[Federal Register: August 22, 2007 (Volume 72, Number 162)]
[Notices]
[Page 47086-47089]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr22au07-155]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-56269; File No. SR-Amex-2007-75]
Self-Regulatory Organizations; American Stock Exchange LLC;
Notice of Filing and Order Granting Accelerated Approval to a Proposed
Rule Change, as Modified by Amendments No. 1 and 2, To Establish a
Directed Order Program
August 15, 2007.
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 July 24, 2007, the American Stock Exchange LLC (``Amex'' 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 substantially prepared by the Exchange.
On July 30, 2007, the Exchange filed Amendment No. 1 to the proposed
rule change. On August 15, 2007, the Exchange filed Amendment No. 2 to
the proposed rule change. The Commission is publishing this notice to
solicit comments on the proposed rule change from interested persons
and is approving the proposed rule change, as amended, on an
accelerated 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 proposes to adopt Amex Rule 996-ANTE and amend Amex
rule 935-ANTE establishing the Exchange's Directed Order Program (the
``Program''). The text of the proposed rule change is available on
Exchange's Web site (http://www.amex.com), at Amex's principal office,
and at the Commission's Public Reference Room.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, Amex 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. Amex has prepared summaries, set forth in sections A,
B, and C below, of the most significant aspects of such statements.
[[Page 47087]]
A. Self-Regulatory Organization's Statement of the Purpose of, and the
Statutory Basis for, the Proposed Rule Change
1. Purpose
The Exchange proposes to adopt rules establishing the Exchange's
Directed Order Program (the ``Program''). Proposed Rule 996-ANTE
provides that specialists, Registered Options Traders (``ROTs''),
Supplemental Registered Options Traders (``SROTs''), and Remote
Registered Options Traders (``RROTs'') (collectively, the ``Directed
Order Participants'') \3\ may choose to enter into arrangements with an
Order Flow Provider,\4\ whereby a Directed Order Participant would be
directed orders upon meeting certain eligibility requirements.
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\3\ The Exchange's SROT and RROT programs were recently approved
by the Commission on April 12, 2006 and April 13, 2006,
respectively. See Securities Exchange Act Release Nos. 53635 (April
12, 2006), 71 FR 20144 (April 12, 2006) (order approving the SROT
program) and 53652 (April 13, 2006), 71 FR 20422 (April 20, 2006)
(order approving the RROT program).
\4\ Order Flow Providers are defined in proposed Rule 996-ANTE
as any member or member organization that submits, as agent,
customer orders to the Exchange.
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Eligibility
The Exchange will allow for the receipt of marketable orders,
through the Exchange's order routing system when the Exchange's
disseminated quote is the NBBO, where the order flow providing firm
(``Order Flow Provider'') \5\ transmitting that order has specified a
specialist, ROT, SROT or RROT in that class as the Directed Order
Participant for its orders that class. To be eligible for the Program
the Directed Order Participant: (i) Must submit quotes electronically
through the Exchange's ANTE system, in options classes in which it is
assigned; (ii) must comply with its quoting obligations under Exchange
rules and provide continuous two-sided quotations in not less than 100%
of the series of each class for which it receives directed orders; and
(iii) must also be quoting at the best bid or offer on the Exchange
(the ``ABBO'').\6\
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\5\ An ``Order Flow Provider'' is any member or member
organization that submits, as agent, customer orders to the
Exchange. See proposed Rule 996-ANTE(d).
\6\ Pursuant to Exchange Rule 958-ANTE(h)(iii)(A), ROTs are
responsible for quoting continuous two-sided markets in a certain
percentage of series based on the volume of contracts executed
electronically on the Exchange during the previous quarter. Pursuant
to Exchange Rules 993-ANTE (c)(ii) and 994-ANTE (c)(iv), SROTs and
RROTs are responsible for quoting continuous two-sided markets in
60% of the series of their assigned classes.
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Enhanced Participation and Allocation
An eligible Directed Order Participant who is directed orders will
receive an enhanced participation equal to the greater of 40% of the
remaining directed orders, when more than one market participant is
quoting at the ABBO, or the amount the Directed Order Participant would
be entitled to receive pursuant to the allocation algorithm set forth
in Rule 935-ANTE(a)(4).
The enhanced participation rate is based on the number of contracts
remaining after all non-broker-dealer customer orders in the book at
the best price have been satisfied. If an eligible Directed Order
Participant receives enhanced participation under the rule, then no
other participation entitlement set forth in Amex Rules shall apply to
such order. The eligible Directed Order Participant must also be
quoting at the ABBO to receive the guaranteed percentage, and can never
be allocated more contracts than his quote size.\7\ Any contracts
remaining after the eligible Directed Order Participant has received
his allocation shall be allocated among the remaining participants
according to the allocation algorithm set forth in Rule 935-ANTE(a)(4).
