[Federal Register Volume 70, Number 59 (Tuesday, March 29, 2005)]
[Notices]
[Pages 15955-15959]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E5-1383]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-51418; File No. SR-BSE-2005-01]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change, and Amendment No. 1 Thereto, by the Boston Stock Exchange, Inc. 
Relating to the Price Improvement Period Under the Rules of the Boston 
Options Exchange Facility

March 23, 2005.
    Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934

[[Page 15956]]

(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on January 4, 2005, the Boston Stock Exchange, Inc. (``BSE'' 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 BSE. On March 22, 
2005, the BSE 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    \3\ Amendment No. 1 superseded and replaced the original filing 
in its entirety.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The BSE proposes to modify the rules of the Boston Options Exchange 
Facility (``BOX'') that relate to the Price Improvement Period (the 
``PIP'') to eliminate certain restrictions on the ability of Order Flow 
Providers, Market Makers, and Public Customers (as defined in sections 
1(46), 1(32), and 1(50), respectively, of Chapter I of the BOX Rules) 
to participate in the PIP.
    Below is the amended text of the proposed rule change. Proposed new 
language is in italics; proposed deletions are in [brackets].
* * * * *

Rules of the Boston Stock Exchange

Rules of the Boston Options Exchange Facility

Trading of Options Contracts on BOX

Chapter V
Sec. 18 The Price Improvement Period (``PIP'')
    (a) through (d) No change.
    (e) Options Participants, both OFPs and Market Makers, executing 
agency orders may designate BOX-Top and marketable limit Customer 
Orders for price improvement and submission to the PIP. Customer Orders 
designated for the PIP shall be submitted to BOX with a matching contra 
order, the ``Primary Improvement Order'', equal to the full size of the 
Customer Order. The Primary Improvement Order shall be on the opposite 
side of the market than that of the Customer Order and represent a 
higher bid (lower offer) than that of the National Best Bid Offer 
(NBBO) at the time of the commencement of the PIP. BOX will not permit 
a PIP to commence unless at least three (3) Market Makers were quoting 
in the relevant series at the time an Options Participant submits a 
Primary Improvement Order to initiate a PIP. BOX will commence a PIP by 
broadcasting a message to Participants that (1) states that a Primary 
Improvement Order has been processed; (2) contains information 
concerning series, size, price and side of market, and; (3) states when 
the PIP will conclude (``PIP Broadcast'').
    i. The PIP shall be 3 seconds, commencing upon the dissemination of 
the PIP Broadcast. [During the PIP, Market Makers may submit competing 
orders, ``Improvement Orders'', for only those classes within their 
appointment. Unless assigned as a Market Maker in the appropriate 
class, Options Participants may submit Improvement Orders only in a PIP 
for which, (1) they have submitted the Primary Improvement Order; (2) 
they hold a Customer PIP Order, (``CPO''), in accordance with the 
requirements of Paragraph (g) of this Section 18; or (3) they meet the 
PIP Proprietary Order (``PPO'') requirements of Paragraph (h) of this 
Section 18.] During the PIP, Order Flow Providers and Market Makers 
(except for the Order Flow Provider or Market Maker that submits the 
relevant Primary Improvement Order) may submit competing orders, 
``Improvement Orders,'' for their own account. Order Flow Providers may 
submit Improvement Orders for the account of a Public Customer under 
any type of instruction they wish to accept. Order Flow Providers may 
also provide access to the PIP on behalf of a Public Customer in the 
form of a CPO (as set forth in subparagraph (g) below). An Improvement 
Order submitted to the PIP for the account of a Public Customer, 
including a CPO, must be identified as a Public Customer Order. [Market 
Makers and ]Options Participants [meeting the foregoing criteria] who 
submit Improvement Orders for a PIP, including CPOs, shall be deemed 
``PIP Participants'' for that specific PIP only, and may continually 
submit competing Improvement Orders during that PIP. During the PIP, 
Improvement Orders shall be disseminated solely to Options 
Participants.
    ii. The Options Participant who submitted the Primary Improvement 
Order is not permitted to cancel or to modify the size of its Primary 
Improvement Order or the Customer Order at any time during the PIP, and 
may modify only the price of its Primary Improvement Order by improving 
it. The subsequent price modifications to a Primary Improvement Order 
are treated as new Improvement Orders for the sake of establishing 
priority in the PIP process. Options Participants that are permitted to 
submit Improvement Orders (as set forth in subparagraph i. 
above)[Market Makers, except for a Market Maker that submits the 
relevant Primary Improvement Order,] may: (1) Submit competing 
Improvement Order(s) for any size up to the size of the Customer Order; 
(2) submit competing Improvement Order(s) for any price equal to or 
better than the Primary Improvement Order; (3) improve the price of 
their Improvement Order(s) at any point during the PIP; and (4) 
decrease the size of their Improvement Order(s) only by improving the 
price of that order. Improvement Orders may be submitted in one-cent 
increments.
    iii. At the conclusion of the PIP, the Customer Order shall be 
matched against the best prevailing order(s) on BOX, in accordance with 
price/time priority as set forth in Section 16 of this Chapter V, 
whether Improvement Order(s), including CPO(s) [and PPO(s)], or 
unrelated order(s) received by BOX during the PIP. Such unrelated 
orders may include agency orders on behalf of Public Customers, market 
makers at away exchanges and non-Box Participant broker-dealers, as 
well as non-PIP proprietary orders submitted by Options Participants.
    iv. The only exceptions to time priority are: (1) No order for a 
non-market maker broker-dealer account of an Options Participant may be 
executed before all Public Customer order(s), whether an Improvement 
Order, including a CPO, or unrelated, and all non-BOX Participant 
broker-dealer order(s) at the same price have been filled; (2) as 
provided in paragraph (f) of this Section 18; and (3) as provided in 
paragraphs (b) and (c) of Section 19 below. Any portion of an 
Improvement Order left unfilled shall be cancelled.
    (f) The PIP Participant who submitted the Customer Order to the PIP 
process for price improvement retains certain priority and trade 
allocation privileges upon conclusion of the PIP, as follows:
    i. In instances in which the Primary Improvement Order as modified 
(if at all) is matched by or matches any competing Improvement Order(s) 
and/or non-Public Customers unrelated order(s) at any price level, the 
PIP Participant retains priority for only forty percent (40%) of any 
unexecuted portion of the Customer Order available at that price level, 
notwithstanding the time priority of the Primary Improvement Order, 
competing Improvement Order(s) or non-Public Customer unrelated 
order(s). The PIP Participant who submitted the Customer Order to the 
PIP process will receive additional allocation only after all other 
orders have been filled at that price level.

