[Federal Register Volume 64, Number 241 (Thursday, December 16, 1999)]
[Notices]
[Pages 70297-70307]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 99-32555]
=======================================================================
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-42212; File No. 4-208]
RIN 3235-AH49
Adoption of Amendments to the Intermarket Trading System Plan To
Expand the ITS/Computer Assisted Execution System Linkage to All Listed
Securities
AGENCY: Securities and Exchange Commission.
ACTION: Adoption of amendments to national market system plan.
-----------------------------------------------------------------------
SUMMARY: The Securities and Exchange Commission (``Commission'') is
adopting amendments to the plan governing the operation of the
Intermarket Trading System (``ITS Plan'' or ``Plan''). The amendments
expand the ITS/Computer Assisted Execution System (``CAES'') linkage to
all listed securities, including non-Rule 19c-3 securities.
EFFECTIVE DATE: February 14, 2000.
FOR FURTHER INFORMATION CONTACT: Katherine A. England, Assistant
Director, at (202) 942-0154; or Christine Richardson, Attorney, at
(202) 942-0748, Office of Market Supervision, Division of Market
Regulation, Securities and Exchange Commission, 450 Fifth Street, NW,
Washington, DC 20549-1001.
SUPPLEMENTARY INFORMATION:
I. Background and Description
The Commission is adopting amendments to the ITS Plan to expand the
National Association of Securities Dealers, Inc.'s (``NASD'') ITS/CAES
linkage to all listed securities. The Commission believes that these
amendments, adopted by the Commission on its own initiative pursuant to
Rule 11Aa3-2 under the Securities Exchange Act of 1934 (``Exchange
Act'' or ``Act''),\1\ are necessary to encourage the statutory goals of
efficient execution of securities transactions and opportunities for
best execution of customer orders. The Commission is adopting these
amendments only after the ITS Participants \2\ have been unable to
reach agreement.
---------------------------------------------------------------------------
\1\ Rule 11Aa3-2 (17 CFR 240.11Aa3-2) establishes procedures for
initiating or approving amendments to national market system plans
such as the ITS Plan. Paragraph (b)(2) of Rule 11Aa3-2 states that
the Commission may propose amendments to an effective national
market system plan by publishing the text thereof together with a
statement of purpose of the amendments. Paragraph (c)(1) requires
the Commission to publish notice of any amendments initiated by the
Commission and provide interested parties an opportunity to submit
written comments. Paragraph (c)(2) of Rule 11Aa3-2 requires that
promulgation of an amendment to an effective national market system
plan initiated by the Commission be by rule.
\2\ Current signatories to the ITS Plan include American Stock
Exchange LLC (``Amex''), Boston Stock Exchange, Inc. (``BSE''),
Chicago Board Options Exchange, Inc. (``CBOE''), Chicago Stock
Exchange (``CHX''), Cincinnati Stock Exchange (``CSE''), NASD, New
York Stock Exchange, Inc. (``NYSE''), Pacific Exchange, Inc.
(``PCX''), and Philadelphia Stock Exchange, Inc. (``Phlx''),
collectively, the ``Participants.''
---------------------------------------------------------------------------
A. History of ITS
Section 11A(a)(2) of the Exchange Act \3\ directs the Commission,
having due regard for the public interest, the protection of investors,
and the maintenance of fair and orderly markets, to use its authority
under the Act to facilitate the establishment of a National Market
System (``NMS'') for securities in accordance with the Congressional
findings and objectives set forth in Section 11A(a)(1) of the Act.
Among those findings and objectives is the ``linking of all markets for
qualified securities through communication and data processing
facilities.'' \4\
---------------------------------------------------------------------------
\3\ Section 11A(a)(2) was adopted by the Securities Acts
Amendments of 1975 (``1975 Amendments''). Pub. L. No. 94-29 (June 4,
1975).
\4\ Section 11A(a)(1)(D) of the Act, 15 U.S.C. 78k-1(a)(1)(D).
---------------------------------------------------------------------------
On January 26, 1978, the Commission issued a statement on the
national market system calling for, among other things, the prompt
development of comprehensive market linkage and order routing systems
to permit the efficient transmission of orders among the various
markets for qualified securities, whether on an exchange or over-the-
counter.\5\ In particular, the Commission stated that an intermarket
order routing system was necessary to ``permit orders for the purchase
and sale of multiply-traded securities to be sent directly from any
qualified market to another such market promptly and efficiently.'' \6\
The Commission further stated that ``[t]he need to develop and
implement a new intermarket order routing system to link all qualified
markets could be obviated if participation in the ITS market linkage
currently under development were made available on a reasonable basis
to all qualified markets and if all qualified markets joined that
linkage.'' \7\
---------------------------------------------------------------------------
\5\ Exchange Act Release No. 14416 (January 26, 1978) (``1978
Statement''), at 26, 43 FR 4354, 4358. Previously, on June 23, 1977,
the Commission had indicated that a national market system would
include those ``regulatory and technological steps [necessary] to
achieve a nationwide interactive market system.'' See Exchange Act
Release No. 13662 (June 23, 1977), at 20, 42 FR 33510, 33512.
\6\ 1978 Statement, supra note 5, at 4358.
\7\ In this connection, the Commission specifically indicated
that ``qualified markets'' would include not only exchanges but OTC
market makers as well. Id.
---------------------------------------------------------------------------
As requested by the Commission, in March 1978, various exchanges
\8\ filed jointly with the Commission a ``Plan for the Purpose of
Creating and Operating an Intermarket Communications Linkage,'' now
known as the ITS Plan. On April 14, 1978, the Commission, noting that
ITS might provide the basis for an appropriate market linkage facility,
issued a provisional order, pursuant to Section 11A(a)(3)(B) of the
Act,\9\ authorizing the filing exchanges (and any other self-regulatory
organization (``SRO'') which agreed to become a participant in the ITS
Plan) to act jointly in planning, developing, operating and regulating
the ITS in accordance with the terms of the ITS Plan for a period of
120 days.\10\
---------------------------------------------------------------------------
\8\ The exchanges involved were the Amex, BSE, NYSE, PCX (then
called the ``PSE''), and PHlx.
\9\ 15 U.S.C. 78k-1(a)(3)(B).
\10\ See Exchange Act Release No. 14661 (April 14, 1978), 43 FR
17419. In authorizing the implementation of ITS, the Commission
urged those SROs not yet ITS participants to participate in ITS. Id.
at 7 n.15, 43 FR 17421. On August 11, 1978, the Commission extended
ITS authority for an additional period of one year. See Exchange Act
Release No. 15058 (August 11, 1978), 43 FR 36732. In the interim the
ITS Plan had been amended to include the Midwest Stock Exchange
(``MSE'') as a participant. The MSE is now the CHX.
---------------------------------------------------------------------------
Subsequently, during the Commission's hearings regarding proposed
Rule 19c-3 under the Act,\11\ the NASD announced plans to enhance its
Nasdaq System to include, among other things, a computer assisted
execution system that would enable participating firms to route their
orders for listed securities through the system to obtain automatic
executions against quotations of third market makers.\12\ This system
later came to be known as CAES. The NASD also contemplated an automated
interface between the ITS and CAES (``ITS/CAES'') to permit automated
execution of commitments sent from participating exchanges and to
permit market makers participating in the enhanced Nasdaq to route
commitments efficiently to exchange markets for execution.\13\
---------------------------------------------------------------------------
\11\ Exchange Act Release No. 15769 (April 26, 1979), 44 FR
26688. Rule 19c-3 precludes exchange off-board trading restrictions
from applying to securities listed after April 26, 1979.
\12\ The term third market makers refers to OTC market makers in
listed securities.
\13\ In its discussions with the ITS Participants, the NASD
indicated that the enhanced Nasdaq would encompass trading of listed
securities and that it intended to pursue an automated interface.
See In re Off-Board Trading Restrictions, File No. 4-220, at 9-10,
23-34.
---------------------------------------------------------------------------
[[Page 70298]]
The Commission later extended its authorization for the joint
operation of ITS \14\ but indicated several concerns with respect to
ITS that would require the attention of the ITS Participants during the
extension period. In particular, the Commission indicated that, in
order for ITS to serve as a means to achieve price protection on an
intermarket basis, the ITS Participants should implement ``a linkage
between the ITS and over-the-counter market makers regulated by the
NASD. * * *'' \15\ The Commission further indicated its expectation
that the NASD would become an ITS participant before October 1980, and
stated that if the contemplated ITS/CAES interface was not implemented
promptly, the Commission was prepared to take appropriate steps to
require the inclusion of third market makers in ITS.\16\
---------------------------------------------------------------------------
\14\ The authorization for the joint operation was extended
until January 31, 1983. See Exchange Act Release No. 16214
(September 21, 1979), 44 FR 56069.
\15\ Id. at 12, 44 FR 56072. The Commission also called for a
linkage between the ITS and the CSE's National Securities Trading
System (``NSTS'').
\16\ Id. at 14-15, 44 FR 56072. The Commission substantially
reiterated these views in a letter to Congress shortly thereafter.
See letter from Harold M. Williams, Chairman, SEC, to the Honorable
Bob Eckhardt, Chairman, Subcommittee on Oversight and Investigations
and the Honorable James Scheuer, Chairman, Subcommittee on Oversight
and Investigations and the Subcommittee on Consumer Protection and
Finance, House Committee on Interstate and Foreign Commerce, dated
November 9, 1979, included in Progress Toward the Development of a
National Market System, Joint Hearings before the Subcommittee on
Consumer Protection and Finance of the Committee on Interstate and
Foreign Commerce, House of Representatives, 90th Cong., 1st Sess.,
Serial 96-89.
