
[Federal Register Volume 78, Number 52 (Monday, March 18, 2013)]
[Notices]
[Pages 16733-16738]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2013-06158]


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

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-69114; File No. SR-ISE-2013-18]


Self-Regulatory Organizations; International Securities Exchange, 
LLC; Notice of Filing of Proposed Rule Change To Address Order Handling 
Under the Options Order Protection and Locked/Crossed Market Plan, the 
Authority of the Exchange To Cancel Orders When a Technical or Systems 
Issue Occurs, and To Describe the Operation of Linkage Handler Error 
Accounts

March 12, 2013.
    Pursuant to Section 19(b)(1) \1\ of the Securities Exchange Act of 
1934 (the ``Act'') \2\ and Rule 19b-4 thereunder,\3\ notice is hereby 
given that, on March 6, 2013, the International Securities Exchange, 
LLC (the ``Exchange'' or ``ISE'') 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 self-regulatory organization. The Commission is publishing this 
notice to solicit comments on the proposed rule change from interested 
persons.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 15 U.S.C. 78a.
    \3\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------

I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes to amend its rules to address: (i) Order 
handling under the Options Order Protection and Locked/Crossed Market 
Plan; (ii) the authority of the Exchange to cancel orders (or release 
routing-related orders) when a technical or systems issue occurs; and 
(iii) describe the operation of Linkage Handler, as that term is 
defined below, error account(s), which may be used to liquidate 
unmatched executions that may occur in the provision of the Exchange's 
routing service. 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 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 the 
Statutory Basis for, the Proposed Rule Change

1. Purpose
    Under the Options Order Protection and Locked/Crossed Market Plan, 
the ISE cannot execute orders at a price that is inferior to the 
national best bid or offer (``NBBO''), nor can the Exchange place an 
order on its book that would cause the ISE best bid or offer to lock or 
cross another exchange's quote.\4\ In compliance with this requirement, 
incoming orders are not automatically executed at prices inferior to 
another exchange's Protected Bid or Protected Offer \5\ nor placed on 
the limit order book if they would lock or cross an away market. Non-
Customer Orders (i.e., orders for the account of a broker or dealer) 
\6\ are rejected in these

[[Page 16734]]

circumstances, while Public Customer Orders (i.e., orders for the 
account of a person that is not a broker-dealer) \7\ are handled by the 
Primary Market Maker.\8\ The Primary Market Maker has the 
responsibility of either executing the Public Customer Order at a price 
that at least matches the NBBO or obtaining better prices from the away 
market(s) by sending one or more intermarket sweep orders (``ISOs'') on 
the Public Customer's behalf.\9\ Non-Customer Orders and Public 
Customer Orders are exposed to all ISE Members for up to one second to 
give them an opportunity to execute orders at the NBBO price or better 
before orders are rejected (in the case of Non-Customer Orders) or 
before the Primary Market Maker sends ISOs to other exchanges (in the 
case of Public Customer Orders).\10\
---------------------------------------------------------------------------

    \4\ ISE Rules 1901 and 1902.
    \5\ ISE Rule 1900(o).
    \6\ ISE Rule 100(a)(28).
    \7\ ISE Rule 100(a)(39).
    \8\ ISE Rule 714(a).
    \9\ ISE Rule 803(c)(2).
    \10\ Supplementary Material .02 to Rule 803.
---------------------------------------------------------------------------

    The Exchange proposes to amend its rules to remove the requirement 
that Primary Market Makers handle Public Customer Orders in the 
circumstances described above,\11\ and to instead provide a centralized 
process for sending ISOs to other exchanges on behalf of Public 
Customer Orders. Under the proposal, the Exchange will contract with 
one or more unaffiliated brokers to route orders to other exchanges 
when necessary to comply with the linkage rules (``Linkage 
Handlers'').\12\ Specifically, in circumstances where marketable Public 
Customer Orders are received when the ISE is not at the NBBO or orders 
are received that would lock or cross another market, they will be 
exposed to ISE Members for up to one second as they are currently.\13\ 
However, any unexecuted balance of a Public Customer Order will be 
handled by a Linkage Handler instead of the Primary Market Maker. 
Specifically, if after a Public Customer Order is exposed, the order 
cannot be executed in full on the Exchange at the then-current NBBO or 
better, and it is marketable, the lesser of the full displayed size of 
the Protected Bid(s) or Protected Offer(s) that are priced better than 
the ISE's quote or the balance of the order will be sent to the Linkage 
Handler and any additional balance of the order will be executed on the 
ISE if it is marketable. Any additional balance of the order that is 
not marketable against the then-current NBBO will be placed on the ISE 
book.
---------------------------------------------------------------------------

