[Federal Register Volume 70, Number 126 (Friday, July 1, 2005)]
[Notices]
[Pages 38232-38235]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E5-3459]


-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-51926; File No. SR-Phlx-2004-65]


Self-Regulatory Organizations; Philadelphia Stock Exchange, Inc.; 
Order Approving Proposed Rule Change and Amendment Nos. 1, 2, and 3 
Relating to Back-up Trading Arrangements

June 27, 2005.

I. Introduction

    On October 18, 2004, the Philadelphia Stock Exchange, Inc. 
(``Phlx'' or ``Exchange'') filed with the Securities and Exchange 
Commission (``Commission''), pursuant to Section 19(b)(1) of the 
Securities Exchange Act of 1934 (``Act''),\1\ and Rule 19b-4 
thereunder,\2\ a proposed rule change to establish rules covering 
emergency procedures for Phlx members and back-up trading arrangements 
in the event that the Exchange's main facility is unavailable. On April 
29, 2005, the Exchange submitted Amendment No. 1 to the proposal.\3\ On 
May 12, 2005, the Exchange submitted Amendment No. 2 to the 
proposal.\4\ On May 16, 2005, the Exchange submitted Amendment No. 3 to 
the proposal.\5\ The proposed rule change, as amended, was published 
for notice and comment in the Federal Register on May 25, 2005.\6\ The 
Commission received no comment letters regarding the proposed rule

[[Page 38233]]

change. This order approves the proposed rule change, as amended.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ In Amendment No. 1, the Exchange substantially revised the 
proposed rule text and added a new paragraph (d), Member 
Proceedings, to establish disciplinary jurisdiction as between the 
Disabled Exchange and the Back-up Exchange in situations where there 
is an ongoing disciplinary action involving a member of the Disabled 
Exchange at the time of termination of the back-up period. The 
Exchange also proposed amendments to its fee schedules, which 
incorporate Rule 99.
    \4\ In Amendment No. 2, the Exchange made minor revisions to the 
proposed rule text and corresponding description of the proposal. 
Phlx also refiled corrected versions of the exhibits submitted with 
the proposal. Amendment No. 2 replaces and supersedes Phlx's earlier 
submissions in their entirety. Additionally, Phlx submitted with its 
Amendment No. 2 a copy of the back-up trading agreement between 
itself and the Chicago Board Options Exchange, Incorporated 
(``CBOE'') as Exhibit 3A to its Form 19b-4 filing, together with a 
copy of a first amendment to the agreement as Exhibit 3B. This back-
up trading agreement is available for viewing on the Commission's 
Web site, http://www.sec.gov/rules/sro.shtml, and at the Exchange 
and the Commission.
    \5\ In Amendment No. 3, the Exchange submitted a revised Exhibit 
5 to its amended Form 19b-4 to correctly identify the new rule text 
in the proposal, including Exchange Rule 99 and changes to the Phlx 
Fee Schedule.
    \6\ See Securities Exchange Act Release No. 51718 (May 19, 
2005), 70 FR 30171 (``Notice'').
---------------------------------------------------------------------------

II. Description of Proposal

    The Phlx proposes to adopt a rule that will permit Phlx to enter 
into arrangements with one or more other exchanges that would provide 
trading facilities for Phlx listed options at another exchange in the 
event that the functions of Phlx are severely and adversely affected by 
an emergency or extraordinary circumstances (a ``Disabling Event''), 
and similarly provide trading facilities at Phlx for another exchange 
to trade its listed options if that exchange's facility experiences a 
Disabling Event. Phlx also proposes changes to its fee schedule 
relative to the fees that shall apply to transactions in the options of 
a Disabled Exchange executed on a Back-up Exchange.

