Self-Regulatory Organizations; International Securities Exchange, LLC; Notice of Filing of Proposed Rule Change Related to Market Maker Risk Parameters and Complex Orders, 37870-37873 [2013-14962]
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Federal Register / Vol. 78, No. 121 / Monday, June 24, 2013 / Notices
provide rebates that are reasonably
related to the value to an exchange’s
market quality associated with higher
levels of market activity, such as higher
levels of liquidity provision and
introduction of higher volumes of orders
into the price and volume discovery
process. Accordingly, the Exchange
believes that the proposal is equitably
allocated and not unfairly
discriminatory because it is consistent
with the overall goals of enhancing
market quality. Further, the Exchange
believes that a tiered pricing model not
significantly altered by a single known
day of atypical trading behavior which
allows Members to predictably calculate
what their costs associated with trading
activity on the Exchange will be is
reasonable, fair and equitable and not
unreasonably discriminatory as it is
uniform in application amongst
Members and should enable such
participants to operate their business
without concern of unpredictable and
potentially significant changes in
expenses.
B. Self-Regulatory Organization’s
Statement on Burden on Competition
The Exchange does not believe that
the proposed rule change will impose
any burden on competition not
necessary or appropriate in furtherance
of the purposes of the Act. The
proposed changes will help the
Exchange to continue to incentivize
higher levels of liquidity at a tighter
spread while providing more stable and
predictable costs to its Members. As
stated above, the Exchange notes that it
operates in a highly competitive market
in which market participants can
readily direct order flow to competing
venues if the deem fee structures to be
unreasonable or excessive.
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C. Self-Regulatory Organization’s
Statement on Comments on the
Proposed Rule Change Received From
Members, Participants, or Others
No written comments were solicited
or received.
III. Date of Effectiveness of the
Proposed Rule Change and Timing for
Commission Action
The foregoing rule change has become
effective pursuant to Section 19(b)(3)(A)
of the Act 11 and paragraph (f) of Rule
19b–4 thereunder.12 At any time within
60 days of the filing of the proposed rule
change, the Commission summarily may
temporarily suspend such rule change if
it appears to the Commission that such
action is necessary or appropriate in the
11 15
U.S.C. 78s(b)(3)(A)(ii).
12 17 CFR 240.19b–4(f).
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public interest, for the protection of
investors, or otherwise in furtherance of
the purposes of the Act.
IV. Solicitation of Comments
Interested persons are invited to
submit written data, views and
arguments concerning the foregoing,
including whether the proposed rule
change is consistent with the Act.
Comments may be submitted by any of
the following methods:
Electronic Comments
• Use the Commission’s Internet
comment form (https://www.sec.gov/
rules/sro.shtml); or
• Send an email to rulecomments@sec.gov. Please include File
Number SR–BYX–2013–021 on the
subject line.
Paper Comments
• Send paper comments in triplicate
to Elizabeth M. Murphy, Secretary,
Securities and Exchange Commission,
100 F Street NE., Washington, DC
20549–1090.
All submissions should refer to File
Number SR–BYX–2013–021. This file
number should be included on the
subject line if email 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 (https://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 Web site viewing and
printing in the Commission’s Public
Reference Room, 100 F Street NE.,
Washington, DC 20549, on official
business days between the hours of
10:00 a.m. and 3:00 p.m. 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–BYX–
2013–021 and should be submitted on
or before July 15, 2013.
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For the Commission, by the Division of
Trading and Markets, pursuant to delegated
authority.13
Kevin M. O’Neill,
Deputy Secretary.
[FR Doc. 2013–14965 Filed 6–21–13; 8:45 am]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–69782; File No. SR–ISE–
2013–38]
Self-Regulatory Organizations;
International Securities Exchange,
LLC; Notice of Filing of Proposed Rule
Change Related to Market Maker Risk
Parameters and Complex Orders
June 18, 2013.
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 June 5,
2013, the International Securities
Exchange, LLC (the ‘‘Exchange’’ or the
‘‘ISE’’) filed with the Securities and
Exchange Commission (‘‘Commission’’)
the proposed rule change as described
in Items I, II, and III below, which items
have been prepared by the Exchange.
The Commission is publishing this
notice to solicit comments on the
proposed rule change from interested
persons.
I. Self-Regulatory Organization’s
Statement of the Terms of Substance of
the Proposed Rule Change
The Exchange proposes to mitigate
market maker risk by requiring market
makers to enter values in the Exchangeprovided risk parameters and by
limiting the types of complex orders
that can leg-into the regular market. The
text of the proposed rule change is
available on the Exchange’s Web site
www.ise.com, at the principal office of
the Exchange, and at the Commission’s
Public Reference Room.
II. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
Change
In its filing with the Commission, the
Exchange included statements
concerning the purpose of, and basis for,
the proposed rule change and discussed
any comments it received on the
proposed rule change. The text of these
statements may be examined at the
places specified in Item IV below. The
self-regulatory organization has
13 17
CFR 200.30–3(a)(12).
U.S.C. 78s(b)(1).
2 17 CFR 240.19b–4.
1 15
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Federal Register / Vol. 78, No. 121 / Monday, June 24, 2013 / Notices
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, Proposed Rule
Change
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1. Purpose
On [sic] Pursuant to ISE Rule 722 and
804, the Exchange currently provides
functionality that will automatically
remove a market maker’s quotes in all
series of an options class when certain
parameter settings are triggered.
Specifically, there are four parameters
that can be set by market makers on a
class-by-class basis. These parameters
are available for market maker quotes in
single options series and for market
maker quotes in complex instruments
on the complex order book. Market
makers establish a time frame during
which the system calculates: (1) The
number of contracts executed by the
market maker in an options class; (2) the
percentage of the total size of the market
maker’s quotes in the class that has been
executed; (3) the absolute value of the
net between contracts bought and
contracts sold in an options class, and
the absolute value of the net between (a)
calls purchased plus puts sold, and (b)
calls sold plus puts purchased. The
market maker establishes limits for each
of these four parameters, and when the
limits are exceeded within the
prescribed time frame, the market
makers quotes are removed.3
The purpose of this functionality is to
allow market makers to provide
liquidity across potentially hundreds of
options series without being at risk of
executing the full cumulative size of all
such quotes before being given adequate
opportunity to adjust their quotes. For
example, if a market maker can enter
quotes with a size of 20 contracts in 150
3 The Exchange is proposing certain nonsubstantive changes to the text of Rules 722 and 804
for clarity. The changes shorten the first sentence
in Rule 804 by deleting ‘‘if the market maker trades,
in the aggregate across all series of an options class
during a specified time period’’ and to delete
‘‘(established by the market maker), within a time
frame specified by the market maker’’ as the text
might be confusing in its current form and is
redundant with other text within the Rule. To
assure clarity, the Exchange also proposes to specify
that the first parameter is a number of ‘‘total’’
contracts ‘‘in the class,’’ and to specify that the
fourth parameter is a net value based on puts and
calls purchased and sold ‘‘in the class.’’ Finally, the
Exchange proposes to use a uniform construction of
‘‘the specified . . .’’ for each of the four parameters.
The same clarifying changes are also proposed with
respect to Rule 722, as the language in both rules
is identical except for the fact that Rule 722 applies
to market maker quotes for complex orders. The
Exchange is not proposing to alter the operation of
the functionality, other than to make use of the
parameters mandatory.
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series of an options class, its total
potential exposure is 3000 contracts in
the options class. To mitigate the risk of
executing all 3000 contracts without
evaluating its positions, the market
maker risk functionality will
automatically remove its quotes in all
series of the options class after it has
executed a specified number of
contracts (e.g., 100) in series of that
options class during a specified time
period (e.g., 5 seconds).
To assure that all quotations are firm
for their full size, the parameter
calculations occur after an execution
against a market maker’s quote takes
place. For example, if a market maker
has set a parameter of 100 contracts
during a 5 second interval for an options
class, and has executed a total of 95
contracts in the options class within the
previous 3 seconds, a quote in a series
of that class with a size of 20 contracts
continues to be firm for all 20 contracts.
In this example, an incoming order
could execute all 20 contracts of the
quote, and following the execution, the
total size parameter would add 20
contracts to the running total of 95.
Since the total size executed within the
5 second time frame exceeds the 100
contracts established by the market
maker for the options class, all of the
market maker’s quotes in the options
class would be removed. The market
maker would then enter new quotes in
the class.
Use of these risk management tools
has always been voluntary under the
rules. Similarly, from a technical
perspective, market makers currently do
not need to enter any values into the
applicable fields, and thus effectively
can choose not to use these tools. The
Exchange proposes to amend the rule to
make it mandatory for market makers to
enter values into all four of the
quotation risk management parameters
for all options classes in which it enters
quotes. The purpose of the rule change
is to prevent market makers from
inadvertently entering quotes without
risk-management parameters. In this
respect, the Exchange notes that all ISE
market makers currently use the
parameters when entering quotes.
However, it is possible that a market
maker could inadvertently enter quotes
without populating one or more of the
risk parameters, resulting in the member
being exposed to much more risk than
it intended. Accordingly, ISE market
makers have requested that the
Exchange modify the trading system to
reject quotes if there are any missing
risk management values for the options
class.
While entering values into the
quotation risk parameters will be
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37871
mandatory to prevent an inadvertent
exposure to risk, the Exchange notes
that market makers who prefer to use
their own risk-management systems can
enter values that assure the Exchangeprovided parameters will not be
triggered.4 Accordingly, the proposal
does not require members to manage
their risk using the Exchange-provided
tools.
