
[Federal Register: December 20, 2010 (Volume 75, Number 243)]
[Notices]               
[Page 79429-79431]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr20de10-975]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-63539; File No. SR-BX-2010-079]

 
Self-Regulatory Organizations; NASDAQ OMX BX, Inc.; Notice of 
Filing of Proposed Rule Change To Amend Chapter IV of the BOX Rules To 
Allow Executing Participants To Provide BOX a List of the Order Flow 
Providers for Which the Executing Participants Will Provide Directed 
Order Services

December 14, 2010.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on December 3, 2010, NASDAQ OMX BX, Inc. (the ``Exchange'') filed with 
the Securities and Exchange Commission (``Commission'') the proposed 
rule change as described in Items I and II below, which Items have been 
prepared by the self-regulatory organization. The Commission is 
publishing this notice to solicit comments on the proposed rule 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 amend Chapter IV, Section 5 (Obligations 
of Market Makers) of the Rules of the Boston Options Exchange Group, 
LLC (``BOX'') to allow Executing Participants (``EP'') \3\ to provide 
BOX a list of the Order Flow Providers (``OFP'') for which the EP will 
provide Directed Order services. The text of the proposed rule change 
is available on the Exchange's Web site at http://
nasdaqomxbx.cchwallstreet.com/NASDAQOMXBX/Filings/, on the Commission's 
Web site at http://www.sec.gov, at the Exchange, and at the 
Commission's Public Reference Room.
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    \3\ Capitalized terms not otherwise defined herein shall have 
the meanings prescribed within the BOX Rules.
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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 self-regulatory organization 
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 prepared summaries, set forth in Sections A, B, and C below, of the 
most significant aspects of such statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. Purpose
    Under the BOX's Directed Order process, Market Makers on BOX are 
able to handle orders on an agency basis directed to them by OFPs. An 
OFP sends a Directed Order to BOX with a designation of the Market 
Maker to whom the order is to be directed. BOX then routes the Directed 
Order to the appropriate Market Maker. Under Chapter VI, Section 
5(c)(ii) of the BOX Rules, a Market Maker only has two choices when he 
receives a Directed Order: (1) Submit the order to the PIP process; or 
(2) send the order back to BOX for placement onto the BOX Book.
    Chapter VI, Section 5(c)(i) prohibits a Market Maker from rejecting 
a Directed Order. This means that upon systematically indicating its 
desire to accept Directed Orders, the BOX system prevents a Market 
Maker that receives a Directed Order from either rejecting the receipt 
of the Directed Order from the BOX Trading Host or rejecting the 
Directed Order back to the OFP who sent it. A Market Maker who desires 
to accept Directed Orders must systemically indicate that it is an EP 
whenever the Market Maker wishes to receive Directed Orders from the 
BOX Trading Host. If a Market Maker does not systemically indicate that 
it is an EP, then the BOX Trading Host will not forward any Directed 
Orders to that Market Maker. In such a case, the BOX Trading Host will 
send the order directly to the BOX Book.
    The Exchange proposes to amend Chapter VI, Section 5(c)(i) 
(Directed Order Process) of the BOX Rules to allow EPs to provide BOX a 
list of OFPs for which the EP will provide Directed Order services. 
Under the proposal, prior to accepting any Directed Order through the 
Trading Host, an EP must inform BOX of the OFPs from whom it has agreed 
to accept Directed Orders (``Listed OFPs'' or ``LOFPs''). The Trading 
Host will then only send to the EP Directed Orders from LOFPs. In 
addition, unlike all other orders submitted to the BOX Trading Host, 
Directed Orders are not anonymous based on a pilot program discussed in 
BSE-2006-14.\4\ This practice will continue under this proposed rule 
change because BOX proposes that the BOX Trading Host will reveal to 
the EP the participant ID of the OFP sending the Directed Order. 
Shortly after the filing of this proposed rule change, the original 
proposal relating to the non-

