[Federal Register Volume 77, Number 29 (Monday, February 13, 2012)]
[Notices]
[Pages 7628-7634]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2012-3219]



[[Page 7628]]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-66346; File Nos. SR-NYSE-2011-55; SR-NYSEAmex-2011-84]


Self-Regulatory Organizations; New York Stock Exchange LLC; NYSE 
Amex LLC; Order Instituting Proceedings To Determine Whether To 
Disapprove Proposed Rule Changes, as Modified by Amendments No. 1, 
Adopting NYSE Rule 107C To Establish a Retail Liquidity Program for 
NYSE-Listed Securities on a Pilot Basis Until 12 Months From 
Implementation Date, Which Shall Occur No Later Than 90 Days After 
Approval, If Granted and Adopting NYSE Amex Rule 107C To Establish a 
Retail Liquidity Program for NYSE Amex Equities Traded Securities on a 
Pilot Basis Until 12 Months From Implementation Date, Which Shall Occur 
No Later Than 90 Days After Approval, If Granted

February 7, 2012.

I. Introduction

    On October 19, 2011, New York Stock Exchange LLC (``NYSE'') and 
NYSE Amex LLC (``NYSE Amex'' and together with NYSE, the ``Exchanges'') 
each 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 a Retail Liquidity Program (``Program'') on a pilot basis for 
a period of one year from the date of implementation, if approved. The 
proposed rule changes were published for comment in the Federal 
Register on November 9, 2011.\3\ The Commission received 28 comments on 
the NYSE proposal \4\ and 4 comments on the NYSE Amex proposal.\5\ On 
December 19, 2011, the Commission designated a longer period for 
Commission action on the proposed rule change, until February 7, 
2012.\6\ In connection with the proposals, the Exchanges requested 
exemptive relief from Rule 612(c) of Regulation NMS,\7\ which prohibits 
a national securities exchange from accepting or ranking certain orders 
based on an increment smaller than the minimum pricing increment.\8\ 
The Exchanges submitted a consolidated response letter on January 3, 
2012.\9\ On January 17, 2012, each Exchange filed Amendment No. 1 to 
its proposal.\10\
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Securities Exchange Act Release Nos. 65671 (November 2, 
2011), 76 FR 69774 (SR-NYSE Amex-2011-84); 65672 (November 2, 2011), 
76 FR 69788 (SR-NYSE-2011-55).
    \4\ See Letters to the Commission from Sal Arnuk, Joe Saluzzi 
and Paul Zajac, Themis Trading LLC, dated October 17, 2011 (``Themis 
Letter''); Garret Cook, dated November 4, 2011 (``Cook Letter''); 
James Johannes, dated November 27, 2011 (``Johannes Letter''); Ken 
Voorhies, dated November 28, 2011 (``Voorhies Letter''); William 
Wuepper, dated November 28, 2011 (``Wuepper Letter''); A. Joseph, 
dated November 28, 2011 (``Joseph Letter''); Leonard Amoruso, 
General Counsel, Knight Capital, Inc., dated November 28, 2011 
(``Knight Letter''); Kevin Basic, dated November 28, 2011 (``Basic 
Letter''); J. Fournier, dated November 28, 2011 (Fournier Letter''); 
Ullrich Fischer, CTO, PairCo, dated November 28, 2011 (``PairCo 
Letter''); James Angel, Associate Professor of Finance, McDonough 
School of Business, Georgetown University, dated November 28, 2011 
(``Angel Letter''); Jordan Wollin, dated November 29, 2011 (``Wollin 
Letter''); Aaron Schafter, President, Great Mountain Capital 
