[Federal Register Volume 77, Number 15 (Tuesday, January 24, 2012)]
[Notices]
[Pages 3515-3520]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2012-1276]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-66168; File No. SR-FINRA-2011-058]


Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Order Instituting Proceedings To Determine Whether To 
Disapprove Proposed Rule Change To Amend FINRA Rule 6433 (Minimum 
Quotation Size Requirements for OTC Equity Securities)

January 17, 2012.

I. Introduction

    On October 6, 2011, the Financial Industry Regulatory Authority, 
Inc. (``FINRA'') 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 amend FINRA Rule 6433 (``Rule''), which governs 
minimum quotation size requirements for OTC Equity Securities.\3\ The 
proposed rule change is designed to simplify the Rule's price and size 
tiers; facilitate the display of customer limit orders under new FINRA 
Rule 6460 (Display of Customer Limit Orders) (``FINRA limit order 
display rule'');\4\ and expand the scope of the Rule. The proposed rule 
change was published for comment in the Federal Register on October 20, 
2011.\5\ On November 17, 2011, FINRA consented to extending the time 
period for the Commission to either approve or disapprove the proposed 
rule change or to institute proceedings to determine whether to 
disapprove the proposed rule change, to January 18, 2012. The 
Commission received seven comment letters on the proposal from four 
separate commenters,\6\ as well as two responses

[[Page 3516]]

to the comment letters from FINRA.\7\ This order institutes proceedings 
under Section 19(b)(2)(B) of the Act \8\ to determine whether to 
disapprove the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ ``OTC Equity Security'' means ``any equity security that is 
not an NMS stock as that term is defined in Rule 600(b)(47) of SEC 
Regulation NMS; provided, however, that the term `OTC Equity 
Security' shall not include any Restricted Equity Security.'' See 
FINRA Rule 6420(e).
    \4\ See Securities Exchange Act Release No. 62359 (June 22, 
2010), 75 FR 37488 (June 29, 2010) (Order Approving NMS-Principled 
Rules for OTC Equity Securities) (``NMS-Principled Rules Approval 
Order''). FINRA Rule 6460 became operative on May 9, 2011.
    \5\ See Securities Exchange Act Release No. 65568 (October 14, 
2011), 76 FR 65307 (``Notice'').
    \6\ See Letter from Suzanne H. Shatto, dated October 20, 2011 
(``Shatto Letter''); Letter from Naphtali M. Hamlet, dated October 
21, 2011 (``Hamlet Letter); Letter from Daniel Zinn, General 
Counsel, OTC Markets Group Inc. to Elizabeth M. Murphy, Secretary, 
Commission, dated November 10, 2011 (``OTC Markets Letter I''); 
Letter from Michael T. Corrao, Managing Director, Knight Capital 
Group, Inc. to Elizabeth M. Murphy, Secretary, Commission, dated 
November 16, 2011 (``Knight Letter I''); Letter from R. Cromwell 
Coulson, President & CEO, OTC Markets to Craig Lewis, Commission, 
and Kathleen Hanley, Commission, dated November 18, 2011 (``OTC 
Markets Letter II''); Letter from Daniel Zinn, General Counsel, OTC 
Markets Group Inc. to Elizabeth M. Murphy, Secretary, Commission, 
dated December 30, 2011 (``OTC Markets Letter III''); Letter from 
Michael T. Corrao, Managing Director, Knight Capital Group, Inc. to 
Elizabeth M. Murphy, Secretary, Commission, dated January 13, 2012 
(``Knight Letter II'').
    \7\ See E-mail from Marc Menchel, FINRA to John Ramsay, David S. 
Shillman, and Nancy J. Sanow, Commission, dated November 30, 2011 
(``FINRA Response I''); and Letter from Stephanie M. Dumont, Senior 
Vice President and Director of Capital Markets Policy, FINRA to 
Elizabeth M. Murphy, Secretary, Commission, dated December 23, 2011 
(``FINRA Response II'').
    \8\ 15 U.S.C. 78s(b)(2)(B).
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II. Description of the Proposal