A. Rule 99--Back-up Trading Arrangements

a. Background
    As set forth in the Notice, the Exchange proposes to adopt new Rule 
99, Backup Trading Arrangements, which would govern the arrangements 
with one or more other exchanges (each a ``Back-up Exchange'') to 
permit Phlx and its members to use a portion of a Back-up Exchange's 
facilities to conduct the trading of Phlx exclusively listed options 
\7\ in the event of a Disabling Event, and similarly will permit Phlx 
to provide trading facilities at Phlx for another exchange's 
exclusively listed options if that exchange (a ``Disabled Exchange'') 
is prevented from trading due to a Disabling Event.
---------------------------------------------------------------------------

    \7\ For purposes of proposed Phlx Rule 99, the term 
``exclusively listed option'' means an option that is listed 
exclusively by an exchange (because the exchange has an exclusive 
license to use, or has proprietary rights in, the interest 
underlying the option). See Phlx Rule 99(a)(i)(A).
---------------------------------------------------------------------------

    Proposed Rule 99 would also permit Phlx to enter into arrangements 
with a Back-up Exchange to provide for the listing and trading of Phlx 
singly listed options \8\ by the Back-up Exchange if Phlx's facility 
becomes disabled, and conversely provide for the listing and trading by 
Phlx of the singly listed options of a Disabled Exchange.\9\
---------------------------------------------------------------------------

    \8\ For purposes of proposed Phlx Rule 99, the term ``singly 
listed option'' means an option that is not an ``exclusively listed 
option'' but that is listed by an exchange and not by any other 
national securities exchange. See Phlx Rule 99(a)(ii)(A).
    \9\ In its proposal, Phlx stated that the back-up trading 
arrangements contemplated by proposed Rule 99 represent the 
Exchange's immediate plan to ensure that Phlx's exclusively listed 
and singly listed options will have a trading venue if a catastrophe 
renders its primary facility inaccessible or inoperable. The 
Exchange noted that, in September 2003, it had entered into separate 
Memoranda of Understanding with the American Stock Exchange LLC 
(``Amex'') and CBOE to memorialize their mutual understanding to 
work together to develop bi-lateral back-up trading arrangements in 
the event that trading is prevented at one of the exchanges due to a 
Disabling Event. Since then, the Exchange has been working with 
these exchanges to put in place written agreements outlining 
essential commercial terms with respect to the arrangements as well 
as operational plans that describe the operational and logistical 
aspects of the arrangements. At present, Phlx and CBOE have signed 
an agreement relative to back-up trading arrangements and completed 
a joint operational plan. See supra note 4.
---------------------------------------------------------------------------

b. If Phlx Is the Disabled Exchange
    Section (a) of proposed Rule 99 describes the back-up trading 
arrangements that would apply if Phlx were the Disabled Exchange. Under 
proposed paragraph (a)(i)(B), the facility of the Back-up Exchange used 
by Phlx to trade some or all of Phlx's exclusively listed options will 
be deemed to be a facility of Phlx, and such option classes shall trade 
as listings of Phlx.
    Since the trading of Phlx exclusively listed options will be 
conducted using the systems of the Back-up Exchange, proposed paragraph 
(a)(i)(C) provides that the trading of Phlx exclusively listed options 
on Phlx's facility at the Back-up Exchange would be conducted in 
accordance with the rules of the Back-up Exchange, except that such 
trading would be subject to Phlx rules with respect to doing business 
with the public, margin requirements, net capital requirements, listing 
requirements and position limits.\10\ In addition, Phlx and the Back-up 
Exchange may agree that other Phlx rules will apply to such 
trading.\11\ The Back-up Exchange rules that govern trading on Phlx 's 
facility at the Back-up Exchange shall be deemed to be Phlx rules for 
purposes of such trading.
---------------------------------------------------------------------------

    \10\ As specified in Phlx Rule 99(a)(i)(C), the Exchange will 
notify its members which rules apply in advance of trading.
    \11\ As stated above, Phlx's back-up trading arrangements with 
CBOE contemplate that the operation of the Disabled Exchange's 
facility at the Back-up Exchange will be conducted in accordance 
with the rules of the Back-up Exchange except that (i) the rules of 
the Disabled Exchange will apply with respect to doing business with 
the public, margin requirements, net capital requirements and 
listing requirements, and (ii) the members of the Disabled Exchange 
that are trading on the facility of the Disabled Exchange at the 
Back-up Exchange (not including members of the Back-up Exchange who 
become temporary members of the Disabled Exchange) will be subject 
to the rules of the Disabled Exchange governing or applying to the 
maintenance of a person's or a firm's status as a member of the 
Disabled Exchange.
---------------------------------------------------------------------------

