

[Federal Register: October 6, 2005 (Volume 70, Number 193)]
[Notices]               
[Page 58500-58502]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr06oc05-174]                         


[[Page 58500]]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-52534; File No. SR-CHX-2004-25]

 
Self-Regulatory Organizations; Chicago Stock Exchange, Inc.; 
Order Approving Proposed Rule Change and Amendment Nos. 1, 2, and 3 
Thereto and Notice of Filing and Order Granting Accelerated Approval to 
Amendment No. 4 Thereto Relating to a Prohibition on Using a Layoff 
Service Unless the Service Provides Required Information to the 
Exchange

September 29, 2005.

I. Introduction

    On August 31, 2004, the Chicago Stock Exchange, Inc. (``CHX'' or 
``Exchange'') filed with the Securities and Exchange Commission 
(``Commission''), pursuant to Section 19(b)(1) of the Securities 
Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 thereunder,\2\ a 
proposed rule change to amend CHX Article V, Rule 4 to prohibit CHX 
participants from using any communications means to send orders to 
another market for execution (a ``layoff service''), unless the layoff 
service has established a process for providing the Exchange with 
specific information about the orders and the executions that 
participants receive. On June 7, 2005 and June 27, 2005, the Exchange 
filed Amendment Nos. 1 \3\ and 2 \4\ to the proposed rule change, 
respectively. The proposed rule change, as amended by Amendment Nos. 1 
and 2, was published for comment in the Federal Register on July 12, 
2005.\5\ The Commission received no comments on the proposal, as 
amended by Amendment Nos. 1 and 2. On August 12, 2005, the CHX filed 
Amendment No. 3 to the proposed rule change.\6\ Amendment No. 3 was 
published for notice and comment in the Federal Register on August 18, 
2005.\7\ The Commission received no comments on Amendment No. 3. On 
September 23, 2005, the CHX filed Amendment No. 4 to the proposed rule 
change.\8\ This order approves the proposed rule change, as amended by 
Amendment Nos. 1, 2, and 3; grants accelerated approval to Amendment 
No. 4 of the proposed rule change; and solicits comments from 
interested persons on Amendment No. 4.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Amendment No. 1 dated June 7, 2005. In Amendment No. 1, 
the Exchange, among other things, added a requirement for 
participants to provide additional information about their layoff 
activity; replaced references to the Exchange's ``members'' with 
references to its ``participants'' to reflect changes in terminology 
associated with the Exchange's February 2005 demutualization; 
required that participants notify the Exchange before using an 
alternative or additional layoff vendor; and confirmed that these 
rules would not replace any record retention obligations to which 
the Exchange's participants would be subject under the Act and the 
rules thereunder.
    \4\ See Amendment No. 2 dated June 27, 2005, replacing the 
original filing and Amendment No. 1 in their entirety. In Amendment 
No. 2, the Exchange eliminated the requirement to provide 
information about the contra party to the execution and made other 
technical changes to the proposal.
    \5\ See Securities Exchange Act Release No. 51967 (July 1, 
2005), 70 FR 40086.
    \6\ See Amendment No. 3 dated August 12, 2005. In Amendment No. 
3, which supplemented the proposal as noticed, the CHX modified the 
proposed rule text to eliminate the reference to an August 1, 2005 
effective date and instead provided for an effective date of 
September 30, 2005.
    \7\ See Securities Exchange Act Release No. 52248 (August 12, 
2005), 70 FR 48610.
    \8\ See Amendment No. 4 dated September 23, 2005. In Amendment 
No. 4, the Exchange amended the proposed rule to include a new 
effective date of October 31, 2005 for NASDAQ/NM securities in order 
to allow its participants and their layoff vendors additional time 
to implement system changes to comply with the proposed rule change. 
The effective date for Dual Trading System issues would remain at 
September 30, 2005. The Commission notes that under the Exchange's 
rules, Dual Trading System securities are securities listed on the 
New York Stock Exchange, Inc., the American Stock Exchange, Inc., or 
on markets other than the Nasdaq Stock Market, Inc. that are also 
listed or traded on the CHX.
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II. Description of the Proposal