    \11\ The Exchange proposes to eliminate Rule 803(c)(1)-(3) and 
Supplementary Material .02 to Rule 803, which addresses PMMs 
obligations in handling Public Customer Orders.
    \12\ The ISE will seek competitive bids to perform the Linkage 
Handler responsibilities.
    \13\ The exposure process currently is described in 
Supplementary Material .02 to Rule 803 (Obligations of Market 
Makers). Since Primary Market Makers will no longer be responsible 
for handling the orders, the Exchange proposes to move the current 
text of Supplementary Material .02 to Rule 803 (Obligations of 
Market Makers) to Supplementary Material .02 to Rule 1901 (Order 
Protection). Pursuant to the current process, during the exposure 
period, Exchange Members may enter responses up to the size of the 
order being exposed in the regular trading increment applicable to 
the option. If at the end of the exposure period, the order is 
executable at the then-current NBBO and the ISE is not at the then-
current NBBO, responses that equal or better the NBBO are executed 
in price priority, and at the same price, allocated pro-rata based 
on size (i.e., the percentage of the total number of contracts 
available at the same price that is represented by the size of a 
Member's response). If during the exposure period, the order becomes 
executable on the ISE at the prevailing NBBO, the exposure period is 
terminated, and the order is executed against orders and quotes on 
the book and responses received during the exposure period. Such 
interest is executed in price priority. At the same price, Priority 
Customer Orders are executed first in time priority and then all 
other interest (orders, quotes and responses) is allocated pro-rata 
based on size. If during the exposure period the Exchange receives 
an unrelated order on the opposite side of the market from the 
exposed order that could trade against the exposed order at the 
prevailing NBBO price, the exposure period is terminated and the 
orders are executed. A pattern or practice of submitting unrelated 
orders that cause an exposure period to conclude early is deemed 
conduct inconsistent with just and equitable principles of trade and 
a violation of Rule 400 and other Exchange Rules.
---------------------------------------------------------------------------

    The Exchange proposes to adopt new Rule 1903 (Order Routing to 
Other Exchanges), which would govern the Exchange's process for routing 
ISOs to other markets.\14\ As discussed above, the Exchange intends to 
contract with one or more Linkage Handlers that are not affiliated with 
the Exchange to route ISOs to other exchanges. Any such contract will 
restrict the use of any confidential and proprietary information that 
the Linkage Handler receives to legitimate business purposes necessary 
for routing orders at the direction of the Exchange. Routing services 
would be available to Members only and are optional. Members that do 
not want orders routed can use the Do Not Route designation to avoid 
routing.
---------------------------------------------------------------------------

    \14\ ISE proposed rule 1903 is substantially similar to the 
Chicago Board Options Exchange (``CBOE'') Rule 6.14B (Order Routing 
to Other Exchanges), except that ISE is not proposing to adopt a 
similar provision to subsection (c) of CBOE Rule 6.14B because ISE 
is not approved to be a designated examining authority and ISE is 
proposing to add .02 of the Supplementary Material to Rule 1903. As 
discussed in more detail below, .02 of the Supplementary Material to 
Rule 1903 has been added to address how orders will be handled when 
there are no operable Linkage Handlers. See Securities Exchange Act 
Release Nos. 60557 (August 20, 2009), 74 FR 43196 (August 26, 2009) 
(SR-CBOE-2009-040).
---------------------------------------------------------------------------