No participant will be allocated contracts in excess of the size of his
disseminated quote.
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\7\ The allocation algorithm in Rule 935-ANTE (a)(4) is
comprised of a Component A and a Component B. Component A is the
parity component of the algorithm. In this component all market
participants (except for non-broker-dealer customers) who were
either quoting or had orders at the ABBO will be treated equally.
Accordingly, the percentage used for Component A is an equal
percentage derived by dividing 100 by the number of market
participants at the ABBO. Component B is the size pro rata component
and is designed to reward market participants who quote in size. The
percentage used for Component B is the percentage that the size of
each market participant's quote or order at the ABBO represents
relative to the total number of contracts in the disseminated bid
(for sell orders) and offer (for buy orders). The weight each
component will have in the final percentage used to allocate
executed contracts will initially be equal.
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Finally, the Exchange notes that an eligible Directed Order
Participant may not step up and match the ABBO after it receives an
order, but must be publicly quoting at the ABBO when the order is
received.\8\ An Order Flow Provider is prohibited from notifying a
Directed Order Participant of its intention to submit a directed order,
so that the Directed Order Participant may not change its quotation to
match the ABBO immediately prior to the submission of the directed
order, and then fade his quote. Specifically, the Exchange currently
has rules in place to prevent such conduct as being inconsistent with
just and equitable principles of trade and to prevent the misuse of
material non-public information.\9\
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\8\ The Exchange's disseminated quote must be at the NBBO at the
time of receipt of the Directed Order. See proposed Rule 996-
ANTE(a).
\9\ See Amex Rules 3(j) and 16.
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The Exchange proposes that the effective date of the Program shall
be August 20, 2007.\10\
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\10\ See Amendment No. 2.
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2. Statutory Basis
The proposed rule change is consistent with section 6(b) of the Act
\11\ in general and furthers the objectives of Section 6(b)(5) of the
Act \12\ in particular in that it is designed to prevent fraudulent and
manipulative acts and practices, to promote just and equitable
principles of change, to foster cooperation and coordination with
persons engaged in facilitating transactions in securities, and to
remove impediments to and perfect the mechanism of a free and open
market and a national market system.
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\11\ 15 U.S.C. 78f.
\12\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition
The proposed rule change does not 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
No written comments were solicited or received with respect to the
proposed rule change.
III. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Act. Comments may be submitted by any of
the following methods:
Electronic Comments
Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml.
); or Send an e-mail to rule-comments@sec.gov. Please include
File Number SR-Amex-2007-75 on the subject line.
Paper Comments
Send paper comments in triplicate to Nancy M. Morris,
Secretary, Securities and Exchange Commission, 100 F Street, NE.,
Washington, DC 20549-1090.
All submissions should refer to File Number SR-Amex-2007-75. This file
[[Page 47088]]
number should be included on the subject line if e-mail is used. To
help the Commission process and review your comments more efficiently,
please use only one method. The Commission will post all comments on
the Commission's Internet Web site (http://www.sec.gov/rules/sro.shtml
). 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 Room, 100 F Street, NE.,
Washington, DC 20549, on official business days between the hours of 10
a.m. and 3 p.m. Copies of such filing also will be available for
inspection and copying at the principal office of Amex. All comments
received will be posted without change; the Commission does not edit
personal identifying information from submissions. You should submit
only information that you wish to make available publicly. All
submissions should refer to File Number SR-Amex-2007-75 and should be
submitted on or before September 12, 2007.
IV. Commission's Findings and Order Granting Accelerated Approval of
the Proposed Rule Change
After careful consideration, the Commission finds that the proposed
rule change is consistent with the requirements of section 6 of the Act
\13\ and the rules and regulations thereunder applicable to a national
securities exchange \14\, and, in particular, the requirements of
section 6(b)(5) of the Act.\15\ Section 6(b)(5) requires, among other
things, that the rules of a national securities exchange be designed to
prevent fraudulent and manipulative acts and practices, 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.
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\13\ 15 U.S.C. 78f.
\14\ 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).
\15\ 15 U.S.C. 78f(b)(5).
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Pursuant to section 19(b)(2) of the Act,\16\ the Commission may not
approve any proposed rule change, or amendment thereto, prior to the
30th day after the date of publication of notice of the filing thereof,
unless the Commission finds good cause for so doing and publishes its
reasons for so finding. The Commission notes that the proposed rule
change is substantially similar to rule changes by CBOE and ISE that
were recently approved by the Commission on a permanent basis.\17\ The
Commission believes that the proposed rule changes to establish a
Directed Order Program on the Amex do not raise additional significant
regulatory issues that have not been previously considered by the
Commission. Accordingly, the Commission hereby finds good cause for
approving the proposed rule change, as amended, prior to the 30th day
after publishing notice thereof in the Federal Register.
