
[Federal Register Volume 78, Number 59 (Wednesday, March 27, 2013)]
[Notices]
[Pages 18657-18660]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2013-07007]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-69200; File No. SR-CBOE-2013-031]


Self-Regulatory Organizations; Chicago Board Options Exchange, 
Incorporated; Notice of Filing and Immediate Effectiveness of a 
Proposed Rule Change Relating to the Equity Rights Program of CBSX

March 21, 2013.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(the ``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given 
that on March 7, 2013, Chicago Board Options Exchange, Incorporated 
(the ``Exchange'' or ``CBOE'') filed with the Securities and Exchange 
Commission (the ``Commission'') the proposed rule change as described 
in Items I, II and III below, which Items have been prepared by the 
Exchange. The Commission is publishing this notice to solicit comments 
on the proposed rule change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    CBOE proposes to modify an equity rights program of CBOE Stock 
Exchange, LLC (``CBSX'').\3\ There are no proposed changes to the rule 
text.
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    \3\ CBSX is a stock trading facility of the Exchange.
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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 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 Exchange 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
    The purpose of the Program is to promote the long-term interests of 
CBSX by providing incentives designed to encourage current and future 
CBSX owners and market participants to contribute to the growth and 
success of CBSX, by being active liquidity providers and takers to 
provide enhanced levels of trading volume to CBSX's market, through an 
opportunity to increase their proprietary interests in CBSX's 
enterprise value.
    Under the Program, in exchange for providing order flow to CBSX, a 
participant may earn EPE Units representing the right to acquire Series 
B Shares of CBSX pursuant to the terms of the Program. Under the 
Program, a participant may earn up to the number of EPE Units that 
would constitute, upon conversion, up to an aggregate of 19.99% of 
then-outstanding CBSX equity (``Earn-Out Percentage''). EPE Units may 
be earned based on a participant's trading activity in the initial 
three years of the Program (``Measurement Period One'') and in years 
three \4\ [sic] through five of the Program (``Measurement Period 
Two''). EPE Units are earned and issued on the day following the end of 
the applicable Measurement Period.
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    \4\ Commission staff confirmed on a conference call with CBOE 
staff that Measurement Period Two consists of years 4 and 5 of the 
Program. Conference call between Tina Barry, Senior Special Counsel, 
Division of Trading and Markets, Commission, and Laura Dickman, 
Attorney, CBOE, on March 12, 2013.
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    A participant will be eligible to earn EPE Units in Measurement 
Period One provided that the participant is a Trading Permit Holder 
(``TPH'') in good standing of CBSX, and that the participant has 
achieved ``MADV'' during that period. ``MADV'' means a ``minimum 
average daily volume'' of executions by the participant at CBSX that 
equals at least 0.25% of ``TCAV.'' ``TCAV'' means the ``total 
consolidated average daily trading volume'' of all NMS stocks as 
disseminated pursuant to an effective national market system plan 
during the applicable Measurement Period, less a 3% downward adjustment 
for trades in quantities below 100 shares (odd-lot trades).\5\ Upon 
achieving the

[[Page 18658]]

