Federal Register, Volume 75 Issue 46 (Wednesday, March 10, 2010)

[Federal Register Volume 75, Number 46 (Wednesday, March 10, 2010)]
[Rules and Regulations]
[Pages 11232-11325]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2010-4409]

[[Page 11231]]

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Part II

Securities and Exchange Commission

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17 CFR Part 242

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Amendments to Regulation SHO; Final Rule

Federal Register / Vol. 75, No. 46 / Wednesday, March 10, 2010 /
Rules and Regulations

[[Page 11232]]

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SECURITIES AND EXCHANGE COMMISSION

17 CFR Part 242

[Release No. 34-61595; File No. S7-08-09]
RIN 3235-AK35

Amendments to Regulation SHO

AGENCY: Securities and Exchange Commission.

ACTION: Final rule.

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SUMMARY: The Securities and Exchange Commission (``Commission'') is
adopting amendments to Regulation SHO under the Securities Exchange Act
of 1934 (``Exchange Act''). We are adopting a short sale-related
circuit breaker that, if triggered, will impose a restriction on the
prices at which securities may be sold short (``short sale price test''
or ``short sale price test restriction''). Specifically, the Rule
requires that a trading center establish, maintain, and enforce written
policies and procedures reasonably designed to prevent the execution or
display of a short sale order of a covered security at a price that is
less than or equal to the current national best bid if the price of
that covered security decreases by 10% or more from the covered
security's closing price as determined by the listing market for the
covered security as of the end of regular trading hours on the prior
day. In addition, the Rule requires that the trading center establish,
maintain, and enforce written policies and procedures reasonably
designed to impose this short sale price test restriction for the
remainder of the day and the following day when a national best bid for
the covered security is calculated and disseminated on a current and
continuing basis by a plan processor pursuant to an effective national
market system plan. We believe it is appropriate at this time to adopt
a short sale-related circuit breaker because, when triggered, it will
prevent short selling, including potentially manipulative or abusive
short selling, from driving down further the price of a security that
has already experienced a significant intra-day price decline, and will
facilitate the ability of long sellers to sell first upon such a
decline. This approach establishes a narrowly-tailored Rule that will
target only those securities that are experiencing significant intra-
day price declines. We believe that addressing short selling in
connection with such declines in individual securities will help
address erosion of investor confidence in our markets generally.
In addition, we are amending Regulation SHO to provide that a
broker-dealer may mark certain qualifying sell orders ``short exempt.''
In particular, if the broker-dealer chooses to rely on its own
determination that it is submitting the short sale order to the trading
center at a price that is above the current national best bid at the
time of submission or to rely on an exception specified in the Rule, it
must mark the order as ``short exempt.'' This ``short exempt'' marking
requirement will aid surveillance by self-regulatory organizations
(``SROs'') and the Commission for compliance with the provisions of
Rule 201 of Regulation SHO.

DATES: Effective Date: May 10, 2010.
Compliance Date: November 10, 2010.

FOR FURTHER INFORMATION CONTACT: Josephine J. Tao, Assistant Director;
Victoria Crane, Branch Chief; Katrina Wilson, Staff Attorney; and
Angela Moudy, Staff Attorney, Division of Trading and Markets, at (202)
551-5720, at the Commission, 100 F Street, NE., Washington, DC 20549-
6628.

SUPPLEMENTARY INFORMATION: The Commission is amending Rules 200(g) and
201 of Regulation SHO [17 CFR 242.200(g) and 17 CFR 242.201] under the
Exchange Act.

Table of Contents

I. Executive Summary
II. Background on Short Sale Restrictions
A. Short Selling and Its Market Impact
B. History of Short Sale Price Test Restrictions in the U.S.
C. Proposal To Adopt a Short Sale Price Test Restriction or
Circuit Breaker
D. Empirical Data Regarding Potential Market Impact of Short
Sale Price Test Restrictions Submitted in Response to the Proposal
and Re-Opening Release
III. Discussion of Rule 201 of Regulation SHO
A. Operation of the Circuit Breaker Plus Alternative Uptick Rule
1. Covered Securities
2. Pricing Increment
3. Alternative Uptick Rule
4. Circuit Breaker Approach Generally
5. Circuit Breaker Trigger Level and Duration
6. Determination Regarding Securities Subject to Rule 201 and
Dissemination of Such Information
7. Policies and Procedures Approach
B. ``Short Exempt'' Provisions of Rule 201
1. Broker-Dealer Provision
2. Seller's Delay in Delivery
3. Odd Lot Transactions
4. Domestic Arbitrage
5. International Arbitrage
6. Over-Allotments and Lay-Off Sales
7. Riskless Principal Transactions
8. Transactions on a Volume-Weighted Average Price Basis
9. Decision Not To Adopt a Provision That a Broker-Dealer May
Mark an Order ``Short Exempt'' in Connection With Bona Fide Market
Making Activity
IV. Order Marking
V. Exemptive Procedures
VI. Overseas Transactions
VII. Rule 201 Implementation Period
VIII. Decision Not To Implement Rule 201 on a Pilot Basis
IX. Paperwork Reduction Act
A. Background
B. Summary
1. Policies and Procedures Requirement Under Rule 201
2. Policies and Procedures Requirement Under the Broker-Dealer
and Riskless Principal Provisions
3. Marking Requirements
C. Use of Information
1. Policies and Procedures Requirement Under Rule 201
2. Policies and Procedures Requirement Under the Broker-Dealer
and Riskless Principal Provisions
3. Marking Requirements
D. Respondents
1. Policies and Procedures Requirement Under Rule 201
2. Policies and Procedures Requirement Under the Broker-Dealer
and Riskless Principal Provisions
3. Marking Requirements
E. Total Annual Reporting and Recordkeeping Burdens
1. Policies and Procedures Requirement Under Rule 201
2. Policies and Procedures Requirement Under the Broker-Dealer
and Riskless Principal Provisions
3. Marking Requirements
F. Collection of Information Is Mandatory
1. Policies and Procedures Requirements
2. Marking Requirements
G. Confidentiality
1. Policies and Procedures Requirements
2. Marking Requirements
H. Record Retention Period
1. Policies and Procedures Requirements
2. Marking Requirements
X. Cost-Benefit Analysis
A. Benefits
1. Alternative Uptick Rule
2. Circuit Breaker Approach
3. Marking Requirements
B. Costs
1. Alternative Uptick Rule
a. Impact on Market Quality
b. Implementation and On-going Monitoring and Surveillance Costs
i. Policies and Procedures Requirement Under Rule 201
ii. Policies and Procedures Requirement Under the Broker-Dealer
and Riskless Principal Provisions
2. Circuit Breaker Approach
a. Impact on Market Quality
b. Implementation and On-going Monitoring and Surveillance Costs
3. Implementation Period
4. Marking Requirements
XI. Consideration of Burden on Competition and Promotion of
Efficiency, Competition, and Capital Formation
A. Competition
1. Market Structure for Trading Centers and Broker-Dealers
2. Discussion of Impacts of Rules 200(g) and 201 on Competition
B. Capital Formation
C. Efficiency

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XII. Final Regulatory Flexibility Analysis
A. Need for and Objectives of the Rule
B. Significant Issues Raised by Public Comment
C. Small Entities Affected by the Rule
D. Projected Reporting, Recordkeeping and Other Compliance
Requirements
E. Agency Action To Minimize Effect on Small Entities
F. Significant Alternatives
XIII. Statutory Authority
XIV. Text of the Amendments to Regulation SHO

I. Executive Summary

In July 2007, the Commission eliminated all short sale price test
restrictions. Prior to that time, short sale price test restrictions
included Rule 10a-1 under the Exchange Act, also known as the ``uptick
rule'' or ``tick test'' (``former Rule 10a-1''), that applied to
exchange-listed securities,\1\ and the National Association of
Securities Dealers, Inc.'s (``NASD'') \2\ bid test, Rule 3350 (``NASD's
former bid test''), that applied to certain Nasdaq securities.\3\ The
Commission's removal of short sale price test restrictions followed a
careful, deliberative rulemaking process, carried out in multiple
stages from 1999 through 2006, and was open to the public at every
stage.
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\1\ See infra note 41 and accompanying text.
\2\ NASD is now known as the Financial Industry Regulatory
Authority, Inc. (``FINRA'').
\3\ See infra note 43 and accompanying text.
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The Commission took a number of steps as part of that process,
including seeking extensive public comment and conducting a
comprehensive staff study to assess whether then-current short sale
price test restrictions were appropriate. For example, beginning in
1999, the Commission published a concept release in which it sought
comment regarding short sale price test regulation, including comment
on whether to eliminate such regulation.\4\ In 2004, the Commission
initiated a year-long pilot (``Pilot'') to study the removal of short
sale price tests for approximately one-third of the largest stocks.\5\
Short sale data was made publicly available during this Pilot to allow
the public and Commission staff (the ``Staff'') to study the effects of
eliminating short sale price test restrictions. The findings of third
party researchers were presented and discussed in a public Roundtable
in September 2006.\6\ In addition, the results of the Staff study of
the Pilot data were made publicly available in draft form in September
2006 and in final form in February 2007.\7\
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\4\ See Exchange Act Release No. 42037 (Oct. 20, 1999), 64 FR
57996 (Oct. 28, 1999) (``1999 Concept Release'').
\5\ See Exchange Act Release No. 50104 (July 28, 2004), 69 FR
48032 (Aug. 6, 2004) (``Pilot Release'').
\6\ See http://www.sec.gov/about/economic/shopilottrans091506.pdf (the ``Regulation SHO 2006 Roundtable'').
\7\ See http://www.sec.gov/about/economic/shopilot091506/draft_reg_sho_pilot_report.pdf and http://www.sec.gov/news/studies/2007/regshopilot020607.pdf. See also infra notes 48 to 62 and
accompanying text (discussing findings of the Staff study).
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Since then, there has been significant market turmoil. Concurrent
with the development of the subprime mortgage crisis and credit crisis
in 2007, market volatility, including steep price declines,
particularly in the stocks of certain financial services companies,
increased markedly in the U.S. and in every major stock market around
the world (including markets that continued to operate under short sale
price test restrictions).\8\ As market conditions continued to worsen,
investor confidence eroded, and the Commission received many requests
from the public to consider imposing restrictions with respect to short
selling, based in part on the belief that such action would help
restore investor confidence.\9\
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\8\ See Exchange Act Release No. 59748 (Apr. 10, 2009), 74 FR
18042, 18043 (Apr. 20, 2009) (the ``Proposal'').
\9\ See id.
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We determined that it was appropriate to re-examine the
appropriateness of short sale price test restrictions and seek comment
on whether to restore any such restrictions. Thus, in April 2009 we
proposed two approaches to restrictions on short selling, one that
would apply on a permanent, market-wide basis and another that would
apply to a particular security upon a significant decline in the price
of that security (the ``proposed circuit breaker approach'' or
``proposed circuit breaker rules'').\10\
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\10\ See Proposal, 74 FR 18042.
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With respect to the permanent, market-wide approach, we proposed
two alternative price tests. The first alternative price test, in many
ways similar to NASD's former bid test, would be based on the national
best bid (the ``proposed modified uptick rule''). The second
alternative price test, similar to former Rule 10a-1, would be based on
the last sale price (the ``proposed uptick rule'').
With respect to the proposed circuit breaker approach, we proposed
two basic alternatives. First, we proposed a circuit breaker rule that,
when triggered by a significant price decline in a particular security,
would temporarily prohibit any person from selling short that security,
subject to certain exceptions (``proposed circuit breaker halt rule'').
Second, we proposed a circuit breaker rule that, when triggered by a
significant price decline in a particular security, would trigger a
temporary short sale price test for that security. In connection with
this alternative, we proposed two short sale price tests. One was the
modified uptick rule--that is, we proposed a circuit breaker rule that,
when triggered by a significant price decline in a particular security,
would temporarily impose the proposed modified uptick rule for that
security (``proposed circuit breaker modified uptick rule''). The other
was the uptick rule--that is, we proposed a circuit breaker rule that,
when triggered by a significant market decline in a particular
security, would temporarily impose the proposed uptick rule for that
security (``proposed circuit breaker uptick rule'').
In addition, in the Proposal we inquired whether a short sale price
test restriction that would permit short selling at a price above the
current national best bid (the ``alternative uptick rule''), would be
preferable to the proposed modified uptick rule and the proposed uptick
rule.\11\ We sought comment regarding the application of the
alternative uptick rule as a market-wide permanent short sale price
test restriction or in conjunction with a circuit breaker.\12\ As a
supplement to our request for comment in the Proposal and to help
ensure the public had a full opportunity to comment on, among other
things, the alternative uptick rule, on August 20, 2009 we re-opened
the comment period to the Proposal.\13\ In addition, on May 5, 2009, we
held a Roundtable to Examine Short Sale Price Test and Circuit Breaker
Restrictions (the ``May 2009 Roundtable'').\14\ Panelists included
representatives of public issuers, investors, financial services firms,
SROs and the academic community.\15\
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\11\ See Proposal, 74 FR at 18072, 18081, 18082.
\12\ See id.
\13\ See Exchange Act Release No. 60509 (Aug. 17, 2009), 74 FR
42033 (Aug. 20, 2009) (the ``Re-Opening Release'').
\14\ See Exchange Act Release No. 59855 (May 1, 2009); Press
Release No. 2009-101 (agenda and panelists included); Press Release
No. 2009-88 (preliminary agenda included).
\15\ See http://www.sec.gov/spotlight/shortsales/roundtable050509/shortsalesroundtable050509-transcript.txt
(unofficial transcript of May 2009 Roundtable).
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markets generally.\16\ In addition, we are concerned about potential
future market turmoil, including significant increases in market
volatility and steep price declines. Thus, as discussed in more detail
below, after considering the comments, we have determined that it is
appropriate at this time to adopt in Rule 201 a targeted short sale
price test restriction that will apply the alternative uptick rule for
the remainder of the day and the following day if the price of an
individual security declines intra-day by 10% or more from the prior
day's closing price for that security as determined by the covered
security's listing market.
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\16\ We note that investor confidence may include a number of
different elements, such as investor perceptions about fundamental
market risk, investor optimism about the economy, or investor trust
in the fairness of financial markets as influenced by applicable
regulatory protections. Although the latter can be directly
influenced by Commission actions, the Commission does not have
control over fundamental market risk and economic optimism. Thus, as
used here, the term ``investor confidence'' refers to investor trust
in the fairness of financial markets.
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By not allowing short sellers to sell at or below the current
national best bid while the circuit breaker is in effect, the short
sale price test restriction in Rule 201 will allow long sellers, who
will be able to sell at the bid, to sell first in a declining market
for a particular security. As the Commission has noted previously in
connection with short sale price test restrictions, a goal of such
restrictions is to allow long sellers to sell first in a declining
market.\17\ A short seller that is seeking to profit quickly from
accelerated, downward market moves may find it advantageous to be able
to short sell at the current national best bid. In addition, by making
such bids accessible only by long sellers when a security's price is
undergoing significant downward price pressure, Rule 201 will help to
facilitate and maintain stability in the markets and help ensure that
they function efficiently. It will also help restore investor
confidence during times of substantial uncertainty because, once the
circuit breaker has been triggered for a particular security, long
sellers will have preferred access to bids for the security, and the
security's continued price decline will more likely be due to long
selling and the underlying fundamentals of the issuer, rather than to
other factors.
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\17\ See Exchange Act Release No. 48709 (Oct. 28, 2003), 68 FR
62972, 62989 (Nov. 6, 2003) (``2003 Regulation SHO Proposing
Release''); see also Exchange Act Release No. 30772 (June 3, 1992),
57 FR 24415, 24416 (June 9, 1992) (stating that former Rule 10a-1
was ``designed to limit short selling of a security in a declining
market, by requiring, in effect, that each successive lower price be
established by a long seller'').
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In addition, combining the alternative uptick rule with a circuit
breaker will strike the appropriate balance between our goal of
preventing short selling, including potentially manipulative or abusive
short selling, from being used as a tool to exacerbate a declining
market in a security and the need to allow for the continued smooth
functioning of the markets, including the provision of liquidity and
price efficiency in the markets.\18\ The circuit breaker approach of
Rule 201 will help benefit the market for a particular security by
allowing participants, when a security is undergoing a significant
intra-day price decline, an opportunity to re-evaluate circumstances
and respond to volatility in that security. We also believe that a
circuit breaker will better target short selling that may be related to
potential bear raids \19\ and other forms of manipulation that may be
used to exacerbate a price decline in a covered security.
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\18\ Where we use the terms ``market efficiency'' and ``price
efficiency'' in this adopting release we are using terms of art as
used in the economic literature proceeding under the ``efficient
markets hypothesis,'' under which financial prices are assumed to
reflect all available information and accordingly adjust quickly to
reflect new information. See, e.g., Eugene F. Fama, 1991, Efficient
capital markets: II, Journal of Finance; 46: 1575-1617; Eugene F.
Fama and Kenneth R. French, 1992, The Cross-Section of Expected
Stock Returns, Journal of Finance, 47: 427-465. It should be noted
that economic efficiency and price efficiency are not identical with
the ordinary sense of the word ``efficiency.''
\19\ See infra note 36 and accompanying text.
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At the same time, however, we recognize the benefits to the market
of legitimate short selling, such as the provision of liquidity and
price efficiency. Thus, by imposing a short sale price test restriction
only when an individual security is undergoing significant downward
price pressure, the short sale price test restrictions of Rule 201 will
apply to a limited number of securities, rather than to all securities
all the time. As discussed in more detail below,\20\ in response to our
request for comment on an appropriate threshold at which to trigger the
proposed circuit breaker short sale price test restrictions, commenters
submitted estimates of the number of securities that would trigger a
circuit breaker rule at a 10% threshold.\21\ While commenters' analyses
(including the facts and assumptions used) and their resulting
estimates varied,\22\ commenters' estimates reflect that a 10% circuit
breaker threshold, on average, should affect a limited percentage of
covered securities.\23\ Given the variations in the facts and
assumptions underlying the estimates submitted by commenters, the Staff
also looked at trading data to confirm the reasonableness of those
estimates. The Staff found that, during the period covering April 9,
2001 to September 30, 2009,\24\ the price test restrictions of Rule 201
would have been triggered, on an average day, for approximately 4% of
covered securities.\25\ The Staff also found that for a low volatility
period, covering January 1, 2004 to December 31, 2006, the 10% trigger
level of Rule 201 would have, on an average day, been triggered for
approximately 1.3% of covered securities.\26\
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\20\ See infra Section III.A.5. (discussing the circuit breaker
trigger level).
\21\ See, e.g., letter from Mary Lou Von Kaenel, Managing
Director, Management Consulting, Jordan & Jordan, dated June 19,
2009 (``Jordan & Jordan''); letter from John C. Nagel, Managing
Director and Deputy General Counsel, Citadel Investment Group, John
Liftin, Managing Director and General Counsel, The D.E. Shaw Group,
and Mark Silber, Executive Vice President, Renaissance Technologies,
dated June 19, 2009 (``Citadel et al. (June 2009)''); letter from
Stuart J. Kaswell, Executive Vice President, Managing Director and
General Counsel, Managed Funds Association, dated June 22, 2009
(``MFA (June 2009)''); letter from Ira D. Hammerman, Senior Managing
Director and General Counsel, Securities Industry and Financial
Markets Association, dated June 19, 2009 (``SIFMA (June 2009)'');
letter from Daniel Mathisson, Managing Director, Credit Suisse
Securities (USA), LLC, dated Sept. 21, 2009 (``Credit Suisse (Sept.
2009)'').
\22\ See infra note 306.
\23\ See infra note 307.
\24\ See infra note 309.
\25\ See infra note 310.
\26\ See infra note 311.
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Thus, Rule 201 is structured so that the circuit breaker generally
will not be triggered for the majority of covered securities at any
given time and, thereby, will not interfere with the smooth functioning
of the markets for those securities, including when prices in such
securities are undergoing minimal downward price pressure or are stable
or rising. If the short sale price test restrictions of Rule 201 apply
to a covered security it will be because and when that security is
undergoing significant downward price pressure.
In addition, to help ensure the Rule's workability, we are amending
Rule 200(g) of Regulation SHO, substantially as proposed, to provide
that, once the circuit breaker has been triggered for a covered
security, if a broker-dealer chooses to rely on its own determination
that it is submitting a short sale order to a trading center at a price
that is above the current national best bid at the time of submission
or to rely on an exception specified in the Rule, it must mark the
order ``short

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exempt.'' \27\ The short sale price test restrictions of Rule 201
generally will apply to a small number of securities for a limited
duration, and will continue to permit short selling rather than, for
example, halting short selling when the restrictions are in place. As
such, we believe that the circumstances under which a broker-dealer may
need to mark a short sale order ``short exempt'' under Rule 201 are
limited.
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\27\ We note that, as discussed in more detail below, unless a
sale order is marked ``short exempt,'' a trading center's policies
and procedures must be reasonably designed to prevent the execution
or display of the order at a price that is less than or equal to the
current national best bid.
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II. Background on Short Sale Restrictions

Short selling involves a sale of a security that the seller does
not own or a sale that is consummated by the delivery of a security
borrowed by, or for the account of, the seller.\28\ In order to deliver
the security to the purchaser, the short seller will borrow the
security, usually from a broker-dealer or an institutional investor.
Typically, the short seller later closes out the position by purchasing
equivalent securities on the open market and returning the security to
the lender. In general, short selling is used to profit from an
expected downward price movement, to provide liquidity in response to
unanticipated demand, or to hedge the risk of an economic long position
in the same security or in a related security.\29\
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\28\ See 17 CFR 242.200(a).
\29\ See, e.g., Exchange Act Release No. 54891 (Dec. 7, 2006),
71 FR 75068, 75069 (Dec. 13, 2006) (``2006 Price Test Elimination
Proposing Release''); 2003 Regulation SHO Proposing Release, 68 FR
at 62974. In this adopting release, we use the terms ``liquidity
provider'' and ``liquidity taker,'' and correlative terms, in their
technical sense in the literature of market microstructure. See,
e.g., Larry Harris, Trading and Exchanges: Market Microstructure for
Practitioners, at 70 (2003) (an introductory textbook to the
economics of market microstructure). As used therein, a liquidity
taker is a buyer or seller (including a short seller) who submits an
order designed for immediate execution, such as a market order or a
marketable limit order, while a liquidity provider is a more patient
buyer or seller (including a short seller) who submits orders that
may or may not be executed, and thus provides depth to the market.
This usage differs from the usage of the term ``liquidity provider''
to refer to a bank, central bank, or other financial institution or
investor who provides cash financing or otherwise increases the
money supply.
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A. Short Selling and Its Market Impact

Short selling provides the market with important benefits,
including market liquidity and pricing efficiency.\30\ Market liquidity
is often provided through short selling by market professionals, such
as market makers (including specialists) and block positioners, who
offset temporary imbalances in the buying and selling interest for
securities. Short sales effected in the market add to the selling
interest of stock available to purchasers and reduce the risk that the
price paid by investors is artificially high because of a temporary
imbalance between buying and selling interest. Short sellers covering
their sales also may add to the buying interest of stock available to
sellers.\31\
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\30\ See id.; see also Exchange Act Release No. 29278 (June 7,
1991), 56 FR 27280 (June 13, 1991); Exchange Act Release No. 50103
(July 28, 2004), 69 FR 48008, 48009 n.6 (Aug. 6, 2004) (``2004
Regulation SHO Adopting Release''); Ekkehart Boehmer and J. Julie
Wu, Short Selling and the Informational Efficiency of Prices,
Working Paper, Jan. 8, 2009.
\31\ See, e.g., 2006 Price Test Elimination Proposing Release,
71 FR at 75069; 2003 Regulation SHO Proposing Release, 68 FR at
62974.
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Short selling also can contribute to the pricing efficiency of the
equities markets.\32\ When a short seller speculates or hedges against
a downward movement in a security, his transaction is a mirror image of
the person who purchases the security in anticipation that the
security's price will rise or to hedge against such an increase. Both
the purchaser and the short seller hope to profit, or hedge against
loss, by buying the security at one price and selling at a higher
price. The strategies primarily differ in the sequence of transactions.
Market participants who believe a stock is overvalued may engage in
short sales in an attempt to profit from a perceived divergence of
prices from true economic values. Such short sellers add to stock
pricing efficiency because their transactions inform the market of
their evaluation of future stock price performance. This evaluation is
reflected in the resulting market price of the security.\33\
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\32\ See id.
\33\ See 2006 Price Test Elimination Proposing Release, 71 FR at
75069-75070; 2003 Regulation SHO Proposing Release, 68 FR at 62974.
Arbitrageurs also contribute to pricing efficiency by utilizing
short sales to profit from price disparities between a stock and a
derivative security, such as a convertible security or an option on
that stock. For example, an arbitrageur may purchase a convertible
security and sell the underlying stock short to profit from a
current price differential between two economically similar
positions. See id.
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Although short selling serves useful market purposes, it also may
be used to drive down the price of a security or as a tool to
accelerate a declining market in a security.\34\ In addition, short
selling may be used to illegally manipulate stock prices.\35\ One
example is the ``bear raid'' where an equity security is sold short in
an effort to drive down the price of the security by creating an
imbalance of sell-side interest.\36\ This unrestricted short selling
could exacerbate a declining market in a security by increasing
pressure from the sell-side, eliminating bids, and causing a further
reduction in the price of a security by creating an appearance that the
security's price is falling for fundamental reasons, when the decline,
or the speed of the decline, is being driven by other factors.\37\
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\34\ See, e.g., Proposal, 74 FR at 18065 (noting that a short
selling circuit breaker rule would be designed to target only those
securities that experience rapid severe intra-day price declines
and, therefore, might help to prevent short selling from being used
to drive the price of a security down or to accelerate the decline
in the price of those securities).
\35\ See, e.g., U.S. v. Russo, 74 F.3d 1383, 1392 (2d Cir. 1996)
(short sales were sufficiently connected to the manipulation scheme
as to constitute a violation of Exchange Act Section 10(b) and Rule
10b-5); S.E.C. v. Gardiner, 48 S.E.C. Docket 811, No. 91 Civ. 2091
(S.D.N.Y. Mar. 27, 1991) (alleged manipulation by sales
representative by directing or inducing customers to sell stock
short in order to depress its price).
\36\ Many people blamed ``bear raids'' for the 1929 stock market
crash and the market's prolonged inability to recover from the
crash. See, e.g., Steve Thel, $850,000 in Six Minutes--The Mechanics
of Securities Manipulation, 79 Cornell L. Rev. 219, 295-296 (1994);
Jonathan R. Macey, Mark Mitchell & Jeffry Netter, Restrictions on
Short Sales: An Analysis of the Uptick Rule and its Role in View of
the October 1987 Stock Market Crash, 74 Cornell L. Rev. 799, 801-802
(1989).
\37\ See 2006 Price Test Elimination Proposing Release, 71 FR at
75070; 2003 Regulation SHO Proposing Release, 68 FR at 62974.
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B. History of Short Sale Price Test Restrictions in the U.S.

Section 10(a) of the Exchange Act \38\ gives the Commission plenary
authority to regulate short sales of securities registered on a
national securities exchange, as necessary or appropriate in the public
interest or for the protection of investors.\39\ After conducting an
inquiry into the effects of concentrated short selling during the
market break of 1937,\40\ the Commission adopted former Rule 10a-1 in
1938 to restrict short selling in a declining market.\41\
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\38\ 15 U.S.C. 78j(a).
\39\ See id.; see also 2006 Price Test Elimination Proposing
Release, 71 FR at 75068; 2003 Regulation SHO Proposing Release, 68
FR at 62973.
\40\ The study covered two weekly periods, that of September 7-
13, 1937, and that of October 18-23, 1937. See Exchange Act Release
No. 1548 (Jan. 24, 1938), 3 FR 213 (Jan. 26, 1938) (``Former Rule
10a-1 Adopting Release'').
\41\ See id. Former Rule 10a-1 provided that, subject to certain
exceptions, a listed security could be sold short (i) at a price
above the price at which the immediately preceding sale was effected
(plus tick), or (ii) at the last sale price if it was higher than
the last different price (zero plus tick).
---------------------------------------------------------------------------

The core provisions of former Rule 10a-1 remained virtually
unchanged for almost seventy years. Over the years, however, in
response to changes in the securities markets, including changes in
trading strategies and systems used in

[[Page 11236]]

the marketplace, the Commission added exceptions to former Rule 10a-1
and granted numerous written requests for relief from the Rule's
restrictions. These market changes included decimalization, the
increased use of matching systems that execute trades at independently-
derived prices during random times within specific time intervals,\42\
and the spread of fully automated markets. In addition, market
developments over the years led to the application of different price
tests to securities trading in different markets.\43\
---------------------------------------------------------------------------

\42\ See, e.g., letter from Larry E. Bergmann, Senior Associate
Director, Division of Market Regulation, SEC, to Andre E. Owens,
Schiff Hardin & Waite, dated Apr. 23, 2003 (granting exemptive
relief from former Rule 10a-1 for trades executed through an
alternative trading system (``ATS'') that matches buying and selling
interest among institutional investors and broker-dealers at various
set times during the day).
\43\ See, e.g., Exchange Act Release No. 55245 (Feb. 5, 2007),
72 FR 6635 (Feb. 12, 2007). Former Rule 10a-1 applied only to short
sale transactions in exchange-listed securities. In 1994, the
Commission granted temporary approval to NASD to apply its own short
sale rule, known as the ``bid test,'' on a pilot basis that was
renewed annually until the Commission repealed short sale price
tests. NASD's former bid test prohibited short sales in Nasdaq
Global Market securities (then known as Nasdaq National Market
securities) at or below the current (inside) bid when the current
best (inside) bid was below the previous best (inside) bid in a
security. As a result, until the Commission eliminated former Rule
10a-1, and prohibited any SRO from having a short sale price test in
July 2007, Nasdaq Global Market securities traded on Nasdaq or the
over-the-counter (``OTC'') market and reported to a NASD facility
were subject to a bid test. Nasdaq securities traded on exchanges
other than Nasdaq were not subject to any price test. In addition,
many thinly-traded securities, such as Nasdaq Capital Market
securities and securities quoted on the OTC Bulletin Board and Pink
Sheets, were not subject to any price test wherever traded.
According to the Staff, in 2005, prior to the start of the Pilot,
NASD's former bid test applied to approximately 2,800 securities,
while former Rule 10a-1 applied to approximately 4,000 securities.
---------------------------------------------------------------------------

In July 2004, the Commission adopted Rule 202T of Regulation
SHO,\44\ which established procedures for the Commission to temporarily
suspend short sale price tests for a prescribed set of securities so
that the Commission could study the effectiveness of these tests.\45\
Pursuant to the process established in Rule 202T, the Commission issued
an order creating the Pilot, which temporarily suspended the tick test
of former Rule 10a-1 and any price test of any national securities
exchange or national securities association for short sales of certain
securities.\46\ The Pilot was designed to assist the Commission in
assessing whether changes to short sale price test regulation were
appropriate at that time in light of then-current market practices and
the purposes underlying short sale price test regulation.\47\
---------------------------------------------------------------------------

\44\ 17 CFR 242.202T.
\45\ See 17 CFR 242.202T; see also 2004 Regulation SHO Adopting
Release, 69 FR at 48012-48013.
\46\ See Pilot Release, 69 FR 48032.
\47\ See id. In the 2004 Regulation SHO Adopting Release, we
noted that ``the purpose of the [P]ilot is to assist the Commission
in considering alternatives, such as: (1) Eliminating a Commission-
mandated price test for an appropriate group of securities, which
may be all securities; (2) adopting a uniform bid test, and any
exceptions, with the possibility of extending a uniform bid test to
securities for which there is currently no price test; or (3)
leaving in place the current price tests.'' 2004 Regulation SHO
Adopting Release, 69 FR at 48010.
---------------------------------------------------------------------------

The Staff gathered the data made public during the Pilot, analyzed
the data and provided the Commission with a summary report on the Pilot
(``Staff's Summary Pilot Report'').\48\ The Staff's Summary Pilot
Report, which was made public, examined several aspects of market
quality including the overall effect of then-current price tests on
short selling, liquidity, volatility and price efficiency.\49\ The
Pilot was also designed to allow the Commission and members of the
public to examine whether the effects of the then-current short sale
price tests were similar across stocks.\50\
---------------------------------------------------------------------------

\48\ See http://www.sec.gov/about/economic/shopilot091506/draft_reg_sho_pilot_report.pdf and http://www.sec.gov/news/studies/2007/regshopilot020607.pdf.
\49\ See Staff's Summary Pilot Report at 40-47; see also id. at
22-24 (discussing the selection of securities included in the Pilot
and the control group).
\50\ In the 2004 Regulation SHO Adopting Release, the Commission
stated its expectation that data on trading during the Pilot would
be made available to the public to encourage independent researchers
to study the Pilot. See 2004 Regulation SHO Adopting Release, 69 FR
at 48009, n.9. Accordingly, nine SROs began publicly releasing
transactional short selling data on Jan. 3, 2005. The nine SROs at
that time were the Amex, ARCA, BSE, CHX, NASD, Nasdaq, National
Stock Exchange, NYSE and Phlx. The SROs agreed to collect and make
publicly available trading data on each executed short sale
involving equity securities reported by the SRO to a securities
information processor (``SIP''). The SROs published the information
on a monthly basis on their Internet Web sites.
---------------------------------------------------------------------------

As set forth in the Staff's Summary Pilot Report, the Staff found
little empirical justification at that time for maintaining then-
current short sale price test restrictions, especially for actively
traded securities. Amongst its results, the Staff found that such short
sale price tests did not have a significant impact on daily volatility.
However, the Staff also found some evidence that the short sale price
tests dampened intra-day volatility for smaller stocks.\51\
---------------------------------------------------------------------------

\51\ See Staff's Summary Pilot Report at 55-56.
---------------------------------------------------------------------------

In addition, the Staff found that the Pilot data provided limited
evidence that then-current price test restrictions distorted a
security's price.\52\ The Staff also found that the price test
restrictions resulted in an increase in quote depths.\53\ Realized
liquidity levels, however, were unaffected by the removal of such short
sale price test restrictions.\54\ The Pilot data also provided evidence
that the short sale price test restrictions reduced the volume of
executed short sales to total volume and, therefore, acted as a
constraint on short selling.\55\ The Staff did not find, however, a
significant difference in short interest positions between those
securities subject to a short sale price test versus those securities
that were not subject to such a test during the Pilot.\56\
---------------------------------------------------------------------------