Management LLC, dated November 29, 2011 (``Great Mountain Capital 
Letter''); Wayne Koch, Trader, Bright Trading, dated November 29, 
2011 (``Koch Letter''); Kurt Schact, CFA, Managing Director, and 
James Allen, CFA, Head, Capital Markets Policy, CFA Institute, dated 
November 30, 2011 (``CFA Letter''); David Green, Bright Trading, 
dated November 30, 2011 (``Green Letter''); Robert Bright, Chief 
Executive Officer, and Dennis Dick, CFA, Market Structure 
Consultant, Bright Trading LLC, dated November 30, 2011 (``Bright 
Trading Letter''); Bodil Jelsness, dated November 30, 2011 
(``Jelsness Letter''); Christopher Nagy, Managing Director, Order 
Routing and Market Data Strategy, TD Ameritrade, dated November 30, 
2011 (``TD Ameritrade Letter''); Laura Kenney, dated November 30, 
2011 (``Kenney Letter''); Suhas Daftuar, Hudson River Trading LLC, 
dated November 30, 2011 (``Hudson River Trading Letter''); Bosier 
Parsons, Bright Trading LLC, dated November 30, 2011 (``Parsons 
Letter''); Mike Stewart, Head of Global Equities, UBS, dated 
November 30, 2011 (``UBS Letter''); Dr. Larry Paden, Bright Trading, 
dated December 1, 2011 (``Paden Letter''); Thomas Dercks, dated 
December 1, 2011 (``Dercks Letter''); Eric Swanson, Secretary, BATS 
Global Markets, Inc., dated December 6, 2011 (``BATS Letter''); Ann 
Vlcek, Director and Associate General Counsel, Securities Industry 
and Financial Markets Association, dated December 7, 2011 (``SIFMA 
Letter''); and Al Patten, dated December 29, 2011 (``Patten 
Letter'').
    \5\ See Knight Letter; CFA Letter; TD Ameritrade Letter; and 
letter to the Commission from Shannon Jennewein, dated November 30, 
2011 (``Jennewein Letter'').
    \6\ See Securities Exchange Act Release No. 66003, 76 FR 80445 
(December 23, 2011).
    \7\ 17 CFR 242.612(c).
    \8\ The Exchanges amended the exemptive relief request on 
January 13, 2012. See Letter from Janet M. McGinness, Senior Vice 
President--Legal and Corporate Secretary, Office of the General 
Counsel, NYSE Euronext to Elizabeth M. Murphy, Secretary, 
Commission.
    \9\ See Letter to the Commission from Janet McGinnis, Senior 
Vice President, Legal & Corporate Secretary, Legal & Government 
Affairs, NYSE Euronext, dated January 3, 2012 (``Exchanges' Response 
Letter'').
    \10\ In Amendment No. 1, the Exchanges modified the proposals as 
follows: (1) To state that Retail Member Organizations may receive 
free executions for their retail orders and the fees and credits for 
liquidity providers and Retail Member Organizations would be 
determined based on experience with the Retail Liquidity Program in 
the first several months; (2) to correct a typographical error 
referring to the amount of minimum price improvement on a 500 share 
order; (3) to indicate the Retail Liquidity Identifier would be 
initially available on each Exchange's proprietary data feeds, and 
would be later available on the public market data stream; and (4) 
to limit the Retail Liquidity Program to securities that trade at 
prices equal to or greater than $1 per share.
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    This order institutes proceedings under Section 19(b)(2)(B) of the 
Act to determine whether to disapprove the proposed rule changes.

