[Federal Register: October 1, 2003 (Volume 68, Number 190)]
[Notices]
[Page 56658-56660]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr01oc03-109]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-48529; File No. SR-CBOE-2002-55]
Self-Regulatory Organizations; Order Approving Proposed Rule
Change and Amendment No. 1 Thereto by the Chicago Board Options
Exchange, Inc. To Permanently Approve Its Rapid Opening System
September 24, 2003.
I. Introduction
On September 16, 2002, the Chicago Board Options Exchange, Inc.
(``CBOE'' or ``Exchange'') filed with 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 proposed rule change to adopt its Rapid Opening System
(``ROS'') on a permanent basis. On February 6, 2003, CBOE submitted
Amendment No. 1 to the proposed rule change.\3\ The proposed rule
change, as amended, was published for comment in the Federal Register
on August 14, 2003.\4\ The Commission received no comment letters on
the proposed rule change. This order approves the proposed rule change,
as amended.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ See letter from Jaime Galvan, Attorney II, Legal Division,
CBOE, to Terri Evans, Assistant Director, Division of Market
Regulation, dated January 17, 2003 (``Amendment No. 1'').
\4\ See Securities Exchange Act Release No. 48293 (August 6,
2003), 68 FR 48650 (``ROS Notice'').
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II. Description of the Proposal
On February 9, 1999, the Commission approved, on a pilot basis, the
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implementation of ROS.\5\ ROS is a system developed by CBOE to open an
entire options class, all series, as a single event, based on a single
underlying value.\6\ The ROS pilot program is due to expire on
September 30, 2003.\7\
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\5\ See Securities Exchange Act Release No. 41033 (February 9,
1999), 64 FR 8156 (February 18, 1999) (``Pilot Program Approval
Order''). ROS is governed by CBOE Rule 6.2A. CBOE Rules 6.2, 6.45,
and 8.60 also reference ROS.
\6\ For a detailed description of how ROS operates, see Pilot
Program Approval Order, supra note 5.
\7\ The Commission has extended the ROS pilot program five
times. See Securities Exchange Act Release Nos. 42596 (March 30,
2000), 65 FR 18397 (April 7, 2000) (extending the pilot program
until September 30, 2000); 43395 (September 29, 2000), 65 FR 60706
(October 12, 2000) (extending the pilot program until September 30,
2001); 44891 (October 1, 2001), 66 FR 51483 (October 9, 2001)
(extending the pilot program until September 30, 2002); 46572
(September 30, 2002), 67 FR 62508 (October 7, 2002) (extending the
pilot program until March 31, 2003; and 47573 (March 26, 2003), 68
FR 15780 (April 1, 2003) (extending the pilot program until
September 30, 2003).
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III. Discussion
After careful review, 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.\8\
In particular, the Commission believes that the proposed rule change is
consistent with section 6(b)(5) of the Act,\9\ in that it is designed
to promote just and equitable principles of trade, 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. The Commission notes that ROS has successfully operated since
1999 and since that time, has facilitated expedited openings of options
classes on CBOE.
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\8\ In approving this proposed rule change, the Commission has
considered the proposed rule's impact on efficiency, competition,
and capital formation. 15 U.S.C. 78c(f).
\9\ 15 U.S.C. 78f(b)(5).
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In the Pilot Program Approval Order, the Commission required CBOE
to satisfy three conditions prior to seeking permanent approval of the
ROS pilot. The first condition required CBOE to develop standards to
ensure that market makers satisfy their obligation to price options
fairly and to surveil for such compliance. In the Pilot Program
Approval Order, the Commission recognized that certain aspects of ROS
may require heightened scrutiny by the CBOE to ensure that market-
makers are not permitted to use the flexibility they have to set an
opening price to the disadvantage of investors and other market
participants. In particular, ROS provides market-makers discretion to
set certain thresholds and the AutoQuote \10\ value that drives the ROS
algorithm. CBOE has represented that market makers generally have set
the contract and delta thresholds at a level that ensures that an
options class that has orders to trade will not auto-open, to avoid
openings based on erroneous prints in the underlying security or
delayed updates to bid/ask information on underlying securities. CBOE
further represented that it was still able to open classes within
seconds of the opening of the underlying class, because ROS can open
classes very quickly even if they are not set to auto-open.\11\
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\10\ Under Interpretation .02 to CBOE Rule 6.2A, the term
``AutoQuote'' means either the Exchange's AutoQuote system or a
proprietary autoquote system operated by a member of the trading
crowd where the particular ROS class is traded.
\11\ See ROS Notice, supra note 4.
