
[Federal Register Volume 79, Number 138 (Friday, July 18, 2014)]
[Notices]
[Pages 42067-42070]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2014-16887]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-72603; File No. SR-Phlx-2014-24]


Self-Regulatory Organizations; NASDAQ OMX PHLX LLC; Order 
Approving a Proposed Rule Change and Amendment No. 1 Thereto To Modify 
the Order Execution Algorithm of NASDAQ OMX PSX

July 14, 2014.

I. Introduction

    On May 13, 2014, NASDAQ OMX PHLX LLC (``Exchange'' or ``Phlx'') 
filed with the Securities and Exchange Commission (``Commission''), 
pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ a proposal to modify the 
order execution algorithm of Phlx's NASDAQ OMX PSX facility (``PSX''). 
The Exchange filed Amendment No. 1 to the proposed rule change on May 
16, 2014.\3\ The proposed rule, as amended, was published for comment 
in the Federal Register on May 30, 2014.\4\ The Commission received no 
comments on the proposal. This order approves the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ In Amendment No. 1, the Exchange corrected figures in both 
the filing and the proposed rule text for price and share amounts 
used in examples of the proposed execution algorithms.
    \4\ See Securities Exchange Act Release No. 72250 (May 23, 
2014), 79 FR 31147 (May 30, 2014) (``Notice'').

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[[Page 42068]]

II. Description of the Proposed Rule Change

    PSX currently uses a price/time model for the execution of incoming 
orders against orders resting on the PSX book.\5\ Phlx now proposes to 
adopt a system under which a security may trade using one of three 
execution algorithms: (1) The current price/time model (``Price/Time 
Algorithm''), (2) a pro rata algorithm based on the price and size of 
posted orders, with allocations made on a pro rata basis among orders 
with similar price and display characteristics (``Pro Rata 
Algorithm''), or (3) a variation of the Pro Rata Algorithm that awards 
a minimum 40% allocation of an incoming executable order to the 
displayed order that establishes the best price (``Price-Setting 
Variation'').\6\
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    \5\ See Securities Exchange Act Release No. 69452 (April 25, 
2013), 78 FR 25512 (May 1, 2013) (SR-Phlx-2013-24). Phlx launched 
PSX in 2010 with an order execution algorithm that allocated 
executions of incoming orders to orders on the PSX book based on the 
price and size of posted orders. See Securities Exchange Act Release 
No. 62877 (September 9, 2010), 75 FR 56633 (September 16, 2010) (SR-
Phlx-2010-79).
    \6\ Id. at 31148.
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A. Price/Time Algorithm

    Phlx is not proposing to alter the operation of the price/time 
algorithm for those securities to which it currently applies, although 
it is modifying the applicable rule text in certain respects to improve 
its clarity. Under the Price/Time Algorithm, PSX executes trading 
interest in the following manner:
     Price--Better priced trading interest is executed ahead of 
inferior-priced trading interest.
     Display--Displayed Quotes/Orders \7\ at a particular price 
are executed in time priority among such interest.
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    \7\ Phlx Rule 3301(e)(2) defines a Displayed Order as one that 
is designated for display on an anonymous basis in PSX's order 
display service.
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     Non-Displayed Interest--Non-Displayed Orders \8\ and the 
reserve portion of Quotes and Reserve Orders \9\ (collectively, ``Non-
Displayed Interest'') at a particular price are executed in time 
priority among such interest.
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    \8\ Phlx Rule 3301(e)(3) defines a Non-Displayed Order as a 
limit order that is not displayed in the PSX system, but remains 
available for potential execution against all incoming orders.
    \9\ Phlx Rule 3301(f)(2) defines a Reserve Order as a limit 
order that has both a round-lot displayed size as well as an 
additional non-displayed share amount.
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B. Pro Rata Algorithm

