[Federal Register Volume 71, Number 227 (Monday, November 27, 2006)]
[Notices]
[Pages 68655-68657]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E6-19983]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-54779; File No. SR-BSE-2006-48]


Self-Regulatory Organizations; Boston Stock Exchange, Inc.; 
Notice of Filing of Proposed Rule Change To Implement a Quote 
Mitigation Plan

November 17, 2006.
    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 November 15, 2006, 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 substantially prepared by the BSE. 
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 amend the Boston Options Exchange 
(``BOX'') Rules to add a Quote Mitigation Plan. The text of the 
proposed rule change is available on the BSE's Web site at http://www.bostonstock.com, at the BSE's Office of the Secretary, and at the 
Commission's Public Reference Room.

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 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. The Exchange 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
Background and Introduction
    The U.S. options industry has witnessed an explosion in market 
broadcast data traffic over the past six

[[Page 68656]]

years due to a number of factors, including, but not limited to:
     Automation of the quote updating mechanisms used by market 
makers and specialists;
     Two additional, fully automated exchanges;
     Opening of access to market making status at several 
exchanges, resulting in multiple ``quote streamers'' versus the 
previous environment where essentially only one market maker, the 
``specialist'', was able to electronically stream quote updates into 
the exchange trading systems; and
     Proliferation of additional options instruments due to 
additional options classes and narrower intervals between strike prices 
(``dollar pilot'').
    While the trends which have caused the dramatic increase in options 
market data traffic have been to the benefit of the investor in terms 
of improved market quality due to increased competition on the 
liquidity provider side of the market, they are not without costs. 
Specifically, according to the Exchange, the Order Flow Providers 
(``OFPs'') and market data vendors find it increasingly difficult to 
provide real-time and accurate market data to investors without 
contemplating significant increases in the costs to the end users 
(either in the form of higher rates in the case of the data vendors or 
higher commissions in the case of the OFPs). It is common belief that 
this trend will be exacerbated by the implementation of the ``penny 
pilot program'' in January 2007.
    Many observers feel that a point of diminishing returns has been 
reached where the marginal extra cost of yet more traffic is not 
justified in terms of improved market quality or information to the 
investor. Allowing for different levels of service whereby the end user 
would pay for the level of market data he wished to receive (e.g. a 
user wanting real-time, across the board data would pay more than a 
user who only required market data refreshing at, say, half-second 
intervals) has been rejected by the industry as presenting an ``unlevel 
playing field'' which would ultimately be to the detriment of the 
private investor. Furthermore, there are ``firm quote obligations'' 
that each exchange must take into account in any strategy it used to 
reduce traffic.
Quote Mitigation
    The Exchange believes it is possible to significantly reduce 
overall peak market data traffic with a relatively small impact on the 
quality of information available to options market users, due to the 
following:
     Diminishing Returns of Speed: ``Timeliness'' of quote 
updates does indeed have a point of diminishing returns and it is 
likely that, so long as all options traders and investors are receiving 
information at the same rate of ``delay'' from pure ``real time'', they 
are willing to allow similar information to be ``bundled'' and 
broadcast with a reasonable delay. For example, a series with ten 
market makers, all of whom are at the same price on the bid and the 
offer, and who, in response to information on the underlying security's 
price, wish to update their markets to the same new prices (an 
admittedly simplistic assumption) can be managed by simply bundling 
some of the updates so long as the ``slowest'' message due to this 
bundling is no higher than an agreed upon lapse. Using this approach, 
what would have been ten individual updates may be reduced to one 
update, a reduction of 90%.
     All Series Are Not of Equal Interest to Investors: BOX 
presently lists slightly fewer than 500 options classes represented by 
80-85,000 different instruments. Market Makers have an obligation to 
provide continuous two way markets on virtually all of them, 
representing a staggering amount of update traffic if markets are 
turbulent. However, not all of these instruments are of ``equal 
interest'' to options investors. Indeed trading volume tends to 
concentrate on a relatively small percentage of the overall universe of 
instruments; arguably, investors and traders are quite willing to 
tolerate reasonable update delays in those instruments deemed to be of 
lesser interest. For example, over 25% of all series cleared by the 
Options Clearing Corporation (``OCC'') have open interest below 100 
contracts, a reasonable indication that the updates concerning over 
one-quarter of the marketplace are of minimal interest.
     Certain Updates Are More ``Interesting'' Than Others: 
There are three types of updates:
    a. Those that represent a change in price at the top of the book;
    b. Those that represent an increase in quantity at the same price 
at the top of the book; and
    c. Those that represent a decrease in quantity at the same price at 
the top of the book.
    Investors are likely in many cases to tolerate delays in (b) over 
delays in (c) and consider short delays in (a) to be most important of 
the three.
     Reducing Traffic ``Peaks'' Is More Important Than Reducing 
Overall Quote Update Traffic: The costs of Data Vendors and Order Flow 
firms providing market data services to their customers are more 
sensitive to the requirements of managing peak \3\ traffic than they 
are to processing ``normal'' traffic. This is true of most technology 
services since systems generally must be built to manage the ``worst'', 
though they will be, by definition, significantly underutilized over 
the trading day as a result. In other words, the costs of managing 
industry traffic will not be significantly reduced if mitigation only 
reduces overall traffic. Arguably, the biggest ``bang for the buck'' is 
in decreasing peak traffic levels. While the bundling algorithm 
proposed by BOX is likely to be more ``efficient'' (that is, result in 
a proportionally greater reduction of traffic) during busier moments 
like peaks, BOX intends to bundle some of its traffic all of the time, 
since the open interest threshold will be set no lower than 50 
contracts and the bundling lapse at no lower than 200 milliseconds.
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    \3\ There are many definitions of ``peaks''; it is not necessary 
to agree on a precise definition here in order to understand the 
goals. A peak may be defined as either the ``N'' busiest seconds 
over the trading session of roughly 23,000 seconds (where ``N'' is 
likely equal to 100 or fewer or it may be defined as ``those seconds 
where traffic is ``N'' times greater than the average over the 
23,000 seconds of the trading session and ``N'' is set to perhaps 3. 
The point is that the peaks are the exceptional levels that drive 
the scaling and, therefore, the costs, of the data broadcast 
systems.
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BOX Proposal
    BOX believes there are optimal compromises and the accompanying 
rule proposal for ``quote mitigation'' addresses this in the following 
manner:
     Rather than adopt an arbitrary definition of which 
instruments are considered to be ``less interesting,'' BOX proposes to 
``let the market decide'' by basing this on the open interest in 
contracts at the OCC for each instrument. Clearly those series with 
lower open interest are likely to be of less interest to options 
traders and investors. The precise threshold of open interest which 
will determine whether the broadcast of a series is subject to 
mitigation or not will vary according to the degree BOX is meeting its 
stated goals of reducing overall traffic. It is anticipated that this 
threshold could be as high as 300 to 400 contracts, but that it will be 
no lower than 50 contracts. BOX does not propose to apply mitigation to 
instruments which have been listed for fewer than ten trading sessions, 
regardless of the open interest.
     BOX will ``bundle'' at intervals of up to 1,000 
milliseconds (and no less than 200 milliseconds) any changes to its 
broadcast for those instruments which have fallen below the threshold 
in the previous point.