II. Description of the Proposals

    Each Exchange is proposing to establish a Retail Liquidity Program 
on a pilot basis, limited to trades occurring at prices equal to or 
greater than $1.00 per share. According to the Exchanges, the Retail 
Liquidity Program is intended to attract retail order flow to the NYSE 
for NYSE-listed securities, and to NYSE Amex for NYSE Amex-listed 
securities as well as securities listed on the Nasdaq Stock Market and 
traded pursuant to unlisted trading privileges. The proposed Retail 
Liquidity Program would allow such order flow to receive potential 
price improvement.
    Under the proposed Program, a new class of market participants 
called Retail Member Organizations could submit a new type of order, 
called a Retail Order, to the Exchange. Once a Retail Member 
Organization submitted a Retail Order, a new class of market 
participants called Retail Liquidity Providers would then be required 
to provide potential price improvement, in the form of non-displayed 
interest that is better than the best protected bid or offer 
(``PBBO''),\11\ called a Retail Price Improvement Order. Other Exchange 
member organizations would be allowed, but not required, to submit 
Retail Price Improvement Orders. The Exchanges would approve member 
organizations to be Retail Liquidity Providers and/or Retail Member 
Organizations.
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    \11\ The terms protected bid and protected offer would have the 
same meaning as defined in Rule 600(b)(57) of Regulation NMS. Rule 
600(b)(57) of Regulation NMS defines ``protected bid'' and 
``protected offer'' as ``a quotation in an NMS stock that: (i) [i]s 
displayed by an automated trading center; (ii) [i]s disseminated 
pursuant to an effective national market system plan; and (iii) [i]s 
an automated quotation that is the best bid or best offer of a 
national securities exchange, the best bid or best offer of the 
Nasdaq Stock Market, Inc., or the best bid or best offer of a 
national securities association other than the best bid or best 
offer of the Nasdaq Stock Market, Inc.'' 17 CFR 242.600(b)(57).
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Types of Orders and Identifier

    As set forth in the proposals, a Retail Order would be an immediate 
or cancel order, and could have two different sources of origination. A 
Retail Order could be an agency order that originated from a natural 
person and not a trading algorithm or any other computerized 
methodology. The Retail Member Organization may not alter the terms of 
such order with respect to price or side

[[Page 7629]]

of the market. Alternately, Retail Order could be proprietary order of 
a Retail Member Organization that resulted from liquidating a position 
acquired from the internalization of a Retail Order.
    The Retail Liquidity Provider would be required to submit Retail 
Price Improvement Orders for securities that are assigned to the Retail 
Liquidity Provider. The Retail Price Improvement Order would be priced 
better than the PBBO by at least $0.001. The Exchange systems would 
determine whether a Retail Price Improvement Order could interact with 
incoming Retail Orders.
    When a Retail Price Improvement Order is available, the Exchange 
would disseminate an identifier, called a Retail Liquidity Identifier. 
The identifier would initially be disseminated through an Exchange 
proprietary data feed, and as soon as practicable, the Exchange would 
disseminate the identifier through the Consolidated Quotation System.

