[Federal Register: October 16, 2003 (Volume 68, Number 200)]
[Notices]
[Page 59657-59659]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr16oc03-134]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-48600, File No. SR-CBOE-2003-44]
Self-Regulatory Organizations; Notice of Filing and Order
Granting Accelerated Approval of a Proposed Rule Change by the Chicago
Board Options Exchange, Inc., To Amend a Rule Regarding Nullification
and Adjustment of Transactions
October 7, 2003.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that
on October 7, 2003, the Chicago Board Options Exchange, Inc. (``CBOE''
or ``Exchange'') filed with the Securities and Exchange Commission
(``Commission'') the proposed rule change as described in Items I and
II below, which Items have been prepared by the Exchange. The
Commission is publishing this notice to solicit comments on the
proposed rule change from interested persons and is granting
accelerated approval of the proposed rule change, which will be in
effect on a temporary basis.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
The Exchange is proposing to amend its obvious error rule, CBOE
Rule 6.25, on a pilot basis. Proposed new language is italicized.
* * * * *
Rule 6.25 Nullification and Adjustment of Electronic Transactions
(a)-(e) No Change.
Interpretations and Policies.......
.03 (a) Trades may be adjusted or nullified when the execution
price of the trade is higher or lower than the Theoretical Price for
the series by an amount equal to at least two times the maximum bid/ask
spread allowed for the option under Rule 8.7(b)(4), so long as such
amount is $0.50 or more or $0.25 or more for options priced under $3.
For purposes of this subparagraph, the Theoretical Price of an option
is the last bid (offer) price, just prior to the trade, from the
exchange providing the most volume in the option with respect to an
erroneous bid (offer) entered on the Exchange. If there are no quotes
for comparison purposes, then the Theoretical Price of an option is as
determined by two Trading Officials. CBOE will use the volume figures
for
[[Page 59658]]
that day (up to the time of the transaction in question) to determine
which exchange provides the most volume. If CBOE is the volume leader,
it will use volume figures from the exchange with the next highest
volume level.
(b) This Interpretation expires upon final approval of SR-CBOE-
2001-04 or December 1, 2003, whichever occurs earlier.
* * * * *
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, the Exchange included statements
concerning the purpose of, and basis for, the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item III below. The Exchange has prepared summaries, set forth in
Sections A, B, and C below, of the most significant aspects of such
statements.
A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
1. Purpose
On September 29, 2003, the Commission granted partial accelerated
approval on a pilot basis of a provision of CBOE's proposed obvious
error rule that allows for the adjustment and nullification of trades
resulting from verifiable disruptions or malfunctions of Exchange
systems.\3\ According to CBOE, while approval of this section provides
a degree of relief to market makers and Designate Primary Market Makers
(``DPMs'') who, through no fault of their own, execute trades
electronically based on erroneous prices, it does not provide any
protection against transactions executed at obviously erroneous prices
that are not the result of Exchange systems disruptions. The purpose of
this proposal, therefore, is to request accelerated approval, of new
temporary Interpretation .03 to CBOE Rule 6.25, which is substantially
similar to the SBT trade nullification rule (CBOE Rule 43.5) provision
relating to obvious pricing errors, as described below.\4\
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\3\ See Securities Exchange Act Release No. 48556 (September 29,
2003), 68 FR 57716 (October 6, 2003), (File No. SR-CBOE-2001-04).
The Exchange's proposed obvious error rule, CBOE Rule 6.25, defines
six instances that qualify as ``obvious errors'' and hence are
subject to adjustment or nullification. The Commission approved on a
temporary basis until December 1, 2003 the following sections of
CBOE Rule 6.25: (a)(3) and (b)-(e). The following sections of CBOE
Rule 6.25 have not yet been approved: (a)(1), (2), (4)-(6) and
Interpretations .01 and .02.
\4\ The Commission approved CBOE Rule 43.5 as part of the
Exchange's screen-based trading (``SBT'') rules. See Securities
Exchange Act Release No. 47628 (April 3, 2003), 68 FR 17697 (April
10, 2003) (File No. SR-CBOE-2000-55). CBOE represents that SBT rules
have no application to trading that is not effected through the SBT.