    FINRA proposed changes to the minimum quotation sizes in FINRA Rule 
6433, among other things, to simplify the Rule's price and size tiers; 
facilitate the display of customer limit orders under new FINRA Rule 
6460;\9\ and expand the Rule's scope. In its filing, FINRA noted, among 
other things, that currently FINRA Rule 6433 requires every member 
functioning as an OTC Market Maker \10\ in an OTC Equity Security that 
enters firm quotations into any inter-dealer quotation system that 
permits quotation updates on a real-time basis to honor those 
quotations for certain minimum sizes (``minimum quotation sizes'').\11\
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    \9\ See NMS-Principled Rules Approval Order, supra note 4.
    \10\ OTC Market Maker'' means ``a member of FINRA that holds 
itself out as a market maker by entering proprietary quotations or 
indications of interest for a particular OTC Equity Security in any 
inter-dealer quotation system, including any system that the SEC has 
qualified pursuant to Section 17B of the Act. A member is an OTC 
Market Maker only in those OTC Equity Securities in which it 
displays market making interest via an inter-dealer quotation 
system.'' See FINRA Rule 6420(f).
    \11\ See Notice, supra note 5.
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    In its filing, FINRA explained that OTC Market Makers currently are 
not required to display a customer limit order unless doing so would 
comply with the minimum quotation sizes applicable to the display of 
quotations on an inter-dealer quotation system.\12\ FINRA noted that, 
although a customer limit order may improve price or size by more than 
a de minimus amount, if the order is for an amount less than the 
minimum quotation size set forth in the Rule, the member is not 
required to display the order. FINRA believed that the proposed rule 
change would benefit investors by facilitating the display of customer 
limit orders under FINRA Rule 6460, which generally requires that OTC 
Market Makers fully display better-priced customer limit orders (or 
same-priced customer limit orders that are at the best bid or offer and 
that increase the OTC Market Maker's size by more than a de minimus 
amount).\13\
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    \12\ See Regulatory Notice 10-42 (September 2010).
    \13\ FINRA Rule 6460 was adopted as part of an effort to extend 
certain protections in place for NMS stocks to quoting and trading 
of OTC Equity Securities. See NMS-Principled Rules Approval Order, 
supra note 4. In approving FINRA Rule 6460, the Commission noted 
that ``FINRA's limit order display proposal marks a positive step in 
efforts to improve the transparency of OTC Equity Securities and the 
handling of customer limit orders in this market sector.'' Id.
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    Specifically, FINRA proposed that the minimum quotation size 
required for display of a quotation in an OTC Equity Security would 
fall into one of six tiers rather than the current nine tiers. Under 
the current rule, the tiers are as follows:
     $2500.01 per share and above, the minimum quotation size 
is 1 share;
     $1000.01 through $2500 per share, the minimum quotation 
size is 5 shares;
     $501.01 through $1000 per share, the minimum quotation 
size is 10 shares;
     $200.01 through $500 per share, the minimum quotation size 
is 25 shares;
     $100.01 through 200 per share, the minimum quotation size 
is 100 shares;
     $10.01 through $100 per share, the minimum quotation size 
is 200 shares;
     $1.01 through $10.00 per share, the minimum quotation size 
is 500 shares;
     $0.51 through $1.00 per share, the minimum quotation size 
is 2,500 shares;
     $0.0001 through $0.50 per share, the minimum quotation 
size is 5,000 shares.

Under the new proposal, the tiers are as follows:

     $175.00 per share and above, the minimum quotation size 
would be 1 share;
     $1.00 through $174.99 per share, the minimum quotation 
size would be 100 shares;
     $0.51 through $0.9999 per share, the minimum quotation 
size would be 200 shares;
     $0.26 through $0.5099 per share, the minimum quotation 
size would be 500 shares;
     $0.02 through $0.2599 per share, the minimum quotation 
size would be 1,000 shares;
     $0.0001 through $0.0199 per share, the minimum quotation 
size would be 10,000 shares.
    Based on its study of the Order Audit Trail System (``OATS'') data 
for OTC Equity Securities, as described in the Notice, FINRA believed 
that the proposed modification to the current tiers would result in the 
display of a larger number of customer limit orders, potentially 
increasing from 50% to 90% the number of customer limit orders eligible 
for display in some tiers.\14\ FINRA stated that, for securities priced 
at or above $0.02 per share, the reduction in minimum quotation size 
requirements would cause a greater percentage of customer limit orders 
to be displayed, and that the proposal would continue to require that 
displayed quotations represent a minimum aggregate dollar value 
commitment to the market.\15\
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    \14\ See Notice, supra note 5.
    \15\ Id. For securities priced under $0.02 per share, FINRA 
recognized that more substantive dollar-value commitments to the 
market would be required.
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    FINRA believed that the proposed revisions are appropriate because 
they would simplify the price and size tier structure of FINRA Rule 
6433 and would facilitate the display of customer limit orders 
consistent with FINRA Rule 6460, while still recognizing the utility of 
requiring that quotes in lower-priced securities represent a minimum 
dollar-value commitment to the market. FINRA also believed that the 
proposed revisions would benefit investors by increasing the percentage 
of customer limit orders that would be eligible for display under Rule 
6460, thereby improving transparency and enhancing execution of 
customer limit orders.
    Further, FINRA proposed to expand the scope of the Rule to apply to 
all quotations or orders displayed in an inter-dealer quotation system, 
including quotations displayed by alternative trading systems 
(``ATSs'') or those representing customer trading interest. FINRA noted 
that ATSs have become increasingly active in the over-the-counter 
(``OTC'') markets and believed that the expansion of the scope of the 
Rule would ensure that minimum quotation sizes were observed 
consistently by all members displaying quotations on an inter-dealer 
quotation system. Finally, FINRA noted that the proposed rule would 
incorporate the requirements of FINRA Rule 6434 (Minimum Pricing 
Increments for OTC Equity Securities), which, among other things, 
prohibits members from displaying a bid or offer in an OTC Equity 
Security in an increment smaller than $0.01 if the bid or offer is 
priced $1.00 or greater per share, or in an increment smaller than 
$0.0001 if the bid or offer is priced below $1.00.\16\
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    \16\ See FINRA Rule 6460(b)(8).

