
[Federal Register Volume 82, Number 149 (Friday, August 4, 2017)]
[Notices]
[Pages 36510-36516]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2017-16402]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-81267; File No. SR-NYSEArca-2017-36]


Self-Regulatory Organizations; NYSE Arca, Inc.; Order Instituting 
Proceedings To Determine Whether To Approve or Disapprove a Proposed 
Rule Change To Adopt NYSE Arca Equities Rule 8.900 To Permit Listing 
and Trading of Managed Portfolio Shares and To List and Trade Shares of 
the Royce Pennsylvania ETF; Royce Premier ETF; and Royce Total Return 
ETF Under Proposed NYSE Arca Equities Rule 8.900

July 31, 2017.
    On April 14, 2017, NYSE Arca, Inc. (``Exchange'' or ``NYSE Arca'') 
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 proposed rule change to: 
(1) Adopt NYSE Arca Equities Rule 8.900 (Managed Portfolio Shares); and 
(2) list and trade shares (``Shares'') of the Royce Pennsylvania ETF, 
Royce Premier ETF, and Royce Total Return ETF under proposed NYSE Arca 
Equities Rule 8.900. The proposed rule change was published for comment 
in the Federal Register on May 4, 2017.\3\ On June 15, 2017, pursuant 
to Section 19(b)(2) of the Act,\4\ the Commission designated a longer 
period within which to approve the proposed rule change, disapprove the 
proposed rule change, or institute proceedings to determine whether to 
disapprove the proposed

[[Page 36511]]

rule change.\5\ The Commission has received four comments on the 
proposed rule change.\6\ This order institutes proceedings under 
Section 19(b)(2)(B) of the Act \7\ to determine whether to approve or 
disapprove the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Securities Exchange Act Release No. 80553 (April 28, 
2017), 82 FR 20932 (``Notice'').
    \4\ 15 U.S.C. 78s(b)(2).
    \5\ See Securities Exchange Act Release No. 80935, 82 FR 28152 
(June 20, 2017). The Commission designated August 2, 2017, as the 
date by which the Commission shall approve or disapprove, or 
institute proceedings to determine whether to disapprove, the 
proposed rule change.
    \6\ See Letter from Gary L. Gastineau, President, ETF 
Consultants.com, Inc., to Brent J. Fields, Secretary, Commission, 
dated May 24, 2017 (``Gastineau Letter''); Letter from Todd J. 
Broms, Chief Executive Officer, Broms & Company LLC, to Brent J. 
Fields, Secretary, Commission, dated May 25, 2017 (``Broms 
Letter''); Letter from James J. Angel, Associate Professor of 
Finance, Georgetown University, McDonough School of Business, to the 
Commission, dated May 25, 2017 (``Angel Letter''); and Terence W. 
Norman, Founder, Blue Tractor Group, LLC, to Brent J. Fields, 
Secretary, Commission, dated July 18, 2017 (``Norman Letter''). The 
comment letters are available on the Commission's Web site at: 
https://www.sec.gov/comments/sr-nysearca-2017-36/nysearca201736.htm.
    \7\ 15 U.S.C. 78s(b)(2)(B).
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Summary of the Exchange's Description of the Proposed Rule Change \8\
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    \8\ For a complete description of the Exchange's proposal, 
including a description of the Precidian ETFs Trust (``Trust''), see 
the Notice supra note 3.
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    The Exchange proposes to adopt new NYSE Arca Equities Rule 8.900, 
which would govern the listing and trading of ``Managed Portfolio 
Shares.'' \9\ The Exchange also proposes to list and trade the Shares 
of the Royce Pennsylvania ETF, Royce Premier ETF, and Royce Total 
Return ETF under proposed NYSE Arca Equities Rule 8.900 (each a 
``Fund,'' and collectively the ``Funds'').
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    \9\ Proposed NYSE Arca Equities Rule 8.900(c)(1) defines the 
term ``Managed Portfolio Share'' as a security that (a) is issued by 
a registered investment company organized as an open-end management 
investment company (``Investment Company'') or similar entity, that 
invests in a portfolio of securities selected by the Investment 
Company's investment adviser consistent with the Investment 
Company's investment objectives and policies; and (b) when 
aggregated in a number of shares equal to a Redemption Unit (as 
defined in proposed NYSE Arca Equities Rule 8.900(c)(3)) or 
multiples thereof, may be redeemed at the request of an authorized 
participant (as defined in the Investment Company's Form N-1A filed 
with the Commission), which authorized participant will be paid 
through a confidential account (``Confidential Account'') 
established for its benefit a portfolio of securities and/or cash 
with a value equal to the next determined net asset value (``NAV'').
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A. Description of the Funds