---------------------------------------------------------------------------
On June 11, 1980, the Commission adopted Rule 19c-3 under the Act,
which eliminated off-board trading restrictions with respect to most
newly-listed securities, thereby permitting member firms of the NYSE
and Amex to make markets over-the-counter in what was then a small
number of NYSE and Amex-listed securities.\17\ The Commission stated
that the presence of additional market makers might: (1) Place
competitive pressure on primary market specialists, potentially
narrowing spreads in Rule 19c-3 securities; and (2) create incentives
for markets to disseminate quotations of greater size, adding to the
depth, liquidity, and continuity of the markets for those
securities.\18\
---------------------------------------------------------------------------
\17\ See Exchange Act Release No. 16888 (June 11, 1980), 45 FR
41125 (``Rule 19c-3 Adopting Release''). The rule, as adopted,
essentially precludes exchange off-board trading restrictions from
applying to securities listed after April 26, 1979 (``Rule 19c-3
securities''). Although the Commission recognized many potential
concerns regarding the rule, such as internalization, the Commission
determined that they were outweighed by the benefits of the rule,
including an opportunity for competition between the OTC and
exchange markets, with concomitant benefits to investors.
Internalization refers to ``the withholding of retail orders from
other market centers for the purpose of executing them `in-house,'
as principal without exposing those orders to buying and selling
interest in those other market centers.'' Id. at 18, n.31, 45 FR
41128, n.31.
\18\ The Commission believed that off-board trading restrictions
had anti-competitive effects because they effectively confined
trading in listed securities to exchange markets by precluding
exchange members from trading as principal in the OTC market.
Adopting Rule 19c-3 limited the expansion of the anti-competitive
effects. The Commission also announced the development of a
monitoring program to study the issues raised by commentators and
determined to publish monitoring reports on a periodic basis. In
connection with the adoption of Rule 19c-3, the Commission noted the
importance of the NASD's completion of the Nasdaq enhancements in
order to provide ``a more efficient mechanism for over-the-counter
market making in listed securities.'' Id. at 14-15, 45 FR 41127. See
Rule 19c-3 Adopting Release, supra note 17, at 49-53, 45 FR 41134.
---------------------------------------------------------------------------
The Commission also indicated that achieving efficient linkages
between traditional exchange trading floors and over-the-counter
markets was essential to obtaining maximum order interaction between
the various types of markets. The Commission therefore stated that it
expected the NASD and the ITS Participants to establish an automated
linkage between ITS and the Nasdaq system and to provide the Commission
with formal status reports on the ITS-Nasdaq linkage.\19\
---------------------------------------------------------------------------
\19\ Id. at 15-16, 45 FR 41127. In September 1980, several
Participants (the Amex, BSE, NYSE, Phlx, and PCX) submitted
identical letters that indicated that they were not at that time
willing to commit to the development of an automated interface. The
NASD responded by reaffirming its commitment to the automated
interface and providing the Commission and the ITS Participants with
a functional description of the automated interface. See Description
of NASD Market Services, Inc., Computer Assisted Execution System,
contained in File 4-208. In its functional description, the NASD
also committed to developing a capability to provide the ITS
Participants with the best bid and offer among all market makers
participating in the enhanced Nasdaq. On January 7, 1981, the NYSE
Board of Directors approved participation in a two-step ``test''
linkage between ITS and the enhanced Nasdaq system.
With respect to the actual operation of the automated interface,
the NYSE plan contemplated an initial pilot phase in which trading
through the automated interface would be limited to the 30 most
active Rule 19c--3 securities. The other ITS Participants were in
general agreement with the NYSE's position with respect to the
automated interface. During the pilot phase, the NYSE anticipated
that the ITS Participants and the Commission would evaluate trading
under the preliminary rule and other policy concerns which may have
been raised by trading Rule 19c-3 securities through the automated
interface. The NYSE plan further anticipated that in the subsequent
phase the automated interface would be expanded to include the
trading of all Rule 19c-3 securities, but only after the completion
of the pilot phase evaluation and agreement among the ITS
Participants and the NASD on any additional measures to address
policy concerns identified by that evaluation.
---------------------------------------------------------------------------
One year later, after the ITS Participants failed to come to an
agreement, the Commission published a release proposing to issue an
order requiring an automated interface between ITS and the enhanced
Nasdaq system.\20\ In proposing the order, the Commission determined
that ITS, because of its ability to permit market participants to send
orders from one market to another, was consistent with national market
system goals and, if efficiently linked with all markets, could become
a permanent feature of a national market system.\21\ The Commission
reiterated its belief that the absence of any established linkage
between the exchanges and OTC market makers preserved an environment in
which there were reduced opportunities to ameliorate market
fragmentation,\22\ to eliminate pricing inefficiencies, to obtain best
execution, and to promote the type of competitive market structure that
a national market system was designed to achieve.\23\
---------------------------------------------------------------------------
\20\ See Exchange Act Release No. 17516 (February 5, 1981), 46
FR 12379 (February 13, 1981).
\21\ Indeed, in mandating that the Commission facilitate the
establishment of a national market system, Congress found that the
linking of all markets for qualified securities through
communication and data processing facilities would foster
efficiency, enhance competition, increase the information available
to brokers, dealers, and investors, facilitate the offsetting of
investors' orders and contribute to best execution of such orders.
Section 11A(a)(1)(D) of the Act, 15 U.S.C. 78k-1(a)(1)(D).
\22\ Fragmentation occurs when investor order flow is directed
to several markets that are not connected. Among other things,
fragmentation reduces the probability of matching customer buy and
sell orders because of the smaller number of orders in each market.
\23\ See Exchange Act Release No. 17516 (February 5, 1981), 46
FR 12379 (February 13, 1981).
---------------------------------------------------------------------------
Finally, on April 28, 1981, the Commission issued an order \24\
requiring the ITS Participants to implement an automated interface
between CAES and ITS by March 1, 1982, limited to Rule 19c-3
securities, and to submit proposed amendments to the ITS Plan
reflecting the inclusion of the NASD as an ITS Participant.\25\ When
the ITS Participants failed to submit an amendment, the Commission
adopted its own amendments to the ITS Plan on May 12, 1982.\26\ The
Commission's
[[Page 70299]]
amendments applied to Rule 19c-3 securities initially because the
Commission believed that the adoption of Rule 19c-3 would likely result
in an increase in volume for these securities, thereby heightening the
need for an efficient linkage between the exchanges and the OTC
market.\27\ The Commission fully intended the ITS/CAES linkage
eventually to be expanded to all listed securities.\28\ As the
Commission stated, ``in order to achieve fully the Congressional goal
that all markets for qualified securities be linked * * * it will be
necessary in the future for the ITS/CAES interface to be expanded to
include all stocks traded in the third market.'' \29\
---------------------------------------------------------------------------
\24\ See Exchange Act Release No. 17744 (April 21, 1981), 46 FR
23856 (April 28, 1981).
\25\ On March 11, 1982, the Commission delayed the
implementation date of the interface until May 1, 1982, and
published its own proposed amendments to the ITS Plan. See Exchange
Act Release No. 18536 (March 11, 1982), 47 FR 10658.
\26\ A majority of the amendments were non-controversial and had
been agreed upon by the parties or reflected the parties' decision
to defer resolution of certain issues until after a pilot phase of
the interface. The areas where the parties could not reach agreement
were resolved by the Commission. See Exchange Act Release No. 18713
(May 12, 1982), 47 FR 20413. The amendments included language
requiring the NASD to apply trade through safeguards to provide for
a sufficient assurance of consistency with the exchanges' trade
through rules. A ``trade through'' occurs when a transaction is
effected at a price below the best bid, or above the best prevailing
offer. The NASD submitted a proposed trade through rule on May 4,
1982, which the Commission approved on an accelerated basis for six
months. The Commission believed that the NASD rule was adequate even
though it was not identical to the exchanges' trade through rules.
See Exchange Act Release No. 18714 (May 6, 1982), 47 FR 20429 (May
12, 1982). The Commission had approved the exchanges' trade through
rules on April 9, 1981. See Exchange Act Release No. 17704 (April 9,
1981), 46 FR 22520.
On September 15, 1983, the pilot phase ended and all Rule 19c-3
securities became eligible for trading through the ITS/CAES
interface. See Exchange Act Release Nos. 19825 (May 31, 1983), 48 FR
25043 (June 3, 1983); and 19970 (July 20, 1983), 48 FR 33103.
\27\ See Division of Market Regulation, Market 2000: An
Examination of Current Equity Market Developments (January 1994)
(``Market 2000 Study''), at A.II.12.
\28\ See Exchange Act Release No. 19456 (January 27, 1983), 48
FR 4938 (February 3, 1983) (``Final Approval Order'').
\29\ Id.
---------------------------------------------------------------------------
The Commission permanently approved the ITS Plan on January 27,
1983.\30\ The Plan contains a number of market integrity provisions to
provide for continuity of transaction prices among the various market
centers, including a trade through rule.\31\ It also contains a block
trade policy that provides special rights to any market displaying the
best national bid or offer when block-size transactions are occurring
in another market.\32\
---------------------------------------------------------------------------
\30\ See id.
\31\ The ITS Plan promotes price continuity among the various
markets by ensuring that all markets have the opportunity to
interact with the best national bids and offers.
\32\ See ITS Plan, Section 8(d)(iii).
---------------------------------------------------------------------------
B. Recent Developments
On November 12, 1991, the NASD submitted an application to the
Commission, pursuant to Rule 11Aa3-2(e), to review the ITS Operating
Committee's (``ITSOC'') failure to approve two NASD recommendations
that would have amended the ITS Plan to expand the ITS/CAES linkage to
include non-Rule 19c-3 securities.\33\ Following that submission, the
Division of Market Regulation (``Division'') issued its Market 2000
Study,\34\ which included the Division's findings that it was necessary
to expand the ITS/CAES linkage,\35\ and identified several regulatory
issues that the Commission believed the NASD needed to address prior to
any expansion.\36\
---------------------------------------------------------------------------
\33\ The NASD has since withdrawn its application. See letter
from Robert E. Aber, Senior Vice President and General Counsel,
Nasdaq, to Jonathan G. Katz, Secretary, Commission, dated July 23,
1998.
\34\ See Market 2000 Study, supra note 27.