    The Exchange's proposal, which would amend the Exchange's rule 
relating to communications from the trading floor, is designed to 
provide the Exchange with the layoff service information that it needs 
to enhance its surveillance programs. Specifically, the proposal would 
prohibit Exchange participants, beginning on September 30, 2005 for 
Dual Trading System issues \9\ and October 31, 2005 for NASDAQ/NM 
securities,\10\ from using a layoff service to send orders to another 
market for execution, unless that service (or the participant using the 
service) has established a process for providing the Exchange with the 
following specific information: (1) The symbol of the security to be 
traded; (2) the clearing organization; (3) an order identifier that 
uniquely identifies the order; (4) the participant recording the order 
details; (5) the number of shares; (6) the side of the market on which 
the order is placed; (7) a designation of the order type (e.g., market, 
limit, stop, stop limit); (8) whether the order is for the account of a 
customer or for the account of the participant sending the order; (9) 
whether the order is short or short exempt; (10) any limit price and/or 
stop price; (11) the date and time of order transmission; (12) the 
market to which the order was transmitted; (13) the time in force; (14) 
a designation of the order as held or not held; (15) any special 
conditions or instructions associated with the order (including any 
customer do-not-display instructions or all-or-none conditions); (16) 
any modifications to the details set out in (1) through (15) for all or 
part of an order or any cancellation of all or part of the order; (17) 
the date and time of the transmission of any modifications to the order 
or any cancellation of the order; (18) the date and time of any order 
expiration; (19) the identification of the party canceling or modifying 
the order; (20) the transaction price; (21) the number of shares 
executed; (22) the date and time of execution; (23) settlement 
instructions; (24) a system-generated time(s) of recording the required 
information; and (25) any other information that the Exchange may 
require from time to time.\11\ For purposes of this proposal, an 
``order'' would be defined as any written, oral or electronic 
instruction to effect a transaction.\12\
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    \9\ See Amendment No. 3, supra note 6.
    \10\ See Amendment No. 4, supra note 8.
    \11\ See proposed CHX Article V, Rule 4, Interpretation and 
Policy .01.
    \12\ See proposed CHX Article V, Rule 4, Interpretation and 
Policy .03.
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    Other provisions of the proposal set out additional requirements 
that are designed to ensure that the Exchange receives uniformly-
presented, useful data. For example, the Exchange proposes that all 
information be provided on a real-time basis and in an electronic 
format acceptable to the Exchange.\13\ In addition, each layoff service 
would be required to synchronize its business clocks and maintain that 
synchronization, with all time references expressed in terms of hours, 
minutes, and seconds.\14\
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    \13\ See proposed CHX Article V, Rule 4, Interpretation and 
Policy .01.
    \14\ See proposed CHX Article V, Rule 4, Interpretation and 
Policy .02 and .03.
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    In addition, the proposal provides that a violation of the proposed 
new requirements would be considered conduct inconsistent with just and 
equitable principles of trade, in violation of CHX Article VIII, Rule 
7.\15\ Therefore, these violations would not be eligible for handling 
under the Exchange's Minor Rule Violation Plan. The Exchange would also 
prohibit a participant from using an alternative or additional layoff 
vendor, unless it has

[[Page 58501]]

notified the Exchange of the change.\16\ The Exchange confirms in its 
rule that the provisions in proposed CHX Article V, Rule 4 would not 
replace any record retention obligations to which the Exchange's 
participants could be subject under the Act and rules thereunder.\17\ 
Finally, as an administrative matter, the Exchange also proposes to 
delete CHX Article V, Rule 5, which applied to wires from the 
Exchange's floor to its branch offices, since the Exchange represents 
that it no longer maintains branch offices and has no purpose for 
keeping this rule in place.
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    \15\ See proposed CHX Article V, Rule 4, Interpretation and 
Policy .04.
    \16\ See proposed CHX Article V, Rule 4, Interpretation and 
Policy .05.
    \17\ See proposed CHX Article V, Rule 4, Interpretation and 
Policy .06.
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III. Discussion and Commission Findings