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Proposed Interpretation .03 to CBOE Rule 6.25 will allow for the
adjustment or nullification of trades when the execution price of the
trade is higher or lower than the ``Theoretical Price'' for the series
by an amount equal to at least two times the maximum bid/ask spread
allowed for the option under CBOE Rule 8.7(b)(4), provided the amount
is $0.50 or more or $0.25 or more for options priced under $3. For
purposes of this Interpretation, the Theoretical Price of an option is
defined as the last bid (offer) price, just prior to the trade, from
the exchange providing the most volume in the option with respect to an
erroneous bid (offer) entered on the Exchange. If there are no quotes
for comparison purposes, then the Theoretical Price of an option is as
determined by two Trading Officials. CBOE will look to the volume
figures for that day, up to the time of the transaction in question, to
determine which exchange provides the most volume. If CBOE is the
volume leader, it will use volume figures from the exchange with the
next highest volume level.
The Exchange represents that approval is both necessary and
justified for several reasons. First, as indicated above, the
Commission has already approved a substantially similar rule provision
in the context of CBOE's SBT. The SBT rules were published for comment
and the Commission received no negative comments. Second, and most
important, the rule is necessary from a protective standpoint: trades
executed at obviously erroneous prices can have extreme financial
ramifications on a market maker and the inability to seek relief for
obvious errors imposes a form of strict liability trading upon
participants. The Exchange is not requesting relief from errors that do
not qualify as obvious, and readily accepts that in some instances the
cost of doing business means that market makers must honor trades
executed at inaccurate prices. CBOE believes that requiring a market
maker to honor trades executed at prices that are not even remotely
close to theoretical value, will have nothing but a chilling effect and
cause those market participants to stop quoting or reduce their sizes.
CBOE notes that both the International Securities Exchange (``ISE'')
and Pacific Exchange (``PCX'') have ``clearly erroneous'' rules, and
CBOE represents that the obvious pricing component that it proposes
herein is much more restrictive than either of those Exchanges' rules.
According to CBOE, this means that the same trade executed on CBOE and
ISE or PCX could be nullified or adjusted on the PCX or ISE while it
would stand on CBOE. Accordingly, CBOE believes that competitive forces
necessitate this proposal.
The Exchange requests approval of this Interpretation on a
temporary basis until the earlier of final Commission approval of File
No. SR-CBOE-2001-04 or December 1, 2003. The procedural requirements
necessary for implementation of CBOE Rule 6.25 (i.e., Sections (b)-(e))
were approved by the Commission on a pilot basis on September 29, 2003
and will be utilized to implement proposed Interpretation .03.
2. Statutory Basis
By providing for the adjustment or nullification of trades executed
at clearly erroneous prices, the Exchange believes the proposed rule
change is consistent with the Act and the rules and regulations under
the Act applicable to a national securities exchange and, in
particular, the requirements of Section 6(b) of the Act.\5\
Specifically, the Exchange believes that the proposed rule change is
consistent with the requirements of Section 6(b)(5) of the Act,\6\
which requires that the rules of an exchange be designed to promote
just and equitable principles of trade, to prevent fraudulent and
manipulative acts and, in general, to protect investors and the public
interest.
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\5\ 15 U.S.C. 78f(b).
\6\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition
CBOE does not believe that the proposed rule change will impose any
burden on competition that is not necessary or appropriate in
furtherance of the purposes of the Act.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
CBOE did not solicit or receive written comments on the proposed
rule change.
III. Solicitation of Comments
Interested persons are invited to submit written data, views, and
[[Page 59659]]
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Act. Persons making written submissions
should file six copies thereof with the Secretary, Securities and
Exchange Commission, 450 Fifth Street, NW., Washington, DC 20549-0609.
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for inspection and copying at the
Commission's Public Reference Room. Copies of such filing will also be
available for inspection and copying at the principal office of the
Exchange. All submissions should refer to File No. SR-CBOE-2003-44 and
should be submitted by November 6, 2003.