\35\ Specifically, the Market 2000 Study noted that the
possibility of execution in the OTC market of a significant
percentage of the total volume in multiple traded securities
increased the need to enhance interaction of orders in all market
centers to eliminate trade throughs and to provide market makers in
those securities the ability to compete for order flow through their
displayed quotations. Market 2000 Study, supra note 27.
\36\ The Division, in its Market 2000 Study, identified several
areas where the NASD should amend its rules prior to an expansion of
the ITS/CAES linkage. Specifically, the Division recommended that
the NASD amend its rules to provide for: the display of customer
limit orders that improve the existing ITS best bid or offer
(``BBO''); customer limit order protection; fixed standards for
queuing and executing customer orders; crossing of customers'
orders, if possible, without dealer intervention; and compliance
with ITS trade through and block trade policies. The Division also
stated that the NASD should develop a program specifically designed
to enhance oversight examination of the third market. Id.
In February 1995, the NASD submitted a rule filing addressing
those recommendations but subsequently withdrew that filing in light
of the Commission's publication of its Order Handling Rules
(Exchange Act Release No. 37619A (September 6, 1996), 61 FR 48290
(September 12, 1996)), which addressed many of the topics covered by
the NASD's proposed rules. On June 22, 1998, the NASD submitted a
Petition for Rulemaking (``NASD Petition'') to adopt rules necessary
to remove the limitation on access to ITS with respect to non-Rule
19c-3 securities.
---------------------------------------------------------------------------
In addition, in 1995, in the proposing release for the Order
Handling Rules, the Commission solicited comment on whether the ITS/
CAES linkage should be expanded to cover non-Rule 19c-3 securities.\37\
In the adopting release for those rules, the Commission deferred action
on the expansion of the ITS/CAES linkage, and instead encouraged the
ITS Participants to work jointly to expand the linkage.\38\
---------------------------------------------------------------------------
\37\ See Exchange Act Release No. 36310 (September 29, 1995), 60
FR 52792 (October 10, 1995).
\38\ See Order Handling Rules, supa note 36.
---------------------------------------------------------------------------
Subsequently, on May 27, 1997, the Commission sent a letter to the
ITS Participants outlining four aspects of the ITS Plan that it
considered anti-competitive and requesting that they develop reasonable
recommendations to the Commission in the form of proposed ITS Plan
amendments and proposed SRO rule changes.\39\ The responses that the
Commission received indicated that not all the Participants would agree
to expand the ITS/CAES linkage.\40\ Because the ITS Plan currently
requires a unanimous vote on proposed amendments, these changes could
not be approved by the Participants. Accordingly, in July, 1998, the
Commission proposed, on its own initiative, to expand the ITS/CAES
linkage.\41\ The Commission received numerous comment letters in
response to its proposal. After careful review of those comments, the
Commission is now amending the ITS Plan to expand the ITS/CAES linkage
to all listed securities.
---------------------------------------------------------------------------
\39\ Preliminarily, the Commission found four elements of the
current operation of ITS and the ITS Plan to be an unreasonable
impediment to competition among the various markets: (1) Minimum
increments for ITS commitments; (2) the lack of access to ITS for
OTC market makers; (3) the unanimous vote requirement for ITS Plan
amendments; and (4) the ITS Participants' special right of review of
CSE proposed rule changes. See letter from Jonathan G. Katz,
Secretary, Commission, to ITS Participants, dated May 27, 1997
(``May 27 Letter''). The Participants have voted to eliminate the
limitation on access to increments through ITS, and the review of
CSE rule changes. The Commission recently approved amendments to the
ITS Plan to eliminate the special right of review of CSE rule
changes. See Exchange Act Release No. 40553 (October 14, 1998), 63
FR 56278 (October 21, 1998).
\40\ Eight of the nine Participants supported eliminating the
ITS/CAES linkage restrictions as long as certain significant changes
are made to the NASD's rules prior to the expansion. See letter from
Thomas F. Ryan, Jr., President and Chief Operating Officer, Amex, to
Jonathan G. Katz, Secretary, Commission, dated June 26, 1997 (``Amex
Letter''); letter from Charles J. Henry, President and Chief
Operating Officer, CBOE, to Jonathan G. Katz, Secretary, Commission,
dated June 26, 1997 (``CBOE Letter''); letter from Robert H. Forney,
President and Chief Executive Officer, CHX, to Jonathan G. Katz,
Secretary, Commission, dated November 3, 1997 (``CHX Letter'');
letter from David Colker, Executive Vice President and Chief
Operating Officer, CSE, to Jonathan G. Katz, Secretary, Commission,
dated July 3, 1997 (``CSE Letter''); letter from Robert E. Aber,
Vice President and General Counsel, Nasdaq, to Jonathan G. Katz,
Secretary, Commission (``NASD 1997 Letter''); letter from James E.
Buck, Senior Vice President and Secretary, NYSE, to Jonathan G.
Katz, Secretary, Commission, dated June 25, 1997 (``NYSE Letter'');
and letter from William G. Morton, BSE, Robert H. Forney, CHX,
Robert M. Greber, PCX, and Nicholas Giordano, Phlx, to Jonathan G.
Katz, Secretary, Commission, dated June 23, 1997 (``Joint Letter'').
\41\ See Exchange Act Release No. 40260 (July 21, 1998), 63 FR
40748 (July 30, 1998) (``Proposing Release''). In the Proposing
Release, the Commission also proposed to eliminate the requirement
that amendments to the ITS Plan be approved unanimously. The
Commission is deferring consideration of that proposal at this time.
The Commission plans to deal with several larger issues relating to
market structure in an upcoming concept release.
---------------------------------------------------------------------------
[[Page 70300]]
II. Summary of Comments
The Commission received 15 comment letters relating to the
expansion of the ITS/CAES linkage to all listed securities.\42\ All 15
commenters generally support the expansion, both with and without
certain conditions. In general, most of the commenters state that
expanding the linkage will greatly benefit the market place and public
investors.\43\ Specifically, the commenters believe that expanding the
linkage will: increase market efficiency and transparency, reduce trade
throughs, and level the playing field between third market firms and
exchanges; \44\ decrease market fragmentation and produce long-term
benefits to the NMS; \45\ increase the liquidity and competitiveness of
the securities markets; \46\ and increase the opportunity for investors
to obtain the best price available in all markets for orders in
exchange-listed securities.\47\ One commenter states that there is no
longer any good economic reason to trade Rule 19c-3 securities
differently from non-Rule 19c-3 securities,\48\ while another states
that from a marketplace and economic standpoint the distinction is
meaningless.\49\ The NYSE, on the other hand, believes that it is more
appropriate for the ITS Participants themselves to draft the necessary
Plan amendments, rather than for the Commission to adopt the
amendments.\50\
---------------------------------------------------------------------------
\42\ See letters from James Angel, Associate Professor of
Finance, Georgetown University School of Business, to Jonathan G.
Katz, Secretary, Commission, dated August 3, 1998 (``Angel ITS/CAES
Letter''); Adam W. Gurwitz, CSE, to Jonathan G. Katz, Secretary,
Commission, dated August 27, 1998 (``CSE ITS/CAES Letter''); James
E. Buck, Senior Vice President and Secretary, NYSE, to Jonathan G.
Katz, Secretary, Commission, dated August 31, 1998 (``NYSE ITS/CAES
Letter''); Robert H. Forney, President and Chief Executive Officer,
CHX, to Jonathan G. Katz, Secretary, Commission, dated August 28,
1998 (``CHX ITS/CAES Letter''); Robert Lazarowitz, Chief Operating
Officer, Trimark Securities, to Jonathan G. Katz, dated August 28,
1998 (``Trimark Letter''); Joanne Moffic-Silver, General Counsel and
Corporate Secretary, CBOE, to Jonathan G. Katz, Secretary,
Commission, dated September 1, 1998 (``CBOE ITS/CAES Letter'');
Craig S. Tyle, General Counsel, Investment Company Institute, to
Jonathan G. Katz, Secretary, Commission, dated September 2, 1998
(``ICI Letter''); Kevin M. Foley, Bloomberg, to Jonathan G. Katz,
Secretary, Commission, dated September 4, 1998 (``Bloomberg
Letter''); Richard Ketchum, President and Chief Operating Officer,
NASD, to Jonathan G. Katz, Secretary, Commission, dated September 8,
1998 (``NASD ITS/CAES Letter I''); Robert W. Seijas, Co-President,
and Joel M. Surnamer, Co-President, The Specialist Association, to
Jonathan G. Katz, Secretary, Commission, dated September 1, 1998
(``SA Letter''); Lon Gorman, President, Schwab Capital Markets and
Trading Group, Charles Schwab & Co., to Jonathan G. Katz, Secretary,
Commission, dated September 14, 1998 (``Schwab Letter''); John C.
Katovich, Senior Vice President and General Counsel, OptiMark
Technologies, Inc., to Jonathan G. Katz, Secretary, Commission,
dated September 22, 1998 (``OptiMark ITS/CAES Letter''); Andrew M.
Brooks, Vice President and Head of Equity Trading, T. Rowe Price
Associates, Inc., to Jonathan G. Katz, Secretary, Commission, dated
September 29, 1998 (``T. Rowe Letter''); James F. Duffy, Executive
Vice President and General Counsel, Amex, to Jonathan G. Katz,
Secretary, Commission, dated October 17, 1998 (``Amex ITS/CAES
Letter''); Richard Ketchum, President and Chief Operating Officer,
NASD, to Jonathan G. Katz, Secretary, Commission, dated December 17,
1998 (``NASD ITS/CAES Letter II''); and Richard Ketchum, President
and Chief Operating Officer, NASD, to Jonathan G. Katz, Secretary,
Commission, dated June 3, 1999 (``NASD ITS/CAES Letter III'').
\43\ See CSE ITS/CAES Letter; Trimark Letter; CBOE ITS/CAES
Letter; Bloomberg Letter; NASD ITS/CAES Letter I; and OptiMark ITS/
CAES Letter.
\44\ See Trimark Letter.
\45\ See CBOE ITS/CAES Letter; T. Rowe Letter (reduce market
fragmentation).
\46\ See Bloomberg Letter; OptiMark ITS/CAES Letter.
