[Federal Register Volume 78, Number 7 (Thursday, January 10, 2013)]
[Notices]
[Pages 2304-2306]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2013-00307]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-68584; File No. SR-CBOE-2012-109]


Self-Regulatory Organizations; Chicago Board Options Exchange, 
Incorporated; Order Approving a Proposed Rule Change Related to CBSX To 
Address the Authority To Cancel Orders When a Technical or Systems 
Issue Occurs and To Describe the Operation of Routing Service Error 
Accounts

January 4, 2013.

I. Introduction

    On November 16, 2012, the Chicago Board Options Exchange, 
Incorporated (``Exchange'' or ``CBOE'') 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 (i) address the authority of 
CBOE Stock Exchange, LLC (``CBSX'', CBOE's stock execution facility) to 
cancel orders (or release routing-related orders) when a technical or 
systems issue occurs; and (ii) describe the operation of a CBSX error 
account(s) and routing broker error account(s), which may be used to 
liquidate unmatched executions that may occur in the provision of the 
CBSX's routing service. The proposed rule change was published for 
comment in the Federal Register on November 26, 2012.\3\ The Commission 
received no comment letters regarding the proposed rule change. This 
order approves the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Securities Exchange Act Release No. 68265 (November 19, 
2012), 77 FR 70511 (November 26, 2012) (SR-CBOE-2012-109) 
(``Notice'').
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II. Description of the Proposal

    In its proposal, the Exchange states that CBSX operates a system of 
trading that allows automatic executions to occur electronically.\4\ As 
part of this infrastructure, the Exchange states that CBSX 
automatically routes orders to other exchanges under certain 
circumstances. These routing services are provided in conjunction with 
one or more routing brokers that are not affiliated with CBSX.\5\ 
Mechanically, when CBSX receives an order from a Trading Permit Holder 
that is held in the CBSX system and determines to route an order to 
another exchange, CBSX provides the routing broker with a corresponding 
order and instructions to route the order to another trading center. 
The routing broker then sends the corresponding order to the other 
trading center.
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    \4\ See Notice, 77 FR at 70511.
    \5\ See Notice, 77 FR at 70511-12 n.4, n.8, and accompanying 
text.
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    In its proposal, CBOE states that CBSX may encounter situations 
that make it necessary to cancel orders (or release routing-related 
orders), \6\ and to resolve error positions that result from errors of 
the Exchange, routing brokers, or another exchange.\7\
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    \6\ See Notice, 77 FR at 70512. For examples of some of the 
circumstances in which the Exchange may decide to cancel orders, see 
Notice, 77 FR at 70512-13.
    \7\ See Notice, 77 FR at 70512. Specifically, CBOE Rule 52.10A 
defines ``error positions'' as ``unmatched trade positions that may 
occur in connection with the routing service provided under Rule 
52.10''.
    For examples of some of the circumstances that may lead to error 
positions, see Notice, 77 FR at 70514.
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Proposed Rule 52.3A (Order Cancellation/Release)

    New CBOE Rule 52.3A provides CBSX with general authority to cancel 
orders as it deems to be necessary to maintain fair and orderly markets 
if a technical or systems issue occurs at CBSX, a routing broker in 
connection with the routing service provided under CBOE Rule 52.10, or 
another trading center to which a CBSX order has been routed. It also 
provides that a routing broker may only cancel orders being routed to 
another trading center based on the CBSX's standing or specific 
instructions or as otherwise provided in the Exchange Rules. CBSX will 
be required to provide notice of the