\52\ On the day the Pilot went into effect, listed Pilot
securities underperformed listed control group securities by
approximately 24 basis points. The Pilot and control group
securities, however, had similar returns over the first six months
of the Pilot. See Staff's Summary Pilot Report at 8.
\53\ See Staff's Summary Pilot Report at 55.
\54\ This conclusion is based on the result that changes in
effective spreads were not economically significant (less than a
basis point) and that the changes in the bid and ask depth appear
not to affect the transaction costs paid by investors. Arguably, the
changes in bid and ask depth appeared to affect the intra-day
volatility. However, the Staff concluded that overall, the Pilot
data did not suggest a deleterious impact on market quality or
liquidity. See Staff's Summary Pilot Report at 40-42, 55.
\55\ See Staff's Summary Pilot Report at 35.
\56\ See id.
---------------------------------------------------------------------------

In addition, the Commission encouraged outside researchers to
examine the Pilot data. In response to this request, the Commission
received four completed studies (the ``Academic Studies'') from outside
researchers that specifically examined the Pilot data.\57\ The
Commission also held the Regulation SHO 2006 Roundtable \58\ that
focused on the empirical evidence learned from the Pilot data (the
Staff's Summary Pilot Report, Academic Studies, and Regulation SHO 2006
Roundtable are referred to collectively herein as the ``Pilot
Results'').\59\ The Pilot Results contained a variety of observations,
which the Commission considered in determining whether or not to
propose removal of then-current short sale price test restrictions and
subsequently whether or not to eliminate such restrictions. For
example, one study concluded that former Rule 10a-1 had little or no
effect on price efficiency.\60\ Another study found no evidence that
former Rule

[[Page 11237]]

10a-1 negatively impacted price discovery.\61\
---------------------------------------------------------------------------

\57\ See Karl B. Diether, Kuan Hui Lee and Ingrid M. Werner,
2009, It's SHO Time! Short-Sale Price-Tests and Market Quality,
Journal of Finance 64:37-73; Gordon J. Alexander and Mark A.
Peterson, 2008, The Effect of Price Tests on Trader Behavior and
Market Quality: An Analysis of Reg. SHO, Journal of Financial
Markets 11:84-111; J. Julie Wu, Uptick Rule, short selling and price
efficiency, Aug. 14, 2006; Lynn Bai, 2008, The Uptick Rule of Short
Sale Regulation--Can it Alleviate Downward Price Pressure from
Negative Earnings Shocks? Rutgers Business Law Journal 5:1-63.
\58\ See supra note 6.
\59\ See id.
\60\ See J. Julie Wu, Uptick Rule, short selling and price
efficiency, Aug. 14, 2006.
\61\ See Lynn Bai, 2008, The Uptick Rule of Short Sale
Regulation--Can it Alleviate Downward Price Pressure from Negative
Earnings Shocks? Rutgers Business Law Journal 5:1-63.
---------------------------------------------------------------------------

Generally, the Pilot Results supported removal of the short sale
price test restrictions that were in effect at that time.\62\ In
addition to the Pilot Results, thirteen other analyses by SEC staff and
various third party researchers were conducted between 1963 and 2004
addressing price test restrictions.\63\ Among these were several
studies that evaluated short sale price tests during times of
significant market decline, including the market break of May 28, 1962,
the market decline of September and October 1976, the market break of
October 19, 1987, and the Nasdaq market decline of 2000-2001. The
results of these studies were mixed, but generally the studies found
that former Rule 10a-1 did not prevent short sales in extreme down
markets and did limit short selling in up markets, and the studies
provided additional support for the removal of the permanent, market-
wide short sale price test restrictions in existence at that time.
---------------------------------------------------------------------------

\62\ See 2006 Price Test Elimination Proposing Release, 71 FR at
75072-75075 (discussing the Pilot Results).
\63\ See Staff's Summary Pilot Report at 14, 17-22 (discussing
the thirteen studies).
---------------------------------------------------------------------------

In December 2006, the Commission proposed to eliminate former Rule
10a-1 by removing restrictions on the execution prices of short sales,
as well as prohibiting any SRO from having a short sale price test.\64\
The Commission received twenty-seven comment letters in response to its
proposal to eliminate former Rule 10a-1 and prohibit any SRO from
having a short sale price test. The comments in response to the
proposed amendments varied. Most commenters (including individual
traders, an academic, broker-dealers, SROs and trade associations)
advocated removing all short sale price test restrictions.\65\
Generally, these commenters believed that short sale price test
restrictions were no longer necessary due to increased market
transparency and the existence of real-time regulatory surveillance
that could monitor for and detect any potential short sale
manipulation.\66\
---------------------------------------------------------------------------

\64\ See 2006 Price Test Elimination Proposing Release, 71 FR
75068.
\65\ See, e.g., letter from Howard Teitelman, CSO, Trillium
Trading, dated Feb. 6, 2007; letter from S. Kevin An, Deputy General
Counsel, E*TRADE, dated Feb. 9, 2007 (``E*TRADE (Feb. 2007)'');
letter from Carl Giannone, dated Feb. 11, 2007 (``Giannone (Feb.
2007)''); letter from David Schwarz, dated Feb. 12, 2007; letter
from John G. Gaine, President, Managed Funds Association, dated Feb.
12, 2007; letter from Lisa M. Utasi, Chairman of the Board, John C.
Giesea, President and CEO, Security Traders Association, dated Feb.
12, 2007 (``STA (Feb. 2007)''); letter from Gerard S. Citera,
Executive Director, U.S. Equities, UBS, dated Feb. 14, 2007 (``UBS
(Feb. 2007)''); letter from Mary Yeager, Assistant Secretary, NYSE
Euronext, dated Feb. 14, 2007 (``NYSE Euronext (Feb. 2007)'');
letter from James J. Angel, PhD, CFA, Associate Professor of
Finance, McDonough School of Business, Georgetown University, dated
Feb. 14, 2007; letter from Ira D. Hammerman, Senior Managing
Director and General Counsel, Securities Industry and Financial
Markets Association, dated Feb. 16, 2007; see also Exchange Act
Release No. 55970 (June 28, 2007), 72 FR 36348, 36350-36351 (July 3,
2007) (``2007 Price Test Adopting Release'') (discussing the comment
letters).
\66\ See, e.g., letter from Giannone (Feb. 2007); letter from
E*TRADE (Feb. 2007); letter from STA (Feb. 2007); letter from UBS
(Feb. 2007); see also 2007 Price Test Adopting Release, 72 FR at
36350-36351 (discussing the comment letters).
---------------------------------------------------------------------------

Two commenters (both individual investors) opposed the proposed
amendments, noting the need for short sale price tests to prevent
``bear raids.'' \67\ One commenter, although generally in support of
removing all short sale price test restrictions, stated the belief that
at some level unrestricted short selling should be collared.\68\ This
commenter supported having a 10% circuit breaker to prevent panic in
the event there is a major market collapse.\69\ The New York Stock
Exchange (``NYSE'') also noted its concern about unrestricted short
selling during periods of unusually rapid and large market declines.
The NYSE stated that the effects of an unusually rapid and large market
decline could not be measured or analyzed during the Pilot because such
decline did not occur during the period studied.\70\
---------------------------------------------------------------------------

\67\ See, e.g., letter from Jim Ferguson, dated Dec. 19, 2006;
letter from David Patch, dated Jan. 1, 2007; letter from David
Patch, dated Jan. 12, 2007.
\68\ See letter from Giannone (Feb. 2007).
\69\ See id.
\70\ See letter from NYSE Euronext (Feb. 2007).
---------------------------------------------------------------------------

Effective July 3, 2007, the Commission eliminated former Rule 10a-1
and added Rule 201 of Regulation SHO, prohibiting any SRO from having a
short sale price test.\71\ The Commission stated that it determined to
eliminate all short sale price test restrictions after reviewing the
comments received in response to its proposal to eliminate all short
sale price test restrictions, reviewing the Pilot Results, and taking
into account the market developments that had occurred in the
securities industry since the Commission adopted former Rule 10a-1 in
1938.\72\ In addition, the Commission stated its belief that the
amendments would bring increased uniformity to short sale regulation,
level the playing field for market participants, and remove an
opportunity for regulatory arbitrage.\73\
---------------------------------------------------------------------------

\71\ See 2007 Price Test Adopting Release, 72 FR 36348.
\72\ See id. at 36352.
\73\ See id.
---------------------------------------------------------------------------

C. Proposal To Adopt a Short Sale Price Test Restriction or Circuit
Breaker

On April 8, 2009, following changes in market conditions since the
elimination of former Rule 10a-1, we proposed to re-examine and seek
comment on whether to impose price test restrictions or circuit breaker
restrictions on short selling.\74\ In the Proposal, we noted that
market volatility had recently increased markedly in the U.S., as well
as in every major stock market around the world.\75\ We also noted that
although we were not aware of specific empirical evidence that the
elimination of short sale price tests contributed to the increased
volatility in U.S. markets, many members of the public associate the
removal of former Rule 10a-1 with such volatility, including steep
declines in some securities' prices, and loss of investor confidence in
our markets.\76\ Due to the market conditions with which we were faced
and the resulting deterioration in investor confidence, we stated in
the Proposal that we believed it was appropriate to propose amending
Regulation SHO to add a short sale price test or a circuit breaker
rule.\77\
---------------------------------------------------------------------------

\74\ See Proposal, 74 FR 18042.
\75\ See id. at 18049.
\76\ See id.
\77\ See Proposal, 74 FR at 18047.
---------------------------------------------------------------------------

In response to the Proposal and the Re-Opening Release, we received
over 4,300 unique comment letters.\78\ A number of commenters stated
that they do not believe that we should reinstate any form of short
sale price test restriction, whether in the form of a short sale price
test restriction or a circuit breaker rule. For example, a number of
commenters noted a lack of empirical evidence suggesting that such
restrictions would advance the Commission's goals of restoring investor
confidence and preventing short selling, including potentially abusive
or manipulative short selling, from driving down the market or being
used as a tool to exacerbate a declining market in a security.\79\ In
response to our specific

[[Page 11238]]

request for empirical data in the Proposal, a number of commenters
submitted data or referenced studies in support of their position that
a short sale price test restriction would not have a positive impact on
the market.\80\ In addition, several commenters stated they do not
believe that short selling exacerbated market declines during the Fall
2008 financial crisis, and suggested that long sale activity was a more
substantial factor in those declines.\81\ Other commenters stated that
short selling is a small segment of the overall equity marketplace and
active short sellers are an even smaller group of participants and,
therefore, represented a de minimus amount of the selling pressure that
the markets experienced recently.\82\ As support for their arguments,
commenters referenced, among other things, two recent studies by the
Staff that were also discussed in the Proposal.\83\ In these studies,
the Staff analyzed the impact that a short sale price test might have
had during a thirteen day period in September 2008,\84\ as well as
whether and the extent to which short selling and long selling exerted
downward price pressure during a volatile period in early September
2008.\85\ The first of these studies noted that, although its data was
limited to historical trade and quote data from a period when no short
sale price test was in place and the shape of order book and trading
sequences might have differed had a short sale price test been in
place, a short sale price test would likely have been most restrictive
during periods of low volatility, with greatest impact on short selling
in lower priced and more active stocks.\86\ The second study found that
during periods of price declines, the selling pressure was more intense
from long sellers than from short sellers. It also found that, on
average, short sale volume as a fraction of total volume was highest
during periods of positive returns, noting, however, that it was also
possible that there were instances in which short selling activity
peaked during periods of extreme negative returns.\87\
---------------------------------------------------------------------------

\78\ See http://www.sec.gov/comments/s7-08-09/s70809.shtml.
\79\ See, e.g., letter from Daniel Mathisson, Managing Director,
Credit Suisse Securities (USA), LLC, dated June 16, 2009 (``Credit
Suisse (June 2009)''); letter from Citadel et al. (June 2009);
letter from Peter Kovac, Chief Operating Officer and Financial and
Operations Principal, EWT, LLC, dated June 19, 2009 (``EWT (June
2009)''); letter from Stephen Schuler, Managing Member, Daniel
Tierney, Managing Member, Global Electronic Trading Company, dated
June 19, 2009 (``GETCO (June 2009)''); letter from SIFMA (June
2009); letter from Kimberly Unger, Executive Director, Security
Traders Association of New York, Inc., dated June 18, 2009 (``STANY
(June 2009)''); letter from Karrie McMillan, General Counsel,
Investment Company Institute, dated June 19, 2009 (``ICI (June
2009)''); letter from Megan A. Flaherty, Chief Legal Counsel,
Wolverine Trading, LLC, dated June 19, 2009 (``Wolverine''); letter
from Eric Swanson, SVP and General Counsel, BATS Exchange, Inc.,
dated Sept. 21, 2009 (``BATS (Sept. 2009)''); letter from Michael R.
Trocchio, Esq. on behalf of Bingham McCutchen, LLP, dated Sept. 30,
2009 (``Bingham McCutchen''); letter from James S. Chanos, Chairman,
Coalition of Private Investment Companies, dated Sept. 21, 2009
(``CPIC (Sept. 2009)'') (citing letter from Credit Suisse letter
(June 2009)); letter from Luke Fichthorn, Managing Member, John
Fichthorn, Managing Member, Dialectic Capital Management, LLC, dated
Sept. 21, 2009 (``Dialectic Capital (Sept. 2009)''); letter from
Eric W. Hess, General Counsel, Direct Edge Holdings LLC, dated Sept.
21, 2009 (``Direct Edge (Sept. 2009)''); letter from Paul M. Russo,
Managing Director and Head of U.S. Equity Trading, Goldman, Sachs &
Co., dated Sept. 21, 2009 (``Goldman Sachs (Sept. 2009)''); letter
from Suhas Daftuar, Managing Director, Hudson River Trading LLC,
dated Sept. 21, 2009 (``Hudson River Trading''); letter from Leonard
J. Amoruso, General Counsel, Knight Capital Group, Inc., dated Sept.
22, 2009 (``Knight Capital (Sept. 2009)''); letter from Richard
Chase, Managing Director and General Counsel, RBC Capital Markets
Corporation, dated Sept. 21, 2009 (``RBC (Sept. 2009)''); letter
from Peter J. Driscoll, Chairman, John C. Giesea, President and CEO,
Security Traders Association, dated Sept. 21, 2009 (``STA (Sept.
2009)''); letter from Barbara Palk, President, TD Asset Management,
Inc., dated Sept. 14, 2009 (``TD Asset Management''); letter from
George U. Sauter, Managing Director and Chief Investment Officer,
The Vanguard Group, Inc., dated Sept. 21, 2009 (``Vanguard (Sept.
2009)''); letter from Chris Concannon, Virtu Financial, LLC, dated
Sept. 21, 2009 (``Virtu Financial''); letter from Stuart J. Kaswell,
Executive Vice President, Managing Director and General Counsel,
Managed Funds Association, dated Oct. 1, 2009 (``MFA (Oct. 2009)'');
letter from Jeffrey S. Davis, Vice President and Deputy General
Counsel, The Nasdaq OMX Group, Inc., dated Oct. 7, 2009 (``Nasdaq
OMX Group (Oct. 2009)'').
\80\ See, e.g., letter from Michael D. Lipkin, Adjunct Assistant
Professor, Columbia University, dated Apr. 9, 2009 (``Prof.
Lipkin''); letter from Eric Swanson, SVP and General Counsel, BATS
Exchange, Inc., dated May 14, 2009 (``BATS (May 2009)''); Autore,
Billingsley, and Kovacs, Short Sale Constraints, Dispersion of
Opinion, and Market Quality: Evidence from the Short Sale Ban on
U.S. Financial Stocks (June 19, 2009); letter from William J.
Brodsky, Chairman and CEO, Edward J. Joyce, President and COO, The
Chicago Board Options Exchange, Inc., dated June 19, 2009 (``CBOE
(June 2009)''); letter from James S. Chanos, Chairman, Coalition of
Private Investment Companies, dated June 19, 2009 (``CPIC (June
2009)''); letter from STANY (June 2009); letter from SIFMA (June
2009); letter from MFA (June 2009); letter from ICI (June 2009);
letter from Joan Hinchman, Executive Director, President and CEO,
National Society of Compliance Professionals Inc., dated June 19,
2009 (``NSCP''); letter from Mary Richardson, Director of Regulatory
and Tax Department, Alternative Investment Management Association,
dated June 19, 2009 (``AIMA''); letter from Credit Suisse (June
2009); letter from Rory O'Kane, President, TD Professional
Execution, Inc, dated June 19, 2009 (``T.D. Pro Ex''); letter from
Citadel et al. (June 2009); letter from William Connell, President
and CEO, Allston Trading, LLC, dated June 18, 2009 (``Allston
Trading (June 2009)''); letter from Wolverine; letter from Roy J.
Katzovicz, Chief Legal Officer, Pershing Square Capital Management
L.P., dated June 19, 2009 (``Pershing Square''); letter from GETCO
(June 2009); letter from Luke Fichthorn, Managing Member, John
Fichthorn, Managing Member, Dialectic Capital Management, LLC, dated
June 18, 2009 (``Dialectic Capital (June 2009)''); memorandum of a
meeting between representatives of Credit Suisse and the Office of
Commissioner Aguilar, dated July 2, 2009, and written materials
submitted at the meeting (``Credit Suisse (July 2009)''); letter
from CPIC (Sept. 2009); letter from STA (Sept. 2009); letter from
Ira D. Hammerman, Senior Managing Director and General Counsel,
Securities Industry and Financial Markets Association, dated Sept.
21, 2009 (``SIFMA (Sept. 2009)''); letter from TD Asset Management;
letter from Goldman Sachs (Sept. 2009); letter from Peter Kovac,
Chief Operating Officer and Financial and Operations Principal, EWT,
LLC, dated Sept. 21, 2009 (``EWT (Sept. 2009)''); letter from
Charles M. Jones, PhD, Robert W. Lear Professor of Finance and
Economics, Columbia Business School, dated Sept. 21, 2009 (``Prof.
Jones''). See also infra Section II.D. (discussing the data and
studies submitted and/or referenced by commenters).
\81\ See, e.g., letter from MFA (June 2009); letter from STANY
(June 2009); letter from Credit Suisse (June 2009); letter from STA
(Sept. 2009) (noting that ``[t]he STA believes that long sellers
deleveraging and anticipating withdrawals and redemptions were
largely responsible for the declines'').
\82\ See, e.g., letter from STA (Sept. 2009).
\83\ See Proposal, 74 FR at 18049.
\84\ See Staff, Analysis of a short sale price test using
intraday quote and trade data, Dec. 17, 2008 (``Staff Analysis (Dec.
17, 2008)'') at http://www.sec.gov/comments/s7-08-09/s70809-368.pdf.
\85\ See Staff, Analysis of Short Selling Activity during the
First Weeks of September, 2008, Dec. 16, 2008 (``Staff Analysis
(Dec. 16, 2008)'') at http://www.sec.gov/comments/s7-08-09/s70809-369.pdf.
\86\ See Staff Analysis (Dec. 17, 2008).
\87\ See Staff Analysis (Dec. 16, 2008).
---------------------------------------------------------------------------

Some commenters stated that the recent market stability suggests
that investor confidence has been restored and, therefore, short sale
price test restrictions are not necessary.\88\ Several commenters
submitted data or referenced studies showing that investor confidence
has recently improved.\89\ A number of commenters expressed concern
that any short sale price test restriction would carry with it the
unintended consequences of reduced liquidity and widened bid-ask
spreads, resulting in less efficient pricing in the securities
markets.\90\ One commenter stated its belief that because short sale
price test restrictions would weaken and erode benefits of short
selling such as

[[Page 11239]]

liquidity, price discovery and the ability to manage risk, they would
also weaken and erode investor confidence.\91\ Many commenters stated
that the reinstatement of any short sale price test restriction would
impose significant costs on market participants and lead to increased
transaction costs for investors.\92\ In addition, several commenters
noted that while the Commission is rightly trying to increase investor
confidence, current short sale regulations, including Rule 204 of
Regulation SHO and Exchange Act Rule 10b-21, are sufficient to address
the public's concerns about potentially abusive short selling.\93\
---------------------------------------------------------------------------

\88\ See, e.g., letter from Renee M. Toth, President, National
Association of Active Investment Managers, dated June 12, 2009
(``NAAIM''); letter from NSCP; letter from RBC (Sept. 2009).
\89\ See, e.g., memorandum of meeting between representative of
TD Ameritrade and the Office of Commissioner Aguilar, dated June 1,
2009, and written materials submitted at the meeting (``TD
Ameritrade''); letter from RBC (Sept. 2009); letter from EWT (Sept.
2009). In addition, one commenter submitted preliminary data on the
relationship between short selling and investor confidence and
stated that ``[w]hile it is too early to draw conclusions from this
data, the evidence presented below does not suggest that there is a
negative relationship between short selling activity and investor
confidence.'' See letter from Ingrid M. Werner, PhD, Martin and
Andrew Murrer Professor of Finance, Fisher College of Business, The
Ohio State University, dated June 19, 2009 (``Prof. Werner''). See
also infra Section II.D. (discussing data submitted and/or
referenced by commenters regarding investor confidence).
\90\ See e.g., letter from Jeffrey S. Wecker, CEO, Lime
Brokerage LLC, dated June 19, 2009 (``Lime Brokerage (June 2009)'')
(noting that ``[w]e believe there would be significant unintended
consequences of the proposed restrictions, including reduction in
overall market liquidity and widening of spreads * * *''); letter
from Leonard J. Amoruso, General Counsel, Knight Capital Group,
Inc., dated June 18, 2009 (``Knight Capital (June 2009)''); letter
from MFA (June 2009); see also infra Section II.D. (discussing
empirical data regarding the potential impact of short sale price
test restrictions).
\91\ See letter from AIMA; see also letter from CPIC (June 2009)
(stating ``investor confidence will not be served in the long term
by the adoption of rules that the Commission itself has acknowledged
have no sound empirical basis and may decrease market efficiency,
limit price discovery, provide less protection against upward stock
price manipulations, increase trading costs, reduce liquidity and
impose other potential costs on investors'').
\92\ See e.g., letter from Scott C. Goebel, Senior Vice
President and General Counsel, Fidelity Investments, dated June 22,
2009 (``Fidelity''); letter from MFA (June 2009); letter from Credit
Suisse (June 2009); letter from EWT (June 2009); letter from SIFMA
(June 2009); letter from Wolverine; letter from T.D. Pro Ex; letter
from ICI (June 2009); letter from Simon M. Lorne, Chief Legal
Officer, Martin Z. Schwartz, Chief Compliance Officer, Millennium
Management LLC, dated June 19, 2009 (``Millennium''); letter from
Citadel et al. (June 2009).
\93\ See e.g., letter from Tim Belloto, dated May 5, 2009;
letter from MFA (June 2009); letter from SIFMA (June 2009); letter
from Pershing Square; letter from Paul M. Russo, Managing Director
and Head of U.S. Equity Trading, Goldman, Sachs & Co., dated June
19, 2009 (``Goldman Sachs (June 2009)''); letter from CBOE (June
2009); letter from Allston Trading (June 2009); letter from STANY
(June 2009); letter from Citadel et al. (June 2009); letter from STA
(Sept. 2009); letter from BATS (Sept. 2009).
---------------------------------------------------------------------------

A significant number of commenters, however, continue to urge the
Commission to reinstate some form of short sale price test restriction
because these commenters believe that such a measure will help to
restore investor confidence.\94\ One commenter stated that ``we believe
that a price test could have a real impact on investors' and issuers'
confidence in the equities market.'' \95\ Some commenters have stated
that a lack of price test restrictions makes them question whether they
should invest in the stock market.\96\ Other commenters have stated
that they believe a short sale price test will aid small investors.\97\
In addition, some commenters have suggested that restricting the prices
at which securities may be sold short will help address steep declines
in securities' prices.\98\

[[Page 11240]]

Some Members of Congress and representatives of one SRO have also
continued to express support for reinstatement of price test
restrictions.\99\ One such SRO representative noted that over 95% of
its issuers who participated in a survey believed that the market would
function better with one of the proposed short sale price test
restrictions.\100\
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\94\ See, e.g., letter from Herbert C. Roubidoux, dated May 4,
2009; letter from William K. Barnard, CEO, Equity Insight, Inc.,
dated May 4, 2009 (``Equity Insight''); letter from Henry J. Judd,
CEO, Alethium Corp., dated May 6, 2009; letter from John Sook, dated
May 6, 2009; letter from Boris Finkelstein, dated May 7, 2009;
letter from John E. Detraz, dated May 8, 2009; letter from Joseph
Giancola, dated May 8, 2009; letter from John W. Kozak, Chief
Financial Officer, Park National Corporation, dated May 19, 2009
(``Park National''); letter from Robert S. Miloszewski, dated June
1, 2009; letter from Dr. George R. Arends, dated June 1, 2009;
letter from Kent Hendrickson, dated June 4, 2009; letter from Dennis
Nixon, Chairman and Chief Executive Officer, International
Bancshares Corporation, dated June 9, 2009 (``IBC''); letter from
Brian P. Hendey, dated June 9, 2009; letter from Catherine Mapen,
dated June 15, 2009; letter from Jeffrey T. Brown, Senior Vice
President, Office of Legislative and Regulatory Affairs, Charles
Schwab & Co., Inc., dated June 18, 2009 (``Schwab''); letter from
Michael Gitlin, Head of Global Trading, David Oestreicher, Chief
Legal Counsel, Christopher P. Hayes, Sr. Legal Counsel, T. Rowe
Price Associates, Inc., dated June 18, 2009 (``T. Rowe Price (June
2009)''); letter from Michael R. McAlevey, Vice President and Chief
Corporate, Securities and Finance Counsel, General Electric Company,
dated June 18, 2009 (``GE''); letter from Janet M. Kissane, Senior
Vice President, Legal and Corporate Secretary, NYSE Euronext, dated
June 19, 2009 (``NYSE Euronext (June 2009)''); letter from Ronald C.
Long, Director, Regulatory Affairs, Wells Fargo Advisors, dated June
15, 2009 (``Wells Fargo (June 2009)''). In addition, prior to the
Proposal, a number of commenters stated that they believe that
reinstatement of some form of price test restriction would help
restore investor confidence. See, e.g., letter from Richard F.
Vulpi, dated Sept. 24, 2008; letter from Maureen Christensen, dated
Oct. 9, 2008; letter from Peter B. Eckle, CEO Associate
Arrangements, dated Oct. 11, 2008; letter from Joe Garrett, dated
Oct. 15, 2008; letter from Jenna L. Spurrier, dated Oct. 24, 2008;
letter from Scotland Settle, dated Oct. 27, 2008; letter from
Patrick McQuaid, dated Oct. 29, 2008; letter from Lynn Miller, dated
Nov. 13, 2008; letter from David Sheridan, dated Nov. 18, 2008;
letter from W. Romain Spell, dated Nov. 19, 2008; letter from Phil
Mason, dated Nov. 19, 2008; letter from Jeff Brower, dated Nov. 20,
2008; letter from Mike Abraham, dated Nov. 20, 2008; letter from
Marvin Dingott, dated Nov. 20, 2008; letter from Josh Dodson, dated
Nov. 21, 2008; letter from J. Geddes Parsons, dated Nov. 21, 2008;
letter from Charles Rudisill, dated Nov. 21, 2008; letter from Mike
Ryan, dated Nov. 21, 2008; letter from David B. Campbell and Natalie
H. Win, dated Nov. 25, 2008; letter from Edward L. Yingling,
American Bankers Association, dated Dec. 16, 2008; letter from
Robert A. Lee, dated Feb. 10, 2009; letter from Robert Levine, dated
Feb. 17, 2009; letter from Karl Findorff, dated Feb. 19, 2009;
letter from Robert Lounsbury, dated Feb. 25, 2009; letter from Dr.
Bill Daniel, dated Feb. 26, 2009; letter from Glenn A. Webster,
dated Feb. 26, 2009; letter from Arleen Golden, dated Mar. 2, 2009;
letter from Doug Cameron, dated Mar. 2, 2009; letter from Mike
Rogers, dated Mar. 3, 2009; letter from George A. Flagg, dated Mar.
3, 2009; letter from Kevin Girard, dated Mar. 4, 2009; letter from
Briggs Diuguid, dated Mar. 5, 2009 (``Briggs Diuguid''); letter from
Bob Young, dated Mar. 5, 2009; letter from Troy Williams, dated Mar.
6, 2009; letter from Paul Kent, dated Mar. 7, 2009; letter from
Chris Baratta, dated Mar. 9, 2009 (``Chris Baratta''); see also
letter from Professor Constantine Katsoris, Fordham University
School of Law, dated Mar. 4, 2009 (stating that elimination of
former Rule 10a-1 ``hardly generates confidence on the part of a
true investor who is entrusting his or her life's savings * * * to
the current market'').
\95\ Letter from NYSE Euronext (June 2009).
\96\ See, e.g., letter from Phil Koepke, dated May 5, 2009;
letter from Joe Wells, dated May 29, 2009; letter from Michael
Anderson, dated June 1, 2009 (noting ``[i]f the SEC fails to act in
the best interest of all investors, then peopel (sic) like myself,
will look at other investment alternatives than the Stock
Market.''); letter from Anton Kleinschmidt, dated June 2, 2009
(noting that he ``will not return to the equity markets'' until he
is ``confident that the wide range of market predators such as
unregulated short sellers are being effectively controlled''). In
addition, prior to (and as cited in) the Proposal, commenters
expressed similar concerns regarding a lack of price test
restrictions. See, e.g., letter from Jeff Boyd, dated Feb. 10, 2009;
letter from Tim Zanni, dated Feb. 19, 2009.
\97\ See, e.g., letter from Michael Anderson, dated June 1,
2009; letter from Carl H. Van Hoozier, Jr., dated June 3, 2009;
letter from Kevin Adcock, dated June 3, 2009 (noting that
``[w]ithout this reinstatement the market will never be judged as
fair, balanced or worth the unfair risks created by the SEC removing
a tried and tested 70+ year old rule''); letter from Fran Mazenko,
dated June 4, 2009; letter from Daniel H. Owings, dated June 4, 2009
(noting ``the elimination of the uptick rule * * * prevented the
small investor from equal treatment in the market''); letter from
Kathleen Jardine, dated June 4, 2009. In addition, prior to (and as
cited in) the Proposal, commenters expressed similar statements
regarding short sale price tests aiding small investors. See, e.g.,
letter from Chris Baratta (noting that while price test restrictions
could not reasonably be expected to prevent market downturns, they
would, in his opinion, ``give the little investor a chance'' in the
current conditions); see also letter from Paul D. Mendelsohn,
President, Windham Financial Services, Inc., dated Mar. 6, 2009
(stating that he believes former Rule 10a-1 ``protected'' the
markets and that ``suspension of the uptick rule has opened a
security hole into our financial system''); letter from Bob Young,
dated Mar. 5, 2009 (suggesting that reinstatement of the uptick rule
``will not be a quick or total fix, but it will help'').
\98\ See, e.g., letter from Grant D. Wieler, dated May 8, 2009;
letter from John J. Piccitto, Managing Director, John Piccitto
Consulting Ltd., dated May 7, 2009 (noting that ``[b]ecause the
decline of the value of a stock can be very steep and very fast
indeed, the ensuing `feeding frenzy' * * * should be addressed by
regulators. Slowing the cascade of short selling would create both
the fact and the appearance of regulatory control * * *''); letter
from Mucho Balka, Esq., dated May 30, 2009; letter from George A.
Mitchell, dated June 1, 2009; letter from Jason Sturm, dated June 1,
2009; letter from Erin Chieffi, dated June 2, 2009; letter from Paul
Rivett, Vice President and Chief Legal Officer, Fairfax Financial
Holdings Ltd., dated June 17, 2009 (``Fairfax Financial''); letter
from GE; letter from Michael Lamanna, dated June 17, 2009; letter
from Stanyarne Burrows, dated June 17, 2009; letter from William R.
Harker, Senior Vice President, General Counsel and Corporate
Secretary, Sears Holdings Corporation, dated June 19, 2009
(``Sears''); letter from Glen Shipway, dated Sept. 21, 2009 (``Glen
Shipway (Sept. 2009)''). In addition, the American Bankers
Association noted that its members, ``both large and small, have
told us that short sellers were taking advantage of the uptick
rule's absence; that their stock prices were experiencing excessive
downward pressure unrelated to actual conditions of the firm. * *
*'' and that its members expressed ``that measures needed to be
taken, including reinstating the uptick rule in some format, to
reduce the avenues for abusive trading practices and to restore
investor confidence.'' Letter from Sarah A. Miller, Senior Vice
President, Center for Securities, Trust and Investments, American
Bankers Association, dated July 1, 2009 (``Amer. Bankers Assoc.'');
see also letter from Paul Tudor Jones II, Tudor Investment
Corporation, dated Oct. 10, 2008 (stating that he believes that one
way to ``immediately stem the decline'' in the stock market would be
to reinstate the uptick rule); letter from James F. Kane, Jr., dated
Feb. 6, 2009 (stating that he believes that reinstating ``the Up-
tick Rule will go a long way in preventing speculators from ganging
up on a particular stock and forcing it down''); letter from Briggs
Diuguid (stating that while short sellers ``make efficient
markets,'' he is nonetheless concerned that short selling may be a
tool of manipulators when short sales are ``piled on'' a particular
company).
\99\ See e.g., letter to Mary Schapiro, Chairman, from Kirsten
Gillibrand, United States Senator, dated June 5, 2009; joint
statement of Ted Kaufman, United States Senator, and Johnny Isakson,
United States Senator, dated Sept. 29, 2009. In addition, prior to
(and as cited in) the Proposal, several current and former Members
of Congress have called for reinstatement of short sale price test
restrictions. See, e.g., letter to Christopher Cox, Chairman, from
Hillary Rodham Clinton, former United States Senator, dated Sept.
17, 2008; letter to Christopher Cox, Chairman, from Bill Sali,
Member of Congress, dated Oct. 1, 2008; letter to Christopher Cox,
Chairman, from Peter T. King, Member of Congress, dated Oct. 7,
2008; letter to Mary Schapiro, Chairman, from Gary L. Ackerman,
Member of Congress, dated Jan. 27, 2009; letter to Mary Schapiro,
Chairman, from Rep. Barney Frank and other Members of the House
Financial Services Committee, dated Mar. 11, 2009; Proposal, 74 FR
at 18046-18047 (noting statements by a Member of Congress and a
former U.S. Senator asking the Commission to reinstate former Rule
10a-1 or some other form of short sale price test restriction). See
also letter to Mary Schapiro, Chairman, from Carolyn Maloney, Member
of Congress and Chairman of the Joint Economic Committee, dated Mar.
23, 2009. We note, however, that other Members of Congress have
expressed concerns regarding our adopting a short sale price test
restriction. See, e.g., letter to Mary Schapiro, Chairman, from
Michael Crapo, United States Senator, Jim Bunning, United States
Senator, David Vitter, United States Senator, Michael Enzi, United
States Senator, and Mel Martinez, former United States Senator,
dated June 17, 2009.
With respect to comments by SRO representatives, see, e.g.,
letter from Janet M. Kissane, Senior Vice President, Legal and
Corporate Secretary, NYSE Euronext, dated Sept. 21, 2009 (``NYSE
Euronext (Sept. 2009)''); letter from NYSE Euronext (June 2009);
statement of Larry Leibowitz, Group Executive Vice President and
Head of Global Technology and US Executions, NYSE Euronext, dated
May 5, 2009 (``NYSE Euronext (May 2009)''). In addition, prior to
(and as cited in) the Proposal, one senior SRO representative
endorsed the reinstatement of a short sale price test restriction.
See Edgar Ortega, Short-Sale Rule Undermined as Bernanke Backs
Review, Bloomberg News Service, Mar. 4, 2009 (noting comments by
Duncan Niederauer, CEO, The NYSE Euronext Group, Inc., that imposing
a measure such as former Rule 10a-1, ``would go a long way to adding
confidence'' in our markets).
\100\ See letter from NYSE Euronext (June 2009).
---------------------------------------------------------------------------