[[Page 15957]]

    ii. The Primary Improvement Order shall yield priority to certain 
competing orders in the following circumstances:
    1. When an order for the proprietary account of an OFP is matched 
by or matches any competing Public Customer order(s), whether an 
Improvement Order, including a CPO, or unrelated order(s), or any non-
BOX Participant broker-dealer order(s) at any price level, it shall 
yield priority to them, including any priority provided pursuant to 
subparagraph f(i), above.
    2. When the unmodified Primary Improvement Order for the account of 
a Market Maker is matched by any competing Public Customer order(s), 
whether an Improvement Order, including a CPO, or unrelated order, or 
any non-BOX Participant broker-dealer order(s) at the initial PIP price 
level, it shall yield priority to all competing Public Customer 
order(s) or non-BOX Participant broker-dealer order(s), including any 
priority provided pursuant to subparagraph f(i), above.
    3. When the modified Primary Improvement Order for the account of a 
Market Maker matches any competing Public Customer order(s), whether an 
Improvement Order, including a CPO, or unrelated order, or any non-BOX 
Participant broker-dealer order(s) at subsequent price levels, it shall 
yield priority to all competing Public Customer order(s) or non-BOX 
Participant broker-dealer order(s), including any priority provided 
pursuant to subparagraph f(i) above.
    iii. In all cases in which the Primary Improvement Order has 
priority pursuant to the provisions of (i) and (ii) above, it shall be 
entitled to a trade allocation of at least one (1) contract.

    Note: It shall be considered conduct inconsistent with the just 
and equitable principles of trade for any Options Participant to 
engage in a pattern of conduct where the Options Participant submits 
Primary Improvement Orders into the PIP process for 2 contracts or 
less for the purpose of manipulating the PIP process in order to 
gain a higher allocation percentage than the Options Participant 
would have otherwise received in accordance with the allocation 
procedures set forth in this Section 18.

