Self-Regulatory Organizations; Chicago Board Options Exchange, Incorporated; Order Approving a Proposed Rule Change and Notice of Filing and Order Granting Accelerated Approval to Amendment No. 2 Thereto To Establish Rules for a Screen-Based Trading System for Non-Option Securities, 54537-54544 [E6-15321]

Download as PDF Federal Register / Vol. 71, No. 179 / Friday, September 15, 2006 / Notices Thygesen from associating with or acting as an affiliated person of an investment company; 2. Whether civil money penalties should be imposed against Calandrella, Powell or Thygesen, and if so, in what amount; and 3. Whether cease-and-desist orders against Calandrella, Powell, or Thygesen are in the public interest. The subject matter of the Closed Meeting scheduled for Wednesday, September 20, 2006 will be: Post argument discussion. The subject matters of the Closed Meeting scheduled for Thursday, September 21, 2006 will be: Formal orders of investigation; Institution and settlement of injunctive actions; Institution and settlement of administrative proceedings of an enforcement nature; Adjudicatory matters; and Regulatory matters regarding financial institutions. The subject matters of the Closed Meeting for Friday, September 22, 2006 will be: Institution and settlement of injunctive actions; Institution and settlement of administrative proceedings of an enforcement nature; and a Matter relating to an enforcement proceeding. At times, changes in Commission priorities require alterations in the scheduling of meeting items. For further information and to ascertain what, if any, matters have been added, deleted or postponed, please contact: The Office of the Secretary at (202) 551–5400. Dated: September 12, 2006. Nancy M. Morris, Secretary. [FR Doc. 06–7728 Filed 9–13–06; 11:02 am] BILLING CODE 8010–01–P SECURITIES AND EXCHANGE COMMISSION [File No. 500–1] In the Matter of Indigenous Global Development Corporation; Order of Suspension of Trading jlentini on PROD1PC65 with NOTICES BILLING CODE 8010–01–P SECURITIES AND EXCHANGE COMMISSION [Release No. 34–54422; File No. SR–CBOE– 2004–21] Self-Regulatory Organizations; Chicago Board Options Exchange, Incorporated; Order Approving a Proposed Rule Change and Notice of Filing and Order Granting Accelerated Approval to Amendment No. 2 Thereto To Establish Rules for a Screen-Based Trading System for Non-Option Securities September 11, 2006. I. Introduction On April 14, 2004, the Chicago Board Options Exchange, Incorporated (‘‘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 proposal to adopt on a pilot basis rules governing the trading of non-option securities on an electronic platform known as ‘‘STOC.’’ The Exchange filed Amendment No. 1 with the Commission on January 11, 2006.3 The amended proposal was published for comment in the Federal Register on January 23, 2006.4 The Commission received no comments on the proposal. The Exchange filed Amendment No. 2 with the Commission on August 3, 2006.5 This notice and order requests U.S.C. 78s(b)(1). CFR 240.19b–4. 3 Amendment No. 1 replaced the original filing in its entirety. 4 See Securities Exchange Act Release No. 53112 (January 12, 2006), 71 FR 3579. 5 In Amendment No. 2, a partial amendment, the Exchange, among other things, revised proposed CBOE Rule 52.1 to require that the public customer priority overlay be activated whenever pro rata priority is in use; removed provisions relating to complex orders; revised the requirements for 2 17 It appears to the Securities and Exchange Commission that there is a lack of current and accurate information concerning the securities of Indigenous Global Development Corporation (‘‘IGDC’’) because it has not filed a periodic report since the quarter ending March 31, 2005. 14:51 Sep 14, 2006 By the Commission. Jill M. Peterson, Assistant Secretary. [FR Doc. 06–7725 Filed 9–13–06; 11:18 am] Jkt 208001 comment on Amendment No. 2 and approves the proposal, as amended, on an accelerated basis. II. Description of the Proposal A. Overview of the STOC System CBOE currently trades a small number of non-option securities.6 These products are not traded on CBOE’s options trading platform, but rather on a stand-alone platform in an openoutcry environment pursuant to Chapter XXX (30) of CBOE’s rules. In 2003, the Commission approved Chapters XL (40) through XLVI (46) of CBOE’s rules, which established a purely screen-based trading platform for trading options on the Exchange called ‘‘CBOEdirect.’’ 7 Components of that system have been adapted to create CBOE’s Hybrid Trading System (currently in use for options trading), to facilitate the trading of single-stock futures by OneChicago, and to trade security futures products on the CBOE Futures Exchange. CBOE now proposes to use the CBOEdirect platform to trade non-option securities in a purely electronic environment that would replace its existing system. All products currently traded under Chapter 30 would migrate to the new platform and trade pursuant to new Chapters 50– 55. The new platform is called ‘‘Stock Trading on CBOEdirect’’ (‘‘STOC’’ or ‘‘STOC System’’). Like CBOEdirect, STOC would: (1) Be entirely screenbased; (2) utilize a DPM/LMM-driven model with optional supplemental liquidity provided by market makers; (3) utilize a configurable matching algorithm based on either price-time or pro rata priority, with optional priority overlays; and (4) integrate all quotes and orders entered into the system into the STOC book. B. Market Participants 1. STOC Market Makers A STOC market maker is a member registered with the Exchange for the purpose of making transactions as a dealer in the STOC System. A STOC market maker may be either a STOC standard market maker, a STOC designated primary market maker (‘‘STOC DPM’’), or a STOC lead market 1 15 September 13, 2006. VerDate Aug<31>2005 The Commission is of the opinion that the public interest and the protection of investors require a suspension of trading in the securities of the above-listed company. Therefore, it is ordered, pursuant to Section 12(k) of the Securities Exchange Act of 1934, that trading in the abovelisted company is suspended for the period from 9:30 a.m. EDT on September 13, 2006, through 11:59 p.m. EDT, on September 26, 2006. 54537 PO 00000 Frm 00085 Fmt 4703 Sfmt 4703 executing a facilitation or crossing transaction with priority over existing interest on the book; and made additional non-substantive changes to the proposed rule text. 6 As of August 3, 2006, CBOE traded two such products. See Amendment No. 2. 7 See Securities Exchange Act Release No. 47628 (April 3, 2003), 68 FR 17697 (April 10, 2003) (approving SR–CBOE–00–55) (‘‘CBOEdirect Approval Order’’). However, at this time, CBOE does not trade options pursuant to Chapters 40–46. E:\FR\FM\15SEN1.SGM 15SEN1 54538 Federal Register / Vol. 71, No. 179 / Friday, September 15, 2006 / Notices jlentini on PROD1PC65 with NOTICES maker (‘‘STOC LMM’’).8 A member seeking to register as a STOC market maker must file a written application with the Exchange’s Membership Department, which may approve or disapprove the registration.9 A registered STOC market maker may apply for an appointment in one or more non-option securities traded on the STOC System. The appropriate Market Performance Committee may arrange two or more securities into groupings and make appointments to those groupings rather than to individual securities. The appropriate Market Performance Committee may suspend or terminate any appointment of a STOC market maker or make additional appointments whenever, in the committee’s judgment, the interests of a fair and orderly market would best be served by such action.10 With respect to each non-option security for which it holds an appointment, a STOC market maker has a continuous obligation to engage, to a reasonable degree under the existing circumstances, in dealings for his own account when there exists, or it is reasonably anticipated that there will exist, a lack of price continuity or a temporary disparity between supply and demand in a particular security. A STOC market maker is expected to perform the following activities in the course of maintaining a fair and orderly market in all securities in which it holds an appointment: • Competing with other STOC market makers to improve markets; • Making markets which, absent changed market conditions, will be honored for the number of shares entered into the STOC System; and • Updating market quotations in response to changed market conditions.11 In addition, at least 75% of a STOC market maker’s total dollar amount transacted on the STOC System must be in securities to which it has an appointment.12 Furthermore, a STOC market maker is required to respond to a certain percentage of requests for quotes (‘‘RFQs’’) that it receives. The appropriate Market Performance Committee has the authority to determine the percentage of RFQs to which a STOC market maker must respond, which percentage may not be less than 75%.13 A STOC market maker 8 See CBOE Rule 53.20. CBOE Rule 53.21(a). 10 See CBOE Rule 53.22(a). 9 See 11 See CBOE Rule 53.23(a)(1). CBOE Rule 53.23(a)(2)(A). 13 See CBOE Rule 53.23(b). 12 See VerDate Aug<31>2005 14:51 Sep 14, 2006 Jkt 208001 would be credited for an RFQ response only if: (1) It responds to the RFQ with a two-sided market within a time period designated by the appropriate Market Performance Committee; (2) the quote size is at least equal to the minimum size specified by the appropriate Market Performance Committee; and (3) the STOC market maker provides a continuous market for 30 seconds, or the quote is filled before the 30-second period expires.14 The STOC market maker could change its quote during this period but could not cancel it and still receive credit for the response.15 A STOC market maker could be a STOC designated primary market maker (‘‘STOC DPM’’) or a STOC lead market maker (‘‘STOC LMM’’). The Exchange’s STOC DPM Committee may assign a STOC DPM to a particular security.16 If the STOC DPM Committee does not appoint a STOC DPM in a given security, the appropriate Market Performance Committee could appoint one or more STOC LMMs.17 If more than one STOC LMM is appointed, each would function as the STOC LMM on a rotating basis in accordance with a schedule set by the appropriate Market Performance Committee.18 STOC LMMs would have responsibilities similar to STOC DPMs.19 The obligations of STOC DPMs and STOC LMMs are greater than those of STOC standard market makers.20 STOC DPMs and STOC LMMs are obligated, for example, to provide opening quotes and continuous quotes for all their allocated securities.21 Furthermore, STOC DPMs and STOC LMMs are required to handle public customer orders that are not executed on the system due to there being a better quote on another exchange, and to accord priority to public customer orders over their own principal transactions (unless the person who placed the order has consented to not being accorded such priority).22 2. STOC Brokers A STOC broker is an individual (either a member or a nominee of a member organization) who is registered with the Exchange for the purpose of accepting and executing on the STOC System orders received from members, broker-dealers, or public customers. As with brokers operating in the 14 See id. id. 16 See CBOE Rule 53.50. 17 See CBOE Rule 53.51. 18 See id. 19 See id. 20 See CBOE Rule 50.3(a). 21 See CBOE Rule 53.56(a)(2) and (4). 22 See CBOE Rule 53.56(b)(6). 15 See PO 00000 Frm 00086 Fmt 4703 Sfmt 4703 Exchange’s open-outcry market, a STOC broker would not be permitted to accept an order from any source other than a member or a registered broker-dealer, unless he or she were approved to transact business with the public in accordance with CBOE Rule 9.1.23 An applicant for registration as a STOC broker must file his or her application in writing with the Exchange’s Membership Department, which shall consider an applicant’s ability as demonstrated by passing an examination prescribed by the Exchange and such other factors as the committee deems appropriate. After reviewing the application, the committee may either approve or disapprove the applicant’s registration as a STOC broker.24 3. Clearing Firm Brokers A clearing firm broker is an individual who represents the clearing firm of a particular STOC market maker and has the authority to take certain actions with respect to that STOC market maker’s use of the STOC System.25 A clearing firm broker may request the CBOE Help Desk to force the logout of a STOC trader when, for example, that trader has financial difficulty. In addition, the forced logout of a STOC trader could be necessary if technical difficulties prevented the trader from logging off on his or her own. C. States of Operation The STOC System rules define five states of operation: Pre-opening, opening, trading, trading halt, and closed. Pre-opening is some period of time, as determined by the Exchange, prior to the opening during which the STOC System will accept orders and quotes, but no trading will take place.26 During the opening, STOC will accept orders and quotes for inclusion in the opening trade for a period of time determined by the Exchange. At the end of that period, quotes and orders will continue to be accepted for some period of time, but will not be included in the opening trade.27 Opening prices are established by one of two methods, depending on whether the Exchange is the primary market for the security. If the Exchange were the primary market, STOC would open that security at the price that provides the highest matched quantity of order volume.28 If the Exchange were not the primary market, 23 See CBOE Rule 53.60. CBOE Rule 53.61(a). 25 See CBOE Rule 53.70(a). 26 See CBOE Rule 51.3(a). 27 See CBOE Rule 51.3(b). 28 See CBOE Rule 52.2(a). 