[[Page 68657]]

     BOX will use variable rates of ``bundling'' delays for the 
three different types of broadcast updates: changes in price, increases 
in quantity without a change in price, and decreases in quantity 
without a change in price. Under this proposal, changes in prices may 
be subject to less delay than changes to quantity at same price. For 
example, BOX may apply a ``bundling interval'' of 400 milliseconds to 
updates regarding a price change while using a figure of 1,000 
milliseconds for updates concerning only a change in quantity at the 
same price. The appropriate mix will be determined by the relative 
success BOX is meeting in its overall goals of traffic reduction.
    The Exchange does not propose to apply the above-described bundling 
to traffic relating to price improvement auctions or NBBO exposure 
mechanisms, nor to trade reporting messages. Furthermore, no bundling 
of quotes is proposed for inbound orders and quotes which are sent to 
BOX by users; messaging will only be bundled for outbound updates.
    The Exchange believes this proposal is an optimal trade-off between 
costs and benefits and that it is fully compliant with its firm quote 
obligations. The Exchange further believes that the proposed rule is 
designed to provide the Exchange with a quote mitigation plan which 
will significantly reduce overall peak market data traffic with a 
relatively small impact on the quality of information available to 
options market users.
     BOX's target reduction in outbound peak traffic is 15% to 
20% of what the traffic would have been had no mitigation been applied.
     Reduction in overall traffic, as opposed to peaks, will be 
lower, but still significant, with a target of 8% to 10%.
2. Statutory Basis
    The Exchange believes that the proposed rule change is consistent 
with Section 6(b) of the Act,\4\ in general, and furthers the 
objectives of Section 6(b)(5) of the Act,\5\ in particular, in that the 
proposed rule change is designed to promote just and equitable 
principles of trade, to prevent fraudulent and manipulative acts and 
practices, 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.
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    \4\ 15 U.S.C. 78f(b).
    \5\ 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.

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

    Written comments on the proposed rule change were neither solicited 
nor received.

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, 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 No. SR-BSE-2006-48 on the subject line.

Paper Comments

     Send paper comments in triplicate to Nancy M. Morris, 
Secretary, Securities and Exchange Commission, 100 F Street, NE., 
Washington, DC 20549-1090.
    All submissions should refer to File No. SR-BSE-2006-48. 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 at 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 Room, 100 F Street, NE., 
Washington, DC 20549. Copies of such filing also will be available for 
inspection and copying at the principal office of the Exchange. 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 No. SR-BSE-2006-48 and should be 
submitted on or before December 18, 2006.
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    \6\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\6\
Nancy M. Morris,
Secretary.
[FR Doc. E6-19983 Filed 11-24-06; 8:45 am]
BILLING CODE 8011-01-P