    (g) In addition to Improvement Orders submitted on behalf of Public 
Customers, OFPs may provide access to the PIP on behalf of a customer 
that is not a broker-dealer (i.e. Public Customer) in the form of a 
Customer PIP Order (``CPO'') provided that:
    i. The terms of each CPO shall include a price stated in rounded 
five cent or ten cent increments, as appropriate, (``standard tick'') 
at which the order shall be placed in the BOX Book (``BOX Book 
Reference Price'') as well as a specific price stated in one cent 
increments (``penny tick'') at which the Public Customer wishes to 
participate in any PIPs (``CPO PIP Reference Price'') that may occur 
while his order is on the BOX Book and displayed at the BOX Book 
Reference Price;
    ii. The terms of each CPO shall include a specific order size 
(``CPO Total Size''). The number of contracts that may be entered into 
a PIP must be no greater than the lesser of (a) the CPO Total Size 
remaining on the BOX Book or (b) the size of the Primary Improvement 
Order submitted to the PIP;
    iii. In order for the CPO to be eligible for participation in a PIP 
in the subject options series, the BOX Book Reference Price for a CPO 
at the time a PIP commences must be equal to the best BOX price (i.e. 
the BBO).
    iv. The CPO may only participate in a PIP on the same side of the 
market as the Primary Improvement Order.
    v. Upon initiation of a PIP for which a CPO is eligible to 
participate pursuant to paragraphs (i)-(iv) above, the OFP who 
submitted the CPO to the BOX Book must submit a CPO to the PIP at a 
price which is better than the BOX Book Reference Price and at any 
price level up to the CPO PIP Reference Price. At any time during the 
PIP, the OFP may modify the price of the CPO submitted to the PIP to 
any price level up to the CPO PIP Reference Price.
    (h) [Unless assigned as a Market Maker in the appropriate class, 
Options Participants may enter a PIP Proprietary Order (``PPO'') for 
their proprietary account in a PIP provided that:
    i. At the commencement of the PIP, they already have an order on 
the BOX Book for their proprietary account equal to the best BOX price 
(i.e. the BBO).
    ii. The size of the PPO entered into a PIP must be no greater than 
the lesser of (a) the total size remaining on the BOX Book for the 
proprietary order or (b) the size of the Primary Improvement Order 
submitted to the PIP.
    iii. At any time during the PIP, the Options Participant may 
improve the price of the PPO submitted to the PIP.]
    [(i)] In cases where an executable unrelated order is submitted to 
BOX on the same side as the Customer Order, such that it would cause an 
execution to occur prior to the end of the PIP, the PIP shall be deemed 
concluded and the Customer Order shall be matched pursuant to Paragraph 
(e)(iii) of this Section 18, above.
    It shall be considered conduct inconsistent with just and equitable 
principles of trade for any Participant to enter unrelated orders into 
BOX for the purpose of disrupting or manipulating the Improvement 
Period process.
    (i)[(j)] Improvement Orders, including CPOs[ and PPOs], must be 
submitted in increments no smaller than one penny ($.01). Improvement 
Orders, including CPOs[ and PPOs], will be displayed to BOX Options 
Participants, but will not be disseminated to OPRA.
    (j)[(k)] Improvement Orders may not be executed unless the price is 
better than the NBBO at the commencement of the PIP, except in the 
following circumstances:
    i. Where an Options Official determines that quotes from one or 
more particular markets in one or more classes of options are not 
reliable, the Options Official may direct the senior person in charge 
of BOX's Market Control Center to exclude the unreliable quotes from 
the Improvement Period determination of the NBBO in the particular 
option class(es). The Options Official may determine quotes in one or 
more particular options classes in a market are not reliable only in 
the following circumstances:
    (1) Quotes Not Firm: A market's quotes in a particular options 
class are not firm based upon direct communication to the Exchange from 
the market or the dissemination through OPRA of a message indicating 
that disseminated quotes are not firm;
    (2) Confirmed Quote Problems: A market has directly communicated to 
the Exchange or otherwise confirmed that the market is experiencing 
systems or other problems affecting the reliability of its disseminated 
quotes.
    ii. The away options exchange posting the NBBO is conducting a 
trading rotation in that options class.
Supplementary Material to Section 18
    01. Initially, and for at least a Pilot Period of eighteen months 
from the commencement of trading on BOX, there will be no minimum size 
requirement for Customer Orders to be eligible for the PIP process. 
During this Pilot Period, BOXR will submit certain data, periodically 
as required by the Commission, to provide supporting evidence that, 
among other things, there is meaningful competition for all size PIP 
orders, that there is significant price improvement for all orders 
executed through the PIP, and that there is an active and liquid market 
functioning on BOX outside of the PIP mechanism. Any data which is 
submitted to the Commission by BOXR will be provided on a confidential 
basis.
    02. With respect to the same series, no PIP will run simultaneously 
with