The Exchange also proposes to amend
Rule 722 to limit a potential source of
unintended market maker risk related to
how the market maker risk parameters
under Rule 804 are calculated when
complex orders leg-into the regular
market.5 As discussed above, by
checking the risk parameters following
each execution in an options series, the
risk parameters allow market makers to
provide liquidity across multiple series
of an options class without being at risk
of executing the full cumulative size of
all such quotes. This is not the case,
however, when a complex order legsinto the market. Because the execution
of each leg is contingent on the
execution of the other legs, the
execution of all the legs in the regular
market is processed as a single
transaction, not as a series of individual
transactions.
For example, if individual orders to
buy 10 contracts for the Jan 30 call, Jan
35 call, Jan 40 call, Jan 45, and Jan 50
calls are entered, each is processed as it
is received and the market maker
quotation parameters are calculated
following the execution of each 10contract order. However, if a complex
order to buy all five of these strikes ten
times is entered and is executed against
bids and offers for the individual series,
the market maker parameters for quotes
in the regular market are calculated
following the execution of all 50
contracts. In the example discussed
previously, when the market maker had
set a limit of 100 contracts for the
options class and had executed 95
contracts, the amount by which the next
transaction might exceed 100 is limited
to the largest size of its quote in a single
series of the options class. In that
example, since the largest size the
market maker was quoting in any one
series was 20 contracts, the market
maker could not have exceeded the 100
contract trigger by more than 15
4 For example, a market maker could set the value
for the total number of contracts executed in a class
at a level that exceeds the total number of contracts
the market maker actually quotes in an options
class.
5 Pursuant to ISE Rule 722(b)(3)(ii), complex
orders may be executed against bids and offers on
the Exchange for the individual legs of the complex
order, provided the complex order can be executed
while maintaining a permissible ratio by such bids
and offers.
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Federal Register / Vol. 78, No. 121 / Monday, June 24, 2013 / Notices
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contracts (95 + 20 = 115). With respect
to a complex order with five legs 20
times, the next transaction against the
market maker’s quotes potentially could
be as large as 100 contracts (depending
upon whether there are other market
participants same price), creating the
potential in this example that the
market maker could exceed the 100
contract limit by 95 contracts (95 + 100
= 195) instead of 15.
As the example demonstrates, the
legging-in of complex orders presents
higher risk to market makers as
compared to regular orders being
entered in multiple series of an options
class in the regular market as it allows
market makers to exceed their
parameters by a greater number of
contracts. Because this risk is directly
proportional to the number of legs
associated with a complex order, ISE
market makers have requested that the
Exchange prevent complex orders from
legging into the market if they have a
large number of legs. The Exchange
therefore proposes to limit the legging
functionally to complex orders with no
more than either two or three legs, as
determined by the Exchange on a class
basis.6 The Exchange notes in this
respect that over 85% of all complex
orders have only two legs and that very
few complex orders are entered with
more than three legs. The Exchange
believes that the potential risk to market
makers in the regular market of allowing
orders with more than three legs (in
some cases more than two legs) to leginto the market, far out-weighs the
potential benefit of offering such
functionality to a very limited number
of orders.
Complex orders with more than three
legs (in some cases more than two legs)
that could leg into the market except for
the proposed limitation will be available
for execution on the complex order
book. The Exchange notes in this
respect that the execution priority rules
contained in ISE Rule 722(b)(2) often
prevent the execution of complex orders
that might otherwise be executable.
Specifically, Rule 722(b)(2) provides
that the legs of a complex order cannot
be executed at the same price as a
Priority Customer Order in the regular
market unless another leg of the order
is executed at a price that is better than
the best price in the regular market.7 In
6 The Exchange will issue a circular to members
identifying the options classes for which legging is
limited to complex orders with two legs and those
for which legging is limited to complex order with
three legs. The Exchange will provide members
with reasonable notice prior to change the limit
applicable to an options class.
7 Pursuant to ISE Rule 100(a)(37A) and (37B), a
Priority Customer Order is an order for the account
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other words, if there is a Priority
Customer Order on the book in one or
more of the series of a complex order,
the net price of the complex order has
to improve upon the price that would be
available if the complex order leggedinto the market. Thus, currently there
can be complex orders resting on the
book that cannot leg-into the market
because the permissible ratio cannot be
satisfied by the bids and offers in the
regular market or because there are
Priority Customer Orders in the regular
market in one or more of the series of
the complex order that prevent its
execution. Accordingly, the Exchange
believes that preventing orders with
more than three legs (in some cases
more than two legs) from legging-into
the market does not create any unusual
circumstances on the complex order
book. The Exchange further notes that
priority of complex orders on the
complex order book is not impacted by
the proposed rule change.8
2. Statutory Basis
The Exchange believes that its
proposal is consistent with Section 6(b)
of the the [sic] Act9 in general, and
furthers the objectives of Section 6(b)(5)
of the Act10 in particular, in that it is
designed to promote just and equitable
principles of trade, to remove
impediments to and perfect the
mechanism for a free and open market
and a national market system, and, in
general, to protect investors and the
public interest.
