[Federal Register Volume 61, Number 159 (Thursday, August 15, 1996)]
[Notices]
[Pages 42458-42460]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-20787]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-37543; File No. SR-PSE-96-12]
Self-Regulatory Organizations; Pacific Stock Exchange, Inc.;
Order Approving and Notice of Filing and Order Granting Accelerated
Approval of Amendments to Proposed Rule Change Relating to Financial
Arrangements of Market Makers
August 8, 1996.
I. Introduction
On April 5, 1996, the Pacific Stock Exchange, Inc. (``PSE'' or
``Exchange'') submitted to the Securities and Exchange Commission
(``Commission''), pursuant to Section 19(b)(1) of the Securities
Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 thereunder,\2\ a
proposal to amend its rules on the trading restrictions that apply to
options floor members with ``financial arrangements'' as defined in PSE
Rule 6.40. The proposed rule change was published for comment in the
Federal Register on May 15, 1996.\3\ The Exchange filed Amendment Nos.
1 \4\ and 2 \5\ to its proposal on June 27, 1996, and July 25, 1996,
respectively. No comments 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.
\3\ See Securities Exchange Act Release No. 37186 (May 9, 1996),
61 FR 24521.
\4\ Amendment No. 1 effects three changes to the Exchange's
proposal. First, the proposed amendment to PSE Rule 6.40(b)(2) is
modified so that a reference to ``options series'' is replaced by
one to ``trading crowd.'' Second, a new Rule 6.40, Commentary .01 is
introduced to retain what is essentially current Commentary .04.
Third, the numbering of the Minor Rule Plan addition is changed from
``28'' to ``29'' because Item 28 already was used in another filing.
Letter from Michael D. Pierson, Senior Attorney, Regulatory Policy,
PSE, to Francois Mazur, Attorney, Office of Market Supervision,
Division of Market Regulation, Commission, dated June 26, 1996
(``Amendment No. 1'').
\5\ Amendment No. 2 effects several changes to the Exchange's
proposal. First, the Exchange is adding the phrase ``so represented
or executed'' to the third line of subsection (b)(2) to Rule 6.40,
and also is making some other technical changes to the text of that
subsection. Second, the first line of subsection (b)(4), relating to
exemptions, which introduces subsections (A) and (B), has been
modified to address exemptions generally. Third, proposed
6.40(b)(4)(A) has been modified to reflect that long-term exemptions
will be reviewed at least annually. Fourth, the title of Rule 6.40
has been changed to ``Financial Arrangements of Options Floor
Members.'' Fifth, the Exchange notes that decisions to grant or
revoke an exemption will be reflected in the Options Floor Trading
Committee's (``OFTC'' or ``Committee'') minutes, and members whose
exemptions are granted or revoked will be so notified in writing.
Finally, the reference to ``specialists'' in 6.40(c) has been
deleted. Amendment No. 2 also describes the manner in which
previously-granted long-term exemptions will be reviewed. Letter
from Michael D. Pierson, Senior Attorney, Regulatory Policy, PSE, to
Francois Mazur, Attorney, Division of Market Regulation, Commission,
dated July 24, 1996 (``Amendment No. 2'').
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II. Description of the Proposal
PSE Rule 6.40(a) currently provides that two members have a
``financial arrangement'' with each other for purposes of Rule 6.40 if:
(1) One member directly finances the other member's dealings on the
Exchange and has a beneficial interest in the other member's trading
account such that the first member is entitled to at least 10% of the
second member's trading profits; or (2) both members are trading for
the same joint account. Rule 6.40(b) provides that two members with a
financial arrangement may not bid, offer and/or trade in the same
trading crowd without a written exemption from two floor officials.\6\
Current Commentary .06 sets forth the circumstances under which the
OFTC ordinarily may grant an exemption to those trading restrictions,
i.e., to provide liquidity in the trading crowd.
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\6\ Under PSE Rule 6.40, Commentary .05, two or more Lead Market
Makers (``LMMs'') who are trading on behalf of the same member
organization may not trade in the same option series at the same
time, but may trade in the same trading crowd at the same time.
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The Exchange proposes to redefine the term ``financial
arrangement'' for purposes of Rule 6.40, so that two members have a
financial arrangement with each other if: (1) One member directly
finances the other member's dealings on the Exchange, the amount
financed is $5,000 or more, and the member providing the financing is
entitled to a share of the other member's trading profits; or (2) both
members are registered with the Exchange as nominees of the same member
Organization; or (3) both members are registered with the Exchange to
trade on behalf of the same joint account; or (4) both member's
dealings on the Exchange are financed by the same source, the amount
financed is $5,000 or more, and the member providing the financing is
entitled to a share of each of the other member's trading profits. The
proposal states that members with ``financial arrangements,'' as
defined, may not bid, offer and/or trade in the same trading crowd at
the same time in the absence of an exemption from the OFTC.
