
[Federal Register: September 16, 2010 (Volume 75, Number 179)]
[Notices]               
[Page 56613-56618]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr16se10-105]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-62886; File Nos. SR-BATS-2010-016; SR-BX-2010-040; SR-
CBOE-2010-056; SR-CHX-2010-13; SR-EDGA-2010-03; SR-EDGX-2010-03; SR-
ISE-2010-62; SR-NASDAQ-2010-076; SR-NSX-2010-07; SR-NYSE-2010-47; SR-
NYSEAmex-2010-60; SR-NYSEArca-2010-58]

 
Self-Regulatory Organizations; BATS Exchange, Inc.; NASDAQ OMX 
BX, Inc.; Chicago Board Options Exchange, Incorporated; Chicago Stock 
Exchange, Inc.; EDGA Exchange, Inc.; EDGX Exchange, Inc.; International 
Securities Exchange LLC; The NASDAQ Stock Market LLC; National Stock 
Exchange, Inc.; New York Stock Exchange LLC; NYSE Amex LLC; NYSE Arca, 
Inc.; Order Granting Approval of Proposed Rule Changes Relating to 
Clearly Erroneous Transactions

September 10, 2010.

I. Introduction

    On June 17, 2010, each of BATS Exchange, Inc. (``BATS''), NASDAQ 
OMX BX, Inc. (``BX''), Chicago Board Options Exchange, Incorporated 
(``CBOE''), Chicago Stock Exchange, Inc. (``CHX''), EDGA Exchange, Inc. 
(``EDGA''), EDGX Exchange, Inc. (``EDGX''), International Securities 
Exchange LLC (``ISE''), The NASDAQ Stock Market LLC (``Nasdaq''), 
National Stock Exchange, Inc. (``NSX''), New York Stock Exchange LLC 
(``NYSE''), NYSE Amex LLC (``NYSE Amex''), and NYSE Arca, Inc. (``NYSE 
Arca'') (collectively, the ``Exchanges'') filed with the Securities and 
Exchange Commission (``Commission''), pursuant to Section 19(b)(1) of 
the Securities Exchange Act of 1934 (``Act''), and Rule 19b-4 
thereunder, proposed rule changes to amend certain of their respective 
rules to set forth clearer standards and curtail their discretion with 
respect to breaking erroneous trades.\1\ On June 18, 2010, BX, EDGA, 
EDGX, ISE, Nasdaq, NSX, and NYSE Arca submitted amendments to their 
respective proposed rule changes. On June 21, 2010, CHX submitted an 
amendment to its proposed rule change. The proposed rule changes, as 
amended, submitted by BATS, BX, CBOE, CHX, EDGA, EDGX, ISE, Nasdaq, 
NYSE, and NYSE Amex, were published for comment in the Federal Register 
on June 28, 2010.\2\ The proposed rule change, as amended, submitted by 
NYSE Arca was published for public comment in the Federal Register on 
June 29, 2010.\3\ On June 30, 2010, CHX submitted an additional 
amendment to its proposed rule changes.\4\ The Commission received nine 
comment letters on the proposals.\5\

[[Page 56614]]

