[Federal Register Volume 70, Number 95 (Wednesday, May 18, 2005)]
[Notices]
[Pages 28588-28592]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E5-2480]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-51684; File No. SR-CBOE-2005-24]


Self-Regulatory Organizations; Chicago Board Options Exchange, 
Incorporated; Notice of Filing of Proposed Rule Change Relating to the 
Assignment of RAES Orders to Logged-In Market-Makers Participating on 
RAES

May 11, 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 March 15, 2005, the Chicago Board Options Exchange, Incorporated 
(``CBOE'' or ``Exchange'') filed with the Securities and Exchange 
Commission

[[Page 28589]]

(``Commission'') the proposed rule change as described in Items I, II 
and III below, which Items have been prepared by CBOE. The Commission 
is publishing this notice 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.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes to add an alternative to the current 
procedures that apply to the assignment of orders on the Exchange's 
Retail Automatic Execution System (``RAES'') to CBOE market-makers 
logged on to participate in RAES. The text of the proposed rule change 
is set forth below. Proposed new language is in italics and proposed 
deletions are in brackets.
* * * * *

Rule 6.8--RAES Operations

    (a)-(g) No change.
* * * * *
* * * Interpretations and Policies
    .01-.05 No change.
    .06 (a) In the exercise of their authority to determine the 
procedure for assigning RAES-eligible orders to Participating Market-
Makers for execution, the appropriate FPCs have determined that in the 
absence of any specified alternative assignment methodology, an 
assigned Participating Market-Maker is required to buy/sell the 
entirety of each RAES order assigned to him up to the maximum size of 
RAES-eligible orders in that class of options. Alternatively, the 
appropriate FPC may specify that some or all options classes are 
subject to ``Variable RAES'', [or to] the ``100 Spoke RAES Wheel'', or 
with respect to index option classes only, the ``1000 Spoke RAES 
Wheel''. Other than immediately after the Commission initially approves 
the Exchange to use Variable RAES (in which case Variable RAES may be 
implemented without the requisite notice), any time the appropriate FPC 
intends to discuss an issue related to the RAES allocation method the 
FPC must provide at least three days' advance notice to the Exchange's 
membership and must provide members with either the opportunity to 
provide written comments or the opportunity to appear at the meeting, 
or both regarding the proposed change.
    (b) No change.
    (c) Under the ``100 Spoke RAES Wheel,'' RAES orders would be 
assigned to logged-in market makers [according to] based on the 
percentage of their in-person agency contracts traded in that class 
(excluding RAES contracts traded) compared to all of the market-maker 
in-person agency contracts traded (excluding RAES contracts) during the 
review period. The review period will be determined by the appropriate 
Floor Procedure Committee and may be for any period not in excess of 10 
trading days within the previous 30 calendar days. The trading days 
within the review period may be for non-consecutive trading days. The 
percentage distribution will be calculated at the conclusion of each 
trading day and will be applied to the 100 Spoke RAES Wheel 
distribution on the following trading day. On each revolution of the 
RAES wheel, subject to the exceptions described below, each 
participating market-maker (who is logged onto RAES at the time) will 
be assigned enough contracts to replicate his percentage of contracts 
on RAES that he traded in-person in that class during the review 
period. A participation percentage will be calculated for each market-
maker for each class that the market-maker trades. For this purpose all 