The proposal further provides for both long-term and short-term
exemptions that can be provided by the OFTC or two Floor Officials,
respectively. Proposed Rule 6.40(b)(4) states, more specifically, that
the OFTC may grant long-term exemptions to members on a case-by-case
basis if it determines that a fair and orderly market would not be
impaired by allowing such members with financial arrangements to trade
in the same trading crowd at the same time. In making such
determinations, the OFTC shall consider the following factors: (1) The
nature of the financial arrangement; (2) the degree of independence to
be maintained by the applicants in making trading decisions; (3) the
impact on competition in the trading crowd if an exemption were
granted; (4) the applicant's prior patterns of trading if they have
traded previously in the same trading crowd at the same time; and (5)
any other information relevant to whether the applicants would tend
collectively to dominate the market in a particular trading crowd or a
particular option series. The proposal further states that the
Committee may revoke any long-term exemption granted pursuant to this
subsection if it determines that a fair
[[Page 42459]]
and orderly market otherwise would be impaired by a continuation of the
exemption. A decision to grant a long-term exemption will be reflected
in the OFTC's minutes. Under the proposal, the Committee will review
all long-term exemptions at least annually.\7\ In addition, with
respect to previously-granted long-term exemptions, the OFTC will
reserve its right to revoke a long-term exemption if it finds that the
circumstances on which an exemption was based have changed.\8\ The
OFTC's decision would be reflected in the OFTC minutes and the members
whose exemption has been revoked will be so notified in writing.
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\7\ Amendment No. 2, supra note 5.
\8\ Amendment No. 2, supra note 5. For example, if the Committee
grants a long-term exemption to two market makers, and the Exchange
later is notified pursuant to Rule 4.18 that the nature of those
market makers' financial arrangement with respect to each other has
changed, the Exchange staff will request that the OFTC determine
whether to revoke the exemption. Another situation would be one
where two market makers with a financial arrangement and a long-term
exemption change their patterns of trading in the same crowd, so
that they would be jointly dominating the market in a particular
option issue or series. The Exchange could detect this either by
complaints from members of the trading crowd or by routine
surveillance. Again, in this instance, Exchange staff would submit
this to the OFTC for review. Id.
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With respect to short-term exemptions, the proposal states that two
Floor Officials may grant short-term exemptions to members on a case-
by-case basis if such Floor Officials determine that a fair and orderly
market would not be impaired and that the need for liquidity in the
trading crowd warrants such action.
The proposed definition of ``financial arrangement'' would expand
the types of arrangements to which that term applies. Specifically, the
current rule allows two or more members who are backed financially by
the same source (i.e., members with ``indirect'' financial
arrangements), to trade in the same crowd or same series as long as
they are not receiving trading profits from each other and are not
trading for the same joint account. This may allow situations that
violate the spirit, but not the letter, of Rule 6.40. Although current
Commentary .04 to Rule 6.40 seeks to address such arrangements by
expressly prohibiting unfair domination of markets, the Exchange
proposes to remove this provision in light of the expanded definition
of ``financial arrangement'' it proposes.
The Exchange also proposes to remove a provision in the current
rule that states that the primary appointment of a market maker may not
include trading posts that constitute the primary appointment of any
market maker with whom the first market maker has an existing financial
arrangement.\9\
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\9\ See PSE Rule 6.35, Commentary .05.
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The exchange proposes to revise one of the trading restrictions
imposed by Rule 6.40 by replacing a reference to ``option series'' with
one to ``trading crowd.'' The effect of this change is to prevent a
market maker from bidding, offering, or trading in the same trading
crowd in which a floor broker holds an order on behalf of a market
maker with whom he has an existing financial arrangement. In addition,
orders of market makers having existing financial arrangements may not
be represented concurrently, by one or more floor brokers, in a
particular trading crowd.\10\
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\10\ Amendment No. 1, supra note 4.
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Finally, the PSE proposes to add violations of Rule 6.40(b) to the
Exchange's Minor Rule Plan \11\ with recommended fines of $500, $1,000
and $1,500 for first-, second- and third-time violations, respectively.
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\11\ PSE Rule 10.13.
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III. Discussion
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, with Section 6(b)(5) of the Act, in that the proposal is
designed to protect investors and the public interest. Specifically,
the Commission finds, as it did in originally approving Rule 6.40,\12\
that full disclosure of financial arrangements among PSE market makers,
members, and member organizations pursuant to Rule 4.18 (``Disclosure
of Financial Arrangements of Market Makers'') helps the Exchange better
to identify and deter potential trading abuses among affiliated PSE
members and member organizations. In addition, with such disclosure,
the Exchange's ability to monitor the financial condition of its
members and member organizations is enhanced. The Commission believes
that the proposed amendments to Rule 6.40 do not detract from these
benefits in any material manner, and thus are consistent with the Act.