    Proposed paragraph (a)(i)(D) reflects that the Back-up Exchange has 
agreed to perform the related regulatory functions with respect to 
trading of Phlx exclusively listed options on Phlx's facility at the 
Back-up Exchange, in each case except as Phlx and the Back-up Exchange 
may specifically agree otherwise. The Back-up Exchange and Phlx will 
coordinate with each other regarding surveillance and enforcement 
respecting such trading. Phlx shall retain the ultimate legal 
responsibility for the performance of its self-regulatory obligations 
with respect to Phlx's facility at the Back-up Exchange.
    Under proposed paragraph (a)(i)(E), if the Back-up Exchange is 
unable to accommodate all Phlx members that desire to trade on Phlx's 
facility at the Back-up Exchange, Phlx would have the right to 
determine which members shall be eligible to trade at that facility by 
considering factors such as whether the member is the specialist in the 
applicable product(s), the number of contracts traded by the member in 
the applicable product(s), market performance, and other factors 
relating to a member's contribution to the market in the applicable 
product(s).
    Under proposed paragraph (a)(i)(F), members of the Back-up Exchange 
will not be authorized to trade in any Phlx exclusively listed options, 
except that (i) Phlx may deputize willing floor brokers of the Back-up 
Exchange as temporary Phlx members to permit them to execute orders as 
brokers in Phlx exclusively listed options traded on Phlx's facility at 
the Back-up Exchange,\12\ and (ii) the Back-up Exchange has agreed that 
it will, at the instruction of Phlx, select members of the Back-up 
Exchange that are willing to be deputized by Phlx as temporary Phlx 
members authorized to trade Phlx exclusively listed options on Phlx's 
facility at the Back-up Exchange for such period of time following a 
Disabling Event as Phlx determines to be appropriate, and Phlx may 
deputize such members of the Back-up Exchange as temporary Phlx members 
for that purpose. The second of the foregoing exceptions would permit 
members of the Back-up Exchange to trade Phlx exclusively listed 
options on the Phlx facility on the Back-up Exchange if, for example, 
circumstances surrounding a Disabling Event result in Phlx members 
being delayed in arriving at the Back-up Exchange in time for prompt 
resumption of trading.
---------------------------------------------------------------------------

    \12\ The exchanges that acted as Back-up Exchanges in previous 
emergency situations also deputized floor brokers in this manner. 
See Securities Exchange Act Release No. 27365 (October 19, 1989), 54 
FR 43511 (October 25, 1989) (approving trading of options listed on 
the Pacific Stock Exchange at other exchanges in wake of 
earthquake); Securities Exchange Act Release No. 40088 (June 12, 
1998), 63 FR 33426 (June 18, 1998) (approving trading of Dell 
options listed on Phlx at Amex on a temporary basis).
---------------------------------------------------------------------------

    Section (a)(ii) of the proposed rule provides for the continued 
trading of Phlx singly listed options at a Back-up

[[Page 38234]]