DPM Designees of the same DPM unit will have their percentage 
aggregated into a single percentage for the DPM unit.
    Once a market-maker has logged onto RAES, he will be assigned 
contracts on the RAES Wheel until his market-maker participation 
percentage has been met. This may mean that multiple orders (or an 
order and a part of the succeeding order) will be assigned to the same 
market-maker on the Wheel. To understand how the RAES orders will 
actually be allocated to market-makers to meet those percentages, one 
must understand the concepts of ``spokes'' and ``wedges.'' A ``spoke'' 
is 1% of the RAES wheel and often may be equal to one contract. The 
appropriate Floor Procedure Committee may determine the number of 
contracts that make up one spoke. Each market-maker logged onto RAES 
for that class, regardless of his participation percentage, is entitled 
to be assigned at least one spoke on every revolution of the RAES 
wheel. For example, if a spoke equals one contract then there will be 
100 [spokes] contracts that will be assigned to market-makers on every 
revolution of the RAES wheel. If a spoke is defined as five contracts 
then there will be 500 RAES contracts assigned to the participating 
market-makers before the RAES wheel completes one revolution. 
Generally, the RAES Wheel will consist of the number of spokes 
replicating the cumulative percentage of all market-makers logged onto 
the system who have a participation percentage plus one spoke for each 
market-maker that does not have a specific participation percentage.
    A ``wedge'' is the maximum number of spokes that a market-maker may 
be consecutively assigned at any one time on the RAES wheel. Because 
the size of the wedge may be smaller than the number of contracts to 
which a particular market-maker is entitled during one revolution of 
the RAES Wheel, that market-maker will receive more than one turn 
during one revolution of the RAES wheel. The wedge size will be 
variable, at the discretion of the appropriate Floor Procedure 
Committee and may be different for different classes or the same for 
all classes. The appropriate Floor Procedure Committee will notify the 
membership of each class of options that is subject to the ``100 Spoke 
RAES Wheel''.
    (d) Under the ``1000 Spoke RAES Wheel'', which may only be 
implemented in index option classes, all of the terms and provisions 
set forth in CBOE Rule 6.8.06(c) with respect to the 100 Spoke RAES 
Wheel shall apply to the 1000 Spoke RAES Wheel, except that (i) the 
1000 Spoke RAES Wheel is comprised of 1000 spokes, each of which 
generally represents .1% of the 1000 Spoke RAES Wheel, and (ii) the 
appropriate Floor Procedure Committee shall determine on a class by 
class basis whether the assignment of RAES orders to logged-in Market-
Makers is based on the percentage of a Market-Maker's contracts traded 
in that index option class (excluding RAES contracts traded) compared 
to all Market-Maker contracts traded (excluding RAES contracts) during 
the review period, or the percentage of the Market-Maker's in-person 
agency contracts traded in that class (excluding RAES contracts traded) 
compared to all Market-Maker in-person agency contracts traded 
(excluding RAES contracts) during the review period.
    The appropriate Floor Procedure Committee will notify the 
membership of each class of options that is subject to the ``1000 Spoke 
RAES Wheel'' and the method of allocation for RAES orders under the 
1000 Spoke RAES Wheel.
    ([d] e) The effectiveness of any other methodology for assigning 
RAES orders to Participating Market-Makers that may be adopted by an 
appropriate FPC shall be conditioned upon its having been filed with 
the Securities and Exchange Commission pursuant to Section 19(b) of the 
Securities Exchange Act of 1934.
    .07-.09 No change.
* * * * *