    The rule also provides that: (1) The Exchange shall establish and 
maintain procedures and internal controls reasonably designed to 
adequately restrict the flow of confidential and proprietary 
information between the Exchange and the Linkage Handler or any other 
entity, including any affiliate of the Linkage Handler, and, if the 
Linkage Handler or any of its affiliates engages in any other business 
activities other than providing routing services to the Exchange, 
between the segment of the Linkage Handler or affiliate that provides 
the other business activities and the segment of the Linkage Handler 
that provides the routing services; (2) the Exchange will provide its 
routing services in compliance with the provisions of the Act and the 
rules thereunder, including, but not limited to, the requirements in 
Section 6(b)(4) and (5) of the Act that the rules of a national 
securities exchange provide for the equitable allocation of reasonable 
dues, fees, and other charges among its Members and other persons using 
its facilities, and not be designed to permit unfair discrimination 
between customers, issuers, brokers, or dealers; (3) the Exchange will 
determine the logic that provides when, how, and where orders are 
routed away to other exchanges; \15\ (4) the Linkage Handler cannot 
change the terms of an order or the routing instructions, nor does the 
Linkage Handler have any discretion about where to route an order; and 
(5) any bid or offer entered on the Exchange routed to another exchange 
via a Linkage Handler that results in an execution shall be binding on 
the Member that entered such bid/offer.
---------------------------------------------------------------------------

    \15\ The Exchange notes that this provision would not prohibit a 
Linkage Handler from complying with its obligations under Rule 15c3-
5.
---------------------------------------------------------------------------

    Proposed Supplementary Material .01 to Rule 1903 states that the 
rule does not prohibit a Linkage Handler from designating a preferred 
market-maker (or equivalent market participant) at the other exchange 
to which an outbound ISO is being routed.\16\ This proposed provision 
has no impact on customer orders, which receive the same level of order 
protection and trade at the best market prices regardless of whether 
the Linkage Handler designates a preferred market-maker recipient at 
the destination exchange. The Exchange will still be making the sole 
determination as to which exchange an order will be routed, as well as 
when and how the order will be routed. Additionally, Linkage Handlers 
are prohibited from changing the terms of an order or the Exchange's 
routing

[[Page 16735]]

instructions and still have no discretion about to which exchange the 
order will be routed. This provision merely provides that a Linkage 
Handler may indicate which market-maker at the away exchange may trade 
against the routed order in accordance with the order terms and the 
Exchange's routing instructions. In other words, if a Linkage Handler 
preferences a customer order that is to be routed to another exchange, 
the order is not handled any differently by the Linkage Handler than if 
the Linkage Handler did not preference the order.\17\ Further, the 
order is executed at the same exchange and at the same price and in 
accordance with the same order terms as it would if the Linkage Handler 
did not preference the order. Therefore, the proposed rule does not 
disadvantage customers in any way.
---------------------------------------------------------------------------

    \16\ Proposed Supplementary Material .01 to Rule 1903 is 
identical to CBOE Interpretations and Policies .01 to Rule 6.14B. 
See Securities Exchange Act Release No. 68010 (October 9, 2012), 77 
FR 63399 (October 16, 2012)) (SR-CBOE-2012-096).
    \17\ The Exchange notes that orders that may be routed to other 
exchanges under Rule 1903 are all immediate-or-cancel (``IOC''). 
Therefore, routed orders would not be subject to any automated price 
improvement mechanisms that may exist under the other exchanges' 
rules.
---------------------------------------------------------------------------

    The Exchange proposes to adopt Supplementary Material .02 to Rule 
1903 to address how the Exchange will handle orders in the event that 
there are no operable Linkage Handlers to provide routing services. In 
such circumstance, the Exchange will cancel orders that, if processed 
by the Exchange, would violate Rules 1901 (prohibition on trade-
throughs) or 1902 (prohibition on locked and crossed markets).
    The Exchange is also proposing to adopt Rule 1904 (Order 
Cancelation/Release) to address the authority of the Exchange to cancel 
orders (or release routing-related orders) when a technical or systems 
issue occurs.\18\ Specifically, paragraph (a) of the proposed rule 
would expressly authorize the Exchange to cancel orders as it deems to 
be necessary to maintain fair and orderly markets if a technical or 
systems issue occurs at the Exchange,\19\ the Linkage Handler, or 
another exchange to which an Exchange order has been routed. Paragraph 
(a) would also provide that a Linkage Handler may only cancel orders 
being routed to another exchange based on the Exchange's standing or 
specific instructions or as otherwise provided in the Exchange 
rules.\20\ Paragraph (a) would also provide that the Exchange shall 
provide notice of the cancelation of the Members' original order to 
affected Members as soon as practicable.
---------------------------------------------------------------------------