    The portfolio for each Fund will consist of long and/or short 
positions in U.S.-listed securities and shares issued by other U.S.-
listed exchange-traded funds (``ETFs'').\10\ All exchange-listed equity 
securities in which the Funds will invest will be listed and traded on 
U.S. national securities exchanges.
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    \10\ The Exchange represents that, for purposes of the filing, 
ETFs include Investment Company Units (as described in NYSE Arca 
Equities Rule 5.2(j)(3)); Portfolio Depository Receipts (as 
described in NYSE Arca Equities Rule 8.100); and Managed Fund Shares 
(as described in NYSE Arca Equities Rule 8.600). The ETFs in which a 
Fund will invest all will be listed and traded on national 
securities exchanges. While the Funds may invest in inverse ETFs, 
the Funds will not invest in leveraged (e.g., 2X, -2X, 3X, or -3X) 
ETFs.
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1. Royce Pennsylvania ETF
    The Royce Pennsylvania ETF will invest primarily in U.S.-listed 
equity securities of small-cap companies with market capitalizations up 
to $3 billion that Royce & Associates, LP (``Royce''), the Fund's 
investment sub-adviser, believes are trading below the sub-adviser's 
estimate of their current worth. The Fund may invest in other 
investment companies that invest in equity securities. The Fund may 
sell securities to, among other things, secure gains, limit losses, re-
deploy assets into what Royce deems to be more promising opportunities, 
and/or manage cash levels in the Fund's portfolio.
2. Royce Premier ETF
    The Royce Premier ETF will invest in a limited number of U.S.-
listed equity securities of primarily small-cap companies with market 
capitalizations from $1 billion to $3 billion at the time of 
investment. The Fund may invest in other investment companies that 
invest in equity securities. The Fund may sell securities to, among 
other things, secure gains, limit losses, re-deploy assets into what 
Royce deems to be more promising opportunities, and/or manage cash 
levels in the Fund's portfolio.
3. Royce Total Return ETF
    The Royce Total Return ETF will invest primarily in dividend-paying 
U.S.-listed securities of small-cap companies with market 
capitalizations up to $3 billion that the sub-adviser believes are 
trading below its estimate of their current worth. The Fund may invest 
in other investment companies that invest in equity securities. The 
Fund may sell securities to, among other things, secure gains, limit 
losses, re-deploy assets into what Royce deems to be more promising 
opportunities, and/or manage cash levels in the Fund's portfolio.
4. Other Investments
    According to the Exchange, while each Fund, under normal market 
conditions, will invest primarily in U.S.-listed securities, as 
described above, each Fund may invest its remaining assets in other 
securities and financial instruments as follows: (i) Repurchase 
agreements; \11\ (ii) warrants, rights, and options (limited to 5% of 
total assets); (iii) cash or cash equivalents; \12\ and (iv) other 
investment companies (including money market funds).
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    \11\ The Exchange states that it will be the policy of the Trust 
to enter into repurchase agreements only with recognized securities 
dealers, banks, and the Fixed Income Clearing Corporation.
    \12\ The Exchange states that for purposes of the filing, cash 
equivalents include short-term instruments (instruments with 
maturities of less than 3 months) of the following types: (i) U.S. 
Government securities, including bills, notes, and bonds differing 
as to maturity and rates of interest, which are either issued or 
guaranteed by the U.S. Treasury or by U.S. Government agencies or 
instrumentalities; (ii) certificates of deposit issued against funds 
deposited in a bank or savings and loan association; (iii) bankers' 
acceptances, which are short-term credit instruments used to finance 
commercial transactions; (iv) repurchase agreements and reverse 
repurchase agreements; (v) bank time deposits, which are monies kept 
on deposit with banks or savings and loan associations for a stated 
period of time at a fixed rate of interest; (vi) commercial paper, 
which are short-term unsecured promissory notes; and (vii) money 
market funds.
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5. Investment Restrictions
    Each Fund may invest up to an aggregate amount of 15% of its net 
assets in illiquid assets (calculated at the time of investment),\13\ 
consistent with Commission guidance. Each Fund will monitor its 
portfolio liquidity on an ongoing basis to determine whether, in light 
of current circumstances, an adequate level of liquidity is being 
maintained, and will consider taking appropriate steps in order to 
maintain adequate liquidity if, through a change in values, net assets, 
or other circumstances, more than 15% of a Fund's net assets are 
invested in illiquid assets. Illiquid assets include securities subject 
to contractual or other restrictions on resale and other instruments 
that lack readily available markets as determined in accordance with 
Commission staff guidance.
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    \13\ In reaching liquidity decisions, the Adviser may consider 
the following factors: The frequency of trades and quotes for the 
security; the number of dealers wishing to purchase or sell the 
security and the number of other potential purchasers; dealer 
undertakings to make a market in the security; and the nature of the 
security and the nature of the marketplace in which it trades (e.g., 
the time needed to dispose of the security, the method of soliciting 
offers and the mechanics of transfer).
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    The Funds will not invest in futures, forwards, or swaps. Further, 
each Fund's investments will be consistent with its investment 
objective and will not be used to enhance leverage. While a Fund may 
invest in inverse ETFs, a Fund will not invest in leveraged (e.g., 2X, 
-2X, 3X or -3X) ETFs. Finally, the Funds will not invest in non-U.S.-
listed securities.