\47\ See NASD ITS/CAES Letter I; Schwab Letter.
\48\ See Angel ITS/CAES Letter.
\49\ See Trimark Letter. OptiMark states that there is no
fundamental regulatory or functional basis for discriminating
between Rule 19c-3 securities and non-Rule 19c-3 securities. See
OptiMark ITS/CAES Letter.
\50\ See NYSE ITS/CAES Letter.
---------------------------------------------------------------------------
A. Conditional Expansion
The Commission specifically requested comment on what, if any,
regulatory steps needed to be taken prior to expansion of the ITS/CAES
linkage. Some commenters support the expansion outright,\51\ while
several commenters support the linkage if the Commission removes
certain regulatory disparities between the third market and the
exchange community.\52\ For example, the NASD states that the expansion
of the linkage is fully warranted at this time given that there have
been significant changes to the third market since the link was
originally established in 1982.\53\ On the other hand, the NYSE
believes that three issues need to be resolved prior to any expansion
of the linkage: (1) Enhanced NASD oversight of the third market; (2)
the adoption of fixed standards for queuing and executing customer
orders; and (3) the application of the ITS trade through rule and block
policy to cover NASD members that are not registered with the NASD as
``ITS/CAES Market Makers'' in a security.\54\
---------------------------------------------------------------------------
\51\ See Angel Letter; Trimark Letter; Bloomberg Letter; NASD
ITS/CAES Letter I.
\52\ See CSE ITS/CAES Letter; CHX ITS/CAES Letter; CBOE ITS/CAES
Letter; Schwab Letter; SA Letter; NYSE ITS/CAES Letter; Amex ITS/
CAES Letter.
\53\ These include the requirement that: OTC market makers
provide continuous two-sided quotations for any listed security in
which the firm is responsible for more than 1% of the consolidated
trading volume; all third market makers register as CQS market
makers and participate in ITS/CAES, thereby subjecting them to the
obligations and protections afforded Participants in the ITS Plan;
the price and size of customer limit orders that improve the public
quote be displayed; members be prohibited from ``trading ahead'' of
customer orders. See NASD ITS/CAES Letter I.
\54\ See NYSE ITS/CAES Letter. Similarly, the Specialist
Association (``SA'') believes that certain changes to the third
market must be implemented and proven, not just adopted, before
expansion of the linkage (such as rules establishing fixed standards
for queuing and executing customer orders, and assuring that
customers' orders will be crossed, if possible, without dealer
intervention). The SA realizes that the Commission's Order Handling
Rules, which require all specialists and market makers to display,
directly or through ECNs, customer limit orders that improve such
specialists' or market makers' quotations, mean that those orders
are available to be crossed with customer market orders on the other
side of the market. The SA also notes that NASD Rule 6440(f)
precludes NASD members from effecting a transaction for their own
account ahead of customers' market and limit orders. The SA,
however, argues that the NASD still lacks a rule requiring NASD
members to cross customer market orders against each other, rather
than executing them as principal for the member's own account,
whenever it is possible to do so. The SA also states that the NASD
must expand the application of its trade through and block trade
policy rules to cover all third market trading in ITS securities.
See SA Letter.
---------------------------------------------------------------------------
1. Trade Through Rule
The Commission specifically requested comment on which, if any,
third market participants should be subject to a trade through rule,
and what the substance of that rule should be. In response, the NYSE
stated that the trade through rule should apply to all ``third market
making,'' as opposed to ``third market makers.'' The NYSE notes that
the current NASD trade through rule already applies to all third market
makers in ITS/CAES eligible securities, and would continue to do so
even if the linkage were expanded. The NYSE believes that the trade
through rule should apply not only to trades reported by ITS/CAES
market makers, but also to all trades reported by NASD members that
trade exchange-listed securities.\55\ Similarly, the Specialist
Association, CSE, Amex, and CHX believe that a trade through rule
should apply to all member firms that effect trades in ITS/CAES
eligible securities, even those that are not registered as ITS/CAES
market makers in those securities, and including block positioning
firms and order entry firms.\56\
---------------------------------------------------------------------------
\55\ See NYSE ITS/CAES Letter. The NYSE also believes that the
approach taken by the NASD in a previous filing (SR-NASD-95-09),
which was withdrawn, is an appropriate and acceptable means of
addressing this issue, Id. See also NASD ITS/CAES Letter I.
\56\ See SA Letter; Amex ITS/CAES Letter; CSE ITS/CAES Letter;
CHX ITS/CAES Letter. Amex notes that this is what the NASD
originally proposed in SR-NASD-95-09, which was later withdrawn.
---------------------------------------------------------------------------
CHX states that third market makers that fall under the 1% \57\
threshold
[[Page 70301]]
should be bound by the trade through rules, as should block positioners
and automated trading systems (``ATSs'').\58\ Specifically, CHX
believes that block positioners that are not quoting two-sided
continuous markets should have limited ITS/CAES access for the purpose
of sending commitments when they would otherwise trade through a
market, while third market makers who do hold themselves out as willing
to buy and sell on a continuous basis should have complete ITS access.
CHX also believes that ATSs that have elected to be subject to the
display alternative should have a passive form of access to ITS (and
should be subject to the trade through rule) but that non-display
alternative ATSs should not have any access to ITS (but should still be
subject to the trade through rule).\59\
---------------------------------------------------------------------------
\57\ Under Exchange Act Rule 11Aac1-1, third market makers who
account for less than 1% of trading volume in a security, block
positioners who do not hold themselves out as being willing to buy
and sell securities on a continuous basis, and ATSs that do not
elect the display alternative do not have to display quotations
(``1% Rule'').
\58\ See CHX ITS/CAES Letter.
\59\ See CHX ITS/CAES Letter.
---------------------------------------------------------------------------
Finally, the ICI supports the adoption of a trade through rule for
third market makers, but believes that the scope of the protection
should be limited to displayed orders and not ``reserved'' or other
``hidden'' orders.\60\ Schwab suggests that the NASD affix a trade
report modifier identifying prints by NASD members that are not ITS/
CAES market makers.\61\
---------------------------------------------------------------------------
\60\ See ICI Letter.
\61\ Schwab states that currently the NASD's trade through and
block trade rules apply only to ITS/CAES market makers, which can
put specialists in the position of having to provide price
protection against prints from NASD members that are not registered
CAES market makers, such as block positioners who do not post quotes
and are inaccessible through ITS/CAES. Schwab believes this
situation could be remedied if the NASD were to affix a trade report
modifier identifying prints by NASD members that are not ITS/CAES
market makers (and therefore not subject to the trade through rule).
See Schwab Letter.
---------------------------------------------------------------------------
The NASD notes that all voluntary CQS market makers \62\ and any
other OTC market maker accounting for more than 1% of the consolidated
volume in a security are already subject to the NASD's trade through
rule, Rule 5262, and that expanding the universe of ITS/CAES eligible
securities will automatically extend the existing trade through rule to
these participants with respect to the new securities. In response to
many of the concerns discussed above, the NASD initially stated that it
was willing to consider a trade through rule applicable to all members
who would not otherwise be subject to the rule (either because they
account for less than 1% of the volume and choose not to become CQS
market makers or because they fit into the block positioner exception
to the Commission's 1% Rule).\63\ More recently, however, the NASD
stated that it does not believe that the application of a trade through
rule to non-market makers would be fair because non-market makers do
not have access to ITS.\64\ The NASD further believes that it can
alleviate concerns about the trade through issue by surveilling ITS/
CAES market makers for compliance with ITS/CAES rules, including the
trade through rule. The NASD also notes that Nasdaq, through its ITS
Desk in its Market Operations Department, is able to determine on a
real time basis the identity of each NASD member that reports a trade,
and if another market center inquires regarding a perceived trade
through of its market by an NASD member, the ITS Desk is able to
immediately inform the inquiring market center whether the print was
reported by a market maker subject to the rule or an NASD member not
subject to the rule.\65\ Finally, the NASD has indicated its commitment
to, at some point after Year 2000, develop a special trade report
modifier that the NASD or non-CAES market maker member reporting a
trade could append to each trade report to distinguish such trade
report from those of CAES market makers.\66\
---------------------------------------------------------------------------
\62\ All third market makers registered as CQS market makers in
securities eligible for inclusion in the ITS/CAES linkage are
required to register as ITS/CAES market makers. See NASD rule
5210(e).
\63\ See NASD ITS/CAES Letter I. The NASD initially stated it
would consider a trade through rule like the one it filed with the
Commission in 1995, consideration of which was deferred pending the
Order Handling Rules. See NASD-95-09.
\64\ See NASD ITS/CAES Letter III.
\65\ See NASD ITS/CAES Letter III. The NASD further notes that
today, if another market center sees a print from the OTC market in
a rule 19c-3 security, the same procedure described above is
conducted.
\66\ The NASD does not believe that a system change is possible
at this time given the resources being expended on Y2K preparation
by the NASD, SIAC and the other exchanges.
---------------------------------------------------------------------------
2. Trade Reporting Rule
Two commenters believe that, prior to expanding the linkage, the
NASD must amend its trade reporting rules for listed securities to
align them with exchange reporting rules.\67\ In response, the NASD
proposed to amend its trade reporting rule for listed securities.\68\
Specifically, the NASD proposed to eliminate a provision of its rules
applicable to the reporting of transactions in exchange-listed
securities, which requires members to report transactions in a manner
``reasonably related to the prevailing market taking into consideration
all relevant circumstances.'' For years, the ITS Participants have
asserted that this language provides inappropriate flexibility in the
manner in which NASD members may report third market transactions. The
NYSE states that the NASD's proposal addresses its concerns with the
trade reporting issue.\69\ CHX, however, does not believe that the
NASD's proposal solves the perceived problem with the NASD's trade
reporting rule because it would not eliminate the discretion that the
trade reporting rule gives to third market makers to determine the
price at which to report a trade. CHX asserts that the proposal would
merely eliminate the standard articulating how to calculate the markup
or markdown on the sale.\70\ CHX further argues that the rule change
increases the likelihood that a third market maker will be able to
avoid a violation of the trade through rule.\71\ The NASD responds to
this criticism by noting that concerns over the trade reporting rule
will be effectively addressed through surveillance and enforcement of
best execution obligations and confirmation disclosure
requirements.\72\
---------------------------------------------------------------------------
\67\ See CHX ITS/CAES Letter; NYSE ITS/CAES Letter.