[[Page 2305]]

cancellation to affected Trading Permit Holders as soon as 
practicable.\8\
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    \8\ See CBOE Rule 52.3A(a).
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    Paragraph (b) of the rule provides that CBSX may also determine to 
release orders being held on CBSX awaiting another trading center 
execution as it deems to be necessary to maintain fair and orderly 
markets if a technical or systems issues occurs at CBSX, a routing 
broker, or another trading center to which an order has been routed. 
Paragraph (c) of the rule provides that, for purposes of Rule 52.10A, 
technical or system issues would include, without limitation, instances 
where CBSX has not received confirmation of an execution (or 
cancellation) on another exchange from a routing broker within a 
response time interval designated by the Exchange, which interval may 
not be less than three (3) seconds. In conjunction with this proposed 
rule change, CBOE also proposed to amend CBOE Rule 52.7 which provides, 
in part, that an Intermarket Sweep Order (``ISO'') shall be generated 
if an order that is entered on CBSX would lock or cross a protected 
quotation in an away market, to provide that if CBSX does not receive 
any response at all to an outbound ISO, at the expiration of the 
response time internal, CBSX will release the corresponding order that 
had been suspended on the CBSX Book pending the response to the ISO in 
accordance with Rule 52.3A.

Proposed Rule 52.10A (Routing Service Error Accounts)

    New CBOE Rule 52.10A provides that each routing broker shall 
maintain, in the name of the routing broker, one or more accounts for 
the purpose of liquidating error positions. In addition CBSX may also 
maintain, in the name of CBSX, one or more CBSX error accounts (``CBSX 
Error Account'') for the purposes of liquidating error positions, 
subject to the procedures prescribed in new CBOE Rule 52.10A.
    Paragraph (a) of the rule provides that errors to which the rule 
applies include any action or omission by CBSX, a routing broker, or 
another trading center to which a CBSX order has been routed, that 
results in an unmatched trade position due to the execution of an order 
that is subject to the away market routing service and for which there 
is no corresponding order to pair with the execution (each a ``routing 
error''); and that such routing errors would include, without 
limitation, positions resulting from determinations by CBSX to cancel 
or release an order pursuant to CBOE Rule 52.3A.
    Paragraph (b) of the rule provides that, generally, each routing 
broker will use its own error account to liquidate error positions. In 
certain circumstances, however, CBSX may use a CBSX Error Account. In 
particular, in instances where the routing broker is unable to use its 
own error account (e.g., due to a technical, systems or other issue 
that prevents the routing broker from doing so) \9\ or where the error 
is due to a technical or systems issue at CBSX, CBSX may (but would not 
be required to) determine it is appropriate to use a CBSX Error 
Account. The Exchange states that in making such a determination to use 
a CBSX Error Account, the CBSX would consider whether it has sufficient 
time, information and capabilities considering the market circumstances 
to determine that an error is due to such circumstances and whether the 
Exchange can address the error.\10\
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    \9\ See Notice, 77 FR at 70513.
    \10\ See id.
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    Pursuant to paragraph (c), CBSX will not be permitted to accept any 
positions in a CBSX Error Account from an account of a Trading Permit 
Holder or permit any Trading Permit Holder to transfer any positions 
from the Trading Permit Holder's account to a CBSX Error Account. In 
other words, CBSX may not accept from a Trading Permit Holder positions 
that are delivered to the Trading Permit Holder through the clearance 
and settlement process, even if those positions may have been the 
result of an error.\11\