BATS responded to the comments in a letter dated August 16, 2010.\6\ 
This order approves the proposed rule changes, as amended.
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    \1\ Also, on June 17, 2010, Financial Industry Regulatory 
Authority, Inc. (``FINRA'') filed a similar proposed rule change 
with respect to breaking erroneous trades. See Securities Exchange 
Act Release No. 62341 (June 21, 2010), 75 FR 36756 (June 28, 2010). 
The FINRA proposal also was approved today. See Securities Exchange 
Act Release No. 62885 (Sept. 10, 2010).
    \2\ See Securities Exchange Act Release Nos. 62330 (June 21, 
2010), 75 FR 36725; 62331 (June 21, 2010), 75 FR 36746; 62332 (June 
21, 2010), 75 FR 36749; 62333 (June 21, 2010), 75 FR 36759; 62334 
(June 21, 2010), 75 FR 36732; 62336 (June 21, 2010), 75 FR 36743; 
62337 (June 21, 2010), 75 FR 36739; 62338 (June 21, 2010), 75 FR 
36762; 62339 (June 21, 2010), 75 FR 36765; 62340 (June 21, 2010), 75 
FR 36768; and 62342 (June 21, 2010), 75 FR 36752.
    \3\ See Securities Exchange Act Release No. 62335 (June 21, 
2010), 75 FR 37494.
    \4\ In Amendment No. 2, CHX amended its proposed rule change to 
conform defined terms in its proposed rule text to defined terms 
used in the remainder of its rule. This is a technical amendment.
    \5\ See letter from Peter Ianello, Partner, CSS, LLC, to 
Elizabeth Murphy, Secretary, Commission, dated July 15, 2010 (``CSS 
Letter''); letter from Gary DeWaal, Senior Managing Director and 
Group General Counsel, Newedge USA, LLC, to Elizabeth M. Murphy, 
Secretary, Commission, dated July 19, 2010 (``Newedge Letter''); 
letter from Karrie McMillan, General Counsel, Investment Company 
Institute, to Elizabeth M. Murphy, Secretary, Commission, dated July 
19, 2010 (``ICI Letter''); David C. Cushing, Director of Global 
Equity Trading, Wellington Management Company, LLP, to Elizabeth M. 
Murphy, Secretary, Commission, dated July 19, 2010 (``Wellington 
Letter''); letter from John A. McCarthy, General Counsel, GETCO, to 
Elizabeth Murphy, Secretary, Commission, dated July 20, 2010 
(``GETCO Letter''); letter from Ira P. Shapiro, Managing Director, 
BlackRock, Inc., to Elizabeth M. Murphy, Secretary, Commission, 
dated July 20, 2010 (``BlackRock Letter''); and letter from Manisha 
Kimmel, Executive Director, Financial Information Forum, On behalf 
of the FIF Front Office Committee, to Elizabeth M. Murphy, 
Secretary, Commission, dated July 21, 2010 (``FIF Letter''); letter 
from Ann Vlcek, Managing Director and Associate General Counsel, 
Securities Industry and Financial Markets Association, to Elizabeth 
M. Murphy, Secretary, Commission, dated July 26, 2010 (``SIFMA 
Letter''); and letter from Leonard J. Amoruso, General Counsel, 
Knight Capital Group, Inc., to Elizabeth M. Murphy, Secretary, 
Commission, dated July 27, 2010 (``Knight Letter'').
    \6\ See letter from Eric J. Swanson, SVP and General Counsel, 
BATS, to Elizabeth M. Murphy, Secretary, Commission, dated August 
16, 2010 (``BATS Letter'').
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II. Background and Description of the Proposals

