Daily Rules, Proposed Rules, and Notices of the Federal Government
Currently, Rule 7150(f) permits a PIP to begin at or better than the National Best Bid or Offer ("NBBO"). Further, Rule 7150(f)(1) provides that, at the commencement of the PIP, all quotes and orders on the BOX Book prior to the PIP Broadcast that are equal to or better than (i) the Single-Priced Primary Improvement Order price, or (ii) the PIP Start Price of a Max Improvement Primary Improvement Order, except any proprietary quote or order from the Initiating Participant, will be executed immediately against the customer order designated for the PIP ("PIP Order") in price/time priority.
Rule 7150(f)(4) sets forth exceptions to time priority in the execution of the PIP Order. The Rule currently provides that no order for a non-market maker broker-dealer account of an Options Participant may be executed before all Public Customer order(s), whether an Improvement Order, including a Customer PIP Order ("CPO"), or an Unrelated Order,
The Exchange also proposes to add new Rule 7150(g)(3). New Rule 7150(g)(3) provides that the Primary Improvement Order follows in time priority all quotes and orders on the BOX Book prior to the PIP Broadcast that are equal to the (i) Single-Priced Primary Improvement Order price; or (ii) execution price of a Max Improvement Primary Improvement Order that results in the balance of the PIP Order being fully executed, except any proprietary quote or order from the Initiating Participant. Any such proprietary quote or order from the Initiating Participant will not be executed against the PIP Order during or at the conclusion of the PIP.
The Exchange noted that, among the quotes or orders on the BOX Book prior to the PIP Broadcast at the final execution price level, the PIP Order will be matched against the best prevailing quotes or orders on BOX (except any pre-PIP Broadcast proprietary quote or order from the Initiating Participant) in accordance with price/time priority, as set forth in Rule 7130.
Under the proposal, Unrelated Orders submitted to BOX will continue to execute as they do currently under Rules 7150(i) and 7150(j). Accordingly, Unrelated Orders received after a PIP Broadcast will execute in time priority after quotes and orders at the same price that were on the BOX Book prior to the PIP Broadcast.
The Exchange stated that in connection with this proposed rule change, it will provide to the Commission the following monthly data, and corresponding analysis, related to the PIP:
Further, BOX will provide, for the first and third Wednesday of each month, the: (a) Total number of PIP auctions on that date; (b) number of PIP auctions where the order submitted to the PIP was fewer than 50 contracts; (c) number of PIP auctions where the order submitted to the PIP was 50 contracts or greater; (d) number of PIP auctions where the number of Participants (excluding the Initiating Participant) was zero, one, two, three, four, etc. Finally, the Exchange will provide information each month with respect to situations in which the PIP is terminated prematurely or a Market Order, Limit Order, or BOX-Top Order immediately execute with a PIP Order before the PIP's conclusion. The following information will be provided: (1) The number of times that a Market Order, Limit Order, or BOX-Top Order in the same series on the same side of the market as the PIP Order prematurely terminated the PIP, and (a) the number of times such orders were entered by the same (or affiliated) firm that initiated the PIP that was terminated, and (b) the number of times such orders were entered by a firm (or an affiliate of such firm) that participated in the execution of the PIP Order; (2) for the orders addressed in each of items (1)(a) and (1)(b) above, the percentage of PIP premature terminations due to the receipt, during the PIP, of a Market Order, Limit Order, or BOX-Top Order in the same series on the same side of the market as the PIP Order, and the average amount of price improvement provided to the PIP Order where the PIP is prematurely terminated; (3) the number of times that a Market Order, Limit Order, or BOX-Top Order in the same series on the opposite side of the market as the PIP Order immediately executed against the PIP Order, and (a) the number of times such orders were entered by the same (or affiliated) firm that initiated the PIP, and (b) the number of times such orders were entered by a firm (or an affiliate of such firm) that participated in the execution of the PIP Order; (4) for the orders addressed in each of items (3)(a) and (3)(b) above, the percentage of PIP early executions due to the receipt, during the PIP, of a Market Order, Limit Order, or BOX-Top Order in the same series on the opposite side of the market as the PIP Order; and the average amount of price improvement provided to the PIP Order where the PIP Order is immediately executed; and (5) the average amount of price improvement provided to the PIP Order when the PIP runs for 100 milliseconds.
BOX stated that, upon Commission approval of the proposal and at least one week prior to implementation of the proposed rule change, it will issue an Informational Circular to Options Participants informing them of the proposal's implementation date.
After careful review of the proposal, the comment letter, and the Exchange Response, the Commission finds that the proposed rule change is consistent with the requirements of the Act and the
The Commission believes that the proposal is designed to provide additional opportunities for customers to receive price improvement for their PIP Orders. Under the current rule, if an order is submitted to the PIP and there is sufficient quantity on the BOX Book prior to the PIP Broadcast to execute the PIP Order at the PIP Start Price, the PIP Order will execute against the BOX Book (assuming it is at the NBBO), and the PIP will never commence.
The Commission received one comment letter from a BOX Options Participant opposing the proposed rule change.
The Exchange responded that, in its view, a customer's entire PIP Order should have the opportunity for competing market participants to provide price improvement to that customer order.