[[Page 15958]]

another PIP, nor will PIPs queue or overlap in any manner.
* * * * *

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 BSE included statements 
concerning the purpose of, and basis for, the proposed rule change, as 
amended, and discussed any comments it received on the proposal. The 
text of these statements may be examined at the places specified in 
item IV below. The BSE 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 the proposal would be to eliminate certain 
restrictions on the ability of Order Flow Providers, Market Makers, and 
Public Customers (as defined in sections 1(46), 1(32), and 1(50), 
respectively, of Chapter I of the BOX Rules) to participate in BOX's 
price improvement period, the PIP. After an Order Flow Provider or a 
Market Maker submits a Customer Order (as defined in section 1(20) of 
Chapter I of the BOX Rules) to the PIP, the proposal would permit Order 
Flow Providers and Market Makers (except for the Order Flow Provider or 
Market Maker that submits the relevant Primary Improvement Order \4\) 
to submit competing orders, ``Improvement Orders,'' for their 
proprietary account; and, in the case of all Order Flow Providers, to 
submit Improvement Orders for the account of a Public Customer (as 
defined in section 1(19) of Chapter I of the BOX Rules). Improvement 
Orders may be submitted in one-cent increments at the same price as the 
Primary Improvement Order or at an improved price, and for any size up 
to the size of the Customer Order submitted to the PIP.
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    \4\ When an Options Participant submits a Customer Order to the 
PIP, the Options Participant also submits a matching contra order, 
the ``Primary Improvement Order,'' on the opposite side of the 
market than that of the Customer Order, and at a higher bid (lower 
offer) than that of the national best bid or offer (NBBO) at the 
time of the commencement of the PIP.
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    Currently, to participate in the PIP, unless an Options Participant 
(as defined in section 1(40) of Chapter I of the BOX Rules) is assigned 
as a Market Maker in the relevant class, Options Participants may 
compete only in a PIP for which: (1) They have submitted the Customer 
Order to the PIP (through the use of the Primary Improvement Order); 
(2) they hold a Customer PIP Order (as described below); or (3) they 
meet the requirements of Section 18(h) of Chapter V of the BOX Rules, 
which, among other things, include the requirement that an Options 
Participant have an order in the relevant class on the BOX Book (as 
defined in Section 1(12) of Chapter I of the BOX Rules) for their 
proprietary account equal to the best BOX price. If an Options 
Participant is assigned as a Market Maker in the relevant class, the 
Options Participant is not required to meet any of these requirements 
to participate in the PIP.
    Currently, a Public Customer may participate in a PIP only if it 
has provided an Order Flow Provider with a Customer PIP Order. A 
Customer PIP Order includes a specific order size; a price stated in 
rounded five cent or ten cent increments, as appropriate, at which the 
order shall be placed in the BOX Book (the ``BOX Book Reference 
Price''); and a specific price stated in one cent increments at which 
the Public Customer wishes to participate in any PIPs that may occur 
while his order is on the BOX Book. Because of the inclusion of the BOX 
Book Reference Price, a Customer PIP Order is a hybrid of an 
instruction and an order. While a Customer PIP Order participates in a 
PIP, the order is removed from the BOX Book. Currently, a Customer PIP 
Order can participate in a PIP only if the BOX Book Reference Price is 
equal to the best BOX price at the time a PIP commences.
    BSE proposes to allow Order Flow Providers to provide access to the 
PIP on behalf of a Public Customer not only through Customer PIP 
Orders, but through any type of instruction they wish to accept, so 
long as the Improvement Order (like a Customer PIP Order) is identified 
as a Public Customer Order when it is submitted to the PIP. This 
identification is necessary for purposes of allocation priority. 
Customer PIP Orders would no longer be the only Improvement Orders that 
could be Public Customer Orders.
    BSE also proposes to eliminate the requirement that Options 
Participants, unless assigned as a Market Maker in the appropriate 
class, have an order on the BOX Book for their proprietary account 
equal to the best BOX price before a PIP commences to participate in 
the PIP. All references to the PIP Proprietary Order would be 
eliminated from the BOX Rules because all Options Participants (except 
for the Order Flow Provider or Market Maker that submits the relevant 