24 See E:\FR\FM\15SEN1.SGM 15SEN1 Federal Register / Vol. 71, No. 179 / Friday, September 15, 2006 / Notices the STOC DPM/LMM would open the security at a single price that matches the primary market or at a price that does not trade through another exchange’s quote.29 At the end of the opening, STOC will complete the opening trades, if any.30 During trading, securities will trade freely and orders and quotes will be accepted.31 Exchange Trading Officials have the power to order a trading halt on STOC if there are unusual market conditions.32 During a trading halt, orders continue to be accepted by the STOC System but would not be executed.33 Upon termination of the halt, any halted security would go through the preopening and opening procedures before STOC began regular trading again. The STOC System will close at a time predetermined by the Exchange, consistent with its rule regarding days and hours of business.34 Trading is stopped but STOC will continue to accept certain types of orders and allows STOC traders to maintain their orders. At some designated time, as determined by the Exchange, STOC will cease accepting orders and perform its end-of-day procedures.35 D. Priority The STOC rules do not prescribe a single allocation methodology. Instead, the appropriate STOC Trading Committee has the authority to apply to each non-option security traded on STOC one of various allocation priorities.36 CBOE represents that it would issue a regulatory circular specifying the allocation rules that would govern each non-option security traded on STOC.37 1. Basic Allocation Methodologies There would be two basic types of trade allocation methodologies: a. Price-Time Priority. Under this method, resting orders in the STOC book would be prioritized according to 29 See CBOE Rule 52.2(b). CBOE Rule 51.3(b). 31 See CBOE Rule 51.3(c). 32 See CBOE Rule 52.3. In addition, existing CBOE Rule 6.3B (Trading Halts Due to Extraordinary Market Volatility) provides that the Exchange shall halt trading in all securities whenever a market-wide trading halt, commonly known as a circuit breaker, is initiated on the New York Stock Exchange in response to extraordinary market conditions. 33 See CBOE Rule 51.3(d). 34 See CBOE Rules 51.3(b) and 51.2. 35 See CBOE Rule 51.6. The STOC System’s endof-day procedures include deleting orders that expire at the end of that session, such as day orders, session orders, and expiring good-’til-cancelled orders. See id. 36 See CBOE Rule 52.1(a). 37 See Amendment No. 2. price and time. If two or more orders were at the best price, priority among these orders would be afforded in the sequence in which they were received by the STOC System.38 b. Pro rata Priority. Under this method, resting orders in the STOC book would be prioritized according to price. If there were two or more orders at the best price, public customer orders would be executed first,39 and any remaining size would be allocated to the non-public customers at the best price proportionally according to order size.40 2. Additional Priority Overlays In addition to these allocation methodologies, the appropriate STOC Trading Committee could determine to overlay, on a security-by-security basis, any or all of the following additional ‘‘priority overlays.’’ 41 a. Public Customer. If this were the only priority overlay in effect, the highest bid and lowest offer would have priority, except that a public customer order would have priority over a nonpublic customer order at the same price. If other priority overlays were also in effect, priority would be established in the sequence designated by the appropriate STOC Trading Committee. In either case, if there were two or more public customer orders at the same price, priority would be afforded to these orders in the sequence in which they were received by the STOC System, even if the pro rata allocation method were the designated allocation method. For purposes of this provision, a ‘‘public customer order’’ is an order for an account in which no CBOE member, non-member participant in a joint venture with a member, or non-member broker-dealer (including a foreign broker-dealer) has an interest.42 b. Market Turner. The ‘‘market turner’’ is the STOC trader who is the first to enter an order or quote at a price better than the previous best price, provided the order or quote is continuously in the market until it trades.43 If market turner priority were jlentini on PROD1PC65 with NOTICES 30 See VerDate Aug<31>2005 14:51 Sep 14, 2006 Jkt 208001 38 See CBOE Rule 52.1(a)(1). rule governing the pro rata priority matching algorithm requires that any time the pro rata priority is in effect, the public customer priority overlay of CBOE Rule 52.1(b)(1) also be in effect. See CBOE Rule 52.1(a)(2), as amended by Amendment No. 2. 40 The executable quantity would be allocated to the nearest whole number, with fractions 1⁄2 or greater rounded up and fractions less than 1⁄2 rounded down. If there were two STOC traders that were both entitled to an additional 1⁄2 share, the additional share would be distributed to the STOC trader whose quote or order had time priority. See id. 41 See CBOE Rule 52.1(b). 42 See CBOE Rule 52.1(b)(1). 43 See CBOE Rule 50.1(g). 39 The PO 00000 Frm 00087 Fmt 4703 Sfmt 4703 54539 the only priority overlay in effect, the market turner would have priority at the highest bid or lowest offer that it had established. If other priority overlays were also in effect, priority would be established in the sequence designated by the appropriate STOC Trading Committee. In either case, market turner priority at a given price would remain with the order once it had been earned. For example, if the market moved in the same direction as the marker turner had moved the market, and the market moves back to the market turner’s original price, the market turner would retain priority at the original price.44 c. Trade Participation Right. STOC DPMs and STOC LMMs may be granted a trade participation right to trade against up to 40% of an incoming order at a given price, even though the order and/or quote of the STOC DPM/LMM did not have the highest time priority at that price.45 If other priority overlays were also in effect, priority would be established in the sequence designated by the appropriate STOC Trading Committee. The following conditions would apply to the STOC DPM/LMM trade participation right: • To be entitled to a participation right, the order and/or quote of the STOC DPM/LMM must be at the best price.46 • A STOC DPM/LMM may not be allocated a total quantity greater than the quantity than it is quoting at that price. If pro rata priority is in effect and the STOC DPM/LMM’s allocation of an order pursuant to its trade participation right is greater than its percentage share of the quotes/orders at the best price at the time that the trade participation right is granted, the STOC DPM/LMM may not receive any further allocation of that order.47 • The trade participation right may not be in effect unless the public customer priority is in effect and is ahead of the trade participation right in the priority sequence.48 Thus, public 44 See CBOE Rule 52.1(b)(2). CBOE Rules 52.1(b), 53.51, and 53.57. However, the participation of a STOC DPM/LMM in an order may exceed 40%, depending on the allocation rules in effect. Assume, for example, that price-time priority is in effect. A STOC DPM/LMM could receive up to 40% of an incoming order due to its trade participation right, then receive an additional portion of the incoming order if it has an order or quote on the STOC book with the highest time priority at the best price. If pro rata priority were in effect, a STOC DPM/LMM could receive up to 40% of an incoming order due to its trade participation right, then receive an additional portion of the incoming order if its percentage of the total volume being quoted at the best price exceeds 40%. 46 See CBOE Rule 52.1(b)(3)(A). 47 See CBOE Rule 52.1(b)(3)(B). 48 See CBOE Rule 52.1(b)(3)(C). 45 See E:\FR\FM\15SEN1.SGM 15SEN1 54540 Federal Register / Vol. 71, No. 179 / Friday, September 15, 2006 / Notices customer orders at the best price would be executed before any STOC DPM/ LMM quote/order(s) pursuant to the trade participation right. • If the trade participation right priority overlay and the market turner priority overlay are both in effect and the STOC DPM/LMM is the market turner, market turner priority would not apply.49 • If price-time priority is in effect and the STOC DPM/LMM has a quote and one or more orders at the same price, any shares executed as part of the STOC DPM/LMM’s trade participation right would trade with the highest priority quote/order(s) of the STOC DPM/ LMM.50 • If other priority overlays are in effect and designated as higher priorities than the trade participation right, the participation right would apply only to any remaining balance of an order after all higher priorities were satisfied.51 3. Automatic Quote Regeneration STOC eventually will allow a STOC market maker to have the system automatically regenerate its quote where the bid or offer to be regenerated is a defined number of ticks worse than the bid or offer that had been hit.52 The market maker would pre-set the system with the number of ticks worse by which its quote would regenerate.53 If a STOC market maker has the system regenerate its quote and the regenerated quote could immediately execute against the same incoming order that traded against the original quote, that portion of the regenerated quote equal to the original size executed against the market maker’s original bid or offer would take priority over all other interest at the regenerated price, with respect to the balance of the incoming order, except in one circumstance. That circumstance would be if public customer priority were applicable in that security and there were a public customer order at the same price as the regenerated bid or offer. The portion of a regenerated quote that is not executed would be placed in a priority position consistent with the time that the quote was regenerated.54 E. Order Processing and Execution jlentini on PROD1PC65 with NOTICES 1. Market Orders STOC will automatically match a market order against the order at the best price in the STOC book and against CBOE Rule 52.1(b)(3)(D). CBOE Rule 52.1(b)(3)(E). 51 See CBOE Rule 52.1(b)(3)(F). 52 See CBOE Rule 53.24(b). 53 See id. 54 See CBOE Rule 52.1(d). other orders behind the best price at varying prices until the market order is fully executed or until an execution would result in a trade-through of another exchange’s quotation at a nonexempted price pursuant to the ITS Plan (‘‘trade-through price’’).55 STOC will not automatically execute a market order in an ITS-eligible security at a price inferior to the trade-through price. Instead, the order would be displayed to STOC traders at a price equal to the national best bid or offer (‘‘NBBO’’) for a period of time determined by the STOC Trading Committee, but in any event not to exceed three seconds. If the order is not executed during this display period, it would route to the STOC DPM/LLM for routing to the NBBO market or execution at the trade-through price.56 2. Limit Orders occurs on any exchange at the limit price. In either case, the limit order shall execute against the STOC DPM/ LMM at the limit price.60 4. ITS Commitments Upon entry of an ITS commitment into STOC, the system will attempt to match it against the best prices available in the STOC book under the allocation methodology and priority overlays then in effect. If there were no orders or quotes in the STOC book that matched the limit price of the ITS commitment, the system would display the ITS commitment to STOC traders at the limit price for a period of time determined by the STOC Trading Committee, but in any event not to exceed three seconds. If the ITS commitment is not executed at the conclusion of that period, it would be canceled by the STOC System. An inbound market ITS commitment would be executed at the NBBO or canceled.61 Upon entry into STOC, a marketable limit order will be matched against the best prices available in the STOC book under the allocation methodology and priority overlays then in effect. STOC will not automatically execute a marketable limit order at a price inferior to the trade-through price. Instead, such order would be displayed to STOC traders at the limit price for a period of time determined by the STOC Trading Committee, but in any event not to exceed three seconds. After such time, the limit order would route to the STOC DPM/LMM for routing to the NBBO market or execution at the trade-through price.57 If the limit order is not marketable when it is entered, the STOC book will hold and display the limit order so that it may trade against later submitted orders.58 5. Types of Orders Handled At the discretion of the appropriate STOC Trading Committee, and once the STOC System is so enabled, any of the following order types may be accommodated on the system: Market orders, limit orders, cancel orders, cancel replace orders, day orders, good’til-canceled orders, scale orders, sell ‘‘plus’’ orders, buy ‘‘minus’’ orders, switch order-contingent orders, time orders, odd-lot orders, and contingency orders.62 The types of contingency orders contemplated by the STOC rules are opening-only orders, all-or-none orders, fill-or-kill orders, immediate-orcancel orders, minimum volume orders, stop (stop-loss) orders, stop-limit orders, and market-on-close orders.63 3. Odd-Lot Orders F. Other Trading Rules A STOC market maker shall execute a market odd-lot order at the best price being quoted by such market maker on the STOC System, provided that such quote matches the NBBO. When the best quote on the STOC System does not match the NBBO, an odd-lot order would route to the STOC DPM/LMM for execution. All odd-lot market orders entered prior to the opening will automatically receive the opening price.59 An odd-lot limit order shall be maintained by the STOC System until it: (1) Becomes marketable against the STOC DPM/LMM quote; or (2) a trade 1. Clearly Erroneous Trades The STOC rules provide that the terms of a transaction executed on the system are ‘‘clearly erroneous’’ when there is an obvious error in any term, such as price, number of shares or other unit of trading, or identification of the security.64 A member that is a party to an erroneous execution, either for its own or for a customer’s account, may request the Exchange to review the transaction. The request for review should be made immediately via telephone, with a written follow-up within 15 minutes of execution. Once the request has been received, an officer 49 See 50 See VerDate Aug<31>2005 14:51 Sep 14, 2006 55 See CBOE Rule 52.6(a). id. 57 See CBOE Rule 52.7. 58 See id. 59 See CBOE Rule 52.8. Jkt 208001 60 See 56 See 61 See PO 00000 Frm 00088 Fmt 4703 id. CBOE Rule 52.10. 62 See CBOE Rule 51.8. 63 See CBOE Rule 51.8(g). 