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    \11\ See Notice, 77 FR at 70513 n.17. This provision would not 
apply if the Exchange incurred a position to settle a Trading Permit 
Holder purchase, as the Trading Permit Holder did not yet have a 
position in its account as a result of the purchase at the time of 
the Exchange's action. See id.
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    To the extent a routing broker uses its own account to liquidate 
error positions, paragraph (d) of new CBOE Rule 52.10A provides that 
the routing broker shall liquidate the error positions as soon as 
practicable. The routing broker could determine to liquidate the 
position itself or have a third-party broker-dealer liquidate the 
position on the routing broker's behalf. Paragraph (d) also provides 
that the routing broker shall establish and enforce policies and 
procedures reasonably designed to (i) adequately restrict the flow of 
confidential and proprietary information associated with the 
liquidation of the error position in accordance with Rule 52.10,\12\ 
and (ii) prevent the use of information associated with other orders 
subject to the routing services when making determinations regarding 
the liquidation of error positions. In addition, paragraph (d) provides 
that the routing broker shall make and keep records associated with the 
liquidation of such routing broker error positions and shall maintain 
such records in accordance with Rule 17a-4 under the Act.\13\
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    \12\ Rule 52.10.01(c) provides that CBSX shall establish and 
maintain procedures and internal controls reasonably designed to 
adequately restrict the flow of confidential and proprietary 
information between CBSX and the routing broker (referred to in the 
rule as the ``Technology Provider''), and, to the extent the routing 
broker reasonably receives confidential and proprietary information, 
that adequately restrict the use of such information by the routing 
broker to legitimate business purposes necessary for the licensing 
of routing technology.
    \13\ 17 CFR 240.17a-4.
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    Paragraph (e) of the rule provides that, to the extent a CBSX Error 
Account is used to liquidate error positions, CBSX shall liquidate the 
error positions as soon as practicable. In liquidating error positions 
in a CBSX Error Account, CBSX shall provide complete time and price 
discretion for the trading to a third-party broker-dealer and shall not 
attempt to exercise any influence or control over the timing or methods 
of such trading.\14\ Such a third-party broker-dealer may include a 
routing broker not affiliated with CBSX. Paragraph (e) also provides 
that CBSX shall establish and enforce policies and procedures 
reasonably designed to adequately restrict the flow of confidential and 
proprietary information between CBSX and the third-party broker-dealer 
associated with the liquidation of the error positions.
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    \14\ This provision is not intended to preclude the Exchange 
from providing the third-party broker-dealer with standing 
instructions with respect to the manner in which it should handle 
all error account transactions. For example, the Exchange might 
instruct the broker-dealer to treat all orders as ``not held'' and 
to attempt to minimize any market impact on the price of the option 
being traded.
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    Finally, paragraph (e) provides that CBSX shall make and keep 
records to document all determinations to treat positions as error 
positions under the rule (whether or not a CBSX Error Account is used 
to liquidate such error positions), as well as records associated with 
the liquidation of CBSX Error Account error positions through a third-
party broker-dealer, and shall maintain such records in accordance with 
Rule 17a-1 under the Act.\15\
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    \15\ 17 CFR 240.17a-1.
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III. Discussion and Commission's Findings