MADV, a participant will receive EPE Units in an amount equal to an 
Earn-Out Percentage of 1.4%. For each 0.01% contribution of TCAV above 
MADV, the participant's Earn-Out Percentage will increase 0.16% (up to 
a maximum of the Measurement Period One Cap, as defined below). For 
example, if a participant achieves 0.25% of TCAV during Measurement 
Period One, the participant will receive an Earn-Out Percentage of 
1.4%. If the participant achieves 0.26% of TCAV during Measurement 
Period One, the participant will receive an Earn-Out Percentage of 
1.56%. This would continue up to the Measurement Period One Cap. 
Participants will not earn any EPE Units if they do not achieve MADV 
during Measurement Period One. Notwithstanding the foregoing, in the 
event of a liquidity event occurring in the first year of Measurement 
Period One, the Earn-Out Percentage may not exceed 7.5%.
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    \5\ Currently, odd-lot trades are not disseminated under 
national market system (``NMS'') plans and thus are not included in 
total consolidated trading volume of NMS stocks. Based on industry 
discussions, CBSX expects that within the next year, NMS plans will 
require exchanges to report odd-lot trades to the tape under those 
plans. Pursuant to data that CBSX received from the Consolidated 
Tape Association (CTA) and Consolidated Quotation (CQ) Plans, as 
well as the OTC/UTP Plan (the two national market system plans for 
reporting stock trades), if odd-lot trades were reported to the 
tape, then the volume of larger exchanges (e.g. NYSE, NASDAQ) would 
increase by approximately 5%, which would cause total consolidated 
trading volume of NMS stocks to increase close to that amount. 
However, the volume of CBSX would increase by approximately 1.5% to 
2.0%. The increase in total consolidated trading volume would thus 
be skewed against and much higher than the increase in volume on 
CBSX. The purpose of the 3% adjustment to total consolidated trading 
volume is to address this bias. CBSX believes the Program would make 
it unnecessarily more difficult to achieve MADV without the 
adjustment, as the amount of odd-lot trading on CBSX would not 
offset the amount of the total consolidated trading volume 
increases.
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    A participant will be eligible to earn EPE Units in Measurement 
Period Two provided that the participant is and remains a TPH in good 
standing of CBSX and that the participant achieved the MADV in 
Measurement Period One. Participants will not earn any EPE Units during 
Measurement Period Two if their contributions of TCAV are less than or 
equal to the MADV. For each 0.01% contribution of TCAV above MADV in 
Measurement Period Two, the participant will receive an EPE Unit Earn-
Out 0.058706% up to a maximum of the Measurement Period Two Cap (as 
defined below). For example, if a participant achieves MADV during 
Measurement Period Two, the participant will earn no EPE Units. If the 
participant achieves 0.26% of TCAV during Measurement Period Two, the 
participant will receive an Earn-Out Percentage of 0.058706%. If the 
participant achieves 0.27% of TCAV during Measurement Period Two, the 
participant will receive an Earn-Out Percentage of 0.117412%. This 
would continue up to the Measurement Period Two Cap.
    As mentioned above, certain caps apply under the Program. In 
Measurement Period One, a participant may earn a maximum Earn-Out 
Percentage of 15% (the ``Measurement Period One Cap''). In Measurement 
Period Two, a participant may earn a maximum Earn-Out Percentage of 
4.99% (the ``Measurement Period Two Cap'' and, together with the 
Measurement Period One Cap, the ``Participant Cap''). In addition, no 
additional EPE Units may be earned or issued under the Program if those 
additional EPE Units, together with the EPE Units outstanding at the 
time, would be convertible into Series B Shares representing more than 
a 33% percentage interest of then-outstanding CBSX equity (the 
``Program Cap''). Any awards otherwise in excess of the Program Cap 
will be reduced among participants on a pro-rata basis.
    EPE Units may be converted to Series B Shares upon a ``Conversion 
Event.'' A Conversion Event includes (i) a transfer of a majority of 
the outstanding voting shares of CBSX to a third party and certain 