64 See CBOE Rule 52.4(a). Sfmt 4703 E:\FR\FM\15SEN1.SGM 15SEN1 Federal Register / Vol. 71, No. 179 / Friday, September 15, 2006 / Notices of the Exchange designated by the President shall review the transaction under dispute and determine whether it is clearly erroneous, with a view toward maintaining a fair and orderly market and the protection of investors and the public interest.65 If the officer determines that the transaction in dispute is clearly erroneous, the officer shall declare the transaction null and void or modify one or more of the terms of the transaction to achieve an equitable rectification of the error that would place the parties in the same position, or as close as possible to the same position, that they would have been in had the error not occurred. The officer shall promptly notify the parties of the determination reached and shall also issue a written resolution of the matter.66 The member aggrieved by the officer’s determination may appeal such determination in accordance with the Exchange’s rules for hearings on and review of Exchange decisions.67 2. Facilitation and Crossing of Orders A STOC trader that wishes to cross two original orders or to facilitate an original order may do so at the established bid or offer, irrespective of existing interest on the STOC book, provided the transaction: (1) Is for at least 5,000 shares; (2) is for a principal amount of at least $100,000; and (3) is greater in size than any single public customer order resting on the STOC book at the proposed cross price.68 3. Firm Quote Obligations Each responsible broker or dealer, as defined in Rule 600(b)(65) of Regulation NMS under the Act,69 must communicate to the Exchange its bids and offers in accordance with Rule 602(b)(1) of Regulation NMS,70 and a bid or offer submitted by a responsible broker or dealer must be firm pursuant to Rule 602(b)(2) of Regulation NMS 71 as to both price and size, subject to certain exceptions: 72 • The level of trading activities or the existence of unusual market conditions is such that the Exchange is incapable of collecting, processing, and making available to quotation vendors the data 65 See CBOE Rule 52.4(b). CBOE Rule 52.4(c). 67 See CBOE Rules, Chapter 19. 68 See CBOE Rule 52.11, as amended by Amendment No. 2. CBOE has confirmed that nothing in Rule 52.11 would permit a STOC trader to execute a trade in an ITS-eligible security at a price that would result in a trade-through of another ITS market’s quote. See Amendment No. 2. 69 17 CFR 242.600(b)(65). 70 17 CFR 242.602(b)(1). 71 17 CFR 242.602(b)(2). 72 See CBOE Rule 52.13(b). jlentini on PROD1PC65 with NOTICES 66 See VerDate Aug<31>2005 14:51 Sep 14, 2006 Jkt 208001 for the security in a manner that accurately reflects the current state of the market on the Exchange and, as a result, the market in the security is declared to be ‘‘non-firm’’; 73 • A system malfunction or other circumstance impairs the Exchange’s ability to disseminate or update quotes in a timely and accurate manner; or • Any of the circumstances set forth in Rule 602(c)(3) of Regulation NMS 74 exists. 4. Side-By-Side Trading and Integrated Market Making The STOC rules permit side-by-side trading 75 and integrated market making 76 in limited circumstances consistent with those that the Commission has approved for other trading systems, including CBOE’s existing equity trading rules.77 The STOC rules would permit side-by-side trading and integrated market making for market participants that trade options on ETFs and TIRs that are broad-based, highly capitalized, and liquid (as measured by criteria set forth in the proposed rules).78 An options DPM that is also approved as a STOC DPM/LMM in the underlying security in a side-by-side trading environment is required to disclose on request to all participants in the option or security trading crowd information about aggregate buying and selling interest at different price points represented by limit orders then being represented or otherwise held by the DPM/LMM.79 Finally, even if the transactions of the STOC DPM/LMM may be in conformity with these proposed rules, a STOC DPM/LMM that engages in transactions for manipulative purposes shall be deemed to be in violation of proposed CBOE Rule 54.7.80 G. Intermarket Price Protection A market order or marketable limit order in an ITS-eligible security would 73 See CBOE Rule 52.13(a) regarding the designation of a market as ‘‘non-firm.’’ 74 17 CFR 242.602(b)(3). 75 The Exchange defines ‘‘side-by-side trading’’ as the trading of options and their underlying stocks in the same vicinity, though not necessarily by the same DPM, LMM, or firm. See Securities Exchange Act Release No. 47200 (January 15, 2003), 68 FR 3907 (January 27, 2003) (File No. SR–CBOE–2002– 63). 76 The Exchange defines ‘‘integrated market making’’ as the trading of options and their underlying stocks by the same DPM or LMM. See id. 77 Compare CBOE Rules 54.7 and 54.7A with CBOE Rules 30.18 and 30.18A; see also American Stock Exchange (‘‘Amex’’) Rule 175(c). 78 See CBOE Rule 54.7, Interpretation & Policy .03. 79 See CBOE Rule 54.7A. 80 See CBOE Rule 54.7A, Interpretation & Policy .02. PO 00000 Frm 00089 Fmt 4703 Sfmt 4703 54541 not be automatically executed on the STOC System at a price inferior to the best bid or offer on another ITS market.81 If there were a better quote on another market, the STOC DPM/LMM would be required to handle the order manually, acting as agent for the order.82 Thus, the STOC DPM/LMM would be required to accord priority to such order over its own orders as principal, unless the person who placed the order had consented to not being accorded such priority.83 To comply with its obligations under the ITS Plan, CBOE has proposed rules similar to those of another electronic exchange, NYSE Arca (formerly the Archipelago Exchange), that would govern intermarket trading on STOC pursuant to the ITS Plan.84 H. Effective Dates of the Pilot Program CBOE proposed that the STOC rules operate as a pilot program extending from the date of this approval order to the final compliance date for Rules 610 and 611 of Regulation NMS.85 CBOE acknowledged that it will need to file additional rule changes to comply with Regulation NMS, and has committed to submitting such filings in a timely manner.86 III. Discussion After careful review, the Commission finds that the proposed rule change, as amended, is consistent with the requirements of the Act and the rules and regulations thereunder applicable to a national securities exchange.87 In particular, the Commission believes that the proposal is consistent with the requirements of Section 6(b)(5) of the Act,88 which requires, among other things, that the rules of a national securities exchange be designed to promote just and equitable principles of trade; to facilitate transactions in securities; 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. The Commission did not receive any comments on the proposal. This Order approves the rule change in its entirety, although only certain aspects of the See CBOE Rules 52.6 and 52.7. CBOE Rule 53.56(b)(6). 83 See id. 84 See CBOE Rules 55.1 through 55.4. 85 17 CFR 242.610 and 242.611. 86 See Securities Exchange Act Release No. 54332 (August 18, 2006), 71 FR 50480 (August 25, 2006) (SR–CBOE–2006–70). 87 In approving this proposed rule change, the Commission has considered the proposed rule’s impact on efficiency, competition, and capital formation. See 15 U.S.C. 78c(f). 88 15 U.S.C. 78f(b)(5). 81 82 See E:\FR\FM\15SEN1.SGM 15SEN1 54542 Federal Register / Vol. 71, No. 179 / Friday, September 15, 2006 / Notices proposed rules governing the STOC System are discussed below.89 A. Priority and Trade Allocation Methodology The Commission considers the priority and trade allocation methodologies proposed for STOC to be consistent with the Act. These priority and trade allocation rules are similar to the rules approved by the Commission for CBOEdirect.90 The Commission notes, in particular, that the STOC rules allow the Exchange to award a STOC DPM/LMM a trade participation right of up to 40% of an incoming order, subject to certain conditions.91 These guarantees are intended to provide an incentive for assuming the extra responsibilities of a STOC DPM/LMM, such as the obligation to provide opening and continuous quotes in all assigned securities and to act as agent for orders when there is a better price on another market. A large guaranteed participation right could erode the incentive of other market makers to make competitive markets. Thus, the Commission must weigh whether a proposed participation right adequately balances the aim of rewarding the specialist with the aim of leaving a sizeable enough portion of the incoming order for the other market makers quoting at the same price. The Commission has previously taken the position that a trade participation right not exceeding 40% is consistent with the Act.92 Furthermore, the STOC rules require that, if the trade participation right is in effect, the public customer priority must be in effect ahead of the trade participation right.93 As a result, public customer orders at a certain price would be filled before a STOC DPM/ LMM receives its trade participation right at that price. The Commission believes it is not inappropriate for customer orders to have priority over a jlentini on PROD1PC65 with NOTICES 89 The Commission notes that many of the proposed STOC rules are substantially identical to rules contained in Chapters 30 and 40–46 of CBOE’s existing rules, and thus have been previously noticed for comment and approved by the Commission. See, e.g., Securities Exchange Act Release No. 28556 (October 19, 1990), 55 FR 43233 (October 26, 1990) (File No. SR–CBOE–90–08) (approving Chapter 30 of CBOE’s rules); CBOEdirect Approval Order (approving Chapters 40–46 of CBOE’s rules). 90 See CBOEdirect Approval Order, 68 FR at 17708–09. 91 See CBOE Rules 52.1(b)(3) and 53.57. 92 See, e.g., Securities Exchange Act Release No. 49068 (January 13, 2004), 69 FR 2775, 2789 (January 20, 2004); CBOEdirect Approval Order, 68 FR at 17708; Securities Exchange Act Release No. 43100 (July 31, 2000), 65 FR 48778, 48787–90 (August 9, 2000); Securities Exchange Act Release No. 42455 (February 24, 2000), 65 FR 11388, 11398 (March 2, 2000). 93 See CBOE Rule 52.1(b)(3)(C). VerDate Aug<31>2005 14:51 Sep 14, 2006 Jkt 208001 specialist’s trade participation right, and that such priority is consistent with Section 11 of the Act 94 and the rules promulgated thereunder. The Commission also notes that, if the pro rata priority method is in effect, the public customer priority overlay must also be in effect. As a result, a public customer order will not lose part of a fill to a later arriving professional order at the same price. B. Facilitation and Crossing Orders CBOE Rule 52.11 permits priority based on size for a facilitation order or the crossing of two agency orders provided the transaction: (1) Is for at least 5,000 shares; (2) is for a principal amount of at least $100,000; and (3) is greater in size than any single public customer order resting on the STOC book at the proposed cross price. The Commission finds that these provisions are consistent with the Act because they strike one reasonable balance between the aim of protecting public limit orders displayed on the book with encouraging broker-dealers to provide significant liquidity by allowing them to arrange crossing orders (whether as agent or principal).95 C. Obligations Under the ITS Plan CBOE is a participant of the Intermarket Trading System and, as such, must comply with the requirements of the ITS Plan with respect to eligible securities. The Commission believes that the STOC rules governing intermarket trading are consistent with the Act. The Commission notes that these rules are closely modeled on those of another electronic exchange, NYSE Arca (formerly the Archipelago Exchange), that previously have been approved by the Commission.96 D. Clearly Erroneous Trades The Commission believes that CBOE Rule 52.4 is consistent with the Act because it is reasonably designed to promote fair and orderly markets by setting forth procedures for reviewing and, if necessary, nullifying or adjusting a clearly erroneous trade. The Commission previously has determined 94 15 U.S.C. 78k. member who seeks to execute or participate on either side of a facilitation or crossing trade is responsible for ensuring that its conduct is in compliance with the requirements of Section 11(a) of the Act and the rules promulgated thereunder. 96 See NYSE Arca Equities (‘‘Arca’’) Rules 7.55 through 7.57 (governing ITS transactions on NYSE Arca); Securities Exchange Act Release No. 44983 (October 25, 2001), 66 FR 55225 (November 1, 2001) (File No. SR–PCX–00–25) (approving rules for the Archipelago Exchange). 95 Each PO 00000 Frm 00090 Fmt 4703 Sfmt 4703 that it is consistent with the Act for an exchange to have discretion to nullify or adjust trades that are clearly erroneous.97 E. Side-By-Side Trading and Integrated Market Making The STOC rules permit side-by-side trading and integrated market making in limited circumstances consistent with those that the Commission has approved for other trading systems, including CBOE’s existing equity trading rules.98 Given the restrictions and disclosure requirement attached to these trading practices, the Commission believes that the STOC rules permitting side-by-side trading and integrated market making are consistent with the Act. F. Firm Quotations CBOE Rule 52.13 requires each responsible broker or dealer to be firm for the price and size of its quotation, subject to certain exceptions. The exceptions set forth in CBOE Rule 52.13 for when a quotation may be ‘‘non-firm’’ are consistent with those permitted in the past for CBOEdirect and other electronic systems.99 In addition, the procedures by which trading officials of the Exchange may determine that unusual market conditions exist, such that they may designate the market in such security to be non-firm, are reasonable and consistent with the Act. G. Section 11(a) of the Act Section 11(a) of the Act 100 prohibits a member of a national securities exchange from effecting transactions on that exchange for its own account, the account of an associated person, or an account over which it or its associated person exercises discretion (collectively, ‘‘covered accounts’’) unless an exception applies. Rule 11a2–2(T) under the Act,101 known as the ‘‘effect versus 97 See Arca Rule 7.10 (Clearly Erroneous Executions); Securities Exchange Act Release No. 28556 (October 19, 1990), 55 FR 43233 (October 26, 1990) (File No. SR–CBOE–90–08) (approving PCX Equities Rule 7.10); NASD Rule 11890 (Clearly Erroneous Transactions); Securities Exchange Act Release No. 28556 (October 19, 1990), 55 FR 43233 (October 26, 1990) (File No. SR–CBOE–90–08) (approving NASD Rule 11890). 