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\16\ 15 U.S.C. 78s(b)(2).
\17\ See, e.g., Securities Exchange Act Release Nos. 51799 (June
2, 2005), 70 FR 33564 (June 8, 2005) (order approving SR-CBOE-2004-
71), 55826 (May 29, 2007), 72 FR 31357 (SR-CBOE-2007-47) (permanent
approval of CBOE's Preferred Market-Maker Program), 51759 (May 27,
2005), 70 FR 32860 (June, 6, 2005) (order approving SR-Phlx-2004-
91), 51818 (June 10, 2005), 70 FR 35146 (June 16, 2005) (order
approving SR-ISE-2005-18), and 55864 (June 5, 2007), 72 FR 32378 (SR
ISE 2007-35) (permanent approval of the ISE's pilot program for
preferenced orders).
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The Commission has previously approved a rule that guarantees a
specialist a portion of each order when the specialists quote is equal
to the ABBO.\18\ The Commission has closely scrutinized exchange rule
proposals to adopt or amend a participation guarantee where the
percentage of participation would rise to a level that could have a
material adverse impact on quote competition within a particular
exchange.\19\ Because the proposal would not increase the overall
percentage of an order that is guaranteed beyond the currently
acceptable threshold, but instead would allow any specialist, ROT, SROT
or RROT appointed to an options class to be designated as a Directed
Order Participant and be eligible to receive an enhanced participation
guarantee instead of the specialist, the Commission does not believe
that the proposal will negatively impact quote competition on the
Exchange. Under the proposal, the remaining portion of each order will
still be allocated based on the competitive bidding of market
participants.
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\18\ See, e.g., Securities Exchange Act Release No. 49747 (May
20, 2004), 69 FR 30344 (May 27, 2004) (SR-Amex-2003-89).
\19\ See, e.g., Securities Exchange Act Release No. 43100 (July
31, 2000), 65 FR 48788 (August 9, 2000).
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Under the proposal, in order to be eligible to receive an
participation guarantee in any options series, the Exchange proposes to
require that a specialist, ROT, SROT, or RROT maintain continuous
quotes in not less than 100% of the series of any options class it for
which it receives Directed Orders.\20\ In addition, a Directed Order
Participant will have to be quoting at the NBBO at the time the
Directed Order is received to capitalize on the enhanced participation
guarantee.\21\ The Commission believes it is critical that the Directed
Order Participate cannot step up and match the NBBO after it receives
an order, but must be publicly quoting at that price when the order is
received. In this regard, the Exchange's proposal prohibits an Order
Flow Provider from notifying a Directed Order Participant of its
intention to submit a Directed Order, so that the Directed Order
Participant may not change its quotation to match the ABBO prior to the
submission of the Directed Order, and then fade his quote. The Exchange
represented that it has rules in place to prevent such conduct as being
inconsistent with just and equitable principles of trade and to prevent
the misuse of material non-public information.\22\ Furthermore, the
Exchange represented that it will proactively conduct surveillance for
compliance with the applicable rules in conjunction with the Exchange's
Directed Order Flow Program and enforce these rules.
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\20\ See Amex Rule 996-ANTE. The specialist, ROT, SROT, or RROT
also must have an appointment/allocation in such options class. Id.
\21\ Specifically, Rule 996-ANTE requires a Directed Order
Participant to be quoting at the ABBO while the Exchange's
disseminated quote is the NBBO in order to be eligible to receive an
enhanced participation for the order.
\22\ See Amex Rules 3(j) and 16.
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The Commission emphasizes that approval of this proposal does not
affect a broker-dealer's duty of best execution. A broker-dealer has a
legal duty to seek to obtain best execution of customer orders, and any
decision to preference a particular specialist, ROT, SROT, or RROT must
be consistent with this duty.\23\ A broker-dealer's duty of best
execution derives from common law agency principles and fiduciary
[[Page 47089]]
obligations, and is incorporated in rules of self-regulatory
organization and, through judicial and Commission decisions, the
antifraud provisions of the federal securities laws.\24\
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\23\ See, e.g., Newton v. Merrill, Lynch, Pierce, Fenner &
Smith, Inc., 135 F.3d 266, 269-70, 274 (3d Cir.), cert. denied, 525
U.S. 811 (1998); Certain Market Making Activities on Nasdaq,
Securities Exchange Act Release No. 40900 (January 11, 1999)
(settled case) (citing Sinclair v. SEC, 444 F.2d 399 (2d Cir. 1971);
Arleen Hughes, 27 SEC 629, 636 (1948), aff'd sub nom. Hughes v. SEC,
174 F.2d 969 (D.C. Cir. 1949)). See also Order Execution
Obligations, Securities Exchange Act Release No. 37619A (September
6, 1996), 61 FR 48290 (September 12, 1996) (``Order Handling Rules
Release'').