\68\ See Exchange Act Release No. 40360 (August 25, 1998), 63 FR
46267 (August 31, 1998) (SR-NASD-98-61). The Commission notes that
this proposal was approved in July 1999. See Exchange Act Release
No. 41647 (July 23, 1999), 64 FR 41478 (July 30, 1999).
\69\ See NYSE ITS/CAES Letter.
\70\ See CHX ITS/CAES Letter.
\71\ See CHX ITS/CAES Letter.
\72\ See NASD ITS/CAES Letter II.
---------------------------------------------------------------------------
3. Surveillance of Third Market
With regard to surveillance concerns, CHX believes that the NASD
must implement a more thorough program for surveillance of the third
market so that the NASD can ensure that the third market trading firms
that provide automated routing and execution services are operating
within their stated execution parameters.\73\ The NYSE states that it
assumes that the Commission would not propose to expand the linkage
unless it was satisfied that the NASD had installed an adequate
oversight examination program for the third market.\74\
---------------------------------------------------------------------------
\73\ See CHX ITS/CAES Letter.
\74\ See NYSE ITS/CAES Letter. See also Amex ITS/CAES Letter.
---------------------------------------------------------------------------
4. Other Conditions
In the CSE's view, ITS should only be opened to all listed
securities at the same time that the securities of large, well-
capitalized companies that trade in the OTC market are included in
ITS.\75\ CSE also believes that the Commission
[[Page 70302]]
should address the prohibition on regional markets from trading initial
public offering securities during the first day of trading because the
third market is not subject to such a restriction.\76\ CHX asserts that
ATS-type regulations should be applied to third market makers that
provide automated routing and execution facilities to other broker-
dealers in a fashion directly in competition with exchanges. CBOE
argues that Nasdaq market makers should be required to reflect limit
orders from options market makers or other broker-dealers in their
displayed quotes and provide price protection to such limit orders.\77\
---------------------------------------------------------------------------
\75\ See CSE ITS/CAES Letter. CHX also believes that Nasdaq
stocks should be eligible for ITS. See CHX ITS/CAES Letter.
\76\ See also CHX ITS/CAES Letter.
\77\ See CBOE ITS/CAES Letter. CBOE sees this as injurious to
the options market and investors in that market and believes it
prevents investors in Nasdaq stocks from achieving best execution
because they cannot see or trade with a significant source of orders
in those stocks.
---------------------------------------------------------------------------
B. ECN Participation
The Commission also requested comment on whether electronic
communications networks (``ECNs,'' also known as ATSs) \78\ should be
allowed to participate in ITS.\79\ Most commenters who discuss the
issue support ECN participation in some form. The ICI believes that a
truly national market requires a linkage between exchanges, market
makers and ECNs, and therefore supports the inclusion of ECNs in
ITS.\80\ Bloomberg agrees that ECNs should be allowed to participate in
the ITS/CAES linkage. The NASD believes that the Commission should
allow bilateral access between ECNs and ITS Participants, without
restriction as to any spread parameter for a two-sided quote by the
ECNs. The NASD also believes it would be appropriate to implement a
formula to guard against the linkage being used as an order routing
facility to gain access to ITS Participants.\81\ Schwab encourages the
Commission to work with the NASD and the other ITS Participants to
eliminate regulatory and structural impediments to ECN participation in
ITS and the ITS/CAES linkage.\82\
---------------------------------------------------------------------------
\78\ The term ECN is defined, with certain exceptions, as any
electronic system that widely disseminates to third parties orders
entered into the ECN by an exchange market maker or OTC market
maker, and permits such orders to be executed against in whole or in
part. See Exchange Act Rule 11Ac1-1(a)(8). The term ATS is defined
more broadly as any organization, association, person, group of
persons, or system: (1) That constitutes, maintains, or provides a
market place or facilities for bringing together purchasers and
sellers of securities or for otherwise performing with respect to
securities the functions commonly performed by a stock exchange
within the meaning of Exchange Act Rule 3b-16; and (2) that does
not: (i) set rules governing the conduct of subscribers other than
the conduct of such subscribers' trading on such organization,
association, person, group of persons, or system; or (ii) discipline
subscribers other than by exclusion from trading. See Regulation
ATS, Sec. 242.300(a). Essentially, an ECN is a type of ATS.
\79\ Under the ECN Display Alternative, an order entered by a
market maker into an ECN that widely disseminates the order is
deemed to be a bid or offer to be communicated to the market maker's
association for at least the minimum quotation size required by the
Association's rules if the priced order is for the account of the
market maker, or the actual size of the order up to the minimum
quotation size required if the priced order is for the account of a
customer. The ECN Display Alternative deems the market maker to be
in compliance with this requirement if the ECN displays the market
maker's order in Nasdaq. If the only option is for ECNs to link to
the NMS through the NASD, specialists and market makers would only
have the ECN alternative for trading rule 19c-3 securities through
ITS. Specialists or market makers, therefore, could not use ECNs for
non-rule 19c-3 securities because their quotes would not be
accessible to the other ITS Participants.
\80\ See ICI Letter.
\81\ See NASD ITS/CAES Letter I. The NASD is also willing to
proceed with a proposal to have ECN quotes be subject to trade
through protection by exchange markets and accessible through the
ITS/CAES linkage if the Commission is unwilling to support a
formula.
\82\ See Schwab Letter.
---------------------------------------------------------------------------
The NYSE states that it remains flexible in considering Plan
amendments to accommodate ECNs, and points out that the NASD has raised
for consideration a number of potential ways in which ECNs could access
ITS through the linkage.\83\ CHX believes that ATSs that have elected
to be subject to the display alternative should have a passive form of
access to ITS but that non-display alternative ATSs should not have any
access to ITS.\84\
---------------------------------------------------------------------------
\83\ See NYSE ITS/CAES Letter.
\84\ See CHX ITS/CAES Letter.
---------------------------------------------------------------------------
C. Miscellaneous
Several commenters raise additional issues regarding the expansion
of the linkage. In the Proposing Release, the Commission noted that the
NASD's autoquote policy would conflict with the ITS Plan, which limits
computer-generated quotations to 100 shares, if the ITS/CAES linkage
were expanded. The Commission requested comment on the autoquote issue.
The NASD responds that it intends to discuss the issue with the ITSOC,
with a view toward implementing a computer-generated quotation policy
that could apply to all ITS/CAES eligible securities.
The Commission also requested the NASD to consider developing
standards for queuing and executing customer orders. The NASD does not
believe there are any significant problems in this area. It states that
it believes that any potential problems might manifest themselves as a
failure to promptly display customer orders at the opening or as a
failure to provide best execution while holding multiple orders, for
which enhanced regulatory standards have been implemented. The NASD
notes that it is unaware of any problems or customer complaints in
either context. It also notes that NASD market makers generally
guarantee customer orders the opening price of the primary market,
thereby eliminating the potential for queuing at the open.\85\
---------------------------------------------------------------------------
\85\ See NASD ITS/CAES Letter I. The NASD does not believe that
the issue of queuing is directly relevant to the ITS/CAES expansion.
---------------------------------------------------------------------------
OptiMark believes that Participants should be required to
substantially improve the system performance and capacity of ITS,
noting that the technology in use is an inefficient combination of
manual and automated sub-systems within ITS. OptiMark is concerned that
this creates capacity limitations that lead to poor or untimely
executions of ITS commitments and delays in obtaining access to
ITS.\86\ CSE urges the Commission to fix inefficiencies that exist
within ITS and other national market systems, including CTA and CQS, to
enable faster trade reporting and quote updating.\87\
---------------------------------------------------------------------------
\86\ See OptiMark ITS/CAES Letter.
\87\ See CSE ITS/CAES Letter.
---------------------------------------------------------------------------
CHX believes problems exist relating to the expiration of ITS
commitments that are not executed by the receiving market. Generally,
CHX regards the expiration of ITS commitments as a violation of the
firm quote rule and believes that ITS Participants should have
liability under the ITS Plan when a market fails to act on an ITS
commitment before it expires.\88\
---------------------------------------------------------------------------
\88\ See CHX ITS/CAES Letter.
---------------------------------------------------------------------------
D. Replacing or Rewriting the ITS Plan
The Commission specifically requested comment on whether the ITS
facility itself should be replaced or the ITS Plan rewritten. CHX sees
no reason to take such measures at this time, believing that ITS,
although twenty years old, has served the industry well and has evolved
over time to meet changing market conditions. CBOE also states that the
Plan has served the NMS well in the last two decades, and believes that
with increased automation and other improvements, it will continue to
serve the industry into the next century.
In contrast, the NYSE and Amex both assert that they are receptive
to discussing alternatives to ITS.\89\ ICI believes that further
enhancements may be necessary to realize the goals of a true NMS where
a customer order entered anywhere can interact with the best
[[Page 70303]]
price available.\90\ Schwab believes that the Commission should
``scrap'' ITS, and that access to prices in other markets could be
achieved more efficiently and competitively by requiring each SRO to
grant access to its automated order routing system--either through
private vendors or through sponsored access by members of that SRO.\91\
---------------------------------------------------------------------------
\89\ See NYSE ITS/CAES Letter; Amex ITS/CAES Letter.
\90\ ICI suggests allowing any vendor to establish an
intermarket linkage system, or that all ITS Participants should be
required to be open to such linkages, including linkages that
provide for the automated routing of orders. See ICI Letter.
\91\ Schwab believes that ITS is an archaic system and that any
number of private communications systems are faster, cheaper, more
reliable, and more efficient. See Schwab Letter.