    On May 6, 2010, the U.S. equity markets experienced a severe 
disruption.\7\ Among other things, the prices of a large number of 
individual securities suddenly declined by significant amounts in a 
very short time period, before suddenly reversing to prices consistent 
with their pre-decline levels. This severe price volatility led to a 
large number of trades being executed at temporarily depressed prices, 
including many that occurred at prices dramatically away from pre-
decline levels. In response, the Exchanges and FINRA exercised their 
authority under their clearly erroneous execution rules to break trades 
that were effected at prices 60% or more away from pre-decline prices, 
using a process that was not sufficiently clear or transparent to 
market participants. There are reports that the lack of clear 
guidelines for dealing with clearly erroneous transactions under 
circumstances such as occurred on May 6, and the lack of transparency 
surrounding the Exchanges' and FINRA's decision to break only trades at 
least 60% away from the market, added to the confusion and uncertainty 
faced by investors on May 6.\8\
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    \7\ The events of May 6 are described more fully in the report 
of the staffs of the Commodity Futures Trading Commission (``CFTC'') 
and the Commission, titled Report of the CFTC and SEC to the Joint 
Advisory Committee on Emerging Regulatory Issues, ``Preliminary 
Findings Regarding the Market Events of May 6, 2010,'' dated May 18, 
2010.
    \8\ See, e.g., Written Statement of Leonard J. Amoruso, Senior 
Managing Director and General Counsel, Knight Capital Group, Inc., 
Submitted before the CFTC-SEC Advisory Committee on Emerging 
Regulatory Issues, Panel Discussion, ``The events of May 6--views 
and observations regarding liquidity, trading and the apparent 
breakdown of an orderly market,'' dated June 22, 2010.
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    The Commission is concerned that events such as those that occurred 
on May 6 can undermine the integrity of the U.S. securities markets. 
Accordingly, it is working on a variety of fronts to assess the causes 
and contributing factors of the May 6 market disruption and to fashion 
policy responses that will help prevent a recurrence. The Commission 
also recognizes the importance of moving quickly to implement steps 
that could help limit potential harm from extreme price volatility. On 
June 10, 2010, the Commission approved rules, on a pilot basis, that 
require the Exchanges to pause trading in securities included in the 
S&P 500 Index if the price moves 10% or more in a five-minute 
period.\9\ By establishing circuit breakers that uniformly pause 
trading in these securities across all markets, the new rules are 
designed to facilitate coordinated price discovery and provide time for 
investors to trade at rational prices. In addition to the individual 
stock trading pause rules, the Exchanges and FINRA worked together to 
develop proposed amendments to their clearly erroneous execution rules 
to provide greater transparency and certainty to the process of 
breaking trades.
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    \9\ See Securities Exchange Act Release Nos. 62251; 75 FR 34183 
(June 10, 2010); and 62252, 75 FR 34186 (June 16, 2010).
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    The current clearly erroneous execution rules set forth procedures 
the Exchanges must use to break trades. Specifically, the current rules 
provide that the Exchanges will break trades in Exchange-listed stocks 
only if the price of the trades exceeds a specified ``Reference 
Price''--usually the consolidated last sale--by an amount that equals 
or exceeds specified ``Numerical Guidelines.'' The Numerical Guidelines 
vary depending on the price of the stock and during the regular trading 
session are 10% if the consolidated last sale is $25.00 or less, 5% if 
the consolidated last sale is more than $25 and up to and including 
$50, and 3% if the consolidated last sale is more than $50. These 
percentages double during pre-open and post-close trading sessions. For 
events involving five or more securities, the Numerical Guidelines 
currently are 10% during pre-open, regular, and post-close trading 
sessions.
    While the current rules do not give the Exchanges discretion to 
break trades that do not exceed the Numerical Guidelines, they do 
permit the Exchanges discretion to select a percentage threshold at 
which trades will be broken that is higher than the Numerical 
Guidelines. As noted above, on May 6 the Exchanges selected 60% as the 
threshold for breaking trades in a process that, from the perspective 
of market participants, was not clear or transparent, and led to 
further uncertainty and confusion in the market. Thus, the events of 
May 6 highlight the need to clarify the clearly erroneous execution 
review process across all markets, and reduce the discretion of the 
Exchanges to deviate from the objective standards in their respective 
rules when dealing with clearly erroneous transactions.
    Under the proposed rule changes, the Exchanges will no longer have 
the discretion to deviate from the specified percentage threshold at 
which trades will be broken in many situations, including those where 
the single-stock circuit breakers are applicable and in other larger 
``Multi-Stock Events'' involving five or more securities. Under the 
proposed rules, a Multi-Stock Event is determined by looking at the 
number of securities with potentially erroneous executions occurring 
within a period of five minutes or less.
    When an individual stock trading pause is triggered, transactions 
could occur before the trading pause is fully implemented on all of the 
Exchanges and in the over-the-counter (OTC) market. In such event, the 
Exchanges propose to review, on their own motion, all transactions 
triggering an individual stock trading pause and subsequent 
transactions that may occur before the trading pause is in effect.\10\ 
The Exchanges would use the price that triggered the trading pause (the 
``Trading Pause Trigger Price'') \11\ as the Reference Price and break 
trades that are 10% or more away from the Reference Price for stocks 
priced $25 or less, 5% or more away from the Reference Price for stocks 
priced from $25 to $50, and 3% or more away from the Reference Price 
for stocks priced more than $50. If the security is a leveraged 
exchange-traded fund (ETF) or exchange-traded note (ETN), these 
percentage thresholds would be multiplied by the leverage multiplier.
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    \10\ Such reviews would be limited to transactions that executed 
at a price lower than the Trading Pause Trigger Price in the event 
of a price decline and higher than the Trading Pause Trigger Price 
in the event of a price rise.
    \11\ The Exchanges propose to use the Trading Pause Trigger 
Price as the Reference Price for such clearly erroneous execution 
reviews of a transaction triggering a trading pause and the 
transactions that occur immediately after such transactions but 
before the trading pause is in effect. The Trading Pause Trigger 
Price reflects a price calculated by the primary listing market over 
a rolling five-minute period and may differ from the execution price 
of a transaction that triggered a trading pause. The primary listing 
market that issued an individual stock trading pause will determine 
and communicate to the Exchanges the Trading Pause Trigger Price for 
such stock.