Retail Member Organizations

    In order to become a Retail Member Organization, an Exchange member 
organization must conduct a retail business or handle retail orders on 
behalf of another broker-dealer. The member organization must submit an 
application with supporting documentation and an attestation to the 
Exchange that the order flow would qualify as Retail Orders.
    The Exchange would review the application and notify the member 
organization of the Exchange's decision in writing. If a member 
organization did not receive approval to become a Retail Member 
Organization, then the member organization could appeal as provided 
below or reapply 90 days after the Exchange issued the disapproval.
    The Exchange would require a Retail Member Organization to have 
written policies and procedures in place to assure that only bona fide 
retail orders are designated as such. The written policies and 
procedures would require that the Retail Member Organization exercise 
due diligence to assure that entry of a Retail Order is in compliance 
with the proposed rule, prior to such entry. In addition, the Retail 
Member Organization must monitor whether the Retail Order meets the 
requirements of the proposed rule.
    If the Retail Member Organization represented the Retail Order from 
another broker-dealer, then the Retail Member Organization must have 
adequate supervisory procedures to assure that the Retail Order meets 
the proposed definition. Every year, the Retail Member Organization 
must obtain from each broker-dealer a written representation that the 
Retail Orders the broker-dealer sends comply with the proposed rule and 
must monitor the broker-dealer's order flow to meet the requirements of 
the proposed rule.

Retail Order Interactions

    Under the proposal, a Retail Member submitting a Retail Order could 
choose one of three ways for the Retail Order to interact with 
available contra-side interest. First, a Retail Order could interact 
only with available contra-side Retail Price Improvement Orders. The 
Exchange would label this a Type 1 Retail Order and such orders would 
not interact with other available contra-side interest in Exchange 
systems or route to other markets. Portions not executed would be 
cancelled.
    Second, a Retail Order could interact first with available contra-
side Retail Price Improvement Orders and any remaining portion would be 
executed as a Regulation NMS-compliant Immediate or Cancel Order (such 
order would sweep the Exchange's book without being routed to other 
markets, and any remaining portion would be cancelled). The Exchange 
would label this a Type 2 Retail Order.
    Finally, a Retail Order could interact first with available contra-
side Retail Price Improvement Orders and any remaining portion would be 
executed as a NYSE Immediate or Cancel Order (such order would sweep 
the Exchange's book and be routed to other markets to comply with 
Regulation NMS and any remaining portion would be cancelled). The 
Exchange would label this a Type 3 Retail Order.

Priority and Allocation

    The proposals set forth how Retail Price Improvement Orders are 
ranked in the same security. The Exchange would follow a price and time 
allocation, ranking Retail Price Improvement Orders according to price 
and then time of entry. Executions would occur at the price that 
completes the incoming order. If there are remaining Retail Price 
Improvement Orders, they would be available for further incoming Retail 
Orders. As noted earlier, Retail Orders not executed would be 
cancelled.

Retail Liquidity Providers Qualifications and Admission

    The proposed rule would set forth the qualifications, application 
process, requirements, and penalties of Retail Liquidity Providers.
    To qualify, a member organization must be approved as a Designated 
Market Maker \12\ or Supplemental Liquidity Provider \13\ on the 
Exchange and demonstrate an ability to meet the requirements of a 
Retail Liquidity Provider. Moreover, the member organization must have 
mnemonics or the ability to accommodate other Exchange-supplied 
designations that identify to the Exchange Retail Liquidity Provider 
trading activity in assigned securities.\14\ Finally, to qualify, the 
member organization must have adequate trading infrastructure and 
technology to support electronic trading.
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    \12\ See NYSE Rule 103 and NYSE Amex Rule 103.
    \13\ See NYSE Rule 107B and NYSE Amex Rule 107B.
    \14\ The member organization would not be allowed to use the 
mnemonic or designation for non-Retail Liquidity Provider trading 
activities. Further, the member organization would not receive 
credit for Retail Liquidity Provider trading activity if the member 
organization did not use mnemonic or designation.
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    A member organization must submit an application with supporting 
documentation to the Exchange. Thereafter, the Exchange would notify 
whether the member organization is approved as a Retail Liquidity 
Provider. More than one member organization could act as a Retail 
Liquidity Provider for a security, and a member organization could act 
as a Retail Liquidity Provider for more than one security. A member 
organization could request the Exchange to be assigned certain 
securities. Once approved, the member organization must establish 
connectivity with relevant Exchange systems prior to trading.
    The Exchange would notify a member organization in writing if the 
Exchange does not approve the member organization's application to be a 
Retail Liquidity Provider. Such member organization could request an 
appeal as provided below. The member organization could also reapply 90 
days after the Exchange issues the disapproval notice.
    Once approved as a Retail Liquidity Provider, a member organization 
could withdraw by providing notice to the Exchange. The withdrawal 
would become effective when the Exchange reassigns the securities to 
another Retail Liquidity Provider, no later than 30 days after the 
Exchange receives the withdrawal notice. In the event that the Exchange 
takes longer than 30 days to reassign the securities, the withdrawing 
Retail Liquidity Provider would have no further obligations under the 
proposed rule.