---------------------------------------------------------------------------
The NYSE is open to discussing the possible replacement of the
current ITS computer system with either existing order routing systems
or a third-party system, but suggests that the Commission consider
whether any linkage is necessary at all.\92\ The NYSE also has concerns
about the legal structure that would govern any new system. Moreover,
the NYSE believes that any new linkage should provide non-members with
access only to superior-priced quotations.\93\ Finally, the NYSE
believes that if the Commission did amend the Plan, it would need to
retain the descriptions of the ITS interfaces contained in the current
Plan, and adopt language clarifying that these descriptions are the
only means by which the Participants can access ITS.
---------------------------------------------------------------------------
\92\ With respect to the operation of the current ITS, the NYSE
does not believe that any amendments are necessary to the ITS Plan.
See NYSE ITS/CAES Letter. Amex also believes that the existing order
routing and execution systems of the exchanges and the NASD could be
used in place of ITS, and would support any Commission action to
assess whether ITS could be readily replaced by other available
access mechanisms. Amex, however, does not believe amendments to the
current ITS Plan are necessary or appropriate at this time.
\93\ The NYSE believes it would still be necessary to adopt
special rules governing pre-opening procedures, trade throughs,
block trades, and locked and crossed markets. In addition, the NYSE
believes it would be necessary to specify that non-member trading
interest are not ``orders'' that have the same standing in an
exchange Participant's market as member orders. See NYSE ITS/CAES
Letter.
---------------------------------------------------------------------------
III. Discussion and Basis for Adoption
A. Expansion of Linkage Generally
As it originally stated in its permanent approval order for ITS,
the Commission continues to believe that it is necessary to expand the
ITS/CAES linkage to all listed securities in order to fully implement
the 1975 Congressional mandate to create a national market system
linking the exchanges and the OTC market.\94\ When the Commission
approved the limited linkage for Rule 19c-3 securities in May 1982,\95\
it intended it to be the first step toward a more expansive
linkage.\96\ The Commission's amendments applied to Rule 19c-3
securities initially because the Commission believed that the adoption
of Rule 19c-3 would likely result in an increase in volume for these
securities, thereby heightening the need for an efficient linkage
between the exchanges and the OTC market.\97\ Since that time, there
has been a marked increase in the level of trading in the third market.
In 1987, third market trading of NYSE listed stocks accounted for 1.9%
of the volume and 2.05% of the trades reported to the consolidated
tape. By 1997, third market trading of NYSE listed stocks accounted for
7.7% of the volume and 10.49% of the trades reported to the
consolidated tape.\98\
---------------------------------------------------------------------------
\94\ See Final Approval Order, supra note 28. Specifically, the
Commission noted that ``in order to achieve fully the Congressional
goal that all markets for qualified securities be linked (Section
11A(a)(1)(D) of the Act), it will be necessary in the future for the
ITS/CAES interface to be expanded to include all stocks traded in
the third market.'' Id. at 4940.
\95\ See Exchange Act Release No. 18713 (May 12, 1982), 47 FR
20413.
\96\ See also Market 2000 Study, supra note 27, at AII-12; and
Order Handling Rules, supra note 36.
\97\ See Market 2000 Study, supra note 27, at A.II.12.
\98\ See NYSE 1997 Fact Book at 26-27.
---------------------------------------------------------------------------
There have been other significant improvements in the third market.
Specifically, any NASD member that acts in the capacity of an OTC
market maker must provide continuous two-sided quotations for any
exchange-listed security in which that member, during the most recent
calendar quarter, comprised more than 1% of the aggregate trading
volume for the security as reported in the consolidated system (``1%
Rule'').\99\ The NASD also now requires all third market makers
registered as CQS market makers in ITS-eligible securities to register
and participate in ITS/CAES.\100\ In addition, the NASD prohibits third
market makers from trading ahead of their own customer limit
orders.\101\ Finally, the Limit Order Display Rule requires third
market makers to display customer limit orders in their quote if those
orders improve the quote.\102\ The Commission's adoption of the Limit
Order Display Rule eliminates the need for the NASD to implement a rule
to require the display of customer limit orders that improve the
existing ITS/BBO, as recommended in the Market 2000 Study.\103\ The
Limit Order Display Rule also provides an enhanced opportunity for
public orders to interact with other public orders without the
intermediation of a specialist or market maker by requiring certain
customer limit orders to be displayed in the quote.
---------------------------------------------------------------------------
\99\ The 1% Rule applied only to Rule 19c-3 securities prior to
being expanded in the Order Execution Rules. See Exchange Act
Release No. 39367 (November 26, 1997), 62 FR 64242 (December 4,
1997) (``Autoquote Order'').
\100\ See Exchange Act Release No. 34280 (June 29, 1994), 59 FR
34880 (July 7, 1994).
\101\ NASD Rule 6440(f)(1)(2), which applies to listed
securities, states that no member shall buy (or sell) (or initiate
the purchase or sale of) any security at or above (or below) the
price at which it personally holds or has knowledge that any person
associated with it holds an unexecuted limited price order to buy
(or sell) such security in the unit of trading for a customer.
\102\ See Order Handling Rules, supra note 36.
\103\ The Limit Order Display Rule requires all specialists and
market makers to display customer limit orders that improve their
quotes. See Order Handling Rules, supra note 36.
---------------------------------------------------------------------------
In light of these changes, as discussed below, the Commission
believes that there is no longer any need for the historical
distinction between Rule 19c-3 and non-Rule 19c-3 securities in the
ITS/CAES linkage. The Commission believes that expansion will increase
a broker-dealer's ability to obtain the best price available for the
customer, promote competition in listed securities, help ensure more
equivalent access to the markets, and provide for additional liquidity
and more efficient executions.
Failure to achieve a linkage between exchange and OTC markets in
all listed securities inhibits a broker's ability to ensure best
execution of customer orders because orders in non-Rule 19c-3
securities routed to exchange floors cannot be easily redirected to the
OTC market when more favorable prices are offered by OTC market makers.
Conversely, OTC market makers are precluded from using an efficient
means to deliver their orders to exchange floors when the exchange has
a more favorable price in non-Rule 19c-3 securities.\104\ The
Commission believes that expanding the ITS/CAES linkage to non-Rule
19c-3 securities will enable the OTC market maker and the exchange
specialist to access more directly those superior priced quotes through
ITS, rather than potentially executing an order at an inferior price.
---------------------------------------------------------------------------
\104\ Non-exchange member OTC market makers presently are able
to access exchange floors only through correspondent relationships
with member firms.
---------------------------------------------------------------------------
The Commission also believes that the failure to expand the ITS/
CAES linkage would impede competition among brokers and dealers and
between exchange markets and other markets, and that competitive OTC
markets cannot develop fully in the absence of
[[Page 70304]]
a linkage for all listed securities.\105\ Without an expanded ITS/CAES
linkage, OTC market makers in non-Rule 19c-3 securities have little
ability to interact with the vast majority of retail orders, which
presently are routed to the primary exchange markets, or to attract
additional order flow through their displayed quotations. The expansion
of the ITS/CAES linkage should promote increased competition in non-
Rule 19c-3 securities. The Commission also believes the expansion
should help equalize access to all the markets because OTC market
makers and exchange specialists will have more direct access to each
other's markets for non-Rule 19c-3 securities. Finally, the Commission
believes that expanding the ITS/CAES linkage will reduce the occurrence
of trade throughs because the NASD's trade through rule will apply to
all listed securities traded in the third market, not just Rule 19c-3
securities.\106\
---------------------------------------------------------------------------
\105\ The Commission indicated in the Rule 19c-3 Adopting
Release that intermarket exposure of orders in a national market
system should maximize competition between and among markets and
market participants, and further the efficiency and fairness of the
securities markets. See Rule 19c-3 Adopting Release, supra note 17,
at 10, 45 FR at 41126.
\106\ Currently, third market makers may trade non-Rule 19c-3
listed securities without complying with the ITS trade through rule.
---------------------------------------------------------------------------
B. Conditional Expansion
As mentioned above, several of the commenters asserted their belief
that certain regulatory steps were necessary prior to expanding the
ITS/CAES linkage. Many commenters argued that the NASD should expand
its trade through rule to apply to all NASD members. The Commission
believes that the NASD should continue to consider modifying its
existing trade through rule, but that it is not an essential
precondition to approval of an expanded linkage. Currently, all third
market makers registered as CQS market makers who trade ITS/CAES
eligible securities must register as ITS/CAES market makers, which
subjects them to the trade through rule. If the linkage is expanded,
non-Rule 19c-3 securities will become ITS/CAES eligible securities.
Therefore, any CQS market makers in those securities will be required
to register as ITS/CAES market makers and will become subject to the
NASD's trade through rule.
Several commenters argued that the NASD's trade through rule should
apply not only to ITS/CAES market makers, but to all third market
participants. The Commission, however, recognizes the NASD's concern
that it is not fair to apply the trade through rule to other third
market participants that trade in listed securities, such as block
positioners that fit within the block positioner exception to the
Commission's 1% Rule, and market makers that account for less than one
percent of trading volume in a security and choose not to register as
CQS market makers because they do not have access to ITS/CAES. The
Commission notes that the NASD has indicated its commitment to
modifying the trade reporting process so that exchange Participants can
distinguish a trade originating from an ITS/CAES market maker from one
originating from another third market participant.\107\ This result
should permit exchange participants to recognize when an NASD member
subject to the trade through rule has executed a trade through. Until
such time as the NASD makes the requisite systems changes to attach
trade modifiers to trade reports, the Commission believes that the NASD
can adequately surveil for compliance with the trade through rule.
---------------------------------------------------------------------------
\107\ See NASD ITS/CAES Letter III. The NASD has stated that it
will develop a special trade report modifier that an NASD or non-
CAES market maker member reporting a trade may append to each trade
report to distinguish such trade report from those of CAES market
makers. The NASD, however, does not expect to accomplish this goal
in the near future because of resources aimed at Y2K issues.