[[Page 36512]]

B. Key Features of Managed Portfolio Shares

    While Investment Companies issuing Managed Portfolio Shares would 
be actively-managed, and in that respect would be similar to those 
issuing Managed Fund Shares,\14\ Managed Portfolio Shares would differ 
from Managed Fund Shares in the following respects.
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    \14\ Managed Fund Shares are shares of actively-managed 
Investment Companies listed and traded under NYSE Arca Equities Rule 
8.600.
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     First, issues of Managed Fund Shares are required to 
disseminate their ``Disclosed Portfolio'' at least once daily.\15\ By 
contrast, the portfolio for an issue of Managed Portfolio Shares would 
be disclosed only quarterly.
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    \15\ NYSE Arca Equities Rule 8.600(c)(2) defines the term 
``Disclosed Portfolio'' as the identities and quantities of the 
securities and other assets held by the Investment Company that will 
form the basis for the Investment Company's calculation of NAV at 
the end of the business day. NYSE Arca Equities Rule 
8.600(d)(2)(B)(i) requires that, for Managed Fund Shares, the 
Disclosed Portfolio will be disseminated at least once daily and 
will be made available to all market participants at the same time.
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     Second, in connection with the redemption of shares in 
``Redemption Unit'' size, the delivery of any portfolio securities in 
kind would be effected through a Confidential Account for the benefit 
of the redeeming authorized participant without disclosing the identity 
of the securities to the authorized participant.
     Third, for each series of Managed Portfolio Shares, a 
Verified Intraday Indicative Value (``VIIV'') would be disseminated by 
one or more major market-data vendors every second during the 
Exchange's Core Trading Session (normally, 9:30 a.m. to 4:00 p.m., 
Eastern Time (``E.T.'')).\16\ The Exchange states that dissemination of 
the VIIV will allow investors to determine the estimated intra-day 
value of the underlying portfolio of a series of Managed Portfolio 
Shares and will provide a close estimate of that value throughout the 
trading day.\17\
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    \16\ Proposed NYSE Arca Equities Rule 8.900(c)(2) defines the 
VIIV as the estimated indicative value of a Managed Portfolio Share 
based on all of the issuer's holdings as of the close of business on 
the prior business day, priced and disseminated in one second 
intervals, and subject to validation by a pricing verification agent 
of the Investment Company that is responsible for comparing multiple 
independent pricing sources to establish the accuracy of the VIIV. 
The specific methodology for calculating the VIIV will be disclosed 
on each Fund's Web site.
    \17\ According to the Exchange, the VIIV should not be viewed as 
a ``real-time'' update of the NAV per Share of each Fund, because 
the VIIV may not be calculated in the same manner as the NAV, which 
will be computed once a day, generally at the end of the business 
day.
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C. Arbitrage of Managed Portfolio Shares

    The Exchange asserts that market makers will be able to make 
efficient and liquid markets priced near the VIIV, as long as a VIIV is 
disseminated every second, market makers have knowledge of a Fund's 
means of achieving its investment objective, and market makers are 
permitted to engage in ``bona fide arbitrage,'' as described below. 
According to the Exchange, market makers would employ bona fide 
arbitrage in addition to risk-management techniques such as 
``statistical arbitrage,'' \18\ which the Exchange states is currently 
used throughout the financial services industry to make efficient 
markets in ETFs.
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    \18\ According to the Exchange, statistical arbitrage enables a 
trader to construct an accurate proxy for another instrument, 
allowing the trader to hedge the other instrument or buy or sell the 
instrument when it is cheap or expensive in relation to the proxy. 
Statistical analysis permits traders to discover correlations based 
purely on trading data without regard to other fundamental drivers. 
These correlations are a function of differentials, over time, 
between one instrument or group of instruments and one or more other 
instruments. Once the nature of these price deviations has been 
quantified, a universe of securities is searched in an effort to, in 
the case of a hedging strategy, minimize the differential. Once a 
suitable hedging proxy has been identified, a trader can minimize 
portfolio risk by executing the hedging basket. The trader then can 
monitor the performance of this hedge throughout the trade period 
making correction where warranted.
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    Moreover, according to the Exchange, if an authorized participant 
believes that Shares of a Fund are trading at a price that is higher 
than the value of the underlying portfolio--for example, if the market 
price for the Shares is higher than the VIIV--then the authorized 
participant may sell Shares of the Fund short and instruct its 
``Trusted Agent'' \19\ to buy portfolio securities for its Confidential 
Account. When the market price of the Shares falls in line with the 
value of the portfolio, the authorized participant can then close out 
its positions in both the Shares and the portfolio securities. 
According to the Exchange, the authorized participant's purchase of the 
portfolio securities into its Confidential Account, combined with the 
sale of Shares, may create downward pressure on the price of Shares 
and/or upward pressure on the price of the portfolio securities, 
bringing the market price of Shares and the value of a Fund's portfolio 
securities closer together.
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    \19\ Proposed Commentary .04 to NYSE Arca Equities Rule 8.900 
requires that authorized participants and non-authorized participant 
market makers redeeming Managed Portfolio Shares sign an agreement 
with an agent (``Trusted Agent'') to establish a Confidential 
Account, for the benefit of such authorized participant or non-
authorized participant market maker, that will receive all 
consideration from the issuer in a redemption. A Trusted Agent may 
not disclose the consideration received in a redemption except as 
required by law or as provided in the Investment Company's Form N-
1A, as applicable.
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    Similarly, according to the Exchange, an authorized participant 
could buy Shares and instruct the Trusted Agent to sell the underlying 
portfolio securities from its Confidential Account in an attempt to 
profit when a Fund's Shares are trading at a discount to its portfolio. 
According to the Exchange, the authorized participant's purchase of a 
Fund's Shares in the secondary market, combined with the sale of the 
portfolio securities from its Confidential Account, may create upward 
pressure on the price of Shares and/or downward pressure on the price 
of portfolio securities, driving the market price of Shares and the 
value of a Fund's portfolio securities closer together. The Exchange 
states that, according to Precidian Funds LLC (``Adviser''), the 
investment adviser to the Trust, this process is identical to how many 
authorized participants currently arbitrage existing traditional ETFs, 
except for the use of the Confidential Account.
    According to the Exchange, a market participant that is not an 
authorized participant would also be able to establish a Confidential 
Account and could engage in arbitrage activity without using the 
creation or redemption processes described above. If such a market 
participant believes that a Fund is overvalued relative to its 
underlying assets, the Exchange states, that market participant could 
sell Shares short and instruct its Trusted Agent to buy portfolio 
securities in its Confidential Account and then wait for the trading 
prices to move toward parity and close out the positions in both the 
Shares and the portfolio securities to realize a profit from the 
relative movement of their trading prices. Similarly, according to the 
Exchange, this market participant could buy Shares and instruct the 
Trusted Agent to sell the underlying portfolio securities in an attempt 
to profit when a Fund's Shares are trading at a discount to a Fund's 
underlying or reference assets.