Exchange in the event of a Disabling Event at Phlx. Proposed paragraph 
(a)(ii)(B) provides that Phlx may enter into arrangements with a Back-
up Exchange under which the Back-up Exchange will agree, in the event 
of a Disabling Event, to list for trading options that are then singly 
listed only by Phlx. Such options would trade on the Back-up Exchange 
as listings of the Back-up Exchange and in accordance with the rules of 
the Back-up Exchange. Under proposed paragraph (a)(ii)(C), any such 
option listed by the Back-up Exchange that does not satisfy the 
standard listing and maintenance criteria of the Back-up Exchange will 
be subject, upon listing by the Back-up Exchange, to delisting (and, 
thus, restrictions on opening new series, and engaging in opening 
transactions in those series with open interest, as may be provided in 
the rules of the Back-up Exchange).
    Phlx singly listed options would be traded by members of the Back-
up Exchange and by Phlx members selected by Phlx to the extent the 
Back-up Exchange can accommodate Phlx members in the capacity of 
temporary members of the Back-up Exchange. If the Back-up Exchange is 
unable to accommodate all Phlx members that desire to trade Phlx singly 
listed options at the Back-up Exchange, Phlx may determine which 
members would be eligible to trade such options at the Back-up Exchange 
by considering the same factors used to determine which Phlx members 
are eligible to trade Phlx exclusively listed options at the Phlx 
facility at the Back-up Exchange.
c. If Phlx Is the Back-up Exchange
    Section (b) of proposed Rule 99 describes the back-up trading 
arrangements that would apply if Phlx were the Back-up Exchange. In 
general, the provisions in Section (b) are the converse of the 
provisions in Section (a). With respect to the exclusively listed 
options of the Disabled Exchange, the facility of Phlx used by the 
Disabled Exchange to trade some or all of the Disabled Exchange's 
exclusively listed options would be deemed to be a facility of the 
Disabled Exchange, and such options would trade as listings of the 
Disabled Exchange. Trading of the Disabled Exchange's exclusively 
listed options on the Disabled Exchange's facility at Phlx would be 
conducted in accordance with Phlx rules, except that (i) such trading 
would be subject to the Disabled Exchange's rules with respect to doing 
business with the public, margin requirements, net capital 
requirements, listing requirements, and position limits, and (ii) 
members of the Disabled Exchange that are trading on the Disabled 
Exchange's facility at Phlx (not including Phlx members who become 
temporary members of the Disabled Exchange pursuant to paragraph 
(b)(i)(D)) would be subject to the rules of the Disabled Exchange 
governing or applying to the maintenance of a person's or a firm's 
status as a member of the Disabled Exchange. In addition, the Disabled 
Exchange and Phlx may agree that other Disabled Exchange rules will 
apply to such trading.
    Phlx will perform the related regulatory functions with respect to 
such trading, in each case except as the Disabled Exchange and Phlx may 
specifically agree otherwise. Proposed paragraph (b)(i)(C) reflects 
that the Disabled Exchange has agreed to retain the ultimate legal 
responsibility for the performance of its self-regulatory obligations 
with respect to the Disabled Exchange's facility at Phlx.
    Section (b)(ii) describes the arrangements applicable to trading of 
the Disabled Exchange's singly listed options at Phlx, and is the 
converse of Section (a)(ii). One difference is the last sentence in 
paragraph (b)(ii)(A), which provides that Phlx may allocate singly 
listed option classes of the Disabled Exchange to a Phlx Specialist in 
advance of a Disabling Event, without utilizing the allocation process 
under Phlx Rule 506, to enable Phlx to quickly list such option classes 
upon the occurrence of a Disabling Event.
d. Member Obligations
    Phlx Rule 99(c) describes the obligations of members and member 
organizations with respect to the trading by temporary members of a 
Disabled Exchange pursuant to a back-up trading agreement.
    Section (c)(i) sets forth the obligations applicable to Phlx 
members who act in the capacity of temporary members of the Disabled 
Exchange on the facility of the Disabled Exchange at the Back-up 
Exchange. Section (c)(i) provides that a Phlx member acting as a 
temporary member of the Disabled Exchange shall be subject to, and 
obligated to comply with, the rules that govern the operation of the 
facility of the Disabled Exchange at Phlx. This would include the rules 
of the Disabled Exchange to the extent applicable during the period of 
such trading, including the rules of the Disabled Exchange limiting its 
liability for the use of its facilities that apply to members of the 
Disabled Exchange. Additionally, (1) such Phlx member acting as a 
temporary member of the Disabled Exchange shall be deemed to have 
satisfied, and the Disabled Exchange has agreed to waive specific 
compliance with, rules governing or applying to the maintenance of a 
person's or a firm's status as a member of the Disabled Exchange, 
including all dues, fees and charges imposed generally upon members of 
the Disabled Exchange based on their status as such; (2) such Phlx 
member acting as a temporary member of the Disabled Exchange shall have 
none of the rights of a member of the Disabled Exchange except the 
right to conduct business on the facility of the Disabled Exchange at 
the Back-up Exchange to the extent described in the Rule; (3) the 
member organization associated with such Phlx member acting as a 
temporary member of the Disabled Exchange, if any, shall be responsible 
for all obligations arising out of that Phlx member's activities on or 
relating to the Disabled Exchange, and (4) the clearing member of such 
Phlx member shall guarantee and clear the transactions of such 
temporary member on the Disabled Exchange.
    Section (c)(ii) sets forth the obligations applicable to Phlx 
members who act in the capacity of temporary members of the Back-up 
Exchange for the purpose of trading singly and multiply listed options 
of the Disabled Exchange. Such Phlx members shall be subject to, and 
obligated to comply with, the rules of the Back-up Exchange that are 
applicable to the Back-up Exchange's own members, including the rules 
of the Back-up Exchange limiting its liability for the use of its 
facilities that apply to members of the Back-up Exchange. Phlx members 
who act in the capacity of temporary members of the Back-up Exchange 
have the same obligations as those set forth in Section (c)(i) that 
apply to temporary members of the Disabled Exchange, except that, in 
addition, Phlx members who act in the capacity of temporary members of 
the Back-up Exchange shall only be permitted (1) to act in those 
capacities on the Back-up Exchange that are authorized by the Back-up 
Exchange and that are comparable to capacities in which the temporary 
member has been authorized to act on the Disabled Exchange, and (2) to 
trade in those options in which the temporary member is authorized to 
trade on the Disabled Exchange.
e. Member Proceedings
    As noted above, proposed Phlx Rule 99 provides that the rules of 
the Back-up Exchange shall apply to the trading of the singly and 
multiply listed options of the Disabled Exchange traded on the Back-up 
Exchange's facilities, and (with certain limited exceptions) the 
trading of exclusively listed options of the