---------------------------------------------------------------------------
Commenters also expressed concerns regarding the NASD's trade
reporting rule. The Commission believes that the issue of timely and
accurate trade reporting of listed securities by the third market has
already been adequately addressed. In July 1999, the Commission
approved an NASD proposed rule change to amend NASD Rule 6420(d)(3)(A),
the trade reporting rule for principal transactions in listed
securities.\108\ Prior to the rule change, the NASD's rule required
members to report transactions in a manner ``reasonably related to the
prevailing market taking into consideration all relevant
circumstances.'' Commenters asserted that that this language provided
too much flexibility in the manner in which NASD members may report
third market transactions. The NASD rule change eliminated the
``reasonably related to the prevailing market'' language. The
Commission recognizes that there are differences in the trade reporting
rules of the third market and the exchange markets, but believes that
the rule change adequately addresses some of the ambiguity in the rule
for the purpose of expanding the ITS/CAES linkage.\109\ The Commission
also notes that third market transactions during regular market hours
must be reported to the consolidated tape within 90 seconds of
execution; this is the same as the reporting of transactions on all the
exchanges. Moreover, the Commission's confirmation rule requires
participants in the third market to report transactions to the
consolidated tape at the same price as they report the transactions to
the customer.\110\ The Commission notes that the NASD must continue to
ensure that it is actively and adequately surveilling trade reporting
in the third market.\111\
---------------------------------------------------------------------------
\108\ See Exchange Act Release No. 41647 (July 23, 1999), 64 FR
41478 (July 30, 1999).
\109\ The Commission notes that NASD Rule 6420(d)(3)(A) applies
to all listed securities, including those that already are ITS/CAES
eligible securities.
\110\ See Exchange Act Rule 10b-10, 17 CFR 240.10b-10. This rule
requires that when a NASD member is acting as an agent for a
customer, the member must confirm to the customer the gross trade
price, which is the price that was reported to the Consolidated
Tape, the commission equivalent, as well as the net price to the
customer. When an NASD member is acting as principal for its own
account, the member must include in the confirmation the price
reported to the Consolidated Tape, the net price to the customer,
and the difference, if any.
\111\ In its Report Pursuant to Section 21(a) of the Securities
Exchange Act of 1934 Regarding the NASD and the Nasdaq Market, the
Commission noted that the NASD failed to monitor and enforce
rigorously trade reporting compliance by NASD members trading
exchange-listed securities in the OTC market, and that there were
many transactions that constituted trade throughs. See U.S.
Securities and Exchange Commission, Report Pursuant to Section 21(a)
of the Securities Exchange Act of 1934 Regarding the NASD and the
Nasdaq Market (August 8, 1996) (``Section 21(a) Report'') at A-44.
Since that time, the NASD has taken various measures designed to
comply with the undertakings contained in its settlement, one of
which required the NASD to improve substantially the reliability of
trade reporting through enhancement of surveillance, examination,
and enforcement. See In the Matter of National Association of
Securities Dealers, Inc., Exchange Act Release No. 37538 (August 8,
1996); Administrative Proceeding File No. 3-9056 (``SEC Order''), at
8 (Undertaking No. 9).
---------------------------------------------------------------------------
C. ECN/ATS Participation
In the proposing release, the Commission requested comment on
whether ECNs (or ATSs) should be required or allowed to participate in
ITS, and if so, what form that participation should take. Most of the
commenters who discuss the issue supported ECN and ATS access to ITS in
some form. For example, CHX believes that ECNs that have elected to be
subject to the display alternative should have a passive form of access
to ITS but that non-display alternative ATSs should not have any access
to ITS.\112\ The Commission believes that, in order to further the
goals of the national market system, ECNs trading in listed securities
should be linked to ITS. ITS should not prevent efficient electronic
routing between markets. The
[[Page 70305]]
Commission notes that the Participants have begun a dialogue about the
parameters of ECN access to ITS. The Commission strongly urges the
Participants to continue to discuss the issue and reach a resolution.
---------------------------------------------------------------------------
\112\ See CHX ITS/CAES Letter.
---------------------------------------------------------------------------
D. NASD Autoquote Policy
The Commission recognizes that the NASD's current autoquote policy
may conflict with the ITS Plan if the linkage is expanded to cover all
listed securities.\113\ However, the Commission notes that the
Participants have been discussing this issue, and expects the
Participants to continue to discuss how to amend the Plan to permit
computer-generated quotations.\114\
---------------------------------------------------------------------------
\113\ See Autoquote Order, supra note 97. Currently, NASD Rule
6330 permits computer-generated quotations in exchange-listed
securities that generate proprietary quotes for 100 shares or more
if such quote systems equal or improve either or both sides of the
NBBO, add size to the NBBO, or are used to expose a customer's
market or marketable limit order for price improvement
opportunities. This rule applies only to non-Rule 19c-3 securities,
because of the concern that it conflicts with the ITS Plan provision
that currently restricts automated quotation tracking systems to 100
shares or less. See Section 8(d)(ii) of the Plan.
\114\ The Commission notes that on December 3, 1999, the NASD
filed a petition for rulemaking to address this issue. The
Commission is currently considering that petition. On a
miscellaneous issue, one commenter argued that the unlisted trading
privilege rule for IPOs (Rule 12f-2(a) under the Exchange Act),
which restricts regional exchanges from trading securities subject
to an IPO for the first day, should be amended prior to expanding
the ITS/CAES linkage. The Commission notes that it received a study
on this issue and is publishing a proposing release addressing this
issue. Although two commenters argue that Nasdaq stocks should trade
over ITS, the Commission believes that this issue is separate from,
and not relevant to, whether or not to expand the ITS/CAES linkage
to all listed securities. The Commission notes that it recently
approved the expansion of Nasdaq UTP-eligible securities from 500 to
1,000 securities. See Exchange Act Release No. 41392 (May 12, 1999),
64 FR 27839 (May 21, 1999). Finally, the Commission believes that
the additional issues raised by the commenters are not directly
relevant to the expansion of the ITS/CAES linkage.
---------------------------------------------------------------------------
IV. Costs and Benefits of the Proposed Amendment
To assist the Commission in its evaluation of the costs and
benefits that may result from the ITS amendments, commenters were
requested to provide analysis and data, if possible, relating to costs
and benefits associated with the proposal. No comments were received
regarding this request.
The Commission believes that any possible increase in costs to
market participants are justified by the overall benefits of the
proposed amendment. The proposed amendments will further the goals of a
national market system under Section 11A by increasing a broker-
dealer's ability to achieve best execution of customer orders,
promoting competition in listed securities, equalizing access to
markets, and providing for additional liquidity and more efficient
executions. Specifically, the Commission believes that expanding the
ITS/CAES linkage to non-Rule 19c-3 securities will enable an OTC market
maker and an exchange specialist to directly access superior priced
quotes in each other's markets through ITS, rather than potentially
executing an order at an inferior price. In addition, the expansion of
the ITS/CAES linkage should promote competition in non-Rule 19c-3
securities by encouraging market makers or specialists to improve their
quotes to match or better the bid or offer in another ITS market in
order to attract order flow from those other markets. Finally, the
Commission believes that the proposed amendment should provide
additional liquidity to the market in non-Rule 19c-3 securities because
direct access (i.e., the increased ability to access a better price in
a security) and increased competition should enable investors to
execute transactions more efficiently.
Any monetary costs to the Participants, including implementation
costs and costs of expanding the linkage to include all non-Rule 19c-3
securities, would most likely be minimal, if they exist at all,
compared to the overall costs of ITS. The Commission consulted with the
Securities Industry Automation Corporation (``SIAC'') as to any
possible costs of implementing the expanded linkage.\115\ SIAC informed
the Commission that there would not be any systems costs from expanding
the linkage, although there may be internal administrative costs for
the NASD.\116\ The Commission notes that the NASD fully supports the
adoption of the Commission's amendment to expand the ITS/CAES linkage.
The Commission also notes that most commenters supported the expanded
linkage. The Commission further notes that the proposal may affect ITS
order flow between the Participants, by increasing it for some
Participants, decreasing it for others, or increasing it for all
Participants. The Commission believes that any costs to Participants in
the form of possible reduced order flow or decreased tape fees (from
decreased executions) are justified by the benefits of the proposal,
including increased liquidity, increased competition, and a better
chance for best execution of customer orders.
---------------------------------------------------------------------------
\115\ SIAC serves as the facilities manager for ITS and is
responsible for the operation and maintenance of ITS.
\116\ Phone conversation between Tom Demchak, SIAC, Katherine A.
England, Assistant Director, Market Regulation, Commission, and
Christine Richardson, Attorney, Commission, on November 23, 1998.
---------------------------------------------------------------------------
V. Effects on Competition, Efficiency and Capital Formation
Section 3(f) of the Exchange Act requires the Commission, when
engaging in rulemaking that requires it to consider or determine
whether an action is necessary or appropriate in the public interest,
to consider whether such action will promote efficiency, competition,
and capital formation.\117\ In the Proposing Release, the Commission
solicited comment on the effect on competition, efficiency, and capital
formation. Many commenters believe that the expanded linkage will
ultimately increase market efficiency, competition and
transparency.\118\
---------------------------------------------------------------------------
\117\ See 15 U.S.C. 78c(f).
\118\ See, e.g., NASD ITS/CAES Letter I; Trimark Letter;
Bloomberg Letter; Schwab Letter; and ICI Letter.
---------------------------------------------------------------------------
In the Commission's view, the amendment to the ITS Plan is not
likely to impose any significant burden on competition, efficiency or
capital formation not necessary or appropriate in furtherance of the
Act. Indeed, the Commission believes that expansion of the ITS/CAES
linkage to all listed securities should promote competition among
market centers and improve efficiency in the execution of customer
orders.