D. The Creation and Redemption Procedures

    The Exchange states that, generally, Shares will be purchased and 
redeemed on an in-kind basis, so that, except where the purchase or 
redemption will include cash under the circumstances described in the 
applicable Fund's registration statement, purchasers will be required 
to purchase ``Creation Units'' by making an in-kind deposit of

[[Page 36513]]

specified instruments (``Deposit Instruments''), and shareholders 
redeeming their Shares will receive an in-kind transfer of specified 
instruments (``Redemption Instruments''). On any given business day, 
the names and quantities of the instruments that constitute the Deposit 
Instruments and the names and quantities of the instruments that 
constitute the Redemption Instruments will be identical, and these 
instruments may be referred to, in the case of either a purchase or a 
redemption, as the ``Creation Basket.''
    In the case of a redemption, a Fund's custodian (``Custodian'') 
will typically deliver securities to the Confidential Account on a pro 
rata basis with a value approximately equal to the value of the Shares 
tendered for redemption at the order cut-off time established by the 
Fund. The Custodian will make delivery of the securities by appropriate 
entries on its books and records transferring ownership of the 
securities to the authorized participant's Confidential Account, 
subject to delivery of the Shares redeemed. The Trusted Agent of the 
Confidential Account will in turn liquidate, hedge, or otherwise manage 
the securities based on instructions from the authorized 
participant.\20\
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    \20\ The Exchange represents that an authorized participant will 
issue execution instructions to the Trusted Agent and be responsible 
for all associated profit or losses. Like a traditional ETF, the 
authorized participant has the ability to sell the basket securities 
at any point during normal trading hours.
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    If the Trusted Agent is instructed to sell all securities received 
at the close on the redemption date, the Trusted Agent will pay the 
liquidation proceeds net of expenses, plus or minus any cash balancing 
amount, to the authorized participant through DTC.\21\ The redemption 
securities that the Confidential Account receives are expected to 
mirror the portfolio holdings of a Fund pro rata.
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    \21\ According to the Exchange, under applicable provisions of 
the Internal Revenue Code, the authorized participant is expected to 
be deemed a ``substantial owner'' of the Confidential Account 
because it receives distributions from the Confidential Account. As 
a result, the Exchange states, all income, gain, or loss realized by 
the Confidential Account will be directly attributed to the 
authorized participant. The Exchange also states that, in a 
redemption, the authorized participant will have a basis in the 
distributed securities equal to the fair market value at the time of 
the distribution, and any gain or loss realized on the sale of those 
Shares will be taxable income to the authorized participant.
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E. Availability of Information