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[[Page 3517]]

    FINRA remarked that other existing requirements and obligations are 
not being altered by its proposal. Each member would continue to be 
required to honor its quotations to the full quantity displayed in 
accordance with FINRA Rule 5220 (Offers at Stated Prices), which 
generally provides that no member shall make an offer to buy or sell 
any security at a stated price unless such member is prepared to 
purchase or sell the security at such price and under such conditions 
as are stated at the time of such offer to buy or sell.\17\ Likewise, 
member obligations pursuant to FINRA Rule 5210 (Publication of 
Transactions and Quotations) continue to apply. Among other things, 
FINRA Rule 5210 generally prohibits members from publishing, 
circulating, or causing to be published or circulated, any quotation 
which purports to quote the bid price or asked price for any security, 
unless such member believes that such quotation represents a bona fide 
bid for, or offer of, such security.\18\
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    \17\ See also Rule 5220.01 (Firmness of Quotations).
    \18\ See also Rule 5210.01 (Manipulative and Deceptive 
Quotations).
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III. Comment Letters

    The Commission received seven comment letters on the proposal from 
four commenters.\19\ In addition, FINRA submitted two responses to the 
comment letters.\20\ Commenters generally were supportive of the goal 
of making additional limit orders eligible for display under FINRA Rule 
6460. However, two commenters, in five separate letters, objected to 
the portion of the proposed rule that would revise the minimum 
quotation size requirements.\21\ Specifically, these commenters 
expressed concern that FINRA's proposal lacks sufficient economic 
analysis to demonstrate that the proposed revisions to the minimum 
quotation size requirements would improve liquidity or lower 
transaction costs for investors. On the other hand, one commenter 
suggested that FINRA consider reducing the tier sizes for minimum quote 
sizes even further than proposed in order to provide greater 
transparency to all market participants.\22\ One commenter supported 
the Rule to the extent that it would help prevent manipulative 
practices, but otherwise addressed topics unrelated to the 
proposal.\23\
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    \19\ See supra note 6.
    \20\ See supra note 7.
    \21\ See OTC Markets Letter I, Knight Letter I, OTC Markets 
Letter II, OTC Markets Letter III, and Knight Letter II.
    \22\ See Shatto Letter.
    \23\ See Hamlet Letter.
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    One commenter expressed the view that the proposal could have the 
unintended consequence of negatively impacting the market by removing 
meaningful minimum required dollar value levels of displayed liquidity 
by market makers.\24\ According to the commenter, because the proposed 
levels are significantly lower than currently required levels, the 
proposal potentially could cause a severe degradation in trading 
efficiency, particularly in less liquid securities, and thereby fail to 
meet the proposal's desired goal.\25\ The commenter provided a table to 
detail the change to the minimum dollar value required to be displayed 
by market makers under the proposal.\26\ The commenter believed that 
its table illustrated a significant decrease in dollar value of 
liquidity that market makers would be required to offer at each tier 
level.
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    \24\ See Knight Letter I.
    \25\ See Knight Letter I at p. 1.
    \26\ See Knight Letter I at p. 2.
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    In addition, the commenter believed that, under the proposal, 
market makers would be required to quote insignificant dollar values, 
thereby creating additional operational and trading risks, without 
providing real value to the market.\27\ The commenter further expressed 
concern that any increase in costs to market making liquidity providers 
could result in the departure of market makers and thereby could cause 
an erosion of liquidity.\28\ The commenter recommended further economic 
analysis to study the expected impact of the proposed tier sizes on 
market liquidity (including trading, clearing, related costs, locked 
markets, access fees, trading efficiency and market participant 
behavior), and requested that the Commission conduct an analysis of the 
data.\29\ The commenter suggested that, if the Commission were inclined 
to move forward after such analysis, a limited pilot would allow for 
the assessment of the proposal's impact on market quality while 
minimizing the effects of any unintended consequences.\30\
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    \27\ See id.
    \28\ See id.
    \29\ See id.
    \30\ See id.
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    In another communication, the commenter reiterated its belief that 
the proposal would have serious negative consequences to the OTC 
marketplace and investors, including a significant reduction in 
liquidity, inferior pricing and increased vulnerability to gaming and 
frontrunning.\31\ The commenter expressed concern about the 
consequences likely to result when concepts and rules from the NMS 
market were applied to the OTC market despite different trading 
characteristics between NMS securities and OTC equity securities.\32\ 
The commenter again requested that the Commission evaluate the costs 
and benefits associated with the proposal.\33\ The commenter pointed to 
the prior analysis by the National Association of Securities Dealers, 
Inc., FINRA's predecessor, in connection with tier size reductions in 
Nasdaq securities and suggested that FINRA consider a similar approach 
for the current proposal.\34\
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    \31\ See Knight Letter II at p.1. The commenter noted its 
agreement with the views expressed in OTC Markets Letter III. Id. 
The commenter also included a modified version of the table that was 
in its prior letter. See Knight Letter II at p.3.
    \32\ See id.
    \33\ See Knight Letter II at p. 2.
    \34\ See id. (citing Securities Exchange Act Release No. 40211 
(July 15, 1998), 63 FR 39322 (July 22, 1998) (Order Approving a 
Proposed Rule Change to Permanently Expand the NASD's Rule 
Permitting Market Makers to Display Their Actual Quotation Size)).
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    The commenter expressed the view that non-NMS securities are 
significantly less liquid than NMS securities and that the proposed 
rule change would have an adverse impact on both dealers and 
investors.\35\ The commenter believed that the only possible benefits 
resulting from the proposal would accrue to firms that provide little 
or no liquidity, as those firms would pick-off dealer liquidity at the 
expense of investors.\36\ The commenter further noted that market 
makers like Knight generally do not charge competitors or broker-dealer 
clients commissions or mark-up/mark-downs.\37\ The commenter indicated 
that market makers would continue to pay costs to access liquidity 
under the proposal and that there was a likelihood that market 
participants would gravitate to posting quotations at the minimum tier 
size as they currently do today.\38\ Finally, the commenter reiterated 
its concern that costs could increase for self-clearing firms under the 
proposal and that costs would be more burdensome in the case of non-
DTCC eligible securities (physicals) because those costs were driven by 
the number of settlements as opposed to number of trades.\39\
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    \35\ See Knight Letter II at pp.2-3.
    \36\ See Knight Letter II at p. 3.
    \37\ See id.
    \38\ See id.
    \39\ See Knight Letter II at pp.3-4.
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    Another commenter expressed the view that the reduction of minimum 
quote size requirements ``has not been shown by FINRA to benefit 
investors and has a significant risk that it will

[[Page 3518]]