Section 23(a)(2) of the Exchange Act requires the Commission, when
promulgating rules under the Exchange Act, to consider the competitive
effects of such rules and to not adopt any rule that would impose a
burden on competition that is not necessary or appropriate in
furtherance of the Act.\119\ The Commission has considered the proposed
amendment to the ITS Plan to expand the ITS/CAES linkage in light of
the standards cited in Section 23(a)(2) of the Act and believes that it
would not likely impose any significant burden on competition not
necessary or appropriate in furtherance of the Exchange Act. Indeed,
the Commission believes that the proposed amendment to expand the ITS/
CAES linkage should promote competition in non-Rule 19c-3 securities
because OTC market makers should now be able to attract orders
typically routed to exchange specialists by disseminating a superior
quote in all listed securities, not just Rule 19c-3 securities. In
addition, the expansion of the ITS/CAES linkage should allow exchange
specialists to attract orders held by OTC market makers in non-Rule
19c-3 securities. The Commission believes that the proposed amendment
[[Page 70306]]
should help to increase efficiency and improve execution quality
because investors will be able to access directly the exchange and OTC
markets for all listed stocks.
---------------------------------------------------------------------------
\119\ See 15 U.S.C. 78w(a)(2).
---------------------------------------------------------------------------
VI. Final Regulatory Flexibility Analysis
A Final Regulatory Flexibility Analysis (``FRFA'') has been
prepared in accordance with the provisions of the Regulatory
Flexibility Act (``Reg. Flex. Act''), to provide a description and
estimate of the number of small entities that would be affected by the
ITS Plan amendment to expand the ITS/CAES linkage to all listed
securities.\120\
---------------------------------------------------------------------------
\120\ 5 U.S.C. 603(a).
---------------------------------------------------------------------------
Paragraph (c)(1) of Rule 0-10 \121\ states that the term ``small
business'' or ``small organization,'' when referring to a broker-
dealer, means a broker or dealer that: (1) Had total capital (net worth
plus subordinated liabilities) of less than $500,000 in its prior
fiscal year's audited financial statements or, if not required to file
such statements, on the last business day of the preceding fiscal year;
and (2) is not affiliated with any person (other than a natural person)
that is not a small business or small organization. None of the
exchanges are included within the definition of ``small entity.'' The
Commission estimates that there are 8,300 registered broker-dealers,
including approximately 5,000 ``small entities.'' The Commission
requested comment on the number of small entities that could be
affected by the proposed amendment, but did not receive any comment on
the subject.
---------------------------------------------------------------------------
\121\ This amendment was proposed under an older, more
expansive definition of ``small entity'' and as such is being
adopted under the older definition. The Commission however, recently
adopted a revised definition of ``small entity.'' See Definitions of
``Small Business'' or ``Small Organization'' Under the Investment
Company Act of 1940, the Investment Advisers Act of 1940, the
Exchange Act, and the Securities Act of 1933, Exchange Act Release
No. 40122(June 24, 1998), 63 FR 35508 (June 30, 1998). The revision,
among other things, expanded the affiliation standard applicable to
broker-dealers, to exclude from the definition of a small entity
many introducing broker-dealers that clear customer transactions
through large firms. See revised Rule 0-10(i). The Commission notes
that, under the revised definition of ``small entity,''
approximately 1,100 of all registered broker-dealers are
characterized as ``small.''
---------------------------------------------------------------------------
As discussed more fully in the FRFA, the proposal would directly
affect the nine ITS Participants, none of which is a small entity as
defined by paragraph (c)(1) of Exchange Act Rule 0-10.\122\ However,
specialists on the exchange floors who trade ITS-eligible securities,
broker-dealers that have access to ITS through terminals located on
exchange floors, and registered ITS/CAES market makers who trade in
ITS-eligible securities in the third market could be indirectly
affected.
---------------------------------------------------------------------------
\122\ 17 CFR 240.0-10(c)(1).
---------------------------------------------------------------------------
To the extent that a specialist or market maker does fall under the
definition of ``small entity,'' the Commission believes that the effect
is likely to be indirect and positive. Under the current system, an OTC
market maker may be trading a security at a better price than an
exchange specialist (or vice versa) and the exchange specialist (or OTC
market maker) is not able to access directly the better quote for non-
Rule 19c-3 securities. Expanding the ITS/CAES linkage to non-Rule 19c-3
securities should enable the OTC market maker and the exchange
specialist to access directly those superior priced quotes through ITS,
rather than potentially executing an order at an inferior price.
Furthermore, the expansion of the ITS/CAES linkage to non-Rule 19c-3
securities also would have an indirect, beneficial effect upon the
ability of a broker with ITS access on an exchange floor to achieve
best execution of customer orders. Finally, the ITS Plan amendment does
not establish any new reporting, recordkeeping or compliance
requirements for small entities.
The Commission received no comments on the Initial Regulatory
Flexibility Analysis prepared in connection with the Proposing Release.
A copy of the FRFA may be obtained by contacting Christine Richardson,
Attorney, Division of Market Regulation, Securities and Exchange
Commission, 450 Fifth Street, NW, Washington, DC 20549-1001.
VII. Commission Authority
The Commission is adopting changes to the ITS Plan as set forth
below under Section 11A(a)(3)(B) of the Exchange Act, which authorizes
the Commission to authorize or require SROs to act jointly with respect
to matters as to which they share authority under the Exchange Act in
planning, developing, operating, or regulating a national market
system.\123\
---------------------------------------------------------------------------
\123\ 15 U.S.C. 78k-1(a)(3)(B). This is in addition to the
authority granted to the Commission under Section 11(A)(b)(3) to
approve national market system facilities in response to an
application by SROs. The possible need for commission regulatory
compulsion in connection with the development of a national market
system where necessary to supplement competitive forces was
specifically recognized by the Congress in enacting the 1975
Amendments. For example, the Committee of Conference of both Houses
of Congress, in discussing the implementation of a national market
system, stated:
It is the intent of the conferees that the national market
system evolve through the interplay of competitive forces as
unnecessary regulatory restrictions are removed. The conferees
expect, however, in those situations where competition may not be
sufficient, such as the creation of a composite quotation system or
a consolidated transaction reporting system, the Commission will use
the power granted to it in [the 1975 Amendments] to act promptly and
efficiently to ensure that the essential mechanisms of an integrated
secondary training system are put into place as rapidly as possible.
Committee of Conference, Report To Accompany S. 249, H.R. Rep.
No. 94-249, 94th Cong., 1st Sess., at 92, reprinted in [1975] U.S.
Code Cong. & Ad News 321, 323. See also Exchange Act Release No.
16410 (December 7, 1979), at 13-14, 44 FR 72607, 72608-09.
---------------------------------------------------------------------------
VIII. Conclusion
The Commission continues to believe that it is desirable for the
industry to take the lead in the development, implementation, and
enhancement of national market system facilities and in the formulation
of solutions to national market system issues. Affected industry
participants should have every reasonable opportunity to advance
national market system goals without direct Commission intervention. In
this instance, however, the Commission believes that change will not
occur without Commission intervention. Therefore, the Commission has
determined to adopt final amendments to the ITS Plan to provide for the
expansion of the ITS/CAES linkage to all listed securities. The
Commission finds that the final amendments are consistent with the Act,
particularly Section 11A of the Act.
IX. Text of Amendments to the ITS Plan
The Commission hereby adopts amendments to the ITS Plan to provide
for the expansion of the ITS/CAES interface to non-Rule 19c-3
securities, pursuant to Rule 11Aa3-2(b)(2) and (c)(1) and the
Commission's authority under Sections 2, 3, 6, 11, 11A(a)(3)(B), 15A,
17 and 23 \124\ of the Act. Below is the text of the amended ITS
Plan.\125\ Deleted text is [bracketed] and new language is italicized.
---------------------------------------------------------------------------
\124\ 15 U.S.C. 78b, 78c, 78f, 78k, 78k-1(a)(3)(B), 78o-1, 78q,
and 78w(a).
\125\ The text reflects the latest unofficial completion of the
ITS Plan supplied by the ITSOC, including all previously
incorporated amendments up to May 30, 1997.
---------------------------------------------------------------------------
* * * * *
Section 1. Definitions.
(1)--(16) No Change.
(17) ``ITS/CAES Security (stock)'' means a security (stock) (a)
that is a System security[, (b) that is a 19c-3 security and (c)] and
(b) as to which one or more ITS/CAES Market Makers are registered as
such with the NASD for the purposes of Applications. When used with
reference to a particular ITS/CAES Market Maker, ``ITS/CAES security''
means any such security
[[Page 70307]]
(stock) as to which the particular ITS/CAES Market Maker is so
registered.
(18)-(25) No Change.
[(26) ``19c-3'' security'' means an Eligible Security that is not a
``covered security'' as that term is defined in SEC Rule 19c-3 as in
effect on May 1, 1982.]
[(27)](26)
[(27A)](26A)
[(27B)](26B)
[(27C)](26C)
[(27D)](26D)
[(27E)](26E)
[(28)](27)
[(29)](28)
[(30)](29)
[(31)](30)
[(32)](31)
[(33)](32)
[(34)](33)
[(34A)](33A)
[(34B)](33B)
[(35)](34)
[(36)](35)
[(37)](36)
Section 2. No Change.
Section 3. No Change.
Section 4. No Change.
Section 5. The System.
(a) No Change.
(b) General Operation. (i) No Change.
(ii) Selection of System Securities. The System is designed to
accommodate trading in any Eligible Security in the case of any ITS/
CAES Market Maker, trading in one or more ITS/CAES securities in which
he is registered as such with the NASD for the purposes of the
Applications. The particular securities that may be traded through the
System at any time (``System securities'') shall be selected by the
Operating Committee. The Operating Committee may add or delete System
securities as it deems appropriate and may delay the commencement of
trading in any Eligible Security if capacity or other operational
considerations shall require such delay. [ITS/CAES securities may be
traded by Exchange Participants and ITS/CAES Market Makers as provided
in the ITS Plan and other System securities may be traded by Exchange
Participants as provided in the ITS Plan.]
(c)-(d) No Change.
Section 6. No Change.
Section 7. No Change.
Section 8. No Change.
Section 9. No Change.
Section 10. No Change.
Section 11. No Change.
* * * * *
Dated: December 9, 1999.
By the Commission.
Jonathan G. Katz,
Secretary.
[FR Doc. 99-32555 Filed 12-15-99; 8:45 am]
BILLING CODE 8010-01-P