The Exchange believes that requiring
market makers to enter values into the
risk parameters provided by the
Exchange will not be unreasonably
burdensome, as all ISE market makers
currently utilize the functionality.
Moreover, the Exchange is proposing
this rule change at the request of its
market makers to reduce their risk of
inadvertently entering quotes without
populating the risk parameters. As
discussed above, the Exchange will be
modifying the trading system to
automatically reject quotations unless
the parameters are populated with
values, which will protect market
makers from inadvertent exposure to
excessive risk. Reducing such risk will
enable market makers to enter
of a person or entity that (i) is not a broker or dealer
in securities, and (ii) does not place more than 390
orders in listed options per day on average during
a calendar month for its own beneficial account(s).
8 For example, if there are multiple complex
orders for the same strategy at the same price with
four or more legs, they will be executed pursuant
to Rule 722(b)(3) (i.e., in time priority or pro-rata
bases on size (with or without Priority Customer
priority)).
9 15 U.S.C. 78f(b).
10 15 U.S.C. 78f(b)(5).
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quotations with larger size, which in
turn will benefit investor through
increased liquidity for the execution of
their orders. Such increased liquidity
benefits investors because they receive
better prices and because it lowers
volatility in the options market.
The Exchange also believes it is
reasonable to limit the types of complex
orders that are eligible to leg-into the
market. In this respect, the Exchange
notes that the vast majority of complex
orders consist of only two legs, which
will be unaffected by this rule change.
Moreover, the Exchange believes that
the potential risk of continuing to offer
legging functionality for complex orders
with more than three legs (in some cases
with more than two legs) limits the
amount of liquidity that market makers
are willing to provide in the regular
market. In particular, market makers
may reduce the size of their quotations
in the regular market because they are
at risk of executing the cumulative size
of their quotations across multiple
options series without an opportunity to
adjust their quotes. Accordingly,
reducing market maker risk in the
regular market by limiting the legging
functionality to orders with no more
than three legs (in some cases with no
more than two legs) will benefit
investors by encouraging additional
liquidity in the regular market. This
benefit to investors far exceeds the small
amount of potential liquidity provided
by the few complex orders that have
more than three legs (in some case more
than two legs).
B. Self-Regulatory Organization’s
Statement on Burden on Competition
The proposed rule change does not
impose any burden on competition. The
proposed rule change to make it
mandatory for market makers to
populate the quotation risk management
parameters is being made at the request
of ISE market makers to prevent the
inadvertent entry of quotes without riskmanagement parameters. Market makers
who prefer to use their own riskmanagement systems can enter out-ofrange values so that the Exchangeprovided parameters will not be
triggered. Accordingly, the proposal
does not require members to manage
their risk using an Exchange-provided
tool. The proposed change to limit
legging functionality to complex orders
of no more than three legs (in some
cases no more than two legs) will reduce
risk to market makers that are quoting
in the regular market. As such, the
proposal may encourage market makers
to increase the size of their quotations,
thereby adding liquidity on the
Exchange.
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Federal Register / Vol. 78, No. 121 / Monday, June 24, 2013 / Notices
C. Self-Regulatory Organization’s
Statement on Comments on the
Proposed Rule Change Received From
Members, Participants or Others
The Exchange has not solicited, and
does not intend to solicit, comments on
this proposed rule change. The
Exchange has not received any
unsolicited written comments from
members or other interested parties.
III. Date of Effectiveness of the
Proposed Rule Change and Timing for
Commission Action
Within 45 days of the publication date
of this notice or within such longer
period (1) as the Commission may
designate up to 45 days of such date if
it finds such longer period to be
appropriate and publishes its reasons
for so finding or (2) as to which the selfregulatory organization consents, the
Commission will:
(a) By order approve or disapprove
such Proposed Rule Change; or
(b) institute proceedings to determine
whether the Proposed Rule Change
should be disapproved.
IV. Solicitation of Comments
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 Web site viewing and
printing in the Commission’s Public
Reference Room, 100 F Street NE.,
Washington, DC 20549, on official
business days between the hours of
10:00 a.m. and 3:00 p.m. Copies of such
filing also will be available for
inspection and copying at the principal
office of the ISE. 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–ISE–
2013–38 and should be submitted on or
before July 15, 2013.