    Each Fund will be required to file with the Commission its complete 
portfolio schedules for the second and fourth fiscal quarters on Form 
N-CSR under the 1940 Act, and to file its complete portfolio schedules 
for the first and third fiscal quarters on Form N-Q under the 1940 Act, 
within 60 days of the end of the quarter. Form N-Q requires funds to 
file the same schedules of investments that are required in annual and 
semi-annual reports to shareholders. The Trust's SAI and each Fund's 
shareholder reports will be available free upon request from the Trust. 
These documents and forms may be viewed on-screen or downloaded from 
the Commission's Web site at www.sec.gov.
    In addition, the VIIV will be widely disseminated by one or more 
major market-data vendors at least every second during the Exchange's 
Core Trading Session through the facilities of the Consolidated Tape 
Association. According to the Exchange, the VIIV will include all 
accrued income and expenses of a Fund and will assure that any 
extraordinary expenses, booked during the day, that would be taken into 
account in calculating a Fund's NAV for that day are also taken into 
account in calculating the VIIV.
    For purposes of the VIIV, securities held by a Fund will be valued 
throughout the day based on the mid-point between the disseminated 
current national best bid and offer. According to the Exchange, by 
utilizing the mid-point pricing for purposes of VIIV calculation, stale 
prices are eliminated and more accurate representation of the real-time 
value of the underlying securities is provided to the market. 
Specifically, according to the Exchange, quotations based on the mid-
point of bid/ask spreads more accurately reflect current market 
sentiment by providing real time information on where market 
participants are willing to buy or sell securities at that point in 
time. The Exchange also believes that the use of quotations will dampen 
the impact of any momentary spikes in the price of a portfolio 
security.
    According to the Exchange, each Fund will utilize two independent 
pricing sources to provide pricing information. Each Fund will also 
utilize a ``Pricing Verification Agent'' and establish a computer-based 
protocol that will permit the Pricing Verification Agent to 
continuously compare the two data streams from the independent pricing 
sources on a real time basis.\22\ A single VIIV will be disseminated 
publicly for each Fund; however, the Pricing Verification Agent will 
continuously compare the public VIIV against a non-public alternative 
intra-day indicative value to which the Pricing Verification Agent has 
access. If it becomes apparent that there is a material discrepancy 
between the two data streams, according to the proposal, the Exchange 
will be notified and have the ability to halt trading in a Fund until 
the discrepancy is resolved.\23\ Each Fund's board of directors will 
review the procedures used to calculate the VIIV and maintain its 
accuracy as appropriate, but not less than annually. The specific 
methodology for calculating the VIIV will be disclosed on each Fund's 
Web site.
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    \22\ A Fund's Custodian will provide, on a daily basis, the 
constituent basket file comprised of all securities plus any cash to 
the independent pricing agent(s) for purposes of pricing.
    \23\ Proposed Rule 8.900(d)(2)(C) provides that, upon 
notification to the Exchange by the Investment Company or its agent 
that (i) the prices from the multiple independent pricing sources to 
be validated by the Investment Company's Pricing Verification Agent 
differ by more than 25 basis points for 60 seconds in connection 
with pricing of the VIIV, or (ii) that the VIIV of a series of 
Managed Portfolio Shares is not being priced and disseminated in 
one-second intervals, as required, the Exchange will halt trading in 
the Managed Portfolio Shares as soon as practicable. The halt in 
trading would continue until the Investment Company or its agent 
notifies the Exchange that the prices from the independent pricing 
sources no longer differ by more than 25 basis points for 60 seconds 
or that the VIIV is being priced and disseminated as required. The 
Investment Company or its agent would be responsible for monitoring 
that the VIIV is being priced and disseminated as required and 
whether the prices to be validated from multiple independent pricing 
sources differ by more than 25 basis points for 60 seconds.
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F. Surveillance

    The Exchange represents that trading in the Shares will be subject 
to the existing trading surveillances, administered by the Exchange, as 
well as cross-market surveillances administered by the Financial 
Industry Regulatory Authority (``FINRA'') on behalf of the Exchange, 
which are designed to detect violations of Exchange rules and 
applicable Federal securities laws. The Exchange represents that these 
procedures are adequate to properly monitor Exchange trading of the 
Shares in all trading sessions and to deter and detect violations of 
Exchange rules and Federal securities laws applicable to trading on the 
Exchange.\24\
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    \24\ The Exchange states that these surveillances generally 
focus on detecting securities trading outside their normal patterns, 
which could be indicative of manipulative or other violative 
activity. The Exchange represents that the Exchange or FINRA, on 
behalf of the Exchange, or both, will communicate as needed 
regarding trading in the Shares, underlying stocks, ETFs, and 
exchange-listed options with other markets and other entities that 
are members of the Intermarket Surveillance Group (``ISG''), and the 
Exchange or FINRA, on behalf of the Exchange, or both, may obtain 
trading information regarding such securities from such markets and 
other entities. In addition, the Exchange may obtain information 
regarding trading in the Shares, underlying stocks, ETFs and 
exchange-listed options from markets and other entities that are 
members of ISG or with which the Exchange has in place a 
comprehensive surveillance sharing agreement.

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[[Page 36514]]

    The Exchange represents that the Funds' Adviser will make available 
daily to FINRA and the Exchange the portfolio holdings of each Fund in 
order to facilitate the performance of the surveillances referred to 
above. In addition, the Exchange states that it has a general policy 
prohibiting the distribution of material, non-public information by its 
employees.