other liquidity events, (ii) in the event that during any six month 
period during Measurement Period One the trading volume on CBSX equals 
at least 3% of TCAV, (iii) the expiration of Measurement Period Two, or 
(iv) the termination of the Program. Until the conversion of the EPE 
Units upon the occurrence of a Conversion Event, the EPE Units will not 
entitle the holder thereof to any voting, allocation or distribution 
rights or any share of the income, gain, loss, deduction or other tax 
attributes or assets of CBSX, or any rights to participate as a CBSX 
owner in any way. The Series B Shares issuable upon conversion of EPE 
Units as a result of a Conversion Event will entitle the holder thereof 
to all of the rights, benefits, privileges and obligations then 
applicable under the Third Amended and Restated Operating Agreement of 
CBSX, dated as of December 30, 2011, as amended from time to time (the 
``Operating Agreement'') to outstanding Series B Shares and the holder 
will become an owner with respect to the Series B Shares issued upon 
conversion. Upon the occurrence of a Conversion Event, EPE Units earned 
by a participant will, at participant's election, convert into Series B 
Shares.
    With respect to any or all Series B Shares and/or EPE Units held by 
a participant, CBSX will have the right to purchase from the 
participant up to all of the participant's Series B Shares or EPE Units 
at a price based on a valuation provided by an independent third party 
agreed upon by CBSX and the participant (the ``Independent Auditor''). 
CBSX may exercise its call right at any time, in CBSX's sole 
discretion, after Measurement Period Two. CBSX may exercise its call 
right no more than one (1) time with respect to any participant.
    With respect to any or all Series B Shares held by a participant 
that have been earned under the Program, the participant will have the 
right to sell to CBSX up to all of the participant's Series B Shares so 
earned at a price based on a valuation provided by the Independent 
Auditor. A participant may exercise its put right at any time, in the 
participant's sole discretion, after two years after the occurrence of 
a Conversion Event, provided that (i) No more than 20% of the 
participant's ownership (as of the date of the first put exercise) may 
be put in any 12-month period; (ii) CBSX may limit the participant's 
exercise of the put right in any given period to the extent necessary 
to preclude the Independent Auditor from issuing an opinion that raises 
substantial doubt about CBSX's ability to continue as a going concern 
for the subsequent 12 months; and (iii) exercise of the put right will 
in all respects remain subject to the terms and conditions of Section 
1.8 of the Operating Agreement.\6\ The costs of the Independent 
Auditor's valuation and going concern assessment will be borne solely 
by the participant(s) seeking to exercise the put right.
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    \6\ Section 1.8 of the Operating Agreement provides that 
notwithstanding anything otherwise contained in the Operating 
Agreement to the contrary, so long as CBSX is a facility of CBOE, in 
the event that CBOE, in its sole discretion, determines that any 
action, transaction or aspect of an action or transaction, is 
necessary or appropriate for, or interferes with, the performance or 
fulfillment of CBOE's regulatory functions, its responsibilities 
under the Act or as specifically required by the Committee, (i) 
CBOE's affirmative vote will be required to be included in order to 
constitute a super majority vote of the owners,'' (ii) without 
CBOE's affirmative vote no such action, transaction or aspect of an 
action or transaction will be authorized, undertaken or effective, 
and (iii) CBOE will have the sole and exclusive right to direct that 
any required, necessary or appropriate act, as it may determine in 
its sole discretion, to be taken or transaction be undertaken by or 
on behalf of CBSX without regard to the vote, act or failure to vote 
or act by any other party in any capacity.
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    All CBSX Series B Owners at the date of effectiveness of the 
Program, and any subsequent Series B Owner that purchases Series B 
Shares in an amount equaling 0.01% percentage interest \7\