    \18\ Proposed Rule 1904 is nearly identical to CBOE Rule 6.6A 
(Order Cancellation/Release). ISE's proposed Rule 1904 differs from 
CBOE Rule 6.6A in two regards: (1) ISE's proposed (a) clarifies that 
the Exchange will provide notice of cancelation of the Member's 
original order; and (2) ISE does not propose to adopt a 
corresponding paragraph (c) to CBOE's 6.6A(c) as such paragraph has 
no applicability to ISE's system. See Securities and Exchange Act 
Release No. 68585 (January 4, 2013), 78 FR 2308 (January 10, 
2013)(SR-CBOE-2012-108).
    \19\ To confirm, the authority to cancel orders to maintain fair 
and orderly markets under proposed Rule 1904 would apply to any 
technical or systems issue at the Exchange and would include any 
orders at the Exchange (i.e., the authority to cancel orders would 
apply to any orders that are subject to the Exchange's routing 
service and any orders that are not subject to the Exchange's 
routing service). By comparison, the routing service error account 
provisions under proposed Rule 1905 (discussed below) would apply to 
original and corresponding orders that are subject to the Exchange 
routing service.
    \20\ As discussed above, the Exchange will use non-affiliated 
Linkage Handlers to provide the routing services. These Linkage 
Handlers are also not facilities of the Exchange. For all routing 
services, the Exchange determines the logic that provides when, how 
and where orders are routed away to other exchanges. The Linkage 
Handler receives the routing instructions from the Exchange to route 
orders to other exchanges and to report executions back to the 
Exchange. The Linkage Handler cannot change the terms of an order or 
the routing instructions, nor does the Linkage Handler have any 
discretion about where to route an order. See proposed Rule 1903(c), 
(d) and (e). Under paragraph (a) to proposed Rule 1904, the decision 
to take action with respect to orders affected by a technical or 
systems issue shall be made by the Exchange. Depending on where 
those orders are located, a Linkage Handler would be permitted to 
initiate a cancelation of an order(s) pursuant to the Exchange's 
standing or specific instructions or as otherwise provided in 
Exchange Rules (e.g., the Exchange's standing instruction might 
provide, among other things, that the Linkage Handler could initiate 
the cancelation of orders if the Linkage Handler is experiencing 
technical or systems issues routing orders to an away exchange).
---------------------------------------------------------------------------

    Paragraph (b) of the proposed rule provides that the Exchange may 
also determine to release orders being held on the Exchange awaiting an 
away exchange execution as it deems to be necessary to maintain fair 
and orderly markets if a technical or systems issue occurs at the 
Exchange, a Linkage Handler, or another exchange to which an order has 
been routed (the process for ``releasing'' orders is illustrated in 
more detail below).\21\
---------------------------------------------------------------------------

    \21\ A determination by the Exchange to cancel or release orders 
may not cause the Exchange to declare self-help against another 
exchange pursuant to rule 1901(b)(1)(i). If the Exchange determines 
to cancel or release orders, as applicable, under proposed Rule 
1904, but does not declare self-help against that other exchange, 
the Exchange would continue to be subject to the trade-through 
requirements of Rule 1901 with respect to that Exchange.
---------------------------------------------------------------------------

