[Federal Register Volume 59, Number 47 (Thursday, March 10, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-5478]
[[Page Unknown]]
[Federal Register: March 10, 1994]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-33701; File No. SR-CBOE-93-24]
Self-Regulatory Organizations; Order Approving Proposed Rule
Change by the Chicago Board Options Exchange, Inc. Relating to
Telephones Located on the Floor of the Exchange
March 2, 1994.
On June 7, 1993, the Chicago Board Options Exchange, Inc. (``CBOE''
or ``Exchange''), pursuant to Section 19(b)(1) of the Securities
Exchange Act of 1934 (``Act'')\1\ and Rule 19b-4 thereunder,\2\ filed
with the Securities and Exchange Commission (``SEC'' or ``Commission'')
a proposed rule change to incorporate into the rules of the Exchange
the conditions imposed by the Exchange governing the use of member-
owned and Exchange-owned telephones located at equity option trading
posts on the floor of the Exchange. Notice of the proposal appeared in
the Federal Register on July 21, 1993.\3\ No comment letters were
received on the proposed rule change. This order approves the
Exchange's proposal.
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\1\15 U.S.C. 78s(b)(1) (1988).
\2\17 CFR 240.19b-4 (1992).
\3\See Securities Exchange Act Release No. 32633 (July 14,
1993), 58 FR 33471 (July 21, 1993).
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CBOE Rule 6.23 prohibits members from establishing or maintaining
any telephone or other wire communications between their offices and
the Exchange floor without prior approval by the Exchange, and it
authorizes the Exchange to direct the discontinuance of any
communication facility terminating on the Exchange floor.
In October 1992, the Exchange determined to permit the installation
of both Exchange-owned and member-owned telephones at equity option
posts on the trading floor,\4\ and it promulgated Information Circular
IC92-118 (``Circular'') to inform the membership of this new policy and
the fees, charges, and conditions associated with the use of such
telephones. At the time the Circular was issued, the Exchange
determined that the conditions applicable to the use of floor
telephones would not be treated as rules of the Exchange, and
accordingly, no surveillance obligations were imposed on the Exchange
nor were members subject to formal disciplinary proceedings for
violations of the polices contained in the Circular.
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\4\The Exchange has not allowed telephones to be installed at
index option trading posts for use by market markers. Telephone
conversation between Pat Cerny, Market Surveillance, CBOE, and Brad
Ritter, Attorney, Office of Derivatives Regulation, Division of
Market Regulation, SEC, on February 24, 1994.
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The Exchange now proposes to incorporate into its rules those
conditions set forth in the Circular as applying to the use of
telephones at equity options trading posts. Specifically, these
conditions are as follows:
1. There will be no restrictions on where a member may call.
2. Floor telephones may not be used to receive orders, although
they may be used to provide quotations.
3. Members may give their clerks their personal identification
(``PIN'') access codes. Although both members and clerks may use the
post telephones, members will have priority. Liability for all calls
made using a member's PIN access code will be that of the member.
4. Stock clerks will not be permitted to establish a base of
operations utilizing post telephones.
5. Members and their clerks using the telephones consent to the
Exchange requiring that any telephone or line be subject to tape
recording.
6. The telephones will be used for voice service only. Data (PC's,
fax, etc.) will remain subject to Exchange consent under a separate
program.
7. Cellular or portable telephone may not be used on the trading
floor.
8. Telephone headsets may not be used on the equity options floor.
The Exchange shall republish the Circular as a Regulatory Circular
in order to inform members that these conditions are rules and that
violations may lead to disciplinary proceedings. The Exchange believes
it is now appropriate to treat these conditions as Exchange rules in
order to be able to utilize both informal and formal disciplinary
proceedings and sanctions to promote compliance.\5\
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\5\The Exchange has represented that it has received no
complaints, nor has it detected any violations of the procedures
contained in the Circular since telephones have been installed at
the equity options trading posts. Telephone conversation between Pat
Cerny, Market Surveillance, CBOE, and Brad Ritter, Attorney, Office
of Derivatives Regulation, Division of Market Regulation, SEC, on
February 23, 1994 (``February 23 Conversation'').
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The Exchange intends to police compliance with these conditions by
means of customary floor surveillance procedures, including reliance on
surveillance by floor officials and Exchange employees. Additionally,
the Exchange represents that it has in place a surveillance sharing
agreement with the Chicago Mercantile Exchange (``CME'') whereby
transaction information is continually made available to the CBOE by
the CME regarding futures transaction activity by CBOE members that is
above certain defined parameters.\6\ The CBOE also receives New York
Stock Exchange (``NYSE'') program trading information and analyzes this
information against options activity to conduct surveillance for
options strategies implemented ahead of and in anticipation of
programmed equity trades.\7\ Finally, the Exchange represents that it
has systems in place to detect and deter frontrunning.\8\ These systems
generate a report of options trades occurring within a certain time
period prior to the purchase or sale of blocks of 10,000 or more shares
of the securities underlying the options.\9\ The Commission finds that
the proposed rule change is consistent with the requirements of the Act
and the rules and regulations thereunder applicable to a national
securities exchange, and, in particular, the requirements of section
6(b)(5),\10\ in that it is designed to promote just and equitable
principles of trade, prevent fraudulent and manipulative acts and
practices, and maintain fair and orderly markets. Specifically, the
Commission agrees with the Exchange's position as stated in the
Circular that the proposed rule change may facilitate efficient access
to underlying markets by providing market makers with more immediate
access to those markets. Providing procedures whereby market makers in
the equity options crowds can readily communicate with the off-floor
offices of member firms as well as other locations off of the
Exchange's trading floor, will allow them to obtain and transmit
information more efficiently which may result in benefits to investors
by improving execution of orders.