[[Page 79430]]

anonymity of Directed Orders (BSE-2005-52) will be withdrawn.\5\
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    \4\ See Securities Exchange Act Release Nos. 53516 (March 20, 
2006), 71 FR 15232 (March 27, 2006) (SR-BSE-2006-14); 54082 (June 
30, 2006), 71 FR 38913 (July 10, 2006) (SR-BSE-2006-29); 54469 
(September 19, 2006), 71 FR 56201 (September 26, 2006) (SR-BSE-2006-
38); 55139 (January 19, 2007), 72 FR 3448 (January 25, 2007) (SR-
BSE-2007-01); 56014 (July 5, 2007), 72 FR 38104 (July 12, 2007) (SR-
BSE-2007-31); 57195 (January 24, 2008), 73 FR 5610 (January 30, 
2008) (SR-BSE-2008-04); 59311 (January 28, 2009), 74 FR 6071 
(February 4, 2009) (SR-BX-2009-007); 59983 (May 27, 2009), 74 FR 
26445 (June 2, 2009) (SR-BX-2009-027); 61065 (November 25, 2009), 74 
FR 62860 (December 1, 2009) (SR-BX-2009-076); 61577 (February 24, 
2010), 75 FR 9464 (March 2, 2010) (SR-BX-2010-017); 61929 (April 16, 
2010), 75 FR 21085 (April 22, 2010) (SR-BX-2010-031) and 62366 (June 
23, 2010), 75 FR 37863 (June 30, 2010) (SR-BX-2010-041).
    \5\ See Securities Exchange Act Release No. 53357 (February 23, 
2006), 71 FR 10730 (March 2, 2006) (SR-BSE-2005-52).
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    Upon the withdrawal of BSE-2005-52, BSE-2006-14 will automatically 
expire.\6\ Therefore, concurrent with the filing of the proposal, the 
Exchange has proposed a new Pilot Program designed to function in 
exactly the same manner as under the original Pilot Program (``BSE-
2006-14'') \7\, which clarified that Directed Orders on BOX are not 
anonymous. The new Pilot Program allows BOX's current Directed Order 
rule and process to continue on an uninterrupted basis.\8\ This new 
pilot period will afford the Commission the necessary time to consider 
the Exchange's proposal to amend the BOX Rules to permit EPs to only 
receive Directed Orders through the Trading Host from OFPs whom the EP 
has designated. In the event the Commission reaches a decision with 
respect to the Exchange's proposal to amend the BOX Rules before 
December 31, 2010, the Directed Order Process Pilot Program governing 
the Directed Order process on BOX will cease to be effective at the 
time of that decision.
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    \6\ See Securities Exchange Act Release No. 62366 (June 23, 
2010), 75 FR 37863 (June 30, 2010) (SR-BX-2010-041).
    \7\ See also Securities Exchange Act Release No. 63540 (December 
3, 2010 [sic]) (SR-BX-2010-080). The Commission notes that SR-BX-
2010-080 was filed on December 13, 2010. See also supra note 4. BSE-
2006-14 has been in effect since March 14, 2006 as the Commission 
solicited comments and considered its effect on price improvement. 
Together these Pilots have constituted the ``Directed Order Process 
Pilot Program''.
    \8\ See Securities Exchange Act Release No. 63540 (December 3, 
2010 [sic]) (SR-BX-2010-080). The Commission notes that SR-BX-2010-
080 was filed on December 13, 2010.
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Discretionary Service
    BOX notes that in all events, whether a Market Maker elects to 
accept Directed Orders or chooses systematically not to accept any 
Directed Orders, its displayed best bid and offer are firm and 
accessible for automatic executions by all order submitters. In other 
words, the Directed Order process is a discretionary service that 
Market Makers may choose to provide or not, above and beyond satisfying 
their core market maker obligations of providing continuous two-sided 
firm quotations on a nondiscriminatory basis. Just as other market 
makers may and do choose to provide, or not, other discretionary 
services, such as payment for order flow, BOX Market Makers may 
identify the OFPs for which they may choose to provide such 
discretionary service as Directed Order.\9\
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    \9\ See Securities Exchange Act Release No. 47351 (February 11, 
2003), 68 FR 8055 (February 19, 2003) SR-NASD-2002-60). As stated in 
the adopting release, the New York Stock Exchange comment letter on 
the Primex rule proposal argued that ``participants may selectively 
trade against agency orders alone by using a mechanism to screen out 
professional orders.'' The Nasdaq Stock Market responded ``that this 
feature ensures that any price improvement or enhanced liquidity 
opportunities be reserved for public customers, and not necessarily 
professional traders who could otherwise take advantage of the 
System's benefits and `pre-empt' the ability of a public customer to 
receive such benefits.'' See Securities Exchange Act Release No. 
47351 (February 11, 2003), 68 FR 8055, 8058 (February 19, 2003) (SR-