98 See CBOE Rules 30.18 and 30.18A; Securities Exchange Act Release No. 47200 (January 15, 2003), 68 FR 3907 (January 27, 2003) (approving same); Amex Rule 175(c); Securities Exchange Act Release No. 46213 (July 16, 2002), 67 FR 48232 (July 23, 2002) (approving same). 99 See, e.g., CBOEdirect Approval Order, 68 FR at 17702; Securities Exchange Act Release No. 49931 (June 28, 2004), 69 FR 40696 (July 6, 2004) (File No. SR–ISE–2004–04) (approving ISE Rule 805(d)); Securities Exchange Act Release No. 49068 (January 13, 2004), 69 FR 2775, 2781 (January 20, 2004) (File No. SR–BSE–2002–15) (approving, inter alia, BOX Rules, Ch. VI, Sec. 6(c)(ii)(2)). 100 15 U.S.C. 78k(a). 101 17 CFR 240.11a2–2(T). E:\FR\FM\15SEN1.SGM 15SEN1 Federal Register / Vol. 71, No. 179 / Friday, September 15, 2006 / Notices jlentini on PROD1PC65 with NOTICES execute’’ rule, provides exchange members with an exemption from the Section 11(a) prohibition. Rule 11a2– 2(T) permits an exchange member, subject to certain conditions, to effect a transaction for a covered account by arranging for an unaffiliated member to execute the transaction on the exchange. To comply with Rule 11a2–2(T)’s conditions, a member (1) must transmit the order from off the exchange floor; (2) may not participate in the execution of the transaction once it has been transmitted to the member performing the execution; (3) may not be affiliated with the executing member; and (4) with respect to an account over which the member has investment discretion, neither the member nor its associated person may retain any compensation in the connection with effecting the transaction, except as provided in the rule. In letters to the Commission,102 the Exchange represented that transactions effected on the STOC System meet the requirements of Rule 11a2–2(T). Based on these representations, the Commission believes that the STOC System satisfies the four conditions of Rule 11a2–2(T). First, the rule requires that orders be transmitted from off the Exchange floor. The Commission has considered the offfloor transmission requirement in the context of several automated trading and electronic order-handling facilities operated by various national securities exchanges, and has determined that a covered account order sent through such an exchange facility would be deemed to be transmitted from off the floor.103 102 See Letters from Angelo Evangelou, Assistant General Counsel, CBOE, to Kelly M. Riley, Assistant Director, Division of Market Regulation (‘‘Division’’), Commission, dated August 22, 2006, and September 7, 2006. 103 Among the systems considered by the Commission were (1) CBOEdirect (see Letter from Paula R. Jensen, Deputy Chief Counsel, Division, Commission, to Angelo Evangelou, Senior Attorney, CBOE, dated March 31, 2003 (‘‘CBOEdirect Letter’’)); (2) the Amex Automatic Execution System (see Letter from Paula R. Jensen, Deputy Chief Counsel, Division, Commission, to Jeffrey P. Burns, Assistant General Counsel, Amex, dated July 9, 2002); (3) the Pacific Exchange’s (‘‘PCX’’) Archipelago Exchange Facility (see Letter from Paula R. Jensen, Deputy Chief Counsel, Division, Commission, to Kathryn L. Beck, Senior Vice President, PCX, dated October 25, 2001); (4) the Philadelphia Stock Exchange’s (‘‘Phlx’’) VWAP Trading System (see Letter from Larry E. Bergmann, Senior Associate Director, Division, Commission, to Edith Hallahan, Associate General Counsel, Phlx, dated March 24, 1999 (‘‘VWAP Letter’’)); (5) the PCX Application of the OptiMark System (see Letter from Catherine McGuire, Chief Counsel, Division, Commission, to David E. Rosedahl, PCX, dated November 30, 1998 (‘‘Optimark Letter’’)); (6) Chicago Match (see Letter regarding Chicago Match, from Brandon Becker, Director, Division, VerDate Aug<31>2005 14:51 Sep 14, 2006 Jkt 208001 CBOE, however, stated in its letter that its floor members would be permitted to send orders to the STOC System from CBOE’s options trading floor. The Commission has stated that the off-floor transmission requirement may be met when an order is sent from one trading floor of an exchange to another, separate trading floor of the same exchange.104 CBOE represented that securities traded on CBOE’s options trading floor will not be traded on the STOC platform. On the basis of the Exchange’s representations, the Commission believes that orders sent by electronic means from the Exchange’s trading floor may be considered to be sent from ‘‘off-floor’’ for purposes of the STOC System. Specifically, the Commission believes that, because the securities traded on STOC are not traded on CBOE’s physical trading floor, the STOC System is essentially a different, separate trading floor. The Commission notes that CBOE floor members will not have a time/ place advantage with regard to securities traded on STOC. CBOE stated that the servers for the STOC System are physically separate from the options trading floor. Thus, according to CBOE, orders transmitted from the Exchange’s options trading floor would not be processed any more quickly than orders received from another location. In addition, CBOE represented that all orders—whether submitted from the Exchange’s options trading floor or from another location—would be routed through the same electronic ‘‘front door’’ at the Exchange and into a single stream of orders that would be handled by the STOC System. Finally, floor members will see information about orders that are at the top of the electronic book at the same time as the public. Specifically, information about orders at the top of the STOC Book would be displayed to the CBOE trading floor after such information has been sent to the securities information Commission, to George T. Simon, Foley & Lardner, dated November 30, 1994 (‘‘Chicago Match Letter’’)); (7) the ITS (see Securities Exchange Act Release No. 15533 (January 29, 1979), 44 FR 6084 (January 31, 1979), nn. 20–27 and accompanying text (‘‘1979 Release’’)); (8) Amex’s Post Execution Reporting System and the Amex Switching System (see id. at n. 25); (9) the PCX’s Communications and Execution System (‘‘COMEX’’) (see id. at n. 25); (10) Phlx’s Automated Communications and Execution System (‘‘PACE’’) (see id. at n. 25); and (11) the Cincinnati Stock Exchange’s Multiple Dealer Trading Facility (see id. at nn. 28–35 and accompanying text). 104 See Securities Exchange Act Release No. 52094 (July 21, 2005), 70 FR 43913, 43916 (July 29, 2005) (regarding CHX’s electronic book); see also letter from Richard A. Steinwurtzel, Attorney, Office of Chief Counsel, Division, Commission, to Philip J. Lo Bue, Senior Vice President, PCX, dated December 22, 1978. PO 00000 Frm 00091 Fmt 4703 Sfmt 4703 54543 processor that disseminates it to the public. Based on these facts, the Commission believes the off-floor transmission requirement is satisfied in this case. Second, the rule requires that the member not participate in the execution of its order. In its letter of August 22, 2006,105 the Exchange represented that its members will relinquish control of orders after they are submitted to the STOC System and noted that the members will not receive special or unique trading advantages.106 Third, although Rule 11a2–2(T) contemplates having an order executed by an exchange member who is unaffiliated with the member initiating the order, the Commission has recognized that the requirement is satisfied when automated exchange facilities are used.107 Finally, in its letter the Exchange represents that members that rely on Rule 11a2–2(T) for a managed account transaction must comply with the limitations on compensation set forth in the rule. H. Pilot Program The Commission is approving the STOC rules on a pilot basis. Although CBOE represents that the STOC System will require additional rule changes to comply with Regulation NMS, the Commission believes it is appropriate for CBOE to implement the new rules described above to enhance its abilities to trade non-option securities in the interim. Nothing in this Order should be construed as altering any obligation imposed on CBOE by Rules 610 and 611 of Regulation NMS.108 I. Accelerated Approval of Amendment No. 2 Pursuant to Section 19(b)(2) of the Act,109 the Commission finds good cause for approving the amended proposal prior to the thirtieth day after the publication of Amendment No. 2 in 105 See supra note 102. Securities Exchange Act Release No. 44983 (October 25, 2001), 66 FR 55225, 55232 (November 1, 2001) (approving the PCX’s Archipelago Exchange Facility); 1979 Release at 6086 n. 25. See also CBOEdirect Letter, VWAP Letter, Optimark Letter, Chicago Match Letter. 107 In considering the operation of automated execution systems operated by an exchange, the Commission has noted that, while there is no independent executing exchange member, the execution of an order is automatic once it has been transmitted into the systems. Because the design of these systems ensures that members do not possess any special or unique trading advantages in handling their orders after transmitting them to the exchange, the Commission has stated that executions obtained through these systems satisfy the independent execution requirement of Rule 11a2–2(T). See 1979 Release at 6086 n. 25. 108 17 CFR 242.610 and 242.611. 109 15 U.S.C. 78s(b)(2). 106 See E:\FR\FM\15SEN1.SGM 15SEN1 54544 Federal Register / Vol. 71, No. 179 / Friday, September 15, 2006 / Notices the Federal Register. Amendment No. 2 revised the proposal to require that the public customer priority overlay be activated whenever pro rata priority is in use, to delete provisions relating to complex orders, and to amend the requirements for executing a facilitation or crossing transaction with priority over existing interest on the book. These changes further public customer protection by reducing the likelihood that a public customer order will lose all or part of a fill to a later arriving professional order at the same price. Amendment No. 2 also made clarifications to the proposed rule change that do not alter the substance of the proposed rules and thus are appropriate for accelerated approval. Accordingly, the Commission finds good cause, consistent with Section 19(b)(2) of the Act,110 to approve the proposed rule change, as amended, prior to the thirtieth day after publication of the notice of filing of Amendment No. 2 thereto in the Federal Register. IV. Solicitation of Comments Concerning Amendment No. 2 Interested persons are invited to submit written data, views, and arguments concerning Amendment No. 2, including whether it is consistent with the Act. Comments may be submitted by any of the following methods: jlentini on PROD1PC65 with NOTICES Electronic Comments • Use the Commission’s Internet comment form (http://www.sec.gov/ rules/sro.shtml); or • Send an e-mail to rulecomments@sec.gov. Please include File Number SR–CBOE–2004–21 on the subject line. Paper Comments • Send paper comments in triplicate to Nancy M. Morris, Secretary, Securities and Exchange Commission, Station Place, 100 F Street, NE., Washington, DC 20549–1090. All submissions should refer to File Number SR–CBOE–2004–21. This file 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. Copies of such filing also will be available for inspection and copying at the principal office of the Exchange. 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–CBOE–2004–21 and should be submitted on or before October 6, 2006. V. Conclusion It is therefore ordered, pursuant to Section 19(b)(2) of the Act,111 that the proposed rule change (File No. SR– CBOE–2004–21), as amended, is approved, and that Amendment No. 2 thereto is approved on an accelerated basis, as a pilot program, until the final compliance date for Rules 610 and 611 of Regulation NMS. For the Commission, by the Division of Market Regulation, pursuant to delegated authority.112 Nancy M. Morris, Secretary. [FR Doc. E6–15321 Filed 9–14–06; 8:45 am] BILLING CODE 8010–01–P SECURITIES AND EXCHANGE COMMISSION [Release No. 34–54418; File No. SR–ISE– 2006–51] Self-Regulatory Organizations; International Securities Exchange, Inc.; Notice of Filing and Immediate Effectiveness of Proposed Rule Change Relating to the Definition of a Directed Order September 8, 2006. Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934 (the ‘‘Act’’),1 and Rule 19b–4 thereunder,2 notice is hereby given that on September 6, 2006, the International Securities Exchange, Inc. (‘‘ISE’’ 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 ISE. ISE filed the proposed rule change pursuant to section 19(b)(3)(A) of the Act,3 and Rule 19b–4(f)(6) thereunder,4 which renders the proposal effective upon filing with the Commission. The Commission is publishing this notice to solicit comments on the proposed rule change from interested persons. I. Self-Regulatory Organization’s Statement of the Terms of Substance of the Proposed Rule Change ISE is proposing to expand the definition of a ‘‘Directed Order’’ to allow broker-dealer orders to be routed to ISE market makers under ISE Rule 811. Below is the text of the proposed rule change. Proposed new language is in italic; proposed deletions are in [brackets]. * * * * * Rule 811. Directed Orders (a) Definitions. (1) A ‘‘Directed Order’’ is [a Public Customer Order] an order routed from an Electronic Access Member to an Exchange market maker through the Exchange’s System. (2) through (3) no change. (b) through (e) no change. * * * * * 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 ISE 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 IV below. The ISE 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 Under ISE Rule 811 (Directed Orders), Electronic Access Members may route orders to an ISE market maker, which is then required to either enter them into the Price Improvement Mechanism 5 or release them to execute in the regular market. While the Price Improvement 111 Id. U.S.C. 78s(b)(2). VerDate Aug<31>2005 14:51 Sep 14, 2006 Jkt 208001 3 15 1 15 110 15 112 17 CFR 200.30–3(a)(12). U.S.C. 78s(b)(1). 2 17 CFR 240.19b–4. 4 17 PO 00000 Frm 00092 Fmt 4703 Sfmt 4703 U.S.C. 78s(b)(3)(A). CFR 240.19b–4(f)(6). 5 ISE Rule 723. E:\FR\FM\15SEN1.SGM 15SEN1