[[Page 18659]]

and otherwise qualifies for Program participation during an Enrollment 
Period, may request designation as a participant under the Program. 
``Enrollment Period'' means a period of time designated by the Board 
from time to time to allow interested qualifying parties to enroll in 
the Program and satisfy the eligibility criteria required of Program 
participants. In addition, to be designated as a participant, an 
applicant must: (i) Be a TPH in good standing of CBSX; (ii) qualify as 
an ``accredited investor'' as such term is defined in Regulation D of 
the Securities Act of 1933; \8\ and (iii) have executed all required 
documentation for Program participation. All applicants will be subject 
to the same eligibility and designation criteria, and all Participants 
will participate in the Program on the same terms, conditions and 
restrictions.
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    \7\ Section 3.2 of the Operating Agreement provides that the 
Board may issue Series B Shares to new Owners in its sole 
discretion, up to 0.01% of then-outstanding CBSX equity. In 
connection with the approval of the Program, the Board authorized 
issuance of 0.01% of Series B Shares to any TPH that requests to 
participate in the Program and satisfies the other eligibility 
criteria for the Program, as described in this filing.
    \8\ The purpose of this criterion relates to the ability of CBSX 
to sell Series B Shares pursuant to an exemption from registration 
under the Securities Act of 1933. The definition of ``accredited 
investor'' under Rule 501(a)(1) of the Act includes any broker or 
dealer registered pursuant to Section 15 of the Act. CBOE Rules 
3.2(a)(ii) and 3.3(a)(ii) require a TPH to be registered as a broker 
or dealer pursuant to Section 15 of the Act, so all CBSX TPHs will 
satisfy this criterion.
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    As discussed above, the purpose of the Program is to encourage TPHs 
to direct greater trade volume to CBSX to enhance trading volume in 
CBSX's market. Increased volume will provide for greater liquidity and 
enhanced price discovery, which benefits all market participants. Other 
exchanges currently engage in the practice of incentiving increased 
order flow in order to attract liquidity providers through equity 
sharing arrangements.\9\ The Program similarly intends to attract order 
flow, which will increase liquidity, thereby providing greater trading 
opportunities and tighter spreads for other market participants and 
causing a corresponding increase in order flow from these other market 
participants. The Program will similarly reward the liquidity providers 
that provide this additional volume with a potential proprietary 
interest in CBSX.
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    \9\ See, e.g., Securities Exchange Act Release No. 34-62358 
(June 22, 2010), 75 FR 37861 (June 30, 2010) (SR-NSX-2010-006) 
(order approving National Stock Exchange, Inc. equity rights program 
[sic]); and Securities Exchange Act release No. 64742 (June 24, 
2011), 76 FR 38436 (June 30, 2011) (SR-NYSEAmex-2011-018) (order 
approving NYSE Amex LLC (now NYSE MKT LLC) options facility, 
including a volume-based equity plan).
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    The specific volume thresholds of the Program's Measurement Periods 
were set based upon business determinations and an analysis of current 
volume levels. The volume thresholds are intended to incentive firms to 
increase the number of orders that are sent to CBSX to achieve the next 
threshold. Increasing the number of orders that are sent to CBSX will 
in turn provide tighter and more liquid markets, and therefore attract 
more business overall.
    CBSX currently intends to initiate an Enrollment Period, and 
thereafter commence Measurement Period One on a date determined by CBSX 
after effectiveness of the instant rule filing. CBSX will notify TPHs 
of the implementation of the Program and the dates of the Enrollment 
Period by regulatory circular, and will post a copy of this rule filing 
on its Web site. Any CBSX TPH that is interested in participating in 
the Program may contact CBSX for more information and legal 
documentation and will be required to enter into a nondisclosure 
agreement regarding this additional program information.
2. Statutory Basis
    The Exchange believes the proposed rule change is consistent with 
the Act and the rules and regulations thereunder applicable to the 
Exchange and, in particular, the requirements of Section 6(b) of the 
Act.\10\ Specifically, the Exchange believes the proposed rule change 
is consistent with the Section 6(b)(5) \11\ requirements that the rules 
of an exchange be designed to prevent fraudulent and manipulative acts 
and practices, to promote just and equitable principles of trade, to 
foster cooperation and coordination with persons engaged in regulating, 
clearing, settling, processing information with respect to, and 
facilitation transactions in securities, 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. 
Additionally, the Exchange believes the proposed rule change is 
consistent with the Section 6(b)(5)\12\ requirement that the rules of 
an exchange not be designed to permit unfair discrimination between 
customers, issuers, brokers, or dealers. The Exchange also believes the 
proposed rule change is consistent with Section 6(b)(4) of the Act,\13\ 
which requires that Exchange rules provide for the equitable allocation 
of reasonable dues, fees, and other charges among its TPHs and other 
persons using its facilities.
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    \10\ 15 U.S.C. 78f(b).
    \11\ 15 U.S.C. 78f(b)(5).
    \12\ Id.
    \13\ 15 U.S.C. 78f(b)(4).
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    In particular, the proposed rule change is equitable and not 
unfairly discriminatory, because all TPHs may elect to participate (or 
elect to not participate) in the Program and earn EPE Units on the same 
terms and conditions, assuming they satisfy the same eligibility 
criteria as described above. The eligibility criteria are objective; 
thus, all TPHs have the ability to satisfy them. The Board also has 
authorized CBSX to issue Series B Shares to any TPH that requests 
designation to participate in the Program and otherwise satisfies the 
eligibility criteria to ensure that all TPHs will have the opportunity 
to own Series B Shares and thus participate in the Program if they so 
choose. In addition, participants will receive Earn-Out Percentages 
based on fixed volume thresholds that will apply to all participants. 
The Exchange believes the Program is equitable and reasonable because 
an increase in volume and liquidity would benefit all market 
participants by providing more trading opportunities and tighter 
spreads, even to those market participants that do not participate in 
the Program. Additionally, the Exchange believes the proposed rule 
change is consistent with the Act because, as described above, the 
Program is designed to bring greater volume and liquidity to CBSX, 
which will benefit all market participants by providing tighter quoting 
and better prices, all of which perfects the mechanism for a free and 
open market and national market system.
    Given the robust competition for volume among equity markets, many 
of which offer the same products, implementing a program to attract 
orders like the one being proposed in this filing is consistent with 
the above-mentioned goals of the Act. This is especially true for the 
smaller equity markets, such as CBSX, which is competing for volume 
with much larger exchanges that dominate the equity trading industry. 
CBSX has a trading volume of less than 1% of total consolidated trading 
volume, so it is unlikely that the Program could cause any competitive 
harm to the equity market or to market participants, even though the 
Program is offering equity rights to participants in exchange for 
participants' provision of liquidity. The Program is a modest attempt 
by a small equity market to attract order volume away from larger 
competitors by adopting an innovative pricing strategy, as evidenced by 
the volume thresholds of the Program that represent fractions of 1% of 
TCAV. In support of this, the