As we noted in the Proposal, some researchers have also indicated
that they believe that they have collected data that establishes a
possible association between the recent market downturn and the
elimination of former Rule 10a-1.\101\ Commenters also submitted data
or referenced studies they believe support the contention that a price
test restriction would have a positive impact on the market.\102\ In
addition, there have been reports of significant short selling in
connection with the use of credit default swaps (``CDS''), particularly
in the securities of significant financial institutions,\103\ and it
has been suggested that the interaction between and amplifying effects
of CDS and short selling may be a reason to reinstate a short sale
price test.\104\
---------------------------------------------------------------------------

\101\ See Proposal, 74 FR at 18047, n.64; see also letter from
Yavni Bar-Yam, New England Complex Systems Institute, dated June 23,
2009 (``Yavni Bar-Yam''); Dion Harmon and Yaneer Bar-Yam, April
2009, Technical Report on SEC Uptick Rule Proposals, New England
Complex Systems Institute.
\102\ See, e.g., letter from NYSE Euronext (June 2009); letter
from Schwab; letter from Richard J. Adler, Managing Director,
European Investors, Inc., dated June 19, 2009 (``European Investors
(June 2009)''); letter from Richard J. Adler, Managing Director,
European Investors, dated Sept. 21, 2009 (``European Investors
(Sept. 2009)''); letter from William Furber, High Street Advisors,
L.P., dated June 18, 2009 (``High Street Advisors''); letter from
Park National; letter from IBC; letter from Daniel P. Amos, Chairman
and CEO, Aflac Incorporated, dated June 23, 2009 (``Aflac''); letter
from J. Austin Murphy, PhD, Professor of Finance at Oakland
University, School of Business Administration, dated Apr. 9, 2009
(``Prof. Murphy''); letter from Martin B. Napor, dated June 17, 2009
(``Martin Napor''); see also infra Section II.D. (discussing
empirical data submitted in response to the Proposal and the Re-
Opening Release).
\103\ See Proposal, 74 FR at 18047, n.65 (referring to an
article by George Soros, The Game Changer, available at http://www.ft.com/cms/s/0/49b1654a-ed60-11dd-bd60-0000779fd2ac.html).
Similarly, in response to the Proposal, commenters raised concerns
about CDS and short selling. See, e.g., letter from Edward D.
Herlihy, Theodore A. Levine, Wachtell, Lipton, Rosen & Katz, dated
June 17, 2009 (``Wachtell''); letter from GE.
\104\ See Proposal, 74 FR at 18047, n.66 and accompanying text.
---------------------------------------------------------------------------

Further, as we stated in the Proposal, questions and comments have
been raised about the role that short selling, and in particular
potentially abusive short selling, may have had in connection with the
recent price fluctuations and disruption in our markets.\105\ As such,
prior to issuing the Proposal, in the latter part of 2008, we took a
number of other short sale-related actions aimed at addressing these
concerns. For example, due to our concerns that false rumors spread by
short sellers regarding financial institutions of significance in the
U.S. may have fueled market volatility in the securities of some of
these institutions, on July 15, 2008, we issued an emergency order
(``July Emergency Order'') \106\ pursuant to section 12(k)(2) of the
Exchange Act \107\ which imposed borrowing and delivery requirements on
short sales of the equity securities of certain financial institutions.
We noted in the July Emergency Order that false rumors can lead to a
loss of investor confidence. Such loss of investor confidence can lead
to panic selling, which may be further exacerbated by ``naked'' short
selling. As a result, the prices of securities may artificially and
unnecessarily decline well below the price level that would have
resulted from the normal price discovery process.\108\ If significant
financial institutions are involved, this chain of events can threaten
disruption of our markets.\109\
---------------------------------------------------------------------------

\105\ See Proposal, 74 FR at 18047-18048.
\106\ See Exchange Act Release No. 58166 (July 15, 2008), 73 FR
42379 (July 21, 2008).
\107\ 15 U.S.C. 78l(k)(2).
\108\ See July Emergency Order, 73 FR 42379.
\109\ See id.
---------------------------------------------------------------------------

Due to our concerns regarding the impact of short selling on the
prices of financial institution securities, on September 18, 2008, we
issued another emergency order prohibiting short selling in the
publicly traded securities of certain financial institutions.\110\ Our
concerns, however, were not limited to financial institutions, given
the importance of confidence in our markets and the rapid and steep
declines in the prices of securities that generally we were seeing at
that time.\111\ Such rapid and steep price declines can give rise to
questions about the underlying financial condition of an institution,
which in turn can erode confidence, even without an underlying
fundamental basis.\112\ This erosion of confidence can impair the
liquidity and ultimate viability of an institution, with potentially
broad market consequences.\113\
---------------------------------------------------------------------------

\110\ See Exchange Act Release No. 58592 (Sept. 18, 2008), 73 FR
55169 (Sept. 24, 2008) (``Short Sale Ban Emergency Order'').
\111\ See, e.g., July Emergency Order, 73 FR 42379; Short Sale
Ban Emergency Order 73 FR 55169; Exchange Act Release No. 58572
(Sept. 17, 2008), 73 FR 54875 (Sept. 23, 2008) (``September
Emergency Order'').
\112\ See Short Sale Ban Emergency Order, 73 FR 55169; September
Emergency Order, 73 FR 54875.
\113\ See id.
---------------------------------------------------------------------------

These concerns resulted in our issuance on September 17, 2008 of an
emergency order under Section 12(k)(2) of the Exchange Act, in part
targeting short selling in all equity securities.\114\ Pursuant to the
September Emergency Order we imposed enhanced delivery requirements on
sales of all equity securities under Rule 204T of Regulation SHO.\115\
---------------------------------------------------------------------------

\114\ See September Emergency Order, 73 FR 54875.
\115\ See id. In addition, we issued an emergency order, and
subsequent Interim Final Temporary Rule, Rule 10a-3T, to require
disclosure of short sales and short positions in certain securities.
The temporary rule expired on August 1, 2009. See Exchange Act
Release No 58591 (Sept. 18, 2008) 73 FR 55175 (Sept. 24, 2008);
Exchange Act Release No. 58785 (Oct. 15, 2008), 73 FR 61678 (Oct.
17, 2008).

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[[Page 11241]]

Rule 204T, among other things, required participants of a
registered clearing agency to close-out fails to deliver resulting from
short sales of any equity security by purchasing or borrowing the
security by no later than the beginning of trading on the day after the
fail to deliver occurred. We adopted the provisions of the September
Emergency Order as an Interim Final Temporary Rule in October 2008
because of our continued concern about the potentially negative market
impact of large and persistent fails to deliver.\116\
---------------------------------------------------------------------------

\116\ See Exchange Act Release No. 58773 (Oct. 14, 2008), 73 FR
61706 (Oct. 17, 2008) (``Interim Final Temporary Rule 204T'').
---------------------------------------------------------------------------

Our adoption of Interim Final Temporary Rule 204T followed a series
of other steps aimed at reducing such fails to deliver and addressing
potentially abusive short selling. These steps included eliminating the
``grandfather'' and options market maker exceptions to Regulation SHO's
close-out requirement,\117\ and proposing and subsequently adopting a
``naked'' short selling anti-fraud rule, Rule 10b-21.\118\ Although we
recognize that fails to deliver can occur for legitimate reasons, we
remained concerned about the impact of large and persistent fails to
deliver on market confidence. Results from Staff analysis indicate that
our actions to further reduce fails to deliver are having their
intended effect. For example, these results indicate that fails to
deliver in all equity securities have declined significantly since the
adoption of Interim Final Temporary Rule 204T.\119\ To help further our
goal of reducing fails to deliver by maintaining the reductions in
fails to deliver achieved by the adoption of Interim Final Temporary
Rule 204T, as well as other actions taken by the Commission, we adopted
the substance of Interim Final Temporary Rule 204T as a permanent rule,
Rule 204, in July 2009.\120\
---------------------------------------------------------------------------

\117\ See Exchange Act Release No. 56212 (Aug. 7, 2007), 72 FR
45544 (Aug. 14, 2007) (eliminating the ``grandfather'' exception to
Regulation SHO's close-out requirement); September Emergency Order,
73 FR 54875 (eliminating the options market maker exception to
Regulation SHO's close-out requirement). Following the issuance of
the September Emergency Order, we adopted amendments making
permanent the elimination of the options market maker exception. See
Exchange Act Release No. 58775 (Oct. 14, 2008), 73 FR 61690 (Oct.
17, 2008) (``Options Market Maker Elimination Release'').
\118\ See Exchange Act Release No. 58774 (Oct. 14, 2008), 73 FR
61666 (Oct. 17, 2008); September Emergency Order, 73 FR 54875;
Exchange Act Release No. 57511 (Mar. 17, 2008), 73 FR 15376 (Mar.
21, 2008).
\119\ See Memorandum from the Staff Re: Impact of Recent SHO
Rule Changes on Fails to Deliver, Nov. 4, 2009 at http://www.sec.gov/spotlight/shortsales/oeamemo110409.pdf (stating, among
other things, that the average daily number of aggregate fails to
deliver for all securities decreased from 2.21 billion to 0.25
billion for a total decline of 88.5% when comparing a pre-Rule to
post-Rule period); Memorandum from the Staff Re: Impact of Recent
SHO Rule Changes on Fails to Deliver, Nov. 26, 2008 at http://www.sec.gov/comments/s7-30-08/s73008-37.pdf; Memorandum from the
Staff Re: Impact of Recent SHO Rule Changes on Fails to Deliver,
Mar. 20, 2009 at http://www.sec.gov/comments/s7-30-08/s73008-107.pdf.
\120\ See Exchange Act Release No. 60388 (July 27, 2009), 74 FR
38266 (July 31, 2009) (``Rule 204 Adopting Release''). Rule 204
contained some modifications to address commenters' concerns. See
id.
---------------------------------------------------------------------------

Despite the significant decline in fails to deliver and the more
recent stability in the securities markets, concerns persist about
rapid and steep price declines in securities and erosion of investor
confidence in our markets. Thus, we continued to examine whether there
are other actions that the Commission should take, including re-
evaluating whether a short sale price test should be reintroduced or a
circuit breaker rule should be imposed.
As we stated in the Proposal, when we eliminated all short sale
price test restrictions in July 2007, we acknowledged that
circumstances may develop that could warrant relief from the
prohibition in Rule 201 of Regulation SHO for a short sale price test,
including a short sale price test of an SRO, to apply to short sales in
any security.\121\ Thus, in determining whether or not to propose, and
now adopt, a short sale price test rule or circuit breaker rule, we
have considered the recent turmoil in the financial sector and steep
declines and extreme volatility in securities prices.\122\
---------------------------------------------------------------------------

\121\ See Proposal, 74 FR at 18048; see also 2007 Price Test
Adopting Release, 72 FR at 36348.
\122\ See, e.g., Proposal, 74 FR at 18048 (noting the turbulence
in the securities markets at the time we issued the Proposal and
during the eighteen months prior thereto).
---------------------------------------------------------------------------

As discussed in this adopting release, we remain mindful that short
selling provides benefits to the market. For example, legitimate short
selling can play an important and constructive functional role in the
markets, providing liquidity and price efficiency. Short sellers also
play an important role in correcting upward stock price
manipulation.\123\ Because short sale price test restrictions may
lessen some of these benefits, it is important that any short sale
price test regulation is designed to limit any potentially unnecessary
impact on legitimate short selling.
---------------------------------------------------------------------------

\123\ See, e.g., Staff's Summary Pilot Report at 9.
---------------------------------------------------------------------------

Thus, as discussed in detail below, we are adopting in Rule 201 a
targeted short sale price test restriction that will be based on the
current national best bid and that will apply only if the price of an
individual security declines intra-day by 10% or more from that
security's prior day's closing price on the listing market for that
security. We are also amending Rule 200(g) of Regulation SHO to address
when a broker-dealer may need to mark certain sell orders ``short
exempt.''

D. Empirical Data Regarding Potential Market Impact of Short Sale Price
Test Restrictions Submitted in Response to the Proposal and Re-Opening
Release

In the Proposal, we requested that commenters provide empirical
data to support their views and arguments with respect to the proposed
short sale price test rules and the proposed circuit breaker
rules.\124\ Overall, the interpretations and results of the analyses
submitted were mixed and sometimes conflicted with each other. In
addition, the methods used in the empirical analyses submitted ranged
from simple plots of data points to carefully constructed econometrics.
The Pilot Results, while dated, in our view should continue to inform
our decisionmaking where relevant, and none of the empirical studies
discussed below have given us reason to question the rigor or validity
of the Pilot Results.
---------------------------------------------------------------------------

\124\ See, e.g., Proposal, 74 FR at 18049.
---------------------------------------------------------------------------

A number of commenters submitted data or referenced studies in
support of their position that a short sale price test restriction
would not have a positive impact on the market.\125\ In contrast,

[[Page 11242]]

and as we noted in the Proposal, some commenters have indicated that
they believe that they have collected data that establishes a possible
association between the recent market downturn and the elimination of
former Rule 10a-1.\126\ Commenters also submitted data or referenced
studies in support of the contention that a price test restriction
would have a positive impact on the market.\127\ We summarize below
findings from these studies and discuss our views with respect to the
studies.
---------------------------------------------------------------------------

\125\ See, e.g., letter from BATS (May 2009); Autore,
Billingsley, and Kovacs, Short Sale Constraints, Dispersion of
Opinion, and Market Quality: Evidence from the Short Sale Ban on
U.S. Financial Stocks (June 19, 2009); letter from CBOE (June 2009);
letter from CPIC (June 2009); letter from STANY (June 2009); letter
from SIFMA (June 2009); letter from MFA (June 2009); letter from ICI
(June 2009); letter from NSCP; letter from AIMA; letter from Credit
Suisse (June 2009); letter from T.D. Pro Ex; letter from Citadel et
al. (June 2009); letter from Allston Trading (June 2009); letter
from Knight Capital (June 2009); letter from Wolverine; letter from
Pershing Square; letter from GETCO (June 2009); letter from
Dialectic Capital (June 2009); letter from Hudson River Trading;
memorandum regarding meeting with Credit Suisse (July 2009); letter
from CPIC (Sept. 2009); letter from STA (Sept. 2009); letter from
SIFMA (Sept. 2009); letter from TD Asset Management; letter from
Goldman Sachs (Sept. 2009); letter from EWT (Sept. 2009); letter
from Prof. Jones; see also letter from NAAIM; letter from Prof.
Werner; memorandum regarding meeting with TD Ameritrade; letter from
Adam V. Reed, Julian Price Associate Professor of Finance,
University of North Carolina at Chapel Hill, dated Sept. 21, 2009
(``Prof. Reed''); letter from RBC (Sept. 2009); letter from Daniel
Mathisson, Managing Director, Credit Suisse Securities (USA), LLC,
dated Mar. 30, 2009 (``Credit Suisse (Mar. 2009)''); Ana Avramovic,
What Happened When Traders' Shorts Were Pulled Down?, Credit Suisse
Market Commentary (Sept. 2008) (``Avramovic (Sept. 2008)'').
\126\ See Proposal, 74 FR at 18047, n.64; see also letter from
Yavni Bar-Yam; Dion Harmon and Yaneer Bar-Yam, April 2009, Technical
Report on SEC Uptick Rule Proposals, New England Complex Systems
Institute.
\127\ See, e.g., letter from Jeff Wang, dated May 7, 2009
(``Jeff Wang''); letter from NYSE Euronext (June 2009); letter from
Schwab; letter from European Investors (June 2009); letter from
European Investors (Sept. 2009); letter from High Street Advisors;
letter from Park National; letter from IBC; letter from Aflac;
letter from GE; letter from Michael R. Grupe, Executive Vice
President, Research & Investor Outreach, National Association of
Real Estate Investment Trusts, dated June 19, 2009 (``NAREIT'');
letter from Kurt N. Schacht, Managing Director, Linda L.
Rittenhouse, Director, Capital Markets Policy, CFA Institute Centre
for Financial Market Integrity, dated Aug. 21, 2009 (``CFA'');
letter from Martin Napor.
---------------------------------------------------------------------------

Several commenters cited empirical evidence showing that short
selling contributes to market liquidity, price discovery, and market
efficiency and that restrictions on short selling, particularly bans on
short selling, may impede liquidity, price discovery, and market
efficiency.\128\ While we agree with commenters that short selling
contributes to market liquidity, price discovery and market efficiency
and while these studies provide relevant information with respect to
the effects of a short selling ban, they do not address the effects of
a short sale price test restriction, or more specifically for purposes
of Rule 201, a circuit breaker that, when triggered, imposes the
alternative uptick rule.\129\ In fact, because Rule 201 does not impose
a ban on short selling but instead continues to allow short selling
(although at a price above the national best bid) when the short sale
price test restriction has been triggered, the Rule's structure will
help preserve the benefits of short selling.
---------------------------------------------------------------------------

\128\ See, e.g., letter from BATS (May 2009); letter from AIMA;
letter from CBOE (June 2009); letter from CPIC (June 2009); letter
from Credit Suisse (June 2009); letter from GETCO (June 2009);
letter from ICI (June 2009); letter from NSCP; letter from TD Asset
Management; letter from T.D. Pro Ex; letter from STANY (June 2009);
letter from Hudson River Trading; letter from Allston Trading (June
2009); letter from Knight Capital (June 2009); letter from Pershing
Square; letter from Wolverine; letter from Citadel et al. (June
2009) (referencing Lawrence E. Harris, Ethan Namvar and Blake
Phillips, Price Inflation and Wealth Transfer during the 2008 SEC
Short-Sale Ban, (Apr. 2009)); Matthew Clifton and Mark Snape, The
Effect of Short-selling Restrictions on Liquidity: Evidence from the
London Stock Exchange (Dec. 19, 2008); Recent Trends in Trading
Activity, Short Sales and Failed Trades and Study on the Impact of
the Prohibition on the Short Sale of Inter-Listed Financial Sector
Issuers by Investment Industry Regulatory Organization of Canada
(IIROC) (February 2009); See Autore, Billingsley, and Kovacs, Short
Sale Constraints, Dispersion of Opinion, and Market Quality:
Evidence from the Short Sale Ban on U.S. Financial Stocks (June 19,
2009); memorandum regarding meeting with Credit Suisse (July 2009);
see also letter from Credit Suisse (Mar. 2009).
\129\ See id. In addition, several commenters cited research
showing that short selling may be beneficial to price discovery and
market efficiency, but that did not address the effect of a short
sale price test restriction on price discovery or market efficiency.
See letter from CPIC (June 2009) (citing Jonathan Karpoff and
Xiaoxia Lou, Do Short Sellers Detect Overpriced Firms? Evidence from
SEC Enforcement Actions, Working paper, 2008); letter from Goldman
Sachs (Sept. 2009) (citing Jonathan Karpoff and Xiaoxia Lou, Short
Sellers and Financial Misconduct, Working paper, 2009); letter from
Pershing Square (citing Jonathan Karpoff and Xiaoxia Lou, Do Short
Sellers Detect Overpriced Firms? Evidence from SEC Enforcement
Actions, Working paper, 2008); letter from CPIC (Sept. 2009) (citing
Jonathan Karpoff and Xiaoxia Lou, Short Sellers and Financial
Misconduct, Working paper, 2009). Another commenter submitted a
study showing that short sellers trade after news stories and that
short sellers effectively process publicly available information.
See letter from Prof. Reed. While this study uses short selling
volume data to support its conclusion that short sellers do not
disproportionately engage in information-based manipulation, it does
not directly examine the impact of a short sale price test
restriction, and, therefore, has limited utility for purposes of
evaluating the potential market impact of Rule 201.
---------------------------------------------------------------------------

Some commenters cited a study (the ``Pre-Borrow Study'') which did
not find a relationship between changes in short interest and changes
in trading volume, and which concluded that ``short sales do not have a
significant effect on market liquidity: Other factors drive
liquidity.'' \130\ We note, however, that the correlation between
changes in short interest and changes in trading volume may not be an
accurate measure of the impact of short sales on liquidity. Economic
theory does not tend to support using changes in trading volume as a
measure of liquidity.\131\ Trading volume itself, as opposed to changes
in trading volume, is considered a measure of liquidity, though other
measures, such as effective spreads and price impact, are considered by
many to be better measures of liquidity and are more commonly used for
measuring the liquidity of equities.\132\ In addition, changes in short
interest do not necessarily measure the volume of short selling. In
fact, short interest is a ``snapshot'' variable, so the change in short
interest does not necessarily measure correctly the volume of short
selling, which is what the Pre-Borrow Study is trying to examine. Thus,
we do not believe that the results in the Pre-Borrow Study cited by
commenters should be interpreted to suggest that short sales are
unimportant for liquidity. We also note that the Pre-Borrow study does
not reconcile its results to a large body of conflicting evidence,
including (but not restricted to) analyses in the comments mentioned
above, showing that short selling contributes to market liquidity and
that restrictions on short selling, particularly bans on short selling,
may impede liquidity.\133\
---------------------------------------------------------------------------

\130\ See, e.g., letter from Patrick M. Byrne, Chairman and CEO,
Overstock.com, Inc., dated May 29, 2009 (``Overstock.com (May
2009)'') (citing Robert J. Shapiro and Nam D. Pham, The Impact of a
Pre-Borrow Requirement for Short Sales on Failures-to-Deliver and
Market Liquidity, Apr. 2009; letter from Brian D. Pardo, Chairman
and CEO, Life Partners Holding, Inc., dated May 28, 2009 (``Life
Partners Holding'') (citing the Pre-Borrow Study).
\131\ The reason why we cannot interpret a change in trading
volume as a measure of liquidity can be illustrated by the following
example: A less liquid stock can experience an increase (positive
change) in trading volume and a more liquid stock can experience a
decrease in trading volume. Measuring liquidity by changes in
trading volume will mischaracterize the less liquid stock as more
liquid and the more liquid stock as less liquid.
\132\ See, e.g., Tarun Chordia, Richard Roll, and Avanidhar
Subrahmanyam, 2001, Market Liquidity and Trading Activity, Journal
of Finance, 34: 501-530; Joel Hasbrouck and Duane J. Seppi, 2001,
Common Factors in Prices, Order Flows and Liquidity, Journal of
Financial Economics, 59: 383-411; Yakov Amihud, 2002, Illiquidity
and stock returns: cross-section and time-series effects, Journal of
Financial Markets, 5: 31-56.
\133\ See supra note 128 (referencing, among others, empirical
evidence cited by commenters as showing that short selling
contributes to market liquidity).
---------------------------------------------------------------------------

Several commenters provided analyses showing that short interest
initially fell immediately after the repeal of former Rule 10a-1 and
that either short interest or short selling volume fell for specific
stocks over periods leading up to the Short Sale Ban Emergency
Order.\134\ Overall, these analyses show that the negative returns of
financial securities in the weeks both before and during the Short Sale
Ban Emergency Order are unlikely to be the result of short selling
activities.\135\ We note that, although these studies create some doubt
about whether certain price declines during that time period were
caused by short sellers, because the analyses provided are specific to
the Short Sale Ban Emergency Order and to a time period during which
there was significant market turmoil, the analyses are less relevant
regarding the potential impact on returns of the circuit breaker
approach of Rule 201.
---------------------------------------------------------------------------

\134\ See, e.g., letter from Dialectic Capital (June 2009);
letter from MFA (June 2009); letter from STA (Sept. 2009); Avramovic
(Sept. 2008).
\135\ See Avramovic (Sept. 2008); letter from Credit Suisse
(June 2009).
---------------------------------------------------------------------------

Several other commenters stated that the absence of a short sale
price test restriction has been detrimental to

[[Page 11243]]

prices and provided information on share prices, volume and/or short
interest that they believe support this statement.\136\ We note that,
while some of the noted price changes coincide with changes in short
selling activity, some do not.\137\ Moreover, because these studies
look at a long horizon (e.g., months instead of minutes), it is not
clear that the evidence provided is relevant to support such
conclusion. Thus, it is difficult to conclude from these analyses that
the absence of a short sale price test restriction and the actions of
short sellers resulted in issuer prices falling below their fundamental
values.
---------------------------------------------------------------------------

\136\ See, e.g., letter from Park National; letter from GE;
letter from Aflac; letter from IBC; letter from Jeff Wang; letter
from Martin Napor.
\137\ For example, some of the noted price declines coincide
with increases in short interest. See letter from Aflac; letter from
IBC. Other noted price changes do not correlate with changes in
short interest or short selling activity. See letter from Dialectic
Capital (June 2009); letter from MFA (June 2009); letter from Peter
J. Driscoll, Chairman, John C. Giesea, President and CEO, Security
Traders Association, dated June 19, 2009 (``STA (June 2009)'');
Avramovic (Sept. 2008).
---------------------------------------------------------------------------

One commenter cited a study that used intra-day short selling
transaction data to examine the impact of short selling on volatility
and found that the removal of former Rule 10a-1 did not exacerbate
volatility.\138\ We note that, while the study analyzed a period prior
to and after the removal of former Rule 10a-1, it analyzed only a six-
week period following the elimination of former Rule 10a-1, which may
minimize the study's statistical significance. We also note that
although the Staff found, in the Staff's Summary Pilot Report
presenting the Staff's analysis of the data made public during the
Pilot, that short sale price tests in effect at that time did not have
a significant impact on daily volatility, the Staff also found some
evidence that the short sale price tests dampened intra-day volatility
for smaller stocks.\139\
---------------------------------------------------------------------------

\138\ See letter from Citadel et al. (June 2009) (citing
Ekkehart Boehmer, Charles M. Jones, and Xioayan Zhang, Unshackling
Short Sellers: The Repeal of the Uptick Rule (Nov. 2008)).
\139\ See Staff's Summary Pilot Report at 55.
---------------------------------------------------------------------------

In contrast, other commenters submitted data showing an increase in
volatility from July 2007 through November 2008 to support the
conclusion that the absence of a short sale price test restriction
caused an increase in market volatility.\140\ As discussed above and in
the Proposal,\141\ concurrent with the subprime mortgage crises and
credit crisis in 2007, U.S. markets experienced increased volatility
and steep price declines, particularly in the stocks of certain
financial issuers. We are not aware, however, of any empirical evidence
that the elimination of short sale price test restrictions contributed
to the increased volatility in the U.S. markets. In addition, the data
showing an increase in volatility since the elimination of former Rule
10a-1 submitted by commenters in response to the Proposal does not
address the extent to which other factors may have influenced the
increased volatility. Moreover, because these studies look at a long
horizon (e.g., months instead of minutes), it is not clear that the
evidence provided is relevant to support such conclusion. Thus, the
relationship between the elimination of short sale price test
restrictions and the increased volatility remains unclear.
---------------------------------------------------------------------------

\140\ See, e.g., letter from NAREIT; letter from High Street
Advisors; letter from European Investors (June 2009); letter from
European Investors (Sept. 2009).
\141\ See Proposal, 74 FR at 18043.
---------------------------------------------------------------------------

Several commenters submitted data on the percentage of short sales
that might be affected by a short sale price test restriction.\142\ One
commenter submitted data indicating that the alternative uptick rule,
adopted on a permanent, market-wide basis, could affect up to 37% of
short sale orders.\143\ As acknowledged by this commenter, however,
this number does not indicate how severely the short sellers would be
affected, how the number might change in different market conditions,
or whether the number would result in changes in market quality.\144\
In addition, as acknowledged by the commenter, the number also does not
account for how order submission strategies would differ based on the
alternative uptick rule.\145\
---------------------------------------------------------------------------

\142\ See letter from Prof. Jones; letter from BATS (May 2009)
(stating that, on its own market during May, June, September and
October 2008, 12% to 13% of all executions were short sellers
trading at a price less than the last execution price).
\143\ See letter from Prof. Jones (stating that, during the
period from July 6, 2007 through the end of August 2007, an average
of 37% of submitted short sale orders in NYSE-listed Russell 3000
stocks were either market orders or marketable limit orders).
\144\ See id.
\145\ See id.
---------------------------------------------------------------------------

In addition, as discussed in more detail below,\146\ in response to
our request for comment on an appropriate threshold at which to trigger
the proposed circuit breaker short sale price restrictions, commenters
submitted estimates of the number of securities that would trigger a
circuit breaker rule at a 10% threshold.\147\ While commenters'
analyses (including the facts and assumptions used) and their resulting
estimates varied,\148\ commenters' estimates reflect that a 10% circuit
breaker threshold, on average, should affect a limited percentage of
covered securities.\149\ Given the variations in the facts and
assumptions underlying the estimates submitted by commenters, the Staff
also looked at trading data to confirm the reasonableness of those
estimates. The Staff found that, during the period covering April 9,
2001 to September 30, 2009,\150\ the price test restrictions of Rule
201 would have been triggered, on an average day, for approximately 4%
of covered securities.\151\ The Staff also found that for a low
volatility period, covering January 1, 2004 to December 31, 2006, the
10% trigger level of Rule 201 would have, on an average day, been
triggered for approximately 1.3% of covered securities.\152\ Thus, we
believe that the short sale price test restriction of Rule 201 is
structured so that generally it will not be triggered for the majority
of covered securities at any given time and, thereby, will not
interfere with the provision of market benefits such as liquidity and
price efficiency for those securities, including when prices in such
securities are undergoing minimal downward price pressure or are stable
or rising.
---------------------------------------------------------------------------

\146\ See infra Section III.A.5. (discussing the circuit breaker
trigger level).
\147\ See supra note 21.
\148\ See infra note 306.
\149\ See infra note 307.
\150\ See infra note 309.
\151\ See infra note 310.
\152\ See infra note 311.
---------------------------------------------------------------------------

Several commenters submitted data on indexes of investor confidence
to argue that investor confidence has been restored and, therefore,
short sale price test restrictions are not necessary.\153\ In addition,
one commenter submitted preliminary data, drawn in part from investor
confidence indexes, on the relationship between short selling and
investor confidence and stated that ``[w]hile it is too early to draw
conclusions from this data, the evidence presented * * * does not
suggest that there is a negative relationship between short selling
activity and investor confidence.'' \154\ Another commenter submitted a
survey showing that its clients put more money into the markets between
Fall 2008 and Spring 2009 and that many of its clients do not believe
that an overhaul of financial services regulation would restore
investor confidence.\155\
---------------------------------------------------------------------------

\153\ See, e.g., letter from RBC (Sept. 2009); letter from EWT
(Sept. 2009); letter from CPIC (June 2009); see also letter from
NAAIM (citing press articles as evidence of increased investor
confidence).
\154\ Letter from Prof. Werner.
\155\ See memorandum regarding meeting with TD Ameritrade.
---------------------------------------------------------------------------

We also note that some other commenters submitted surveys showing

[[Page 11244]]

that reinstituting a short sale price test restriction would improve
investor confidence.\156\ One commenter submitted a survey showing that
over 95% of the issuers participating in the survey believed that the
market would function better with a short sale price test restriction
and stated that this data ``suggests that a price test would boost
confidence.'' \157\
---------------------------------------------------------------------------

\156\ See, e.g., letter from NYSE Euronext (June 2009); letter
from CFA; see also letter from Schwab.
\157\ Letter from NYSE Euronext (June 2009).
---------------------------------------------------------------------------

While the analyses of investor confidence indexes submitted by
commenters do contain measures of investor confidence, we believe that
the investor confidence indexes cited are designed to capture elements
of investor confidence not directly affected by regulatory changes.
Investor confidence indexes often capture measures of systematic risk
or optimism about the economy, as opposed to measures of investor
confidence related to regulation designed to provide investor
protections. In addition, in light of the surveys that were submitted
in support of a short sale price test restriction as a means to restore
investor confidence,\158\ we do not believe that the surveys submitted
to argue that a short sale price test restriction would not improve
investor confidence \159\ provide strong evidence on this point.
---------------------------------------------------------------------------

\158\ See, e.g., letter from Schwab; letter from NYSE Euronext
(June 2009); letter from CFA.
\159\ See, e.g., memorandum regarding meeting with TD
Ameritrade.
---------------------------------------------------------------------------

Although in recent months there has been an increase in stability
in the securities markets, we remain concerned that excessive downward
price pressure on individual securities accompanied by the fear of
unconstrained short selling can undermine investor confidence in our
markets generally. Further, we are concerned about potential future
market turmoil, including significant increases in market volatility
and significant price declines, and the impact of any such future
market turmoil on investor confidence. Thus, we believe it is
appropriate to adopt the targeted short sale price test restrictions
contained in Rule 201.
In summary, we have reviewed the empirical data, analyses and
studies submitted and carefully considered them in connection with our
determination that it is appropriate at this time to adopt in Rule 201
a short sale price test restriction combined with a circuit breaker
approach.