    The examples set forth below describe some of the circumstances in 
which the Exchange may decide to cancel (or release) orders.
    Example 1: If a Linkage Handler or another exchange experiences a 
technical or systems issue that results in the Exchange or Linkage 
Handler not receiving responses to IOC orders sent to the other 
exchange, and that issue is not resolved in a timely manner, then the 
Exchange may seek to cancel the routed orders affected by the 
issue.\22\ For instance, if a Linkage Handler experiences a 
connectivity issue affecting the manner in which it sends and receives 
order messages to or from another exchange, it may be unable to receive 
timely execution or cancelation reports from the other exchange, and 
the Exchange may consequently seek to cancel the affected routed orders 
(e.g., by calling the Linkage Hander and instructing the Linkage 
Handler to attempt to cancel the orders) or perhaps the Linkage Handler 
may initiate the cancelation of the affected routed orders pursuant to 
a standing or specific instruction from the Exchange. In these 
circumstances, the Exchange would also attempt to release the initial 
orders submitted by the Members.\23\
---------------------------------------------------------------------------

    \22\ In a normal situation, (i.e., one in which a technical or 
systems issue does not exist), the Exchange should receive an 
immediate response back from the Linkage Handler reporting any 
executions or cancelations from the other exchange, and would then 
pass the resulting fill or cancelation onto the Member. If, after 
submitting an order for which a corresponding order has been routed 
to another exchange, a Member sends an instruction to cancel the 
original order, the cancelation is held by the Exchange until a 
response is received from the Linkage Handler on the corresponding 
order. For instance, if the other exchange executes the 
corresponding order, the execution would be passed onto the Member 
and the cancelation instruction on the Member's original order would 
be disregarded.
    \23\ Once an initial order is released, any cancelation that a 
Member submitted to the Exchange on the initial order during such a 
situation would be honored. If a Member did not submit a cancelation 
to the Exchange, however, that initial order would remain ``live'' 
and thus be eligible for execution or posting on the Exchange, and 
the Exchange would not treat any execution of the initial order or 
any subsequent routed order related to that initial order as an 
error (unless, of course, the order was itself subject to another 
technical or systems issue).
---------------------------------------------------------------------------

    Example 2: If the Linkage Handler experiences a technical issue, 
which causes it to lose connection to the Exchange and is unable to re-
connect then the Exchange will release the initial order being held by 
the Exchange. The Exchange would also attempt to cancel the routed 
order in these circumstances.\24\
---------------------------------------------------------------------------

    \24\ It is possible that attempts to cancel the routed orders 
may not succeed. If the Exchange receives an execution report on the 
order that that had been routed to an away exchange, then the 
unmatched execution would be considered an ``error position'' under 
proposed Rule 1905.
---------------------------------------------------------------------------

    Example 3: If the Exchange experiences a systems issue, the 
Exchange may take steps to cancel and/or release all outstanding orders 
affected by the issue (which may include orders that may or may not be 
subject to routing services). The Exchange would also attempt to cancel 
any routed orders

[[Page 16736]]

related to the Members' initial orders, if applicable, in these 
circumstances.\25\
---------------------------------------------------------------------------

    \25\ It is possible that attempts to cancel the routed orders 
may not succeed. If the Exchange receives an execution report on the 
order that had been routed to an away exchange, then the unmatched 
execution would be considered an ``error position'' under proposed 
Rule 1905.
---------------------------------------------------------------------------

    Proposed Rule 1905 would provide that each Linkage Handler shall 
maintain, in the name of the Linkage Handler, one or more accounts for 
the purpose of liquidating unmatched trade positions that may occur in 
connection with the away exchange routing service provided under Rule 
1903 (``error positions'').\26\
---------------------------------------------------------------------------

    \26\ Proposed Rule 1905 is nearly identical to CBOE Rule 6.14C, 
however ISE's proposed rule differs in that the Exchange is not 
itself proposing to have an error account. See Securities and 
Exchange Act Release No. 68585 (January 4, 2013), 78 FR 2308 
(January 10, 2013) (SR-CBOE-2012-108).
---------------------------------------------------------------------------