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[[Page 56615]]

    For situations in which a stock is not subject to an individual 
stock trading pause (e.g., because the stock is not in the circuit 
breaker pilot program, or when the stock is part of the pilot program 
but the circuit breaker does not apply because it is the beginning or 
end of the day), the trade break rules will differ based on the number 
of stocks involved. In the event of Multi-Stock Events involving 20 or 
more securities, the Exchanges propose to review on their own motion 
and break all transactions at prices equal to or greater than 30% away 
from the Reference Price in each affected security during the review 
period selected. In such event, the Exchanges may use a Reference Price 
other than the consolidated last sale. To ensure consistent application 
across markets, the Exchanges will consult to determine the appropriate 
review period, which may be greater than the period (of five minutes or 
less) that triggered the application of this provision, as well as 
select one or more specific points in time prior to the transactions in 
question and use transaction prices at or immediately prior to the 
time(s) selected as the Reference Price(s).
    Similarly, in the event of Multi-Stock Events involving five or 
more, but less than twenty, securities, the Exchanges propose to review 
on their own motion and break all transactions at prices equal to or 
greater than 10% away from the Reference Price. In such event, the 
Reference Price will generally be the consolidated last sale 
immediately prior to the execution(s) under review. However, if there 
is relevant news impacting a security, periods of extreme volatility, 
sustained illiquidity, or widespread systems issues, the Exchanges may 
use a different Reference Price, where necessary for the maintenance of 
a fair and orderly market and the protection of investors, and where it 
is in the public interest.
    The current rules provide that the Exchanges may consider 
``Additional Factors'' \12\ in determining whether to break trades. The 
proposed rule changes limit the circumstances during which the 
Exchanges may consider those Additional Factors. Specifically, under 
the proposed rules, the Exchanges would only be permitted to consider 
Additional Factors in the context of clearly erroneous reviews that do 
not involve Multi-Stock Events involving five or more securities or 
individual stock trading pauses, as described above. In such event, the 
Exchanges would consider the Additional Factors with a view toward 
maintaining a fair and orderly market and the protection of investors 
and the public interest.
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    \12\ Additional Factors that the Exchanges may consider include 
but are not limited to: system malfunctions or disruptions, volume 
and volatility for the security, derivative securities products that 
correspond to greater than 100% in the direction of a tracking 
index, news released for the security, whether trading in the 
security was recently halted or resumed, whether the security is an 
IPO, whether the security was subject to a stock split, 
reorganization, or other corporate action, overall market 
conditions, pre-opening and post-closing session executions, 
validity of consolidated tapes trades and quotes, consideration of 
primary market indications, and executions inconsistent with the 
trading pattern in the stock.
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    Finally, the proposed rule changes limit the discretion of the 
Exchanges to deviate from the Numerical Guidelines in the event of 
system disruptions or malfunctions. The proposed rules make clear that 
this provision only applies to a disruption or malfunction of an 
Exchange system, not to that of a user of an Exchange system. The 
proposed rules also remove the language ``extraordinary market 
conditions or other circumstances'' as a basis for nullifying trades 
outside of the Numerical Guidelines, further limiting the discretion of 
the Exchanges. The proposed rules also retain the current requirement 
that, absent extraordinary circumstances, an action taken in connection 
with a review of a potentially erroneous transaction must be taken in a 
timely fashion, generally within thirty (30) minutes of detection of 
the erroneous transaction.
    The Exchanges have proposed that these rule changes be implemented 
as a pilot that would end on December 10, 2010.