NASD-2002-60). See generally Securities Exchange Act Release No. 
42455 (February 24, 2000), 65 FR 11388 (March 2, 2000) (stating that 
the Primary Market Makers and Competitive Market Makers on the ISE 
``will have the ability to set parameters regarding their 
willingness to trade generally with a broker-dealer's proprietary 
order.'').
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    Consistent with the fact that the Directed Order process is a 
discretionary service, allowing EPs to provide BOX a list of OFPs to 
whom it will provide Directed Order services is not only consistent 
with the statute \10\--which does not prohibit broker-dealers from 
determining which customer for whom it will provide a discretionary 
service, but also is highly desirable. As is true with respect to any 
discretionary service, without some control over the OFPs from whom 
Market Makers will accept Directed Orders, Market Makers may be 
expected to provide less of the service. This is specifically true with 
respect to the Directed Order process because the automated customer 
protections built into the Directed Order process, absent the ability 
to control the OFPs for whom it will provide the service, could and 
almost certainly would have the unintended consequences of creating an 
opportunity for Options Participants to engage in abusive practices 
that jeopardize the ability of all Market Makers to price improve 
customer orders.
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    \10\ See Securities Exchange Act Release No. 52827 (November 23, 
2005), 70 FR 72139 (December 1, 2005) (SR-PCX-2005-56) (generally 
approving proposal by the Pacific Exchange to ``add a provision that 
requires Users to be given permission by DMMs in order to send a 
Directed Order to that DMM.'').
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    An EP's quote at the NBBO is taken down upon BOX's receipt of a 
Directed Order and yet is still guaranteed as a Firm Quote for at least 
three seconds regardless of whether market prices change during that 
time (known as the Guaranteed Directed Order (``GDO'')). Because of the 
three second GDO, it is possible that some Options Participants, 
including market makers, could send large numbers of Directed Orders to 
EP competitors using strategies that could continually cause the EP to 
yield priority (if it declines to PIP the order). This outcome is 
particularly problematic since, at a minimum, the EP is forced to forgo 
whatever time priority he may have had over his competitors at the top 
of the BOX Book for the given option series of the Directed Order. 
Moreover, the EP is also obligated to provide the GDO for at least 
three seconds and trade with any unexecuted Directed Order quantity 
(but only if no other Options Participant wants to trade with the 
Directed Order). Essentially this means the EP will trade with the 
declined Directed Order only when no one else wishes to interact with 
that order. Without the protection of being sent Directed Orders only 
from LOFPs, EPs will have to modify their risk assessment and therefore 
give less price improvement to everyone--or perhaps stop accepting any 
Directed Orders and not giving price improvement at all. This effect 
would significantly harm the retail investors who have benefited from 
the BOX price improvement system since its inception.
Anonymity
    Under the proposal the Exchange seeks to reveal to the EP the 
Participant ID of the OFP sending the Directed Order.\11\ The Market 
Makers must submit this Participant ID to BOX whenever the Market Maker 
chooses to submit the Directed Order and his Primary Improvement Order 
to the PIP process. However, once the Directed Order is submitted to 
the PIP process or the BOX Book, the Participant ID is not shown to any 
market participant and the identity of the OFP will be anonymous 
pursuant to Chapter V, Section 14(e).
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    \11\ See supra note 5.
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    A similar version of the proposed directed order process regarding 
anonymity has been operating successfully under the Directed Order 
Process Pilot Program for over four and a half years without negative 
effect to investors or price improvement. BOX believes that allowing 
the Participant ID to be revealed to the EP has had a positive 
influence on price improvement.\12\ Anonymity of market participants is 
not required under the Exchange Act. The identification of the OFP in 
the Directed Order process is consistent with the requirements set 
forth under Section 6(b)(5) of the Exchange Act in that it will benefit 
the marketplace and protect investors