    Under the pro rata algorithm, PSX will execute trading interest in 
the following order: \10\
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    \10\ For examples of the Pro Rata Algorithm, please see Phlx 
Rule 3307(b)(2)(A).
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     Price--Better priced trading interest is executed ahead of 
inferior-priced trading interest.
     Display--Displayed Orders at a particular price with a 
size of at least one round lot will be executed ahead of Displayed 
Orders with a size of less than one round lot, Non-Displayed Interest 
with a size of at least one round lot, Minimum Quantity Orders,\11\ and 
Non-Displayed Interest with a size of less than one round lot.
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    \11\ Phlx Rule 3301(f)(5) defines a Minimum Quantity Order as an 
order that will not execute unless a specified minimum quantity of 
shares can be obtained.
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     Allocation to Displayed Orders with a Size of One Round 
Lot or More--As among equally priced Displayed Orders with a size of at 
least one round lot, PSX will allocate portions of incoming executable 
orders to displayed trading interest pro rata based on the size of the 
Displayed Orders, rounding down to the nearest round lot.
     Next, portions of an order that would be executed in a 
size other than a round lot if they were allocated on a pro rata basis 
will be allocated for execution against available displayed trading 
interest, one round lot at a time, in the order of the displayed size 
(measured at the time when the pro rata allocation began) of the 
trading interest at that price (largest to smallest), or, as among 
orders with an equal size, based on time priority. Incoming orders with 
a size of less than one round lot will be allocated against available 
displayed trading interest in the order of the size of trading interest 
at that price (largest to smallest), or, as among orders with an equal 
size, based on time priority.
     Displayed Odd-Lot Orders--As among equally priced 
Displayed Orders with a size of less than one round lot, PSX will 
allocate incoming orders against available trading interest in the 
order of the size of the trading interest at that price (largest to 
smallest), or, as among orders with an equal size, based on time 
priority.
     Non-Displayed Interest with a Size of One Round Lot or 
More--As among equally priced Non-Displayed Interest with a size of at 
least one round lot (excluding Minimum Quantity Orders), PSX will 
allocate portions of incoming executable orders to Non-Displayed 
Interest pro rata based on the size of Non-Displayed Interest, rounding 
down to the nearest round lot. Next, portions of an order that would be 
executed in a size other than a round lot if they were allocated on a 
pro rata basis will be allocated for execution against available Non-
Displayed Interest, one round lot at a time, in the order of the size 
(measured at the time when the pro rata allocation began) of the 
trading interest at that price (largest to smallest), or, as among 
orders with an equal size, based on time priority. Incoming orders with 
a size of less than one round lot will be allocated against available 
Non-Displayed Interest in the order of the size of trading interest at 
that price (largest to smallest), or, as among orders with an equal 
size, based on time priority.
     Minimum Quantity Orders--As among equally priced Minimum 
Quantity Orders, PSX will allocate incoming executable orders to 
Minimum Quantity Orders in the ascending order of the size of the 
minimum quantity conditions assigned to the orders. Thus, an order with 
a minimum quantity condition of 300 shares will be filled before an 
order with a minimum quantity condition of 400 shares. If there are two 
or more Minimum Quantity Orders with an equal minimum quantity 
condition, PSX will determine the order of execution based on time 
priority.
     Non-Displayed Odd-Lot Orders--As among equally priced Non-
Displayed Interest with a size of less than one round lot, PSX will 
allocate incoming orders based on the size of the Non-Displayed 
Interest, in the order of the size of the trading interest at that 
price (largest to smallest), or, as among orders with an equal size, 
based on time priority.

C. Price-Setting Variation

    For any security that trades under the Pro Rata Algorithm, Phlx may 
adopt a variation of the algorithm that guarantees a specified 
percentage allocation for an order that sets the best price on PSX 
under certain conditions. According to Phlx, the goal of the variation 
would be to increase the extent to which market participants commit 
capital to display significant size at a price that narrows the spread, 
thereby enhancing price discovery and transparency. The ``Guaranteed 
Percentage'' for all securities subject to this variation will be 
40%.\12\
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    \12\ If Phlx determines to change the Guaranteed Percentage, it 
will file a proposed rule change to do so.
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    When this variation of the Pro Rata Algorithm is employed, a 
Displayed Order with a size of at least one round lot that establishes 
the best price in PSX when it is entered will be a ``Price-Setting 
Order'' if such order is executed; provided, however, that a better 
priced order will become the Price-Setting Order if it is executed. The 
allocation to the Price-Setting Order will be the

[[Page 42069]]

greater of the Guaranteed Percentage or the allocation that the order 
would otherwise receive under the pro rata algorithm.\13\
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    \13\ For examples of the Price-Setting Variation to the Pro Rata 
Algorithm, please see Phlx Rule 3307(b)(2)(B).
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    If the Price-Setting Order receives an allocation greater than the 
Guaranteed Percentage, the remainder of the order will be allocated to 
other displayed trading interest in the manner provided for Displayed 
Orders when the variation for Price-Setting Orders is not in effect (as 
provided in Rule 3307(b)(2)(A)). If the Price-Setting Order receives 
the Guaranteed Percentage, PSX will then allocate round lot portions of 
the incoming order that are not allocated to the Price-Setting Order to 
other displayed trading interest pro rata based on the size of such 
Displayed Orders (excluding the Price-Setting Order), rounding down to 
the nearest round lot. Next, portions of an order that would be 
executed in a size other than a round lot if they were allocated on a 
pro rata basis will be allocated for execution against available 
displayed trading interest (excluding the Price-Setting Order), one 
round lot at a time, in the order of the displayed size (measured at 
the time when the pro rata allocation began) of the trading interest at 
that price (largest to smallest), or, as among orders with an equal 
size, based on time priority. In the case of incoming orders with a 
size of less than one round lot, the Price-Setting Order will receive 
the Guaranteed Percentage of the order, and the remainder of the order 
will be allocated to available displayed trading interest in the order 
of the size of displayed trading interest at that price (largest to 
smallest), or, as among orders with an equal size, based on time 
priority.