II. Summary of Comment Letters

    The Commission has received four comment letters on the proposed 
rule change, each of which express opposition to the proposed rule 
change.\25\ As of the date of this order instituting proceedings, the 
Exchange has not submitted a response to the comments.
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    \25\ See supra note 6.
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    A. Gastineau Letter.\26\ The commenter opposes approval of the 
proposed rule change and recommends imposition of a number of 
requirements in the event the proposed rule change and exemptive 
application are approved. As an initial matter, the commenter believes 
that the proposed selective disclosure of Fund portfolio holdings 
information to Trusted Agents trading on behalf of Confidential Account 
holders would constitute insider trading and would violate Federal 
securities laws.
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    \26\ The Gastineau Letter is available at: https://www.sec.gov/comments/sr-nysearca-2017-36/nysearca201736-1773725-152542.pdf.
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    In addition, the commenter asserts that market makers will face 
significant impediments to successfully arbitrage the Shares and 
predicts that this will lead to the Shares trading at wider bid-ask 
spreads and more variable premiums/discounts than actively-managed ETFs 
available today. First, the commenter questions the Exchange's 
assertion that the VIIV will provide an adequate basis for ensuring a 
Fund's ongoing price value alignment and secondary market trading 
efficiency. In evaluating the Exchange's statements regarding VIIVs, 
the commenter asserts that their utility should be compared not to the 
intraday indicative values (``IIVs'') of existing ETFs but rather to 
the independently derived, real-time estimates of underlying fund value 
that ETF market makers use today to identify arbitrage opportunities 
and manage their risks (``MM IIVs''). The commenter asserts that, 
because existing actively managed ETFs (and most index ETFs) provide 
full daily disclosure of their current portfolio, market makers of 
transparent funds have access to far better information about the 
current value of fund holdings than the proposed VIIVs would provide 
and, correspondingly, VIIVs will be significantly less precise than MM 
IIVs. The commenter also asserts that MM IIVs include significant 
information that would not be reflected in VIIVs, noting as follows:
     In calculating VIIVs, Fund securities would be valued 
based on the mid-point between the current national best bid and offer 
quotations. The commenter characterizes the bid-ask midpoint as a 
``fairly crude valuation metric'' that does not capture important 
trading information incorporated into MM IIVs, such as the current bid-
ask spread, the depth of the current order book on the bid and offer 
side of the market, and the predominance of current trading between 
bid-side and offer-side transactions.
     VIIVs would be calculated and disseminated every second 
and, while this interval may seem sufficient, MM IIVs are updated in 
fractions of a second (milliseconds or microseconds).
     The VIIV verification process would leave significant room 
for dissemination of erroneous values. For example, a Fund's Pricing 
Verification Agent would take no action to address observed 
discrepancies in VIIV input prices until the calculated Fund values 
differ by at least 25 bps for 60 seconds. The commenter characterizes 
that disparity as ``huge,'' asserting that it would be wider than the 
customary bid-ask spread of most domestic equity ETFs.
     The VIIV process would not address all potential intraday 
valuation errors. The commenter describes that corporate actions must 
be accurately reflected in the VIIV, which can be challenging, and 
market makers would not be able to verify that corporate actions are 
appropriately reflected in a Fund's VIIVs because of the non-
transparent portfolio.
     The process for adjusting VIIVs in the event of trading 
halts in portfolio securities is cumbersome and likely to result in 
errors in disseminated VIIVs. Throughout a halt, which may be 
protracted, the Fund would continue to disseminate VIIVs that do not 
reflect fair values of the halted security, and therefore may vary 
significantly from the Fund's true underlying value at that time. The 
commenter asserts that MM IIVs would almost certainly arrive at a fair 
estimate of a Fund's current underlying value far faster than the VIIV 
specified process.
    The commenter asserts that reliance on faulty VIIVs may expose 
market makers to unrecoverable losses, noting that: (1) Neither the 
Exchange nor its agents nor the Reporting Authority would be liable for 
disseminating erroneous VIIVs; and (2) the circumstances under which 
the independent pricing sources and the Pricing Verification Agent are 
legally liable for such errors are limited. According to the commenter, 
market makers' forced reliance on VIIVs to determine intraday Fund 
valuations is a source of significant incremental risk for them versus 
making markets in existing ETFs. The commenter predicts that this will 
result in the Shares trading at wider bid-ask spreads and more variable 
premiums and discounts to NAV than similar existing ETFs.
    The commenter also criticizes the Confidential Accounts structure. 
The commenter asserts that, compared to the usual manner in which 
market makers in existing ETFs engage in arbitrage and buy and sell 
Creation Basket instruments, the Confidential Accounts arrangement 
exposes market makers to significant additional costs, risks, and lost 
opportunities, including:
     Less control over trade execution and trade order 
management when implementing portfolio hedging and Creation Unit 
transactions, which will result in more cost and risk, and less profit 
opportunity.
     No ability for market makers to use their market knowledge 
and market positions to enhance arbitrage profits and minimize costs.
     Reduced incentive for third-party service providers to 
trade expeditiously and with low market impact.
     Little or no ability for market makers to monitor trading 
in Confidential Accounts to ensure best execution or to evaluate 
trading performance.
     Forced pro rata hedging, which the commenter states is 
very often not the best hedge. Sub-optimal hedging results in less 
efficient arbitrage.
     Given the more-involved routing of trade instructions and 
trade orders that the Confidential Account structure would necessitate, 
the commenter states that hedging and Creation Unit instrument 
transactions through Confident Accounts will almost certainly take 
longer, on average, for a market maker to execute than similar 
transactions that the market maker executes internally. According to 
the commenter, slower executions may translate into less efficient 
arbitrage.
     Potentially significant explicit costs to establish and 
maintain Confidential Accounts.
    Additionally, the commenter questions the Exchange's statements

