[Federal Register Volume 62, Number 131 (Wednesday, July 9, 1997)]
[Notices]
[Pages 36860-36862]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-17941]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-38806; File No. SR-PCX-97-19]
Self-Regulatory Organizations; Pacific Exchange, Inc.; Order
Granting Accelerated Approval to Proposed Rule Change Relating to Its
Specialist Evaluation Program
July 1, 1997.
I. Introduction
On May 29, 1997, the Pacific Exchange, Inc. (``PCX'' or
``Exchange'') submitted to the Securities and Exchange Commission
(``SEC'' or ``Commission''), pursuant to Section 19(b)(1) of the
Securities Exchange Act of 1934 (``Act'')\1\ and Rule 19b-4
thereunder,\2\ a proposed rule change to extend its specialist
evaluation pilot program for an additional six months, until January 1,
1998, and make certain amendments to the pilot.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
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The proposed rule change was published for comment in Securities
Exchange Act Release No. 38712 (June 3, 1997), 62 FR 31857 (June 11,
1997). No comments were received on the proposal. This order approves
the proposed rule change on an accelerated basis.
II. Description
On October 1, 1996, the Commission approved a nine-month pilot
program for the evaluation of PCX equity specialists.\3\ The exchange
is now proposing to extend the pilot program for an additional six
month period, until January 1, 1998. The Exchange represented that the
reason for the extension is to allow it more time to evaluate the
impact of the SEC's new order handling rules on the performance
criteria.\4\ During the extension of the pilot, the Exchange has
represented that it will determine an appropriate overall passing score
and individual passing scores for each criterion used in the pilot
program.
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\3\ Prior to the adoption of the pilot program, PCX Rule 5.37(a)
provided that the Exchange's Equity Allocation Committee (``EAC'')
evaluate all registered specialists on a quarterly basis and that
each specialist receive an overall evaluation rating based on three
criteria of specialist performance: (1) Specialist Evaluation
Questionnaire Survey (``Questionnaire'') (45% of overall score); (2)
SCOREX Limit Order Acceptance Performance (10%); and (3) National
Market System Quote Performance (45%). See PSE Rule 5.37 (July
1995).
The pilot program modifies Rule 5.37(a) by adding three new
criteria of performance and eliminating one performance criterion.
The new criteria are: (1) Executions (50%) (itself consisting of
four criteria: (a) Turnaround Time (15%); (b) Holding Orders Without
Action (15%); (c) Trading Between the Quote (10%); and (d)
Executions in Size Greater Than BBO (10%)); (2) Book Display Time
(15%); and (3) Post-1 p.m. Parameters (10%). The pilot eliminates
the SCOREX Limit Order Acceptance Performance criterion. Further,
the pilot adds more questions to the Questionnaire, and reduces its
weight from 45% to 15% of the overall score. Finally, the National
Market System Quote Performance criterion (renamed Quote Performance
under the pilot) has been amended to include within it a submeasure
for bettering the quote (each of the two submeasures is accorded a
weight of 5% of the overall score). For a more detailed description
of the performance criteria utilized in the PCX's pilot program, see
Securities Exchange Act Release No. 37770 (October 1, 1996), 61 FR
52820 (October 8, 1996) (File No. SR-PSE-96-28). See also generally
PCX Rule 5.37 (description of the standards and procedures
applicable to the EAC's evaluation of specialists).
\4\ See Securities Exchange Act Release No. 37619A (September 6,
1996), 61 FR 48290 (September 12, 1996) (File No. S7-30-95).
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In addition, the Exchange proposes to implement for use in the
evaluation program, beginning with the third quarter review period of
1997 (i.e., the quarter beginning July 1, 1997), certain programming
changes requested by the Commission in its October 1, 1996 order
approving the pilot program. Specifically, the Commission requested
that the Exchange reprogram its systems so that the following criteria
are calculated using the NBBO instead of the primary market quote:
Trading Between the Quote, Book Display Time, and Quote Performance
(Equal or Better Quote Performance and Better Quote Performance). The
description of these performance criteria will be modified as follows:
Trading Between the Quote \5\
``Trading Between the Quote'' currently measures the number of
market and marketable limit orders that are executed between the best
primary market bid and offer. For this criterion to count toward the
overall evaluation score, ten orders or more must have been executed
during the quarter in which the specialist is being evaluated. If less
than ten orders are executed, this criterion will not be counted and
the rest of the evaluation criteria will be given more weight.