III. Discussion of Rule 201 of Regulation SHO

In the Proposal, we proposed two approaches to restrictions on
short selling: one that would apply on a market-wide and permanent
basis and one that would apply only to a particular security during a
significant market decline in the price of that security (i.e., a
circuit breaker approach).\160\ With respect to the permanent, market-
wide approach, we proposed two alternative short sale price tests: the
proposed modified uptick rule, based on the current national best bid,
and the proposed uptick rule, based on the last sale price. With
respect to the circuit breaker approach, we proposed two alternative
circuit breaker tests: one that would temporarily prohibit short
selling in a particular security when there is a significant decline in
the price of that security and one that would temporarily impose either
the proposed modified uptick rule or the proposed uptick rule on short
sales in a particular security when there is a significant decline in
the price of that security.
---------------------------------------------------------------------------

\160\ See Proposal, 74 FR 18042.
---------------------------------------------------------------------------

In addition, in the Proposal we inquired whether a short sale price
test restriction that would permit short selling at a price above the
current national best bid, i.e., the alternative uptick rule, would be
preferable to the proposed modified uptick rule and the proposed uptick
rule.\161\ We sought comment regarding the application of the
alternative uptick rule as a market-wide permanent price test
restriction or in conjunction with a circuit breaker.\162\ We received
two comment letters regarding applying the alternative uptick rule on a
permanent, market-wide basis \163\ and seven comment letters with
respect to applying the alternative uptick rule in combination with a
circuit breaker.\164\ To allow us to further consider the alternative
uptick rule, on August 20, 2009, we re-opened the comment period to the
Proposal.\165\ In addition, on May 5, 2009, we held the May 2009
Roundtable \166\ at which panelists discussed the proposed short sale
price test restrictions and circuit breaker rules.
---------------------------------------------------------------------------

\161\ See Proposal, 74 FR at 18072, 18081, 18082.
\162\ See id.
\163\ See letter from William Hartley, dated May 8, 2009; letter
from Glen Shipway, dated June 19, 2009 (``Glen Shipway (June
2009)'').
\164\ See letter from BATS (May 2009); letter from Johnny
Peters, ChFC, dated May 20, 2009; letter from Credit Suisse (June
2009); letter from SIFMA (June 2009); letter from Goldman Sachs
(June 2009); letter from NYSE Euronext (June 2009); letter from Eric
W. Hess, General Counsel, Direct Edge Holdings LLC, dated June 23,
2009 (``Direct Edge (June 2009)''). In addition, in connection with
the May 2009 Roundtable, panelists expressed support for the
alternative uptick rule. See statement from NYSE Euronext (May
2009); opening remarks of James J. Angel, Ph.D., CFA, Associate
Professor of Finance, McDonough School of Business, Georgetown
University, dated May 5, 2009. We also note that prior to the
Proposal, four exchanges, NYSE Euronext, Nasdaq OMX Group, BATS, and
National Stock Exchange, submitted a comment letter recommending a
circuit breaker combined with a price test that would allow short
selling only at an increment above the current national best bid.
See letter from National Stock Exchange, NYSE Euronext, Nasdaq OMX
Group, and BATS, dated Mar. 24, 2009 (``National Stock Exchange et
al.''). NYSE Euronext, in its subsequent comments, stated that it
supported the proposed modified uptick rule applied on a permanent
and market-wide basis rather than the position expressed in the
earlier March 24, 2009 letter. See statement from NYSE Euronext (May
2009); letter from NYSE Euronext (June 2009).
\165\ See Re-Opening Release, 74 FR 42033.
\166\ See supra note 14.
---------------------------------------------------------------------------

As noted above, we received over 4,300 unique comment letters in
response to the Proposal and Re-Opening Release.\167\ In discussing the
provisions of Rule 201, we highlight and address below the main issues,
concerns, and suggestions raised by commenters.
---------------------------------------------------------------------------

\167\ See supra note 78.
---------------------------------------------------------------------------

A. Operation of the Circuit Breaker Plus Alternative Uptick Rule

We are adopting in Rule 201 a circuit breaker approach combined
with the alternative uptick rule. Specifically, Rule 201(b)(1) provides
that ``[a] trading center shall establish, maintain, and enforce
written policies and procedures reasonably designed to: (i) Prevent the
execution or display of a short sale order of a covered security at a
price that is less than or equal to the current national best bid if
the price of that covered security decreases by 10% or more from the
covered security's closing price as determined by the listing market
for the covered security as of the end of regular trading hours on the
prior day; and (ii) Impose the requirements of paragraph (b)(1)(i) of
this section for the remainder of the day and the following day when a
national best bid for the covered security is calculated and
disseminated on a current and continuing basis by a plan processor
pursuant to an effective national market system plan.'' \168\
---------------------------------------------------------------------------

\168\ Rule 201(b).
---------------------------------------------------------------------------

Thus, Rule 201 will require a trading center \169\ to have policies
and

[[Page 11245]]

procedures reasonably designed to prevent it from executing or
displaying any short sale order, absent an exception, at a price that
is equal to or below the national best bid if the price of that
security decreases by 10% or more from the security's closing price as
determined by the listing market for the covered security as of the end
of regular trading hours on the prior day.\170\ As discussed in more
detail below, we believe that such a Rule will help prevent short
sellers from using short selling as a tool to exacerbate a declining
market in a security.
---------------------------------------------------------------------------

\169\ Consistent with the Proposal, Rule 201(a)(9) states that
the term ``trading center'' shall have the same meaning as in Rule
600(b)(78). Rule 600(b)(78) of Regulation NMS defines a ``trading
center'' as ``a national securities exchange or national securities
association that operates an SRO trading facility, an alternative
trading system, an exchange market maker, an OTC market maker, or
any other broker or dealer that executes orders internally by
trading as principal or crossing orders as agent.'' See 17 CFR
242.600(b)(78). The definition encompasses all entities that may
execute short sale orders. Thus, Rule 201 will apply to any entity
that executes short sale orders.
\170\ Any such execution or display will also need to be in
compliance with applicable rules regarding minimum pricing
increments. See 17 CFR 242.612. See also infra Section III.A.2.
---------------------------------------------------------------------------

1. Covered Securities
Consistent with the proposed permanent, market-wide short sale
price test restrictions and proposed circuit breaker rules, Rule 201
will apply to any ``covered security.'' As proposed and as adopted,
Rule 201 defines ``covered security'' to mean any ``NMS stock'' as
defined under Rule 600(b)(47) of Regulation NMS.\171\ Rule 600(b)(47)
of Regulation NMS defines an ``NMS stock'' as ``any NMS security other
than an option.'' \172\ Rule 600(b)(46) of Regulation NMS defines an
``NMS security'' as ``any security or class of securities for which
transaction reports are collected, processed, and made available
pursuant to an effective transaction reporting plan, or an effective
national market system plan for reporting transactions in listed
options.'' \173\ Thus, Rule 201 will apply to any security or class of
securities, except options, for which transaction reports are
collected, processed, and made available pursuant to an effective
transaction reporting plan. As a result, Rule 201 generally will cover
all securities, except options, listed on a national securities
exchange whether traded on an exchange or in the OTC market.\174\ As
discussed further below, it will not include non-NMS stocks quoted on
the OTC Bulletin Board or elsewhere in the OTC market.
---------------------------------------------------------------------------

\171\ See Rule 201(a)(1).
\172\ 17 CFR 242.600(b)(47).
\173\ 17 CFR 242.600(b)(46).
\174\ We note that there may be securities that are listed on a
national securities exchange but that are not NMS stocks because
they do not meet the definition of ``NMS stock.'' Thus, these
securities will not be subject to the short sale price test
restrictions of Rule 201.
---------------------------------------------------------------------------

In response to our requests for comment, some commenters stated
that any short sale price test adopted by the Commission for NMS stocks
should also apply to non-NMS stocks quoted on the OTC Bulletin Board or
elsewhere in the OTC market.\175\ One commenter indicated that failure
to apply a short sale price test restriction applicable to NMS stocks
to non-NMS stocks quoted on the OTC Bulletin Board or elsewhere in the
OTC market would cause investors to have inappropriately negative views
about the OTC market and the firms whose securities are quoted
there.\176\ This commenter and another commenter also stated that not
including non-NMS stocks quoted on the OTC Bulletin Board or elsewhere
in the OTC market in a short sale price test restriction could have a
negative impact on the ability of firms whose securities are quoted OTC
to raise capital.\177\ Commenters noted that many issuers of securities
that are quoted OTC are ``small, emerging growth companies,'' \178\
that may have a particular need to raise capital in the equity
markets.\179\ One commenter noted that ``less liquid stocks and the
stock of less capitalized firms that trade in the OTC markets are in
need of as much, if not more, protection from manipulative behavior
than NMS stocks''\180\ while another stated that ``OTC Bulletin Board
and Pink Sheet securities would appear to be prime targets for
manipulative shorting practices.''\181\ Commenters also noted that
applying a price test rule uniformly to NMS stocks and to non-NMS
stocks quoted on the OTC Bulletin Board or elsewhere in the OTC market
could reduce the costs of such a rule because market participants would
need only one set of programs and systems designed to ensure compliance
with the rule, rather than different programs and systems for
securities covered by the rule and securities not covered by the
rule.\182\
---------------------------------------------------------------------------

\175\ See letter from Peter J. Chepucavage, General Counsel,
Plexus Consulting LLC, The International Association of Small Broker
Dealers and Advisors, dated Apr. 21, 2009; letter from R. Cromwell
Coulson, Chief Executive Officer, Pink OTC Markets, Inc., dated May
26, 2009 (``Pink OTC''); letter from STANY (June 2009); letter from
Michael L. Crowl, Managing Director and Global General Counsel,
Barclays Global Investors, dated June 19, 2009 (``Barclays (June
2009)'').
\176\ See letter from Pink OTC.
\177\ See letter from Pink OTC; letter from STANY (June 2009).
\178\ Letter from Pink OTC.
\179\ See letter from Pink OTC; letter from Alan F. Eisenberg,
Executive Vice President, Emerging Companies and Business
Development, Biotechnology Industry Organization, dated June 29,
2009 (``BIO''). BIO requested that biotechnology companies, many of
which BIO stated are emerging companies that are ``very dependent on
capital, including using the public markets as a source of
financing,'' be covered by any short sale price test restriction.
Letter from BIO. We also note that one commenter requested that the
Commission adopt a short sale price test or circuit breaker halt
restriction specifically applicable to financial sector stocks. See
letter from IBC. However, another commenter stated, ``Restrictions
on short selling in only the issues of financial services providers
is perhaps the least valuable of all the ideas to be discussed
during the short sale debate.'' See letter from STA (June 2009).
Another commenter noted that it is not possible to anticipate which
industry sectors may be impacted by potentially manipulative short
selling in the future. See letter from T. Rowe Price (June 2009).
Given the lack of a widespread call for industry specific short
selling restrictions, and the additional complexities that an
industry specific restriction would raise, such as identifying and
defining the industry or sector to be covered, we have determined
not to apply an industry specific short selling restriction at this
time.
\180\ Letter from STANY (June 2009).
\181\ Letter from T. Rowe Price (June 2009).
\182\ See letter from Pink OTC; letter from STANY (June 2009).
---------------------------------------------------------------------------

Several commenters, however, expressed support for the application
of a price test only to NMS stocks.\183\ Several commenters noted that
the current national best bid and offer are not currently collected,
consolidated and disseminated for non-NMS stocks quoted on the OTC
Bulletin Board or elsewhere in the OTC market.\184\ Further, although
one commenter indicated that the Commission should plan to phase in
application of a price test rule to non-NMS stocks quoted on the OTC
Bulletin Board or elsewhere in the OTC market,\185\ another commenter
expressed concerns that the OTC market is not ``robust enough to
withstand'' such regulation.\186\
---------------------------------------------------------------------------

\183\ See, e.g., letter from Wells Fargo (June 2009); letter
from T. Rowe Price (June 2009); letter from STA (June 2009); letter
from Credit Suisse (Sept. 2009).
\184\ See letter from Pink OTC; letter from T. Rowe Price (June
2009).
\185\ See letter from T. Rowe Price (June 2009).
\186\ Letter from STA (June 2009).
---------------------------------------------------------------------------

At this time, we are not applying Rule 201 to non-NMS stocks quoted
on the OTC Bulletin Board or elsewhere in the OTC market because a
national best bid and offer currently is not required to be collected,
consolidated, and disseminated for such securities.\187\ Rule 201 is
based on the current national best bid and its implementation requires
that the national best bid is collected, consolidated and disseminated
to market participants. Although several commenters indicated that it
would be possible for non-NMS stocks quoted on the OTC Bulletin Board
or elsewhere in the OTC market to join or create a national plan for
disseminating consolidated national

[[Page 11246]]

best bid information for such stocks,\188\ we are concerned that this
would be a significant undertaking that would add greatly to the
implementation time and cost of Rule 201, particularly in light of
comments that the implementation process may be complex even for those
securities for which the national best bid is currently collected,
consolidated, and disseminated.\189\
---------------------------------------------------------------------------

\187\ As noted above, former Rule 10a-1 also did not apply to
non-exchange listed securities quoted on the OTC Bulletin Board or
elsewhere in the OTC market. See supra note 43.
\188\ See, e.g., letter from Pink OTC; letter from STANY (June
2009); letter from T. Rowe Price (June 2009). The comment letter
from Pink OTC indicates that it ``would be willing to join the
current Tape C UTP network or work with FINRA to create an OTC/UTP
Plan including the best bid and offer prices for securities quoted
on OTCBB and our Pink Quote Inter-Dealer Quotation System.'' Letter
from Pink OTC.
\189\ See infra Section VII. (discussing implementation time)
and Sections X.B.1.b. and X.B.2.b. (discussing implementation
costs).
---------------------------------------------------------------------------

We recognize commenters' concerns, however, regarding not applying
Rule 201 to non-NMS stocks quoted on the OTC Bulletin Board or
elsewhere in the OTC market. Thus, at a later time, we may reconsider
whether applying Rule 201 to non-NMS stocks quoted on the OTC Bulletin
Board or elsewhere in the OTC market may be appropriate.
In response to our requests for comment, a number of commenters
expressed concerns about the application of a short sale price test to
equity securities without also addressing derivative securities.\190\
Several commenters indicated that the ability of market participants to
create ``synthetic'' short positions that are the economic equivalent
of a short sale through the use of derivative securities would
undermine the effectiveness of a short sale price test \191\ and/or
result in an increased use of derivative products to create
``synthetic'' short positions.\192\ Some commenters indicated that the
Commission should apply some sort of restriction to derivative
securities with respect to ``synthetic'' short sales,\193\ while others
suggested that the Commission should require disclosure of
``synthetic'' short positions created with derivative securities.\194\
Several commenters noted concerns with respect to practical
difficulties related to addressing derivative securities and short
selling issues, and that the Commission may not have the necessary
legislative authority to address certain areas.\195\
---------------------------------------------------------------------------

\190\ See, e.g., letter from Gregory Bloom, dated Apr. 10, 2009;
letter from Peter J. Driscoll, Chairman, John C. Giesea, President
and CEO, Security Traders Association, dated Apr. 16, 2009 (``STA
(Apr. 2009)''); letter from Jeffrey D. Morgan, President and CEO,
National Investor Relations Institute, dated May 29, 2009
(``NIRI''); letter from Douglas Engmann, President, Engmann Options,
Inc., dated June 1, 2009 (``Engmann Options''); letter from Dale
W.R. Rosenthal, Assistant Professor of Finance, College of Business
Administration, University of Illinois at Chicago, dated June 2,
2009 (``Prof. Rosenthal''); letter from Leslie Seff, President,
Matthew B. Management, Inc., dated June 5, 2009 (``Matthew B.
Management''); letter from Patrick J. Healy, Issuer Advisory Group,
dated June 30, 2009 (``IAG''); letter from Barclays (June 2009);
letter from Jesse J. Greene, Jr., Vice President, Financial
Management and Chief Financial Risk Officer, International Business
Machines Corporation, dated June 19, 2009 (``IBM''); letter from
Katherine Tew Darras, General Counsel, Americas, International Swaps
and Derivatives Association, Inc., dated June 19, 2009 (``ISDA'');
letter from STA (June 2009); letter from George U. Sauter, Managing
Director and Chief Investment Officer, The Vanguard Group, Inc.,
dated June 19, 2009 (``Vanguard (June 2009)''); letter from GE;
letter from Knight Capital (June 2009); letter from Wachtell; letter
from Keith F. Higgins, Chair, Committee on Federal Regulation of
Securities, American Bar Association, dated July 8, 2009 (``Amer.
Bar Assoc. (July 2009)''); letter from Jeffrey S. Wecker, CEO, Lime
Brokerage LLC, dated Sept. 21, 2009 (``Lime Brokerage (Sept.
2009)''); letter from Jonathan E. Johnson III, President,
Overstock.com, dated Sept. 24, 2009 (``Overstock.com (Sept.
2009)''); letter from Kevin Holley, dated Sept. 29, 2009 (``Kevin
Holley''); see also letter from Eric W. Hess, General Counsel,
Direct Edge Holdings LLC, dated Mar. 30, 2009 (``Direct Edge (Mar.
2009)'').
\191\ See, e.g., letter from Prof. Rosenthal; letter from STA
(Apr. 2009); letter from Overstock.com (Sept. 2009); letter from
Lime Brokerage (Sept. 2009).
\192\ See, e.g., letter from Matthew B. Management; letter from
Prof. Rosenthal; letter from Barclays (June 2009); letter from STA
(June 2009); letter from Vanguard (June 2009); letter from Lime
Brokerage (Sept. 2009).
\193\ See, e.g., letter from IAG; letter from ISDA; letter from
STA (June 2009); letter from Wachtell; letter from Matthew B.
Management; letter from James L. Rothenberg, dated Sept. 20, 2009
(``James Rothenberg'').
\194\ See, e.g., letter from IAG; letter from GE; letter from
Wachtell; see also letter from Direct Edge (Mar. 2009).
\195\ See letter from Barclays (June 2009); letter from GE;
letter from NIRI; letter from Amer. Bar Assoc. (July 2009). Two
commenters stated that the Commission should seek authority from
Congress to regulate derivative securities where authority is
currently lacking. See letter from GE; letter from NIRI.
---------------------------------------------------------------------------

As indicated in the Proposal and our requests for comment,\196\ we
recognize that the ability to obtain a short position through the use
of derivative products such as options, futures, contracts for
differences, warrants, CDS or other swaps (so-called ``synthetic short
sales'') or other instruments (such as inverse leveraged exchange
traded funds) may undermine our goals for adopting short sale price
test restrictions. We are also concerned that synthetic short positions
may increase as a result of the adoption of Rule 201. Rule 201,
however, like former Rule 10a-1 and NASD's former bid test, which also
did not apply to derivative securities, is formulated with the specific
structure of the equity markets in mind and not for the substantially
different market structure applicable to many derivatives securities.
In addition, we believe that applying a Rule 201-type rule to
derivatives securities would significantly complicate the
implementation process. Thus, we have determined at this time not to
modify the definition of ``covered security'' from that proposed and,
therefore, the scope of securities to which Rule 201 will apply.
---------------------------------------------------------------------------

\196\ See Proposal, 74 FR at 18071, 18078.
---------------------------------------------------------------------------

We note, however, that short sales in the equity markets to hedge
derivatives transactions are subject to Rule 201. In addition, because
we are concerned that the ability to create a short position through
the use of derivative securities may undermine the goals of short sale
price test restrictions, we may reconsider, at a later time, whether
additional regulation of derivative securities and the use of
``synthetic'' short positions may be appropriate.
The securities covered by Rule 201 will overlap with the securities
covered by former Rule 10a-1. Former Rule 10a-1 applied to securities
registered on, or admitted to unlisted trading privileges on, a
national securities exchange, if trades of the security were reported
pursuant to an effective transaction reporting plan and information
regarding such trades was made available in accordance with such plan
on a real-time basis to vendors of market transaction information. All
securities that would have been subject to former Rule 10a-1 will also
be subject to Rule 201. In addition, certain securities, i.e.,
securities traded on Nasdaq prior to its regulation as an exchange,
that were not subject to former Rule 10a-1 will be subject to Rule
201.\197\
---------------------------------------------------------------------------

\197\ When Nasdaq became a national securities exchange in 2006,
absent an exemption from former Rule 10a-1, all Nasdaq securities
would have been subject to former Rule 10a-1. The Commission
provided Nasdaq with an exemption from the application of the
provisions of former Rule 10a-1 to securities traded on Nasdaq
because the Pilot was already in progress, and the Commission
believed it was necessary and appropriate to maintain the status quo
for short sale price tests during the Pilot and to ensure that
market participants would not be burdened with costs associated with
implementing a price test that might be temporary. See Exchange Act
Release No. 53128 (Jan. 13, 2006), 71 FR 3550 (Jan. 23, 2006) (order
approving application of Nasdaq for registration as a national
securities exchange); see also letter from James A. Brigagliano
Acting Associate Director, Division of Market Regulation, SEC, to
Marc Menchel, Executive Vice President and General Counsel, NASD,
Inc., dated June 26, 2006.
---------------------------------------------------------------------------

As we discussed in the Proposal,\198\ market information for NMS
stocks, including quotes, is disseminated pursuant to three different
national market system plans.\199\ The national

[[Page 11247]]

securities exchanges and FINRA participate in these joint-industry
plans (``Plans'').\200\ The Plans establish three separate networks to
disseminate market information for NMS stocks.\201\ These networks are
designed to ensure that, among other things, consolidated bids from the
various trading centers that trade NMS stocks are continually collected
and disseminated on a real-time basis, in a single stream of
information. Thus, all market participants will have access to the
consolidated bids for all the securities that will be subject to Rule
201.\202\ As discussed in further detail below, however, we note that
the national best bid can change rapidly and repeatedly and potentially
there might be latencies in obtaining data regarding the national best
bid.\203\
---------------------------------------------------------------------------

\198\ See Proposal, 74 FR at 18050-18051.
\199\ The three joint-industry plans are (1) the Consolidated
Tape Association Plan (``CTA Plan''), which disseminates transaction
information for securities primarily listed on an exchange other
than Nasdaq, (2) the Consolidated Quotation Plan (``CQ Plan''),
which disseminates consolidated quotation information for securities
primarily listed on an exchange other than Nasdaq, and (3) the
Nasdaq UTP Plan, which disseminates consolidated transaction and
quotation information for securities primarily listed on Nasdaq.
\200\ Rule 603(b) of Regulation NMS provides that every national
securities exchange on which an NMS stock is traded and national
securities association shall act jointly pursuant to one or more
effective national market system plans to disseminate consolidated
information, including a national best bid and national best offer,
for NMS stocks. See 17 CFR 242.603(b).
\201\ These networks can be categorized as follows: (1) Network
A--securities primarily listed on the NYSE; (2) Network B--
securities listed on exchanges other than the NYSE and Nasdaq; and
(3) Network C--securities primarily listed on Nasdaq.
\202\ See Exchange Act Release No. 51808 (June 9, 2005), 70 FR
37496, 37503 (June 29, 2005) (``Regulation NMS Adopting Release'').
\203\ See infra Section III.A.7.
---------------------------------------------------------------------------

2. Pricing Increment
Rule 201(b) provides that a trading center shall establish,
maintain, and enforce written policies and procedures reasonably
designed to prevent the execution or display of a short sale order of a
covered security at a price that is less than or equal to the current
national best bid if the price of that covered security decreases by
10% or more from the covered security's closing price as determined by
the listing market for the covered security as of the end of regular
trading hours on the prior day. In Rule 201 we have determined not to
specify at what price a trading center may execute or display a short
sale order of a covered security provided it is not at a price that is
less than or equal to the current national best bid. As we stated in
the Proposal, however, any such execution or display must be in
compliance with applicable rules regarding minimum pricing
increments.\204\
---------------------------------------------------------------------------

\204\ See Proposal, 74 FR at 18050, n.99, 101 (referencing 17
CFR 242.612).
---------------------------------------------------------------------------

In the Proposal and Re-Opening Release, we did not propose a
specific increment above the national best bid or last sale price at
which short selling would be permissible. In response to our requests
for comment regarding pricing increments, however, a number of
commenters stated that any increment should be greater than one cent in
order to make a price test more restrictive or effective or to address
decimal pricing concerns.\205\ Several commenters noted, however, that
the higher the increment, the more restrictive such an increment could
be on short selling and, if high enough, could even be tantamount to a
ban on short selling.\206\ A study by the Staff found that even
moderate changes in bid increments can have a big impact on the
constraints imposed on short selling activity and that, for practical
purposes, high bid increments, such as five or ten cents, might be
equivalent to a ban on short selling in some stocks, especially during
periods when prices are not changing rapidly.\207\
---------------------------------------------------------------------------

\205\ See, e.g., letter from Franco A. Mortarotti, Managing
Director, Zermatt Capital Management, dated Apr. 10, 2009
(``Zermatt''); letter from Neal E. Schear, President, Schear
Capital, Inc., dated Apr. 28, 2009 (``Schear''); letter from Dale T.
Forte, dated Apr. 14, 2009; letter from Arthur Colman, dated May 4,
2009; letter from Joseph Leegan, dated Mar. 25, 2009; letter from
John H. Happke, dated May 7, 2009; letter from Louis G. Marozsan,
Jr., dated May 8, 2009; letter from S. Buford Scott, Chairman,
Walter S. Robertson, III, President and CEO, John Sherman, Jr., Past
President and CEO, William P. Schubmehl, Past President and CEO,
Scott & Stringfellow LLC, dated May 14, 2009 (``Scott &
Stringfellow''); letter from Martin Napor; letter from Michael
Sigmon, Chairman, Sigmon Wealth Management, dated June 10, 2009
(``Sigmon Wealth Management (June 2009)''); letter from Christopher
Ailman, Chief Investment Officer, California State Teachers'
Retirement System, dated June 17, 2009; letter from IBM; letter from
Stan Ryckman, dated June 19, 2009.
\206\ See, e.g., letter from Citadel et al. (June 2009); letter
from SIFMA (June 2009); letter from STA (June 2009)); see also
letter from Credit Suisse (Mar. 2009).
\207\ See Staff Analysis (Dec. 17, 2008).
---------------------------------------------------------------------------

Several commenters supported an increment of one trading unit, or
one cent,\208\ while another commenter suggested that the increment
should be consistent with the minimum pricing increments specified in
Rule 612 of Regulation NMS.\209\ One commenter stated that the
Commission should not specify a minimum increment and should permit
trades to be executed at the mid-point between the best bid and best
offer, even if the price were less than one cent above the best
bid.\210\ Another commenter expressed concerns that a short sale price
test might advantage subpenny executions if, for example, certain
trading venues were permitted to comply with the test by executing
transactions at less than one cent above the national best bid.\211\
---------------------------------------------------------------------------

\208\ See, e.g., letter from Citadel et al. (June 2009); letter
from STA (June 2009).
\209\ 17 CFR 242.612. See letter from NYSE Euronext (Sept.
2009).
\210\ See letter from Howard Meyerson, General Counsel,
Liquidnet, Inc., dated June 18, 2009 (``Liquidnet'').
\211\ See letter from Alec Hanson, dated Sept. 19, 2009.
---------------------------------------------------------------------------

After considering the comments, we have determined at this time to
not specify in Rule 201 a particular increment above the national best
bid at which a covered security may be sold short. We believe that the
goals we are seeking to advance by adopting Rule 201 will be achieved
by requiring that when a covered security becomes subject to the short
sale price test restrictions of Rule 201, all short selling must be at
a price above the current national best bid. As discussed above, a goal
of Rule 201 is to help prevent short selling from being used as a tool
to exacerbate a declining market in a security. Thus, the price test
restriction of Rule 201 does not permit short selling at or below the
current national best bid. In addition to achieving this goal, however,
we also recognize the need to minimize market disruption as well as the
need for the price test restriction in Rule 201 to not be unduly
restrictive. We believe that restricting short selling to a price above
the current national bid for a particular security when the circuit
breaker has been triggered for that security, without specifying at
what price such short sales may occur, will best achieve these
goals.\212\
---------------------------------------------------------------------------

\212\ As noted above, any execution or display of a short sale
order must be in compliance with applicable rules of Regulation NMS
regarding minimum pricing increments. See supra note 204 and
accompanying text.
---------------------------------------------------------------------------

3. Alternative Uptick Rule
We have determined to adopt in Rule 201(b) the alternative uptick
rule such that when triggered, short selling will be permitted only at
a price above the current national best bid. Specifically, Rule 201(b)
will require a trading center to establish, maintain, and enforce
written policies and procedures reasonably designed to prevent the
execution or display of a short sale order of a covered security at a
price that is less than or equal to the current national best bid if
the price of that covered security decreases by 10% or more from the
covered security's closing price as determined by the listing market
for the covered security as of the end of regular trading hours on the
prior day.\213\ As noted above, we have determined to adopt in Rule
201(b) a circuit breaker trigger combined with

[[Page 11248]]

the alternative uptick rule. Thus, while this Section III.A.3. focuses
on the alternative uptick rule in the context of comments received
about the different price tests that we proposed, the alternative
uptick rule operates in conjunction with the circuit breaker approach
and should not be considered as an isolated provision.
---------------------------------------------------------------------------

\213\ See Rule 201(b).
---------------------------------------------------------------------------

In the Proposal and the Re-Opening Release, we sought comment on
three alternative types of short sale price test restrictions that
could be applied on a permanent, market-wide basis or in combination
with a circuit breaker: the proposed uptick rule, the proposed modified
uptick rule, and the alternative uptick rule.\214\ The alternative
uptick rule is similar to the proposed modified uptick rule in that it
will use the current national best bid, rather than the last sale
price, as a reference point for short sale orders. Unlike the proposed
modified uptick rule and the proposed uptick rule, the alternative
uptick rule will not allow short selling at the current national best
bid or last sale price. Instead, the alternative uptick rule will only
permit short selling at an increment above the current national best
bid, unless an applicable exception applies.
---------------------------------------------------------------------------

\214\ See Proposal, 74 FR 18042; Re-Opening Release, 74 FR
42033.
---------------------------------------------------------------------------

In response to the Proposal and the Re-Opening Release, we received
a number of comment letters supporting and opposing the alternative
uptick rule. Those that opposed the alternative uptick rule stated,
among other things, that because it will allow short selling only at a
price above the current national best bid or last sale price, rather
than at the current national best bid or last sale price, it will be
more disruptive to the market than the proposed modified uptick rule or
proposed uptick rule.\215\ Some commenters stated that the alternative
uptick rule will decrease liquidity, widen bid-ask spreads, decrease
pricing efficiency, create inefficiencies in the routing and execution
of short sale orders, increase intra-day volatility, and result in
higher costs to investors.\216\ Some commenters expressed concerns that
the alternative uptick rule will exacerbate downward price movements
because market participants may perceive the presence of short limit
orders as a negative view of a security, causing buyers to withdraw
their bids.\217\ Other commenters stated that, although easier to
implement, the alternative uptick rule would have a more disruptive
effect on the market than the proposed modified uptick rule or the
proposed uptick rule.\218\
---------------------------------------------------------------------------

\215\ See, e.g., letter from William E. McDonnell, Jr., Chief
Compliance Officer, Atherton Lane Advisers, LLC, dated Sept. 9, 2009
(``Atherton Lane''); letter from Michael J. Simon, Secretary,
International Securities Exchange LLC, dated Sept. 21, 2009 (``ISE
(Sept. 2009)''); letter from John Nagel, Managing Director and
Deputy General Counsel, Citadel Investment Group, LLC, John Liftin,
Managing Director and General Counsel, The D.E. Shaw Group, Mark
Silber, Executive Vice President, Renaissance Technologies, dated
Sept. 21, 2009 (``Citadel et al. (Sept. 2009)''); letter from
Bingham McCutchen; letter from Vanguard (Sept. 2009); letter from
STA (Sept. 2009).
\216\ See, e.g., letter from Karrie McMillan, General Counsel,
Investment Company Institute, dated Sept. 21, 2009 (``ICI (Sept.
2009)''); letter from CPIC (Sept. 2009); letter from STA (Sept.
2009); letter from Kimberly Unger, Executive Director, Security
Traders Association of New York, Inc., dated Sept. 21, 2009 (``STANY
(Sept. 2009)''); letter from RBC (Sept. 2009); letter from EWT
(Sept. 2009); letter from MFA (Oct. 2009); letter from Knight
Capital (Sept. 2009).
\217\ See, e.g., letter from John Gilmartin, Co-CEO and Ben
Londergan, Co-CEO, Group One Trading, L.P., dated Sept. 14, 2009
(``Group One Trading (Sept. 2009)''); letter from STANY (Sept.
2009); letter from Glen Shipway (Sept. 2009); letter from Michael L.
Crowl, Managing Director, Global General Counsel, Barclays Global
Investors, dated Sept. 21, 2009 (``Barclays (Sept 2009)''); letter
from Knight Capital (Sept. 2009); letter from MFA (Oct. 2009).
\218\ See, e.g., letter from ISE (Sept. 2009); letter from ICI
(Sept. 2009).
---------------------------------------------------------------------------

The alternative uptick rule, like former Rule 10a-1 and the
proposed uptick rule and proposed modified uptick rule, when triggered
will affect all short selling, including some legitimate short selling,
as well as abusive or manipulative short selling. The alternative
uptick rule is by definition more restrictive than the proposed
modified uptick rule, but differences between the operation of the
proposed uptick rule and the alternative uptick rule mean that one
approach or the other would be more restrictive in particular
circumstances.\219\ The empirical evidence regarding former Rule 10a-1
tends to demonstrate that it did not have a negative effect on market
liquidity and price efficiency.\220\ We similarly believe that the
alternative uptick rule will have a minimal, if any, negative effect on
market liquidity or price efficiency.\221\
---------------------------------------------------------------------------

\219\ See, e g., infra note 242 and accompanying text
(discussing automated trade matching systems).
\220\ See, e.g., the Pilot Results.
\221\ See infra Section X.B.1.a. (discussing the impact of Rule
201 on market liquidity and price efficiency).
---------------------------------------------------------------------------

In contrast to those commenters opposed to the alternative uptick
rule, several commenters expressed support for the alternative uptick
rule, stating that the alternative uptick rule is preferable to the
proposed modified uptick rule or the proposed uptick rule because it
will eliminate sequencing issues, will be easier and less costly to
implement, will be more effective in decreasing price pressure on a
security,\222\ and will reduce the ability of market participants to
use short selling as a market manipulation tool.\223\ Some commenters
stated that because the alternative uptick rule will most effectively
prevent short selling from proactively driving the price of a security
lower, it will also be the most effective of the proposed short sale
price test restrictions at achieving the Commission's goal of helping
to restore investor confidence.\224\ In discussing the alternative
uptick rule, one commenter stated that ``[n]ot only does it faithfully
replicate the old uptick rule it improves upon it by making each and
every short sale a liquidity providing transaction.'' \225\ Another
commenter, in supporting the alternative uptick rule, stated that it
will ``likely be more restrictive on short selling than the original
Rule 10a-1 `uptick rule'.'' \226\
---------------------------------------------------------------------------