[[Page 28590]]

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.

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

1. Purpose
    CBOE Rule 6.8--RAES Operations--governs the execution of orders on 
RAES. CBOE Rule 6.8.06 sets forth alternatives available to the 
appropriate Floor Procedure Committee to implement the procedures for 
the assignment of RAES-eligible orders to CBOE market-makers logged on 
to RAES for execution. One alternative set forth in current Rule 
6.8.06(c), the ``100 Spoke RAES Wheel,'' assigns RAES orders to logged-
in market-makers based on the percentage of their in-person agency 
contracts traded in that class (excluding RAES contracts traded) 
compared to all of the market-maker in-person agency contracts traded 
(excluding RAES contracts) during the review period.\3\ The proposed 
rule change sets forth a new alternative, available only in index 
option classes, that offers a wheel with 1000 spokes and assignment 
procedures that are similar to the assignment procedures applicable to 
the 100 Spoke RAES Wheel.
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    \3\ As stated in CBOE Rule 6.8.06(c), the review period will be 
determined by the appropriate Floor Procedure Committee and may be 
for any period not in excess of 10 trading days within the previous 
30 calendar days. The trading days within the review period may be 
for non-consecutive trading days. According to CBOE, the review 
period is re-determined, and thus participation percentages are re-
calculated, on a daily basis. Thus, CBOE notes that while a new 
market-maker is entitled to be assigned at least one spoke on every 
revolution of the RAES wheel, the market-maker would on subsequent 
days be entitled to replicate the percentage of non-RAES contracts 
that he actually traded during the relevant review period. For 
example, if a new market-maker signs onto RAES and is allocated one 
spoke, but the market-maker trades enough non-RAES contracts on that 
day to qualify the market-maker for more than one spoke when the 
review period is re-determined on the following day, the market-
maker would be entitled to such additional spoke or spokes. 
Telephone conferences between David M. Doherty, Assistant Secretary, 
CBOE, and Geoffrey C. Pemble, Special Counsel, Division of Market 
Regulation, Securities and Exchange Commission, on April 6, 2005 and 
between Mr. Doherty and David L. Orlic, Attorney, Division of Market 
Regulation, Securities and Exchange Commission, on April 22, 2005.
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    Under the proposed 1000 Spoke RAES Wheel, the appropriate Floor 
Procedure Committee will determine on a class-by-class basis whether 
the assignment of RAES orders to logged-in market-makers is based on 
the percentage of a market-maker's contracts traded in that index 
option class (excluding RAES contracts traded) compared to all market-
maker contracts traded (excluding RAES contracts) during the review 
period, or the percentage of the market-maker's in-person agency 
contracts traded in that class (excluding RAES contracts traded) 
compared to all market-maker in-person agency contracts traded 
(excluding RAES contracts) during the review period. As is the case 
with the 100 Spoke RAES Wheel, the procedure for the 1000 Spoke RAES 
Wheel would provide that on each revolution of the wheel, each 
participating market-maker who is logged in RAES at the time will be 
assigned a number of contracts that approximates the percentage of 
contracts on RAES that he or she traded in-person in that index option 
class during the review period, subject to the restrictions set forth 
in current Rule 6.8.06(c).
    The effect of utilizing the 1000 Spoke RAES Wheel instead of the 
100 Spoke RAES Wheel is that the number of contracts allocated to a 
market-maker will increase by a factor of 10 for every revolution of 
the RAES wheel. This procedure is designed to reduce the rounding 
effects that result under the 100 Spoke RAES Wheel (the RAES system 
configuration rounds contracts to the nearest whole number). For 
example, if the percentage of a market maker's contracts traded in an 
index option class compared to all of the market-maker in person 
contracts traded during the review period is 1.34%, the 100 Spoke RAES 
Wheel would allocate 1 contract to the market-maker for every 
revolution of the RAES wheel. In contrast, the 1000 Spoke RAES Wheel 
would allocate 13 contracts to the market-maker (13.4 contracts, 
rounded to the nearest whole number) for every revolution.
    Allocation Example. To better understand how RAES contracts would 
be assigned under the ``1000 Spoke RAES Wheel,'' the table below shows 
the allocations a market-maker would receive under each of the ``100 
Spoke RAES Wheel'' and ``1000 Spoke RAES Wheel.'' The example assumes 
that one spoke on the 1000 Spoke RAES Wheel is equivalent to one 
contract.\4\
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    \4\ Normally, one spoke on the wheel will be equivalent to one 
contract, except that the appropriate Floor Procedure Committee may 
establish a larger spoke size. Changing the spoke size (and thus, 
the wheel size) does not change the participation percentages of the 
individual market-makers. Each market-maker logged on to RAES is 
entitled to at least one spoke on every revolution of the wheel, 
regardless of what might otherwise be his entitlement based on his 
participation during the review period. This ensures that new 
market-makers logged on to RAES have a minimum participation in RAES 
transactions. These procedures are identical to the procedures 
governing the allocation of trades under the 100 Spoke RAES Wheel.

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                                                                    Percent of       Number of       Number of
                                                                   market-maker      contracts       contracts
                          Market-maker                               non-RAES     based on a 100   based on 1000
                                                                      volume        spoke wheel     spoke wheel
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1...............................................................           37.90              38             379
2...............................................................           30.40              30             304
3...............................................................            9.90              10              99
4...............................................................            4.49               4              45
5...............................................................            2.90               3              29
6...............................................................            1.25               1              13
7...............................................................            1.40               1              14
8...............................................................            0.85               1               9
9...............................................................            0.90               1               9
10..............................................................            0.00               1               1
                                                                 -----------------

[[Page 28591]]