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\5\ ``Trading Between the Quote'' is one of the four criteria
which together constitute the ``Executions'' criterion. See supra
note 3.
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When a market or marketable limit order is executed, the execution
price is compared to the primary market bid and
[[Page 36861]]
offer. The specialist will be awarded points based on the percentage of
orders the specialist receives that are executed between the primary
market bid and offer. If the execution price falls between the primary
market bid and offer, the trade is counted as one that traded between
the quote at the time of execution. Each time a trade is executed, the
primary market quote will be noted. If the spread of that quote is two
or more trading fractions apart, that trade will count as one eligible
for the comparison of the execution price to the quote.
The Exchange is now proposing to continue using this criterion, but
to replace references to the ``primary market bid and offer'' with
references to the ``NBBO.''
Book Display Time
This criterion calculates the percentage of book shares at the best
price in the book that is displayed in the specialist's quote, by
symbol, and the duration of time that each percentage is in effect.
This criterion rates the P/COAST book displayed 100% of the time. The
sizes of all open buy limit orders at the best price for the symbol in
the specialist's book are totaled and compared to the bid size quote.
The sizes of all open sell limit orders at the best price for the
symbol in the book are totaled and compared to the offer size quote.
This will be done for each symbol traded by the specialist, but only
for those orders within the primary market quote. Limit orders in the
book that were priced beyond the primary market quote will not be
included; they will not be executed until they reach the price in the
primary market quote, so the specialist should not be required to cover
them in his (her) quote sizes.
The Exchange is now proposing to continue using this criterion, but
to replace references to the ``primary market bid and offer'' to
references to the ``NBBO.''
Quote Performance
This criterion, on which 10% of each specialist evaluation is
based, consists of two submeasures: (a) Equal or Better Quote
Performance; and (b) Better Quote Performance.
Equal or Better Quote Performance calculates for each issue traded,
the percentage of time in which a specialist's bid or offer is equal to
or better than the primary market quote with a 500 share market size or
the primary market size, whichever is less, with a 200 share minimum.
Better Quote Performance calculates for each issue traded, the
percentage of time in which a specialist's bid or offer is better than
the primary market quote with a 500 share market size or the primary
market size, whichever is less, with a 200 share minimum. The Exchange
is proposing to continue using this criterion, but to replace
references to the ``primary market bid and offer'' with references to
the ``NBBO.''
In addition, the Exchange has represented that it will submit a
proposed rule change with the Commission pursuant to rule 19b-4 under
the Act \6\ by November 15, 1997 that will specify an overall passing
score for the performance evaluation and individual passing scores for
each criterion, as well as a request to further extend the pilot beyond
January 1, 1998.
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\6\ 17 CFR 240.19b-4
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III. Discussion
The Commission believes that specialists play a crucial role in
providing stability, liquidity, and continuity to the trading of
stocks. Among the obligations imposed upon specialists by the Exchange,
and by the Act and the rules promulgated thereunder, is the maintenance
of fair and orderly markets in their designated securities.\7\ To
ensure that specialists fulfill these obligations, it is important that
the Exchange conduct effective oversight of their performance. The
PCX's specialist evaluation program is critical to this oversight.
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\7\ Rule 11b-1, 17 CFR 240.11b-1; PSE rule 5.299f).
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In its order initially approving the specialist evaluation pilot
program,\8\ the Commission asked the Exchange to monitor the
effectiveness of the amended program. Specifically, the Commission
requested information about the number of specialists who fell into the
bottom 10% of all registered specialists on their respective trading
floors in the overall program, whether they subsequently appeared
before the EAC, and any restrictions placed upon, or further action
taken against, such specialists. The Commission also requested
information as to the number of specialists who appeared before the EAC
as a result of scoring in the bottom 10% in any two out of four
consecutive quarterly evaluations, whether any restrictions were
imposed on such specialists, and the results of any formal proceedings
that were initiated against them.