degrade market quality.'' \40\ The commenter further suggested that 
Regulation NMS-type rules are not appropriate in the context of smaller 
issuers.\41\ The commenter believed that the immediate effect of the 
proposal would be less displayed liquidity, even if the actual 
liquidity were larger, because quotations typically are submitted at 
the minimum size.\42\ The commenter believed that this potential effect 
would lead to more volatility and would increase realized spreads 
because orders ultimately would be filled away from the inside quote, 
thereby raising the cost of trading.\43\
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    \40\ See OTC Markets Letter I at p.1.
    \41\ See id.
    \42\ See OTC Markets Letter I at p.3.
    \43\ See id.
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    The commenter believed that the analysis provided by FINRA was not 
compelling, and cited to public commentators that generally have 
suggested other Regulation NMS-principled rules have harmed the market 
for smaller companies' securities.\44\ The commenter asserted that 
FINRA's statistical analysis concerning the additional percentage of 
customer orders that would be displayed under the proposed rule change 
was flawed, including because it ignored FINRA's quote aggregation 
rules.\45\ According to the commenter, at a minimum, FINRA's analysis 
required further study.\46\ The commenter recommended that the 
Commission's staff review the actual effect of the proposed rule change 
on the display of limit orders.\47\
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    \44\ See OTC Markets Letter I at p. 2.
    \45\ See id.
    \46\ See id.
    \47\ See OTC Markets Letter I at p. 3.
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    In another communication, the commenter again expressed concern 
that FINRA's analysis was flawed.\48\ The commenter suggested that the 
proposal represented a large change in market structure and could 
negatively impact capital formation for small businesses. The commenter 
again requested that the Commission's staff conduct its own economic 
analysis concerning the proposed rule change.
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    \48\ See OTC Markets Letter II.
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    The commenter reiterated its views in its third letter.\49\ The 
commenter again stated its belief that Regulation NMS-type rules were 
not appropriate for the OTC market.\50\ The commenter again suggested 
that FINRA's analysis did not reflect existing customer order 
aggregation requirements; \51\ did not provide information regarding 
dollar and share volume relative to tier sizes; \52\ and did not 
analyze the proposal's potential impact on market orders or proprietary 
quotes.\53\
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    \49\ See OTC Markets Letter III.
    \50\ See OTC Markets Letter III at p.5.
    \51\ See OTC Markets Letter III at p.7.
    \52\ See OTC Markets Letter III at p.8.
    \53\ See OTC Markets Letter III at pp.2-3.
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    The commenter remarked that FINRA's letters responding to the 
comment letters failed to address Section 3(f) of the Act,\54\ which 
requires that whenever, pursuant to the Act, the Commission is engaged 
in rulemaking, or in the review of a rule of a self-regulatory 
organization (``SRO''), and is required to consider or determine 
whether an action is necessary or appropriate in the public interest, 
the Commission shall also consider, in addition to the protection of 
investors, whether the action will promote efficiency, competition, and 
capital formation.\55\ The commenter believed that changing tier sizes 
or quote increments potentially could have a variety of dynamic effects 
on the OTC market.\56\ The commenter stated that it reviewed data 
relating to all trades in OTC equity securities that occurred on 
October 27, 2011, concerning share volume, dollar volume and number of 
trades in relation to the existing and proposed tier sizes.\57\ Based 
on its review, the commenter believed that the proposed rule would not 
significantly increase liquidity but would impose a direct cost on 
