[Federal Register Volume 70, Number 38 (Monday, February 28, 2005)]
[Notices]
[Pages 9687-9688]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E5-786]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-51235; File No. SR-CBOE-2004-73]


Self-Regulatory Organizations; Order Granting Approval of 
Proposed Rule Change by the Chicago Board Options Exchange, Inc. To 
Restrict a Designated Primary Market-Maker's Ability To Charge a 
Brokerage Commission

February 22, 2005.

I. Introduction

    On November 12, 2004, the Chicago Board Options Exchange, Inc. 
(``CBOE'' or ``Exchange''), filed with the Securities and Exchange 
Commission (``SEC'' or ``Commission'') a proposed rule change pursuant 
to Section 19(b)(1) of the Securities Exchange Act of 1934 (``Act'') 
\1\ and Rule 19b-4 thereunder,\2\ to amend its rules relating to a 
designated primary market maker's (``DPMs'') ability to charge a 
brokerage commission. The proposed rule change was published for 
comment in the Federal Register on December 15, 2004.\3\ The Commission 
received two comments on the proposal.\4\ This order approves the 
proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Securities Exchange Act Release No. 50821 (December 8, 
2004), 69 FR 75092 (``Notice'').
    \4\ See letter from Todd Silverberg, General Counsel, 
Susquehanna Investment Group (``Susquehanna''), to Jonathan G. Katz, 
Secretary, Commission, dated January 5, 2005 (``Susquehanna 
Letter''); and letter from Matthew Hinerfeld, Managing Director and 
Deputy General Counsel, Citadel Investment Group, L.L.C., on behalf 
of Citadel Derivatives Group LLC (``Citadel''), to Jonathan G. Katz, 
Secretary, Commission, dated January 8, 2005 (``Citadel Letter'').
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II. Description

    The CBOE proposes to clarify that DPMs cannot charge a brokerage 
commissions on orders for which they do not perform an agency function, 
by amending the CBOE's rules to specifically prohibit DPMs from 
charging a brokerage commission for an order, or the portion of an 
order, (1) for which the DPM was not the executing broker, which 
includes any portion of the order that is automatically executed 
through an Exchange system; (2) that is automatically cancelled; or (3) 
that is not executed, and not cancelled.
    The CBOE also proposes to make a technical clarification to current 
CBOE Rule 8.85(b)(iv), which currently prohibits a DPM from charging a 
brokerage commission for an order in which the DPM acts as both 
principal and agent. The proposed change would clarify that a DPM can 
charge a brokerage commission for the part of any order for which it 
acts as the executing broker but not as the executing principal.

III. Summary of Comments

    The Commission received two comment letters from DPMs on the 
Exchange regarding the proposal. One commenter, Susquehanna,\5\ stated 
that it does not object to the proposed rule change and that it 
``conceptually agree[s]'' that DPMs cannot charge a brokerage 
commission on orders for which they do not perform an agency function. 
However, Susquehanna argued that Section 6(e) of the Act \6\ prohibits 
the CBOE from requiring a DPM to charge zero commissions on orders for 
which the DPM has agency or order handling responsibilities. 
Accordingly, in Susquehanna's view, the CBOE should be required to 
expressly provide that DPMs never have any agency or order handling 
responsibilities towards the orders for which they are prohibited from 
charging a commission.
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    \5\ See Susquehanna Letter, supra note 4.
    \6\ 15 U.S.C. 78f(e). Susquehanna noted that Section 6(e) of the 
Act requires the Commission to follow special procedures when 
reviewing proposals from exchanges to fix commissions. See 
Susquehanna Letter, supra note 4.
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    The second commenter, Citadel,\7\ supported the proposed rule 
change, stating that ``DPMs should not be free unilaterally to impose 
charges for their regulatorily-mandated functions'' and that ``the 
ability to impose non-uniform charges not reflected in market maker 
quotes would be destructive to best execution and the Intermarket 
Linkage system because quotes that appear to be the NBBO [National Best 
Bid or Offer] may not really be the best if one must pay an extra 
charge to access them.'' Citadel also suggested that the CBOE further 
clarify in the rule text that DPMs may not charge a brokerage 
commission for ``any portion of an order for which the DPM acted in its 
capacity as a DPM.''
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    \7\ See Citadel Letter, supra note 4.
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    In response to Citadel's comments, the CBOE noted that a DPM is a 
``member organization that is approved by the Exchange to function in 
allocated securities as a Market-Maker * * * as a Floor Broker (as 
defined in Rule 6.70), and as an Order Book Official. * * * '' \8\ In 
addition, since DPMs also may be Floor Brokers, the CBOE noted that 
most DPMs maintain brokerage staff who perform agency functions with 
respect to certain orders and thus such DPMs should be allowed to 
charge brokerage commissions on those orders, which they represent in 
an agency capacity. Further, the CBOE noted that the proposal clarifies 
that a DPM may not charge a commission for orders when it does not act 
as agent.
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    \8\ See letter from James M. Flynn, Attorney II, CBOE, to 
Jonathan G. Katz, Secretary, Commission, dated February 3, 2005 
(citing CBOE Rule 8.80).
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IV. Discussion

