[Federal Register Volume 64, Number 175 (Friday, September 10, 1999)]
[Notices]
[Pages 49265-49267]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 99-23614]
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SECURITES AND EXCHANGE COMMISSION
[Release No. 34-41823; File No. SR-PCX-99-04]
Self-Regulatory Organizations; Order Granting Approval of
Proposed Rule Change and Notice of Filing and Order Granting
Accelerated Approval of Amendment No. 4 by the Pacific Exchange, Inc.
Relating to the Maximum Size of Option Orders That My Be Executed
Automatically
September 1, 1999.
I. Introduction
On February 10, 1999, the Pacific Exchange, Inc. (``PCX'' or
``Exchange'') filed with the Securities and Exchange Commission
(``SEC'' or ``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 amending its rules on the
automatic execution of options orders to increase the maximum number of
contracts that may be designated for automatic execution on an issue-
by-issue basis. On February 25, 1999 the Exchange submitted Amendment
No. 1 to the proposed rule change.\3\ On May 25, 1999 the Exchange
submitted Amendment No. 2 to the proposed rule change.\4\ On July 2,
1999 the Exchange submitted Amendment No. 3 to the proposed rule
change.\5\ Notice of the proposal was published in the Federal Register
on July 22, 1999.\6\ On September 1, 1999 the Exchange filed Amendment
No. 4 to the proposed rule change. The Commission received no comment
on the proposal. This order approves the proposal.\7\
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ In Amendment No. 1 the Exchange proposed to set the maximum
order size for execution through its Automatic Execution System
(``Auto-Ex'') for equity options and for index options on the PSE
Technology Index, the Wilshire Small Cap Index, and the Morgan
Stanley Emerging Growth Index at fifty contracts. Additionally, in
Amendment No. 1 the PCX withdrew SR-PCX-99-05, which was filed with
the Commission on February 22, 1999. See Letter from Robert P.
Pacileo, Staff Attorney, PCX, to Micheal A. Walinskas, Deputy
Associate Director, Division of Market Regulation, Commission, dated
February 24, 1999.
\4\ In Amendment No. 2 the Exchange proposed to add subsection
(k) to PCX Rule 6.87 to address the allocation of Auto-Ex orders.
See letter from Robert P. Pacileo, Staff Attorney, PCX, to Michael
A. Walinskas, Associate Director, Division of Market Regulation,
Commission, dated May 24, 1999.
\5\ In Amendment No. 3 the Exchange replaced the proposal in its
entirety to restate and clarify the purpose of the proposal, to
address technical modifications to PCX Rule 6.87 made in a separate
filing with the Commission (SR-PCX-99-23), and to add a proposal to
amend PCX Rule 6.86 regarding trading crowd firm disseminated market
quotes. See letter from Robert P. Pacileo, Staff Attorney, PCX, to
Michael A. Walinskas, Associate Director, Division of Market
Regulation, Commission, dated July 1, 1999.
\6\ See Securities Exchange Act Release No. 41611 (July 9,
1999), 64 FR 39548.
\7\ In Amendment No. 4 the Exchange proposed to allow a notice
and comment period for market makers and Lead Market Makers
(``LMMs'') subject to PCX Rule 6.87(k)(1)(C). See letter from Robert
P. Pacileo, Staff Attorney, PCX, to Michael A. Walinskas, Associate
Director, Division of Market Regulation, Commission, dated August
31, 1999 (``Amendment No. 4'').
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II. Description of the Proposal
Generally, public customer market and marketable limit orders for
up to twenty options contracts may be automatically executed through
the Exchange's Auto-Ex system. The Exchange proposes to change its
rules on the automatic execution of equity and index option orders by
increasing the maximum number of contracts that may be designated for
automatic execution, on an issue-by-issue basis, to fifty contracts.\8\
The PCX proposes to distinguish between equity and index options for
matters relating to increasing the maximum number of contracts that may
be designated for automatic execution.\9\ The Exchange proposes to
increase the maximum size of equity option orders that the Options
Floor Trading Committee (``OFTC'') may designate for automatic
execution in an increase from twenty to fifty contracts and to allow
the OFTC to determine the size of index options orders that are
eligible to be executed through Auto-Ex with a maximum order size of
fifty contracts for the following Index Options: (1) The PSE Technology
Index; (2) the Wilshire Small Cap Index; and (3) the Morgan Stanley
Emerging Growth Index.\10\
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\8\ The Commission approved the Pacific Options Exchange Trading
System (``POETS'') and its Auto-Ex feature as a pilot program in
January 1990. See Securities Exchange Act Release No. 27633 (January
18, 1990), 55 FR 2466 (January 24, 1990) (order approving File No.