5 (Minimum Increments) to: extend
through December 31, 2013, the Penny
Pilot Program in options classes in
certain issues (‘‘Penny Pilot’’ or ‘‘Pilot’’),
and to change the date when delisted
classes may be replaced in the Penny
Pilot.3
The Exchange requests that the
Commission waive the 30-day operative
delay period contained in Exchange Act
Rule 19b–4(f)(6)(iii) 4 to the extent
needed for timely industry-wide
implementation of the proposal.
The text of the amended Exchange
rule is set forth immediately below.
Proposed new language is italicized
and proposed deleted language is
[bracketed].
For the Commission, by the Division of
Trading and Markets, pursuant to delegated
authority.11
Kevin M. O’Neill,
Deputy Secretary.
*
[FR Doc. 2013–14962 Filed 6–21–13; 8:45 am]
Interested persons are invited to
submit written data, views and
arguments concerning the foregoing,
including whether the proposed rule
change is consistent with the Act.
Comments may be submitted by any of
the following methods:
BILLING CODE 8011–01–P
Electronic Comments
Self-Regulatory Organizations;
NASDAQ OMX BX, Inc.; Notice of Filing
and Immediate Effectiveness of
Proposed Rule Change To Extend the
Penny Pilot Program
• Use the Commission’s Internet
comment form (https://www.sec.gov/
rules/sro.shtml); or
• Send an email to rulecomments@sec.gov. Please include File
Number SR–ISE–2013–38 on the subject
line.
mstockstill on DSK4VPTVN1PROD with NOTICES
Paper Comments
• Send paper comments in triplicate
to Elizabeth M. Murphy, Secretary,
Securities and Exchange Commission,
100 F Street NE., Washington, DC
20549.
All submissions should refer to File
Number SR–ISE–2013–38. This file
number should be included on the
subject line if email 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 (https://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
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SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–69784; File No. SR–BX–
2013–039]
June 18, 2013.
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 June 11,
2013, NASDAQ OMX BX, Inc. (‘‘BX’’ or
‘‘Exchange’’) filed with the Securities
and Exchange Commission (the
‘‘Commission’’) the proposed rule
change as described in Items I and II
below, which Items have been prepared
by the Exchange. The Commission is
publishing this notice to solicit
comments on the proposed rule change
from interested persons.
I. Self-Regulatory Organization’s
Statement of the Terms of Substance of
the Proposed Rule Change
BX is filing with the Commission a
proposal to amend Chapter VI, Section
11 17
CFR 200.30–3(a)(12).
U.S.C. 78s(b)(1).
2 17 CFR 240.19b–94.
1 15
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NASDAQ OMX BX Rules
Options Rules
*
*
*
*
*
Chapter VI Trading Systems
*
*
*
*
Sec. 5 Minimum Increments
(a) The Board may establish minimum
quoting increments for options contracts
traded on BX Options. Such minimum
increments established by the Board
will be designated as a stated policy,
practice, or interpretation with respect
to the administration of this Section
within the meaning of Section 19 of the
Exchange Act and will be filed with the
SEC as a rule change for effectiveness
upon filing. Until such time as the
Board makes a change in the
increments, the following principles
shall apply:
(1) If the options series is trading at
less than $3.00, five (5) cents;
(2) If the options series is trading at
$3.00 or higher, ten (10) cents; and
(3) For a pilot period scheduled to
expire on [June 30] December 31, 2013,
if the options series is trading pursuant
to the Penny Pilot program one (1) cent
if the options series is trading at less
than $3.00, five (5) cents if the options
series is trading at $3.00 or higher,
unless for QQQQs, SPY and IWM where
the minimum quoting increment will be
one cent for all series regardless of
price. A list of such options shall be
communicated to membership via an
Options Trader Alert (‘‘OTA’’) posted on
the Exchange’s Web site. The Exchange
3 The Penny Pilot was established in June 2012
and extended in December 2012. See Securities
Exchange Act Release Nos. 67256 (June 26, 2012),
77 FR 39277 (July 2, 2012) (SR–BX–2012–030)
(order approving BX option rules and establishing
Penny Pilot); and 68518 (December 21, 2012), 77 FR
77152 (December 31, 2012) (SR–BX–2012–076)
(notice of filing and immediate effectiveness
extending the Penny Pilot through June 30, 2013).
4 17 CFR 240.19b–4(f)(6)(iii).
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[Federal Register Volume 78, Number 121 (Monday, June 24, 2013)]
[Notices]
[Pages 37870-37873]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2013-14962]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-69782; File No. SR-ISE-2013-38]
Self-Regulatory Organizations; International Securities Exchange,
LLC; Notice of Filing of Proposed Rule Change Related to Market Maker
Risk Parameters and Complex Orders
June 18, 2013.