    After careful review, the Commission finds that the proposed rule 
change is consistent with the requirements of Section 6(b) of the Act 
\16\ and the rules

[[Page 2306]]

and regulations thereunder applicable to a national securities 
exchange.\17\ In particular, the Commission finds that the proposed 
rule change is consistent with Section 6(b)(5) of the Act,\18\ which 
requires, among other things, that the rules of a national securities 
exchange be designed to prevent fraudulent and manipulative acts and 
practices, to promote just and equitable principles of trade, to foster 
cooperation and coordination with persons engaged in regulating, 
clearing, settling, processing information with respect to, and 
facilitating transactions in securities, 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; 
and are not designed to permit unfair discrimination between customers, 
issuers, brokers, or dealers. In addition, the Commission believes the 
proposed rule change is consistent with Section 11A(a)(1)(C) of the Act 
\19\ in that it seeks to assure economically efficient execution of 
securities transactions.
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    \16\ 15 U.S.C. 78f(b).
    \17\ In approving this proposed rule change, the Commission has 
considered the proposed rule's impact on efficiency, competition, 
and capital formation. See 15 U.S.C. 78c(f).
    \18\ 15 U.S.C. 78f(b)(5).
    \19\ 15 U.S.C. 78k-1(a)(1)(C).
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    The Commission recognizes that technical or systems issues may 
occur, and believes that CBOE Rule 52.3A, in allowing CBSX to cancel or 
release orders affected by technical or systems issues, should provide 
a reasonably efficient means for CBSX to handle such orders, and 
appears reasonably designed to permit CBSX to maintain fair and orderly 
markets.\20\
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    \20\ The Commission notes that CBSX states it believes that 
allowing it to cancel or release orders under such circumstances 
would allow CBSX to maintain fair and orderly markets, and that CBOE 
Rule 52.10A is designed to ensure full trade certainty for market 
participants, and avoid disrupting the clearance and settlement 
process. See Notice, 77 FR at 70514. The Commission also notes that 
CBOE states that a decision to cancel or release orders due to a 
technical or systems issue is not equivalent to CBSX declaring self-
help against a routing destination pursuant to Rule 611 of 
Regulation NMS. See 17 CFR 242.611(b). See also Notice, 77 FR at 
70512 n.9.
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    The Commission also believes that allowing CBSX to resolve error 
positions through the use of error accounts maintained by its routing 
brokers or CBSX itself pursuant to the procedures set forth in the 
rule, and as described above, is consistent with the Act. The 
Commission notes that the rule establishes criteria for determining 
which positions are error positions to which the rule applies, and the 
procedures for the handling of such positions. In particular, the 
Commission notes that CBOE Rule 52.10A only applies to error positions 
that result from the Exchanges routing service, and that such positions 
shall be liquidated by the routing broker or the Exchange, as 
applicable, as soon as practicable.\21\ In this regard, the Commission 
believes that the new rule appears reasonably designed to further just 
and equitable principles of trade and the protection of investors and 
the public interest, and to help prevent unfair discrimination, in that 
it should help assure the handling of error positions will be based on 
clear and objective criteria, and that the resolution of those 
positions will occur promptly through a transparent process.
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    \21\ See CBOE Rule 52.10A.
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    The Commission is also concerned about the potential for misuse of 
confidential and proprietary information. The Commission notes that 
CBSX or a routing broker, as applicable, will establish and enforce 
policies and procedures reasonably designed to (1) adequately restrict 
the flow of confidential and proprietary information associated with 
the liquidation of the error positions, and (2) in the case of 
liquidations by a routing broker, prevent the use of information 
associated with other orders subject to the routing services when 
making determinations regarding the liquidation of error positions.\22\ 
Furthermore, to the extent CBSX uses a CBSX Error Account to liquidate 
error positions, the Exchange shall provide complete time and price 
discretion for the trading to liquidate error positions in a CBSX Error 
Account to a third-party broker-dealer and shall not attempt to 
exercise any influence or control over the timing or methods of such 
trading.\23\ The Commission believes that these requirements should 
help mitigate the Commission's concerns. In particular, the Commission 
believes that these requirements should help assure that none of CBSX, 
its routing brokers, or any third-party broker-dealer is able to misuse 
confidential or proprietary information obtained in connection with the 
liquidation of error positions for its own benefit. The Commission also 
notes that routing brokers would be required to make and keep records 
associated with the liquidation of routing broker error positions \24\ 
and CBOE would be required to make and keep records to document all 
determinations to treat positions as error positions under this Rule 
(whether or not a CBSX Error Account is used to liquidate such error 
positions), as well as records associated with the liquidation of CBSX 
Error Account error positions through a third-party broker-dealer.\25\
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    \22\ See CBOE Rules 52.10A(d)(i); 52.10A(e)(ii).
    \23\ See CBOE Rule 52.10A(e)(i).
    \24\ See CBOE Rule 52.10A(d)(ii).
    \25\ See CBOE Rule 52.10A(e)(iii).
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    Finally, the Commission notes that the proposed procedures for 
canceling orders and the handling of error positions are consistent 
with procedures the Commission has approved for other exchanges.\26\
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    \26\ See, e.g., Securities Exchange Act Release Nos. 67281 (June 
27, 2012), 77 FR 39543 (July 3, 2012) (SR-NASDAQ-2012-057); 66963 
(May 10, 2012), 77 FR 28919 (May 16, 2012) (SR-NYSEArca-2012-22); 
67010 (May 17, 2012), 77 FR 30564 (May 23, 2012) (SR-EDGX-2012-08); 
and 67011 (May 17, 2012), 77 FR 30562 (May 23, 2012) (SR-EDGA-2012-
09).
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IV. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\27\ that the proposed rule change (SR-CBOE-2012-109) be, and it 
hereby is, approved.
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    \27\ 15 U.S.C. 78s(b)(2).
    \28\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\28\
Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2013-00307 Filed 1-9-13; 8:45 am]
BILLING CODE 8011-01-P