[Federal Register: December 5, 2003 (Volume 68, Number 234)]
[Notices]
[Page 68128-68129]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr05de03-112]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-48858; File No. SR-CBOE-2003-07]
Self-Regulatory Organizations; Order Approving Proposed Rule
Change and Amendment No. 1 by the Chicago Board Options Exchange, Inc.,
Relating to the Trading of Ratio Orders
December 1, 2003.
I. Introduction
On February 24, 2003, the Chicago Board Options Exchange, Inc.
(``CBOE'' or ``Exchange'') filed with the Securities and Exchange
Commission (``Commission'' or ``SEC''), 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 allow ratio orders to be
executed through the CBOE. The CBOE filed Amendment No. 1 to the
proposal on October 8, 2003.\3\
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ See letter from James M. Flynn, Attorney II, Legal Division,
CBOE, to Yvonne Fraticelli, Division of Market Regulation,
Commission, dated October 6, 2003 (``Amendment No. 1''). Amendment
No. 1 revises the proposal to provide that the permissible ratio for
a ratio order is any ratio that is equal to or greater than one-to-
three (.333) and less than or equal to three-to-one (3.0).
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The proposed rule change and Amendment No. 1 were published for
comment in the Federal Register on October 28, 2003.\4\ The Commission
received no comments regarding the proposal. This order approves the
proposed rule change, as amended.
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\4\ See Securities Exchange Act Release No. 48672 (October 21,
2003), 68 FR 61499.
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II. Description of the Proposal
The CBOE proposes to amend CBOE Rule 6.53, ``Certain Types of
Orders Defined,'' to allow ratio orders with certain permissible ratio
limits, as defined below, to be executed through the CBOE. In addition,
the CBOE proposes to revise paragraph (e) of CBOE Rule 6.45, ``Priority
of Bids and Offers--Allocation of Trades,'' to include these types of
permissible ratio orders in CBOE Rule 6.45(e), thereby providing such
ratio orders with the exception to the priority rules that CBOE Rule
6.45(e) provides currently for spread, straddle, and combination
orders.\5\ The CBOE believes that because ratio orders are slight
variations on the types of complex orders currently permitted on the
CBOE, it is appropriate to treat ratio orders like spread, straddle,
and combination orders for purposes of CBOE Rule 6.45(e).
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\5\ CBOE Rule 6.45(e), ``Complex Order Priority Exception,''
currently states that: ``A member holding a spread, straddle, or
combination order (or a stock-option order as defined in Rule
1.1(ii)(b)) and bidding (offering) on a net debit or credit basis
(in a multiple of the minimum increment) may execute the order with
another member without giving priority to equivalent bids (offers)
in the trading crowd or in the book provided at least one leg of the
order betters the corresponding bid (offer) in the book. Stock-
option orders, as defined in Rule 1.1(ii)(a), have priority over
bids (offers) of the trading crowd but not over bids (offers) of
public customers in the limit order book.''
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CBOE Rule 6.53 lists and defines several types of orders that are
executed through the CBOE including, among others, three types of
complex orders: spread orders, combination orders, and straddle orders.
The CBOE proposes to add certain ratio orders within permissible
established limits to the list of orders included in CBOE Rule 6.53.
CBOE Rule 6.53(n) would define a ratio order as either a spread,
straddle, or combination order in which the stated number of option
contracts to buy (sell) is not equal to the stated number of option
contracts to sell (buy), provided that the number of contracts differs
by a permissible ratio. Under CBOE Rule 6.53(n), a permissible ratio
would be any ratio that is equal to or greater than one-to-three (.333)
or less than or equal to three-to-one (3.0). For example, a one-to-two
(.5) ratio, a two-to-three (.667) ratio, or a two-to-one (2.0) ratio is
permissible, whereas a one-to-four (.25) ratio or a four-to-one (4.0)
ratio is not.
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 \6\ and, in
particular, with the requirements of section 6(b)(5) of the Act,\7\
which requires, among other things, that the rules of a national
securities 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 to protect
investors and the public interest.
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\6\ 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).
\7\ 15 U.S.C. 78f(b)(5).
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The proposal will allow certain ratio orders to be executed through
the CBOE. As described above, a ratio order is a spread, straddle, or
combination order in which the stated number of option contracts to buy
(sell) is not equal to the stated number of option contracts to sell
(buy), provided that the number of contracts differs by a permissible
ratio.\8\ The Commission believes that ratio orders within certain
permissible ratios may provide market participants with greater
flexibility and precision in effectuating trading and hedging
strategies. In addition, the Commission believes that including such
ratio orders in the exception to the priority rules provided in CBOE
Rule 6.45(e) will facilitate the execution of ratio orders. In this
regard, the Commission believes that the procedures governing the
execution of complex orders, such as ratio orders, serve to reduce the
risk of incomplete or inadequate executions while increasing efficiency
and competitive pricing by requiring price improvement before the order
can receive priority over other orders.\9\ The Commission also notes
that the rules of other options exchanges treat certain ratio orders
like other complex orders for purposes of their priority rules.\10\
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\8\ Under the proposal, a permissible ratio is any ratio that is
equal to or greater than one-to-three (.333) or less than or equal
to three-to-one (3.0).
\9\ See, e.g., CBOE Rule 6.45(e). See also Securities Exchange
Act Release No. 44955 (October 18, 2001), 66 FR 53819 (October 24,
2001) (order approving File No. SR-ISE-2001-18).
\10\ See, e.g., ISE rule 722(b)(2), ``Complex Order Priority,''
and PHLX Rule 1033(g), ``Ratio Spread Type Priority.''
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The CBOE's rule also provides specific examples of permissible
ratio orders. Specifically, the rule provides that a permissible ratio
is any ratio that is equal to or greater than one-to-three and less
than or equal to three-to-one. For example, as indicated in the rule, a
one-to-two ratio, a two-to-three ratio, or a two-to-one ratio is
permissible, whereas a one-to-four ratio or a four-to-one ratio is not.
This should help to provide guidance to CBOE members of the permissible
ratios allowed under CBOE rules for such ratio orders.
The Commission believes that permitting ratio orders to have ratios
equal to or greater than one-to-three or
[[Page 68129]]
less than or equal to three-to-one will help market participants to
tailor their positions more precisely to implement their trading and
hedging strategies. Because of concerns that a higher ratio could
provide market participants with a means to enter a ratio order that
was designed primarily to gain priority over orders on the limit order
book or in the trading crowd, rather than to effectuate a bona fide
trading or hedging strategy, the Commission would need to examine
closely any proposal to provide a higher ratio for ratio orders and
would be concerned about whether such a proposal would be consistent
with investor protection and the public interest under the Act.\11\
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\11\ In this regard, the Commission notes that one exchange
stated that a proposed three-to-one cap on the ratio for foreign
currency option orders ``would prevent a trader seeking priority
over an order on the book or in the crowd from restating an order as
a ratio order. For example, such a cap would prevent a trader from
recasting an order to buy 100 calls and sell one out-of-the-money
put.'' See Securities Exchange Act Release No. 25503 (March 23,
1988), 53 FR 10323 (March 30, 1988) (order approving File No. SR-
PHLX-87-33).
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IV. Conclusion
It is therefore ordered, pursuant to section 19(b)(2) of the
Act,\12\ that the proposed rule change (SR-CBOE-2003-07), as amended,
is approved.
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\12\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\13\
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\13\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 03-30250 Filed 12-4-03; 8:45 am]
BILLING CODE 8010-01-P