III. Discussion of Comment Letters and Commission Findings

    The Commission received nine comment letters on the proposed rule 
changes filed by the Exchanges and FINRA. Five commenters were 
generally supportive of the principles underlying the proposed rule 
changes, to provide greater transparency and certainty to investors, 
market participants, and the public regarding the handling of clearly 
erroneous transactions.\13\ However, these commenters also believed 
that the proposed rule changes should go further, and offered a number 
of suggestions as discussed below. Two commenters generally did not 
oppose the proposed rule changes, but believed they were ``overly 
complex and opaque'' \14\ and ``do not adequately address the most 
significant flaws in the current rules.'' \15\ One commenter believed 
that trades should only be cancelled in extraordinary circumstances, 
stating that the Commission and the SROs should instead consider 
alternatives that would prevent the execution of erroneous trades 
rather than canceling them after the fact.\16\ Another commenter 
supported a ``principles-based approach'' to handling clearly erroneous 
trades instead of numerical thresholds, particularly with respect to 
transactions involving illiquid stocks and the dissemination of news or 
a fundamental change that requires a significant reevaluation of 
underlying business conditions.\17\ Additionally, BATS responded to the 
comments.\18\ These comments are discussed in greater detail below.
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    \13\ See ICI Letter, at 1, FIF Letter, at 1, Newedge Letter, at 
1-2, GETCO Letter, at 2, and SIFMA Letter, at 1-2 (also stating its 
belief that it is ``critical for the options markets to achieve 
consistency in their existing clearly erroneous execution rules 
before additional rule changes are implemented * * *''). See also 
BlackRock Letter at 1 (supporting amendments to rules that 
contribute to market volatility).
    \14\ See CSS Letter, at 1.
    \15\ See BlackRock Letter, at 1.
    \16\ See Wellington Letter, at 3-4. See also FIF Letter, at 1-2 
(supporting trade validation and rejection mechanisms) and GETCO 
Letter, at 3 (supporting protections designed to reject clearly 
erroneous orders that reach market centers).
    \17\ See Knight Letter, at 3.
    \18\ See BATS Letter.
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A. Comments Recommending Other Comprehensive Approaches

    Some commenters believed that the Exchanges' rules relating to 
clearly erroneous trades should be more definitive, and expressed the 
view that the proposed rule changes were not sufficiently clear in all 
cases when trades would actually be cancelled.\19\ For example, one 
commenter noted that the Exchanges ``appear to be able to cancel trades 
for many reasons other than significant price discrepancies--including, 
for example, systems malfunctions, news released regarding a security, 
whether a security was subject to a stock split or reorganization.'' 
\20\ This commenter believed the Exchanges should adopt ``no-bust'' 
zones for transactions executed within specified price ranges, and 
cancel trades outside of the ``no-bust'' zones absent a compelling 
public interest to the contrary.\21\
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    \19\ See Newedge Letter, at 4-5, and BlackRock Letter, at 2.
    \20\ See Newedge Letter, at 4.
    \21\ Id.
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    Two commenters questioned whether the proposed rule changes would 
achieve their stated goals of making the erroneous trade execution 
review process more transparent and less arbitrary.\22\ Specifically, 
these

[[Page 56616]]

commenters were concerned that the proposed rule changes did not 
clearly establish a reference price upon which the Numerical Guidelines 
would be based.\23\ They noted that the Exchanges retain the 
flexibility in certain circumstances to use a Reference Price other 
than the consolidated last sale, as well as to determine the review 
period for Multi-Stock Events involving twenty or more securities.\24\ 
These commenters believed that if the Exchanges retained discretion in 
these areas, the proposed rule changes may not achieve the goal of 
making the trade break process more transparent and less arbitrary,\25\ 
or could create mass confusion.\26\
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    \22\ See BlackRock Letter, at 2, and CSS Letter, at 1-2.
    \23\ Id.
    \24\ Id.
    \25\ See BlackRock Letter, at 2.
    \26\ See CSS Letter, at 1-2.
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    In response, BATS acknowledged that the proposals do not ``in all 
circumstances provide 100% advanced certainty with respect to whether a 
particular execution will be deemed to be clearly erroneous,'' but 
stated its belief that ``its proposal reflects a significant 
improvement * * * over its existing rule.'' \27\ Specifically, BATS 
noted that its discretion to utilize ``additional factors'' would now 
be limited to instances involving less than five securities under 
review and further limited to securities that are not subject to a 
single stock circuit breaker.\28\ BATS believed its limited discretion 
in this regard is necessary and appropriate for maintaining fair and 
orderly markets.\29\
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    \27\ See BATS Letter, at 1.
    \28\ Id. at 5.
    \29\ Id.
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    With respect to the concern expressed by some commenters that the 
proposed rule changes do not clearly establish a reference price upon 
which the Numerical Guidelines would be based, BATS stated that it is 
``critical'' for it to retain some limited discretion to use a 
different reference price when applying the clearly erroneous 
thresholds because ``there are circumstances under which last sale 
would be an inappropriate reference price * * * .'' \30\ BATS noted, 
however, that this discretion is limited because its ``rule is designed 
to generally guide BATS to look at the last sale as the reference 
price'' for those securities not subject to a circuit breaker and its 
proposal tries to be ``abundantly clear and objective that if a 
security is subject to a single stock circuit breaker, the reference 
price will be the circuit breaker trigger price.'' \31\ BATS also noted 
that the determination of the point in time from which to derive the 
reference price on May 6 had ``nothing to do'' with the delay in 
announcing which trades would be broken on May 6; rather, the delay was 
attributable to the time it took the Exchanges to determine the 
appropriate percentage at which trades would be broken.\32\
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    \30\ Id. at 3-4.
    \31\ Id.
    \32\ Id.
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    The Commission appreciates the suggestions and responses offered by 
these commenters to make the process by which the Exchanges address 
clearly erroneous executions more certain and transparent by reducing 
their discretion. The Commission intends to continue working with the 
Exchanges to further clarify, as appropriate, their processes for 
breaking erroneous trades that arise in contexts not covered by the 
proposed rule changes, as well as to continue to evaluate the 
operations of and potential refinements to such processes in contexts 
covered by the proposed rule changes. Nevertheless, the Commission 
believes that the proposed rule changes represent a productive first 
step by the Exchanges in bringing greater clarity and transparency to 
the process for breaking clearly erroneous trades, and that these 
improvements should not be delayed pending consideration of further 
changes.