[[Page 38235]]

Disabled Exchange traded on the facility of the Disabled Exchange at 
the Back-up Exchange. The proposed rule contemplates that the Back-up 
Exchange will perform the related regulatory functions with respect to 
such trading (except as the Back-up Exchange and the Disabled Exchange 
may specifically agree otherwise).
    Section (d) of proposed Rule 99 provides that if a Backup Exchange 
initiates an enforcement proceeding with respect to the trading during 
a backup period of singly or multiply listed options of the Disabled 
Exchange by a temporary member of the Backup Exchange or exclusively 
listed options of the Disabled Exchange by a member of the Disabled 
Exchange (other than a member of the Backup Exchange who is a temporary 
member of the Disabled Exchange), and such proceeding is in process 
upon the conclusion of the backup period, the Backup Exchange may 
transfer responsibility for such proceeding to the Disabled Exchange 
following the conclusion of the backup period. This approach to the 
exercise of enforcement jurisdiction is also consistent with past 
precedent.\13\
---------------------------------------------------------------------------

    \13\ See supra note 12.
---------------------------------------------------------------------------

    With respect to arbitration jurisdiction, proposed Section (d) 
provides that arbitration of any disputes with respect to any trading 
during a backup period of singly or multiply listed options of the 
Disabled Exchange or of exclusively listed options of the Disabled 
Exchange on the Disabled Exchange's facility at the Backup Exchange 
will be conducted in accordance with the rules of the Backup Exchange, 
unless the parties to an arbitration agree that it shall be conducted 
in accordance with the rules of the Disabled Exchange.
    The purpose of these provisions is to permit a Backup Exchange to 
confer its temporary enforcement jurisdiction over a member or member 
organization of the Disabled Exchange back to the Disabled Exchange 
once the Disabled Exchange resumes normal operations.
f. Member Preparations
    To ensure that members are prepared to implement Phlx's back-up 
trading arrangements, proposed Section (e) of Proposed Rule 99 requires 
Phlx members to take appropriate actions as instructed by Phlx to 
accommodate Phlx's back-up trading arrangements with other exchanges 
and Phlx's own back-up trading arrangements.