Retail Liquidity Provider Requirements

    The proposed rule would impose several requirements on Retail 
Liquidity Providers. First, a Retail Liquidity

[[Page 7630]]

Provider could only enter a Retail Price Improvement Order 
electronically into Exchange systems specifically designated for this 
purpose, and only for the securities to which the Retail Liquidity 
Provider is assigned. The Retail Liquidity Provider must maintain 
Retail Price Improvement Orders that are better than the PBBO at least 
5% of the trading day for each assigned security.
    To calculate the 5% quoting requirement, the Exchange would 
determine the average percentage of time a Retail Liquidity Provider 
maintains a Retail Price Improvement Order in each assigned security 
during the regular trading day on a daily and monthly basis. The 
Exchange would use the following definitions. The ``Daily Bid 
Percentage'' would be calculated by determining the percentage of time 
a Retail Liquidity Provider maintains a Retail Price Improvement Order 
with respect to the best protected bid during each trading day for a 
calendar month. The ``Daily Offer Percentage'' would be calculated by 
determining the percentage of time a Retail Liquidity Provider 
maintains a Retail Price Improvement Order with respect to the best 
protected offer during each trading day for a calendar month. The 
``Monthly Average Bid Percentage'' would be calculated for each 
security by summing the security's ``Daily Bid Percentages'' for each 
trading day in a calendar month, then dividing the resulting sum by the 
total number of trading days in such month. The ``Monthly Average Offer 
Percentage'' would be calculated for each security by summing the 
security's ``Daily Offer Percentages'' for each trading day in a 
calendar month, then dividing the resulting sum by the total number of 
trading days in such month.
    The proposed rule specifies that only Retail Price Improvement 
Orders entered through the trading day would be used when calculating 
the 5% quoting requirements. Further, a Retail Liquidity Provider would 
have a two-month grace period from the 5% quoting requirement. The 
Exchange would impose the 5% quoting requirements on the first day of 
the third consecutive calendar month after the member organization 
began operation as a Retail Liquidity Provider.

Penalties for Failure To Meet Requirements

    The proposed rules provide for penalties when a Retail Liquidity 
Provider or a Retail Member Organization fails to meet the requirements 
of the rule.
    If a Retail Liquidity Provider fails to meet the 5% quoting 
requirements in any assigned securities for three consecutive months, 
the Exchange, in its sole discretion, may: (1) Revoke the assignment of 
all affected securities; (2) revoke the assignment of unaffected 
securities; or (3) disqualify the member organization to serve as a 
Retail Liquidity Provider. If the Exchange moves to disqualify a Retail 
Liquidity Provider's status, then the Exchange would notify, in 
writing, the Retail Liquidity Provider one calendar month prior to the 
determination. Likewise, the Exchange would notify the Retail Liquidity 
Provider in writing if the Exchange determined to disqualify the status 
of that Retail Liquidity Provider. As noted earlier, a Retail Liquidity 
Provider that is disqualified may appeal as provided below or reapply.
    With respect to Retail Member Organizations, the Exchange could 
disqualify a Retail Member Organization if the Retail Order submitted 
by the Retail Member Organization did not comply with the requirements 
of the proposed rule. The Exchange would have sole discretion to make 
such determination. The Exchange would provide written notice to the 
Retail Member Organization when disqualification determinations are 
made. Similar to a disqualified Retail Liquidity Provider, a 
disqualified Retail Member Organization could appeal as provided below 
or reapply.

Appeal Process

    Under the proposals, the Exchange would establish a Retail 
Liquidity Program Panel to review disapproval or disqualification 
decisions. An affected member organization would have five business 
days after notice to request an adverse review. If a member 
organization is disqualified as a Retail Liquidity Provider and has 
appealed, the Exchange would stay the reassignment of securities.
    The Panel would consist of the Exchange's Chief Regulatory Officer 
or its designee, and two officers of the Exchange as designated by the 
co-head of U.S. Listings and Cash Execution. The Panel would review the 
appeal and issue a decision within the time frame prescribed by the 
Exchange. The Panel's decision would constitute final action by the 
Exchange, and the Panel could modify or overturn any Exchange action 
taken under the proposed rule.

III. Comments Letters and the Exchanges' Response

    As noted above, the Commission received 28 comment letters 
concerning the NYSE proposal and 4 comment letters concerning the NYSE 
Amex proposal. Several commenters expressed support for some or all 
elements of the Exchanges' proposed Program.\15\ For instance, one 
commenter expressed general support for the proposals \16\ and another 
commenter offered support for the Exchanges' efforts to enhance price 
competition for retail customer order flow.\17\ Another commenter was 
supportive of the proposals to the extent they promoted transparency, 
competition, efficiency, and greater investor choice in the capital 
markets.\18\ Two other commenters expressed broad support for the 
proposals' potential to benefit individual retail investors.\19\
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    \15\ See Johannes Letter, Knight Letter, Angel Letter, TD 
Ameritrade Letter, UBS Letter, Dercks Letter, and BATS Letter.
    \16\ See TD Ameritrade Letter (stating that the proposals are 
``quite appealing'' to the interests of ``fair and transparent 
markets that benefit retail investors'' although there were still 
specific issues to be addressed).
    \17\ See BATS Letter.
    \18\ See UBS Letter.
    \19\ See Johannes Letter and Dercks Letter.
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    However, a number of commenters raised concerns about the proposed 
rule changes. The main areas of concern were: (1) The time and manner 
of the Commission's action on the proposed rule changes, given the 
potential impact on overall market structure; (2) the proposals' impact 
on the Sub-Penny Rule; (3) whether the proposals impede fair access; 
and (4) whether the proposals implicate rules and standards relating to 
best execution and order protection.
1. Time and Manner of Commission Action
    Several commenters requested that the Commission delay taking 
action on the proposals until the Commission has had additional time to 
examine the proposals' potential impact on market structure.\20\ For 
example, several commenters stated their belief that the issues raised 
by the proposals should be considered through Commission rulemaking, 
rather than through a self-regulatory organization's proposed rule 
change, because of the proposals' impact on the Sub-Penny Rule (Rule 
612) of Regulation NMS \21\ as well as the competitive landscape of the 
markets.\22\ Commenters questioned whether the standard action period 
applicable to self-regulatory organizations' proposed rule changes was 
enough time for the Commission to analyze relevant data