investors, particularly investors placing marketable orders.\58\ The 
commenter believed that the proposed rule change would lead most market 
makers to reduce their quote sizes and display less liquidity.\59\ The 
commenter further believed that an extensive decrease in displayed 
proprietary liquidity would ``overwhelmingly offset the benefit of the 
increased number of customer limit orders displayed.'' \60\
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    \54\ 15 U.S.C. 78c(f).
    \55\ See OTC Markets Letter III at pp.2-3.
    \56\ See OTC Markets Letter III at p.4.
    \57\ See OTC Markets Letter III at p.5. The commenter selected 
October 27, 2011 for its review, because that day had the highest 
trading volume of any day that month and, according to the 
commenter, presumably also had the highest amount of investor 
liquidity for that month.
    \58\ See OTC Markets Letter III at p.6.
    \59\ See id.
    \60\ See OTC Markets Letter III at p. 7.
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    FINRA provided two responses addressing issues raised by the 
commenters.\61\ In both of its responses, FINRA noted that the purpose 
of allowing smaller displayed quotes was to allow for the greater use 
of limit orders by investors.\62\ In FINRA Response II, FINRA 
reiterated that the proposed rule change was associated with the FINRA 
limit order display rule, which recently had extended a fundamental 
investor protection to OTC equity securities.\63\ FINRA explained that 
the existing minimum quotation sizes reduced the benefit of its limit 
order display rule because the higher existing levels ``act to restrict 
transparency of a large number of customer limit orders.'' \64\ 
Addressing commenters' concerns about reduced liquidity, FINRA noted 
that the lower minimum quote size would allow for the display of a 
greater number of limit orders. FINRA believed that the larger number 
of quotes would increase competition, and increased competition would 
improve liquidity.\65\ FINRA noted that, although the role of the 
market maker had been reduced in NMS securities, liquidity in NMS 
securities appeared intact.\66\
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    \61\ See supra note 7.
    \62\ See FINRA Response I at p. 1.
    \63\ See FINRA Response II at p. 1.
    \64\ Id.
    \65\ See FINRA Response I at p.1 and FINRA Response II at p. 5, 
n.17. Two commenters stated that market makers might react to the 
proposed rule change by reducing their quote sizes. See Knight 
Letter I at p.1-2 and OTC Markets Letter I at p.3.
    \66\ See FINRA Response I at p. 1.
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    FINRA noted that, to the extent commenters had concerns that 
processing smaller quotes would not be economical, the proposed rule 
change would not mandate the use of smaller quote sizes.\67\ In FINRA 
Response I, FINRA questioned the notion of the proposal resulting in 
additional costs to process additional orders and added that, to the 
extent that the proposed rule might result in additional transactions, 
the costs of clearing such additional transactions would be 
negligible.\68\ FINRA further remarked that, with respect to other 
concerns about transaction costs, FINRA's mark-up rule, which governs 
execution costs, is still applicable and is not being modified by the 
instant proposal.\69\
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    \67\ See FINRA Response I at p.1 and FINRA Response II at p.5, 
n.17. One commenter believed there would be costs associated with 
the operational complexity of clearing increased volumes of smaller 
trades in non-DTC eligible securities. See Knight Letter I at p. 2.
    \68\ See FINRA Response I at p. 1. One commenter believed that 
the proposed rule change would increase transaction costs for 
investors. See OTC Markets Letter I at p. 3.
    \69\ See FINRA Response I at p. 1.
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    In FINRA Response II, FINRA disagreed with one commenter's 
suggestion that the percentage of customer limit orders currently 
displayed under the FINRA limit order display rule already was in line 
with FINRA's estimate of the number of customer limit orders that would 
be displayed under the proposal.\70\ FINRA