IV. Commission's Findings and Order Granting Accelerated Approval on a
Pilot Basis
After careful review, the Commission finds that proposed
Interpretation .03 to CBOE Rule 6.25 is consistent with the
requirements of the Act and the rules and regulations thereunder
applicable to a national securities exchange.\7\ In particular, the
Commission finds that the proposed Interpretation is consistent with
the requirements of Section 6(b)(5) \8\ of the Act, which requires,
among other things, that the rules of an exchange be designed to
promote just and equitable principals 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.
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\7\ In approving this proposal, the Commission has considered
the proposed rule's impact on efficiency, competition, and capital
formation. 15 U.S.C. 78c(f).
\8\ 15 U.S.C. 78f(b)(5).
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The Commission considers that in most circumstances trades that are
executed between parties should be honored. On rare occasions, the
price of the executed trade is such that execution of a trade at that
particular price indicates that an ``obvious error'' may exist,
suggesting that it is unrealistic to expect that the parties to the
trade had come to a meeting of the minds regarding the terms of the
transaction. In the Commission's view, the determination of whether
such an ``obvious error'' has occurred should be based on specific and
objective criteria and subject to specific and objective procedures.
The Commission believes that CBOE's proposed Interpretation .03 to CBOE
Rule 6.25 establishes such specific and objective criteria for
determining when a trade may involve an ``obvious price error,'' and
thus may be adjusted or nullified in a fair and non-discriminatory
manner. The Commission notes that if there are no quotes for
comparison, CBOE has specified that trading officials may determine the
Theoretical Price, which would then be used to adjust or nullify
transactions resulting from an obvious price error.
The Commission finds good cause, pursuant to Section 6(b)(5) \9\
and Section 19(b)\10 \ of the Act, to accelerate approval of
Interpretation .03 to CBOE Rule 6.25 on a pilot basis, prior to the
thirtieth day after the date of publication of notice thereof in the
Federal Register. The Commission notes that the provisions of the
proposal are substantially similar to CBOE's SBT obvious price error
rule, CBOE Rule 43.5(b)(5), which the Commission has approved.\11\ The
Commission also notes that it has recently approved ``obvious error''
rules for ISE and PCX that provide procedures for the nullification or
adjustment of a trade.\12\ Furthermore, the provisions of the proposed
rule change would be in effect on a temporary basis until the earlier
of approval of File No. SR-CBOE-2001-04 or December 1, 2003, whichever
occurs earlier. Finally, the Commission notes that the procedures to
implement Interpretation .03 to CBOE Rule 6.25 were adopted on a pilot
basis in Securities Exchange Act Release No. 48556.\13\ The Commission
finds, therefore, that granting accelerated approval of the proposed
rule change prior to the thirtieth day after the date of publication of
notice thereof in the Federal Register, is appropriate and consistent
with Section 6(b)(5) \14\ of the Act.
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\9\ 15 U.S.C. 78f(b)(5).
\10\ 15 U.S.C. 78s(b).
\11\ See Securities Exchange Act Release No. 47628 (April 3,
2003), 68 FR 17697 (April 10, 2003) (File No. SR-CBOE-00-55).
\12\ See Securities Exchange Act Release No. 48538 (September
25, 2003), 68 FR 56858 (October 2, 2003) (File No. SR-PCX-2002-01);
and Securities Exchange Act Release No. 48097 (June 26, 2003), 68 FR
39604 (July 2, 2003) (File No. SR-ISE-2003-10).
\13\ See supra note 3.
\14\ 15 U.S.C. 78f(b)(5).
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V. Conclusion
It is therefore ordered, pursuant to Section 19(b)(2) of the
Act,\15\ that Interpretation .03 to CBOE Rule 6.25, as set forth in the
proposed rule change be and hereby is approved on an accelerated basis.
Interpretation .03 to CBOE Rule 6.25 specifies that the Interpretation
will expire upon final Commission approval of File No. SR-CBOE-2001-04
or December 1, 2003, whichever occurs earlier.
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\15\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\16\
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\16\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 03-26207 Filed 10-15-03; 8:45 am]
BILLING CODE 8010-01-P