[[Page 7631]]

and sufficiently consider the effects the proposals might have on the 
equities markets.\23\ Another commenter did not oppose Commission 
approval of the proposals on a pilot basis, but cautioned that to the 
extent the Commission approves an effective reduction in the minimum 
price variation, or ``tick size,'' below $0.01, the Commission should 
do so on the basis of industry-wide pilot studies that test various 
tick sizes and publish the studies' data for public review and 
comment.\24\
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    \20\ In contrast, one commenter requested the Commission to 
expedite approval of the proposals. See Johannes Letter.
    \21\ See Knight Letter and SIFMA Letter.
    \22\ See Knight Letter and Hudson River Trading Letter.
    \23\ See Knight Letter and SIFMA Letter.
    \24\ See Angel Letter. Expressing similar general concerns but 
not offering specific comment on the proposal, one commenter urged 
the Commission to exercise caution when considering expert testimony 
offered by for-profit industry participants as it relates to market 
structure regulation. See Themis Letter.
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    The Exchanges responded that the proposed Program is designed to 
attract retail order flow to the Exchanges by competing with the 
current practices of broker-dealers who internalize much of the 
market's retail order flow. Additionally, the Exchanges represent that 
the fees and credits they would implement as part of the Program would 
replicate the current structure between over-the-counter 
internalization venues and retail order flow providers.\25\
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    \25\ See also UBS Letter (stating that the proposed programs 
would not necessarily lead to more sub-penny activity, but would 
rather shift some of that activity from the over-the-counter markets 
to the Exchanges).
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2. Impact on the Sub-Penny Rule
    A number of commenters raised concerns about the proposed Program's 
use of sub-penny price improvement for retail order flow, and its 
implications with respect to the Sub-Penny Rule (Rule 612) of 
Regulation NMS.\26\ One commenter noted that by accepting and ranking 
non-displayed orders in sub-penny increments, the proposals could 
discourage liquidity by allowing ``dark'' liquidity to step ahead of 
posted limit orders for only a trivial amount.\27\ The same commenter 
observed that allowing non-displayed liquidity to gain an execution 
advantage over posted limit orders for trivial per share amounts could 
result in wider bid-ask spreads.\28\
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    \26\ See 17 CFR 242.612.
    \27\ See Angel Letter.
    \28\ Id.
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    Other commenters articulated similar concerns about the protection 
of public limit orders and public price discovery,\29\ and one 
commenter stated that the proposals might lead to a potential increase 
in sub-penny trading.\30\ In addition, one commenter pointed out the 
potential technical systems and capacity issues that could result from 
effectively reducing the minimum price variant from $.01 to $.001, 
thereby substantially increasing the number of price points between 
each dollar level.\31\
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    \29\ See Voorhies Letter; Joseph Letter; Fournier Letter; PairCo 
Letter; Wollin Letter; Great Mountain Capital Letter; Koch Letter; 
CFA Institute Letter; Green Letter; Bright Trading Letter; TD 
Ameritrade Letter; Kenney Letter; Parsons Letter; and BATS Letter.
    \30\ See TD Ameritrade Letter.
    \31\ See Knight Letter.
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    In response, the Exchanges stated that currently, over-the-counter 
market makers internalize retail order flow at negotiated prices and 
not at their publicly displayed quotes. The Exchanges believe that this 
aspect of the market warrants further Commission consideration, but 
argued that it does not provide independent basis to disapprove the 
proposals.
    The Exchanges also stated that the bulk of commenters' concerns 
about non-displayed liquidity stepping ahead of displayed limit orders 
for insignificant amounts are misguided. According to the Exchanges, 
the Commission's stated guidance with respect to the Sub-Penny Rule 
concerns market professionals using displayed orders to gain execution 
priority over customer limit orders. The Exchanges distinguished the 
proposed Program from such concerns by noting that the Retail Liquidity 
Identifier would not be priced and Retail Price Improvement Orders 
would not be displayed. Accordingly, the Exchanges contend that the 
Program would limit its sub-penny activity to sub-penny executions, and 
they cite to a statement in the Regulation NMS adopting release 
articulating the Commission's belief that sub-penny executions do not 
raise the same concerns as displayed sub-penny quotes. Similarly, in 
response to comments about the consequences of moving the ``tick size'' 
to $0.001, the Exchanges stated that the ``tick size'' would not in 
fact be altered because the sub-penny components of the Program would 
not be displayed.
    Finally, in response to the concern that the proposals might lead 
to more sub-penny trading, the Exchanges stated that they do not 
anticipate such a result. Instead, the Exchanges stated their belief 
that the proposals would likely reallocate existing retail order market 
share, which the Exchanges stated that is already subject to 
``regular'' sub-penny executions due to current internalization 
agreements. Moreover, the Exchanges further stated that if the 
proposals led to additional sub-penny executions for retail order flow, 
then it would benefit the market as retail investors would be receiving 
greater price improvement than they are today.
3. Fair Access
    Commenters also highlighted several elements of the Program that 
potentially implicate the Commission's rules governing fair access. 
First, several commenters raised questions about whether the proposals 
would, in essence, create a private market. Some commenters wrote that 
the proposed segmentation of retail order flow would amount to unfair 
discrimination,\32\ for example, by creating trading interest that 
would not be accessible by institutional investors.\33\ One commenter 
suggested that the proposed Program would be akin to operating a 
limited access dark pool that could have the effect of creating a two-
tiered market.\34\ Relatedly, some commenters took issue with the 
proposals to the extent that the Retail Liquidity Identifier would be 
disseminated only through a proprietary data feed rather than the 
public market data stream.\35\ These commenters felt that limiting 
dissemination of the Retail Liquidity Identifier to a proprietary data 
feed could unfairly harm small firms who do not pay for the proprietary 
feed \36\ or create a private, two-tiered market where those who can 
afford the proprietary feed receive the best prices.\37\
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    \32\ See CFA Institute Letter and Hudson River Trading Letter. 
At least one commenter took the opposite view and supported market 
participant segmentation programs so long as such segmentation is 
done in an objective and transparent manner. See UBS Letter.
    \33\ See SIFMA Letter.
    \34\ See Knight Letter.
    \35\ See SIFMA Letter and BATS Letter. As noted below, the 
Exchanges amended their proposals to indicate their intent to 
disseminate the Retail Liquidity Identifier through the public data 
feed as soon as practicable.
    \36\ See SIFMA Letter.
    \37\ See BATS Letter.
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    The Exchanges responded that the proposals do not create a fair 
access issue because the Retail Liquidity Identifier does not satisfy 
the definition of ``quotation'' under Regulation NMS. The Exchanges 
stated their belief that the Retail Liquidity Identifier is not a 
protected ``quotation'' because a ``quotation'' is, by definition, a 
``bid or an offer,'' \38\ terms which are in turn defined as the price 
``communicated by a member of a national securities exchange or member 
of a national securities association to any broker or dealer, or to any 
customer, at which it is willing to buy or sell one or more round lots 
of an NMS security, either as