The Commission recognizes the concern regarding the impact of the proposed rule change on the overall incentives for market participants to rest liquidity on the BOX Book. However, as discussed above, the Commission also recognizes the potential benefit from the proposed rule change with respect to customer PIP Orders priced at the NBBO by providing customers with a greater opportunity to receive price improvement on BOX for their PIP Orders by allowing those orders to be exposed to competition in the PIP, before interacting with pre-existing quotes and orders on the BOX Book at the PIP Start Price. In the Commission's view, the Exchange's proposal is reasonably designed to balance the potential for customers to receive price improvement in the PIP, rather than to have their orders immediately executed against a pre-existing quote on the BOX Book at the NBBO, with the potential to impact Market Makers' or other market participants' incentives to quote aggressively because they no longer will have the assurance that their quotes at the NBBO will execute against the PIP Order before the PIP begins. Quotes and orders that are on the BOX Book prior to the PIP Broadcast will continue to be able to interact with non-PIP order flow during the auction period. In addition, under the proposal, such quotes and orders will have priority to interact with any PIP order flow at the end of the auction period, unless the entire PIP order is price improved. Moreover, Market Makers or other market participants that wish to interact with the PIP Order can do so by submitting their own Improvement Orders into the PIP auction. For these reasons, the Commission believes that the proposal is consistent with the Act.
The commenter also remarked that the proposal is defective because it would allow a PIP auction to begin at the NBBO rather than requiring at least a penny of price improvement over the BOX BBO.
In addition, the commenter stated its belief that the proposal has the potential to harm retail investors.
The Exchange responded that the proposal promotes transparent competition to ensure that customer orders receive the best price possible.
The Commission believes that these features of the PIP are designed to provide the opportunity for a competitive auction, which benefits customers by giving them the chance for price improvement better than the NBBO and thus the Exchange's proposal should not result in a harmful impact on market efficiency. As discussed above, the proposal is intended to provide increased opportunities for price improvement of customer PIP Orders priced at the NBBO by permitting a PIP to go forward without those quotes and orders on the BOX Book at the PIP start price being executed against the PIP Order before the PIP auction commences. Quotes and orders on the BOX Book prior to a PIP Broadcast will retain their priority at the same price at the conclusion of the PIP (assuming they have not already been executed on the BOX Book). However, as noted above, the Exchange has committed to provide the Commission with monthly data and corresponding analysis related to the PIP, including statistics with respect to the execution of quotes and orders on the BOX Book prior to the start of the PIP.
Section 11(a)(1) of the Act
Section 11(a)(1)(G) of the Act provides an exception from the general prohibition set forth in Section 11(a)(1) for any transaction for a member's own account, provided that: (i) such member is primarily engaged in the business of underwriting and distributing securities issued by other persons, selling securities to customers, and acting as broker, or any one or more of such activities, and whose gross income normally is derived principally from such business and related activities; and (ii) the transaction is effected in compliance with the rules of the Commission, which, at a minimum, assure that the transaction is not inconsistent with the maintenance of fair and orderly markets and yields priority, parity, and precedence in execution to orders for the account of persons who are not members or associated with members of the exchange.
With respect to the PIP, the rules of the Exchange currently prohibit any orders for the accounts of non-Marker Maker Options Participants from being executed prior to the execution of Public Customer Orders, whether an Improvement Order, including a Customer PIP Order, or Unrelated Order, and non-BOX Participant broker-
Rule 11a2-2(T) under the Act,
Rule 11a2-2(T)'s first condition is that the order be executed by an exchange member who is unaffiliated with the member initiating the order. The Commission has stated that the requirement is satisfied when automated exchange facilities, such as the Trading Host, are used, as long as the design of these systems ensures that members do not possess any special or unique trading advantages over non-members in handling their orders after transmitting them to the Exchange.
According to the Exchange, the design of BOX ensures that no Options Participant would enjoy any special control over the timing of execution or special order handling advantages after order transmission to the BOX Book. All orders on the BOX Book are centrally processed and executed automatically by BOX. Orders sent to BOX would be transmitted from remote terminals directly to the system by electronic means. Once an order is submitted to the BOX Book, the order would be executed against another order based on the established matching algorithms for the BOX Book. In addition, as proposed, those quotes and orders on the BOX Book prior to a PIP may trade with the PIP Order, or would execute when orders or quotations on BOX match one another based on price/time priority. The execution would not depend on the Options Participant but rather upon what other orders are entered into BOX at or around the same time as the subject order, what orders are on the BOX Book, or if a PIP is initiated and what responses are received in response to the PIP, and where the order is ranked based on the priority ranking algorithm. At no time following the submission of an order to the BOX Book would an Options Participant be able to acquire control or influence over the result or timing of order execution, including whether it is executed against an order in the PIP. Accordingly, Options Participants could not control or influence the result or timing of orders submitted to the BOX Book, even if such an order were to match with the PIP Order. Based on the Exchange's representations, the Commission believes that the proposal satisfies this requirement of Rule 11a2-2(T).
Second, Rule 11a2-2(T) requires orders for covered accounts be transmitted from off the exchange floor. In the context of other automated trading systems, the Commission has found that the off-floor transmission requirement is met if a covered account order is transmitted from a remote location directly to an exchange's floor by electronic means.
Third, Rule 11a2-2(T) requires that the member not participate in the execution of its order once it has been transmitted to the member performing the execution. The Exchange represents that, at no time following the submission of an order to the BOX Book, would an Options Participant be able to acquire control or influence over the result or timing of order execution, even if its order on the BOX Book may execute with a PIP Order.
Fourth, in the case of a transaction effected for an account with respect to which the initiating member or an associated person thereof exercises investment discretion, neither the initiating member nor any associated person thereof may retain any compensation in connection with effecting the transaction, unless the person authorized to transact business for the account has expressly provided otherwise by written contract referring to Section 11(a) of the Act and Rule 11a2-2(T).