[[Page 3519]]

believed that, contrary to the commenter's assertion, broker-dealers 
were unlikely to be in a position to aggregate multiple investor OTC 
equity orders to reach the existing display thresholds, because OTC 
equity securities trade infrequently and at widely varying volume each 
day.\71\ FINRA also noted that, in any event, price transparency should 
not depend upon the expectation that other OTC orders might be placed 
at the same price and around the same time.\72\ Finally, FINRA noted 
that a more recent sample of relevant data further supported its 
position that the proposed rule change would increase the display of 
customer limit orders from 50% under the existing minimum quotation 
size requirements to 90% under the proposal.\73\
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    \70\ See FINRA Response II at p. 3. One commenter believed that 
the FINRA analysis failed to take into account aggregation 
requirements. See OTC Markets Letter I at p. 2.
    \71\ See FINRA Response II at p. 3.
    \72\ See id.
    \73\ See id.
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    In FINRA Response II, FINRA stated its view that the chart 
contained in Knight Letter I was not useful because that the chart did 
not accurately align tier and price points and therefore did not allow 
for an appropriate comparison of the current and proposed rules.\74\ 
FINRA provided a comparison of similar price points and ranges to 
demonstrate that the proposed rule change would increase the dollar 
values for two proposed lower price point tiers and decrease dollar 
values for three proposed higher price point tiers, while the dollar 
values of one proposed price point tier would remain unchanged.\75\ 
FINRA believed that its proposed structure was better for investors, 
more consistent with the national market system, and represented more 
meaningful minimum displayed liquidity at the lowest tiers.\76\ FINRA 
disagreed with the suggestion in Knight Letter I that its proposal 
would degrade market quality or have far reaching effects on liquidity 
and efficiency in the OTC markets, noting again that the commenters 
provided no supporting data linking these alleged harms with the 
proposed rule change.\77\ FINRA reiterated that the likely impact of 
the proposed rule change would be greater displayed customer limit 
orders, as customer orders may be smaller than market maker orders, and 
that this increased display would result in increased price 
transparency.\78\ FINRA noted that the Rule only prescribes the minimum 
sizes required for display, and that market makers may choose to 
display a quotation at the proposed minimum or in excess of the 
proposed minimum, as they do today.\79\
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    \74\ See FINRA Response II at pp. 3-4.
    \75\ See FINRA Response II at p. 4.
    \76\ See id.
    \77\ See FINRA Response II at pp. 4-5.
    \78\ See FINRA Response II at pp. 5-6.
    \79\ See FINRA Response II at p. 6; see also FINRA Response I at 
p. 1.
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    In FINRA Response II, FINRA further noted that several comments 
were not germane to the consideration of the merits of its proposal. 
For example, FINRA did not believe that there was a nexus between the 
proposed rule and the extension of certain other national market 
protections to OTC markets, as stated in the OTC Markets comments,\80\ 
or between the proposed rule and the problems of locked or crossed 
markets, access fees or other issues, as suggested by Knight Letter 
I.\81\
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    \80\ See FINRA Response II at p. 6. One commenter believed 
``NMS-type rules are harmful when applied to smaller companies.'' 
See OTC Markets Letter I at pp. 1-2.
    \81\ See FINRA Response II at p. 6. As noted above, one 
commenter requested that the Commission examine the impact on 
trading, clearing (e.g., the operational complexity of clearing 
increased volumes of smaller trades in non-DTC eligible securities), 
related costs, locked markets, access fees, trading efficiency and 
market participant behavior under the proposed reduced tier sizes. 
See text accompanying note 29 supra.
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    Finally, FINRA Responses I and II also addressed the comment 
process more broadly. In FINRA Response I, FINRA stated that Knight 
Letter I and OTC Markets Letter I made ``unsupported, at points 
unrelated and somewhat vague comments that on their face raise 
questions and ask the Commission to do the commenter's homework.'' \82\ 
FINRA remarked that the ``commenters should bear some burden beyond 
naked assertions that a rule would have a deleterious effect when those 
assertions are neither supported by reasoned argument and/or devoid of 
factual data.'' \83\ FINRA stated that no SRO is required to undertake 
an economic analysis of its rule proposals.\84\ FINRA stated that the 
standards for approving proposed rule changes are set forth in the Act 
and should not be modified arbitrarily.\85\ FINRA believed that a 
comment lacking a sufficient basis to demonstrate a connection between 
the proposal and market quality should not factor into the Commission's 
approval process.\86\ FINRA indicated its view that it would be 
inappropriate for the Commission to give undue weight to unsupported 
assertions in evaluating the proposed rule change.\87\
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    \82\ See FINRA Response I at p. 2.
    \83\ Id.
    \84\ See FINRA Response II at p. 7.
    \85\ See id.
    \86\ See FINRA Response II at pp. 7-8.
    \87\ See FINRA Response II at p. 7.
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IV. Proceedings To Determine Whether To Disapprove SR-FINRA-2011-058 
and Grounds for Disapproval Under Consideration