Agencies

[Federal Register Volume 71, Number 179 (Friday, September 15, 2006)]
[Notices]
[Pages 54537-54544]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: E6-15321]


-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-54422; File No. SR-CBOE-2004-21]


 Self-Regulatory Organizations; Chicago Board Options Exchange, 
Incorporated; Order Approving a Proposed Rule Change and Notice of 
Filing and Order Granting Accelerated Approval to Amendment No. 2 
Thereto To Establish Rules for a Screen-Based Trading System for Non-
Option Securities

September 11, 2006.

I. Introduction

    On April 14, 2004, the Chicago Board Options Exchange, Incorporated 
(``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 proposal to adopt on a pilot basis rules governing the 
trading of non-option securities on an electronic platform known as 
``STOC.'' The Exchange filed Amendment No. 1 with the Commission on 
January 11, 2006.\3\ The amended proposal was published for comment in 
the Federal Register on January 23, 2006.\4\ The Commission received no 
comments on the proposal. The Exchange filed Amendment No. 2 with the 
Commission on August 3, 2006.\5\ This notice and order requests comment 
on Amendment No. 2 and approves the proposal, as amended, on an 
accelerated basis.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Amendment No. 1 replaced the original filing in its 
entirety.
    \4\ See Securities Exchange Act Release No. 53112 (January 12, 
2006), 71 FR 3579.
    \5\ In Amendment No. 2, a partial amendment, the Exchange, among 
other things, revised proposed CBOE Rule 52.1 to require that the 
public customer priority overlay be activated whenever pro rata 
priority is in use; removed provisions relating to complex orders; 
revised the requirements for executing a facilitation or crossing 
transaction with priority over existing interest on the book; and 
made additional non-substantive changes to the proposed rule text.
---------------------------------------------------------------------------

II. Description of the Proposal

A. Overview of the STOC System

     CBOE currently trades a small number of non-option securities.\6\ 
These products are not traded on CBOE's options trading platform, but 
rather on a stand-alone platform in an open-outcry environment pursuant 
to Chapter XXX (30) of CBOE's rules. In 2003, the Commission approved 
Chapters XL (40) through XLVI (46) of CBOE's rules, which established a 
purely screen-based trading platform for trading options on the 
Exchange called ``CBOEdirect.'' \7\ Components of that system have been 
adapted to create CBOE's Hybrid Trading System (currently in use for 
options trading), to facilitate the trading of single-stock futures by 
OneChicago, and to trade security futures products on the CBOE Futures 
Exchange. CBOE now proposes to use the CBOEdirect platform to trade 
non-option securities in a purely electronic environment that would 
replace its existing system. All products currently traded under 
Chapter 30 would migrate to the new platform and trade pursuant to new 
Chapters 50-55. The new platform is called ``Stock Trading on 
CBOEdirect'' (``STOC'' or ``STOC System''). Like CBOEdirect, STOC 
would: (1) Be entirely screen-based; (2) utilize a DPM/LMM-driven model 
with optional supplemental liquidity provided by market makers; (3) 
utilize a configurable matching algorithm based on either price-time or 
pro rata priority, with optional priority overlays; and (4) integrate 
all quotes and orders entered into the system into the STOC book.
---------------------------------------------------------------------------

    \6\ As of August 3, 2006, CBOE traded two such products. See 
Amendment No. 2.
    \7\ See Securities Exchange Act Release No. 47628 (April 3, 
2003), 68 FR 17697 (April 10, 2003) (approving SR-CBOE-00-55) 
(``CBOEdirect Approval Order''). However, at this time, CBOE does 
not trade options pursuant to Chapters 40-46.
---------------------------------------------------------------------------

B. Market Participants

1. STOC Market Makers
    A STOC market maker is a member registered with the Exchange for 
the purpose of making transactions as a dealer in the STOC System. A 
STOC market maker may be either a STOC standard market maker, a STOC 
designated primary market maker (``STOC DPM''), or a STOC lead market

[[Page 54538]]

maker (``STOC LMM'').\8\ A member seeking to register as a STOC market 
maker must file a written application with the Exchange's Membership 
Department, which may approve or disapprove the registration.\9\ A 
registered STOC market maker may apply for an appointment in one or 
more non-option securities traded on the STOC System. The appropriate 
Market Performance Committee may arrange two or more securities into 
groupings and make appointments to those groupings rather than to 
individual securities. The appropriate Market Performance Committee may 
suspend or terminate any appointment of a STOC market maker or make 
additional appointments whenever, in the committee's judgment, the 
interests of a fair and orderly market would best be served by such 
action.\10\
    With respect to each non-option security for which it holds an 
appointment, a STOC market maker has a continuous obligation to engage, 
to a reasonable degree under the existing circumstances, in dealings 
for his own account when there exists, or it is reasonably anticipated 
that there will exist, a lack of price continuity or a temporary 
disparity between supply and demand in a particular security. A STOC 
market maker is expected to perform the following activities in the 
course of maintaining a fair and orderly market in all securities in 
which it holds an appointment:
---------------------------------------------------------------------------

    \8\ See CBOE Rule 53.20.
    \9\ See CBOE Rule 53.21(a).
    \10\ See CBOE Rule 53.22(a).
---------------------------------------------------------------------------

     Competing with other STOC market makers to improve 
markets;
     Making markets which, absent changed market conditions, 
will be honored for the number of shares entered into the STOC System; 
and
     Updating market quotations in response to changed market 
conditions.\11\

    \11\ See CBOE Rule 53.23(a)(1).

In addition, at least 75% of a STOC market maker's total dollar amount 
transacted on the STOC System must be in securities to which it has an 
appointment.\12\
---------------------------------------------------------------------------

    \12\ See CBOE Rule 53.23(a)(2)(A).
---------------------------------------------------------------------------

    Furthermore, a STOC market maker is required to respond to a 
certain percentage of requests for quotes (``RFQs'') that it receives. 
The appropriate Market Performance Committee has the authority to 
determine the percentage of RFQs to which a STOC market maker must 
respond, which percentage may not be less than 75%.\13\ A STOC market 
maker would be credited for an RFQ response only if: (1) It responds to 
the RFQ with a two-sided market within a time period designated by the 
appropriate Market Performance Committee; (2) the quote size is at 
least equal to the minimum size specified by the appropriate Market 
Performance Committee; and (3) the STOC market maker provides a 
continuous market for 30 seconds, or the quote is filled before the 30-
second period expires.\14\ The STOC market maker could change its quote 
during this period but could not cancel it and still receive credit for 
the response.\15\
---------------------------------------------------------------------------

    \13\ See CBOE Rule 53.23(b).
    \14\ See id.
    \15\ See id.
---------------------------------------------------------------------------

    A STOC market maker could be a STOC designated primary market maker 
(``STOC DPM'') or a STOC lead market maker (``STOC LMM''). The 
Exchange's STOC DPM Committee may assign a STOC DPM to a particular 
security.\16\ If the STOC DPM Committee does not appoint a STOC DPM in 
a given security, the appropriate Market Performance Committee could 
appoint one or more STOC LMMs.\17\ If more than one STOC LMM is 
appointed, each would function as the STOC LMM on a rotating basis in 
accordance with a schedule set by the appropriate Market Performance 
Committee.\18\ STOC LMMs would have responsibilities similar to STOC 
DPMs.\19\
---------------------------------------------------------------------------

    \16\ See CBOE Rule 53.50.
    \17\ See CBOE Rule 53.51.
    \18\ See id.
    \19\ See id.
---------------------------------------------------------------------------

    The obligations of STOC DPMs and STOC LMMs are greater than those 
of STOC standard market makers.\20\ STOC DPMs and STOC LMMs are 
obligated, for example, to provide opening quotes and continuous quotes 
for all their allocated securities.\21\ Furthermore, STOC DPMs and STOC 
LMMs are required to handle public customer orders that are not 
executed on the system due to there being a better quote on another 
exchange, and to accord priority to public customer orders over their 
own principal transactions (unless the person who placed the order has 
consented to not being accorded such priority).\22\
---------------------------------------------------------------------------

    \20\ See CBOE Rule 50.3(a).
    \21\ See CBOE Rule 53.56(a)(2) and (4).
    \22\ See CBOE Rule 53.56(b)(6).
---------------------------------------------------------------------------

2. STOC Brokers
    A STOC broker is an individual (either a member or a nominee of a 
member organization) who is registered with the Exchange for the 
purpose of accepting and executing on the STOC System orders received 
from members, broker-dealers, or public customers. As with brokers 
operating in the Exchange's open-outcry market, a STOC broker would not 
be permitted to accept an order from any source other than a member or 
a registered broker-dealer, unless he or she were approved to transact 
business with the public in accordance with CBOE Rule 9.1.\23\ An 
applicant for registration as a STOC broker must file his or her 
application in writing with the Exchange's Membership Department, which 
shall consider an applicant's ability as demonstrated by passing an 
examination prescribed by the Exchange and such other factors as the 
committee deems appropriate. After reviewing the application, the 
committee may either approve or disapprove the applicant's registration 
as a STOC broker.\24\
---------------------------------------------------------------------------

    \23\ See CBOE Rule 53.60.
    \24\ See CBOE Rule 53.61(a).
---------------------------------------------------------------------------

3. Clearing Firm Brokers
    A clearing firm broker is an individual who represents the clearing 
firm of a particular STOC market maker and has the authority to take 
certain actions with respect to that STOC market maker's use of the 
STOC System.\25\ A clearing firm broker may request the CBOE Help Desk 
to force the logout of a STOC trader when, for example, that trader has 
financial difficulty. In addition, the forced logout of a STOC trader 
could be necessary if technical difficulties prevented the trader from 
logging off on his or her own.
---------------------------------------------------------------------------

    \25\ See CBOE Rule 53.70(a).
---------------------------------------------------------------------------

C. States of Operation

    The STOC System rules define five states of operation: Pre-opening, 
opening, trading, trading halt, and closed.
    Pre-opening is some period of time, as determined by the Exchange, 
prior to the opening during which the STOC System will accept orders 
and quotes, but no trading will take place.\26\
---------------------------------------------------------------------------

    \26\ See CBOE Rule 51.3(a).
---------------------------------------------------------------------------

    During the opening, STOC will accept orders and quotes for 
inclusion in the opening trade for a period of time determined by the 
Exchange. At the end of that period, quotes and orders will continue to 
be accepted for some period of time, but will not be included in the 
opening trade.\27\ Opening prices are established by one of two 
methods, depending on whether the Exchange is the primary market for 
the security. If the Exchange were the primary market, STOC would open 
that security at the price that provides the highest matched quantity 
of order volume.\28\ If the Exchange were not the primary market,

[[Page 54539]]

the STOC DPM/LMM would open the security at a single price that matches 
the primary market or at a price that does not trade through another 
exchange's quote.\29\ At the end of the opening, STOC will complete the 
opening trades, if any.\30\
---------------------------------------------------------------------------

    \27\ See CBOE Rule 51.3(b).
    \28\ See CBOE Rule 52.2(a).
    \29\ See CBOE Rule 52.2(b).
    \30\ See CBOE Rule 51.3(b).
---------------------------------------------------------------------------

    During trading, securities will trade freely and orders and quotes 
will be accepted.\31\
---------------------------------------------------------------------------

    \31\ See CBOE Rule 51.3(c).
---------------------------------------------------------------------------

    Exchange Trading Officials have the power to order a trading halt 
on STOC if there are unusual market conditions.\32\ During a trading 
halt, orders continue to be accepted by the STOC System but would not 
be executed.\33\ Upon termination of the halt, any halted security 
would go through the pre-opening and opening procedures before STOC 
began regular trading again.
---------------------------------------------------------------------------

    \32\ See CBOE Rule 52.3. In addition, existing CBOE Rule 6.3B 
(Trading Halts Due to Extraordinary Market Volatility) provides that 
the Exchange shall halt trading in all securities whenever a market-
wide trading halt, commonly known as a circuit breaker, is initiated 
on the New York Stock Exchange in response to extraordinary market 
conditions.
    \33\ See CBOE Rule 51.3(d).
---------------------------------------------------------------------------

    The STOC System will close at a time predetermined by the Exchange, 
consistent with its rule regarding days and hours of business.\34\ 
Trading is stopped but STOC will continue to accept certain types of 
orders and allows STOC traders to maintain their orders. At some 
designated time, as determined by the Exchange, STOC will cease 
accepting orders and perform its end-of-day procedures.\35\
---------------------------------------------------------------------------

    \34\ See CBOE Rules 51.3(b) and 51.2.
    \35\ See CBOE Rule 51.6. The STOC System's end-of-day procedures 
include deleting orders that expire at the end of that session, such 
as day orders, session orders, and expiring good-'til-cancelled 
orders. See id.
---------------------------------------------------------------------------

D. Priority

    The STOC rules do not prescribe a single allocation methodology. 
Instead, the appropriate STOC Trading Committee has the authority to 
apply to each non-option security traded on STOC one of various 
allocation priorities.\36\ CBOE represents that it would issue a 
regulatory circular specifying the allocation rules that would govern 
each non-option security traded on STOC.\37\
---------------------------------------------------------------------------

    \36\ See CBOE Rule 52.1(a).
    \37\ See Amendment No. 2.
---------------------------------------------------------------------------