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 June 5, 2013, the International Securities Exchange, LLC (the
``Exchange'' or the ``ISE'') filed with the Securities and Exchange
Commission (``Commission'') the proposed rule change as described in
Items I, II, and III below, which items have been prepared by the
Exchange. The Commission is publishing this notice to solicit comments
on the proposed rule change from interested persons.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
The Exchange proposes to mitigate market maker risk by requiring
market makers to enter values in the Exchange-provided risk parameters
and by limiting the types of complex orders that can leg-into the
regular market. The text of the proposed rule change is available on
the Exchange's Web site www.ise.com, at the principal office of the
Exchange, and at the Commission's Public Reference Room.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, the Exchange included statements
concerning the purpose of, and basis for, the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. The self-regulatory organization has
[[Page 37871]]
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, Proposed Rule Change
1. Purpose
On [sic] Pursuant to ISE Rule 722 and 804, the Exchange currently
provides functionality that will automatically remove a market maker's
quotes in all series of an options class when certain parameter
settings are triggered. Specifically, there are four parameters that
can be set by market makers on a class-by-class basis. These parameters
are available for market maker quotes in single options series and for
market maker quotes in complex instruments on the complex order book.
Market makers establish a time frame during which the system
calculates: (1) The number of contracts executed by the market maker in
an options class; (2) the percentage of the total size of the market
maker's quotes in the class that has been executed; (3) the absolute
value of the net between contracts bought and contracts sold in an
options class, and the absolute value of the net between (a) calls
purchased plus puts sold, and (b) calls sold plus puts purchased. The
market maker establishes limits for each of these four parameters, and
when the limits are exceeded within the prescribed time frame, the
market makers quotes are removed.\3\
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\3\ The Exchange is proposing certain non-substantive changes to
the text of Rules 722 and 804 for clarity. The changes shorten the
first sentence in Rule 804 by deleting ``if the market maker trades,
in the aggregate across all series of an options class during a
specified time period'' and to delete ``(established by the market
maker), within a time frame specified by the market maker'' as the
text might be confusing in its current form and is redundant with
other text within the Rule. To assure clarity, the Exchange also
proposes to specify that the first parameter is a number of
``total'' contracts ``in the class,'' and to specify that the fourth
parameter is a net value based on puts and calls purchased and sold
``in the class.'' Finally, the Exchange proposes to use a uniform
construction of ``the specified . . .'' for each of the four
parameters. The same clarifying changes are also proposed with
respect to Rule 722, as the language in both rules is identical
except for the fact that Rule 722 applies to market maker quotes for
complex orders. The Exchange is not proposing to alter the operation
of the functionality, other than to make use of the parameters
mandatory.
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The purpose of this functionality is to allow market makers to
provide liquidity across potentially hundreds of options series without
being at risk of executing the full cumulative size of all such quotes
before being given adequate opportunity to adjust their quotes. For
example, if a market maker can enter quotes with a size of 20 contracts
in 150 series of an options class, its total potential exposure is 3000
contracts in the options class. To mitigate the risk of executing all
3000 contracts without evaluating its positions, the market maker risk
functionality will automatically remove its quotes in all series of the
options class after it has executed a specified number of contracts
(e.g., 100) in series of that options class during a specified time
period (e.g., 5 seconds).
To assure that all quotations are firm for their full size, the
parameter calculations occur after an execution against a market
maker's quote takes place. For example, if a market maker has set a
parameter of 100 contracts during a 5 second interval for an options
class, and has executed a total of 95 contracts in the options class
within the previous 3 seconds, a quote in a series of that class with a
size of 20 contracts continues to be firm for all 20 contracts. In this
example, an incoming order could execute all 20 contracts of the quote,
and following the execution, the total size parameter would add 20
contracts to the running total of 95. Since the total size executed
within the 5 second time frame exceeds the 100 contracts established by
the market maker for the options class, all of the market maker's
quotes in the options class would be removed. The market maker would
then enter new quotes in the class.
Use of these risk management tools has always been voluntary under
the rules. Similarly, from a technical perspective, market makers
currently do not need to enter any values into the applicable fields,
and thus effectively can choose not to use these tools. The Exchange
proposes to amend the rule to make it mandatory for market makers to
enter values into all four of the quotation risk management parameters
for all options classes in which it enters quotes. The purpose of the
rule change is to prevent market makers from inadvertently entering
quotes without risk-management parameters. In this respect, the
Exchange notes that all ISE market makers currently use the parameters
when entering quotes. However, it is possible that a market maker could
inadvertently enter quotes without populating one or more of the risk
parameters, resulting in the member being exposed to much more risk
than it intended. Accordingly, ISE market makers have requested that
the Exchange modify the trading system to reject quotes if there are
any missing risk management values for the options class.
While entering values into the quotation risk parameters will be
mandatory to prevent an inadvertent exposure to risk, the Exchange
notes that market makers who prefer to use their own risk-management
systems can enter values that assure the Exchange-provided parameters
will not be triggered.\4\ Accordingly, the proposal does not require
members to manage their risk using the Exchange-provided tools.