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\12\ Securities Exchange Act Release No. 32775 (August 20,
1993), 58 FR 45368.
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The Commission believes that it is appropriate for the Exchange to
amend the definition of ``financial arrangement'' to focus on the
nature of the financial interest that a member may have in a market
maker's trading account. The Commission believes that the amended
definition will help the Exchange achieve a balance whereby it can
still restrict the types of activity for which the rule was intended,
without unnecessarily removing liquidity from its trading crowds. The
Commission notes that the Exchange will continue to grant short-term
exemptions to members on a case-by-case basis if two floor officials
determine that the need for liquidity in the trading crowd warrants
such action. In addition, the Exchange's proposal provides for long-
term exemptions if the OFTC determines that a fair and orderly market
would not be impaired by allowing such members with financial
arrangements to trade in the same trading crowd at the same time. The
Commission believes that the availability of long-term exemptions,
together with the factors to be considered by the OFTC in determining
that a fair and orderly market would not be impaired by such an
exemption, should address situations where it would be unnecessary to
restrict members with a financial arrangement.
The Commission believes that the Exchange's proposal to remove the
provision prohibiting the primary appointments of market makers with
financial arrangements with each other from overlapping (current
Commentary .02 to Rule 6.40) is consistent with the Act. The Commission
agrees with the Exchange that that provision is superfluous in light of
the trading restrictions set forth in Rule 6.40. In addition, as noted
by the Exchange, permitting members trading for joint accounts to
establish overlapping primary appointment zones should allow for
coverage on the floor when members who trade for those accounts are
temporarily absent from the floor.\13\
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\13\ In this regard, the Exchange notes that the Commission
recently approved a PSE rule change to increase from two to six the
maximum number of trading posts that may be included within a market
maker's primary appointment zone. See Exchange Act Release No. 36370
(October 13, 1995), 60 FR 54273.
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The Commission believes that the PSE's proposal to add violations
of Rule 6.40(b) to the Exchange's Minor Rule Plan is consistent with
the Act. The Commission agrees with the Exchange that violations of
Rule 6.40(b) are easily ascertainable and easily verifiable, and,
therefore, are appropriate for inclusion in the Minor Rule Plan.\14\
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\14\ Rule 19D-1(c)(2) under the Act, 17 CFR 240.19d-1(c)(2),
authorizes national securities exchanges to adopt minor rule
violation plans for the summary discipline and abbreviated reporting
of minor rule violations by exchange members and member
organizations. The Exchange's Minor Rule Plan initially was approved
by the Commission in 1985. Securities Exchange Act Release No. 22654
(November 21, 1985), 50 FR 48853.
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The Commission finds good cause for approving Amendment Nos. 1 and
2 to the proposed rule change prior to the thirtieth day after the date
of
[[Page 42460]]
publication of notice thereof in the Federal Register. Amendment Nos. 1
and 2 consist of clarifying changes that serve to strengthen the
Exchange's proposal, but do not materially alter the terms of the
proposal as originally described when published for comment.\15\
Accordingly, the Commission believes there is good cause, consistent
with Sections 6(b)(5) and 19(b)(2) of that Act, to approve Amendment
Nos. 1 and 2 to the proposal on an accelerated basis.
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\15\ Securities Exchange Act Release No. 37186, supra note 3.
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IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning Amendment Nos. 1 and 2. Persons making written
submissions should file six copies thereof with the Secretary,
Securities and Exchange Commission, 450 Fifth Street, N.W., Washington,
D.C. 20549. Copies of the submission, all subsequent amendments, all
written statements with respect to the proposed rule change that are
filed with the Commission, and all written communications relating to
the proposed rule change between the Commission and any person, other
than those that may be withheld from the public in accordance with the
provisions of 5 U.S.C. 552, will be available for inspection and
copying in the Commission's Public Reference Section, 450 Fifth Street,
N.W., Washington, D.C. 20549. Copies of such filing will also be
available for inspection and copying at the principal office of the
CBOE. All submissions should refer to File No. SR-PSE-96-12 and should
be submitted by September 5, 1996.
V. Conclusion
It is therefore ordered, pursuant to Section 19(b)(2) of the
Act,\16\ that the proposed rule change (SR-PSE-96-12), as amended, is
approved.
\16\ 15 U.S.C. 78s(b)(2) (1988).
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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).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 96-20787 Filed 8-14-96; 8:45 am]
BILLING CODE 8010-01-M