    The Commission is instituting proceedings pursuant to Section 
19(b)(2)(B) of the Act \88\ to determine whether the proposed rule 
change should be disapproved. Institution of such proceedings is 
appropriate at this time in view of the legal and policy issues that 
are raised by the proposal and are discussed below. Institution of 
disapproval proceedings does not indicate that the Commission has 
reached any conclusions with respect to any of the issues involved. 
Rather, as described in greater detail below, the Commission seeks and 
encourages interested persons to provide additional comment on the 
proposed rule change to inform the Commission's analysis whether to 
approve or disapprove the proposed rule change.
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    \88\ 15 U.S.C. 78s(b)(2)(B).
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    Pursuant to Section 19(b)(2)(B) of the Act, the Commission is 
providing notice of the grounds for disapproval under consideration. In 
particular, Section 15A(b)(6) of the Act \89\ requires that the rules 
of the association be designed, among other things, to prevent 
fraudulent and manipulative acts and practices, to promote just and 
equitable principles of trade, to remove impediments to and perfect the 
mechanism of a free and open market and a national market system and, 
in general, to protect investors and the public interest. In addition, 
Section 15A(b)(11) requires that FINRA rules include provisions 
governing the form and content of quotations relating to securities 
sold otherwise than on a national securities exchange which may be 
distributed or published by any member or person associated with a 
member, and the persons to whom such quotations may be supplied.\90\
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    \89\ 15 U.S.C. 78o-3(b)(6).
    \90\ 15 U.S.C. 78o-3(b)(11).
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    FINRA's proposal would adjust the minimum quotation size 
requirements in FINRA Rule 6433 to simplify the Rule's tier structure; 
facilitate the display of customer limit orders; and expand the scope 
of the Rule to cover quotations by ATSs or quotations representing 
customer trading interest that are displayed in an inter-dealer 
quotation system. FINRA believes that its proposal would benefit 
investors of OTC equity securities because the proposed revisions to 
the Rule's tier structure would result in the display of a greater 
number of customer limit orders for these securities than currently 
occurs under the Rule. In FINRA's view,