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CBOE has also submitted surveillance procedures designed to ensure,
among other things, that market-makers exercise their discretion to set
certain AutoQuote values consistent with their obligation to price
options fairly.\12\ The Commission believes the surveillance procedures
submitted by the CBOE are reasonably designed to ensure that market
makers do not abuse their discretion when setting AutoQuote values in
setting the ROS opening price. Furthermore, these surveillance
procedures should allow CBOE to better monitor market maker adjustments
to AutoQuote and enable CBOE to bring sanctions for violative conduct
when appropriate. However, because CBOE market makers set the contract
and delta thresholds at levels that ensure that an options class that
has orders to trade will not auto-open, giving CBOE market makers an
opportunity to adjust AutoQuote at most openings, the Commission
expects CBOE to aggressively surveil to ensure that market makers
properly adjust AutoQuote values. The Commission also expects the
Exchange to assess its surveillance procedures from time to time to
determine whether they are adequate to ensure that market makers do not
engage in manipulative or improper trading practices. Further, the
Commission expects CBOE to consider whether any additional surveillance
procedures are necessary to prevent manipulative or other improper
practices.
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\12\ See letter from Jaime Galvan, Attorney II, Legal Division,
CBOE, to Terri Evans, Assistant Director, Division of Market
Regulation, dated August 13, 2003. CBOE requested confidential
treatment for these surveillance procedures pursuant to 17 CFR
200.83.
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The second condition required CBOE to develop a workable plan for
the electronic incorporation of non-bookable orders in ROS. On CBOE,
non-bookable orders include broker-dealer and customer contingency
orders. CBOE stated that few, if any, non-bookable orders are present
at the open and that, based in its observations, firms consistently
wait until after the ROS opening has been completed to represent non-
bookable orders.\13\ CBOE has developed a procedure, albeit not an
electronic one, for including non-bookable orders into the opening
process. This procedure has been incorporated into CBOE Rule 6.2A and
has been detailed in two regulatory circulars.\14\ CBOE argues a
systems change to electronically incorporate non-bookable order in the
ROS opening would have very little impact on ROS trading due to the few
non-bookable orders present before the open.\15\ Furthermore, Phase V
of the Consolidated Options Audit Trail (``COATS'') Plan would require
that all non-electronic orders be captured electronically for audit
trail purposes.\16\ CBOE represents that this will facilitate its
Regulatory staff's ability to investigate with more speed and
efficiency any complaint regarding the execution received by a non-
bookable order on the opening, in that the Exchange will now have an
electronic record of the time of receipt of the order, in addition to
the order information and the execution price of the order.\17\ The
Commission has determined at this time to waive the requirement that
CBOE develop a workable plan for the electronic incorporation of non-
bookable orders in ROS based on the limited number of non-bookable
orders that are present at the open and CBOE's ability to record
information on non-bookable orders in COATS. The Commission also
expects that CBOE will use COATS to respond to complaints about non-
bookable orders, as well as to actively monitor the quality of
executions received by non-bookable orders. The Commission also expects
CBOE to continue to explore methods to electronically incorporate non-
bookable orders in the event that non-bookable
[[Page 56660]]
orders are more actively represented in the opening.
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\13\ See ROS Notice, supra note 4.
\14\ See CBOE Rule 6.2A(ii), and Regulatory Circulars RG99-35
(February 10, 1999) and RG00-40 (March 13, 2000).
\15\ See ROS Notice, supra note 4.
\16\ The COATS Plan is a plan that the options exchanges are
required to submit to the Commission in order to comply with Section
IV.B.e. of the Order Instituting Public Administrative Proceedings
Pursuant to section 19(h)(1) of the Securities Exchange Act of 1934,
Making Findings and Imposing Remedial Sanctions. See In the Matter
of Certain Activities of Options Exchanges, Securities Exchange Act
Release No. 43268, September 11, 2000; Administrative Proceeding
File No. 3-10282.
\17\ See Amendment No. 1, supra note 3.
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Lastly, the third condition required CBOE to study issues related
to the Commission's concerns and report back to the Commission. In
response, CBOE submitted a report to the Commission addressing each of
the Commission's concerns. The Commission believes that CBOE has
satisfied this condition.
In conclusion, the Commission notes that ROS has successfully
operated since 1999 and since that time, has facilitated expedited
openings of options classes on CBOE. The Commission hereby approves the
ROS pilot on a permanent basis.
IV. Conclusion
For the foregoing reasons, the Commission finds that the proposed
rule change, as amended, is consistent with the requirements of the Act
and rules and regulations thereunder.
It is therefore ordered, pursuant to section 19(b)(2) of the
Act,\18\ that the proposed rule change (SR-CBOE-2002-55) and Amendment
No. 1 thereto, are approved.
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\18\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\19\
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\19\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 03-24867 Filed 9-30-03; 8:45 am]
BILLING CODE 8010-01-P