[[Page 79431]]

because it will give Market Makers the ability to identify the firms 
for whom it will provide this discretionary service. This proposal will 
allow Options Participants to make better informed decisions in 
determining when and how to use the Directed Order process, while also 
motivating Market Makers to continue to provide the high levels of 
price improvement available to investors.
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    \12\ For example, in the month of August 2010, price improved 
contracts on BOX increased to an average of 204,090 per day, setting 
an all-time record, with total improvement to investors of $5.4 
million. From its inception to August 2010, BOX had provided 
investors over $296 million of price improvement.
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    In particular, BOX notes that the proposal is not designed to 
permit unfair discrimination between customers, brokers, or dealers, 
and satisfies the statutory mandates of Section 6(b)(5) of the Exchange 
Act because upon systematically indicating its desire to accept 
Directed Orders from LOFPs, the BOX system prevents a Market Maker that 
receives a Directed Order from either rejecting the receipt of the 
Directed Order from the BOX Trading Host or rejecting the Directed 
Order back to the OFP who sent it. Further, the BOX Rules guarantee 
equal access to the PIP and the BOX Book for customers, brokers, and 
dealers for those that do not wish to use the Directed Order process.
2. Statutory Basis
    The Exchange believes that the proposal is consistent with the 
requirements of Section 6(b) of the Act,\13\ in general, and Section 
6(b)(5) of the Act,\14\ in particular, in that it is designed to foster 
cooperation and coordination with persons engaged in regulating, 
clearing, settling, processing information with respect to, and 
facilitating transactions in securities, 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. 
In particular, the Exchange notes that anonymity of market participants 
is not required under the Exchange Act and believes that this proposed 
rule change will benefit the marketplace and protect investors because 
it will give Market Makers the ability to identify the firms for whom 
it will provide this discretionary service. This proposal will allow 
Options Participants to make better informed decisions in determining 
when and how to use the Directed Order process, while also motivating 
Market Makers to continue to provide the high levels of price 
improvement available to investors in the BOX market.
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    \13\ 15 U.S.C. 78f(b).
    \14\ 15 U.S.C. 78f(b)(5).
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    Additionally, the Exchange believes that the proposal is not 
designed to permit unfair discrimination between customers, brokers, or 
dealers, and satisfies the statutory mandates of Section 6(b)(5) of the 
Exchange Act because upon systematically indicating its desire to 
accept Directed Orders from LOFPs, the BOX system prevents a Market 
Maker that receives a Directed Order from either rejecting the receipt 
of the Directed Order from the BOX Trading Host or rejecting the 
Directed Order back to the OFP who sent it. Further, the BOX Rules 
guarantee equal access to the PIP and the BOX Book for customers, 
brokers, and dealers for those that do not wish to use the Directed 
Order process.

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.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants or Others

    The Exchange has neither solicited nor received comments on the 
proposed rule change.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 45 days of the date of publication of this notice in the 
Federal Register or within such longer period up to 90 days (i) as the 
Commission may designate if it finds such longer period to be 
appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) By order approve or disapprove the 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 (http://
www.sec.gov/rules/sro.shtml); or
     Send an e-mail to rule-comments@sec.gov. Please include 
File Number SR-BX-2010-079 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-BX-2010-079. 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 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 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 a.m. and 3 
p.m. Copies of the filing will also be available for inspection and 
copying at the Exchange's principal office. 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 publicly available. All submissions 
should refer to File Number SR-BX-2010-079 and should be submitted on 
or before January 10, 2011.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\15\
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    \15\ 17 CFR 200.30-3(a)(12).
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Florence E. Harmon,
Deputy Secretary.
[FR Doc. 2010-31826 Filed 12-17-10; 8:45 am]
BILLING CODE 8011-01-P