1. Basic Allocation Methodologies
    There would be two basic types of trade allocation methodologies:
    a. Price-Time Priority. Under this method, resting orders in the 
STOC book would be prioritized according to price and time. If two or 
more orders were at the best price, priority among these orders would 
be afforded in the sequence in which they were received by the STOC 
System.\38\
---------------------------------------------------------------------------

    \38\ See CBOE Rule 52.1(a)(1).
---------------------------------------------------------------------------

    b. Pro rata Priority. Under this method, resting orders in the STOC 
book would be prioritized according to price. If there were two or more 
orders at the best price, public customer orders would be executed 
first,\39\ and any remaining size would be allocated to the non-public 
customers at the best price proportionally according to order size.\40\
---------------------------------------------------------------------------

    \39\ The rule governing the pro rata priority matching algorithm 
requires that any time the pro rata priority is in effect, the 
public customer priority overlay of CBOE Rule 52.1(b)(1) also be in 
effect. See CBOE Rule 52.1(a)(2), as amended by Amendment No. 2.
    \40\ The executable quantity would be allocated to the nearest 
whole number, with fractions \1/2\ or greater rounded up and 
fractions less than \1/2\ rounded down. If there were two STOC 
traders that were both entitled to an additional \1/2\ share, the 
additional share would be distributed to the STOC trader whose quote 
or order had time priority. See id.
---------------------------------------------------------------------------

2. Additional Priority Overlays
    In addition to these allocation methodologies, the appropriate STOC 
Trading Committee could determine to overlay, on a security-by-security 
basis, any or all of the following additional ``priority overlays.'' 
\41\
---------------------------------------------------------------------------

    \41\ See CBOE Rule 52.1(b).
---------------------------------------------------------------------------

    a. Public Customer. If this were the only priority overlay in 
effect, the highest bid and lowest offer would have priority, except 
that a public customer order would have priority over a non-public 
customer order at the same price. If other priority overlays were also 
in effect, priority would be established in the sequence designated by 
the appropriate STOC Trading Committee. In either case, if there were 
two or more public customer orders at the same price, priority would be 
afforded to these orders in the sequence in which they were received by 
the STOC System, even if the pro rata allocation method were the 
designated allocation method. For purposes of this provision, a 
``public customer order'' is an order for an account in which no CBOE 
member, non-member participant in a joint venture with a member, or 
non-member broker-dealer (including a foreign broker-dealer) has an 
interest.\42\
---------------------------------------------------------------------------

    \42\ See CBOE Rule 52.1(b)(1).
---------------------------------------------------------------------------

    b. Market Turner. The ``market turner'' is the STOC trader who is 
the first to enter an order or quote at a price better than the 
previous best price, provided the order or quote is continuously in the 
market until it trades.\43\ If market turner priority were the only 
priority overlay in effect, the market turner would have priority at 
the highest bid or lowest offer that it had established. If other 
priority overlays were also in effect, priority would be established in 
the sequence designated by the appropriate STOC Trading Committee. In 
either case, market turner priority at a given price would remain with 
the order once it had been earned. For example, if the market moved in 
the same direction as the marker turner had moved the market, and the 
market moves back to the market turner's original price, the market 
turner would retain priority at the original price.\44\
---------------------------------------------------------------------------

    \43\ See CBOE Rule 50.1(g).
    \44\ See CBOE Rule 52.1(b)(2).
---------------------------------------------------------------------------

    c. Trade Participation Right. STOC DPMs and STOC LMMs may be 
granted a trade participation right to trade against up to 40% of an 
incoming order at a given price, even though the order and/or quote of 
the STOC DPM/LMM did not have the highest time priority at that 
price.\45\ If other priority overlays were also in effect, priority 
would be established in the sequence designated by the appropriate STOC 
Trading Committee. The following conditions would apply to the STOC 
DPM/LMM trade participation right:
---------------------------------------------------------------------------

    \45\ See CBOE Rules 52.1(b), 53.51, and 53.57. However, the 
participation of a STOC DPM/LMM in an order may exceed 40%, 
depending on the allocation rules in effect. Assume, for example, 
that price-time priority is in effect. A STOC DPM/LMM could receive 
up to 40% of an incoming order due to its trade participation right, 
then receive an additional portion of the incoming order if it has 
an order or quote on the STOC book with the highest time priority at 
the best price. If pro rata priority were in effect, a STOC DPM/LMM 
could receive up to 40% of an incoming order due to its trade 
participation right, then receive an additional portion of the 
incoming order if its percentage of the total volume being quoted at 
the best price exceeds 40%.
---------------------------------------------------------------------------

     To be entitled to a participation right, the order and/or 
quote of the STOC DPM/LMM must be at the best price.\46\
---------------------------------------------------------------------------

    \46\ See CBOE Rule 52.1(b)(3)(A).
---------------------------------------------------------------------------

     A STOC DPM/LMM may not be allocated a total quantity 
greater than the quantity than it is quoting at that price. If pro rata 
priority is in effect and the STOC DPM/LMM's allocation of an order 
pursuant to its trade participation right is greater than its 
percentage share of the quotes/orders at the best price at the time 
that the trade participation right is granted, the STOC DPM/LMM may not 
receive any further allocation of that order.\47\
---------------------------------------------------------------------------

    \47\ See CBOE Rule 52.1(b)(3)(B).
---------------------------------------------------------------------------

     The trade participation right may not be in effect unless 
the public customer priority is in effect and is ahead of the trade 
participation right in the priority sequence.\48\ Thus, public

[[Page 54540]]

customer orders at the best price would be executed before any STOC 
DPM/LMM quote/order(s) pursuant to the trade participation right.
---------------------------------------------------------------------------

    \48\ See CBOE Rule 52.1(b)(3)(C).
---------------------------------------------------------------------------

     If the trade participation right priority overlay and the 
market turner priority overlay are both in effect and the STOC DPM/LMM 
is the market turner, market turner priority would not apply.\49\
---------------------------------------------------------------------------

    \49\ See CBOE Rule 52.1(b)(3)(D).
---------------------------------------------------------------------------

     If price-time priority is in effect and the STOC DPM/LMM 
has a quote and one or more orders at the same price, any shares 
executed as part of the STOC DPM/LMM's trade participation right would 
trade with the highest priority quote/order(s) of the STOC DPM/LMM.\50\
---------------------------------------------------------------------------

    \50\ See CBOE Rule 52.1(b)(3)(E).
---------------------------------------------------------------------------

     If other priority overlays are in effect and designated as 
higher priorities than the trade participation right, the participation 
right would apply only to any remaining balance of an order after all 
higher priorities were satisfied.\51\
---------------------------------------------------------------------------

    \51\ See CBOE Rule 52.1(b)(3)(F).
---------------------------------------------------------------------------

3. Automatic Quote Regeneration
    STOC eventually will allow a STOC market maker to have the system 
automatically regenerate its quote where the bid or offer to be 
regenerated is a defined number of ticks worse than the bid or offer 
that had been hit.\52\ The market maker would pre-set the system with 
the number of ticks worse by which its quote would regenerate.\53\
---------------------------------------------------------------------------

    \52\ See CBOE Rule 53.24(b).
    \53\ See id.
---------------------------------------------------------------------------

    If a STOC market maker has the system regenerate its quote and the 
regenerated quote could immediately execute against the same incoming 
order that traded against the original quote, that portion of the 
regenerated quote equal to the original size executed against the 
market maker's original bid or offer would take priority over all other 
interest at the regenerated price, with respect to the balance of the 
incoming order, except in one circumstance. That circumstance would be 
if public customer priority were applicable in that security and there 
were a public customer order at the same price as the regenerated bid 
or offer. The portion of a regenerated quote that is not executed would 
be placed in a priority position consistent with the time that the 
quote was regenerated.\54\
---------------------------------------------------------------------------

    \54\ See CBOE Rule 52.1(d).
---------------------------------------------------------------------------

E. Order Processing and Execution

1. Market Orders
    STOC will automatically match a market order against the order at 
the best price in the STOC book and against other orders behind the 
best price at varying prices until the market order is fully executed 
or until an execution would result in a trade-through of another 
exchange's quotation at a non-exempted price pursuant to the ITS Plan 
(``trade-through price'').\55\ STOC will not automatically execute a 
market order in an ITS-eligible security at a price inferior to the 
trade-through price. Instead, the order would be displayed to STOC 
traders at a price equal to the national best bid or offer (``NBBO'') 
for a period of time determined by the STOC Trading Committee, but in 
any event not to exceed three seconds. If the order is not executed 
during this display period, it would route to the STOC DPM/LLM for 
routing to the NBBO market or execution at the trade-through price.\56\
---------------------------------------------------------------------------

    \55\ See CBOE Rule 52.6(a).
    \56\ See id.
---------------------------------------------------------------------------

2. Limit Orders
    Upon entry into STOC, a marketable limit order will be matched 
against the best prices available in the STOC book under the allocation 
methodology and priority overlays then in effect. STOC will not 
automatically execute a marketable limit order at a price inferior to 
the trade-through price. Instead, such order would be displayed to STOC 
traders at the limit price for a period of time determined by the STOC 
Trading Committee, but in any event not to exceed three seconds. After 
such time, the limit order would route to the STOC DPM/LMM for routing 
to the NBBO market or execution at the trade-through price.\57\
---------------------------------------------------------------------------

    \57\ See CBOE Rule 52.7.
---------------------------------------------------------------------------

    If the limit order is not marketable when it is entered, the STOC 
book will hold and display the limit order so that it may trade against 
later submitted orders.\58\
---------------------------------------------------------------------------

    \58\ See id.
---------------------------------------------------------------------------

3. Odd-Lot Orders
    A STOC market maker shall execute a market odd-lot order at the 
best price being quoted by such market maker on the STOC System, 
provided that such quote matches the NBBO. When the best quote on the 
STOC System does not match the NBBO, an odd-lot order would route to 
the STOC DPM/LMM for execution. All odd-lot market orders entered prior 
to the opening will automatically receive the opening price.\59\
---------------------------------------------------------------------------

    \59\ See CBOE Rule 52.8.
---------------------------------------------------------------------------

    An odd-lot limit order shall be maintained by the STOC System until 
it: (1) Becomes marketable against the STOC DPM/LMM quote; or (2) a 
trade occurs on any exchange at the limit price. In either case, the 
limit order shall execute against the STOC DPM/LMM at the limit 
price.\60\
---------------------------------------------------------------------------

    \60\ See id.
---------------------------------------------------------------------------

4. ITS Commitments
    Upon entry of an ITS commitment into STOC, the system will attempt 
to match it against the best prices available in the STOC book under 
the allocation methodology and priority overlays then in effect. If 
there were no orders or quotes in the STOC book that matched the limit 
price of the ITS commitment, the system would display the ITS 
commitment to STOC traders at the limit price for a period of time 
determined by the STOC Trading Committee, but in any event not to 
exceed three seconds. If the ITS commitment is not executed at the 
conclusion of that period, it would be canceled by the STOC System. An 
inbound market ITS commitment would be executed at the NBBO or 
canceled.\61\
---------------------------------------------------------------------------

    \61\ See CBOE Rule 52.10.
---------------------------------------------------------------------------

5. Types of Orders Handled
    At the discretion of the appropriate STOC Trading Committee, and 
once the STOC System is so enabled, any of the following order types 
may be accommodated on the system: Market orders, limit orders, cancel 
orders, cancel replace orders, day orders, good-'til-canceled orders, 
scale orders, sell ``plus'' orders, buy ``minus'' orders, switch order-
contingent orders, time orders, odd-lot orders, and contingency 
orders.\62\ The types of contingency orders contemplated by the STOC 
rules are opening-only orders, all-or-none orders, fill-or-kill orders, 
immediate-or-cancel orders, minimum volume orders, stop (stop-loss) 
orders, stop-limit orders, and market-on-close orders.\63\
---------------------------------------------------------------------------

    \62\ See CBOE Rule 51.8.
    \63\ See CBOE Rule 51.8(g).
---------------------------------------------------------------------------

F. Other Trading Rules

1. Clearly Erroneous Trades
    The STOC rules provide that the terms of a transaction executed on 
the system are ``clearly erroneous'' when there is an obvious error in 
any term, such as price, number of shares or other unit of trading, or 
identification of the security.\64\ A member that is a party to an 
erroneous execution, either for its own or for a customer's account, 
may request the Exchange to review the transaction. The request for 
review should be made immediately via telephone, with a written follow-
up within 15 minutes of execution. Once the request has been received, 
an officer

[[Page 54541]]

of the Exchange designated by the President shall review the 
transaction under dispute and determine whether it is clearly 
erroneous, with a view toward maintaining a fair and orderly market and 
the protection of investors and the public interest.\65\
---------------------------------------------------------------------------

    \64\ See CBOE Rule 52.4(a).
    \65\ See CBOE Rule 52.4(b).
---------------------------------------------------------------------------