[[Page 36515]]

regarding the efficiency and utility of statistical arbitrage. The 
commenter states that while market makers may be able to gain some 
useful information about a Fund's current composition by knowing the 
Fund's investment objective and tracking performance correlations over 
time versus a known index, the amount of portfolio information that can 
be gleaned using this approach is limited. The commenter states that, 
as a result, any portfolio hedge constructed using this information 
would be subject to meaningful basis risk, especially during times of 
market stress or volatility.
    The commenter expresses concerns regarding data security, 
misappropriation, and misuse of a Fund's confidential portfolio 
information in light of the dissemination of this data across a 
potentially broad network of Trusted Agents, affiliated broker-dealers, 
and other Confidential Account service providers. The commenter also 
raises concerns regarding the possibility that market participants 
could use the VIIV to reverse-engineer the Funds' portfolio holdings, 
subjecting the Funds to the dilutive effects of front-running. The 
commenter asserts that ``it is far from a settled question that the 
Funds would not ever be susceptible to reverse engineering.''
    B. Broms Letter.\27\ The commenter opposes the proposed rule 
change. The commenter asserts that the proposed selective disclosure of 
confidential Fund holdings information to Trusted Agents for trading on 
behalf of Confidential Account holders would violate Federal securities 
laws. In addition, the commenter believes that the mechanism for 
ensuring secondary market trading efficiency in the Shares is 
``unreliable'' and predicts that the Shares will likely trade at 
significantly wider bid-ask spreads and/or more variable premiums/
discounts than existing ETFs. The commenter also expresses concerns 
regarding the following:
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    \27\ The Broms Letter is available at: https://www.sec.gov/comments/sr-nysearca-2017-36/nysearca201736-1772689-152536.pdf.
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     The likelihood that the Shares' trading performance will 
be especially poor during periods of market stress and volatility.
     The ability of the Fund to ensure the security of 
confidential information disseminated to Trusted Agents.
     Potentially significant added Fund costs and risks 
associated with calculating, verifying, and disseminating the VIIV and 
associated Fund warranties.
     The potential for frequent Share trading halts.
     The likely incidence of erroneous Share trades and the 
absence of an Exchange program to detect and remedy such trades.
     The potential for reverse engineering of a Fund's 
portfolio holdings.
     The tax risk due to the Funds' distinctive in-kind 
redemption program.
     The costs, risk, and uncertainties to broker-dealers 
serving as authorized participants and non-authorized participant 
market makers in meeting their compliance obligations with respect to 
securities traded on their behalf through Confidential Accounts.
    C. Angel Letter.\28\ The commenter opposes the proposal. The 
commenter believes that the opaque nature of the products will make 
arbitrage more difficult and the added costs and risks will lead to 
wider deviations of the market price from the underlying asset value. 
In addition, the commenter raises concerns that the Funds may fare 
worse than traditional ETFs during times of market disruption given 
their opacity and the complexity of the arbitrage relationship between 
the Funds and the underlying securities. The commenter also expresses 
concern that selective disclosure of portfolio information could raise 
issues under Regulation FD and that the use of Confidential Accounts 
could raise issues under Regulation SHO.
---------------------------------------------------------------------------

    \28\ The Angel Letter is available at: https://www.sec.gov/comments/sr-nysearca-2017-36/nysearca201736-1774133-152313.pdf.
---------------------------------------------------------------------------

    In addition, the commenter expresses the following concerns:
     It is unclear whether a firm's risk management would have 
access to the contents of Confidential Accounts. If a firm's risk 
management does not have access to such information, the firm would be 
subject to too much risk, but if the firm's risk management does have 
access, information barriers would create compliance issues.
     Positions held in the Confidential Account not closed out 
by the end of the day would have to be settled, and that the settlement 
information would be available to settlement personnel.
     The Trusted Agents would have serious compliance burdens, 
and that these burdens could drive up the cost of being a Trusted 
Agent, which would subsequently drive up the cost of arbitrage. Higher 
costs and compliance risks would severely limit the number of firms 
willing to take on the burden of becoming Trusted Agents, and the 
resulting lack of competition could lead to higher fees and inferior 
service. In the event that there were many Trusted Agents, the 
likelihood of data breaches would increase.
    In addition, the commenter believes that the VIIV calculations are 
dangerously flawed because they rely on sometimes flawed bid-ask 
quotes. The commenter believes that the VIIV calculations should 
instead be based on the last trade, and if the underlying market is 
closed or the underlying asset has not traded recently, then a 
reasonable fair value methodology should be used.
    D. Norman Letter.\29\ The commenter opposes the proposed rule 
change. The commenter refutes the Trust's statistical analysis that 
purports to demonstrate that the Funds' portfolio compositions could 
not be reverse engineered.\30\ The commenter's analysis concludes that 
reverse engineering of a Fund's portfolio is in fact ``achievable with 
a substantial degree of accuracy.'' \31\ The commenter also asserts 
that, without knowledge of a Fund's underlying stocks, market makers 
may be unable to hedge their risks, which would result in wider and 
more persistent spreads or the market maker choosing not to make a 
market in the Shares. In addition, the commenter questions the 
sufficiency of disseminating the VIIV at one-second intervals, given 
that high frequency trading takes place in milliseconds, and raises 
concerns about potential systems failures that may disrupt the 
dissemination of VIIV. Finally, the commenter also believes that 
selective disclosure of portfolio information to Trusted Agents would 
violate Federal securities laws, and expresses concern regarding the 
security of confidential portfolio information.
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    \29\ The Norman Letter is available at: https://www.sec.gov/comments/sr-nysearca-2017-36/nysearca201736-1863492-156216.pdf.
    \30\ See Third Amended and Restated Application for an Order 
under Section 6(c) of the Investment Company Act of 1940 (``1940 
Act'') for exemptions from various provisions of the 1940 Act and 
rules thereunder (File No. 812-14405), dated May 2, 2017, at Exhibit 
E (``Additional Research on the Ability to Reverse Engineer the 
Proposed Precidian ETF,'' by Ricky Alyn Cooper, Ph.D., dated August 
2015).
    \31\ See Norman Letter, Appendix One (``The Reverse Engineering 
of Portfolio Compositions,'' by Dr. Anthony Hayter, dated July 17, 
2017).
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III. Proceedings to Determine Whether To Approve or Disapprove SR-
NYSEArca-2017-36 and Grounds for Disapproval Under Consideration