    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.\18\ In particular, the Commission believes that the proposal 
is consistent with Section 6(b)(5) of the Act,\19\ which requires that 
the rules of an exchange be designed to promote just and equitable 
principles of trade, to remove impediments to and perfect the mechanism 
of a free and open market and a national market system, and, in 
general, to protect investors and the public interest.
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    \18\ In approving this proposed rule change, as amended, the 
Commission notes that it has considered the proposed rule's impact 
on efficiency, competition, and capital formation. See 15 U.S.C. 
78c(f).
    \19\ 15 U.S.C. 78f(b)(5).
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    The Exchange typically obtains information about off-floor activity 
of its participants from the Regional Exchange Data Summary (``REDS'') 
data provided by the Securities Industry Automation Corporation. 
However, according to the Exchange, the REDS data did not attribute 
layoff activity to the particular CHX member who transmitted a layoff 
order. Instead, Exchange market regulation analysts had to manually 
review the Exchange's exception reports and other trading records in 
order to conduct surveillance specific to individual CHX 
participants.\20\ CHX has stated that the recording of layoff order 
information directly from the systems providers will eliminate this 
manual step, and that the proposal will provide it with necessary 
layoff service information to enhance its surveillance system.
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    \20\ See Letter from David C. Whitcomb, Jr., Senior Vice 
President and Chief Regulatory Officer, CHX, to Sharon Lawson, 
Senior Special Counsel, Division of Market Regulation, Commission, 
dated March 16, 2005 (discussing, in general, how the Exchange plans 
to utilize the data to be gathered pursuant to the proposed rule 
change).
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    The Exchange's proposed rule change is intended to address 
recommendations made in the Exchange's 2003 settlement agreement with 
the Commission.\21\ In the settlement agreement, the Commission cited 
the Exchange's failure ``to detect and prevent a large number of 
trading rule violations, in part, because [the Exchange] did not have 
adequate surveillance systems to detect possible violations.'' \22\ In 
addition, the Commission found that the CHX had ``relied on ineffective 
and often flawed manual processes to detect violations.'' \23\ The 
Commission believes that the Exchange's proposed obligations on its 
participants to use only layoff services that can provide specific, 
designated order information to the CHX is consistent with the 
recommendations made in the Exchange's settlement agreement with the 
Commission.
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    \21\ See Securities Exchange Act Release No. 48566 (September 
30, 2003) (Administrative Proceeding File No. 3-11282), available 
at: http://www.sec.gov/litigation/admin/34-48566.htm.