\24\ Order Handling Rules Release, 61 FR at 48322. See also
Newton, 135 F.3d at 270. Failure to satisfy the duty of best
execution can constitute fraud because a broker-dealer, in agreeing
to execute a customer's order, makes an implied representation that
it will execute it in a manner that maximizes the customer's
economic gain in the transaction. See Newton, 135 F.3d at 273
(``[T]he basis for the duty of best execution is the mutual
understanding that the client is engaging in the trade--and
retaining the services of the broker as his agent--solely for the
purpose of maximizing his own economic benefit, and that the broker
receives her compensation because she assists the client in reaching
that goal.''); Marc N. Geman, Securities Exchange Act Release No.
43963 (February 14, 2001) (citing Newton, but concluding that
respondent fulfilled his duty of best execution). See also Payment
for Order Flow, Securities Exchange Act Release No. 34902 (October
27, 1994), 59 FR 55006, 55009 (November 2, 1994) (``Payment for
Order Flow Final Rules''). If the broker-dealer intends not to act
in a manner that maximizes the customer's benefit when he accepts
the order and does not disclose this to the customer, the broker-
dealer's implied representation is false. See Newton, 135 F.3d at
273-274.
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The duty of best execution requires broker-dealers to execute
customers' trades at the most favorable terms reasonably available
under the circumstances, i.e., at the best reasonably available
price.\25\ The duty of best execution requires broker-dealers to
periodically assess the quality of competing markets to assure that
order flow is directed to the markets providing the most beneficial
terms for their customer orders.\26\ Broker-dealers must examine their
procedures for seeking to obtain best execution in light of market and
technology changes and modify those practices if necessary to enable
their customers to obtain the best reasonably available prices.\27\ In
doing so, broker-dealers must take into account price improvement
opportunities, and whether different markets may be more suitable for
different types of orders or particular securities.\28\
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\25\ Newton, 135 F.3d at 270. Newton also noted certain factors
relevant to best execution--order size, trading characteristics of
the security, speed of execution, clearing costs, and the cost and
difficulty of executing an order in a particular market. Id. at 270
n. 2 (citing Payment for Order Flow, Securities Exchange Act Release
No. 33026 (October 6, 1993), 58 FR 52934, 52937-38 (October 13,
1993) (Proposed Rules)). See In re E.F. Hutton & Co. (``Manning''),
Securities Exchange Act Release No. 25887 (July 6, 1988). See also
Payment for Order Flow Final Rules, 59 FR at 55008-55009.
\26\ Order Handling Rules Release, 61 FR at 48322-48333 (``In
conducting the requisite evaluation of its internal order handling
procedures, a broker-dealer must regularly and rigorously examine
execution quality likely to be obtained from different markets or
market makers trading a security.''). See also Newton, 135 F.3d at
271; Market 2000: An Examination of Current Equity Market
Developments V-4 (SEC Division of Market Regulation January 1994)
(``Without specific instructions from a customer, however, a broker-
dealer should periodically assess the quality of competing markets
to ensure that its order flow is directed to markets providing the
most advantageous terms for the customer's order.''); Payment for
Order Flow Final Rules, 59 FR at 55009.
\27\ Order Handling Rules, 61 FR at 48323.
\28\ Order Handling Rules, 61 FR at 48323. For example, in
connection with orders that are to be executed at a market opening
price, ``[b]roker-dealers are subject to a best execution duty in
executing customer orders at the opening, and should take into
account the alternative methods in determining how to obtain best
execution for their customer orders.'' Disclosure of Order Execution
and Routing Practices, Securities Exchange Act Release No. 43590
(November 17, 2000), 65 FR 75414, 75422 (December 1, 2000) (adopting
new Rules 11Ac1-5 and 11Ac1-6 under the Act and noting that
alternative methods offered by some Nasdaq market centers for pre-
open orders included the mid-point of the spread or at the bid or
offer).
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For these reasons, the Commission believes that the proposal is
consistent with the requirements of Section 6(b)(5) of the Act,\29\ and
will not jeopardize market integrity or the incentive for market
participants to post competitive quotes.\30\
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\29\ 15 U.S.C. 78f(b)(5).
\30\ Approval of this proposal is in no way an endorsement of
payment for order flow by the Commission.
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V. Conclusion
It is therefore ordered, pursuant to Section 19(b)(2) of the
Act,\31\ that the proposed rule change (SR-Amex-2007-75), as modified
by Amendments No. 1 and 2, be, and hereby is, approved on an
accelerated basis.
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\31\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\32\
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\32\ 17 CFR 200.30-3(a)(12).
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Florence E. Harmon,
Deputy Secretary.
[FR Doc. E7-16468 Filed 8-21-07; 8:45 am]
BILLING CODE 8010-01-P