\222\ See, e.g., letter from Direct Edge (Sept. 2009); letter
from BATS (Sept. 2009); letter from Ronald C. Long, Director,
Regulatory Affairs, Wells Fargo Advisors, dated Sept. 17, 2009
(``Wells Fargo (Sept. 2009)''); see also letter from SIFMA (Sept.
2009) (stating that a circuit breaker coupled with the alternative
uptick rule ``would limit instances where a security is the subject
of severe downward pressure''); letter from Hudson River Trading
(expressing support for the alternative uptick rule in conjunction
with a circuit breaker as opposed to other proposed price tests in
conjunction with a circuit breaker).
\223\ See letter from BATS (Sept. 2009); letter from Wells Fargo
(Sept. 2009); letter from Glen Shipway (Sept. 2009).
\224\ Letter from Michael Gitlin, Head of Global Trading, David
Oestreicher, Chief Legal Counsel, Christopher P. Hayes, Sr. Legal
Counsel, T. Rowe Price Associates, Inc., dated Sept. 21, 2009 (``T.
Rowe Price (Sept. 2009)'').
\225\ Letter from Glen Shipway (Sept. 2009).
\226\ Letter from Virtu Financial.
---------------------------------------------------------------------------

We have determined to adopt the alternative uptick rule in
combination with a circuit breaker because we believe the alternative
uptick rule will be more effective at meeting our goals than the other
proposed rules. Because the alternative uptick rule, when triggered,
will generally permit short selling only at a price above the current
national best bid, the alternative uptick rule will not allow short
sales to get immediate execution at the bid.\227\ In other words, short
sellers will not be permitted to act as liquidity takers when the
alternative uptick rule applies, but will participate, if at all, as
liquidity providers (unless an exception applies), adding depth to the
market. Put another way, short sale orders will be executed only when
purchasers arrive willing to

[[Page 11249]]

buy at prices above the national best bid. In addition, by not allowing
short sellers to sell at the current national best bid, the alternative
uptick rule will generally allow long sellers, by selling at the bid,
to sell first and, thereby, take liquidity in a declining market for a
security. As the Commission has noted previously in connection with
short sale price test restrictions, a goal of such restrictions is to
allow long sellers to sell first in a declining market.\228\ A short
seller that is seeking to profit quickly from market moves may find it
advantageous to be able to short sell at the current national best bid.
By placing long sellers ahead of short sellers in the execution queue
under certain circumstances, Rule 201 will help promote capital
formation, since investors should be more willing to hold long
positions if they know that they may have a preferred position over
short sellers when they wish to sell.
---------------------------------------------------------------------------

\227\ As noted by some commenters, there may be situations in
which a short seller could get immediate execution, such as where an
order is executed in a facility that provides executions at the mid-
point of the national best bid and offer. See, e.g., letter from ISE
(Sept. 2009); see also letter from BATS (Sept. 2009).
\228\ See supra note 17.
---------------------------------------------------------------------------

In addition, by making bids accessible only by long sellers when a
security's price is undergoing significant downward price pressure,
Rule 201 will help to facilitate and maintain stability in the markets
and help ensure that they function efficiently. It will also help
restore investor confidence during times of substantial uncertainty
because, once the circuit breaker has been triggered for a particular
security, long sellers will have preferred access to bids for the
security, and the security's continued price decline will more likely
be due to long selling and the underlying fundamentals of the issuer,
rather than to other factors.
As we stated in the Proposal, short sale price test restrictions,
whether a permanent, market-wide restriction or in combination with a
circuit breaker, might help prevent short sellers from accelerating a
declining market by exhausting all remaining bids at one price level,
and causing successively lower prices to be established by long
sellers.\229\ Because the alternative uptick rule will only permit
short selling at a price above the current national best bid, unless an
exception applies, we believe it will be more effective than the
proposed uptick rule or the proposed modified uptick rule at helping to
prevent short selling, including potentially abusive or manipulative
short selling, from being used as a tool to exacerbate a decline in the
price of a security by exhausting all remaining bids at one price
level.
---------------------------------------------------------------------------

\229\ See Proposal, 74 FR at 18050, 18053, 18059, 18061, 18065,
18069; see also Securities and Exchange Commission, Special Study of
Securities Markets, H.R. Doc. No. 95, 88th Cong., 1st Sess., at 251
(1963).
---------------------------------------------------------------------------

A number of commenters favored the proposed circuit breaker halt
rule, stating, among other things, that they believe it would be the
least disruptive of the proposed rules with respect to market
functioning, while still achieving the Commission's underlying
goals,\230\ and would be the easiest of the proposed rules to
implement.\231\ We are concerned, however, that, as expressed by other
commenters, the proposed circuit breaker halt rule could harm the
market by preventing short sellers from being able to provide benefits
such as liquidity and price efficiency to the impacted security during
the duration of the halt or that it could harm investor
confidence.\232\ We note that in severe conditions, stocks tend to be
less liquid. Thus, as a rule that permits short selling only at a price
above the national best bid, the alternative uptick rule will require
that during the period of time when a covered security is subject to
the rule, short sellers in the security must act as liquidity
providers, not liquidity takers, in that security.\233\ In addition, by
restricting the ability of short sellers to take liquidity when a
covered security is undergoing significant price pressure, it will
allow long sellers to access available liquidity by being able to sell
at the current national best bid. This, in turn, may result in an
increase in investor confidence during times of crisis as long sellers
will have preferred access to bids for a security because when the
circuit breaker has been triggered for a covered security, Rule 201
generally will allow only long sellers to sell at the bid.\234\
---------------------------------------------------------------------------

\230\ See, e.g., letter from Lime Brokerage (Sept. 2009); see
also letter from Lime Brokerage (June 2009) (stating that
``[i]mplementing a ``cooling off'' period after a steep decline in a
given security's price will give market participants a chance to
absorb the situation and possibly reassess their desire to continue
short selling''); letter from Credit Suisse (June 2009); letter from
T.D. Pro Ex.
\231\ See, e.g., letter from SIFMA (June 2009); letter from
Credit Suisse (June 2009); letter from Liquidnet; letter from
Manisha Kimmel, Executive Director, Financial Information Forum,
dated June 19, 2009 (``FIF (June 2009)''); letter from Lime
Brokerage (Sept. 2009). Some commenters also stated that they
believe that the proposed circuit breaker halt rule would be
effective at preventing bear raids, reducing volatility in the
market, and helpful in restoring investor confidence. See, e.g.,
letter from Matthew Samelson, Principal, Woodbine Associates, dated
May 15, 2009 (``Woodbine''); letter from Credit Suisse (June 2009);
letter from IBC; letter from Sigmon Wealth Management (June 2009);
letter from Wachtell.
\232\ See, e.g., letter from BATS (May 2009); letter from
Citadel et al. (June 2009); letter from Direct Edge (June 2009);
letter from Wolverine; letter from Amer. Bankers Assoc. Other
commenters viewed the proposed circuit breaker halt rule as too
restrictive. See, e.g., letter from BATS (May 2009); letter from
Direct Edge (June 2009). Some commenters argued that the proposed
circuit breaker halt rule could harm investor confidence, by
reducing volume and increasing bid-ask spreads during the effective
period of the halt. See, e.g., letter from ICI (June 2009); letter
from Amer. Bankers Assoc.; letter from Citadel et al. (June 2009).
Other commenters expressed opposition to the concept of short sale
halts and bans as a general matter, perceiving such actions as
harmful to the markets, citing prior regulatory halts and short sale
bans as evidence. See, e.g., letter from Josh Galper, Managing
Principal, Finadium LLC, dated Apr. 13, 2009 (``Finadium); letter
from Barclays (June 2009); letter from Citadel et al. (June 2009);
letter from Dialectic Capital (June 2009); letter from Knight
Capital (June 2009); letter from MFA (June 2009).
\233\ See supra note 29 (discussing the terms ``liquidity
provider'' and ``liquidity taker'').
\234\ Too much investor confidence may also be detrimental to
investors because it can lead to investors making inappropriate
decisions. Investor over-confidence, however, is less likely during
times of crisis. See, e.g., Brad M. Barber and Terrance Odean, 2000,
Trading is Hazardous to Your Wealth: The Common Stock Investment
Performance of Individual Investors, Journal of Finance, 55: 773-
806.
---------------------------------------------------------------------------

We have also determined to adopt the alternative uptick rule
because, unlike the proposed uptick rule, it will be based on the
current national best bid rather than the last sale price. As we stated
in the Proposal, we believe that a short sale price test based on the
national best bid is more suitable to today's markets than a short sale
price test based on the last sale price.\235\

[[Page 11250]]

Although we recognize that a quotation proposes a transaction, whereas
the last trade price reflects an actual trade, we note that pursuant to
Commission and SRO rules, quotations for all covered securities must be
firm.\236\ By requiring that quotations be firm, the Commission
intended to ensure that quotations provide reliable information to the
marketplace to assist broker-dealers in satisfying their best execution
obligations to their customers and to assist customers in making
informed investment decisions.\237\ Moreover, quotation information has
significant value to the marketplace because it reflects the various
factors affecting the market, including current levels of buying and
selling interest.\238\ Both retail and institutional investors rely on
quotation information to understand the market forces at work at a
given time and to assist in the formulation of investment
strategies.\239\
---------------------------------------------------------------------------

\235\ See Proposal, 74 FR at 18053. In response to our requests
for comment in the Proposal and the Re-Opening Release, a number of
commenters to the Proposal and Re-Opening Release expressed support
for a price test restriction based on the national best bid rather
than the last sale price, stating that it would be more suitable to
today's markets. See, e.g., letter from BATS (May 2009); letter from
SIFMA (June 2009); letter from NYSE Euronext (June 2009); letter
from Goldman Sachs (June 2009); letter from Direct Edge (June 2009);
letter from GE; letter from Bingham McCutchen; letter from Citadel
et al. (June 2009); letter from Amer. Bar Assoc. (July 2009); letter
from Barry Friedman, Llewellyn Jones, and Derrick Kaiser, Founding
Members, Qtrade Capital Partners LLC, dated Sept. 21, 2009
(``Qtrade''); letter from MFA (Oct. 2009). We also note supporting
statements made by Larry Leibowitz, Group Executive Vice President
at NYSE Euronext, at our May 5, 2009 Roundtable, stating that the
proposed uptick rule would be ineffective in today's market ``due to
improper price sequencing caused by permitted reporting delays and
the potential for manipulation.'' Statement of NYSE Euronext (May
2009). Available at: http://www.sec.gov/comments/4-581/4581-86.pdf.
We note, however, that a number of commenters offered support
for a price test restriction based on the last sale price. See,
e.g., letter from Zermatt; letter from Bruce Lueck, Managing
Partner, Zephyr Unicorn Funds, dated Apr. 10, 2009; letter from
Walter Cruttenden, Cruttenden Partners, dated Apr. 14, 2009; letter
from Larry Chlebina, President, Chlebina Capital Management, LLC,
dated Apr. 15, 2009 (``Chlebina (Apr. 2009)''); letter from Chad
McCurdy, Managing Partner, Marlin Capital Partners, dated Apr. 20,
2009; letter from David Wagner, CEO, Active Investment Management,
LLC, dated Apr. 22, 2009; letter from Bradley Kelly, President,
Magnum Opus Financial, dated Apr. 29, 2009; letter from Equity
Insight; letter from Tony Wyan, CEO, Tony Wyan and Company, dated
May 5, 2009; letter from Aaron Shafter, President, Great Mountain
Capital Management, LLC, dated May 5, 2009; letter from Richard
Casey, Chairman and CEO, Casey Securities, LLC, dated May 8, 2009;
letter from Scott & Stringfellow; letter from Donald Rembert Sr.,
President, Rembert Pendelton and Jackson, dated May 28, 2009; letter
from Sigmon Wealth Management (June 2009); letter from Sears.
\236\ See, e.g., 17 CFR 242.602.
\237\ See, e.g., Exchange Act Release No. 43085 (July 28, 2000),
65 FR 47918, 47924-47925 (Aug. 4, 2000).
\238\ See id. at 47925.
\239\ See id.
---------------------------------------------------------------------------

Further, we believe that bids generally are a more accurate
reflection of current prices for a security because changes in bids are
more accurately timed than transactions. Transactions may be reported
within a 90 second window, which can easily result in ``stale''
reports. Even transactions that are executed and reported automatically
may be out of sequence if they occur in different trading centers,
which can detract from the accuracy and reliability of the last sale.
For example, trade reporting for covered securities can involve
multiple trading centers reporting trades in the same stock from
different locations using different means of reporting. Thus, for those
covered securities for which a significant amount of trading occurs
manually, or in multiple trading centers, a price test based on the
national best bid will be a more accurate and effective means of
regulating short selling than a test based on the last sale price
because the manner in which trades are reported may create up-ticks and
down-ticks that may not accurately reflect actual price movements in
the security for the purpose of a test based on the last sale price.
We also note that the national best bid is nearly always a
protected bid for the trade-through rule of Rule 611 of Regulation
NMS,\240\ with which every trading center must comply. Because trading
centers' execution procedures must incorporate protected bids, they
will also usually include the national best bid. Market participants
will also be familiar with using the current national best bid as a
reference point because NASD's former bid test, which was in existence
from 1994 to mid-2007, was based on the current national best bid.\241\
---------------------------------------------------------------------------

\240\ See 17 CFR 242.611.
\241\ NASD's former bid test referenced the national best bid
and was designed to help prevent short selling at or below the
current national best bid in a declining market. See supra note 43
(discussing NASD's former bid test).
---------------------------------------------------------------------------

In addition, another advantage of the alternative uptick rule is
that it accommodates trading systems and strategies used in the
marketplace today, such as the automated trade matching systems that
offer price improvement based on the national best bid and offer. These
passive pricing systems often effect trades at an independently-derived
price, such as at the mid-point of the bid-offer spread. Such pricing
would often not satisfy the tick test of former Rule 10a-1 because
matches could potentially occur at a price below the last reported sale
price. Thus, we provided a limited exception from former Rule 10a-1 for
these trading systems.\242\ In response to the Proposal and Re-Opening
Release, commenters noted that a short sale price test restriction
based on the current national best bid is preferable to a restriction
based on the last sale price because it would not impede mid-point and
similar derived price trading.\243\ One such commenter noted that mid-
point trading is beneficial to the markets because it provides price
improvement to both sides of the trade.\244\ The short sale price test
restrictions of Rule 201 will accommodate matching systems that execute
trades at an independently-derived price because such systems are
designed so that matches occur above the current national best bid.
---------------------------------------------------------------------------

\242\ See, e.g., supra note 42; letter from James A.
Brigagliano, Acting Associate Director, Division of Market
Regulation, SEC, to Alan J. Reed, Jr., First Vice President and
Director of Compliance, Instinet Group, LLC, dated June 15, 2006
(granting Instinet modified exemptive relief from Rule 10a-1 for
certain transactions executed through Instinet's Intra-day Crossing
System).
\243\ See letter from Liquidnet; letter from GE.
\244\ See letter from Liquidnet.
---------------------------------------------------------------------------

We have also determined to adopt the alternative uptick rule rather
than the proposed uptick rule or the proposed modified uptick rule
because it will not require monitoring of the sequence of bids or last
sale prices (i.e., whether the current national best bid or last sale
price is above or below the previous national best bid or last sale
price) and, therefore, will likely be easier to implement and monitor.
As we noted in the Re-Opening Release, commenters had stated that the
alternative uptick rule would likely be easier to monitor, could likely
be implemented more quickly and with less cost, and would be easier to
program into trading and surveillance systems than the proposed
modified uptick rule or the proposed uptick rule because it would not
require bid sequencing.\245\ In response to the Re-Opening Release,
several commenters made similar statements in comparing the alternative
uptick rule to the proposed modified uptick rule and proposed uptick
rule.\246\
---------------------------------------------------------------------------

\245\ See Re-Opening Release, 74 FR at 42034.
\246\ See, e.g., letter from BATS (Sept. 2009); letter from
Credit Suisse (Sept. 2009); letter from John McCarthy, General
Counsel, Global Electronic Trading Company, dated Sept. 21, 2009
(``GETCO (Sept. 2009)''); letter from Hudson River Trading. Some
commenters, however, expressed disagreement that a price test
restriction that will require sequencing of bids or last sale prices
is not technologically feasible. See, e.g., letter from Bingham
McCutchen; letter from ISE (Sept. 2009); letter from EWT (Sept.
2009); letter from Vincent Florack and Steve Crutchfield, Matlock
Capital LLC, dated Sept. 18, 2009 (``Matlock Capital (Sept.
2009)''); letter from Gary E. Shugrue, President, Ascendant Capital
Partners, dated May 11, 2009 (``Ascendant Capital''); letter from
Robert P. Porter, President, Paladin Investment LLC, dated May 8,
2009 (``Paladin Investment'').
---------------------------------------------------------------------------

The requirements of Rule 201 will also not result in the type of
disparate short sale regulation that existed under former Rule 10a-
1.\247\ Rule 201 will apply a uniform rule to trades in the same
securities that can occur in multiple, dispersed, and diverse markets.
To further this goal of having a uniform short sale price test,
consistent with the Proposal, subsection (e) of Rule 201 provides that
no SRO shall have any rule that is not in conformity with, or conflicts
with, Rule 201.\248\ One of the reasons for the elimination of former
Rule 10a-1 and the prohibition on any SRO from having a short sale
price test in July 2007 was that the application of short sale price
tests had become disjointed, with different price tests applying to the
same securities trading in different markets. One commenter noted that
a rule that does not cover all market centers would result in an
unlevel playing field,\249\ while another stated that the Commission
should not adopt a rule that would create an opportunity

[[Page 11251]]

for regulatory arbitrage.\250\ For this same reason, this commenter
supported a prohibition on any SRO having a rule that is not in
conformity with or conflicts with Rule 201.\251\ We believe that a
uniform rule will reduce compliance and surveillance costs because
systems and surveillance mechanisms will have to be programmed to
consider a single price test based on the national best bid, rather
than different tests for different markets. In addition, a uniform test
will reduce opportunities for regulatory arbitrage. Accordingly, under
Rule 201, all covered securities, wherever traded, will be subject to
one short sale price test, the alternative uptick rule.
---------------------------------------------------------------------------

\247\ See Proposal, 74 FR at 18044-18045 (discussing the history
of short sale price test restrictions).
\248\ See Rule 201(e).
\249\ See letter from Wells Fargo (June 2009).
\250\ See letter from STA (June 2009).
\251\ See id.
---------------------------------------------------------------------------

4. Circuit Breaker Approach Generally
Under Rule 201(b), the alterative uptick rule will apply only if
the price of a covered security has declined by 10% or more from the
covered security's closing price as determined by the listing market
for the covered security as of the end of regular trading hours on the
prior day.\252\ In the Proposal, we proposed a permanent, market-wide
approach to short sale price test restrictions that would result in the
proposed uptick rule or proposed modified uptick rule applying to all
covered securities all the time.\253\ We also proposed a circuit
breaker approach, either as an addition or an alternative to a
permanent, market-wide approach, which would temporarily result in
either a halt on short selling in a specific security or the proposed
modified uptick rule or the proposed uptick rule applying to a specific
security if there was a significant decline in the price of that
security.\254\ In addition, in the Re-Opening Release, we stated that
the alternative uptick rule could be implemented market-wide or in
combination with a short selling circuit breaker.\255\
---------------------------------------------------------------------------

\252\ See Rule 201(b).
\253\ See Proposal, 74 FR 18042.
\254\ See id.
\255\ See Re-Opening Release, 74 FR 42033.
---------------------------------------------------------------------------

A number of commenters stated that if we determined to adopt a
short sale price test restriction, it should be in combination with a
circuit breaker rather than on a permanent, market-wide basis.\256\ For
example, one commenter urged us to adopt a circuit breaker approach
because it would be more narrowly-tailored to address our concerns
about the effects of short selling in a market subject to a significant
downturn.\257\ This commenter noted that in such a market, circuit
breakers likely would be triggered for a large number of
securities.\258\ Another commenter stated that a circuit breaker is
preferable because it ``permits normal market activity while a stock is
trading in a natural range and short selling is more likely to benefit
the market (by, for example, increasing price discovery and liquidity).
Conversely, a Circuit Breaker will restrict short selling when prices
begin to decline substantially and short selling becomes more likely to
be abusive and potentially harmful.'' \259\ One commenter stated that
``[a] circuit breaker would better target situations that could result
from * * * potential bear raids and other forms of manipulation that
may be used to drive down or accelerate the decline in the price of a
stock.'' \260\
---------------------------------------------------------------------------

\256\ See, e.g., statement of Justin Schack, Vice President,
Market Structure Analysis, Rosenblatt Securities, Inc., at SEC
Roundtable on Short Selling (May 5, 2009) (``Rosenblatt
Securities''); letter from Richard T. Chase, Managing Director and
General Counsel, RBC Capital Markets Corporation, dated June 19,
2009 (``RBC (June 2009)''); letter from Michael J. Simon, Secretary,
International Securities Exchange LLC, dated June 19, 2009 (``ISE
(June 2009)''); memorandum of a meeting between representatives of
Penson Worldwide, Inc., and the Division of Trading and Markets,
dated July 21, 2009, and written materials submitted at the meeting
(``Penson''); letter from Direct Edge (June 2009); letter from BATS
(May 2009); letter from SIFMA (June 2009); letter from MFA (June
2009); letter from ICI (June 2009); letter from Barclays (June
2009); letter from Vanguard (June 2009); letter from Goldman Sachs
(June 2009); letter from Credit Suisse (June 2009); letter from
Dialectic Capital (June 2009); letter from Allston Trading (June
2009); letter from Knight Capital (June 2009); letter from GETCO
(June 2009); letter from Citadel et al. (June 2009); letter from
William Connell, President and CEO, Allston Trading, LLC, dated
Sept. 21, 2009 (``Allston Trading (Sept. 2009)''); letter from GETCO
(Sept. 2009); letter from Dialectic Capital (Sept. 2009); letter
from Credit Suisse (Sept. 2009); letter from ICI (Sept. 2009);
letter from Citadel et al. (Sept. 2009); letter from Direct Edge
(Sept. 2009); letter from RBC (Sept. 2009); letter from Goldman
Sachs (Sept. 2009); letter from BATS (Sept. 2009); letter from SIFMA
(Sept. 2009); letter from MFA (Oct. 2009); letter from AIMA; letter
from IAG; letter from Fidelity; letter from T.D. Pro Ex; letter from
Finadium; letter from Matthew B. Management; letter from Millennium;
letter from Liquidnet; letter from Qtrade; letter from Hudson River
Trading; letter from Virtu Financial; see also letter from Credit
Suisse (Mar. 2009).
\257\ See letter from Citadel et al. (Sept. 2009).
\258\ See id.
\259\ Letter from Nasdaq OMX Group (Oct. 2009); see also letter
from Goldman Sachs (June 2009); letter from MFA (June 2009); letter
from BATS (Sept. 2009); letter from Credit Suisse (Sept. 2009);
letter from Virtu Financial.
\260\ Letter from Hudson River Trading; see also letter from MFA
(June 2009).
---------------------------------------------------------------------------

Other commenters stated that implementing price test restrictions
on a permanent, market-wide basis, rather than in combination with a
circuit breaker, would substantially diminish the benefits that short
sellers bring to the markets.\261\ One commenter stated that a price
test restriction should be adopted with a circuit breaker because prior
empirical studies did not necessarily include times of severe market
events.\262\ One commenter stated that a circuit breaker approach was
preferable because it would be easier to implement than a permanent,
market-wide rule.\263\
---------------------------------------------------------------------------

\261\ See, e.g., letter from Direct Edge (Sept. 2009); letter
from Credit Suisse (Sept. 2009).
\262\ See letter from Virtu Financial.
\263\ See letter from SIFMA (June 2009).
---------------------------------------------------------------------------

Other commenters were not supportive of a circuit breaker
approach.\264\ One such commenter stated that a permanent, market-wide
price test restriction would be preferable to a circuit breaker
approach because it is ``more predictable for market participants and
issuers alike, would raise fewer implementation complexities, and is
less likely to have a `magnet effect' on the pricing of a security as
it approaches a circuit breaker trigger point.'' \265\ This commenter
stated that a circuit breaker is ``unlikely to be perceived as a timely
or effective remedy against abusive short selling, since restrictions
would only take effect after there had already been a significant
intraday price decline in a security.'' \266\ Further, this commenter
stated that ``[c]ircuit breakers may also undermine investor confidence
because they introduce an element of uncertainty in the pricing of
securities: At a certain point, the price of a declining security would
begin to reflect not the fundamental value of the security, but rather
the likelihood that a security will trigger the circuit breaker. This
`magnet effect' could undermine investor confidence, resulting in less
buying interest in securities nearing the circuit breaker if there is a
perception that professional traders could use sophisticated pricing
models to profit from this anomaly while public investors, lacking
access to such tools, could not.'' \267\
---------------------------------------------------------------------------

\264\ See, e.g., letter from Glen Shipway (June 2009); letter
from T. Rowe Price (Sept. 2009); letter from NYSE Euronext (Sept.
2009); letter from EWT (Sept. 2009).
\265\ Letter from NYSE Euronext (Sept. 2009).
\266\ Id.
\267\ Id.; see also letter from Amer. Bankers Assoc.
(referencing the ``stigmatizing effect'' on stocks subject to a
circuit breaker); letter from T. Rowe Price (Sept. 2009) (expressing
support for the alternative uptick rule that would apply on a
permanent, market-wide basis).
---------------------------------------------------------------------------

Another commenter stated that it believes that a circuit breaker
approach is unworkable because it ``may exacerbate market dislocations
by suddenly and unexpectedly altering the regulatory regime and
liquidity

[[Page 11252]]

characteristics of a particular security, precisely when it is under
duress.'' \268\ One commenter stated that it did not support a circuit
breaker approach because it ``would still allow abusive short sellers
to drive down the price of a stock at least 10% on any given day even
before the circuit breaker would kick in.'' \269\ This commenter also
stated that it was concerned that during periods of extreme volatility,
``circuit breakers could potentially impact far too many stocks on any
given day and damage the benefits of short selling.'' \270\ Another
commenter stated that it did not support a circuit breaker approach
because, among other things, it would add ``an additional element of
trading risk that could result in a decrease in certain market
participant's [sic] willingness to supply liquidity in securities
perceived to be potentially subject to triggering of a circuit
breaker.'' \271\
---------------------------------------------------------------------------

\268\ Letter from EWT (Sept. 2009).
\269\ Letter from Atherton Lane.
\270\ Id.
\271\ Letter from NYSE Euronext (June 2009).
---------------------------------------------------------------------------

In line with the Commission's position that market impediments
should be minimized, we believe the short selling circuit breaker
approach of Rule 201 will benefit the market as a narrowly-tailored
response to severe circumstances.\272\ As discussed above, due to the
changes in market conditions and erosion of investor confidence that
occurred recently, investors have become increasingly concerned about
sudden and excessive declines in prices that appear to be unrelated to
issuer fundamentals.\273\ We believe that a circuit breaker that is
triggered by a significant intra-day decline in price of an individual
security is a targeted response to address these concerns. Although a
permanent, market-wide approach that would apply to all covered
securities all the time may, as one commenter stated,\274\ provide an
element of predictability, we believe that the circuit breaker approach
of Rule 201 is appropriate because it provides a balance between
achieving our goals for adopting a short sale price test restriction
and limiting impediments to the normal operations of the market.
---------------------------------------------------------------------------

\272\ See Exchange Act Release No. 39846 (Apr. 9, 1998), 63 FR
18477 (Apr. 15, 1998) (order approving proposals by Amex, BSE, CHX,
NASD, NYSE, and Phlx) (``1998 Release'').
\273\ See supra Section II.C. (discussing investor confidence);
see also Proposal, 74 FR at 18046-18049.
\274\ See letter from NYSE Euronext (Sept. 2009).
---------------------------------------------------------------------------

As noted above, some commenters expressed concerns regarding the
effectiveness and workability of a circuit breaker approach because the
price test restriction will apply only after there has already been a
significant intra-day price decline in a security, and because it may
exacerbate market dislocations when a security is under duress. The
Commission has previously noted that circuit breakers may benefit the
market by allowing participants an opportunity to re-evaluate
circumstances and respond to volatility.\275\ Unlike a price test
restriction that would apply on a permanent, market-wide basis, Rule
201 will restrict short selling for an individual covered security for
a specified period of time. As we stated in the Proposal, in discussing
a short selling circuit breaker, one commenter noted that such a
measure could address the issue of ``bear raids'' while limiting the
market impact that may arise from other forms of short sale price test
restrictions.\276\ In addition, although we agree that a circuit
breaker combined with a halt on short selling may cause or exacerbate
market dislocations, we do not believe that the circuit breaker
approach of Rule 201 will have the same impact because it will continue
to allow short selling, although at a price above the national best
bid, even when the price test restriction is in effect. Further, to the
extent that the circuit breaker approach results in market
dislocations, we believe any such dislocations are justified by the
benefits provided by the Rule.
---------------------------------------------------------------------------

\275\ See 1998 Release, 63 FR 18477.
\276\ See Proposal, 74 FR at 18067, n.252 (noting a letter from
Peter Brown, dated Dec. 12, 2008).
---------------------------------------------------------------------------

We have designed the alternative uptick rule implemented through a
circuit breaker to strike the appropriate balance between our goal of
preventing potential short sale abuse and the need to limit impediments
to the normal operations of the market. The Commission has long held
the view that circuit breakers may help restore investor confidence
during times of substantial uncertainty.\277\ We believe that the
requirements of Rule 201 will produce similar benefits. By imposing the
alternative uptick rule once a security's price is experiencing a
significant intra-day price decline, the short selling circuit breaker
rule in Rule 201(b) is designed to target only those securities that
experience such declines and, therefore, will help to prevent short
selling from being used as a tool to exacerbate a declining market in a
security. This approach establishes a narrowly-tailored Rule that will
target only those securities experiencing such a decline. We believe
that addressing short selling in connection with such a decline in an
individual security will help restore investor confidence in the
markets generally.
---------------------------------------------------------------------------

\277\ See, e.g., 1998 Release, 63 FR 18477; see also Proposal,
74 FR at 18067.
---------------------------------------------------------------------------

As discussed above, short selling is an important tool in price
discovery and the provision of liquidity to the market, and we
recognize that imposition of a short selling circuit breaker that when
triggered imposes the alternative uptick rule could restrict otherwise
legitimate short selling activity during periods of significant
volatility. To the extent that the alternative uptick rule may
negatively impact the ability of short sellers to provide liquidity to
the markets and contribute to price efficiency, we believe any such
negative impact is justified by the benefits provided by the Rule in
preventing short selling, including potentially manipulative or abusive
short selling, from driving down further the price of a security that
has already experienced a significant intra-day price decline.
In addition, we believe that any such negative impact will be
limited both in duration and reach. First, the circuit breaker will
apply for a limited period of time, that is, through the end of the day
on which it is triggered and the following day. Second, because the
restrictions of Rule 201 will apply only when the price of a covered
security has experienced a significant intra-day price decline, the
circuit breaker approach of Rule 201 will preserve the potential
benefits of short selling, such as the provision of liquidity and price
efficiency, for those securities for which prices are undergoing
minimal downward pressure, or are stable or rising.\278\ To the extent
that the markets are experiencing periods of extreme volatility, we
expect that the circuit breaker will be triggered for more securities
than during periods of low volatility. We believe this is an
appropriate result of Rule 201 because it is designed to impose
restrictions on short selling when individual securities are undergoing
significant intra-day price declines. Because Rule 201 does not impose
a halt on short selling, however, short selling will be possible even
when the circuit breaker has been triggered, although it will be
limited to a price above the current national best bid. A circuit
breaker approach will also allow regulatory, supervisory and compliance
resources to focus on, and address, those situations where a

[[Page 11253]]

specific security is experiencing significant downward price
pressure.\279\
---------------------------------------------------------------------------

\278\ In addition, as discussed above, based on the empirical
evidence regarding former Rule 10a-1 that tends to demonstrate that
it did not have an effect on market liquidity and price efficiency,
we similarly believe that the alternative uptick rule will have a
minimal, if any, effect on market liquidity or price efficiency. See
supra note 220 and accompanying text.
\279\ See letter from Nasdaq OMX Group (Oct. 2009); letter from
SIFMA (Sept. 2009).
---------------------------------------------------------------------------

As we stated in the Proposal, we understand that there are concerns
about a potential ``magnet effect'' that could arise as an unintended
consequence of a circuit breaker that imposes a short selling price
test restriction.\280\ This ``magnet effect'' could result in short
sellers driving down the price of an equity security in a rush to
execute short sales before the circuit breaker is triggered. We are
also concerned about short selling demand building until the circuit
breaker is lifted. In response to our requests for comments, several
commenters stated that a short sale circuit breaker could exacerbate
downward pressure on stocks as their value reached the threshold
level.\281\ Commenters also discussed the possibility that short
selling demand could be built up until the short selling restriction is
lifted.\282\ Other commenters, however, discounted the possibility or
impact of a ``magnet effect,'' \283\ including some commenters who
cited empirical studies that question whether a circuit breaker would
result in artificial pressure on the price of individual
securities.\284\
---------------------------------------------------------------------------

\280\ See, e.g., Proposal, 74 FR at 18067.
\281\ See, e.g., letter from Vincent Florack and Steve
Crutchfield, Matlock Capital LLC, dated May 26, 2009 (``Matlock
Capital (May 2009)''); letter from Schwab; letter from Lime
Brokerage (June 2009); letter from STA (June 2009); letter from Glen
Shipway (June 2009); letter from NYSE Euronext (June 2009); letter
from Wolverine; letter from Direct Edge (June 2009); letter from
Amer. Bankers Assoc.; letter from NYSE Euronext (Sept. 2009); see
also letter from SIFMA (June 2009) (indicating that an ``on/off''
circuit breaker trigger could dampen any magnet effect); letter from
Direct Edge (Mar. 2009).
\282\ See letter from STA (June 2009); letter from Wolverine.
\283\ See letter from BATS (May 2009); letter from Credit Suisse
(June 2009); letter from Credit Suisse (Sept. 2009); letter from
Hudson River Trading; letter from Virtu Financial; see also letter
from Credit Suisse (Mar. 2009).
\284\ See letter from Credit Suisse (June 2009); letter from
Credit Suisse (Sept. 2009); see also letter from Credit Suisse (Mar.
2009); letter from Nasdaq OMX Group (Oct. 2009).
---------------------------------------------------------------------------

After considering the comments, including studies cited by
commenters, we do not believe that the evidence is clear regarding a
``magnet effect.'' In fact, many academic studies that have analyzed
circuit breakers in other contexts found no evidence of such trading
patterns.\285\ We recognize, however, that some of these studies were
conducted in markets dissimilar from the highly automated markets
currently existing in the United States and, therefore, that limits
their utility in this context. Overall, however, the most relevant
studies fail to demonstrate a magnet effect and we believe that
adopting the circuit breaker approach best serves our goals.
---------------------------------------------------------------------------