    If the officer determines that the transaction in dispute is 
clearly erroneous, the officer shall declare the transaction null and 
void or modify one or more of the terms of the transaction to achieve 
an equitable rectification of the error that would place the parties in 
the same position, or as close as possible to the same position, that 
they would have been in had the error not occurred. The officer shall 
promptly notify the parties of the determination reached and shall also 
issue a written resolution of the matter.\66\ The member aggrieved by 
the officer's determination may appeal such determination in accordance 
with the Exchange's rules for hearings on and review of Exchange 
decisions.\67\
---------------------------------------------------------------------------

    \66\ See CBOE Rule 52.4(c).
    \67\ See CBOE Rules, Chapter 19.
---------------------------------------------------------------------------

2. Facilitation and Crossing of Orders
    A STOC trader that wishes to cross two original orders or to 
facilitate an original order may do so at the established bid or offer, 
irrespective of existing interest on the STOC book, provided the 
transaction: (1) Is for at least 5,000 shares; (2) is for a principal 
amount of at least $100,000; and (3) is greater in size than any single 
public customer order resting on the STOC book at the proposed cross 
price.\68\
---------------------------------------------------------------------------

    \68\ See CBOE Rule 52.11, as amended by Amendment No. 2. CBOE 
has confirmed that nothing in Rule 52.11 would permit a STOC trader 
to execute a trade in an ITS-eligible security at a price that would 
result in a trade-through of another ITS market's quote. See 
Amendment No. 2.
---------------------------------------------------------------------------

3. Firm Quote Obligations
    Each responsible broker or dealer, as defined in Rule 600(b)(65) of 
Regulation NMS under the Act,\69\ must communicate to the Exchange its 
bids and offers in accordance with Rule 602(b)(1) of Regulation 
NMS,\70\ and a bid or offer submitted by a responsible broker or dealer 
must be firm pursuant to Rule 602(b)(2) of Regulation NMS \71\ as to 
both price and size, subject to certain exceptions: \72\
---------------------------------------------------------------------------

    \69\ 17 CFR 242.600(b)(65).
    \70\ 17 CFR 242.602(b)(1).
    \71\ 17 CFR 242.602(b)(2).
    \72\ See CBOE Rule 52.13(b).
---------------------------------------------------------------------------

     The level of trading activities or the existence of 
unusual market conditions is such that the Exchange is incapable of 
collecting, processing, and making available to quotation vendors the 
data for the security in a manner that accurately reflects the current 
state of the market on the Exchange and, as a result, the market in the 
security is declared to be ``non-firm''; \73\
---------------------------------------------------------------------------

    \73\ See CBOE Rule 52.13(a) regarding the designation of a 
market as ``non-firm.''
---------------------------------------------------------------------------

     A system malfunction or other circumstance impairs the 
Exchange's ability to disseminate or update quotes in a timely and 
accurate manner; or
     Any of the circumstances set forth in Rule 602(c)(3) of 
Regulation NMS \74\ exists.
---------------------------------------------------------------------------

    \74\ 17 CFR 242.602(b)(3).
---------------------------------------------------------------------------

4. Side-By-Side Trading and Integrated Market Making
    The STOC rules permit side-by-side trading \75\ and integrated 
market making \76\ in limited circumstances consistent with those that 
the Commission has approved for other trading systems, including CBOE's 
existing equity trading rules.\77\ The STOC rules would permit side-by-
side trading and integrated market making for market participants that 
trade options on ETFs and TIRs that are broad-based, highly 
capitalized, and liquid (as measured by criteria set forth in the 
proposed rules).\78\ An options DPM that is also approved as a STOC 
DPM/LMM in the underlying security in a side-by-side trading 
environment is required to disclose on request to all participants in 
the option or security trading crowd information about aggregate buying 
and selling interest at different price points represented by limit 
orders then being represented or otherwise held by the DPM/LMM.\79\ 
Finally, even if the transactions of the STOC DPM/LMM may be in 
conformity with these proposed rules, a STOC DPM/LMM that engages in 
transactions for manipulative purposes shall be deemed to be in 
violation of proposed CBOE Rule 54.7.\80\
---------------------------------------------------------------------------

    \75\ The Exchange defines ``side-by-side trading'' as the 
trading of options and their underlying stocks in the same vicinity, 
though not necessarily by the same DPM, LMM, or firm. See Securities 
Exchange Act Release No. 47200 (January 15, 2003), 68 FR 3907 
(January 27, 2003) (File No. SR-CBOE-2002-63).
    \76\ The Exchange defines ``integrated market making'' as the 
trading of options and their underlying stocks by the same DPM or 
LMM. See id.
    \77\ Compare CBOE Rules 54.7 and 54.7A with CBOE Rules 30.18 and 
30.18A; see also American Stock Exchange (``Amex'') Rule 175(c).
    \78\  See CBOE Rule 54.7, Interpretation & Policy .03.
    \79\ See CBOE Rule 54.7A.
    \80\ See CBOE Rule 54.7A, Interpretation & Policy .02.
---------------------------------------------------------------------------

G. Intermarket Price Protection

    A market order or marketable limit order in an ITS-eligible 
security would not be automatically executed on the STOC System at a 
price inferior to the best bid or offer on another ITS market.\81\ If 
there were a better quote on another market, the STOC DPM/LMM would be 
required to handle the order manually, acting as agent for the 
order.\82\ Thus, the STOC DPM/LMM would be required to accord priority 
to such order over its own orders as principal, unless the person who 
placed the order had consented to not being accorded such priority.\83\ 
To comply with its obligations under the ITS Plan, CBOE has proposed 
rules similar to those of another electronic exchange, NYSE Arca 
(formerly the Archipelago Exchange), that would govern intermarket 
trading on STOC pursuant to the ITS Plan.\84\
---------------------------------------------------------------------------

    \81\  See CBOE Rules 52.6 and 52.7.
    \82\ See CBOE Rule 53.56(b)(6).
    \83\ See id.
    \84\ See CBOE Rules 55.1 through 55.4.
---------------------------------------------------------------------------

H. Effective Dates of the Pilot Program

    CBOE proposed that the STOC rules operate as a pilot program 
extending from the date of this approval order to the final compliance 
date for Rules 610 and 611 of Regulation NMS.\85\ CBOE acknowledged 
that it will need to file additional rule changes to comply with 
Regulation NMS, and has committed to submitting such filings in a 
timely manner.\86\
---------------------------------------------------------------------------

    \85\ 17 CFR 242.610 and 242.611.
    \86\ See Securities Exchange Act Release No. 54332 (August 18, 
2006), 71 FR 50480 (August 25, 2006) (SR-CBOE-2006-70).
---------------------------------------------------------------------------

III. Discussion

    After careful review, the Commission finds that the proposed rule 
change, as amended, is consistent with the requirements of the Act and 
the rules and regulations thereunder applicable to a national 
securities exchange.\87\ In particular, the Commission believes that 
the proposal is consistent with the requirements of Section 6(b)(5) of 
the Act,\88\ which requires, among other things, that the rules of a 
national securities exchange be designed to promote just and equitable 
principles of trade; to facilitate transactions in securities; 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. The Commission did not receive any 
comments on the proposal. This Order approves the rule change in its 
entirety, although only certain aspects of the

[[Page 54542]]

proposed rules governing the STOC System are discussed below.\89\
---------------------------------------------------------------------------

    \87\ In approving this proposed rule change, the Commission has 
considered the proposed rule's impact on efficiency, competition, 
and capital formation. See 15 U.S.C. 78c(f).
    \88\ 15 U.S.C. 78f(b)(5).
    \89\ The Commission notes that many of the proposed STOC rules 
are substantially identical to rules contained in Chapters 30 and 
40-46 of CBOE's existing rules, and thus have been previously 
noticed for comment and approved by the Commission. See, e.g., 
Securities Exchange Act Release No. 28556 (October 19, 1990), 55 FR 
43233 (October 26, 1990) (File No. SR-CBOE-90-08) (approving Chapter 
30 of CBOE's rules); CBOEdirect Approval Order (approving Chapters 
40-46 of CBOE's rules).
---------------------------------------------------------------------------

A. Priority and Trade Allocation Methodology

    The Commission considers the priority and trade allocation 
methodologies proposed for STOC to be consistent with the Act. These 
priority and trade allocation rules are similar to the rules approved 
by the Commission for CBOEdirect.\90\
---------------------------------------------------------------------------

    \90\ See CBOEdirect Approval Order, 68 FR at 17708-09.
---------------------------------------------------------------------------

    The Commission notes, in particular, that the STOC rules allow the 
Exchange to award a STOC DPM/LMM a trade participation right of up to 
40% of an incoming order, subject to certain conditions.\91\ These 
guarantees are intended to provide an incentive for assuming the extra 
responsibilities of a STOC DPM/LMM, such as the obligation to provide 
opening and continuous quotes in all assigned securities and to act as 
agent for orders when there is a better price on another market. A 
large guaranteed participation right could erode the incentive of other 
market makers to make competitive markets. Thus, the Commission must 
weigh whether a proposed participation right adequately balances the 
aim of rewarding the specialist with the aim of leaving a sizeable 
enough portion of the incoming order for the other market makers 
quoting at the same price. The Commission has previously taken the 
position that a trade participation right not exceeding 40% is 
consistent with the Act.\92\ Furthermore, the STOC rules require that, 
if the trade participation right is in effect, the public customer 
priority must be in effect ahead of the trade participation right.\93\ 
As a result, public customer orders at a certain price would be filled 
before a STOC DPM/LMM receives its trade participation right at that 
price. The Commission believes it is not inappropriate for customer 
orders to have priority over a specialist's trade participation right, 
and that such priority is consistent with Section 11 of the Act \94\ 
and the rules promulgated thereunder.
---------------------------------------------------------------------------

    \91\ See CBOE Rules 52.1(b)(3) and 53.57.
    \92\ See, e.g., Securities Exchange Act Release No. 49068 
(January 13, 2004), 69 FR 2775, 2789 (January 20, 2004); CBOEdirect 
Approval Order, 68 FR at 17708; Securities Exchange Act Release No. 
43100 (July 31, 2000), 65 FR 48778, 48787-90 (August 9, 2000); 
Securities Exchange Act Release No. 42455 (February 24, 2000), 65 FR 
11388, 11398 (March 2, 2000).
    \93\ See CBOE Rule 52.1(b)(3)(C).
    \94\ 15 U.S.C. 78k.
---------------------------------------------------------------------------

    The Commission also notes that, if the pro rata priority method is 
in effect, the public customer priority overlay must also be in effect. 
As a result, a public customer order will not lose part of a fill to a 
later arriving professional order at the same price.

B. Facilitation and Crossing Orders

    CBOE Rule 52.11 permits priority based on size for a facilitation 
order or the crossing of two agency orders provided the transaction: 
(1) Is for at least 5,000 shares; (2) is for a principal amount of at 
least $100,000; and (3) is greater in size than any single public 
customer order resting on the STOC book at the proposed cross price. 
The Commission finds that these provisions are consistent with the Act 
because they strike one reasonable balance between the aim of 
protecting public limit orders displayed on the book with encouraging 
broker-dealers to provide significant liquidity by allowing them to 
arrange crossing orders (whether as agent or principal).\95\
---------------------------------------------------------------------------

    \95\ Each member who seeks to execute or participate on either 
side of a facilitation or crossing trade is responsible for ensuring 
that its conduct is in compliance with the requirements of Section 
11(a) of the Act and the rules promulgated thereunder.
---------------------------------------------------------------------------

C. Obligations Under the ITS Plan

    CBOE is a participant of the Intermarket Trading System and, as 
such, must comply with the requirements of the ITS Plan with respect to 
eligible securities. The Commission believes that the STOC rules 
governing intermarket trading are consistent with the Act. The 
Commission notes that these rules are closely modeled on those of 
another electronic exchange, NYSE Arca (formerly the Archipelago 
Exchange), that previously have been approved by the Commission.\96\
---------------------------------------------------------------------------

    \96\ See NYSE Arca Equities (``Arca'') Rules 7.55 through 7.57 
(governing ITS transactions on NYSE Arca); Securities Exchange Act 
Release No. 44983 (October 25, 2001), 66 FR 55225 (November 1, 2001) 
(File No. SR-PCX-00-25) (approving rules for the Archipelago 
Exchange).
---------------------------------------------------------------------------

D. Clearly Erroneous Trades

    The Commission believes that CBOE Rule 52.4 is consistent with the 
Act because it is reasonably designed to promote fair and orderly 
markets by setting forth procedures for reviewing and, if necessary, 
nullifying or adjusting a clearly erroneous trade. The Commission 
previously has determined that it is consistent with the Act for an 
exchange to have discretion to nullify or adjust trades that are 
clearly erroneous.\97\
---------------------------------------------------------------------------

    \97\ See Arca Rule 7.10 (Clearly Erroneous Executions); 
Securities Exchange Act Release No. 28556 (October 19, 1990), 55 FR 
43233 (October 26, 1990) (File No. SR-CBOE-90-08) (approving PCX 
Equities Rule 7.10); NASD Rule 11890 (Clearly Erroneous 
Transactions); Securities Exchange Act Release No. 28556 (October 
19, 1990), 55 FR 43233 (October 26, 1990) (File No. SR-CBOE-90-08) 
(approving NASD Rule 11890).
---------------------------------------------------------------------------