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\8\ For a description of the Commission's rationale for
initially approving the PCX's adoption of its specialist evaluation
pilot program, see Securities Exchange Act Release No. 37770, supra
note 3. The discussion in the aforementioned order is incorporated
by reference into this order.
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In May 1997, the PCX submitted to the Commission its monitoring
report regarding its specialist evaluation pilot program. The report
describes the PCX's experience with the pilot program during the
initial two quarters of its operation (i.e., the fourth quarter of 1996
and the first quarter of 1997). In terms of the overall scope of the
program, the Commission continues to believe that the objective
measures, together with the floor broker questionnaire, should generate
sufficiently detailed information to enable the Exchange to make
accurate assessments of specialist performance. In this regard, the
increased emphasis on objective criteria under the pilot has been
useful in identifying how well specialists carry out certain aspects
(i.e., timeliness of execution, price improvement, and market making
quality) of their responsibilities as specialists.
However, in the order initially approving the PCX's pilot program,
the Commission expressed its concerns about approving a specialist
evaluation program that contains objective performance criteria
calculated using the primary market quote. The Commission believed that
such criteria were more appropriately calculated based on the NBBO. The
Exchange now proposes to amend the pilot program, beginning with the
third review period of 1997, to utilize the NBBO instead of the primary
market quote in the Trading Between the Quote, Book Display Time, and
Quote Performance criteria. The Commission believes that the NBBO is a
more appropriate standard in this context in that it will enable the
Exchange to gauge the performance of PCX specialists in comparison with
their competitors not only in the primary market, but in the national
market system as a whole.\9\ The Commission finds that the PCX's
proposal is responsive to the Commission's request for such an
amendment.
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\9\ The Exchange's use of the primary market quote in these
three measures did not allow for such comparisons to be made in
instances where the primary market quote is not equal to the NBBO.
See Id. at n.16.
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Further, the Commission has stated previously that true relative
performance standards are the preferable means to evaluate the
comparative performance of specialists on a national securities
exchange.\10\ Moreover, the Commission also has
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stated that an effective evaluation program should subject specialists
who meet minimum performance levels on the overall program, but need
help or guidance in improving their performance in a particular area,
to review. While the PCX's specialist evaluation program subjects those
specialists falling into the bottom 10% of all specialists on his or
her trading floor to review by the EAC, it does not set a minimum
performance level on the overall program. In addition, the Exchange has
not established minimum performance standards for individual
performance criteria. However, the Commission notes that the Exchange
has represented that it will establish an overall passing score for the
evaluation program as well as individual passing scores for each
performance measure during the course of the pilot.
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\10\ By relative performance standards the Commission means
standards that automatically subject specialists that fall below a
predetermined threshold of performance to a special performance
review by the appropriate exchange authority. See Securities
Exchange Act Release No. 28843 (February 1, 1991), 56 FR 5040
(February 7, 1991); Division of Market Regulation, The October 1987
Market Break Report (February 1988) at xvii and 4-28 to 4-29.
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Accordingly, the Commission believes that it is appropriate to
extend the current pilot program for an additional six-month period,
until January 1, 1998. This six-month period will allow the Exchange to
respond to the Commission's continuing concerns with the PCX's
specialist evaluation program. Moreover, the Commission expects the
Exchange to conduct an ongoing examination of the parameter ranges and
corresponding points allotted under each criterion to ensure that they
continue to be set at appropriate levels.
The Commission therefore requests that the PCX submit by November
15, 1997 a proposed rule change pursuant to Rule 19b-4 to revise the
pilot to adopt a passing score for the overall performance evaluation
and each criterion thereof. This proposed rule change also should
include any proposal by the PCX is extend the pilot beyond January 1,
1998.