B. Fee Schedule

    The Exchange proposes to add a footnote to its Fee Schedule to 
inform its members regarding what fees will apply to transactions in 
the listed options of a Disabled Exchange effected on a Backup Exchange 
under Rule 99. The footnote provides that if Phlx is the Disabled 
Exchange, the Backup Exchange has agreed to apply the per contract and 
per contract side fees in the Phlx fee schedule to transactions in Phlx 
exclusively listed options traded on the Phlx facility on the Backup 
Exchange.\14\ If any other Phlx listed options are traded on the Backup 
Exchange (such as Phlx singly listed options) pursuant to Phlx Rule 99, 
the fee schedule of the Backup Exchange shall apply to such trades. The 
footnote contains a second paragraph stating the converse if Phlx is 
the Backup Exchange under Rule 99.
---------------------------------------------------------------------------

    \14\ When Phlx Dell options relocated to Amex in June 1998, Phlx 
fees applied to transactions in Dell options on the Amex. See supra 
note 12.
---------------------------------------------------------------------------

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

    After careful consideration, the Commission finds that Phlx's 
proposed rule change is consistent with the requirements of the 
Exchange Act and the rules and regulations thereunder, applicable to a 
national securities exchange.\15\ In particular, the Commission finds 
that the proposed rule change is consistent with Section 6(b)(5) of the 
Act,\16\ in that it is designed to perfect the mechanisms of a free and 
open market and to protect investors and the public interest.
---------------------------------------------------------------------------

    \15\ In approving this proposal, the Commission has considered 
its impact on efficiency, competition, and capital formation. 15 
U.S.C. 78c(f).
    \16\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------

    In light of the heightened security risks to the financial markets 
since the September 11, 2001 attacks on the World Trade Centers in New 
York City, the Commission has worked with the national securities 
exchanges to develop contingency plans and emergency procedures, 
suggesting measures to minimize the potential disruption and market 
impact that a future Disabling Event could cause. The present rule 
change proposal is a direct response to that effort.
    The Commission believes that Phlx's proposed rule changes are 
reasonably designed to address the key elements necessary to mitigate 
the effects of a Disabling Event affecting the Exchange. Specifically, 
the back-up trading arrangements contemplated by proposed Phlx Rule 99 
are intended to ensure that Phlx's exclusively listed and singly listed 
options will have a trading venue in the event that trading at Phlx is 
prevented due to a Disabling Event, thus minimizing potential 
disruptions for the markets and investors under those 
circumstances.\17\ The proposed rule also provides authority for Phlx 
to provide a back-up trading venue should another exchange be affected 
by a Disabling Event.
---------------------------------------------------------------------------

    \17\ The Commission notes that it has approved the basic 
approach set forth in the proposal of deeming a portion of the Back-
up Exchange's facilities to be a facility of the Disabled Exchange. 
See supra note 12.
---------------------------------------------------------------------------

    The Commission likewise finds that the proposed change to the 
Exchange's Fee Schedule is consistent with the Act. By affirming that 
Phlx and, by mutual agreement, the Back-up Exchange will apply the per 
contract and per contract side fees normally applicable to exclusively 
listed options under the Disabled Exchange's fee schedule, the 
Commission believes that the proposed rule change appears to be 
reasonably designed to minimize the disruption associated with back-up 
trading of such options. The proposal also clarifies that, with regard 
to singly listed options, the fees charged shall be those set forth in 
the Back-up Exchange fee schedule where trading occurs at a Back-up 
Exchange, or, where trading occurs at Phlx, the Phlx fee schedule.

IV. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\18\ that the proposed rule change (SR-Phlx-2004-65), as amended by 
Amendment Nos. 1, 2 and 3, is hereby approved.
---------------------------------------------------------------------------

    \18\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\19\
---------------------------------------------------------------------------

    \19\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

Jill M. Peterson,
Assistant Secretary.
[FR Doc. E5-3459 Filed 6-30-05; 8:45 am]
BILLING CODE 8010-01-P