    The Commission is instituting proceedings pursuant to Section 
19(b)(2)(B) of the Act \32\ to determine whether the proposed rule 
change should be approved or disapproved. Institution of such 
proceedings is

[[Page 36516]]

appropriate at this time in view of the legal and policy issues raised 
by the proposed rule change. Institution of proceedings does not 
indicate that the Commission has reached any conclusions with respect 
to any of the issues involved. Rather, as described below, the 
Commission seeks and encourages interested persons to provide comments 
on the proposed rule change.
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    \32\ 15 U.S.C. 78s(b)(2)(B).
---------------------------------------------------------------------------

    Pursuant to Section 19(b)(2)(B) of the Act,\33\ the Commission is 
providing notice of the grounds for disapproval under consideration. 
The Commission is instituting proceedings to allow for additional 
analysis of the proposed rule change's consistency with Section 6(b)(5) 
of the Act, which requires, among other things, that the rules of a 
national securities exchange be ``designed to prevent fraudulent and 
manipulative acts and practices, to promote just and equitable 
principles of trade, . . . to remove impediments to and perfect the 
mechanism of a free and open market and a national market system, and, 
in general, to protect investors and the public interest.'' \34\
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    \33\ Id.
    \34\ 15 U.S.C. 78f(b)(5).
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IV. Procedure: Request for Written Comments

    The Commission requests that interested persons provide written 
submissions of their views, data, and arguments with respect to the 
issues identified above, as well as any other concerns they may have 
with the proposal. In particular, the Commission invites the written 
views of interested persons concerning whether the proposal is 
consistent with Section 6(b)(5) or any other provision of the Act, or 
the rules and regulations thereunder. Although there do not appear to 
be any issues relevant to approval or disapproval that would be 
facilitated by an oral presentation of views, data, and arguments, the 
Commission will consider, pursuant to Rule 19b-4, any request for an 
opportunity to make an oral presentation.\35\
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    \35\ Section 19(b)(2) of the Act, as amended by the Securities 
Act Amendments of 1975, Public Law 94-29 (June 4, 1975), grants the 
Commission flexibility to determine what type of proceeding--either 
oral or notice and opportunity for written comments--is appropriate 
for consideration of a particular proposal by a self-regulatory 
organization. See Securities Act Amendments of 1975, Senate Comm. on 
Banking, Housing & Urban Affairs, S. Rep. No. 75, 94th Cong., 1st 
Sess. 30 (1975).
---------------------------------------------------------------------------

    Interested persons are invited to submit written data, views, and 
arguments regarding whether the proposal should be approved or 
disapproved by August 25, 2017. Any person who wishes to file a 
rebuttal to any other person's submission must file that rebuttal by 
September 8, 2017.
    The Commission asks that commenters address the sufficiency of the 
Exchange's statements in support of the proposal, which are set forth 
in the Notice,\36\ in addition to any other comments they may wish to 
submit about the proposed rule change. Specifically, the Commission 
seeks comment on the statements of the Exchange contained in the 
Notice, the issues raised by the commenters, and any other issues 
raised by the proposed rule change. In addition, the Commission seeks 
comment on whether the trading of the Shares would be consistent with 
the maintenance of fair and orderly markets. In this regard, the 
Commission specifically seeks comment regarding market makers' ability 
to make markets in the Shares and the sufficiency of the proposed VIIV 
as pricing information to market participants. Further, the Commission 
solicits comments on whether the selective disclosure of portfolio 
holdings to a Trusted Agent, as well as the non-transparent structure 
of the Funds, could result in any information asymmetry that would be 
inconsistent with the Act or other Federal securities laws or rules and 
regulations thereunder.
---------------------------------------------------------------------------

    \36\ See supra note 3.
---------------------------------------------------------------------------

    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-NYSEArca-2017-36 on the subject line.

Paper Comments

     Send paper comments in triplicate to Secretary, Securities 
and Exchange Commission, 100 F Street NE., Washington, DC 20549-1090.

All submissions should refer to File Numbers SR-NYSEArca-2017-36. 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 these filings 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-NYSEArca-2017-36 and should 
be submitted on or before August 25, 2017. Rebuttal comments should be 
submitted by September 8, 2017.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\37\
---------------------------------------------------------------------------

    \37\ 17 CFR 200.30-3(a)(57).
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Eduardo A. Aleman,
Assistant Secretary.
[FR Doc. 2017-16402 Filed 8-3-17; 8:45 am]
 BILLING CODE P