    The Commission has carefully reviewed the proposed rule change, the 
comment letters received, and the CBOE's response, and finds that the 
proposed rule change is consistent with the requirements of Section 6 
of the Act \9\ and the rules and regulations thereunder applicable to a 
national securities exchange.\10\ In particular, the Commission finds 
that the proposed rule change is consistent with Sections 6(b)(5) and 
6(e)(1) of the Act,\11\ because 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; and is not 
designed to permit unfair discrimination between customers, issuers, 
brokers and dealers, or to impose any schedule or fix rates of 
commissions, allowances, discounts, or other fees to be charged by its 
members. The Commission also believes that the proposed rule change is 
consistent with Section 11(A)(a)(1)(C) of the Act \12\ which states 
that it is in the public interest and appropriate for the protection of 
investors and the maintenance of fair and orderly markets

[[Page 9688]]

to assure, among other things, economically efficient execution of 
securities transactions, and fair competition among brokers and 
dealers, among exchange markets, and between exchange markets and 
markets other than exchange markets.
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    \9\ 15 U.S.C. 78f.
    \10\ 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). The Commission notes that it previously 
approved a similar proposed rule change, filed by the New York Stock 
Exchange, Inc. (``NYSE'') to prohibit a specialist on the NYSE from 
charging ``floor brokerage'' (i.e., a commission imposed on exchange 
floor brokers) for the execution of an order received by the 
specialist via the NYSE's automated order routing system, known as 
SuperDot. See Securities Exchange Act Release No. 42727 (April 27, 
2000), 65 FR 26258 (May 5, 2000) (Approval of amendments to NYSE 
Rule 123B); 42694 (April 17, 2000), 65 FR 24245 (April 25, 2000) 
(Approval of extension of pilot program relating to NYSE Rule 123B); 
and 42184 (November 30, 1999), 64 FR 68710 (December 8, 1999) 
(Approval of pilot program relating to amendments to NYSE Rule 
123B).
    \11\ 15 U.S.C. 78f(b)(5) and 78f(e)(1).
    \12\ 15 U.S.C. 78k-1(a)(1)(C).
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    The Commission believes that CBOE's proposal is reasonable because 
it prohibits a DPM from charging a customer a commission for an order 
executed without assistance or handling by the DPM or that is not 
executed at all. The Commission notes that Susquehanna suggested that 
Section 6(e)(1) of the Act \13\ prohibits the Commission from approving 
a rule that limits the fees charged by DPMs with respect to orders for 
which DPMs have agency or order handling responsibilities. The 
Commission disagrees with this commenter and notes that the Commission 
has not viewed an SRO's limits on fees that its members may charge, 
even when the member is acting as agent, as inconsistent with Section 
6(e) of the Act.\14\
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    \13\ 15 U.S.C. 78f(e)(1).
    \14\ See Securities Exchange Act Release No. 49220 (February 11, 
2004), 69 FR 7836 (February 19, 2004) (Order approving File No. SR-
NASD-2003-128).
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    Section 6(e) of the Act \15\ was adopted by Congress in 1975 to 
statutorily prohibit the fixed minimum commission rate system. As noted 
in a report of the House of Representatives, one of the purposes of the 
legislation was to ``reverse the industry practice of charging fixed 
rates of commissions for transactions on the securities exchanges.'' 
\16\ The fixed minimum commission rate system allowed exchanges to set 
minimum commission rates that their members had to charge their 
customers, but allowed members to charge more. CBOE's proposal, by 
contrast, does not establish a minimum commission rate, but instead 
prohibits commissions in circumstances in which the DPM is not handling 
the order or in which the order is not executed. Accordingly, the 
Commission does not believe that the CBOE's proposal to limit the fees 
charged by DPMs constitutes fixing commissions, allowances, discounts, 
or other fees for purposes of Section 6(e)(1) of the Act.\17\
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    \15\ 15 U.S.C. 78f(e).
    \16\ H.R. Rep. No. 94-123, 94th Cong., 1st Sess. 42 (1975).
    \17\ 15 U.S.C. 78f(e)(1).
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    In addition, CBOE's limits on fees that DPMs may charge applies 
only to members who choose to be DPMs on CBOE. Therefore, CBOE is not 
fixing fees generally; it is merely imposing a condition, which is 
consistent with the Act, on a member's appointment as a DPM. Finally, 
the Commission does not agree with Susquehanna that the CBOE must 
expressly provide that DPMs never have any agency obligations towards 
orders for which they are prohibited from charging a commission.

V. Conclusion

    For the foregoing reasons, the Commission finds that the proposed 
rule change is consistent with the Act and the rules and regulations 
thereunder applicable to a national securities exchange, and, in 
particular, with Sections 6(b)(5) and 6(e)(1) of the Act.\18\
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    \18\ 15 U.S.C. 78f(b)(5) and 78f(e)(1).
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    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\19\ that the proposed rule change (SR-CBOE-2004-73) is approved.
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    \19\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\20\
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    \20\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. E5-786 Filed 2-25-05; 8:45 am]
BILLING CODE 8010-01-P