B. Comments Recommending Alternative Approaches

    Four commenters were of the view that, rather than breaking 
erroneous trades, the Exchanges should allow the trades to stand and 
adjust the price in line with the market.\33\ These commenters were 
particularly concerned about the risk, when trades are broken, that 
market participants suddenly may find themselves exposed on one side of 
the market when they thought they had a hedged position.\34\ As one 
commenter stated, ``[t]his uncertainty is even more problematic during 
periods of heightened volatility in the markets, when liquidity may be 
reduced as some market participants limit their trading until they are 
able to determine their positions, or volatility may increase further 
because of speculative hedging in an attempt to protect unknown 
positions.'' \35\ These commenters believed that a price adjustment 
process would substantially reduce the uncertainty created by the 
potential for broken trades, and thus would be a better way to address 
erroneous executions.\36\
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    \33\ See GETCO Letter, at 3, Newedge Letter, at 5, BlackRock 
Letter, at 2, and Knight Letter, at 2.
    \34\ Id.
    \35\ See GETCO Letter, at 3.
    \36\ See GETCO Letter, at 3, Newedge Letter, at 5, BlackRock 
Letter, at 2, and Knight Letter, at 2.
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    Other commenters urged alternatives to clearly erroneous execution 
rules. For example, one commenter believed that the proposed rules 
would ``provide market participants more certainty as to whether or not 
their trades will stand in the event of market volatility,'' but urged 
the Commission to move to a ``futures-style limit up/down 
functionality'' as a better alternative to the circuit breaker trading 
halt approach.\37\ This commenter argued that the limit up/limit down 
approach ``would virtually eliminate clearly erroneous trades.'' \38\ 
Another commenter also believed that the Commission should consider a 
``limit up/limit down approach or hybrid approach.'' \39\ Other 
commenters suggested alternative procedures, systems or rules to 
prevent erroneous trades from occurring, such as by rejecting orders 
that are materially away from the market.\40\
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    \37\ See GETCO Letter, at 2-3.
    \38\ See GETCO Letter, at 3.
    \39\ See SIFMA Letter, at 2.
    \40\ See FIF Letter, at 2, Wellington Letter, at 2-4, and SIFMA 
Letter, at 2. See also CSS Letter, at 2 (suggesting that circuit 
breakers for individual stocks based off of a percentage change from 
the previous day's closing price (or the opening price to allow for 
the dissemination of overnight news) would eliminate the need for 
erroneous trade rules).
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    The Commission appreciates the suggestions offered by these 
commenters to make more fundamental changes to the way in which the 
Exchanges address clearly erroneous executions. In the coming months, 
the Commission expects to continue to work with the markets and market 
participants on ways to reduce the occurrence of erroneous trades and 
improve the method by which they are resolved, as well as on 
enhancements to the mechanisms for addressing excessive market 
volatility, such as those that currently are reflected in the single-
stock circuit breaker pilot. As noted above, however, the Commission 
believes that the proposed rule changes represent a productive first 
step by the Exchanges in bringing greater clarity and transparency to 
the process for breaking clearly erroneous trades, and that these 
improvements should not be delayed pending consideration of more far-
reaching initiatives.