    Paragraph (a) of the proposed rule would provide that errors to 
which the rule would apply include any action or omission by the 
Exchange, a Linkage Handler, or another exchange to which an Exchange 
order has been routed, either of which result in an unmatched trade 
position due to the execution of an original or corresponding order 
that is subject to the away market routing service and for which there 
is no corresponding order to pair with the execution (each a ``routing 
error''). Such routing errors would include, without limitation, 
positions resulting from determinations by the Exchange to cancel or 
release an order pursuant to proposed Rule 1904 (as described above).
    Paragraph (b) of the proposed rule would provide that each Linkage 
Handler will utilize its own error account to liquidate error 
positions. The Exchange believes it is reasonable and appropriate to 
address routing errors through the error account of a Linkage Handler 
in the manner proposed because, among other reasons, it is the 
executing broker associated with these transactions.
    From a Member perspective, there would be no impact resulting from 
the decision to use the Linkage Handler's error account to liquidate 
the error position in these circumstances. A Linkage Handler utilizing 
its own account to liquidate error positions, shall liquidate the error 
positions as soon as practicable. The Linkage Handler could determine 
to liquidate the position itself or have a third party broker-dealer 
liquidate the position on the Linkage Handler's behalf.
    Paragraph (c)(i) also provides that the Linkage Handlers establish 
and enforce policies and procedures reasonably designed to (1) 
adequately restrict the flow confidential and proprietary information 
associated with the liquidation of the error position in accordance 
with Rule 1903,\27\ and (2) prevent the use of information associated 
with other orders subject to the routing services when making 
determinations regarding the liquidation of error positions. In 
addition, paragraph (c)(ii) provides that the Linkage Handler shall 
make and keep records associated with the liquidation of such Linkage 
Handler error positions and shall maintain such records in accordance 
with Rule 17a-4 under the Act.\28\
---------------------------------------------------------------------------

    \27\ Rule 1903(b) provides that the Exchange shall establish and 
maintain procedures and internal controls reasonably designed to 
adequately restrict the flow of confidential and proprietary 
information between the Exchange and the Linkage Handler, and any 
other entity, including any affiliate of the Linkage Handler, and, 
if the Linkage Handler or any of its affiliates engages in any other 
business activities other than providing routing services to the 
Exchange, between the segment of the Linkage Handler or affiliate 
that provides the other business activities and the segment of the 
Linkage Handler that provides the routing services.
    \28\ 17 CFR 240.17a-4.
---------------------------------------------------------------------------

    Paragraph (d) requires that the Exchange make and keep records to 
document all determinations to treat positions as error positions under 
this Rule and maintain such records in accordance with Rule 17a-1 under 
the Act.
    Examples of such error positions due to a routing error may 
include, without limitation, the following:
    Example 4: Error positions may result from routed orders that the 
Exchange or a Linkage Handler attempts to cancel but that are executed 
before the other exchange receives the cancellation message or that are 
executed because the other exchange is unable to process the 
cancellation message. Using the situation described in Example 1 above, 
assume the Exchange seeks to release the initial orders being held by 
the Exchange because it is not receiving timely execution or 
cancellation reports from another exchange. In such a situation, 
although the Exchange would attempt to direct the Linkage Handler to 
cancel the routed corresponding orders, the Linkage Handler may still 
receive executions from the other exchange after connectivity is 
restored, which would not then be allocated to the Member because of 
the earlier decision to release the affected initial orders. Instead, 
the Linkage Handler would post the positions into its account and 
resolve the positions in the manner described above.
    Example 5: Error positions may result from an order processing 
issue at another exchange. For instance, if another exchange 
experienced a systems problem that affects its order processing, it may 
transmit back a message purporting to cancel a routed order, but then 
subsequently submit an execution of that same order for clearance and 
settlement. In such a situation, the Exchange would not then allocate 
the execution to the Member because of the earlier cancellation message 
from the other exchange. Instead, the Linkage Handler would post the 
positions into its account and resolve the positions in the manner 
described above.
    Example 6: Error positions may result if a Linkage Handler receives 
an execution report from another exchange but does not receive clearing 
instructions for the execution from the other exchange. For instance, 
assume that a Member sends the Exchange an order to buy 10 ABC option 
contracts, which causes the Linkage Handler to send an order to another 
exchange that is subsequently executed, cleared and closed out by that 
other exchange, and the execution is ultimately communicated back to 
the Member. On the next trading day (T+1), if the other exchange does 
not provide clearing instructions for that execution, the Linkage 
Handler would still be responsible for settling that Member's purchase 
and therefore would be left with open positions.\29\ Instead, the 
Linkage Handler would post the positions into its account and resolve 
the positions in the manner described above.
---------------------------------------------------------------------------