D. Selection of Applicable Algorithm and Notice to Member Organizations

    The algorithm applicable to a particular security will be selected 
by the President of the Exchange or another officer of the Exchange 
designated by the President, and will be listed on a publicly available 
Web site. The Exchange will notify member organizations of changes in 
the algorithm applicable to a particular security through a notice that 
is widely disseminated at least one month in advance of the change. In 
selecting the applicable algorithm, the Exchange will conduct ongoing 
assessments of the depth of liquidity made available by member 
organizations in particular stocks, with the goal of maximizing the 
displayed size, minimizing the quoted spread, and increasing the extent 
of PSX's time at the national best bid and best offer. Factors to be 
considered for each security would include the size of member 
organizations' quotes, the amount of time that PSX is at the national 
best bid and best offer, PSX's market share, and observed changes in 
volume, average execution size, and average order size. The Exchange 
represents that it would examine these factors and consider adjusting 
the algorithm applicable to a security if it concluded that 
improvements in the security's performance on PSX might result.
    The Exchange states that it expects that immediately following the 
implementation of this proposed rule change, most if not all securities 
will trade using the Price-Setting Variation, with the goal of 
increasing the size of displayed liquidity in PSX, but that adjustments 
would then be made based on the observed performance of the securities.

III. Discussion and Commission Findings

    After careful review, the Commission finds that the Exchange's 
proposal, as modified by Amendment No. 1, is consistent with the 
requirements of Section 6 of the Act \14\ and the rules and regulations 
thereunder applicable to a national securities exchange.\15\ In 
particular, the Commission finds that the proposed rule change is 
consistent with the requirements of Section 6(b)(5) of the Act,\16\ 
which requires, among other things, that the Exchange's rules 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 facilitating 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. The Commission notes that 
the proposal will provide additional execution algorithms on PSX, which 
should provide PSX Participants with additional choices with regard to 
their execution needs and strategies.
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    \14\ 15 U.S.C. 78(f).
    \15\ In approving this proposed rule change, the Commission 
notes that it has considered the proposed rule's impact on 
efficiency, competition, and capital formation. See 15 U.S.C. 
78c(f).
    \16\ 15 U.S.C. 78f(b)(5).
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    The Commission notes that the Price-Time Algorithm is the 
prevailing execution algorithm for the exchange trading of cash equity 
securities. The Commission has previously determined price-time 
execution algorithms to be consistent with the Act.\17\
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    \17\ See, e.g., Securities Exchange Act Release No. 54155 (July 
14, 2006), 71 FR 41291 (July 20, 2006) (SR-NASDAQ-2006-001); 
Securities Exchange Act Release No. 59154 (December 23, 2008), 73 FR 
80468 (December 31, 2008) (SR-BSE-2008-48).
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    The Commission further believes that PSX's Pro Rata Algorithm may 
encourage participants to display greater size on PSX.\18\ This in turn 
could facilitate a more efficient execution of larger orders and foster 
best execution and price discovery. Accordingly, the Commission 
believes that the Pro Rata Algorithm proposed by PHLX is consistent 
with the Act.
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    \18\ The Commission notes that when it originally approved 
Phlx's proposal to establish PSX, the execution algorithm for PSX 
allocated executions of incoming orders to orders on the PSX book 
based on the price and size of posted orders, rather than price and 
time, with allocations made on a pro rata basis among orders with 
similar price and display characteristics. See Securities Exchange 
Act Release No. 62877, supra note 5.
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    With respect to the Price-Setting Variation, the Exchange proposes 
that the allocation to the Price-Setting Order will be the greater of 
40% (the Guaranteed Percentage) or the percentage that the order would 
otherwise be allocated under the Pro Rata algorithm.\19\ The Commission 
notes that, with respect to the options exchanges, the Commission has 
approved a 40% trade participation right as consistent with the 
Act.\20\ The Price-Setting Order is designed to reward aggressive 
quoting by PSX Participants by granting such PSX Participants a 
Guaranteed Percentage. The Commission believes that the proposed 
priority provision for the Price-Setting Order constitutes an 
appropriate approach, consistent with the Act, for incentivizing and 
rewarding market participants who quote aggressively to set the 
Exchange BBO.
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    \19\ The proposed rule is also similar to NYSE Rule 72(a), which 
provides priority to a bid or offer that is established as the only 
displayable bid or offer made at a particular price (and such bid or 
offer is the only displayable interest when such price is or becomes 
the Exchange BBO (the ``setting interest'')).
    \20\ See, e.g., Securities Exchange Act Release No. 47628 (April 
3, 2003), 68 FR 17697 (April 10, 2003) (approving proposal by the 
Chicago Board Options Exchange, Inc. to establish rules for 
CBOEdirect trading system); Securities Exchange Act Release No. 
50819 (December 8, 2004), 69 FR 75093 (December 15, 2004) (approving 
proposal by the International Securities Exchange, LLC to establish 
the Price Improvement Mechanism).
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    Finally, the Commission notes that the rule sets forth the criteria 
for selection of an execution algorithm for a particular security and 
provides timely public notice to PSX Participants of any changes to the 
execution algorithm. The Commission notes that the algorithm applicable 
to a particular security will be selected by the

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Exchange and listed on a publicly available Web site, at least one 
month in advance of the change.

IV. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\21\ that the proposed rule change (SR-Phlx-2014-24) be, and it 
hereby is, approved.
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    \21\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\22\
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    \22\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary .
[FR Doc. 2014-16887 Filed 7-17-14; 8:45 am]
BILLING CODE 8011-01-P