C. Other Comments

    One commenter was concerned that the proposed rule changes were not 
clear as to how news or information regarding the review and 
cancellation of clearly erroneous trades would be disseminated to the 
markets.\41\ This commenter believed that the proposed rules should 
require the Exchanges to disseminate this information quickly and in a 
non-discriminatory fashion to

[[Page 56617]]

market participants in order to minimize the market impact and not 
favor any one group of market participants over another.\42\ In its 
response letter, BATS stated that it e-mails members with respect to 
clearly erroneous reviews and determinations according to a consistent 
and well established protocol that, according to BATS, strikes an 
appropriate balance between notifying members of significant market 
events and avoiding notifications every time a transaction is reviewed 
as potentially clearly erroneous.\43\ In addition, BATS believes that 
the existing requirement that an SRO promptly notify affected members 
of clearly erroneous reviews and determinations is sufficient.\44\ BATS 
also stated that communication between the exchanges and members should 
remain flexible as such methods are constantly changing.\45\ BATS 
indicated that it is not aware of discrimination amongst participants 
with respect to the dissemination of information in relation to clearly 
erroneous reviews and believes that the ``anti-discrimination 
requirements of the Act would sufficiently restrain'' 
discrimination.\46\
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    \41\ See Newedge Letter, at 6.
    \42\ Id.
    \43\ See BATS Letter, at 2.
    \44\ Id.
    \45\ Id.
    \46\ Id.
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    Another commenter believed that the Commission should require the 
Exchanges to clarify the application of the clearly erroneous execution 
rules when an event causes the price to cross to a different specified 
percentage threshold for breaking trades. Specifically, the commenter 
asked, ``if a market decline triggers the CEE rules intra-day with 
respect to a stock that was priced at $25.01, so the CEE price is below 
$25, the proposed amendments do not explain at what price trading would 
be calculated for the next application of the CEE rules. Would it be at 
5 percent for stocks between $25 and $50 or 10 percent for stocks 
priced less than $25?'' \47\ That commenter also expressed concern that 
the proposed rule changes might provide an opportunity for market 
participants to manipulate events involving multiple stocks that are 
not subject to the single-stock circuit breakers. This might occur, for 
example, when an event subject to a 10% threshold (e.g., involving 20 
securities) could be forced into the 30% threshold category (e.g., by 
manipulating the 21st security and causing an erroneous trade), by a 
market participant seeking the flexibility to trade at wider spreads 
with respect to all impacted securities.\48\
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    \47\ See ICI Letter, at 3.
    \48\ Id.
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    Another commenter noted that, when an individual stock trading 
pause is triggered, trades will be broken at specified percentages away 
from the Trading Pause Trigger Price.\49\ According to this commenter, 
this calculation ``has the practical effect of doubling the clearly 
erroneous price window for most U.S. equity securities and is a 
significant expansion of the window for certain securities.'' \50\ This 
commenter suggested using more conservative parameters such as the 
greater of 2% or $0.05 from the Trading Pause Trigger Price or, 
alternatively, using the Trading Pause Trigger Price, in addition to a 
comparison to the last sale, as part of an analysis for clearly 
erroneous trades.'' \51\ This commenter also favored providing the 
Exchanges discretion to break trades after the deadlines specified in 
their rules in extraordinary circumstances.\52\
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    \49\ See SIFMA Letter, at 2-3.
    \50\ Id.
    \51\ Id.
    \52\ Id.
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    With respect to the dissemination of information regarding the 
review and resolution of clearly erroneous trades, the Commission 
understands that the practice of the Exchanges is to promptly notify 
participants that specified trades are under review and, once that 
review is complete, to describe the resolution thereof. Although the 
Commission believes prompt communication by e-mail, phone, Web site or 
otherwise concerning erroneous trade reviews should generally assure 
dissemination in a non-discriminatory fashion, as noted above, it 
intends to continue to work with the Exchanges on additional ways to 
improve the transparency of this process.
    With respect to an event that causes the price to cross to a 
different specified percentage threshold for breaking trades, the 
Commission believes that the proposals are sufficiently clear regarding 
the applicability of the new rules. As to the specific example provided 
by the commenter, under the proposed rules, if a stock triggers a 
trading pause, the Trading Pause Trigger Price would be used as the 
Reference Price. The Trading Pause Trigger Price is calculated by the 
listing market over a rolling five-minute period. If the Trading Pause 
Trigger Price is calculated at a level below $25.00, as identified in 
the example, then the 10% threshold would apply to clearly erroneous 
execution reviews of the Trigger Trade and other transactions that 
occur immediately after a Trigger Trade but before the trading pause is 
fully implemented across markets. If another series of transactions 
trigger a second trading pause, the review process set forth in the 
rules would be repeated and a new Reference Price would be calculated 
to determine the appropriate percentage threshold.
    With respect to the potential for market participants to engage in 
manipulation in order to achieve a higher trade break percentage 
threshold, the Commission emphasizes that it will vigorously pursue 
instances of illegal market manipulation. In addition, during the pilot 
period, the Commission will work with the Exchanges to review the 
operation of the amended rules, and make improvements as warranted, 
including if it appears the selected percentage thresholds create 
distortions or incent improper or illegal behavior.
    With respect to the chosen parameters, the Commission notes that 
the parameters that were selected were the product of a coordinated and 
deliberate effort by the Exchanges and FINRA to improve the handling of 
clearly erroneous trades. Regarding the specific comment expressing 
concern that breaking trades only when they are 10%, 5% or 3% away from 
the Trading Pause Trigger Price has the practical effect of doubling 
the trading pause parameters, the Commission notes that, as an initial 
matter, implementation of the individual stock trading pause should 
prevent most trades from occurring at prices outside of the Trading 
Pause Trigger Price. To the extent trades occur outside of such price 
before the trading pause is fully applied across all markets, the 
Commission believes that it is appropriate to break these ``leakage'' 
trades only when they are a meaningful percentage away from the Trading 
Pause Trigger Price. This is consistent with the traditional approach 
of the Exchanges and FINRA to take the more extreme step of breaking a 
trade only in cases where it occurs at a price sufficiently away from 
the current market price that the parties should have been on notice it 
may be ``clearly erroneous.'' Of course, the pilot program may indicate 
that different parameters are better to accomplish the stated goals. If 
so, the parameters could be changed as part of the overall initiative. 
The Commission will further study and consider the examples and 
suggestions offered by the commenters during the pilot period.