    \29\ To the extent that a loss is incurred in covering the 
position, the Linkage Handler (on behalf of the Exchange or itself) 
may submit a reimbursement claim to that other exchange.
---------------------------------------------------------------------------

    Example 7: Error positions may result from a technical or systems 
issue that causes orders to be executed in the name of a Linkage 
Handler in connection with its routing services function that are not 
related to any corresponding initial orders of Members. As a result, 
the Exchange would not be able to assign any positions resulting from 
such an issue to Members. Instead, the Linkage Handler would post the 
positions into its account and resolve the positions in the manner 
described above.
    In each of the circumstances described above, the Exchange and its 
Linkage Handler may not learn about an error position until T+1. For 
instance, the Exchange and its Linkage Handler may not learn about an 
error position until either (i) during the clearing process when a 
routing destination has submitted to The Options Clearing Corporation 
(``OCC'') a transaction for clearance and settlement for which the

[[Page 16737]]

Exchange/Linkage Handler never received an execution confirmation, or 
(ii) when another exchange does not recognize a transaction submitted 
by a Linkage Handler to OCC for clearance and settlement. Moreover, the 
affected Members' trade may not be nullified absent express authority 
under Exchange Rules.\30\ As such, the Exchange believes that use of a 
Linkage Handler error account to liquidate the error positions that may 
occur in these circumstances is reasonable and appropriate in these 
circumstances.
---------------------------------------------------------------------------

    \30\ See, e.g., Rule 720.
---------------------------------------------------------------------------

    Because a Linkage Handler will be performing an Exchange function 
on a contractual basis, at the direction of the Exchange, for clarity, 
the Exchange proposes to explicitly exclude Linkage Handlers from the 
limits on compensation contained in Rule 705(d). Liability matters will 
be handled on a contractual basis as they are with other vendors of 
services to the Exchange.
    To assure system stability, the Exchange will transition options 
classes from the current process to the new proposed process using 
Linkage Handlers over a period of time. The Exchange anticipates that 
this transition period would not last more than two months. The 
Exchange will notify Members via Information Circular as products are 
transitioned to the Linkage Handlers.
2. Statutory Basis
    The Exchange believes that the proposed rule change is consistent 
with the Act and rules and regulations thereunder applicable to the 
Exchange and, in particular, the requirements of Section 6(b) of the 
Act.\31\ Specifically, the Exchange believes the proposed rule change 
is consistent with the Section 6(b)(5),\32\ requirements 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.
---------------------------------------------------------------------------

    \31\ 15 U.S.C. 78f(b).
    \32\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------

    In accordance with Section 6(b)(5) of the Act,\33\ the Exchange is 
proposing to retain the current process of exposing orders for price 
improvement, while providing a process that assures orders are handled 
in compliance with the Linkage rules. By removing the requirement that 
Primary Market Makers handle Public Customer Orders and instead 
providing a centralized process for sending ISOs, the proposed rule 
change helps remove impediments to and perfect the mechanism for a free 
and open market and a national market system. Additionally, because the 
proposed rule change provides customer order protection and facilitates 
trading at away exchanges so that customer orders trade at the best 
market prices, the proposed rule change protects investors and the 
public interest.
---------------------------------------------------------------------------

    \33\ Id.
---------------------------------------------------------------------------