SR-PSE-89-26). On July 30, 1993, the Commission approved the program
on a permanent basis. See Securities Exchange Act Release No. 32703
(July 30, 1993), 58 FR 42117 (August 6, 1993). The Auto-Ex system
permits eligible market or marketable limit orders sent from member
firms to be executed automatically at the displayed bid or offering
price. Participating market makers are designated as a contra side
to each Auto-Ex order. Participating market makers are assigned by
Auto-Ex on a rotating basis, with the first market maker selected at
random from the list of signed-on market makers. Auto-Ex preserves
Book priority in all options. Automatic executions through Auto-Ex
are currently available for public customer orders of ten contracts
or less (or in certain issues, for twenty contracts or less) in all
series of options traded on the Options Floor of the Exchange.
\9\ Currently, PCX Rule 6.87(c) provides: ``The Options Floor
Trading Committee may increase the size of Auto-Ex-eligible orders
in one or more classes of multiply traded equity options to the
extent that other options exchanges permit such larger-size orders
in multiply traded equity options of the same class or classes to be
entered into their own automated execution systems. If the Options
Floor Trading Committee intends to increase the Auto-Ex order size
eligibility pursuant to this subsection, the Exchange will notify
the Securities and Exchange Commission pursuant to Section
19(b)(3)(A) of the Exchange Act.'' In addition, PCX Rule 6.28(9)
provides that the Exchange may increase the permissible size of
orders that may be automatically executed over the Auto-Ex system to
up to 50 contracts only during high volume or high volatility
emergency situations. See Securities Exchange Act Release No. 41481
(June 4, 1999), 64 FR 31674 (June 11, 1999).
\10\ The PCX Technology Department has confirmed that POETS is
capable of, and has the capacity to, execute trade at 50-up on an
issue-by-issue basis, which can equate to floor-wide 50-up if done
for all issues.
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In addition, the Exchange proposes to add subsection (k) to PCX
Rule 6.87 to address the allocation of Auto-Ex orders. Specifically,
the Exchange proposes that the OFTC will determine, on an issue-by-
issue basis, the manner in which orders entered through the Auto-Ex
system will be assigned to individual market makers for execution. Each
market maker who is participating on the Auto-Ex system will be
required to execute a maximum of ten option contracts per Auto-Ex
trade, except that the OFTC may permit individual market makers and LMM
to be allocated a number of contracts greater than ten and no more than
fifty, upon the request of the individual market maker or LMM. Further,
the Exchange proposes that, in accordance with the provision of LMMs'
guaranteed participation in PCX Rule 6.82(d)92), the LMM in an issue
will be required to either (i) participate in every other trade
executed on Auto-Ex in that issue or (ii) participate in a percentage
of every trade consistent with the amount of the LMM's guaranteed
participation.
[[Page 49266]]
The Exchange also proposes that the OFTC may require market makers
or an LMM who is participating on Auto-Ex in a particular issue to
execute a number of contracts greater than ten. Before doing so,
however, the OFTC must take into account whether this would place a
market maker at undue risk based on that market maker's capitalization.
In addition, prior to imposing any requirement to increase to a number
of contracts greater than ten under proposed PCX Rule 6.87(k)(1)(C),
the Exchange proposes to allow market makers and LMMs a one-day notice
and comment period to express their views and opinions on the proposed
increase.\11\
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\11\ See Amendment No. 4, supra note 7.
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The Exchange proposes that the OFTC seek to assure that each market
maker participating on Auto-Ex in a particular issue will be assigned
up to the same maximum number of option contracts per Auto-Ex trade.
The OFTC may permit exceptions to this procedure only in unusual
situations where the OFTC finds good cause for permitting differences
in the maximum number of contracts executed by individual market
makers.
The Exchange believes that these changes will help it to meet the
changing needs of customers in the market place and give the Exchange
better means of competing with other options exchanges for order flow,
particularly in multiply traded issues. The exchange also believes that
the proposal will allow the Exchange to enhance its operational
efficiency, particularly during times when large influxes of manual
orders create undue congestion in particular trading crowds.
The Exchange also proposes to amend PCX Rule 6.86, governing
trading crowd firm disseminated market quotes. Specifically, the
Exchange proposes to add subsection (g) to PCX Rule 6.86 to require
that, if the OFTC determines, pursuant to PCX Rule 6.87(b), the size of
orders in an issue that are eligible to be executed on Auto-Ex will be
greater than twenty contracts, then the trading crowd will be required
to provide a market depth in that greater amount. The exchange proposes
this rule change to update, clarify and keep consistent PCX rules
governing size of market orders and market depth.