\285\ See, e.g., letter from Credit Suisse (June 2009); see also
David Abad and Roberto Pascual, On the Magnet Effect of Price
Limits, European Financial Management, 13:833-852 (2007) (studying
the Spanish stock exchange); Chan et al., Price limit performance:
Evidence from transactions data and the limit order book, Journal of
Empirical Finance, 12: 269-290 (2005) (studying the Kuala Lumpur
Stock Exchange); Anthony D. Hall and Paul Korfman, Limits to linear
price behavior: Futures prices regulated by limits, Journal of
Futures Markets, 21:463-488 (2001) (studying five agriculture
futures contracts); Henk Berkman and Onno Steenbeek, The influence
of daily price limits on trading in Nikkei futures, Journal of
Futures Markets, 18:265-279 (1998) (studying futures contracts on
the Osaka Securities Exchange); Marcelle Arak and Richard E. Cook,
Do daily price limits act as magnets? The case of treasury bond
futures, Journal of Financial Services Research, 12:5-20 (1997)
(studying treasury bond futures).
---------------------------------------------------------------------------

5. Circuit Breaker Trigger Level and Duration
In the Proposal, we proposed that if the price of a covered
security declined by at least 10% from the prior day's closing price
for that covered security, as measured by the closing price of the
covered security on the consolidated system, then all short selling in
the covered security would be subject to a halt or a price test
restriction for the remainder of the trading day.\286\ To avoid market
disruption that might occur if a circuit breaker were triggered late in
the trading day, the circuit breaker rules, as proposed, would not have
been triggered if the specified market decline threshold was reached in
a covered security within thirty minutes of the end of regular trading
hours.\287\
---------------------------------------------------------------------------

\286\ See Proposal, 74 FR at 18066.
\287\ See id.
---------------------------------------------------------------------------

In Rule 201(b), we are adopting a 10% trigger level measured from
the closing price determined by the covered security's listing market
as of the end of regular trading hours on the prior day.\288\ This
differs from the Proposal, under which the price decline would have
been measured from the covered security's last price reported in the
consolidated system during regular trading hours on the prior day.\289\
In addition, we are modifying the proposed duration of the price test
restriction once the circuit breaker is triggered. Under Rule 201(b),
as adopted, once the circuit breaker has been triggered, the price test
restriction will remain in place for the remainder of the day and for
the following day.\290\ In addition, as discussed in more detail below,
because the price test restriction will remain in place for the
remainder of the day and for the following day, we are not adopting in
Rule 201 a provision that the short sale price test restriction of the
Rule will not be triggered if the 10% trigger level is reached in a
covered security within thirty minutes of the end of regular trading
hours.
---------------------------------------------------------------------------

\288\ ``Regular trading hours'' is defined in Rule 201 to have
the same meaning as in Rule 600(b)(64) of Regulation NMS. See Rule
201(a)(7). Rule 600(b)(64) provides that ``Regular trading hours
means the time between 9:30 a.m. and 4:00 p.m. Eastern Time, or such
other time as is set forth in the procedures established pursuant to
Sec. 242.605(a)(2).'' 17 CFR 242.600(b)(64).
\289\ See Proposal, 74 FR at 18066.
\290\ Rule 201(b). We note that if the price of a covered
security declines intra-day by at least 10% on a day on which the
security is already subject to the short sale price test restriction
of Rule 201, the restriction will be re-triggered and, therefore,
will continue in effect for the remainder of that day and the
following day. For example, if on Monday, the price of XYZ security
declines intra-day by at least 10%, XYZ security will be subject to
the alternative uptick rule for the remainder of Monday and for the
following day, Tuesday. If then on Tuesday, the price of XYZ
security again declines intra-day by at least 10%, the circuit
breaker will be re-triggered for that security such that the
alternative uptick rule will apply for the following day, i.e.,
Wednesday, as well as for the remainder of the day on Tuesday.
---------------------------------------------------------------------------

In the Proposal, we noted our preliminary belief that a 10% decline
in a security's price from the prior day's closing price would be an
appropriate level at which to trigger the proposed circuit breaker
rules.\291\ We also noted that a 10% threshold would be consistent with
current SRO rules that restrict or halt trading if key market indexes
fall by specified amounts (``SRO Circuit Breakers'') \292\ and had been
recommended by certain commenters.\293\ The Commission solicited
comment on whether a 10% decline from the prior day's closing price
would be an appropriate threshold

[[Page 11254]]

at which to trigger the proposed circuit breaker short sale price
restrictions.\294\ We noted that the threshold level would affect the
balance of the costs and benefits of the Rule; a low trigger level
could result in more securities being subject to the proposed short
sale price test restrictions, or subject to them more frequently, and a
high trigger level could result in securities facing more significant
declines before the benefits of the short sale price test restrictions
applied.\295\
---------------------------------------------------------------------------

\291\ See Proposal, 74 FR at 18066, 18069.
\292\ See Proposal, 74 FR at 18065-18066. To protect investors
and the markets, the Commission has approved proposals to restrict
or halt trading if key market indexes fall by specified amounts.
Currently, all stock exchanges and FINRA have rules or policies to
implement coordinated circuit breaker halts. See 1998 Release, 63 FR
18477; see also NYSE Rule 80B. The circuit breaker procedures call
for cross-market trading halts when the Dow Jones Industrial Average
(``DJIA'') declines by 10%, 20%, and 30% from the previous day's
closing value. See, e.g., BATS Exchange Rule 11.18. The options
markets also have rules applying circuit breakers. See Amex Rule 950
(applying Amex Rule 117, Trading Halts Due to Extraordinary Market
Volatility, to options transactions); CBOE Rule 6.3B; ISE Rule 703;
NYSE Arca Options Rule 7.5; and Phlx Rule 133. The futures exchanges
that trade index futures contracts have adopted circuit breaker halt
procedures in conjunction with their price limit rules for index
products. See, e.g., CME Rule 35102.I. The CME will implement a
trading halt on S&P 500 Index futures contracts if a NYSE Rule 80B
trading halt is imposed in the primary securities market. Trading of
S&P 500 Index futures contracts will resume upon lifting of the NYSE
Rule 80B trading halt. Finally, security futures products are
required to have cross-market circuit breaker regulatory halt
procedures in place. See Exchange Act Release No. 45956 (May 17,
2002), 67 FR 36740 (May 24, 2002).
\293\ See Proposal, 74 FR at 18066.
\294\ See Proposal, 74 FR at 18066, 18069, 18070.
\295\ See Proposal, 74 FR at 18079, 18081.
---------------------------------------------------------------------------

In response to our request for comment, several commenters
expressed support for a 10% trigger level.\296\ One commenter did not
specifically object to the 10% threshold, but stated that 10% should be
the minimum trigger level considered.\297\ One commenter expressed
support for a lower, 5% trigger level.\298\
---------------------------------------------------------------------------

\296\ See, e.g., letter from BATS (May 2009); letter from
Allston Trading (June 2009); letter from IBC.
\297\ See letter from Direct Edge (June 2009).
\298\ See letter from James J. Angel, Ph.D., CFA, Associate
Professor of Finance, McDonough School of Business, Georgetown
University, dated Sept. 21, 2009 (``Prof. Angel (Sept. 2009)'').
---------------------------------------------------------------------------

Several commenters expressed support for a trigger level higher
than 10%.\299\ Several of these commenters stated that a circuit
breaker threshold of 10% would be too narrow or restrictive.\300\ Other
commenters indicated that a circuit breaker should only be triggered in
extraordinary circumstances and asked that we consider a trigger level
higher than 10% due to concerns that a 10% trigger level would capture
``normal'' trading activity.\301\ Several commenters indicated that a
higher trigger level would be particularly important for lower priced
securities because a 10% trigger level would likely be reached
frequently even in the absence of abnormal activity for such
securities.\302\ Other commenters indicated that, in addition to price,
the trigger level should factor in other characteristics of individual
securities, such as volume and volatility.\303\ One commenter stated
that a higher trigger level would be especially important for a circuit
breaker in conjunction with the alternative uptick rule because the
alternative uptick rule is more restrictive than the other proposed
price tests.\304\
---------------------------------------------------------------------------

\299\ See, e.g., letter from MFA (June 2009); letter from
Goldman Sachs (June 2009); letter from ISDA; letter from ISE (June
2009); letter from SIFMA (June 2009); letter from Citadel et al.
(June 2009); letter from Dialectic Capital (Sept. 2009); letter from
Goldman Sachs (Sept. 2009); letter from ISE (Sept. 2009); letter
from SIFMA (Sept. 2009); letter from Virtu Financial; letter from
Nasdaq OMX Group (Oct. 2009).
\300\ See, e.g., letter from MFA (June 2009); letter from ISDA;
letter from ISE (June 2009); letter from Virtu Financial; letter
from Jordan & Jordan; letter from Credit Suisse (June 2009).
\301\ See, e.g., letter from MFA (June 2009); letter from
Citadel et al. (June 2009); letter from Goldman Sachs (June 2009);
letter from ISDA; letter from ISE (June 2009); letter from SIFMA
(June 2009); letter from Dialectic Capital (Sept. 2009); letter from
SIFMA (Sept. 2009); letter from Virtu Financial.
\302\ See, e.g., letter from Barclays (June 2009); letter from
ISDA; letter from SIFMA (June 2009); letter from SIFMA (Sept. 2009).
\303\ See letter from Direct Edge (June 2009); letter from
Barclays (June 2009); letter from Goldman Sachs (June 2009); letter
from Lime Brokerage (June 2009); letter from Direct Edge (Sept.
2009); letter from Goldman Sachs (Sept. 2009).
\304\ See letter from ISE (Sept. 2009).
---------------------------------------------------------------------------

In addition, several commenters submitted estimates of the number
of securities that would trigger a circuit breaker rule at a 10%
threshold.\305\ While commenters' analyses (including the facts and
assumptions used) and their resulting estimates varied,\306\
commenters' estimates reflect that a 10% circuit breaker threshold, on
average, should affect only a limited percentage of covered
securities.\307\ For example, one commenter submitted an estimate that
slightly more than 5% of a universe of 4,800 NMS common stocks would
have ``tripped the 10% threshold on average each day'' during roughly
the first half of 2009.\308\ In determining that a 10% threshold is
appropriate, we considered other thresholds and the data presented by
commenters regarding the numbers of securities that they believed would
be subject to a short sale price test restriction at those different
thresholds. Given the variations in the facts and assumptions
underlying the estimates submitted by commenters, the Staff also looked
at trading data to confirm the reasonableness of those estimates. The
Staff found that, over the period covering April 9, 2001 to September
30, 2009,\309\ the 10% trigger level of Rule 201 would have, on an
average day, been triggered for approximately 4% of covered
securities.\310\ The Staff also found that for a low volatility period,
covering January 1, 2004 to December 31, 2006, the 10% trigger level of
Rule 201 would have, on an average day, been triggered for
approximately 1.3% of covered securities.\311\
---------------------------------------------------------------------------

\305\ See, e.g., letter from Jordan & Jordan; letter from
Citadel et al. (June 2009); letter from MFA (June 2009); letter from
SIFMA (June 2009); letter from Credit Suisse (Sept. 2009).
\306\ See, e.g., letter from Jordan & Jordan (providing
estimated percentages of exchange listed stocks impacted by a 10%
circuit breaker threshold on sample days); letter from MFA (June
2009) (providing the average daily number and percentage of Russell
3000 stocks impacted by a 10% circuit breaker threshold over a ten
year period); letter from Credit Suisse (Sept. 2009) (providing the
number of times, by month, a circuit breaker with a 10% threshold
would have been triggered for S&P 500 stocks and for Russell 2000
stocks); letter from SIFMA (June 2009) (referencing two member
firms' estimates, one that provided the average number of stocks out
of 4,800 NMS common stocks that would have triggered the 10%
threshold during roughly the first half of 2009 and another that
measured the average number of Russell 3000 stocks per day that
declined by 10% from their opening price from November 2008 to March
2009).
\307\ See, e.g., letter from MFA (June 2009) (reflecting that
approximately 5% of Russell 3000 stocks would have been impacted at
any one time by a circuit breaker with a 10% threshold during the
period of October 1998 to September 2008); letter from SIFMA (June
2009) (reflecting that approximately 3% of Russell 3000 stocks
trading above $10 and 16.5% of Russell 3000 stocks trading below $10
would have been impacted by a 10% threshold measured from the
security's opening price during the period of November 2008 through
March 2009); but cf letter from Jordan & Jordan. We note that the
sample of days in the data reflected in the letter from Jordan &
Jordan is not representative of typical trading.
\308\ Letter from SIFMA (June 2009).
\309\ This time period constitutes the period after full
implementation of decimal increments.
\310\ The Staff estimates that on the average day during this
period, approximately 6.0% of stocks would have been impacted by the
Rule, which is comprised of 3.4% of stocks that would have triggered
the circuit breaker on a given day, plus an additional 2.6% of
stocks that would have been affected as a result of having triggered
the circuit breaker on the previous day. We note that the actual
percentage of stocks affected by the Rule in the future could be
different from the historical average, particularly under different
market conditions. In particular, the percentage of stocks affected
by the Rule is likely to be higher under crisis conditions. For
example, the Staff estimates that on October 10, 2008 approximately
68.1% of stocks would have traded under a short sale price test
during part or all of the day while on November 24, 2006
approximately 0.6% of stocks would have traded under a short sale
price test during part or all of the day. The S&P 500 Index was down
nearly 15% on October 10, 2008 from the closing price two days
earlier while the S&P 500 Index was nearly flat on November 24, 2006
from the closing price two days earlier. The estimates are
calculated based on data from CRSP US Stock Database (copyright)2009
Center for Research in Security Prices (CRSP), The University of
Chicago Booth School of Business.
\311\ The period from 2004 to 2006 exhibited low daily
volatility as measured by the S&P 500 Index. The estimates are
calculated based on data from CRSP US Stock Database (copyright)2009
Center for Research in Security Prices (CRSP), The University of
Chicago Booth School of Business.
---------------------------------------------------------------------------

After considering the comments, we believe that a 10% decline in a
security's price, as measured from the security's closing price on the
prior day, is an appropriate level at which to trigger a circuit
breaker. As discussed in the Proposal, the circuit breaker short sale
price test restrictions were designed to target a security experiencing
a significant intra-day price decline, where the concerns about the
potential harmful effects of short selling would be greatest. In this
way, they would be tailored to help prevent short selling, including
potentially abusive or manipulative short selling, from being used as a
tool to exacerbate the declining market in those securities

[[Page 11255]]

experiencing a significant intra-day decline and, thereby, help
stabilize the market in those securities and help address concerns
about the erosion in investor confidence.\312\ At the same time, we
explained, the proposed circuit breaker price test restrictions would
not impact trading in the majority of securities, and so would preserve
the benefits of legitimate short selling, such as the provision of
liquidity and price efficiency, in those securities.\313\
---------------------------------------------------------------------------

\312\ See, e.g., Proposal, 74 FR at 18065, 18069.
\313\ See, e.g., Proposal, 74 FR at 18065, 18069; see also
Proposal, 74 FR at 18104 (``By targeting only those securities that
experience severe intraday declines, all three proposed circuit
breaker rules would be narrowly tailored so that most stocks would
not fall under any new short sale restrictions.'').
---------------------------------------------------------------------------

Although we recognize commenters' concerns that a 10% trigger level
may capture some ``normal'' trading activity, commenters' estimates and
the Staff's analysis show that a 10% circuit breaker threshold
generally should affect only a limited percentage of covered
securities. This supports the conclusion that Rule 201 provides a
tailored approach that reaches a limited subset of covered securities
that are experiencing a significant intra-day price decline, while
generally not restricting short selling in the majority of covered
securities. Thus, by including a 10% trigger level in Rule 201, the
Rule will not interfere with trading in the majority of securities most
of the time, including when prices in such securities are undergoing
minimal downward price pressure or are stable or rising. In addition,
we note that a circuit breaker approach is more targeted than applying
a short sale price test restriction on a permanent, market-wide basis,
and that any circuit breaker approach needs to have a line drawn.
Further, we are concerned that setting a trigger level higher than
10% would undermine our goals of helping to prevent short selling from
being used as a tool to exacerbate a price decline in a particular
security and of increasing investor confidence because so few
securities would, on average, trigger a threshold higher than 10%.\314\
The 10% threshold for a circuit breaker that, when triggered, results
in all short selling in a covered security being subject to the
alternative uptick rule strikes a balance between the need to restrict
short selling in moments of significant intra-day price declines in a
covered security and the market participant's expectation that its
short selling strategy will normally be available in an efficient and
open marketplace. Thus, we have determined that a 10% trigger level
strikes the right balance among our goals of facilitating the smooth
functioning of the markets, preserving investor confidence, and
preventing abusive market practices.
---------------------------------------------------------------------------

\314\ See supra notes 305 to 311 (discussing the limited number
of securities that would, on an average day, trigger a circuit
breaker with a 10% threshold).
---------------------------------------------------------------------------

Although we recognize commenters' concerns that a 10% trigger level
may be reached more frequently for lower priced securities, at this
time we have determined not to set a higher trigger level for lower
priced securities, or to base the trigger on other characteristics of a
security. Varying the trigger level according to characteristics of
individual securities would complicate and increase costs with respect
to implementation of, compliance with, and regulatory oversight of,
Rule 201. Moreover, contrary to the concerns of commenters, we believe
that having a trigger level that is reached more frequently for lower
priced stocks may be beneficial. As stated in the Staff's Summary Pilot
Report, during the Pilot, the Staff found some evidence that short sale
price tests dampened intra-day volatility in the smallest market
capitalization stocks, which tend to have lower share prices than
larger market capitalization stocks.\315\ Thus, a trigger level that is
reached more frequently for lower priced stocks may impose the
alternative uptick rule in those situations where it is more likely to
dampen volatility and achieve our goals in adopting short sale price
test restrictions.
---------------------------------------------------------------------------

\315\ See Staff's Summary Pilot Report at 55-56, 81.
---------------------------------------------------------------------------

In response to our request for comment,\316\ some commenters asked
that we clarify how to determine the official price from which to
measure a price decline and to designate from where that price will
come.\317\ In addition, a number of commenters expressed concerns that
measuring the trigger level from the prior day's closing price for a
security would result in a short selling restriction being applied as
the result of a price change caused by the overnight release of
material news or other significant events outside of trading
hours.\318\ Several commenters asked that the percentage decline be
measured from the covered security's opening price rather than the
prior day's closing price.\319\ One commenter specified that the
opening price should be the official opening price distributed by a
SIP,\320\ while other commenters stated that it should be the opening
price on the covered security's primary market.\321\ One commenter
stated that the opening print should not be included in the measurement
of the trigger level.\322\ Other commenters, however, supported our
proposal to measure the decline from the previous day's closing
price.\323\ One commenter noted that measuring the trigger level from
the previous day's closing price might be easier to implement in
connection with a policies and procedures approach.\324\
---------------------------------------------------------------------------

\316\ See Proposal, 74 FR at 18066, 18079.
\317\ See, e.g., letter from SIFMA (June 2009).
\318\ See, e.g., letter from Citadel et al. (June 2009); letter
from GETCO (June 2009); letter from Goldman Sachs (June 2009);
letter from Lime Brokerage (June 2009); letter from SIFMA (June
2009); letter from Credit Suisse (June 2009); letter from Credit
Suisse (Sept. 2009); letter from Hudson River Trading; letter from
Virtu Financial; see also letter from CBOE (June 2009) (stating that
the opening price would take into account after hours news and avoid
disorderly openings, particularly on options settlement dates).
\319\ See, e.g., letter from Knight Capital (June 2009); letter
from Citadel et al. (June. 2009); letter from GETCO (June 2009);
letter from Goldman Sachs (June 2009); letter from Lime Brokerage
(June 2009); letter from SIFMA (June 2009); letter from Credit
Suisse (June 2009); letter from Credit Suisse (Sept. 2009); letter
from Goldman Sachs (Sept. 2009); letter from Hudson River Trading.
\320\ See letter from Virtu Financial.
\321\ See, e.g., letter from Goldman Sachs (June 2009); letter
from SIFMA (June 2009).
\322\ See letter from SIFMA (June 2009).
\323\ See, e.g., letter from IBC; letter from Nasdaq OMX Group
(Oct. 2009).
\324\ See letter from SIFMA (June 2009); see also letter from
Glen Shipway (June 2009) (noting that basing the trigger level on
the previous day's closing price ``certainly would be a price
mechanism easier to track and to comprehend by market
participants'').
---------------------------------------------------------------------------

As discussed in more detail in Section III.A.6. below, Rule
201(b)(3) provides that the listing market for each covered security
must determine whether a covered security's price has declined by 10%
or more such that it is subject to the short sale price test
restrictions of Rule 201 and such information must be disseminated to
the trading centers via the applicable single plan processor.\325\
---------------------------------------------------------------------------

\325\ See Rule 201(b)(3); see also infra Section III.A.6. Rule
201(a)(6) provides that ``[t]he term plan processor shall have the
same meaning as in Sec. 242.600(b)(55).'' Rule 600(b)(55) of
Regulation NMS states: ``Plan processor means any self-regulatory
organization or securities information processor acting as an
exclusive processor in connection with the development,
implementation and/or operation of any facility contemplated by an
effective national market system plan.'' The single plan processors
are ``exclusive processors'' as defined under Section 3(a)(22) of
the Exchange Act. 17 CFR 242.600(b)(55). See 15 U.S.C. 78c(a)(22).
---------------------------------------------------------------------------

As set forth in Rule 201(b)(1), we have determined that it is
appropriate to measure the price decline from the covered security's
closing price as determined by the listing market for the covered
security as of the end of regular trading hours on the prior day. In
the proposed circuit breaker rules, we proposed that the decline in a
covered security's price would be measured from the security's last
price as reported in the consolidated system during

[[Page 11256]]

regular trading hours on the prior day.\326\ After considering the
comments, we believe that the closing price as determined by the
covered security's listing market as of the end of regular trading
hours on the prior day will provide a more accurate price from which to
measure a decline in price than the last price reported in the
consolidated system. We believe that the last price reported in the
consolidated system is more likely to reflect an anomalous trade, e.g.,
a trade that is not consistent with the current market due to, for
example, the 90 second reporting window, or an uncorrected error.
Listing markets generally have in place specific procedures designed to
ensure the accuracy and reliability of their closing prices.\327\ Thus,
we believe it is appropriate to use the more accurate closing price as
determined by the covered security's listing market rather than the
last price reported in the consolidated system.
---------------------------------------------------------------------------

\326\ See Proposal, 74 FR at 18110-18113.
\327\ See, e.g., NYSE Rule 116.40; NYSE Rule 123C(3).
---------------------------------------------------------------------------

We also believe that the price decline in a covered security under
Rule 201(b)(1)(i) should be measured from the covered security's
closing price reported on the prior day rather than from each day's
opening price for the covered security because the closing price
provides a clearly discernible price and time from which to measure the
decline. The closing price of a covered security will be known by or
shortly after the end of regular trading hours such that the listing
markets will have a price on the following day from which to determine
if a covered security is subject to the short sale price test
restrictions of Rule 201. An opening price, on the other hand, is
established only if there is opening interest for a security, which,
for thinly traded securities, may present issues. In addition, as noted
by one commenter, we believe that measuring the price decline from the
closing price on the prior day is preferable because it should be
easier to implement than a requirement to measure the decline from the
covered security's opening price.\328\ For example, should any
uncertainties in price occur, using the closing price as a measurement
will provide time to resolve any such uncertainties before the
requirements of Rule 201 will potentially apply. If the Rule required
that the decline must be measured from the opening price, any
uncertainties would have to be resolved in real time, so that if a 10%
or more price decline were to occur, the short sale price test
restrictions of Rule 201 could be applied that day in accordance with
the Rule.
---------------------------------------------------------------------------

\328\ See letter from SIFMA (June 2009).
---------------------------------------------------------------------------

As noted above, under Rule 201(b), once the circuit breaker has
been triggered, the price test restriction will remain in place for the
remainder of the day and for the following day. This requirement
differs from the proposed circuit breaker rules that would have applied
a short selling halt or short sale price test restriction for the
remainder of the day only.
In response to our request for comment on the duration of the
proposed circuit breaker rules, comments were mixed. For example, one
commenter suggested that the Commission should consider extending the
duration of the short selling restriction through the close of trading
on the trading day following the triggering of the circuit breaker to
allow sufficient time to achieve the Commission's intended purpose of
``halting or slowing a price decline in a security.'' \329\ Some
commenters supported the proposed period for the circuit breaker of the
remainder of the trading day \330\ for various reasons, including that
the limited duration would mitigate the potential adverse impact of a
short selling restriction.\331\ In addition, several commenters
supported a circuit breaker with a duration of less than the remainder
of the trading day.\332\
---------------------------------------------------------------------------

\329\ See letter from RBC (June 2009); see also letter from
Credit Suisse (Mar. 2009).
\330\ See, e.g., letter from Direct Edge (June 2009) (stating
that the circuit breaker should be limited in duration to the end of
the trading day with respect to the proposed circuit breaker halt
rule); letter from AIMA; letter from Goldman Sachs (June 2009).
\331\ See, e.g., letter from AIMA; see also letter from Direct
Edge (June 2009) (opposing a circuit breaker duration beyond one
trading day specifically with respect to a circuit breaker
triggering a short selling halt); letter from Barclays (June 2009);
letter from Goldman Sachs (June 2009).
\332\ See letter from Barclays (June 2009); letter from Citadel
et al. (June 2009); letter from SIFMA (June 2009); see also letter
from Jordan & Jordan (providing data regarding the extent to which
securities with an ``on/off'' trigger recovered by the end of
trading).
---------------------------------------------------------------------------

One commenter, however, stated that the circuit breaker should not
be in effect for multiple days, but also that it should not be in
effect for a matter of hours because ``frequent changes in the status
of a security would create more disruption.'' \333\ Several commenters
who supported a circuit breaker with a duration of less than the
remainder of the trading day stated that the circuit breaker should be
lifted if the security's price has recovered and the price decline is
less than 10% before the end of the trading day.\334\ These commenters
stated, among other things, that such a recovery may be a common
occurrence \335\ and that lifting the circuit breaker would take into
account the resilience of the markets.\336\ Another commenter stated
that the circuit breaker should only be in effect long enough to re-
establish equilibrium between buying and selling interests and further
noted that the duration of the circuit breaker should depend on the
time of day when the threshold is triggered.\337\
---------------------------------------------------------------------------

\333\ Letter from Goldman Sachs (June 2009).
\334\ See letter from Barclays (June 2009); letter from SIFMA
(June 2009).
\335\ See letter from SIFMA (June 2009).
\336\ See letter from Barclays (June 2009).
\337\ See letter from Citadel et al. (June 2009).
---------------------------------------------------------------------------

Some commenters supported the Commission's proposal that a circuit
breaker would not be triggered if the 10% trigger level were reached in
a covered security within thirty minutes of the end of regular trading
hours.\338\ Other commenters, however, stated that the last thirty
minutes of the day has become the most volatile part of the day and
that this is exactly the time that a rule that would slow short selling
and reduce volatility would be most needed.\339\
---------------------------------------------------------------------------

\338\ See letter from Barclays (June 2009); letter from Citadel
et al. (June 2009).
\339\ See, e.g., letter from Jibralta Merrill, dated May 5,
2009; letter from Arthur Porcari, dated May 11, 2009; letter from
IBC; letter from STA (June 2009).
---------------------------------------------------------------------------

After considering the comments, we believe it is appropriate to
apply the alternative uptick rule, when triggered, for the remainder of
the day and the day following the day on which the circuit breaker is
triggered. We believe that a circuit breaker that is in effect for the
remainder of the day and the following day will have the advantage of
being more effective at preventing short selling from being used as a
tool to exacerbate a security's decline in price. As we, and several
commenters, have noted, because the alternative uptick rule will permit
short selling only at a price above the current national best bid, it
will likely be the most effective of the proposed price tests at
preventing short selling from driving down further a security's price
or from exacerbating a price decline.\340\ A circuit breaker that will
impose a short selling restriction for only the remainder of the
trading day, or as some commenters suggested, for less than the
remainder of the trading day, may not allow sufficient time for the
short selling restriction to have its desired effect. To the extent
that short selling is causing or contributing

[[Page 11257]]

to downward price pressure, a longer duration will provide additional
time during which the security will be subject to reduced downward
price pressure from short selling. In addition, we note that the
circuit breaker could be triggered at any point during regular trading
hours. Further, as noted by one commenter, we are concerned that if the
circuit breaker is triggered late in the day, such that it would be in
effect for only a short period of time, this would in fact create more
disruption rather than achieving our goals with respect to short sale
price test restrictions for that security.\341\ By applying the short
sale price test restriction for the day following the day on which it
is triggered, the time period will help ensure that there is not
unnecessary disruption caused by the triggering of the circuit breaker.
---------------------------------------------------------------------------

\340\ See letter from Wells Fargo (Sept. 2009); letter from STA
(Sept. 2009); letter from Glen Shipway (Sept. 2009); letter from
BATS (Sept. 2009).
\341\ See supra note 333 and accompanying text.
---------------------------------------------------------------------------

As discussed above, the Commission has previously noted that
circuit breakers may benefit the market by allowing participants an
opportunity to re-evaluate circumstances and respond to
volatility.\342\ We believe that imposing a short selling restriction
for the remainder of the day and the following day will help ensure
that market participants have a reasonable opportunity to become aware
of, and respond to, a significant decline in a security's price, and
will provide sufficient time to re-establish market efficiency in the
individual security. Although, for the reasons discussed above, we
believe it is necessary to impose the short sale price test restriction
of Rule 201 for longer than the remainder of the day, we do not believe
it is appropriate to extend the duration beyond the time period
specified in Rule 201 because we believe that the duration specified in
Rule 201 strikes the appropriate balance between achieving our goals in
adopting Rule 201 and not causing unnecessary market disruption.
---------------------------------------------------------------------------

\342\ See supra note 275 and accompanying text.
---------------------------------------------------------------------------

In the Proposal, we stated that to avoid market disruption that may
occur if a circuit breaker is triggered late in the trading day, the
proposed circuit breaker rules would not be triggered if the specified
market decline threshold is reached in a covered security within thirty
minutes of the end of regular trading hours.\343\ As noted above,
because the short sale price test restriction of Rule 201 will remain
in place for the remainder of the day and the following day, we have
determined not to include a provision in Rule 201 stating that the
Rule's restrictions will not be triggered if the 10% trigger level is
reached in a covered security within thirty minutes of the end of
regular trading hours. We believe it is appropriate to apply Rule 201
during the last thirty minutes of regular trading hours because, due to
potential volatility during this period, it is a time period when a
covered security's price may experience a significant decline.
---------------------------------------------------------------------------

\343\ See Proposal, 74 FR at 18066.
---------------------------------------------------------------------------

Consistent with the Proposal, we have determined to apply the price
test restriction, if triggered, during periods when the national best
bid is calculated and disseminated on a current and continuing basis by
a plan processor.\344\ As discussed above and as we discussed in the
Proposal,\345\ market information for quotes in covered securities is
disseminated pursuant to two different national market system plans,
the CQ Plan and Nasdaq UTP Plan.\346\ Quotation information is made
available pursuant to the CQ Plan between 9 a.m. and 6:30 p.m. ET,
while one or more participants is open for trading. In addition,
quotation information is made available pursuant to the CQ Plan during
any other period in which any one or more participants wish to furnish
quotation information to the Plan.\347\ Quotation information is made
available by the Nasdaq UTP Plan between 9:30 a.m. and 4 p.m. ET. The
Nasdaq UTP Plan also collects, processes, and disseminates quotation
information between 4 a.m. and 9:30 a.m. ET, and after 4 p.m. when any
participant is open for trading, until 8 p.m. ET.\348\ During the time
periods in which these Plans do not operate, real-time quote
information is not collected, calculated and disseminated.
---------------------------------------------------------------------------

\344\ See Rule 201(b).
\345\ See Proposal, 74 FR at 18060, 18064-18065.
\346\ See supra note 199 and accompanying text. See also 17 CFR
242.603(b). Rule 603 of Regulation NMS requires that every national
securities exchange on which an NMS stock is traded and national
securities association shall act jointly pursuant to one or more
effective national market system plans to disseminate consolidated
information, including a national best bid and national best offer,
on quotations for and transactions in NMS stocks.
\347\ See http://www.nyxdata.com/cta.
\348\ See http://www.utpdata.com/docs/UTP_PlanAmendment.pdf.
---------------------------------------------------------------------------

In response to our request for comment,\349\ one commenter stated
that any price test restriction should be applied during regular
trading hours only because the period when the current national best
bid is calculated, collected and disseminated ``can vary depending on
whether a participant in the particular national market system
governing quote consolidation for a security decides to pay the
consolidator to extend the hours of the calculation of the bid.'' \350\
In contrast, other commenters stated that the proposed price test
restrictions should apply at all times during after-hours trading.\351\
Because the short sale price test restrictions of Rule 201 are based on
the current national best bid, we believe that the restrictions should
apply at all times when the current national best bid is collected,
calculated and disseminated even though this period can vary depending
on whether a participant in the particular national market system
governing quote consolidation for a security decides to pay the
consolidator to extend the hours of the calculation of the bid.\352\
Thus, the price test restrictions of Rule 201 will apply at times when
quotation information and, therefore, the national best bid, is
collected, processed, and disseminated pursuant to a national market
system plan. We note, however, that at a later time we may reconsider
whether any changes to Rule 201 would be necessary to also apply the
Rule to short selling during times when the national best bid is not
collected, calculated and disseminated, in light of any new information
on short selling activity during these times.
---------------------------------------------------------------------------

\349\ See, e.g., Proposal, 74 FR at 18060.
\350\ Letter from Credit Suisse (Sept. 2009); see also letter
from SIFMA (June 2009); letter from Goldman Sachs (June 2009);
letter from T. Rowe Price (June 2009).
\351\ See, e.g., letter from Michael Sigmon, Chairman, Sigmon
Wealth Management, dated Apr. 14, 2009; letter from IBC.
\352\ We note that currently, the period during which the
current national best bid is collected, calculated and disseminated
can vary depending on whether a participant in the particular
national market system governing quote consolidation for a security
has decided to pay the consolidator to extend the hours of the
calculation of the bid.
---------------------------------------------------------------------------

6. Determination Regarding Securities Subject to Rule 201 and
Dissemination of Such Information
In the Proposal, we requested comment regarding who should be
responsible for monitoring the price declines of individual securities
to determine if they trigger the short selling circuit breaker, such as
broker-dealers or SROs, how such information should be disseminated to
the market, and who should be responsible for disseminating the
information.\353\ In response to our request for comment, some
commenters stated that if we were to adopt a circuit breaker rule,
securities subject to the Rule should be tracked and disseminated by
the SIP for the covered security in question, noting that SIPs
currently track and disseminate