    \22\ Id.
    \23\ Id.
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    Specifically, the Commission believes that the proposed rule 
change, as amended, will provide the Exchange with a more automated 
process for receiving a comprehensive set of audit trail data on CHX 
participants' trading activity conducted through layoff systems.\24\ 
The proposal will permit the Exchange to more efficiently collect 
information on the off-floor activity of CHX participants, thereby 
allowing the Exchange to integrate the audit trail data into its 
surveillance systems. Increased automation with respect to the receipt 
of layoff order details will, in turn, allow the Exchange to perform 
more automated surveillance and generate better surveillance reports.
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    \24\ The Exchange represents that layoff systems are private 
order routing networks which provide connectivity and order 
management functionality for orders sent to the primary exchanges in 
the listed markets. See supra note 20.
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    In addition, the Commission believes that the proposal will improve 
the Exchange's ability to review its members' order-handling activities 
and to determine their compliance with applicable trading rules. For 
example, the Exchange's receipt of layoff vendor data will enhance the 
Exchange's review of specialists' compliance with the limit order 
display rule,\25\ short sale position marking and tick text 
requirements,\26\ best execution,\27\ and trading ahead 
prohibitions.\28\
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    \25\ See 17 CFR 240.11Ac1-4 and CHX Article XX, Rule 7.05.
    \26\ See 17 CFR 240.10a-1.
    \27\ See CHX Article XX, Rule 37.
    \28\ See CHX Article XXX, Rules 2 and 3.
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    Based on the above, the Commission finds the Exchange's efforts, 
through the proposed rule change, to enhance its surveillance of these 
areas with respect to layoff orders to be consistent with 
recommendations made in the Exchange's settlement agreement with the 
Commission.\29\ Further, the Commission finds that the Exchange's 
proposal to enhance surveillance for compliance with CHX's rules, the 
Act and the rules thereunder is consistent with the requirements of 
Section 6(b)(5) of the Act,\30\ which requires that the rules of an 
exchange be designed to promote just and equitable principles of trade, 
and, in general, to protect investors and the public interest.\31\ The 
Commission emphasizes that the detailed information required to be 
obtained relating to the layoff service will not replace any record 
retention obligations already required of CHX participants under the 
Act and the rules thereunder.
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    \29\ See supra note 21.
    \30\ 15 U.S.C. 78f(b)(5).
    \31\ As an additional matter, the Commission believes that the 
proposal to delete CHX Article V, Rule 5 that applied to wires from 
the Exchange's floor to its branch offices is reasonable since the 
Exchange represents that it no longer maintains branch offices.
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    In summary, the Commission believes that approving the proposal 
will help to strengthen the Exchange's surveillance program by 
providing the Exchange with data necessary to appropriately conduct 
more thorough and efficient surveillance of its participants' trading 
activities.\32\
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    \32\ In a related proposed rule change, the Exchange proposes to 
amend its rules to require its on-floor participants to maintain 
specific details about orders originating on or off the floor of the 
Exchange for execution on the Exchange, as well as orders issued 
from the floor of the Exchange to any other market or trading venue. 
See SR-CHX-2004-38, available at: http://www.chx.com/rules/proposed_rules.htm
.

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Accelerated Approval of Amendment No. 4

    The Commission finds good cause for approving Amendment No. 4 to 
the proposed rule change prior to the thirtieth day after the amendment 
is published for comment in the Federal Register pursuant to Section 
19(b)(2) of the Act.\33\ Amendment No. 4 revises the proposed 
implementation date of the proposed rule change to October 31, 2005 for 
NASDAQ/NM securities, and maintains the implementation date for Dual 
Trading System issues at September 30, 2005. The Commission

[[Page 58502]]

believes that the proposed extension of the compliance date for NASDAQ/
NM securities to October 31, 2005 is reasonable in order to allow CHX 
participants and their layoff vendors additional time to implement 
system changes to comply with the proposal, while, at the same time, 
allows the Exchange to implement the proposal immediately, as of 
September 30, 2005, for Dual Trading System issues without further 
delay. Accordingly, the Commission believes that accelerated approval 
of Amendment No. 4 is appropriate.
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    \33\ 15 U.S.C. 78s(b)(2).
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IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether Amendment No. 4 
to the proposed rule change is consistent with the Act. Comments may be 
submitted by any of the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml.
); or     Send an e-mail to rule-comments@sec.gov. Please include 

File Number SR-CHX-2004-25 on the subject line.

Paper Comments

     Send paper comments in triplicate to Jonathan G. Katz, 
Secretary, Securities and Exchange Commission, Station Place, 100 F 
Street, NE., Washington, DC 20549-9303.
    All submissions should refer to File Number SR-CHX-2004-25. 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-CHX-2004-25 and should be submitted on or before October 
27, 2005.

V. Conclusion

    For the foregoing reasons, 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.
    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\34\ that the proposed rule change (SR-CHX-2004-25) and Amendment 
Nos. 1, 2, and 3 thereto are approved, and that Amendment No. 4 thereto 
is hereby approved on an accelerated basis.
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    \34\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\35\
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    \35\ 17 CFR 200.30-3(a)(12).
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Jonathan G. Katz,
Secretary.
 [FR Doc. E5-5468 Filed 10-5-05; 8:45 am]

BILLING CODE 8010-01-P