    The proposed rule change also protects investors and the public 
interest because it clearly states in the rules how customer orders 
will be handled, which provides transparency to Members regarding the 
routing of their orders to away exchanges. As proposed, customer orders 
will still trade in compliance with the Exchange's routing instructions 
in accordance with the Options Order Protection and Locked/Crossed 
Market Plan, thereby ensuring that the rules of the Exchange are 
designed to promote just and equitable principles of trade, consistent 
with the Act.
    The Exchange intends to contract with one or more Linkage Handlers 
that are not affiliated with the Exchange to route ISOs to other 
exchanges. In connection with this, and consistent with the Act, the 
proposed rule will require that the Exchange establish and maintain 
procedures and internal controls reasonably designed to adequately 
restrict the flow of confidential and proprietary information between 
the Exchange and the Linkage Handler or any other entity, including any 
affiliate of the Linkage Handler, and, if the Linkage Handler or any of 
its affiliates engages in any other business activities other than 
providing routing services to the Exchange, between the segment of the 
Linkage Handler or affiliate that provides the other business 
activities and the segment of the Linkage Handler that provides the 
routing services. Additionally, the proposed rule requires the Exchange 
to provide its Routing Services in compliance with the provisions of 
the Act and the rules thereunder, including, but not limited to, the 
requirements in Section 6(b)(4) and (5) of the Act that the rules of a 
national securities exchange provide for the equitable allocation of 
reasonable dues, fees, and other charges among its Members and other 
persons using its facilities, and not be designed to permit unfair 
discrimination between customers, issuers, brokers, or dealers.
    The Exchange believes that this proposed rule change is in keeping 
with the principles of the Act since the Exchange's ability to cancel 
and release orders during a technical or systems issue and to allow 
Linkage Handlers' to maintain an error account facilitates the smooth 
and efficient operation of the market. Specifically, the Exchange 
believes that allowing the Exchange to cancel and release orders during 
a technical or systems issue (and permitting its Linkage Handlers to 
cancel orders pursuant to standing or specific instructions or as 
otherwise permitted under Exchange Rules) would allow the Exchange to 
maintain fair and orderly markets. Moreover, the Exchange believes that 
allowing a Linkage Handler to assume error positions in its own 
account(s) to liquidate those positions subject to the conditions set 
forth in proposed Rule 1905 would be the least disruptive means to 
address these errors. Overall, the proposed new rule is designed to 
ensure full trade certainty to market participants and to avoid 
disrupting the clearance and settlement process. The proposed new rule 
is also designed to provide a consistent methodology for handling error 
positions in a manner that does not discriminate among Members. The 
proposed new rule is also consistent with Section 6 of the Act insofar 
as it would require the Linkage Handlers to establish controls to 
restrict the flow of any confidential information associated with the 
liquidation of error positions. The proposed new rule also requires the 
Exchange to make and keep records documenting all determinations to 
treat positions as error positions and further requires the Exchange to 
maintain such records in accordance with Rule 17a-1 under the Act.
    Because a Linkage Handler will be performing an Exchange function 
on a contractual basis and the routing is performed at the instruction 
of the Exchange, the Exchange proposes to explicitly exclude Linkage 
Handlers from the limits on compensation contained in Rule 705(d) so 
that the Linkage Handler's liabilities can be handled on a contractual 
basis, as they are with other vendors of services to the Exchange. This 
proposed change is consistent with Section 6(b)(5) of the Act \34\ as 
it will ensure that the contractual terms agreed to will not be 
prohibited under Exchange rules, thereby allowing the Exchange to 
effect this routing arrangement which is designed 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.
---------------------------------------------------------------------------

    \34\ Id.

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

[[Page 16738]]

B. Self-Regulatory Organization's Statement on Burden on Competition

    The proposed rule change does not impose any burden on competition 
that is not necessary or appropriate in furtherance of the purposes of 
the Exchange Act, but rather should facilitate the ability of the 
Exchange to ensure compliance with the Options Order Protection and 
Locked/Crossed Market Plan and, thereby, encourage more robust 
competition. Providing the Exchange with the ability to cancel/release 
orders when a when a technical or systems issue occurs will allow the 
Exchange to run a fair and orderly market, thereby enhancing 
competition as the Exchange will be able to address technical or 
systems issues in an orderly fashion. Providing the Exchange with the 
authority to liquidate unmatched executions that may occur in the 
provision of the Exchange's routing service does not impose a burden on 
competition, but rather should encourage competition as market 
participants will have certainty that any errors that occur will be 
handled efficiently.

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 date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date 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 email to rule-comments@sec.gov. Please include 
File Number SR-ISE-2013-18 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-ISE-2013-18. 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 (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 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-ISE-2013-18 and should be 
submitted on or before April 8, 2013.
---------------------------------------------------------------------------

    \35\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\35\
Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2013-06158 Filed 3-15-13; 8:45 am]
BILLING CODE 8011-01-P