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\4\ For example, a market maker could set the value for the
total number of contracts executed in a class at a level that
exceeds the total number of contracts the market maker actually
quotes in an options class.
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The Exchange also proposes to amend Rule 722 to limit a potential
source of unintended market maker risk related to how the market maker
risk parameters under Rule 804 are calculated when complex orders leg-
into the regular market.\5\ As discussed above, by checking the risk
parameters following each execution in an options series, the risk
parameters allow market makers to provide liquidity across multiple
series of an options class without being at risk of executing the full
cumulative size of all such quotes. This is not the case, however, when
a complex order legs-into the market. Because the execution of each leg
is contingent on the execution of the other legs, the execution of all
the legs in the regular market is processed as a single transaction,
not as a series of individual transactions.
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\5\ Pursuant to ISE Rule 722(b)(3)(ii), complex orders may be
executed against bids and offers on the Exchange for the individual
legs of the complex order, provided the complex order can be
executed while maintaining a permissible ratio by such bids and
offers.
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For example, if individual orders to buy 10 contracts for the Jan
30 call, Jan 35 call, Jan 40 call, Jan 45, and Jan 50 calls are
entered, each is processed as it is received and the market maker
quotation parameters are calculated following the execution of each 10-
contract order. However, if a complex order to buy all five of these
strikes ten times is entered and is executed against bids and offers
for the individual series, the market maker parameters for quotes in
the regular market are calculated following the execution of all 50
contracts. In the example discussed previously, when the market maker
had set a limit of 100 contracts for the options class and had executed
95 contracts, the amount by which the next transaction might exceed 100
is limited to the largest size of its quote in a single series of the
options class. In that example, since the largest size the market maker
was quoting in any one series was 20 contracts, the market maker could
not have exceeded the 100 contract trigger by more than 15
[[Page 37872]]
contracts (95 + 20 = 115). With respect to a complex order with five
legs 20 times, the next transaction against the market maker's quotes
potentially could be as large as 100 contracts (depending upon whether
there are other market participants same price), creating the potential
in this example that the market maker could exceed the 100 contract
limit by 95 contracts (95 + 100 = 195) instead of 15.
As the example demonstrates, the legging-in of complex orders
presents higher risk to market makers as compared to regular orders
being entered in multiple series of an options class in the regular
market as it allows market makers to exceed their parameters by a
greater number of contracts. Because this risk is directly proportional
to the number of legs associated with a complex order, ISE market
makers have requested that the Exchange prevent complex orders from
legging into the market if they have a large number of legs. The
Exchange therefore proposes to limit the legging functionally to
complex orders with no more than either two or three legs, as
determined by the Exchange on a class basis.\6\ The Exchange notes in
this respect that over 85% of all complex orders have only two legs and
that very few complex orders are entered with more than three legs. The
Exchange believes that the potential risk to market makers in the
regular market of allowing orders with more than three legs (in some
cases more than two legs) to leg-into the market, far out-weighs the
potential benefit of offering such functionality to a very limited
number of orders.
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\6\ The Exchange will issue a circular to members identifying
the options classes for which legging is limited to complex orders
with two legs and those for which legging is limited to complex
order with three legs. The Exchange will provide members with
reasonable notice prior to change the limit applicable to an options
class.
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Complex orders with more than three legs (in some cases more than
two legs) that could leg into the market except for the proposed
limitation will be available for execution on the complex order book.
The Exchange notes in this respect that the execution priority rules
contained in ISE Rule 722(b)(2) often prevent the execution of complex
orders that might otherwise be executable. Specifically, Rule 722(b)(2)
provides that the legs of a complex order cannot be executed at the
same price as a Priority Customer Order in the regular market unless
another leg of the order is executed at a price that is better than the
best price in the regular market.\7\ In other words, if there is a
Priority Customer Order on the book in one or more of the series of a
complex order, the net price of the complex order has to improve upon
the price that would be available if the complex order legged-into the
market. Thus, currently there can be complex orders resting on the book
that cannot leg-into the market because the permissible ratio cannot be
satisfied by the bids and offers in the regular market or because there
are Priority Customer Orders in the regular market in one or more of
the series of the complex order that prevent its execution.
Accordingly, the Exchange believes that preventing orders with more
than three legs (in some cases more than two legs) from legging-into
the market does not create any unusual circumstances on the complex
order book. The Exchange further notes that priority of complex orders
on the complex order book is not impacted by the proposed rule
change.\8\
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\7\ Pursuant to ISE Rule 100(a)(37A) and (37B), a Priority
Customer Order is an order for the account of a person or entity
that (i) is not a broker or dealer in securities, and (ii) does not
place more than 390 orders in listed options per day on average
during a calendar month for its own beneficial account(s).