Primary Improvement Order to the PIP) could submit Improvement Orders 
for their proprietary accounts without restrictions, and this separate 
order type would no longer be necessary.
    The Commission recently approved the proposal of the International 
Securities Exchange (the ``ISE'') to establish a price improvement 
mechanism (the ``PIM'').\5\ The ISE's rules relating to the PIM do not 
include the restrictions discussed above, and some of BOX's Order Flow 
Providers have requested that BSE modify BOX's rules in this manner to 
remain competitive with the ISE.
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    \5\ See Securities Exchange Act Release No. 50819 (December 8, 
2004); 69 FR 75093 (December 15, 2004) (``PIM Approval Order'').
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    BSE believes that the elimination of the restrictions on when 
Options Participants and Public Customers can compete in the PIP would 
increase the opportunity for them to participate in the PIP, and could 
lead to more robust competition in the PIP. BSE does not believe that 
the elimination of these restrictions would have a negative impact on 
the incentives for BOX Market Makers to quote competitively. The 
primary incentives for BOX Market Makers to quote competitively are 
BOX's general price/time priority rules and the trade allocation 
priority granted to the Market Maker Prime. A Market Maker Prime is a 
Market Maker who has a quote that is equal to the NBBO on the same side 
of the market as the Primary Improvement Order at the initiation of the 
PIP. If more than one Market Maker meets this criterion, the Market 
Maker whose quote has time priority would be the Market Maker Prime for 
that PIP.
    A Market Maker designated as the Market Maker Prime \6\ would have 
priority over all other Improvement Orders and unrelated orders up to 
one-third of the portion of the Customer Order remaining at the price 
level of the Market Maker Prime's Improvement Order. This priority 
encourages Market Makers to quote aggressively.\7\
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    \6\ This special priority, however, would apply only if the 
Market Maker Prime enters an Improvement Order during the PIP.
    \7\ In its approval of BOX, the Commission stated that it 
``believes that the BSE's proposal to give priority to a Market 
Maker who quotes aggressively before a PIP is initiated, is 
consistent with the Act and may provide a further incentive for 
Market Makers to publicly display their best quotes, which would 
benefit all options market participants.'' See Securities Exchange 
Act Release No. 49068 (January 13, 2004); 69 FR 2775 (January 20, 
2004).
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    BSE proposes to retain the Customer PIP Order because it provides 
Public Customers with the ability to have an order on the BOX Book and 
participate in a PIP without risking double liability.

[[Page 15959]]

2. Statutory Basis
    The Exchange believes that the proposal, as amended, is consistent 
with the requirements of section 6(b) of the Act,\8\ in general, and 
section 6(b)(5) of the Act,\9\ in particular, 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 protect investors and the public interest.
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    \8\ 15 U.S.C. 78f(b).
    \9\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange does not believe that the proposed rule change, as 
amended, will result in 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 neither solicited nor received written comments with 
respect to the proposed rule change, as amended.

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, as amended; or
    (B) Institute proceedings to determine whether the proposed rule 
change, as amended, 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, 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-BSE-2005-01 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-BSE-2005-01. 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, as 
amended, that are filed with the Commission, and all written 
communications relating to the proposed rule change, as amended, 
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 Room. Copies of such filing also will be available for 
inspection and copying at the principal office of the BSE. 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-BSE-2005-01 and should be 
submitted on or before April 19, 2005.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\10\
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    \10\ 17 CFR 200.30-3(a)(12).
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J. Lynn Taylor,
Assistant Secretary.
[FR Doc. E5-1383 Filed 3-28-05; 8:45 am]
BILLING CODE 8010-01-P