[[Page 11258]]

percentage moves \354\ and that such a role would be consistent with
the responsibilities of a SIP to collect, process, distribute and
publish information with respect to transactions in, or quotations for,
any security for which it acts as a SIP on a current and continuing
basis.\355\ One commenter stated that it would be inappropriate to
allow each market to perform its own calculation or to impose the
responsibility on a particular market due to the importance of ensuring
that triggering of a circuit breaker is communicated to all markets and
market participants on a fair, impartial and timely basis.\356\ Other
commenters stated that the listing market for a covered security should
communicate the triggering of the circuit breaker to the SIP for the
covered security, which would then redistribute such information to the
market.\357\ Another commenter stated that the exchanges should be
required to develop and maintain ``a centralized real-time list of all
securities subject to the circuit breaker price test.'' \358\ This
commenter stated that it believes this centralization ``would ensure
consistent treatment of orders and help reduce the costs of compliance
for market participants.'' \359\ One commenter stated that as an
alternative to the listing market notifying the SIP for a covered
security when the circuit breaker has been triggered, trading centers
could arrange to receive this information directly from the listing
market.\360\
---------------------------------------------------------------------------

\353\ See Proposal, 74 FR at 18078.
\354\ See, e.g., letter from Virtu Financial (also stating that
the SIPs would add a flag to their data feeds that would announce
when the circuit breaker is in effect).
\355\ See letter from NYSE Euronext (Sept. 2009); see also
letter from SIFMA (June 2009) (stating that some of its member firms
``believe that exchange-controlled SIPs should monitor prices and
disseminate information flags when a security is in short sale mode
* * *'').
\356\ See letter from NYSE Euronext (Sept. 2009).
\357\ See, e.g., letter from Direct Edge (June 2009); letter
from Liquidnet; letter from FIF (June 2009); letter from Manisha
Kimmel, Executive Director, Financial Information Forum, dated Sept.
23, 2009 (``FIF (Sept. 2009)'').
\358\ Letter from RBC (June 2009).
\359\ Id.
\360\ See letter from Liquidnet.
---------------------------------------------------------------------------

After considering the comments, we have determined that the listing
market for each covered security must determine whether that covered
security is subject to Rule 201.\361\ Rule 201(a)(3) defines the term
``listing market'' to have the same meaning as the term ``listing
market'' as defined in the effective transaction reporting plan for the
covered security.\362\ Because the definition of ``listing market'' is
a currently-used definition, we believe users of the Rule will not have
difficulty identifying for a security which entity is its listing
market.
---------------------------------------------------------------------------

\361\ See Rule 201(b)(3).
\362\ Rule 201(a)(2). Rule 201(a)(2) provides that ``[t]he term
effective transaction reporting plan for a covered security shall
have the same meaning as in Sec. 242.600(b)(22).'' Rule 201(a)(2).
---------------------------------------------------------------------------

Currently, there are two effective transaction reporting plans, the
CTA Plan, which disseminates transaction information for securities
primarily listed on an exchange other than Nasdaq, and the Nasdaq UTP
Plan, which disseminates consolidated transaction and quotation
information for securities primarily listed on Nasdaq.\363\ Each of
these Plans includes a definition of ``listing market,'' which
definitions we are incorporating by reference into Rule 201. We have
determined to incorporate by reference into Rule 201 the definition of
``listing market,'' as that term is defined in the CTA Plan and the
Nasdaq UTP Plan,\364\ to provide the markets with uniformity with
respect to decisions regarding trading restrictions for individual NMS
stocks because the listing markets are already familiar with making
determinations regarding, and imposing trading restrictions on,
individual NMS stocks. For example, listing markets already have rules
or policies in place to coordinate trading suspensions or halts in
individual NMS stocks.\365\
---------------------------------------------------------------------------

\363\ See supra note 199 (discussing the joint-industry plans).
\364\ We note that although the definition of a ``listing
market'' in the CTA Plan and Nasdaq UTP Plan is similar, the Plans
differ with respect to how they treat dually listed securities. The
CTA Plan states that ``the `listing market' for any Eligible
Security shall be that exchange Participant on which the Eligible
Security is listed. If an Eligible Security is dually listed,
`listing market' shall be that exchange Participant on which the
Eligible Security was originally listed.'' The Nasdaq UTP Plan
states that `` `Listing Market' for an Eligible Security means the
Participant's Market on which the Eligible Security is listed. If an
Eligible Security is dually listed, Listing Market shall mean the
Participant's Market on which the Eligible Security is listed that
also has the highest number of the average of the reported
transactions and reported share volume for the preceding 12-month
period. The Listing Market for dually-listed Eligible Securities
shall be determined at the beginning of each calendar quarter.''
Although there are differences between how each of the Plans
determines the listing market for dually listed securities, we do
not believe this difference will impact the rule operationally
because participants are already familiar with determining the
applicable listing market for a covered security.
\365\ See, e.g., Nasdaq Rule 4120 (relating to trading halts in
Nasdaq-listed securities); NYSE Rule 123D (relating to delayed
openings and trading halts in NYSE-listed securities).
---------------------------------------------------------------------------

In addition, requiring the listing market for a covered security to
determine whether the security has become subject to the short sale
price test restrictions of Rule 201 will help ensure consistency for
each covered security with respect to such determinations as only the
listing market for that covered security will be making the
determination. In addition, we believe that listing markets will be in
the best position to respond to anomalous or unforeseeable events that
may impact a covered security's price, such as an erroneous trade,
because the listing markets generally have in place specific procedures
designed to address such events.
As discussed above, in response to our request for comment,\366\
some commenters provided comments regarding how information that a
covered security has become subject to the short sale price test
restrictions of Rule 201 should be disseminated to the markets.\367\ In
order that all market participants receive information regarding when a
security has become subject to Rule 201 on a fair, impartial and timely
basis, after considering the comments we have determined to provide in
Rule 201(b)(3) that once the listing market has determined that a
security has become subject to the requirements of Rule 201, the
listing market shall immediately notify the single plan processor
responsible for consolidation of information for the covered security
in accordance with Rule 603(b) of Regulation NMS \368\ of the fact that
a covered security has become subject to the short sale price test
restriction of Rule 201. The plan processor must then disseminate this
information.\369\
---------------------------------------------------------------------------

\366\ See supra note 353 and accompanying text.
\367\ See, e.g., letter from Direct Edge (June 2009); letter
from FIF (June 2009); letter from Liquidnet; letter from RBC (June
2009); letter from SIFMA (June 2009); letter from FIF (Sept. 2009);
letter from NYSE Euronext (Sept. 2009); letter from Virtu Financial.
\368\ Rule 603(b) of Regulation NMS provides that ``Every
national securities exchange on which an NMS stock is traded and
national securities association shall act jointly pursuant to one or
more effective national market system plans to disseminate
consolidated information, including a national best bid and national
best offer, on quotations for and transactions in NMS stocks. Such
plan or plans shall provide for the dissemination of all
consolidated information for an individual NMS stock through a
single plan processor.'' 17 CFR 242.603(b).
\369\ See Rule 201(b)(3); 17 CFR 242.603(b).
---------------------------------------------------------------------------

As discussed above, the CTA Plan disseminates transaction
information for securities primarily listed on an exchange other than
Nasdaq and the Nasdaq UTP Plan disseminates consolidated transaction
and quotation information for securities primarily listed on Nasdaq. In
accordance with Rule 603(b) of Regulation NMS, these plans, together
with the CQ Plan, provide for the dissemination of all consolidated
information for individual

[[Page 11259]]

NMS stocks through a single plan processor. The single plan processors
currently receive information from listing markets regarding trading
restrictions (i.e., Regulatory Halts as defined in those plans) on
individual securities and disseminate such information. Thus, the
requirements of Rule 201(b)(3) are similar to existing obligations on
plan processors pursuant to the requirements of Regulation NMS, the CTA
and CQ Plans and the Nasdaq UTP Plan.
We recognize that the requirements of Rule 201(b)(3) may require
changes to systems currently supported by the single plan
processors.\370\ Thus, in considering the appropriate implementation
period for Rule 201, we have factored into our considerations time to
allow the single plan processors to determine any changes to their
systems requirements and to make any necessary changes.
---------------------------------------------------------------------------

\370\ See letter from FIF (June 2009).
---------------------------------------------------------------------------

7. Policies and Procedures Approach
In the Proposal, we stated that the proposed price test
restrictions could be applied in combination with a policies and
procedures approach, a prohibition approach, or a combination
thereof.\371\ We have determined to adopt a policies and procedures
approach in Rule 201(b). Rule 201(b) will require trading centers to
establish, maintain, and enforce written policies and procedures
reasonably designed to prevent the execution or display of a short sale
order of a covered security at a price that is less than or equal to
the current national best bid if the price of the security decreases by
10% or more from the covered security's closing price as determined by
the listing market for the covered security as of the end of regular
trading hours on the prior day.\372\ In addition, such policies and
procedures must be reasonably designed to impose the short sale price
test restriction in Rule 201(b)(1) for the remainder of the day on
which it is triggered and on the following day when a national best bid
for the covered security is calculated and disseminated on a current
and continuing basis by a plan processor pursuant to an effective
national market system plan.\373\
---------------------------------------------------------------------------

\371\ See Proposal, 74 FR at 18049.
\372\ See Rule 201(b)(1)(i).
\373\ See Rule 201(b)(1)(ii).
---------------------------------------------------------------------------

Several commenters stated that any short sale price test
restriction should be implemented through a policies and procedures
approach.\374\ One such commenter stated that a policies and procedures
approach ``would help promote compliance by all affected parties,
distribute compliance and monitoring responsibility, allow flexibility
to address inadvertent violations (thus likely resulting in fewer
cancellations and trade breaks), and conserve the enforcement resources
of agencies and other self-regulatory organizations.'' \375\ Another
commenter noted the ``smooth implementation'' and ``successful
operation'' of Regulation NMS, which also uses a policies and
procedures approach, and stated that a policies and procedures approach
for Rule 201 will ``allow for a smoother transition into full
implementation as well as a more flexible rule where triggers based on
circuit breakers are being contemplated.'' \376\
---------------------------------------------------------------------------

\374\ See, e.g., letter from SIFMA (June, 2009); letter from
Goldman Sachs (June 2009); letter from NYSE Euronext (June 2009);
letter from T. Rowe Price (June 2009); letter from RBC (June 2009);
letter from Schwab; letter from BATS (Sept. 2009); letter from SIFMA
(Sept. 2009); letter from Credit Suisse (Sept. 2009); letter from
Virtu Financial; letter from Goldman Sachs (Sept. 2009); letter from
NYSE Euronext (Sept. 2009); letter from Qtrade; letter from Citadel
et al. (Sept. 2009); letter from MFA (Oct. 2009).
\375\ Letter from Citadel et al. (Sept. 2009); see also letter
from AIMA.
\376\ Letter from Virtu Financial; see also letter from MFA
(Oct. 2009) (stating that it believes that ``implementation concerns
would be minimized if executing market centers (or any broker using
an intermarket sweep order) surveil for compliance as they could
leverage existing architecture developed to comply with the order
protection rule in Reg. NMS (Rule 611)'').
---------------------------------------------------------------------------

Some commenters stated that any short sale price test restriction
should be implemented with a policies and procedures approach as well
as a straight prohibition approach.\377\ In supporting this combination
approach, one such commenter noted that a policies and procedures
approach would be consistent with Regulation NMS, permit trading
centers the flexibility to tailor such policies and procedures to their
particular markets, and permit broker-dealers to manage their order
flow. At the same time, this commenter stated that a prohibition
approach would be familiar to market participants and will give the
Commission direct enforcement authority over violations.\378\
---------------------------------------------------------------------------

\377\ See, e.g., letter from GE; letter from Wachtell; letter
from Amer. Bankers Assoc.
\378\ See letter from GE; see also letter from Wachtell.
---------------------------------------------------------------------------

In contrast, some commenters stated that a short sale price test
restriction, if adopted, should be implemented with a straight
prohibition approach only. For example, one commenter stated that a
straight prohibition approach is preferable because ``[v]ariations in
policies and procedures would lead some to believe certain market
participants are less vigilant than others.'' \379\ Another said a
straight prohibition approach would be easier for market participants
to implement and understand.\380\ In addition, several commenters
expressed support for a rule that would ``prohibit'' short selling on a
down-bid (or down-tick) \381\ or expressed that they did not support a
policies and procedures approach.\382\
---------------------------------------------------------------------------

\379\ Letter from Wells Fargo (Sept. 2009).
\380\ See, e.g., letter from Amer. Bankers Assoc. We note that
this commenter also expressed support for a policies and procedures
requirement for trading centers.
\381\ See, e.g., letter from Sigmon Wealth Management (June
2009); letter from James V. Kelly, President, Kelly Capital
Management, LLC, dated June 2, 2009 (``Kelly Capital''); letter from
Larry Chlebina, President, Ryan Stine, VP Portfolio Strategist,
Chlebina Capital Management, LLC, dated May 29, 2009.
\382\ See, e.g., letter from Theresa Kinley, dated May 14, 2009;
see also letter from James Rothenberg.
---------------------------------------------------------------------------

We recognize some commenters' preference that a short sale price
test restriction be adopted with a straight prohibition approach or in
combination with a straight prohibition approach because it is the
approach taken under former Rule 10a-1 and, therefore, is familiar to
market participants. Further, some commenters noted there can be
variations in policies and procedures. As discussed in more detail
below, however, we have determined to adopt in Rule 201(b)(1) a
policies and procedures approach rather than a straight prohibition
approach (or a combination thereof) because this alternative is similar
to the policies and procedures approach under Regulation NMS and,
therefore, market participants are familiar with a policies and
procedures approach and can build on such policies and procedures in
implementing Rule 201. In addition, a policies and procedures approach
provides flexibility to trading centers and their customers in managing
order flow because it allows trading centers, together with their
customers, to determine how to handle orders that are not immediately
executable or displayable by the trading center because the order is
impermissibly priced. This flexibility potentially allows for the more
efficient functioning of the securities markets than a rule that
applies a straight prohibition approach.
In addition, we note that the Commission and SROs will carefully
monitor whether trading centers' policies and procedures are reasonably
designed to prevent short selling in violation of Rule 201. To the
extent that a trading center's policies and procedures permit any
execution or display of a short sale order not in accordance with the
requirements of the

[[Page 11260]]

Rule, such trading center's policies and procedures may not be
reasonable and could subject the trading center to enforcement action.
Further, any conduct by trading centers, or other market participants,
that facilitates short sales in violation of Rule 201 could also lead
to liability for aiding and abetting or causing a violation of
Regulation SHO, as well as potential liability under the anti-fraud and
anti-manipulation provisions of the Federal securities laws, including
sections 9(a), 10(b), and 15(c) of the Exchange Act, and Rule 10b-5
thereunder.
Under Rule 201(b)(1), a trading center will be required to have
written policies and procedures reasonably designed to prevent the
execution or display of short sale orders at a price that is less than
or equal to the current national best bid when the price of a covered
security decreases by 10% or more from the covered security's closing
price as determined by the listing market for the covered security as
of the end of regular trading hours on the prior day. In addition, such
policies and procedures must be reasonably designed to impose the short
sale price test restriction of Rule 201(b)(1)(i) for the remainder of
the day and the following day. Thus, a trading center's policies and
procedures must require that a trading center be able to determine when
a covered security is subject to the short sale price test restriction
of Rule 201. As discussed above, due to the importance of ensuring that
the triggering of the requirements of Rule 201 is communicated to all
market participants on a fair, impartial and timely basis, we believe
it is appropriate for the listing market for the covered security to
determine whether that security is subject to the requirements of Rule
201 and, if it is, for such information to be disseminated to the
market by the single plan processor. Thus, a trading center's policies
and procedures must be reasonably designed so that the trading center
is able to obtain such information from the single plan processor if
the covered security becomes subject to the Rule's requirements.
Upon receipt of a short sale order for a covered security that is
subject to the Rule's requirements, a trading center's policies and
procedures must ensure that the trading center is able to determine
whether or not the short sale order can be executed or displayed in
accordance with the provisions of Rule 201(b)(1). If the order is
marketable at a permissible price, the trading center may present the
order for immediate execution or, if not immediately marketable, hold
it for execution later at its specified price.
Rule 201(b)(1) permits a trading center to display an order
provided it is permissibly priced at the time the trading center
displays the order. If an order is impermissibly priced, the trading
center could, in accordance with policies and procedures reasonably
designed to prevent the execution or display of a short sale order at a
price that is less than or equal to the current national best bid, re-
price the order upwards to the lowest permissible price and hold it for
later execution at its new price or better.\383\ As quoted prices
change, in accordance with Rule 201(b)(1), a trading center may
repeatedly re-price and display an order at the lowest permissible
price down to the order's original limit order price (or, if a market
order, until the order is filled).
---------------------------------------------------------------------------

\383\ For example, if a trading center receives a short sale
order priced at $47.00 when the current national best bid in the
security is $47.00, the trading center could re-price the order at
the permissible offer price of $47.01, and display the order for
execution at this new limit price.
---------------------------------------------------------------------------

In addition, paragraph (b)(1)(iii)(A) of Rule 201 requires a
trading center's policies and procedures to be reasonably designed to
permit a trading center to execute a displayed short sale order at a
price that is less than or equal to the current national best bid
provided that, at the time the order was initially displayed by the
trading center it was permissibly priced, i.e., not at a price that was
less than or equal to the then-current national best bid.\384\ As
discussed in the Proposal, this exception for properly displayed short
sale orders will help avoid a conflict between Rule 201 and the ``Quote
Rule'' under Rule 602 of Regulation NMS.\385\ The Quote Rule requires
that, subject to certain exceptions, the broker-dealer responsible for
communicating a quotation shall be obligated to execute any order to
buy or sell presented to him, other than an odd lot order, at a price
at least as favorable to such buyer or seller as the responsible
broker-dealer's published bid or published offer in any amount up to
his published quotation size.\386\ Thus, pursuant to this exception, a
trading center will be able to comply with the ``firm quote''
requirement of Rule 602 of Regulation NMS by executing a presented
order to buy against its displayed offer to sell as long as the
displayed offer to sell was permissibly priced under Rule 201 at the
time it was first displayed, even if the execution of the transaction
will be at a price that is less than or equal to the current national
best bid at the time of execution.\387\
---------------------------------------------------------------------------

\384\ See Rule 201(b)(1)(iii)(A).
\385\ See Proposal, 74 FR at 18051.
\386\ See 17 CFR 242.602(b)(2). We note that to the extent that
a short sale order is un-displayed, Rule 201 will prevent the
trading center from executing the order unless at the time of
execution, the execution price complies with the Rule.
\387\ We note that such a conflict between the Quote Rule and
Rule 201 should be relatively infrequent. If a displayed order to
sell shares is at a price that is less than or equal to the national
best bid, this would result in a crossed or locked market. In
accordance with Rule 610(d) of Regulation NMS, each national
securities exchange and national securities association must
establish, maintain, and enforce written rules that require its
members reasonably to avoid: Displaying quotations that lock or
cross any protected quotation in an NMS stock, displaying manual
quotations that lock or cross any quotation in an NMS stock
disseminated pursuant to an effective national market system plan;
are reasonably designed to assure reconciliation of locked or
crossed quotations in an NMS stock; and prohibit its members from
engaging in a pattern or practice of displaying quotations that lock
or cross any protected quotation, or other quotation, in an NMS
stock, unless an exception in such rules applies. See 17 CFR
242.610(d).
---------------------------------------------------------------------------

Because a trading center can re-price and display a previously
impermissibly priced short sale order, the policies and procedures
approach of Rule 201, as noted by one commenter,\388\ potentially
allows for the more efficient functioning of the markets than a rule
that applies a straight prohibition approach. Another commenter noted
that while a prohibition approach could provide ``bright lines'' as to
the acceptability of trades, such an approach would result in an
``inordinate number'' of trades being cancelled by trading
centers.\389\ Because trading centers will not have to reject or cancel
impermissibly priced orders unless instructed to do so by the trading
center's customer submitting the short sale order, we believe that the
policies and procedures approach of Rule 201 will provide more
flexibility to trading centers and their customers and result in more
efficient markets. We recognize, however, that some trading centers
might not want to re-price an impermissibly priced short sale order.
Thus, re-pricing is not a requirement under Rule 201.
---------------------------------------------------------------------------

\388\ See, e.g., letter from Citadel et al. (Sept. 2009) (noting
that a policies and procedures approach is favorable to a strict
prohibition approach in that it ``would help promote compliance''
and ``address inadvertent violations'' of Rule 201).
\389\ Letter from STA (June 2009).
---------------------------------------------------------------------------

In addition, as noted by commenters, Rule 201 will provide trading
centers and their customers with flexibility in determining how to
handle orders that are not immediately executable or displayable by the
trading center because the order is impermissibly priced. For example,
trading centers can offer their customers various order types regarding
the handling of impermissibly priced orders such that a trading center
can either reject an impermissibly priced order or re-price the order

[[Page 11261]]

upwards to the lowest permissible price until the order is filled.
As proposed and as adopted, Rule 201(b)(2) requires trading centers
to regularly surveil to ascertain the effectiveness of the policies and
procedures required by Rule 201(b)(1) and to take prompt action to
remedy deficiencies in such policies and procedures.\390\ As one
commenter noted, this provision places trading centers in the position
of determining whether an execution complies with the requirements of
Rule 201(b)(1).\391\ Thus, short sale orders executed or displayed at
impermissible prices will require the trading center that executed or
displayed the short sales to take prompt action to remedy any
deficiencies.
---------------------------------------------------------------------------

\390\ See Rule 201(b)(2).
\391\ See letter from Wolverine.
---------------------------------------------------------------------------

The policies and procedures requirements of Rule 201(b)(1) are
similar to those set forth under Regulation NMS.\392\ In accordance
with Regulation NMS, trading centers must have in place written
policies and procedures in connection with that Regulation's Order
Protection Rule.\393\ Thus, as we stated in the Proposal, trading
centers are already familiar with establishing, maintaining, and
enforcing trading-related policies and procedures, including
programming their trading systems in accordance with such policies and
procedures.\394\ Several commenters agreed with the Commission's view
that this familiarity should reduce the implementation time and costs
of the Rule on trading centers.\395\
---------------------------------------------------------------------------

\392\ See Regulation NMS Adopting Release, 70 FR 37496; see also
17 CFR 242.611.
\393\ See id.
\394\ See Proposal, 74 FR at 18051-18052.
\395\ See, e.g., letter from Amer. Bankers Assoc.; letter from
Schwab; letter from Credit Suisse (Sept. 2009); letter from GE;
letter from Goldman Sachs (June 2009); letter from NYSE Euronext
(June 2009); letter from SIFMA (June 2009); letter from T. Rowe
Price (June 2009); letter from Virtu Financial (noting familiarity
with the policies and procedures approach of Regulation NMS should
reduce the implementation costs of Rule 201).
---------------------------------------------------------------------------

As discussed in the Proposal,\396\ similar to the requirements
under Regulation NMS in connection with the Order Protection Rule, at a
minimum, a trading center's policies and procedures must enable a
trading center to monitor, on a real-time basis, the national best bid,
so as to determine the price at which the trading center may execute or
display a short sale order. In addition, as proposed, a trading center
must have policies and procedures reasonably designed to permit the
execution or display of a short sale order of a covered security marked
``short exempt'' without regard to whether the order is at a price that
is less than or equal to the current national best bid.\397\ A trading
center's policies and procedures will not, however, have to include
mechanisms to determine on which provision a broker-dealer is relying
in marking an order ``short exempt'' in accordance with paragraph (c)
or (d) of Rule 201.\398\ We note that we did not receive comments that
specifically discussed a trading center's policies and procedures with
respect to the monitoring, on a real-time basis, of the national best
bid, or its policies and procedures related to orders marked ``short
exempt.''
---------------------------------------------------------------------------

\396\ See Proposal, 74 FR at 18052.
\397\ See Rule 201(b)(1)(iii)(B); see also infra Section III.B.
(discussing short sale orders marked ``short exempt'').
\398\ See infra Section III.B.; see also Rules 201(c) and 201(d)
---------------------------------------------------------------------------

As discussed in the Proposal,\399\ a trading center must also take
such steps as will be necessary to enable it to enforce its policies
and procedures effectively. For example, trading centers may establish
policies and procedures that include regular exception reports to
evaluate their trading practices. If a trading center's policies and
procedures include exception reports, any such reports will need to be
examined by the trading center to affirm that a trading center's
policies and procedures have been followed by its personnel and
properly coded into its automated systems and, if not, promptly
identify the reasons and take remedial action. In addition, we note
that one commenter stated, and we agree, that as a means for developing
an effective set of policies and procedures for compliance with the
provisions of Rule 201, trading centers should conduct ``regular post-
trade analysis.'' \400\ Another commenter stated that significant
oversight of policies and procedures is necessary to prevent trades
from being directed toward venues that become known for lax supervision
regarding compliance with Rule 201.\401\
---------------------------------------------------------------------------

\399\ See Proposal, 74 FR at 18052.
\400\ See letter from Jordan & Jordan.
\401\ See letter from STA (June 2009). We note that to the
extent that a trading center is lax with respect to its supervision
regarding Rule 201, such trading center could be subject to
enforcement action. In addition, the Commission and SROs will
monitor whether trading centers adequately monitor their compliance
with Rule 201 as part of their examinations.
---------------------------------------------------------------------------

To help ensure compliance with Rule 201, as discussed in the
Proposal,\402\ trading centers may also have policies and procedures
that will enable a trading center to have a record identifying the
current national best bid at the time of execution or display of a
short sale order. Such ``snapshots'' of the market will aid SROs in
evaluating a trading center's written policies and procedures and
compliance with Rule 201. In addition, such snapshots will aid trading
centers in verifying that a short sale order was priced in accordance
with the provisions of proposed Rule 201(b)(1) if bid ``flickering,''
i.e., rapid and repeated changes in the current national best bid
during the period between identification of the current national best
bid and the execution or display of the short sale order, creates
confusion regarding whether or not the short sale order was executed or
displayed at a permissible price. Snapshots of the market at the time
of execution or display of an order will also aid trading centers in
dealing with time lags in receiving data regarding the national best
bid from different data sources. A trading center's policies and
procedures will be required to address latencies in obtaining data
regarding the national best bid. In addition, to the extent such
latencies occur, a trading center's policies and procedures will need
to implement reasonable steps to monitor such latencies on a continuing
basis and take appropriate steps to address a problem should one
develop.
---------------------------------------------------------------------------

\402\ See Proposal, 74 FR at 18052.
---------------------------------------------------------------------------

Some commenters requested clarification regarding whether, in
determining the current national best bid, trading centers and/or
broker-dealers, as applicable, may rely on the current national best
bid as disseminated by proprietary feeds as well as the current
national best bid disseminated by SIPs.\403\ In addition, several
commenters indicated that trading centers and/or broker-dealers should
be required to rely on one source of the national best bid,\404\ such
as the current national best bid disseminated by SIPs.\405\ One
commenter stated that ``[s]uch centralization would ensure consistent
treatment of orders,'' \406\ and another commenter stated that it would
``eliminate redundant effort across broker-dealers and maintain
uniformity across exchanges.'' \407\ Other

[[Page 11262]]

commenters, however, questioned whether a unitary data feed would be
beneficial, stating that ``[e]ven utilizing a unitary data feed would
be problematic, however, given the `flickering' that occurs,'' \408\
and that latencies in the receipt of data by market participants is of
concern, ``even if they are working with the same SIP or exchange
feed.'' \409\ Another commenter noted concerns with respect to market
disruption as a result of a single mandated data feed, stating that
``the entire market could be disrupted significantly by a single point
of failure at the aggregator.'' \410\
---------------------------------------------------------------------------

\403\ See, e.g., letter from Glen Shipway (Sept. 2009); see also
letter from Credit Suisse (June 2009); letter from FIF (June 2009);
letter from Goldman Sachs (June 2009); letter from Lime Brokerage
(June 2009); letter from RBC (June 2009); letter from SIFMA (June
2009); letter from Direct Edge (June 2009); letter from BATS (Sept.
2009); letter from Credit Suisse (Sept. 2009); letter from Lime
Brokerage (Sept. 2009); letter from Qtrade.
\404\ See, e.g., letter from FIF (June 2009); letter from RBC
(June 2009); letter from NYSE Euronext (Sept. 2009).
\405\ See, e.g., letter from FIF (June 2009); letter from NYSE
Euronext (Sept. 2009); see also letter from Direct Edge (June 2009).
\406\ Letter from RBC (June 2009).
\407\ Letter from FIF (June 2009).
\408\ Letter from Direct Edge (June 2009).
\409\ Letter from Lime Brokerage (June 2009); see also letter
from Lime Brokerage (Sept. 2009).
\410\ Letter from Credit Suisse (June 2009).
---------------------------------------------------------------------------

We recognize commenters' concerns regarding the potential impact
that receiving national best bid information from different data feeds
might have on the application of Rule 201, including latencies that may
occur in receiving such information from different data feeds.\411\ We
do not believe, however, that it is appropriate to mandate that the
receipt of the current national best bid must be from any one
particular data feed because a policies and procedures approach that
provides for a ``snapshot'' of the applicable current national best bid
will allow trading centers to deal with time lags in receiving data
regarding the national best bid from different data sources. Thus, Rule
201 does not require modifications to how data feeds are currently
received.
---------------------------------------------------------------------------

\411\ See infra Section X.B.1.b.i. and Section X.B.1.b.ii.
(discussing the potential impact of not mandating receipt of the
current national best bid from one particular data feed on the
implementation costs of Rule 201).
---------------------------------------------------------------------------

As discussed in the Proposal, trading centers will be required to
conduct regular surveillance of their policies and procedures under
Rule 201. Specifically, Rule 201(b)(2) provides that a trading center
must regularly surveil to ascertain the effectiveness of the policies
and procedures required under the Rule and must take prompt action to
remedy deficiencies in such policies and procedures.\412\ This
provision will reinforce the requirement of Rule 201(b)(1) to maintain
and enforce policies and procedures by explicitly assigning an
affirmative responsibility to trading centers to surveil to ascertain
the effectiveness of their policies and procedures.\413\ Thus, under
the Rule, trading centers may not merely establish policies and
procedures that may be reasonable when created and assume that such
policies and procedures will continue to satisfy the requirements of
Rule 201(b). Rather, trading centers will be required to regularly
assess the continuing effectiveness of their policies and procedures
and take prompt action when needed to remedy deficiencies. In
particular, trading centers will need to engage in regular and periodic
surveillance to determine whether executions or displays of short sale
orders on impermissible bids are occurring without an applicable
exception and whether the trading center has failed to implement and
maintain policies and procedures that would have reasonably prevented
such impermissible executions or displays of short sale orders. We note
that, although discussed in the Proposal, we did not receive comments
that specifically addressed the requirement that trading centers must
conduct regular surveillance of their policies and procedures under
Rule 201.
---------------------------------------------------------------------------

\412\ See Rule 201(b)(2).
\413\ We note that Rule 611(a)(2) of Regulation NMS contains a
similar provision for trading centers. See 17 CFR 242.611(a)(2).
---------------------------------------------------------------------------

B. ``Short Exempt'' Provisions of Rule 201

In the Proposal, we proposed that a trading center's policies and
procedures must be reasonably designed to permit the execution or
display of a short sale order of a covered security marked ``short
exempt'' without regard to whether the order otherwise met the short
sale price test restrictions.\414\ In addition, we included provisions
in the Proposal that set out circumstances under which a broker-dealer
could mark a sale order as ``short exempt.'' \415\
---------------------------------------------------------------------------

\414\ See, e.g., Proposal, 74 FR at 18107, 18111.
\415\ See, e.g., Proposal, 74 FR at 18108, 18111-18112. We note
that we proposed provisions relating to when a broker-dealer may
mark a sale order as ``short exempt.'' In discussing the ``short
exempt'' marking provisions in paragraphs (c) and (d) of Rule 201,
we set forth below how and why the provisions, as adopted, differ
from the provisions as set forth in the proposed circuit breaker
with modified uptick rule because that rule most closely resembles
Rule 201, as adopted. To that end, we note that the circumstances
under which a sale order may be marked as ``short exempt'' are
contained in paragraphs (c) and (d) of Rule 201, as adopted, whereas
such circumstances were contained in paragraphs (d) and (e) of the
proposed circuit breaker with modified uptick rule.
---------------------------------------------------------------------------

After considering the comments and consistent with the Proposal, we
have determined to include in Rule 201(b)(1)(iii)(B) a requirement that
a trading center's policies and procedures must be reasonably designed
to permit the execution or display of a short sale order of a covered
security marked ``short exempt'' without regard to whether the order is
at a price that is less than or equal to the current national best
bid.\416\ We have also determined to include in Rule 201(c) and (d)
provisions that specify the circumstances under which a broker-dealer
may mark certain sale orders as ``short exempt'' so that a trading
center may execute or display such orders without regard to whether
they are priced in accordance with the requirements of Rule
201(b).\417\ The provisions contained in paragraphs (c) and (d) of Rule
201 are designed to promote the workability of the Rule, while at the
same time furthering the Commission's goals.
---------------------------------------------------------------------------

\416\ See Rule 201(b)(1)(iii)(B).
\417\ See Rule 201(c); 201(d).
---------------------------------------------------------------------------

The provisions contained in paragraph (d) of Rule 201 parallel
exceptions to former Rule 10a-1 and exemptive relief granted pursuant
to that rule.\418\ These exceptions and exemptions from former Rule
10a-1 had been in place for several years. As we noted in the Proposal,
we believe that the rationales underlying these exceptions and
exemptions from former Rule 10a-1 still hold true today.\419\ Moreover,
due to the limited scope of these exceptions and exemptions, we do not
believe that including them will undermine the Commission's goals for
adopting Rule 201. To the extent that commenters addressed our
inclusion of these exceptions and exemptions, we discuss such comments
below.
---------------------------------------------------------------------------

\418\ See Proposal, 74 FR at 18054 (discussing how the ``short
exempt'' marking provisions of the proposed modified uptick rule
would parallel exceptions to former Rule 10a-1 and exemptive relief
granted pursuant to that rule).
\419\ See Proposal, 74 FR at 18054-18059.
---------------------------------------------------------------------------

A number of commenters stated that if we were to adopt a form of
short sale price test restriction, it should include exceptions beyond
those that we proposed in the Proposal and Re-Opening Release,
particularly if we were to adopt a short sale price test restriction
based on the alternative uptick rule.\420\ Some commenters stated that
the exceptions included in the Proposal and the Re-Opening Release were
insufficient, stating that broader and/or additional exceptions would
be necessary to, among other things, provide stability and liquidity to
the market \421\ and so as not to impair price discovery.\422\ For
example, commenters requested exceptions for activity excepted from, or
necessary to comply with, Regulation NMS.\423\ Commenters