\8\ For example, if there are multiple complex orders for the
same strategy at the same price with four or more legs, they will be
executed pursuant to Rule 722(b)(3) (i.e., in time priority or pro-
rata bases on size (with or without Priority Customer priority)).
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2. Statutory Basis
The Exchange believes that its proposal is consistent with Section
6(b) of the the [sic] Act\9\ in general, and furthers the objectives of
Section 6(b)(5) of the Act\10\ in particular, in that it is designed to
promote just and equitable principles of trade, to remove impediments
to and perfect the mechanism for a free and open market and a national
market system, and, in general, to protect investors and the public
interest.
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\9\ 15 U.S.C. 78f(b).
\10\ 15 U.S.C. 78f(b)(5).
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The Exchange believes that requiring market makers to enter values
into the risk parameters provided by the Exchange will not be
unreasonably burdensome, as all ISE market makers currently utilize the
functionality. Moreover, the Exchange is proposing this rule change at
the request of its market makers to reduce their risk of inadvertently
entering quotes without populating the risk parameters. As discussed
above, the Exchange will be modifying the trading system to
automatically reject quotations unless the parameters are populated
with values, which will protect market makers from inadvertent exposure
to excessive risk. Reducing such risk will enable market makers to
enter quotations with larger size, which in turn will benefit investor
through increased liquidity for the execution of their orders. Such
increased liquidity benefits investors because they receive better
prices and because it lowers volatility in the options market.
The Exchange also believes it is reasonable to limit the types of
complex orders that are eligible to leg-into the market. In this
respect, the Exchange notes that the vast majority of complex orders
consist of only two legs, which will be unaffected by this rule change.
Moreover, the Exchange believes that the potential risk of continuing
to offer legging functionality for complex orders with more than three
legs (in some cases with more than two legs) limits the amount of
liquidity that market makers are willing to provide in the regular
market. In particular, market makers may reduce the size of their
quotations in the regular market because they are at risk of executing
the cumulative size of their quotations across multiple options series
without an opportunity to adjust their quotes. Accordingly, reducing
market maker risk in the regular market by limiting the legging
functionality to orders with no more than three legs (in some cases
with no more than two legs) will benefit investors by encouraging
additional liquidity in the regular market. This benefit to investors
far exceeds the small amount of potential liquidity provided by the few
complex orders that have more than three legs (in some case more than
two legs).
B. Self-Regulatory Organization's Statement on Burden on Competition
The proposed rule change does not impose any burden on competition.
The proposed rule change to make it mandatory for market makers to
populate the quotation risk management parameters is being made at the
request of ISE market makers to prevent the inadvertent entry of quotes
without risk-management parameters. Market makers who prefer to use
their own risk-management systems can enter out-of-range values so that
the Exchange-provided parameters will not be triggered. Accordingly,
the proposal does not require members to manage their risk using an
Exchange-provided tool. The proposed change to limit legging
functionality to complex orders of no more than three legs (in some
cases no more than two legs) will reduce risk to market makers that are
quoting in the regular market. As such, the proposal may encourage
market makers to increase the size of their quotations, thereby adding
liquidity on the Exchange.
[[Page 37873]]
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants or Others
The Exchange has not solicited, and does not intend to solicit,
comments on this proposed rule change. The Exchange has not received
any unsolicited written comments from members or other interested
parties.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within 45 days of the publication date of this notice or within
such longer period (1) as the Commission may designate up to 45 days of
such date if it finds such longer period to be appropriate and
publishes its reasons for so finding or (2) as to which the self-
regulatory organization consents, the Commission will:
(a) By order approve or disapprove such Proposed Rule Change; or
(b) institute proceedings to determine whether the Proposed Rule
Change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views and
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Act. Comments may be submitted by any of
the following methods:
Electronic Comments
Use the Commission's Internet comment form (https://www.sec.gov/rules/sro.shtml); or
Send an email to rule-comments@sec.gov. Please include
File Number SR-ISE-2013-38 on the subject line.
Paper Comments
Send paper comments in triplicate to Elizabeth M. Murphy,
Secretary, Securities and Exchange Commission, 100 F Street NE.,
Washington, DC 20549.
All submissions should refer to File Number SR-ISE-2013-38. This file
number should be included on the subject line if email 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 (https://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 Web site viewing and
printing in the Commission's Public Reference Room, 100 F Street NE.,
Washington, DC 20549, on official business days between the hours of
10:00 a.m. and 3:00 p.m. Copies of such filing also will be available
for inspection and copying at the principal office of the ISE. 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-ISE-2013-38 and should be
submitted on or before July 15, 2013.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\11\
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\11\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2013-14962 Filed 6-21-13; 8:45 am]
BILLING CODE 8011-01-P