In addition, the Commission requests that the PCX submit a report
to the Commission, by November 15, 1997, describing its continuing
experience with the pilot. At a minimum, this report should contain
data, for the second and third quarters of 1997, on (1) the number of
registered specialists who scored in the bottom 10% of all registered
specialists on his or her trading floor in the overall program; (2) the
number of specialists, who, as a result of scoring in the bottom 10% in
any one quarterly evaluation, appeared before the EAC, and the type of
restrictions that were imposed on such specialists (i.e., restriction
on new allocations or acting as an alternate specialist), or any
further action was taken against such specialists; (3) the number of
specialists who, as a result of scoring in the bottom 10% in any two
out of four consecutive quarterly evaluations, appeared before the EAC,
whether any restrictions were imposed on such specialists, and whether
formal proceedings were initiated against such specialists; and (4) the
number of specialists for who formal proceedings were initiated, the
results of such proceedings, including a list of any stocks reallocated
from a particular unit.
The Commission notes that the Exchange's pilot program only
modifies the performance criteria of Rule 5.37(a). Consequently, the
Commission expects the EAC to continue to evaluate the performance of
specialists during the pilot period in accordance with the standards
and procedures found in the PCX rules.\11\
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\11\ In this regard, all specialists falling within the bottom
10% of specialists on their respective floors in any review period
are required to meet with the EAC. See also PCX Rule 5.37 (standards
applicable to specialists falling into the bottom 10% in any two out
of four review periods, including those pertaining to the initiation
of formal reallocation proceedings). Moreover, PCX Rule 5.36(d),
Commentary .03 requires that all specialists falling into the bottom
10% in a review period must be precluded from acting as alternate
specialists until their ranking rises above the bottom 10%, unless
the EAC determines otherwise. In addition, PCX Rule 5.37(b),
Commentary .01 requires that all such specialists shall not be
eligible for new allocations until their ranking rises above the
bottom 10%; however, the EAC may make exceptions if there are
sufficient mitigating circumstances.
As also noted in the Commission's order approving the latter
restriction, findings of ``mitigating circumstances'' should not be
routine, but should remain the exception and be made only when
appropriately warranted. See Securities Exchange Act Release No.
37326 (June 19, 1996), 61 FR 32875 (June 25, 1996) (File No. SR-PSE-
96-13). Consequently, the Commission expects that appropriate action
in accordance with PCX rules will be taken with regard to those
specialists falling into the botton 10%.
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For the reasons discussed above, the Commission finds that the
PCX's proposal to extend its pilot program is consistent with the
requirements of Sections 6(b) and 11 of the Act \12\ and the rules and
regulations thereunder applicable to a national securities exchange.
Specifically, the Commission finds that the proposed rule change is
consistent with the Section 6(b)(5) requirement that the rules of an
exchange be designed to promote just and equitable principles of trade,
to remove impediments to and perfect the mechanism of a free and open
market and a national market system, and, in general, to protect
investors and the public interest.\13\
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\12\ 15 U.S.C. 78f(b) and 78k.
\13\ In approving this rule change, the Commission has
considered the proposed rule's impact on efficiency, competition,
and capital formation. 15 U.S.C. Sec. 78c(f).
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Further, the Commission finds that the proposal is consistent with
Section 11(b) of the Act \14\ and Rule 11b-1 thereunder which allow
securities exchanges to promulgate rules relating to specialists in
order to maintain fair and orderly markets and to remove impediments to
and perfect the mechanism of a national market system.
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\14\ 15 U.S.C. 78k(b).
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The Commission finds good cause for approving the proposed rule
change prior to the thirtieth day after the date of publication of
notice thereof in the Federal Register. This will permit the pilot
program to continue both on an uninterrupted basis and with the use of
the NBBO, instead of the primary market quote, in the calculation of
the Trading Between the Quote, Book Display Time, and Quote Performance
criteria. In addition, the rule change that implemented the pilot
program initially was published in the Federal Register for the full
comment period, and no comments were received.\15\
Accordingly, the Commission believes that it is consistent with the
Act to accelerate approval of the proposed rule change.
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\15\ See Securities Exchange Act Release 37770, supra note 3.
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IV. Conclusion
It is therefore ordered, pursuant to Section 19(b)(2) of the
Act,\16\ that the proposed rule change (SR-PCX-97-19) is approved.
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\16\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\17\
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\17\ 127 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-17941 Filed 7-8-97; 8:45 am]
BILLING CODE 8010-01-M