E. Side-By-Side Trading and Integrated Market Making

    The STOC rules permit side-by-side trading and integrated market 
making in limited circumstances consistent with those that the 
Commission has approved for other trading systems, including CBOE's 
existing equity trading rules.\98\ Given the restrictions and 
disclosure requirement attached to these trading practices, the 
Commission believes that the STOC rules permitting side-by-side trading 
and integrated market making are consistent with the Act.
---------------------------------------------------------------------------

    \98\ See CBOE Rules 30.18 and 30.18A; Securities Exchange Act 
Release No. 47200 (January 15, 2003), 68 FR 3907 (January 27, 2003) 
(approving same); Amex Rule 175(c); Securities Exchange Act Release 
No. 46213 (July 16, 2002), 67 FR 48232 (July 23, 2002) (approving 
same).
---------------------------------------------------------------------------

F. Firm Quotations

    CBOE Rule 52.13 requires each responsible broker or dealer to be 
firm for the price and size of its quotation, subject to certain 
exceptions. The exceptions set forth in CBOE Rule 52.13 for when a 
quotation may be ``non-firm'' are consistent with those permitted in 
the past for CBOEdirect and other electronic systems.\99\ In addition, 
the procedures by which trading officials of the Exchange may determine 
that unusual market conditions exist, such that they may designate the 
market in such security to be non-firm, are reasonable and consistent 
with the Act.
---------------------------------------------------------------------------

    \99\ See, e.g., CBOEdirect Approval Order, 68 FR at 17702; 
Securities Exchange Act Release No. 49931 (June 28, 2004), 69 FR 
40696 (July 6, 2004) (File No. SR-ISE-2004-04) (approving ISE Rule 
805(d)); Securities Exchange Act Release No. 49068 (January 13, 
2004), 69 FR 2775, 2781 (January 20, 2004) (File No. SR-BSE-2002-15) 
(approving, inter alia, BOX Rules, Ch. VI, Sec. 6(c)(ii)(2)).
---------------------------------------------------------------------------

G. Section 11(a) of the Act

    Section 11(a) of the Act \100\ prohibits a member of a national 
securities exchange from effecting transactions on that exchange for 
its own account, the account of an associated person, or an account 
over which it or its associated person exercises discretion 
(collectively, ``covered accounts'') unless an exception applies. Rule 
11a2-2(T) under the Act,\101\ known as the ``effect versus

[[Page 54543]]

execute'' rule, provides exchange members with an exemption from the 
Section 11(a) prohibition. Rule 11a2-2(T) permits an exchange member, 
subject to certain conditions, to effect a transaction for a covered 
account by arranging for an unaffiliated member to execute the 
transaction on the exchange. To comply with Rule 11a2-2(T)'s 
conditions, a member (1) must transmit the order from off the exchange 
floor; (2) may not participate in the execution of the transaction once 
it has been transmitted to the member performing the execution; (3) may 
not be affiliated with the executing member; and (4) with respect to an 
account over which the member has investment discretion, neither the 
member nor its associated person may retain any compensation in the 
connection with effecting the transaction, except as provided in the 
rule.
---------------------------------------------------------------------------

    \100\ 15 U.S.C. 78k(a).
    \101\ 17 CFR 240.11a2-2(T).
---------------------------------------------------------------------------

    In letters to the Commission,\102\ the Exchange represented that 
transactions effected on the STOC System meet the requirements of Rule 
11a2-2(T). Based on these representations, the Commission believes that 
the STOC System satisfies the four conditions of Rule 11a2-2(T).
---------------------------------------------------------------------------

    \102\ See Letters from Angelo Evangelou, Assistant General 
Counsel, CBOE, to Kelly M. Riley, Assistant Director, Division of 
Market Regulation (``Division''), Commission, dated August 22, 2006, 
and September 7, 2006.
---------------------------------------------------------------------------

    First, the rule requires that orders be transmitted from off the 
Exchange floor. The Commission has considered the off-floor 
transmission requirement in the context of several automated trading 
and electronic order-handling facilities operated by various national 
securities exchanges, and has determined that a covered account order 
sent through such an exchange facility would be deemed to be 
transmitted from off the floor.\103\
---------------------------------------------------------------------------

    \103\ Among the systems considered by the Commission were (1) 
CBOEdirect (see Letter from Paula R. Jensen, Deputy Chief Counsel, 
Division, Commission, to Angelo Evangelou, Senior Attorney, CBOE, 
dated March 31, 2003 (``CBOEdirect Letter'')); (2) the Amex 
Automatic Execution System (see Letter from Paula R. Jensen, Deputy 
Chief Counsel, Division, Commission, to Jeffrey P. Burns, Assistant 
General Counsel, Amex, dated July 9, 2002); (3) the Pacific 
Exchange's (``PCX'') Archipelago Exchange Facility (see Letter from 
Paula R. Jensen, Deputy Chief Counsel, Division, Commission, to 
Kathryn L. Beck, Senior Vice President, PCX, dated October 25, 
2001); (4) the Philadelphia Stock Exchange's (``Phlx'') VWAP Trading 
System (see Letter from Larry E. Bergmann, Senior Associate 
Director, Division, Commission, to Edith Hallahan, Associate General 
Counsel, Phlx, dated March 24, 1999 (``VWAP Letter'')); (5) the PCX 
Application of the OptiMark System (see Letter from Catherine 
McGuire, Chief Counsel, Division, Commission, to David E. Rosedahl, 
PCX, dated November 30, 1998 (``Optimark Letter'')); (6) Chicago 
Match (see Letter regarding Chicago Match, from Brandon Becker, 
Director, Division, Commission, to George T. Simon, Foley & Lardner, 
dated November 30, 1994 (``Chicago Match Letter'')); (7) the ITS 
(see Securities Exchange Act Release No. 15533 (January 29, 1979), 
44 FR 6084 (January 31, 1979), nn. 20-27 and accompanying text 
(``1979 Release'')); (8) Amex's Post Execution Reporting System and 
the Amex Switching System (see id. at n. 25); (9) the PCX's 
Communications and Execution System (``COMEX'') (see id. at n. 25); 
(10) Phlx's Automated Communications and Execution System (``PACE'') 
(see id. at n. 25); and (11) the Cincinnati Stock Exchange's 
Multiple Dealer Trading Facility (see id. at nn. 28-35 and 
accompanying text).
---------------------------------------------------------------------------

    CBOE, however, stated in its letter that its floor members would be 
permitted to send orders to the STOC System from CBOE's options trading 
floor. The Commission has stated that the off-floor transmission 
requirement may be met when an order is sent from one trading floor of 
an exchange to another, separate trading floor of the same 
exchange.\104\ CBOE represented that securities traded on CBOE's 
options trading floor will not be traded on the STOC platform. On the 
basis of the Exchange's representations, the Commission believes that 
orders sent by electronic means from the Exchange's trading floor may 
be considered to be sent from ``off-floor'' for purposes of the STOC 
System. Specifically, the Commission believes that, because the 
securities traded on STOC are not traded on CBOE's physical trading 
floor, the STOC System is essentially a different, separate trading 
floor.
---------------------------------------------------------------------------

    \104\ See Securities Exchange Act Release No. 52094 (July 21, 
2005), 70 FR 43913, 43916 (July 29, 2005) (regarding CHX's 
electronic book); see also letter from Richard A. Steinwurtzel, 
Attorney, Office of Chief Counsel, Division, Commission, to Philip 
J. Lo Bue, Senior Vice President, PCX, dated December 22, 1978.
---------------------------------------------------------------------------

    The Commission notes that CBOE floor members will not have a time/
place advantage with regard to securities traded on STOC. CBOE stated 
that the servers for the STOC System are physically separate from the 
options trading floor. Thus, according to CBOE, orders transmitted from 
the Exchange's options trading floor would not be processed any more 
quickly than orders received from another location. In addition, CBOE 
represented that all orders--whether submitted from the Exchange's 
options trading floor or from another location--would be routed through 
the same electronic ``front door'' at the Exchange and into a single 
stream of orders that would be handled by the STOC System. Finally, 
floor members will see information about orders that are at the top of 
the electronic book at the same time as the public. Specifically, 
information about orders at the top of the STOC Book would be displayed 
to the CBOE trading floor after such information has been sent to the 
securities information processor that disseminates it to the public. 
Based on these facts, the Commission believes the off-floor 
transmission requirement is satisfied in this case.
    Second, the rule requires that the member not participate in the 
execution of its order. In its letter of August 22, 2006,\105\ the 
Exchange represented that its members will relinquish control of orders 
after they are submitted to the STOC System and noted that the members 
will not receive special or unique trading advantages.\106\ Third, 
although Rule 11a2-2(T) contemplates having an order executed by an 
exchange member who is unaffiliated with the member initiating the 
order, the Commission has recognized that the requirement is satisfied 
when automated exchange facilities are used.\107\ Finally, in its 
letter the Exchange represents that members that rely on Rule 11a2-2(T) 
for a managed account transaction must comply with the limitations on 
compensation set forth in the rule.
---------------------------------------------------------------------------

    \105\ See supra note 102.
    \106\ See Securities Exchange Act Release No. 44983 (October 25, 
2001), 66 FR 55225, 55232 (November 1, 2001) (approving the PCX's 
Archipelago Exchange Facility); 1979 Release at 6086 n. 25. See also 
CBOEdirect Letter, VWAP Letter, Optimark Letter, Chicago Match 
Letter.
    \107\ In considering the operation of automated execution 
systems operated by an exchange, the Commission has noted that, 
while there is no independent executing exchange member, the 
execution of an order is automatic once it has been transmitted into 
the systems. Because the design of these systems ensures that 
members do not possess any special or unique trading advantages in 
handling their orders after transmitting them to the exchange, the 
Commission has stated that executions obtained through these systems 
satisfy the independent execution requirement of Rule 11a2-2(T). See 
1979 Release at 6086 n. 25.
---------------------------------------------------------------------------

H. Pilot Program

    The Commission is approving the STOC rules on a pilot basis. 
Although CBOE represents that the STOC System will require additional 
rule changes to comply with Regulation NMS, the Commission believes it 
is appropriate for CBOE to implement the new rules described above to 
enhance its abilities to trade non-option securities in the interim. 
Nothing in this Order should be construed as altering any obligation 
imposed on CBOE by Rules 610 and 611 of Regulation NMS.\108\
---------------------------------------------------------------------------

    \108\ 17 CFR 242.610 and 242.611.
---------------------------------------------------------------------------

I. Accelerated Approval of Amendment No. 2

    Pursuant to Section 19(b)(2) of the Act,\109\ the Commission finds 
good cause for approving the amended proposal prior to the thirtieth 
day after the publication of Amendment No. 2 in

[[Page 54544]]

the Federal Register. Amendment No. 2 revised the proposal to require 
that the public customer priority overlay be activated whenever pro 
rata priority is in use, to delete provisions relating to complex 
orders, and to amend the requirements for executing a facilitation or 
crossing transaction with priority over existing interest on the book. 
These changes further public customer protection by reducing the 
likelihood that a public customer order will lose all or part of a fill 
to a later arriving professional order at the same price. Amendment No. 
2 also made clarifications to the proposed rule change that do not 
alter the substance of the proposed rules and thus are appropriate for 
accelerated approval. Accordingly, the Commission finds good cause, 
consistent with Section 19(b)(2) of the Act,\110\ to approve the 
proposed rule change, as amended, prior to the thirtieth day after 
publication of the notice of filing of Amendment No. 2 thereto in the 
Federal Register.
---------------------------------------------------------------------------

    \109\ 15 U.S.C. 78s(b)(2).
    \110\ 15 U.S.C. 78s(b)(2).
---------------------------------------------------------------------------

IV. Solicitation of Comments Concerning Amendment No. 2

    Interested persons are invited to submit written data, views, and 
arguments concerning Amendment No. 2, including whether it 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-CBOE-2004-21 on the subject line.

Paper Comments

     Send paper comments in triplicate to Nancy M. Morris, 
Secretary, Securities and Exchange Commission, Station Place, 100 F 
Street, NE., Washington, DC 20549-1090.

All submissions should refer to File Number SR-CBOE-2004-21. This file 
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. Copies of such 
filing also will be available for inspection and copying at the 
principal office of the Exchange. 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-CBOE-2004-21 and should be submitted on or before 
October 6, 2006.

V. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\111\ that the proposed rule change (File No. SR-CBOE-2004-21), as 
amended, is approved, and that Amendment No. 2 thereto is approved on 
an accelerated basis, as a pilot program, until the final compliance 
date for Rules 610 and 611 of Regulation NMS.
---------------------------------------------------------------------------

    \111\ Id.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\112\
---------------------------------------------------------------------------

    \112\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

Nancy M. Morris,
Secretary.
[FR Doc. E6-15321 Filed 9-14-06; 8:45 am]
BILLING CODE 8010-01-P