[[Page 18660]]

Exchange notes that, unless there is a liquidity event or the Program 
terminates, participants may only convert their EPE Units earned during 
Measurement Period One to Series B Shares if there is a six-month 
period during which the trading volume on CBSX equals at least 3% of 
TCAV. While such percentage of TCAV would represent a large volume 
increase for CBSX, it would represent a minimal reduction in volume of 
its larger competitors in the industry.
    The Exchange notes that access to exchange quotes is also more 
efficient than ever and helps to promote price transparency and 
competition among exchanges for order flow. Orders are processed and 
executed electronically in milliseconds, and markets are more open to 
new users than ever before. Order routers can simultaneously view and 
execute orders at the exchange with the lowest transaction fees when 
more than one exchange has, or may match, the best price. When more 
than one exchange is displaying the best price (which is often the 
case), brokers often assign lowest priority in their order routing 
tables to the exchange with the highest transaction fees (or lowest 
rebates). This means that if an exchange sets high fees (or low 
rebates), it risks losing business to exchanges with lower fees (or 
higher rebates)--the same competitive pressure used by our free markets 
every day to constrain price. Plus, broker-dealers, who have accepted 
responsibility for handling orders on behalf of customers, are 
monitoring displayed quotes. They are typically more sophisticated and 
better-informed market participants than customers in non-financial 
markets, and therefore are better able to make the types of decisions 
that will produce efficient markets and constrain prices. Equity 
markets have different pricing models based on their competitive 
assessment of the incentives that will best attract order flow and 
liquidity. This competition has helped to exert competitive pressure on 
the exchanges' fee structure. The Exchange believes that the Program 
will help further competition, because market participants will have 
yet another option in determining where to execute orders and post 
liquidity if they factor the benefits of CBSX equity participation into 
the determination.

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

    CBOE does not believe that the proposed rule change will impose any 
burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act. CBOE believes that the proposed 
rule change will improve competition by providing market participants 
with another option when determining where to execute orders and post 
liquidity. See additional discussion above under ``Statutory Basis'' 
regarding the proposed rule change's impact on competition.

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

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

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

    The foregoing rule change has become effective pursuant to Section 
19(b)(3)(A) of the Act \14\ and paragraph (f) of Rule 19b-4 \15\ 
thereunder. At any time within 60 days of the filing of the proposed 
rule change, the Commission summarily may temporarily suspend such rule 
change if it appears to the Commission that such action is necessary or 
appropriate in the public interest, for the protection of investors, or 
otherwise in furtherance of the purposes of the Act. If the Commission 
takes such action, the Commission will institute proceedings to 
determine whether the proposed rule change should be approved or 
disapproved.
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    \14\ 15 U.S.C. 78s(b)(3)(A).
    \15\ 17 CFR 240.19b-4(f).
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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-CBOE-2013-031 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-CBOE-2013-031. 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 
10:00 a.m. and 3:00 p.m. Copies of the filing also will be available 
for inspection and copying at the principal office of the Exchange. All 
comments received will be posted without change; the Commission does 
not edit personal identifying information from submissions. You should 
submit only information that you wish to make available publicly. All 
submissions should refer to File Number SR-CBOE-2013-031 and should be 
submitted on or before April 17, 2013.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\16\
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    \16\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2013-07007 Filed 3-26-13; 8:45 am]
BILLING CODE 8011-01-P