III. Discussion
After careful review, the Commission finds that the proposed rule
change is consistent with the requirements of the Act and the rules and
regulations thereunder applicable to a national securities
exchange.\12\ The Commission finds that the proposed rule change is
consistent with the requirements of the Act and the rules and
regulations thereunder applicable to a national securities exchange
and, in particular, the requirements of Section 6 of the Act.\13\
Section 6(b)(5) \14\ of the Act states that the rules of an exchange
must be designed to foster cooperation and coordination with persons
engaged in regulating, clearing, settling, processing information with
respect to, and facilitating securities transactions. These rules also
must help to remove impediments to and perfect the mechanism of a free
and open market.
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\12\ The Commission has considered the proposed rule's impact on
efficiency, competition and capital formation. 15 U.S.C. 78c(f).
\13\ 15 U.S.C. 78f.
\14\ 15 U.S.C. 78f(b)(5).
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Moreover, the Commission finds good cause for approving Amendment
No. 4 prior to the 30th day after notice of the Amendment is published
in the Federal Register pursuant to Section 19(b)(2) of the Act.\15\
Amendment No. 4 provides that market makers or LMMs must receive notice
and the opportunity to comment prior to an OFTC requirement to execute
a number of contracts greater than ten under proposed PCX Rule
6.87(k)(1)(C). The Commission finds that accelerated approval of
Amendment No. 4 is appropriate due to the immediate need for market
makers and LMMs to be informed of and comment on any proposed
requirement to execute an increased number of contracts on Auto-Ex.
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\15\ 15 U.S.C. 78s(b)(2).
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The Commission does not object at this time to extending the
benefits available through the use of the Exchange's Auto-Ex system to
larger-size customer orders up to 50 contracts. The Commission believes
that increasing to 50 the number of option contracts executable through
the Exchange's Auto-Ex order execution system will enable the Exchange
to more effectively and efficiently manage increased order flow in
actively traded option classes consistent with its obligations under
the Act. In addition, this increase should bring to speed and
efficiency of automated execution to a greater number of retail orders.
We also believe that the PCX should have flexibility to compete for
order flow with other exchanges without being limited to responding to
increases in automatic execution eligibility levels initiated by those
other exchanges. The Commission notes that it has approved similar
proposals by other exchanges that increased to fifty the maximum size
of orders that may be executed automatically.\16\
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\16\ See Securities Exchange Act Release No. 36601 (December 18,
1995), 60 FR 66817 (December 26, 1995) (SR-PHLX-95-39) and
Securities Exchange Act Release No. 41821 (September 1, 1999) (SR-
CBOE-99-17).
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The Commission believes, based on representations by the Exchange,
that the increase will not expose the Exchange's Auto-Ex system to risk
of failure or operational break-down. Our approval of this increase is
expressly conditioned on PCX's representation that its systems capacity
is sufficient to accommodate the increased number of automatic
executions anticipated to result from implementation of this
proposal.\17\
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\17\ See supra note 10.
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Although we have a degree of comfort with respect to the proposed
increase, we note that any proposed increases above fifty contracts may
raise additional issues, including such matters as market maker
financial exposure, price improvement, and quote dissemination. Because
of these concerns, the Commission welcomes the opportunity to review
the Exchange's experience with any increase in maximum order size to
fifty contracts. If, in the future, exchanges seek to increase order
size levels above fifty contracts, this examination will help us assess
whether any such increases are appropriate and, if so, whether we
should seek additional assurances regarding such increases.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning Amendment No. 4, including whether it is
consistent with the Act. Persons making written submissions should file
six copies thereof with the Secretary, Securities and Exchange
Commission, 450 Fifth Street, NW, Washington, DC 20549-0609. Copies of
the submission, all subsequent amendments, all written statements with
respect to the proposed rule change that are filed with the Commission,
and all written communications relating to the proposed rule change
between the Commission and any person, other than those that may be
withheld from the public in accordance with the provisions of 5 U.S.C.
552, will be available for inspection and copying in the Commission's
Public Reference Room. Copies of such filing will also be available for
inspection and copying at the principal office of the PCX. All
submissions should refer to File No. SR-PCX-99-04 and should be
submitted by October 1, 1999.
[[Page 49267]]
V. Conclusion
For the foregoing reasons, the Commission finds that the proposed
rule change is consistent with the Act and the rules and regulations
thereunder applicable to a national securities exchange, and, in
particular, with Section 6(b)(5).\18\
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\18\ 15 U.S.C. 78f(b)(5).
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It is therefore ordered, pursuant to Section 19(b)(2) of the
Act,\19\ that the proposed rule change (SR-PCX-99-04) is approved; and
that Amendment No. 4 is approved on an accelerated basis.
\19\ 15 U.S.C. 78s(b)(2).
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For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\20\
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\20\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 99-23614 Filed 9-9-99; 8:45 am]
BILLING CODE 8010-01-M