D. Commission Findings

    The Commission finds that the proposed rule changes are consistent 
with the requirements of the Act and the

[[Page 56618]]

rules and regulations thereunder applicable to national securities 
exchanges. In particular, the Commission finds that the proposed rule 
changes submitted by the Exchanges are consistent with the requirements 
of Section 6(b) of the Act \53\ and with Section 6(b)(5) of the Act 
\54\ which, among other things, requires that the rules of national 
securities exchanges be designed to prevent fraudulent and manipulative 
acts and practices, to promote just and equitable principles of trade, 
to remove impediments to and perfect the mechanism of a free and open 
market and a national market system, and in general, to protect 
investors and the public interest.
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    \53\ 15 U.S.C. 78f(b).
    \54\ 15 U.S.C. 78f(b)(5).
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    In the Commission's view, the proposed rule changes will help 
assure that the determination of whether a clearly erroneous trade has 
occurred will be based on clear and objective criteria, and that the 
resolution of the incident will occur promptly through a transparent 
process. The proposed rule changes also should help assure consistent 
results in handling erroneous trades across the U.S. markets, thus 
furthering fair and orderly markets, the protection of investors and 
the public interest. Finally, the Commission notes that the proposed 
rule changes are being implemented on a pilot basis so that the 
Commission and the Exchanges can monitor the effects of the pilot on 
the markets and investors, and consider appropriate adjustments, as 
necessary.

IV. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\55\ that the proposed rule changes (SR-BATS-2010-016; SR-BX-2010-
040; SR-CBOE-2010-056; SR-CHX-2010-13; SR-EDGA-2010-03; SR-EDGX-2010-
03; SR-ISE-2010-62; SR-NASDAQ-2010-076; SR-NSX-2010-07; SR-NYSE-2010-
47; SR-NYSEAmex-2010-60; SR-NYSEArca-2010-58), be, and hereby are, 
approved.
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    \55\ 15 U.S.C. 78s(b)(2).

    By the Commission.
Elizabeth M. Murphy,
Secretary.
[FR Doc. 2010-23076 Filed 9-15-10; 8:45 am]
BILLING CODE 8010-01-P