[[Page 7632]]

principal or agent, but shall not include indications of interest.'' 
\39\ The Exchanges stated their belief that the Retail Liquidity 
Identifier falls beyond the definition of ``bid'' or ``offer'' because 
the identifier would not contain a price. According to the Exchanges, 
there would be no fairness issue in signifying the presence of 
liquidity by distributing the Retail Liquidity Identifier through a 
proprietary data feed, especially because participation in the proposed 
program would be discretionary, likely reduce message traffic from 
``pinging,'' and potentially stimulate additional price competition to 
the benefit of retail investors. However, in response to concerns about 
the scope of the Retail Liquidity Identifier's dissemination, the 
Exchanges amended the proposals to state that the identifier would be 
available through the Consolidated Quotation System as soon as 
practicable.
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    \38\ See Exchanges' Response Letter (citing 17 CFR 
242.600(b)(62)).
    \39\ Id. (citing 17 CFR 242.600(b)(8)).
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    Another fair access-related issue raised by the commenters relates 
to the clarity and transparency of certain defined terms in the 
proposals. Specifically, some commenters expressed concern that under 
the proposals, the Exchanges would have too much discretion to certify 
or approve Retail Member Organizations and Retail Liquidity Providers, 
creating the potential for discriminatory treatment.\40\ Two commenters 
also stated that the definition of ``Retail Order,'' which relies on 
the representation of the broker sending the order, may not be 
sufficiently clear,\41\ and one commenter noted that the definition may 
impose too great of an administrative burden.\42\
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    \40\ See Hudson River Trading Letter and BATS Letter.
    \41\ See Hudson River Trading Letter and Knight Letter.
    \42\ See Knight Letter.
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    The Exchanges responded that they would continually monitor and 
evaluate all aspects of the Retail Member Organization certification 
process during the pilot period. The Exchanges disagreed that the 
definition of ``Retail Order'' and the Retail Member Organization 
certification process are unclear or not subject to enforcement. 
According to the Exchanges, the authentication and certification 
procedures, together with the requirement that Retail Member 
Organizations have written policies and procedures to assure that they 
only submit qualifying retail orders, would result in reliable 
identification and segmentation of retail order flow. The Exchanges 
further stated that the proposals would be subject to regulatory review 
by FINRA pursuant to a regulatory services agreement with the 
Exchanges.
    The commenters also raised issues related to access fees. One 
commenter suggested that the appropriate amount of access fees would 
need to be revisited if the ``tick size'' is reduced from $.01 to $.001 
because with a tenth of a penny spread, the maximum allowable fee of 
$.003 per share would have the effect of increasing the economic spread 
by 600%.\43\ Another commenter noted that the proposals could open the 
door to revisiting whether access fees may be included in quotes, 
assuming the Program leads to sub-penny quotations.\44\ Finally, one 
commenter questioned whether the proposals would result in true price 
competition because non-Retail Liquidity Providers would most likely 
not be able to quote aggressively as a result of being charged higher 
access fees for executions with Retail Orders.\45\
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    \43\ See Knight Letter.
    \44\ See SIFMA Letter.
    \45\ See BATS Letter.
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    The Exchanges responded that approval of the proposals does not 
require reexamination of any access fee issue. The Exchanges noted that 
there would be no visible prices disseminated as part of the program 
and stated their belief that the proposals would not use any ``quotes'' 
subject to the Commission's fair access rules. The Exchanges also 
expressed their belief that a broker's obligations under Regulation NMS 
would not require it to route a retail order to the Exchanges to 
interact with a Retail Price Improvement Order. The Exchanges stated 
further that the proposals comport with the principles behind the 
Commission's access rules because the Exchanges intend to welcome broad 
participation in the Program.
4. Best Execution and Order Protection
    Several commenters took the position that the Program would 
complicate broker-dealers' best execution duties. According to one 
commenter, the Exchanges' dissemination of the Retail Liquidity 
Identifier would raise a number of issues, including whether broker-
dealers would be required to route to the Exchanges when they see a 
Retail Liquidity Identifier; whether, if other exchanges were to adopt 
similar proposals and disseminate flags similar to the Retail Liquidity 
Identifier, a broker-dealer would be required to sweep all liquidity 
inside the spread before executing at the NBBO; whether the Exchanges 
would be required to route Retail Orders they receive to other market 
centers if those away markets offered the possibility of further price 
improvement; and whether broker-dealers would be required to subscribe 
to the Exchanges' proprietary feed to be able to receive the Retail 
Liquidity Identifier.\46\
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    \46\ See Knight Letter.
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    Another commenter questioned whether, if other exchanges were to 
adopt competing programs and disseminate liquidity interest flags over 
their proprietary feeds, a broker-dealer would be required to subscribe 
to each proprietary feed in order to fill its best execution 
obligations.\47\ Relatedly, another commenter stated that the proposals 
would result in confusion among broker-dealers unsure of how the 
dissemination of the Retail Liquidity Identifier would affect their 
smart order router programming.\48\ Finally, one commenter suggested 
that FINRA's best execution and interpositioning rules would need to be 
updated to reflect the fact that Retail Liquidity Identifiers would be 
widely disseminated yet not accessible by non-retail clients.\49\
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    \47\ See BATS Letter.
    \48\ See SIFMA Letter.
    \49\ See UBS Letter.
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    The Exchanges responded that they believe the proposals do not 
raise any best execution challenges that are not already confronted by 
broker-dealers in the current market environment. The Exchanges stated 
that best execution is a facts and circumstances determination and 
requires many factors to be considered.\50\
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    \50\ See Exchanges' Response Letter (citing Securities Exchange 
Act Release No. 43590 (November 17, 2000), 65 FR 75414 (December 1, 
2000) (``Disclosure of Order Execution and Routing Practices'' 
Adopting Release)).
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    One commenter also raised related concerns about the proposals' 
potential impact on broker-dealer obligations under FINRA Rule 5320, 
also known as the ``Manning'' rule.\51\ FINRA Rule 5320 generally 
prohibits broker-dealers from trading ahead of their customer orders. 
The commenter noted that firms that both offer Retail Price Improvement 
Orders and accept customer orders will likely find themselves 
frequently in a position where they must fill the customer order at a 
loss, assuming their Retail Price Improvement Orders get executed 
before the customer order.\52\
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    \51\ See Knight Letter.
    \52\ See id.
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    In response to this comment, the Exchanges stated their position 
that the Manning obligations of a Retail Liquidity Provider would be no 
different from the obligations on an

[[Page 7633]]

over-the-counter market maker that internalizes orders. The Exchanges 
stated that over-the-counter market makers commonly rely on the ``no-
knowledge'' exception contained in Supplementary Material .02 of FINRA 
Rule 5320 to separate their proprietary trading from their handling of 
customer orders. The Exchanges expressed their view that this exception 
should be equally applicable to Retail Liquidity Providers 
participating in the Program.

