. See supra note 3.
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    NASD Dispute Resolution believes that the proposed rule change 
ultimately will protect investors and benefit the public by providing 
parties and arbitrators with an automated system, MATRICS, which will 
help the forum operate more efficiently while maintaining the core goal 
of providing arbitrators who have an equal probability of being listed 
for service on any given list of proposed arbitrators. In an effort to 
sustain the progress made on the MATRICS upgrades, NASD proposes to 
amend Rule 10308(b)(4) with a delayed implementation date, so that the 
developers can program this component for MATRICS using the random 
selection method of generating arbitrator lists in order to be ready 
when this phase of MATRICS becomes operational. NASD is, therefore, 
requesting accelerated review and approval for this proposed rule 
change to allow the programmers to begin creating the code, so that 
they will remain on development schedule while the Commission is 
reviewing the Code revisions.\16\ According to the technology 
development plan, NASD is scheduled to complete the arbitrator 
selection function of MATRICS in the third quarter of 2005. For the 
developers to meet this goal, NASD must amend the rule now to introduce 
the concept of random selection in order to provide the developers with 
the lead-time necessary to create the software and implement it on the 
MATRICS platform.\17\ While the software is being created, NLSS will 
continue to generate lists of arbitrators on a rotating basis. Subject 
to Commission approval of this rule, NASD will upgrade MATRICS with the 
random selection function, phase out NLSS, and replace it with MATRICS.
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    \16\ The proposed Customer Code and Industry Code revisions, 
which have already been filed with the SEC, contain a random 
selection provision. See supra note 4.
    \17\ The alternative would result in duplicative effort and 
wasted resources, because programmers would have to develop and 
program MATRICS to select arbitrators under the current rules, and 
then discard that programming and create new software once the Code 
revision has been approved.

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[[Page 5499]]

2. Statutory Basis
    NASD believes that the proposed rule change is consistent with the 
provisions of Section 15A of the Act,\18\ in general, and with Section 
15A(b)(6) \19\ of the Act, in particular, in that the proposal is 
designed to prevent fraudulent and manipulative acts and practices, to 
promote just and equitable principles of trade, and, in general, to 
protect investors and the public interest. NASD Dispute Resolution 
believes that the proposed rule change ultimately will protect 
investors and benefit the public by providing parties with an automated 
system that will help the forum operate more efficiently.
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    \18\ 15 U.S.C. 78o-3.
    \19\ 15 U.S.C. 78o-3(b)(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    NASD does not believe that the proposed rule change will result in 
any burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act, as amended.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants, or Others

    Written comments were neither solicited nor received.

III. 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-NASD-2004-164 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-NASD-2004-164. 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 
NASD. 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-
NASD-2004-164 and should be submitted on or before February 22, 2005.

IV. Commission's Findings and Order Granting Accelerated Approval of 
Proposed Rule Change

    The Commission has reviewed carefully the proposed rule change as 
amended and finds that it is consistent with the requirements of the 
Act and the rules and regulations thereunder applicable to a national 
securities association and, in particular, the requirements of Section 
15A(b)(6) \20\ of the Act.\21\ Section 15A(b)(6) requires, among other 
things, that the rules of a national securities association are 
designed to prevent fraudulent and manipulative acts and practices, to 
promote just and equitable principles of trade, and, in general, to 
protect investors and the public interest. The Commission believes that 
the proposed rule change ultimately will protect investors and benefit 
the public by providing parties with an automated case management 
system that will help the NASD Dispute Resolution arbitration forum 
operate more efficiently.\22\
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    \20\ 15 U.S.C. 78o-3(b)(6).
    \21\ The Commission has considered the proposed rule's impact on 
efficiency, competition and capital formation. 15 U.S.C. 78c(f).
    \22\ See supra note 15.
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    The Commission finds good cause for approving the proposed rule 
change as amended prior to the thirtieth day after the publication of 
notice of filing thereof in the Federal Register. Accelerated approval 
will provide NASD Dispute Resolution with the certainty it needs to 
upgrade its computer technology to select arbitrators on a random, 
rather than a rotational, basis and to ultimately replace NLSS with 
MATRICS.

V. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) of the Act, 
that the proposed rule change (SR-NASD-2004-164) as amended be, and 
hereby is, approved on an accelerated basis. 

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\23\
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    \23\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
 [FR Doc. E5-397 Filed 2-1-05; 8:45 am]
BILLING CODE 8010-01-P