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\6\Id.
\7\Id.
\8\Frontrunning is the practice of effecting an options
transaction based upon non-public information regarding an impending
block transaction in the underlying stock, in order to obtain a
profit when the options market adjusts to the price at which the
block trades.
\9\February 23 Conversation, supra note 5.
\10\15 U.S.C. 78f(b)(5) (1988).
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Further, incorporating the procedures contained in the Circular
into the Rules of the Exchange will enable the Exchange to monitor
better the use of the floor telephones and to discipline members for
violations of those rules. As noted above, because the proposed
telephone policy does not restrict where a member may call, the
telephones may be used to place orders in underlying stocks and in
futures markets.\11\ With respect to equity-related transactions, while
the telephones may give options market makers more immediate access to
the market in the underlying securities, the Commission believes that
the CBOE's surveillance systems currently in place are adequate to
detect and deter any such attempts at manipulation including
frontrunning. Although the surveillance procedures will not directly
detect that a potential frontrunning may have been attempted through
use of the floor telephones, the Exchange's existing surveillance
procedures will ensure that the CBOE is aware of any options
transactions that raise frontrunning concerns. Accordingly, although
the placement of telephones on the equity options trading floor may
make it easier for a market maker to place hedging orders in the
underlying security, the use of the floor telephones will not diminish
the ability of the Exchange to detect and deter manipulation.
Similarly, the CBOE will continue to analyze options trading against
NYSE program trading data for potential frontrunning.\12\ With respect
to futures-related transactions, the Commission believes that the
Exchange would be able to adequately conduct surveillance for improper
activities as a result of the transaction information provided to the
Exchange by the CME pursuant to the Exchange's surveillance sharing
agreement with CME.\13\ Although the surveillance information obtained
by the Exchange will not indicate that the floor telephones were used
to enter into a potentially improper futures transactions, the
Exchange's ability to conduct surveillance for potential manipulation
will not be hindered because of the existence of floor telephones at
the equity options posts on the floor of the Exchange. Additionally,
the Commission also notes that surveillance information is shared
through the Intermarket Surveillance Group (``ISG'').\14\ Because of
potential opportunities for trading abuses involving stock index
futures, stock options, and the underlying stock and the need for
greater sharing of surveillance information for these potential
intermarket trading abuses, the CME and the Chicago Board of Trade
joined the ISG as affiliate members in 1990.
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\11\The proposed rule change also allows members to use the
floor telephones for the purpose of providing quotations on equity
options. In using the telephones for this purpose, members may only
provide quotations that have been publicly disseminated pursuant to
CBOE Rule 30.11.
\12\See supra note 7 and accompanying text.
\13\See supra note 6 and accompanying text.
\14\ISG was formed on July 14, 1983 to, among other things,
coordinate more effectively surveillance and investigative
information sharing arrangements in the stock and options market.
See Intermarket Surveillance Group Agreement, July 14, 1983.
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The Exchange's proposal also prohibits the use of portable and
cellular telephones on the equity options trading floor. Prohibiting
the use of portable telephones aids in ensuring that market makers will
be physically present at the equity options trading posts where the
options classes to which they have been appointed are traded. The
Commission believes that ensuring the physical presence of market
makers at the trading posts helps to promote the maintenance of fair
and orderly markets. As a result, the Commission believes that this
restriction is within the discretion of the Exchange and does not raise
regulatory concerns.
Finally, the Exchange has represented that since the Circular was
issued and telephones at equity options trading posts have been
installed, the Exchange has not received any complaints concerning
their use, nor detected any violations of the procedures set forth in
the Circular.\15\
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\15\February 23 Conversation, supra note 5.
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In summary, because the Commission believes that installing
telephones at the equity options posts on the floor of the Exchange may
result in benefits to investors by allowing market makers to more
efficiently hedge their options positions through improved immediate
access to underlying markets while not impairing or diminishing the
ability of the Exchange to conduct surveillance for improper equity-
related or futures-related trading activity, the Commission finds that
the proposed rule change is consistent with the requirements of the
Act.
It is therefore ordered, Pursuant to section 19(b)(2) of the
Act,\16\ that the proposed rule change (File No. SR-CBOE-93-24) is
approved.
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\16\15 U.S.C. 78s(b)(2) (1988).
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\17\
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\17\17 CFR 200.30-3(a)(12) (1993).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 94-5478 Filed 3-9-94; 8:45 am]
BILLING CODE 8010-01-M