[[Page 3520]]

the benefits to investors are reduced if the Rule's minimum quotation 
sizes are too high and thus act to restrict transparency for customer 
limit orders for OTC equity securities. FINRA based its conclusion that 
a larger number of customer limit orders would be displayed under its 
proposal on its analysis of a recent sample of OATS data.
    Two commenters favored the proposal. On the other hand, the 
commenters that are an OTC market maker and an inter-dealer quotation 
system, respectively, disputed the need to revise the Rule's current 
tier structure. One of these commenters argued that FINRA has not 
adequately demonstrated that revisions to the minimum quotation size 
requirements for OTC equity securities would benefit investors and 
instead countered that the proposal would degrade the quality of the 
market for these securities. The other commenter that objected to the 
proposal believed that the proposal could impact market liquidity and 
increase costs to market makers, which could result in market makers' 
departure from the OTC market. Both of these commenters urged that the 
Commission undertake an economic analysis of the anticipated effects of 
the proposal as part of its consideration and suggested that, if the 
Commission decided to move forward on the proposal, it should consider 
placing the proposed changes to the Rule's tier structure on a pilot 
program.
    The Commission believes that questions are raised as to whether 
FINRA's proposal is consistent with the requirements of Section 
15A(b)(6) of the Act, including whether the proposed adjustments to the 
minimum quote size requirements would prevent fraudulent and 
manipulative acts and practices, promote just and equitable principles 
of trade, remove impediments to and perfect the mechanism of a free and 
open market and a national market system, and, in general, protect 
investors and the public interest, and with the requirements of Section 
15A(b)(11) of the Act, including whether the proposed rule change would 
produce fair and informative quotations, prevent fictitious or 
misleading quotations, and promote orderly procedures for collecting, 
distributing, and publishing quotations. While investors who place 
customer limit orders that are smaller in size than the Rule's current 
minimum quotation size requirements would benefit from the proposed 
revisions, market quality for OTC equity securities potentially could 
be affected if the proposed tier sizes are not calibrated 
appropriately. The Commission believes that the issues raised by the 
proposed rule change can benefit from additional consideration and 
evaluation.

VI. Procedure: Request for Written Comments

    The Commission requests that interested persons provide written 
submissions of their views, data and arguments with respect to the 
concerns identified above, as well as any others they may have with the 
proposal. In particular, the Commission invites the written views of 
interested persons concerning whether the proposed rule change is 
inconsistent with Sections 15A(b)(6) and 15A(b)(11) or any other 
provision of the Act, or the rules and regulations thereunder. Although 
there do not appear to be any issues relevant to approval or 
disapproval that would be facilitated by an oral presentation of views, 
data, and arguments, the Commission will consider, pursuant to Rule 
19b-4, any request for an opportunity to make an oral presentation.\91\
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    \91\ Section 19(b)(2) of the Act, as amended by the Securities 
Act Amendments of 1975, Pub. L. 94-29 (June 4, 1975), grants the 
Commission flexibility to determine what type of proceeding--either 
oral or notice and opportunity for written comments--is appropriate 
for consideration of a particular proposal by a self-regulatory 
organization. See Securities Act Amendments of 1975, Senate Comm. on 
Banking, Housing & Urban Affairs, S. Rep. No. 75, 94th Cong., 1st 
Sess. 30 (1975).
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    Interested persons are invited to submit written data, views and 
arguments regarding whether the proposed rule change should be 
disapproved by February 14, 2012. Any person who wishes to file a 
rebuttal to any other person's submission must file that rebuttal by 
February 28, 2012.
    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 email to [email protected]. Please include 
File Number SR-FINRA-2011-058 on the subject line.

Paper Comments

     Send paper comments in triplicate to Elizabeth M. Murphy, 
Secretary, Securities and Exchange Commission, 100 F Street NE., 
Washington, DC 20549-1090.

All submissions should refer to File Number SR-FINRA-2011-058. This 
file number should be included on the subject line if email 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 Web site viewing and 
printing in the Commission's Public Reference Room, 100 F Street NE., 
Washington, DC 20549, on official business days between the hours of 10 
a.m. and 3 p.m. Copies of such filing also will be available for 
inspection and copying at the principal office of FINRA. 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-FINRA-2011-058 and should be 
submitted on or before February 14, 2012. Rebuttal comments should be 
submitted by February 28, 2012.
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    \92\ 17 CFR 200.30-3(a)(57).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\92\
Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2012-1276 Filed 1-23-12; 8:45 am]
BILLING CODE 8011-01-P