 
    Totals......................................................  ..............              90             902
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    The table set forth above demonstrates that the 1000 Spoke RAES 
Wheel more closely approximates a market-maker's participation 
percentage. The allocation of 902 contracts in the 1000 Spoke RAES 
Wheel also highlights the fluctuation of the RAES wheel size resulting 
from the rounding effects and the inclusion of new market-makers who do 
not have a participation percentage in the wheel.
    The Exchange notes that the operation of the ``wedge'' allocation, 
which establishes the maximum number of spokes that a market-maker may 
be consecutively assigned at any one time on the wheel, would limit 
consecutive distributions to any one market-maker. A wedge is the 
maximum number of spokes that may be assigned to a market-maker in any 
one ``hit'' during a rotation of the RAES Wheel. The concept of the 
wedge system ensures that each market-maker eligible to participate 
during a particular review period will be assigned at least some 
contracts before market-makers entitled to a greater number of spokes 
are assigned all of their contracts in a given revolution. The wedge 
system also breaks up the distribution of contracts into smaller 
groupings in order to reduce exposure of any one market-maker to market 
risk. If the size of the wedge is smaller than the number of spokes to 
which a particular market-maker may be entitled based on his 
participation percentage, the market-maker will be assigned more than 
once during one revolution of the RAES Wheel. For example, in the table 
above, where one spoke on the 1000 Spoke RAES Wheel is equal to one 
contract, MM7 would receive a total of 14 contracts during one 
revolution of the RAES Wheel. If the wedge size is 10, MM7 will first 
be assigned 10 contracts on the RAES Wheel and then 4 contracts at a 
different place on the RAES Wheel during that same revolution. Thus, in 
one complete revolution of the RAES Wheel, he will be assigned two 
times for a total of 14 contracts, consisting of one 10-contract 
assignment and one 4-contract assignment. As set forth in current Rule 
6.8.06(c), which rule would govern the 1000 Spoke RAES Wheel, the wedge 
size will be variable at the discretion of the appropriate Floor 
Procedure Committee and may be different for different index classes or 
the same for all index classes.
    The proposed rule changes also propose to revise the type of trades 
that could be included in the percentage allocation under the 1000 
Spoke RAES Wheel. Specifically, the proposed rule would permit the 
appropriate Floor Procedure Committee to determine on a class by class 
basis whether the assignment of RAES orders to logged-in market-makers 
is based on the percentage of a market-maker's contracts traded in that 
index option class (excluding RAES contracts traded) compared to all of 
the market-maker contracts traded (excluding RAES contracts) during the 
review period, or the percentage of the market-maker's in-person agency 
contracts traded in that class (excluding RAES contracts traded) 
compared to all of the market-maker in-person agency contracts traded 
(excluding RAES contracts) during the review period. The purpose of 
this proposed change is to recognize the trading dynamics that exist in 
index option trading crowds where trading between market makers is more 
prevalent.\5\ Other than the proposed changes described above, all 
other terms and provisions that apply to the 100 Spoke RAES Wheel as 
provided in CBOE Rule 6.8.06(c) would apply to the 1000 Spoke RAES 
Wheel.
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    \5\ Telephone conversation between David M. Doherty, Assistant 
Secretary, CBOE, and David L. Orlic, Attorney, Division of Market 
Regulation, Securities and Exchange Commission, on April 22, 2005.
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    Lastly, the Exchange is revising CBOE Rule 6.8.06(c) to make 
clarifying changes to the description of the operation of the 100 Spoke 
RAES Wheel.
    The Exchange believes the proposed 1000 Spoke RAES Wheel will 
provide a viable alternative to the 100 Spoke RAES Wheel, which was 
used in some equity option trading crowds prior to the transfer of 
equity option trading to the Exchange's Hybrid system. The Exchange 
developed the 100 Spoke RAES Wheel to better distribute RAES volume to 
those market-makers providing greater liquidity in the trading pits. 
However, index floor procedure committees have not employed the 100 
Spoke RAES Wheel alternative because of the rounding effects that would 
occur in large trading crowds.\6\ Specifically, as the trading crowds 
increase, the percentage allocation becomes more widely dispersed among 
the many market-makers in index trading crowds. The rounding 
requirements could erode allocations even further for market-makers 
with small percentage allocations, which would occur on a more frequent 
basis as the size of the crowd increases. The Exchange believes the 
1000 Spoke RAES Wheel would diminish this effect, while at the same 
time preserving the distribution benefits to those market-makers 
providing greater liquidity in index trading pits.
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    \6\ Telephone conversation between David M. Doherty, Assistant 
Secretary, CBOE, and David L. Orlic, Attorney, Division of Market 
Regulation, Securities and Exchange Commission, on April 22, 2005.
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2. Statutory Basis
    CBOE believes the proposed rule change is consistent with the Act 
and the rules and regulations under the Act applicable to a national 
securities exchange and, in particular, the requirements of Section 
6(b) of the Act.\7\ Specifically, the Exchange believes the proposed 
rule change is consistent with the Section 6(b)(5) \8\ requirements 
that the rules of an exchange be designed to promote just and equitable 
principles of trade, to prevent fraudulent and manipulative acts and, 
in general, to protect investors and the public interest. CBOE believes 
that the proposed rule change will enhance the ability of the Exchange 
to provide instantaneous automatic execution of public customer orders 
at the best available prices in index option classes.
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    \7\ 15 U.S.C. 78f(b).
    \8\ 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 will 
impose any burden on competition that is not necessary or appropriate 
in furtherance of the purposes of the Act.

[[Page 28592]]

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

    The Exchange did not solicit or receive any written comments with 
respect to the proposed rule change.

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 self-regulatory organization consents, the Commission will:
    A. By order approve the 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-CBOE-2005-24 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-2005-24. 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 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-2005-24 
and should be submitted on or before June 8, 2005.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\9\
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    \9\ 17 CFR 200.30-3(a)(12).
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J. Lynn Taylor,
Assistant Secretary.
[FR Doc. E5-2480 Filed 5-17-05; 8:45 am]
BILLING CODE 8010-01-P