IV. Proceedings To Determine Whether To Disapprove SR-NYSE-2011-55 and 
SR-NYSEAmex-2011-84 and Grounds for Disapproval Under Consideration

    The Commission is instituting proceedings pursuant to Section 
19(b)(2)(B) of the Act \53\ to determine whether the proposals should 
be disapproved. Institution of such proceedings is appropriate at this 
time in view of the legal and policy issues raised by the proposals. 
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 proposals.
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    \53\ 15 U.S.C. 78s(b)(2)(B).
---------------------------------------------------------------------------

    Pursuant to Section 19(b)(2)(B),\54\ the Commission is providing 
notice of the grounds for disapproval under consideration. In 
particular, Section 6(b)(5) of the Act \55\ requires that the rules of 
an exchange 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 
6(b)(5) prohibits the rules of an Exchange from being designed to 
permit unfair discrimination between customers, issuers, brokers, or 
dealers. The rules of an Exchange also must not, absent an exemption, 
violate the Sub-Penny Rule (Rule 612) of Regulation NMS which, among 
other things, prohibits an exchange from displaying, ranking, or 
accepting a bid or offer in an NMS stock priced in an increment smaller 
than $0.01 if such bid or offer is priced equal to or greater than 
$1.00 per share.\56\
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    \54\ See id.
    \55\ 15 U.S.C. 78f(b)(5).
    \56\ 17 CFR 242.612.
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    According to the Exchanges, the proposals are designed to attract 
additional retail order flow to the Exchanges and provide the potential 
for price improvement to retail orders. However, the proposals also 
raise novel market structure issues that warrant further comment and 
Commission consideration.
    For example, as noted above, the proposals are inconsistent with 
the Sub-Penny Rule because they contemplate the Exchanges accepting and 
ranking orders in securities priced at $1.00 or more per share in sub-
penny increments, and the Exchanges separately have requested an 
exemption from that Rule. In addition, the proposals would create a new 
exchange order type--the Retail Price Improvement Order--that is 
available only to a subset of market participants, namely Retail Member 
Organizations. While the Exchanges state that the proposals are 
designed to attract retail orders to the Exchanges and provide the 
potential for price improvement to retail orders, the Exchanges define 
the ``Retail Order'' that is permitted to interact with Retail Price 
Improvement Orders as including not only orders that originate from a 
natural person, but also broker-dealer proprietary orders that 
liquidate positions acquired from internalizing orders that originate 
from natural persons. Thus, under the proposals, the connection between 
the ``Retail Order'' that is entitled to execute with sub-penny price 
improvement against Retail Price Improvement Orders and the original 
retail investor order may be attenuated, and under these circumstances 
it is unclear whether the benefit of the sub-penny price improvement 
ultimately would reach the retail investor. Accordingly, given the 
breadth of the proposed definition of a ``Retail Order,'' the 
Commission believes questions are raised as to the scope of the 
requested exemption under the Sub-Penny Rule, and whether the Exchanges 
have fairly and reasonably determined the subset of market participants 
that would be allowed to access Retail Price Improvement Orders.
    In addition, the proposals do not describe with precision the 
attributes of the Retail Liquidity Identifier that would be 
disseminated when a Retail Price Improvement Order exists. Depending on 
those details, the Retail Liquidity Identifier could fall within the 
definition of ``bid or offer'' in Rule 600(b)(8) of Regulation NMS, 
which would implicate Rule 602 of Regulation NMS,\57\ also known as the 
Quote Rule. Rule 602 generally requires that a national securities 
exchange collect, process, and make available to venders the best bid, 
the best offer, and aggregate quotation sizes for each NMS security 
traded on the exchange. Accordingly, the Commission believes the 
Exchanges should provide additional detail regarding the proposed 
Retail Liquidity Identifier, to allow the Commission and commenters to 
assess whether the Quote Rule is implicated and, if so, to understand 
whether the Exchanges intend to comply with or seek an exemption from 
some or all of its requirements.
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    \57\ 17 CFR 242.602.
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    The Commission believes that these concerns raise questions as to 
whether the Exchanges' proposals are consistent with the requirements 
of the Section 6(b)(5) of the Act, including whether they would promote 
just and equitable principles of trade, perfect the mechanism of a free 
and open market and a national market system, protect investors and the 
public interest, and not permit unfair discrimination. The Commission 
also believes questions are raised as to whether, given the breadth of 
the definition of ``Retail Order'' in the Exchanges' proposals, an 
exemption for the Program from the Sub-Penny Rule would be in the 
public interest and consistent with the protection of investors.

V. 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 
proposals. In particular, the Commission invites the written views of 
interested persons concerning whether the proposed rule change is 
inconsistent with Section 6(b)(5) or any other provision of the Act, or 
the rules and regulation thereunder. Although there do not appear to be 
any issues relevant to approval or disapproval which 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.\58\
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    \58\ Section 19(b)(2) of the Act, as amended by the Securities 
Act Amendments of 1975, Public Law 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 changes should be

[[Page 7634]]

disapproved by March 5, 2012. Any person who wishes to file a rebuttal 
to any other person's submission must file that rebuttal by March 19, 
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-NYSE-2011-55 or SR-NYSEAmex-2011-84 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-NYSE-2011-55 or SR-
NYSEAmex-2011-84. 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 10:00 a.m. and 3:00 p.m. 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 publicly available. All 
submissions should refer to File Number SR-NYSE-2011-55 or SR-NYSEAmex-
2011-84 and should be submitted on or before March 5, 2012. Rebuttal 
comments should be submitted by March 19, 2012.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority. \59\
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    \59\ 17 CFR 200.30-3(a)(57).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2012-3219 Filed 2-10-12; 8:45 am]
BILLING CODE 8011-01-P