[[Page 11263]]

also requested an exception for exchange traded funds (``ETFs'') and
similar broad-based indices and baskets of stocks.\424\ Some commenters
requested exceptions for short sales in connection with the
facilitation of capital raising transactions, through stock issuances
and convertible instruments, by issuers and selling shareholders.\425\
In connection with convertible instruments, commenters stated that
there needs to be an exception from any short sale price test
restriction to allow investors purchasing a convertible instrument to
hedge their long exposure.\426\ Other exceptions requested relate to
automated electronic buy-side trading,\427\ bona fide hedging
generally,\428\ ``exchange for physicals'' transactions,\429\ index
expirations,\430\ and market on open \431\ and market on close
orders.\432\
---------------------------------------------------------------------------

\420\ See, e.g., letter from SIFMA (Sept. 2009); letter from
NYSE Euronext (Sept. 2009); letter from EWT (Sept. 2009); letter
from GETCO (Sept. 2009).
\421\ See, e.g., letter from SIFMA (June 2009); letter from NYSE
Euronext (June 2009).
\422\ See, e.g., letter from NYSE Euronext (June 2009).
\423\ See, e.g., letter from SIFMA (June 2009); letter from RBC
(June 2009); letter from Goldman Sachs (June 2009). We note that
where a broker-dealer is routing an inter-market sweep order
(``ISO'') solely to facilitate its execution of a customer's long
sale in compliance with Rule 611, such ISOs may be marked as ``short
exempt.'' This will allow the destination trading centers to execute
the orders against better-priced protected quotations without regard
to the short sale price test restrictions of Rule 201. Such ISOs
must not be marked as ``long.''
\424\ See, e.g., letter from SIFMA (June 2009); letter from NYSE
Euronext (June 2009); letter from MFA (June 2009); letter from RBC
(June 2009); letter from ICI (June 2009); letter from Citadel et al.
(June 2009); letter from Credit Suisse (June 2009); letter from
ISDA; letter from NYSE Euronext (Sept. 2009); letter from Direct
Edge (Sept. 2009); letter from Knight Capital (Sept. 2009); letter
from Virtu Financial; letter from EWT (Sept. 2009).
\425\ See, e.g., letter from SIFMA (June 2009); see also letter
from ISDA.
\426\ See, e.g., letter from SIFMA (June 2009).
\427\ See, e.g., letter from MFA (June 2009).
\428\ See, e.g., letter from MFA (June 2009); letter from Credit
Suisse (June 2009); letter from ISDA; letter from John K. Robinson,
General Counsel, P. Schoenfeld Asset Management LP, dated July 2,
2009 (``P. Schoenfeld Asset Management'').
\429\ See, e.g., letter from SIFMA (June 2009); letter from RBC
(June 2009).
\430\ See, e.g., letter from SIFMA (June 2009).
\431\ See, e.g., letter from RBC (June 2009); letter from
Goldman Sachs (June 2009); letter from Goldman Sachs (Sept. 2009).
\432\ See, e.g., letter from SIFMA (June 2009); letter from RBC
(June 2009); letter from Credit Suisse (June 2009); letter from EWT
(Sept. 2009); letter from Goldman Sachs (June 2009); letter from
Goldman Sachs (Sept. 2009). We also note that some commenters stated
that we should include a marking error exception in connection with
any short sale price test restriction we adopt. See, e.g., letter
from RBC (June 2009); letter from SIFMA (June 2009). In connection
with the proposed uptick rule, we proposed an exception for any sale
by a broker-dealer of a covered security for an account in which it
has no interest, pursuant to an order marked ``long.'' See Proposal,
74 FR at 18109. This exception would have applied where a broker-
dealer effects a sale of an order marked ``long'' by another broker-
dealer, but the order was mis-marked such that it should have been
marked as a short sale order. We do not believe that a similar
exception is necessary under Rule 201 because Rule 201, unlike the
proposed uptick rule, is based on a policies and procedures approach
rather than a straight prohibition approach. Thus, if a trading
center's written policies and procedures are reasonably designed to
prevent the execution or display of a short sale order of a covered
security at a price that is less than or equal to the current
national best bid, it is unlikely that such trading center's
participation in any violation of the Rule due to a mis-marking by a
broker-dealer could be knowing or reckless. See Proposal, 74 FR at
18063. As we stated in the Proposal, knowledge may be inferred where
a broker-dealer has previously accepted orders marked ``long'' from
the same counterparty that required borrowed shares for delivery or
that resulted in a ``fail to deliver.'' See Proposal, 74 FR at 18063
n.212; see also 2004 Regulation SHO Adopting Release, 69 FR at
48019, n.111 (stating that ``[i]t may be unreasonable for a broker-
dealer to treat a sale as long where orders marked `long' from the
same customer repeatedly require borrowed shares for delivery or
result in `fails to deliver.' A broker-dealer also may not treat a
sale as long if the broker-dealer knows or has reason to know that
the customer borrowed shares being sold.'').
---------------------------------------------------------------------------

In addition, as discussed in more detail in Section III.B.9. below,
commenters requested an exception for short sales by market makers
engaged in bona fide market making activities, including market makers
in OTC and listed derivatives, options, convertibles and ETFs, and
block positioners.\433\
---------------------------------------------------------------------------

\433\ See, e.g., letter from SIFMA (June 2009); letter from NYSE
Euronext (June 2009); letter from Knight Capital (June 2009); letter
from EWT (June 2009); letter from STANY (June 2009); letter from
Credit Suisse (June 2009); letter from CBOE (June 2009); letter from
RBC (June 2009); letter from Citadel et al. (June 2009); letter from
NYSE Euronext (Sept. 2009); letter from Direct Edge (Sept. 2009);
letter from Virtu Financial; letter from EWT (Sept. 2009); letter
from Credit Suisse (Sept. 2009). Some commenters also asked for an
exception for, or clarification that, a short sale price test
restriction would not apply to short sales pursuant to all options
assignments and exercises. See, e.g., letter from SIFMA (June 2009);
letter from CBOE (June 2009); letter from Boston Options Exchange,
Chicago Board Options Exchange, International Securities Exchange,
Nasdaq Options Market, Nasdaq OMX PHLX, NYSE Amex, NYSE Arca and The
Options Clearing Corporation, dated June 22, 2009 (``Boston Options
Exchange et al. (June 2009)''); letter from RBC (June 2009). We note
that because short sales pursuant to options exercises and
assignments (whether or not automatic) are unrelated to the current
national best bid, Rule 201 does not apply to such sales.
---------------------------------------------------------------------------

Several commenters, however, stated that the Commission should be
cautious of adopting numerous exceptions and discussed problems that
may arise from adopting a short sale price test restriction with many
or complex exceptions, such as additional implementation difficulties,
greater compliance costs, lack of uniformity that may cause unfair
application of the rule, increased opportunities for gaming and abuse,
and, overall, a less effective rule that only applies to a limited
numbers of short sales.\434\ Commenters stated that a short sale price
test restriction with numerous exceptions will create loopholes and a
rule that is easy to circumvent, thus resulting in a rule that applies
to little trading activity and fails to serve the purpose for which it
was adopted.\435\ One commenter stated that emphasis should first be
placed on ``a sales price restriction on short sales, its possible
effects on helping restore a measure of price continuity, and its
possible deleterious effects on informational efficiency * * * with
exceptions to be evolved as time goes by and as the industry petitions
for them.'' \436\ Another commenter noted that a short sale price test
restriction with many exceptions will impose additional burdens on the
Commission's inspection staff, which will be tasked with ``retracing
transactions to discern which were eligible for exceptions, which were
not, and if any were disguised.'' \437\
---------------------------------------------------------------------------

\434\ See, e.g., letter from Paladin Investment; letter from
Douglas M. Branson, W. Edward Sell Professor of Business Law,
University of Pittsburgh School of Law, dated June 10, 2009 (``Prof.
Branson''); letter from Wells Fargo (June 2009); letter from CPIC
(June 2009); letter from IAG; letter from IBC; letter from Jordan &
Jordan; letter from Kelly Capital; letter from Lime Brokerage (June
2009); letter from Millennium; letter from Hudson River Trading;
letter from Lime Brokerage (Sept. 2009); letter from Glen Shipway
(Sept. 2009); letter from Qtrade.
\435\ See, e.g., letter from Paladin Investment; letter from
Prof. Branson; letter from CPIC (June 2009); letter from Wells Fargo
(June 2009); letter from IBC (June 2009); letter from Jordan &
Jordan; letter from Lime Brokerage (June 2009); letter from
Millennium.
\436\ Letter from Prof. Branson.
\437\ Letter from CPIC (June 2009).
---------------------------------------------------------------------------

In addition, one commenter noted that the exceptions that accompany
any price test restriction will be driven by the approach adopted.\438\
This commenter noted that a permanent, market-wide approach may
necessitate more exceptions than one triggered by a temporary circuit
breaker.\439\ This commenter further noted that ``a circuit breaker
short sale ban may necessitate more or different exceptions than a
circuit breaker that still permits short selling to occur.'' \440\
---------------------------------------------------------------------------

\438\ See, e.g., letter from ICI (June 2009).
\439\ See letter from ICI (June 2009).
\440\ Letter from ICI (June 2009).
---------------------------------------------------------------------------

Although, as noted above, commenters requested a variety of
exceptions in addition to those set forth in the Proposal, at this
time, we have determined to include in Rule 201(c) and (d) only the
``short exempt'' marking provisions that we proposed. We believe that
these limited provisions will help ensure the smooth functioning of the
markets while at the same time not undermining our goals for adopting
Rule 201.
In addition, we note that a number of commenters that discussed the
need for additional and/or broader exceptions referenced the absence of
some of the requested exceptions during the Short

[[Page 11264]]

Sale Ban Emergency Order \441\ and the effect on market quality of the
Short Sale Ban Emergency Order in the absence of such exceptions.\442\
These commenters noted the absence from the Short Sale Ban Emergency
Order of exceptions for certain convertible arbitrage or hedging
activities \443\ and for automated electronic buy-side trading.\444\ We
note, however, that unlike the Short Sale Ban Emergency Order, which
halted all short selling in the securities subject to the emergency
order for its three-week duration, the short sale restrictions of Rule
201 will apply for a limited duration and will only apply to a covered
security if such security has experienced a significant intra-day price
decline (of 10% or more). Thus, Rule 201 will not impact trading in the
vast majority of covered securities on an average day.\445\ If a
covered security becomes subject to the short sale price test
restrictions of Rule 201 it will occur because that security's price is
experiencing extreme downward price pressure and it is these securities
that Rule 201 is designed to address by helping to prevent short
selling from being used as a tool to exacerbate its price decline. If,
as requested by commenters, we were to expand the scope of short
selling activities that would not be subject to Rule 201, we are
concerned such exceptions could undermine this goal of Rule 201.
---------------------------------------------------------------------------

\441\ See supra Section II.C. (discussing the Short Sale Ban
Emergency Order).
\442\ See, e.g., letter from SIFMA (June 2009); letter from RBC
(June 2009); letter from CPIC (June 2009); letter from Goldman Sachs
(June 2009); letter from MFA (June 2009).
\443\ See, e.g., letter from RBC (June 2009) (attaching and
discussing letter from Philip Taylor and Scott DeCanio, Directors,
RBC Capital Markets Corp., dated Sept. 25, 2008); letter from CPIC
(June 2009); letter from Goldman Sachs (June 2009); letter from
SIFMA (June 2009); letter from MFA (June 2009).
\444\ See, e.g., letter from MFA (June 2009).
\445\ See supra Section III.A.5. (discussing analyses regarding
the number of securities that will trigger the circuit breaker on an
average day).
---------------------------------------------------------------------------

In addition, although short selling will be restricted if the price
of a covered security decreases by 10% or more, in contrast to
securities subject to the Short Sale Ban Emergency Order, Rule 201 will
still permit short selling in the covered security even when the
restriction is in place, although at a price above the current national
best bid. Thus, short sellers engaged in the various activities for
which commenters are requesting additional or expanded exceptions will
continue to be able to sell short even when the price test restriction
is in effect. In addition, the restriction on short selling will be in
place for a limited duration, that is, the remainder of the day on
which the circuit beaker level is triggered and the following day,
further reducing the need for additional exceptions.
We also note that with respect to ETFs, although under former Rule
10a-1 the Commission issued limited exemptive relief for certain ETFs
via authority delegated to the Staff, that relief was issued on a case-
by-case basis for a permanent, market-wide short sale price test
rule.\446\ Since the elimination of former Rule 10a-1, there has been a
significant growth in ETF trading volume and an expansion in different
structures of ETF products.\447\ Commenters who opposed an exception
for these products noted the growth in ETF trading volume and new ETF
products among the reasons not to provide an exception for ETFs from
any short sale price test restriction.\448\ We do not believe that a
general ETF exception is necessary because the circuit breaker approach
of Rule 201 will generally result in the majority of ETFs not being
subject to its short sale price test restrictions because ETFs are
generally diversified, whereas single stocks are not. If such
securities do become subject to its restrictions, the restrictions will
be in place for a limited duration and will continue to permit short
selling even when in place.
---------------------------------------------------------------------------

\446\ See, e.g., letter from Racquel L. Russell, Esq., Branch
Chief, Office of Trading Practices and Processing, Division of
Market Regulation, to George T. Simon, Esq., Foley & Lardner LLP,
dated June 21, 2006; letter from James A. Brigagliano, Assistant
Director, Division of Market Regulation, to Claire P. McGrath, Vice
President and Special Counsel, Amex, dated Aug. 17, 2001. We note
that each of the approvals for relief under former Rule 10a-1 was
conditioned on the ETF meeting certain enumerated conditions, either
specific to certain products or included as part of a broader
``class exemption.''
\447\ See, e.g., Investment Company Institute, 2009 Investment
Company Fact Book, (49 ed.); National Stock Exchange, NSX Annouces
Record January ETF Trading Volume Surpasses $2.2 Trillion, News &
Views, Feb. 14, 2008 available at http://www.nsx.com/content/news/story/90.
\448\ See, e.g., letter from Robert E. Koza, dated May 4, 2009;
letter from Robert W. Angove, President, Santiam Mountain
Investment, dated May 5, 2009; letter from David Tarrell, dated May
6, 2009; letter from Mitchel Schlesinger, Principal, FBB Capital
Partners, dated May 8, 2009; letter from Paladin Investment; letter
from Shelby Frisch, dated May 15, 2009; letter from Robert
Cannataro, dated June 5, 2009; letter from High Street Advisors;
letter from European Investors (June 2009); letter from Ascendant
Capital; letter from Kelly Capital; letter from European Investors
(Sept. 2009); letter from NAREIT.
---------------------------------------------------------------------------

For the reasons discussed above, at this time we believe it is
appropriate to limit the scope and number of circumstances under which
a broker-dealer may mark a sell order as ``short exempt.'' We
recognize, however, the concerns raised by commenters and note that to
help ensure the future workability of Rule 201, or for other reasons,
we may reconsider whether certain exceptions or exemptions are
warranted.
1. Broker-Dealer Provision
After the 10% circuit breaker is triggered for a covered security,
Rule 201(c) will permit a broker-dealer submitting a short sale order
for the covered security to a trading center to mark the order ``short
exempt'' if the broker-dealer identifies the order as being at a price
above the current national best bid at the time of submission.\449\ We
have modified this provision from the Proposal to clarify that a
broker-dealer may only mark an order as ``short exempt'' after the
circuit breaker has been triggered for a covered security.\450\ In
addition, consistent with the Proposal, Rule 201(c) requires any
broker-dealer relying on this provision to establish, maintain, and
enforce written policies and procedures that are reasonably designed to
prevent the incorrect identification of orders as being priced in
accordance with the requirements of Rule 201(c) and requires the
broker-dealer regularly to surveil to ascertain the effectiveness of
these policies and procedures, and to take prompt action to remedy
deficiencies.\451\
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\449\ See Rule 201(c).
\450\ We have also made technical modifications to Rule 201(c)
to reflect that it is the broker-dealer submitting the order that
must also mark the order as ``short exempt'' and to reflect the
difference in operation of the alternative uptick rule from the
proposed circuit breaker with modified uptick rule.
\451\ See Rule 201(c).
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As discussed above, in response to our request for comment,\452\
several commenters stated that if we were to adopt a short sale price
test restriction, it should include a broker-dealer provision.\453\ One
commenter stated that the broker-dealer provision is necessary to
prevent contradictory requirements for broker-dealers under Regulation
NMS and Regulation SHO.\454\
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\452\ See Proposal, 74 FR at 18073-18074.
\453\ See, e.g., letter from SIFMA (June 2009); letter from BATS
(May 2009); letter from EWT (Sept. 2009); letter from Qtrade.
\454\ See letter from EWT (Sept. 2009).
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Other commenters disagreed, stating that they do not think that the
broker-dealer provision is necessary. One commenter pointed to problems
that may arise from the provision, such as increasing the potential for
confusion in the marketplace, creating an unlevel playing field, and
penalizing participants who have the most efficient market data
infrastructures.\455\ Commenters also noted that the broker-dealer
provision has the potential to

[[Page 11265]]

greatly increase costs to the industry and to adversely impact the
ability of smaller broker-dealers to compete.\456\ One commenter stated
that, what it termed a ``requirement,'' that broker-dealers maintain
``snapshots,'' may impose significant costs, including costs associated
with technology, data storage, and surveillance and review and that the
Commission's cost estimates of over $100,000 per broker-dealer ``seem
to underestimate the cost to large, full service broker-dealers, since
the volume of orders handled by these firms are likely to lead to
significantly greater technology and storage costs alone as well as
more frequent reviews.'' \457\ We note that, as discussed in the
Proposal and in more detail below, we believe that ``snapshots'' of the
market could aid broker-dealers in complying with Rule 201(c), but Rule
201 does not ``require'' such snapshots.\458\
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\455\ See letter from Lime Brokerage (June 2009).
\456\ See letter from STANY (June 2009); letter from Lime
Brokerage (June 2009); letter from NSCP.
\457\ Letter from NSCP.
\458\ See Proposal, 74 FR at 18054-18055.
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Another commenter expressed the belief that a majority of broker-
dealer participants that service customer orders will want to take
advantage of the provision to remain competitive and to ensure that
client orders receive the best possible execution, which will result in
many non-trading center participants becoming subject to market data
``snapshotting'' and other compliance-related changes.\459\
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\459\ See letter from Lime Brokerage (June 2009).
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After considering the comments, as discussed above, we have
determined to include in Rule 201(c) a provision to permit a broker-
dealer submitting a short sale order for a covered security to a
trading center after the circuit breaker is triggered for a covered
security, to mark the order ``short exempt'' if the broker-dealer
identifies the order as being at a price above the current national
best bid at the time of submission.\460\ Rule 201(c) will provide
broker-dealers with the option to manage their order flow, rather than
having to always rely on their trading centers to manage their order
flow on their behalf.
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\460\ See Rule 201(c).
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Although we recognize commenters' concerns, including regarding
potential increased costs to the industry with respect to technology,
data storage and surveillance, we note that most broker-dealers may
already have developed ``snapshot'' capability in connection with
Regulation NMS's Order Protection Rule. We also agree that ``snapshot''
capability will require data storage by broker-dealers; however, as
noted by one commenter,\461\ because the alternative uptick rule does
not require sequencing of the national best bid, the data storage
requirements under the alternative uptick rule are lower than they
would be under the proposed modified uptick rule or the proposed uptick
rule. In addition, we believe that the costs of a policies and
procedures approach that provides for a snapshot of the applicable
current national best bid of the security are justified because
snapshot capability will aid broker-dealers in dealing with time lags
in receiving data regarding the national best bid from different data
sources and facilitate verification of whether a short sale order was
executed or displayed at a permissible price.
---------------------------------------------------------------------------

\461\ See letter from STA (Sept. 2009).
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In addition, we note that this provision will not undermine our
goals for short sale regulation because any broker-dealer marking an
order ``short exempt'' in accordance with this provision must have
mechanisms in place to enable the broker-dealer to identify the short
sale order as priced in accordance with the provisions of Rule 201(c).
In accordance with Rule 201(c)(1), these mechanisms must include
written policies and procedures reasonably designed to prevent the
incorrect identification of orders as being permissibly priced in
accordance with the provisions of 201(c).\462\ Thus, although a broker-
dealer relying on this provision in marking an order ``short exempt''
will not need to identify the order as permissibly priced to the
trading center, it will need to have written policies and procedures in
place reasonably designed to enable it to identify that an order was
permissibly priced at the time of submission of the order to a trading
center.\463\ We believe these policies and procedures will further our
goals by helping to ensure that short sale orders are not incorrectly
marked as ``short exempt,'' and, thereby, helping to preclude
impermissible short sales from being executed when the price test
restriction has been triggered.\464\
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\462\ See Rule 201(c)(1).
\463\ Such policies and procedures should be similar to those
required for trading centers complying with paragraph (b) of Rule
201.
\464\ We also note that it would be a violation of Rule 200(g)
to mark a short sale order as ``short exempt'' when a security is
not subject to the alternative uptick rule.
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At a minimum, a broker-dealer's policies and procedures must be
reasonably designed to enable a broker-dealer to monitor, on a real-
time basis, the national best bid, so as to determine the price at
which the broker-dealer may submit a short sale order to a trading
center in compliance with the provisions of Rule 201(c). To ensure
compliance with Rule 201(c), a broker-dealer may also have policies and
procedures that will enable it to have a record identifying the current
national best bid at the time of submission of a short sale order. Such
``snapshots'' of the market will also aid SROs in evaluating a broker-
dealer's written policies and procedures and compliance with Rule
201(c). In addition, such snapshots will aid broker-dealers in
verifying that a short sale order was priced in accordance with the
provisions of Rule 201(c) if bid flickering during the period between
identification of the current national best bid and the submission of
the short sale order to a trading center creates confusion regarding
whether or not the short sale order was submitted at a permissible
price. Snapshots of the market at the time of submission of an order
will also aid broker-dealers in dealing with time lags in receiving
data regarding the national best bid from different data sources. Under
Rule 201(c)(2), latencies in obtaining data regarding the national best
bid will need to be addressed.\465\ In addition, to the extent such
latencies occur, a broker-dealer's policies and procedures will need to
implement reasonable steps to monitor such latencies on a continuing
basis and take appropriate steps to address a problem should one
develop.
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\465\ See Rule 201(c)(2).
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Surveillance will be a required part of a broker-dealer's
satisfaction of its legal obligations. Rule 201(c)(2) provides that a
broker-dealer must regularly surveil to ascertain the effectiveness of
the policies and procedures required under Rule 201(c)(1) and must take
prompt action to remedy deficiencies in such policies and
procedures.\466\ This provision will reinforce the on-going maintenance
and enforcement requirements of Rule 201(c) by explicitly assigning an
affirmative responsibility to broker-dealers to surveil to ascertain
the effectiveness of their policies and procedures.\467\ Thus, under
paragraphs (c)(1) and (c)(2) of Rule 201, broker-dealers may not merely
establish policies and procedures that may be reasonable when created
and assume that such policies and procedures will continue to satisfy
the requirements of the Rule. Rather, broker-dealers will be required
to regularly assess the continuing effectiveness of their procedures
and

[[Page 11266]]

take prompt action when needed to remedy deficiencies. In particular,
each broker-dealer will need to engage in regular and periodic
surveillance to determine whether it is submitting short sale orders
marked ``short exempt'' without complying with the requirements of Rule
201(c) and whether the broker-dealer has failed to implement and
maintain policies and procedures that would have reasonably prevented
such impermissible submissions.
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\466\ See id.
\467\ We note that Rule 611(a)(2) of Regulation NMS contains a
similar surveillance provision. See 17 CFR 242.611(a)(2).
---------------------------------------------------------------------------

A broker-dealer will also need to take such steps as will be
necessary to enable it to enforce its policies and procedures
effectively.\468\ For example, broker-dealers may establish policies
and procedures that include regular exception reports to evaluate their
trading practices. If a broker-dealer's policies and procedures include
exception reports, any such reports will need to be examined to affirm
that a broker-dealer's policies and procedures have been followed by
its personnel and properly coded into its automated systems and, if
not, promptly identify the reasons and take remedial action.
---------------------------------------------------------------------------

\468\ See Rule 201(c)(2).
---------------------------------------------------------------------------

2. Seller's Delay in Delivery \469\
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\469\ We note that we have modified paragraph (d) of Rule 201
from that provision as proposed to reflect that a broker-dealer may
only mark an order as ``short exempt'' pursuant to the provisions in
paragraph (d) after the circuit breaker has been triggered for a
covered security.
---------------------------------------------------------------------------

We are adopting Rule 201(d)(1) without modification to provide that
a broker-dealer may mark an order ``short exempt'' if the broker-dealer
has a reasonable basis to believe that the seller owns the security
being sold and that the seller intends to deliver the security as soon
as all restrictions on delivery have been removed.\470\ Specifically,
Rule 201(d)(1) provides that a broker-dealer may mark a short sale
order ``short exempt'' if the broker-dealer has a reasonable basis to
believe the short sale order of a covered security is by a person that
is ``deemed to own'' the covered security pursuant to Rule 200 of
Regulation SHO,\471\ provided that the person intends to deliver the
security as soon as all restrictions on delivery have been
removed.\472\
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\470\ Subsection (e)(1) of former Rule 10a-1 contained an
exception relating to a seller's delay in the delivery of
securities. The provision in Rule 201(d)(1) parallels the exception
in former Rule 10a-1(e)(1).
\471\ See 17 CFR 242.200(a)-(f) (defining the term ``deemed to
own'').
\472\ See Rule 201(d)(1). This provision is also consistent with
Rule 203(b)(2)(ii) and Rule 204(a)(2) of Regulation SHO. Rule
203(b)(2)(ii) provides an exception from the ``locate'' requirement
of Rule 203(b)(1) of Regulation SHO for ``[a]ny sale of a security
that a person is deemed to own pursuant to Sec. 242.200, provided
that the broker or dealer has been reasonably informed that the
person intends to deliver such security as soon as all restrictions
on delivery have been removed * * *''. Rule 204(a)(2) provides
additional time to close out fails to deliver ``[i]f a participant
of a registered clearing agency has a fail to deliver position at a
registered clearing agency in any equity security resulting from a
sale of a security that person is deemed to own pursuant to Sec.
242.200 and that such person intends to deliver as soon as all
restrictions on delivery have been removed, the participant shall,
by no later than the beginning of regular trading hours on the
thirty-fifth consecutive calendar day following the trade date for
the transaction, immediately close out the fail to deliver position
by purchasing securities of like kind and quantity.'' We note that
to the extent that an exception to Regulation SHO's locate
requirement applies to a short sale order, such order must be marked
``short'' in accordance with Rule 200(g) of Regulation SHO unless
the order can be marked ``short exempt'' pursuant to Rule 200(g)(2)
of Regulation SHO.
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Rule 200(g)(1) of Regulation SHO provides that a sale can be marked
``long'' only if the seller is deemed to own the security being sold
and either (i) the security is in the broker-dealer's physical
possession or control; or (ii) it is reasonably expected that the
security will be in the broker-dealer's possession or control by
settlement of the transaction.\473\ Thus, even where a seller owns a
security, if delivery will be delayed, such as in the sale of formerly
restricted securities pursuant to Rule 144 of the Securities Act of
1933,\474\ or where a convertible security, option, or warrant has been
tendered for conversion or exchange, but the underlying security is not
reasonably expected to be received by settlement date, such sales must
be marked ``short.'' As a result, Rule 201(d)(1) is necessary to allow
for sales of securities that, although owned, are subject to the
provisions of Regulation SHO governing short sales due solely to the
seller being unable to deliver the covered security to its broker-
dealer prior to settlement based on circumstances outside the seller's
control. In response to our request for comment, commenters that
specifically addressed this provision were supportive of it.\475\
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\473\ See 17 CFR 242.200(g)(1).
\474\ 17 CFR 230.144.
\475\ See, e.g., letter from BATS (May 2009); letter from SIFMA
(June 2009); letter from Jesse D. Hill, Director of Regulatory
Relations, Office of Regulatory Counsel, Edward Jones, dated Sept.
21, 2009 (``Edward Jones''); letter from NYSE Euronext (Sept. 2009).
---------------------------------------------------------------------------

After considering the comments, we believe it is appropriate to
adopt Rule 201(d)(1) as proposed. This provision is consistent with the
goals of Rule 201 and with other provisions of Regulation SHO related
to sales of securities that although owned are subject to the
provisions of Regulation SHO governing short sales. Thus, we are
adopting Rule 201(d)(1) such that the provision will apply to the sale
of any covered securities that a seller is deemed to own pursuant to
Rule 200 of Regulation SHO and cannot deliver by settlement date based
on circumstances outside the seller's control, provided the seller
intends to deliver the securities as soon as all restrictions on
delivery have been removed.\476\
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\476\ Such circumstances could include the situation where a
convertible security, option or warrant has been tendered for
conversion or exchange, but the underlying security is not
reasonably expected to be received by settlement date. See
Regulation SHO Adopting Release, 69 FR at 48015; see also 17 CFR
242.200(b) (defining when a person shall be ``deemed to own'' a
security). In addition, we understand that sellers that own
restricted equity securities that wish to sell such securities
pursuant to an effective registration statement pursuant to Rule 415
under the Securities Act of 1933 experience similar types of
potential settlement delays as those persons selling Rule 144
securities. Thus sales of such securities pursuant to Rule 415 may
be marked ``short exempt'' in accordance with Rule 201(d)(1) if the
securities subject to the sale are outstanding at the time they are
sold, and the sale occurs after the registration statement has
become effective. In addition, and as noted by one commenter, we
understand that sales made pursuant to broker-dealer assisted
cashless exercises of compensatory options to purchase a company's
securities may result in potential settlement delays that would
otherwise require the seller to mark such sales ``short'' pursuant
to the definition under Rule 200(g) of Regulation SHO. Such sales
may be marked ``short exempt'' pursuant to Rule 201(d)(1). See Rule
204 Adopting Release, 74 FR at 38277, n.141; see also 17 CFR
230.415.
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3. Odd Lot Transactions
We are adopting in Rule 201(d)(2), without modification, the
ability for a broker-dealer to mark a short sale order as ``short
exempt'' if the broker-dealer has a reasonable basis to believe that
the short sale order is by a market maker to offset a customer odd-lot
\477\ order or to liquidate an odd-lot position that changes such
broker-dealer's position by no more than a unit of trading.\478\ In
response to our request for comment, commenters that specifically
addressed this provision were supportive of

[[Page 11267]]

inclusion of this provision in any short sale price test
restriction.\479\
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\477\ Rule 201(a)(5) provides that the term ``odd lot'' shall
have the same meaning as in 17 CFR 242.600(b)(49). Rule 600(b)(49)
defines an ``odd lot'' as ``an order for the purchase or sale of an
NMS stock in an amount less than a round lot.'' 17 CFR
242.600(b)(49).
\478\ See Rule 201(d)(2). SRO rules define a ``unit of trading''
or ``normal unit of trading,'' and the term generally means 100
shares, i.e., a round lot. For example, FINRA Rule 6320A(a)(7)
defines a ``normal unit of trading'' to mean ``100 shares of a
security unless, with respect to a particular security, FINRA
determines that a normal unit of trading shall constitute other than
100 shares.'' NYSE Rule 55 states that ``[t]he unit of trading in
stocks shall be 100 shares, except that in the case of certain
stocks designated by the Exchange the unit of trading shall be such
lesser number of shares as may be determined by the Exchange, with
respect to each stock so designated. * * *''
\479\ See, e.g., letter from BATS (May 2009); letter from SIFMA
(June 2009); letter from NYSE Euronext (Sept. 2009).
---------------------------------------------------------------------------

Under former Rule 10a-1, an exception for certain odd-lot
transactions was created in an effort to reduce the burden and
inconvenience that short sale restrictions would place on odd-lot
transactions. In 1938, the Commission found that odd-lot transactions
played a very minor role in potential manipulation by short
selling.\480\ Initially, sales of odd-lots were not subject to the
restrictions of former Rule 10a-1.\481\ However, the Commission became
concerned over the volume of odd-lot transactions, which possibly
indicated that the exception was being used to circumvent the rule. As
a result, the exception was changed to include the two odd lot
exceptions described below.\482\
---------------------------------------------------------------------------

\480\ See Former Rule 10a-1 Adopting Release, 3 FR 213.
\481\ The Commission initially adopted three exceptions for odd-
lot transactions. While the first one, excepting all odd-lot
transactions, seemed to make other odd-lot exceptions unnecessary,
the 1938 adopting release included all three exceptions without
discussion. See Former Rule 10a-1 Adopting Release, 3 FR 213.
\482\ See Exchange Act Release No. 11030 (Sept. 27, 1974), 39 FR
35570 (Oct. 2, 1974) (``1974 Release'').
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Former Rule 10a-1(e)(3) contained a limited exception that allowed
short sales by odd-lot dealers registered in the security and by third
market makers of covered securities to fill customer odd lot orders.
Former Rule 10a-1(e)(4) provided an exception under the rule for any
sale to liquidate an odd-lot position by a single round lot sell order
that changed the broker-dealer's position by no more than a unit of
trading.
Rule 201(d)(2), as proposed and adopted, generally parallels the
exceptions in subsections (e)(3) and (e)(4) of former Rule 10a-1. In
addition, however, as proposed, we are extending the provision to cover
all market makers acting in the capacity of an odd-lot dealer. When
former Rule 10a-1 was adopted, odd-lot dealers dealt exclusively with
odd-lot transactions, and were so registered. Today, market makers
registered in a security typically also act as odd-lot dealers of the
security. Thus, as proposed, we are broadening the provision in Rule
201(d)(2) to all broker-dealers acting as ``market makers'' in odd
lots.\483\
---------------------------------------------------------------------------

\483\ Section 3(a)(38) of the Exchange Act defines the term
``market maker,'' and includes specialists. See 15 U.S.C.
78c(a)(38).
---------------------------------------------------------------------------

We believe that a provision that will allow a broker-dealer to mark
a short sale order ``short exempt'' if it has a reasonable basis to
believe that the short sale order is by a market maker to offset a
customer odd-lot order or liquidate an odd-lot position that changes
such broker-dealer's position by no more than a unit of trading, will
continue to be of utility under Rule 201 and will not be in conflict
with the goals of the Rule.
Because odd-lot transactions by market makers to facilitate
customer orders are not of a size that could facilitate a downward
movement in the particular security, we do not believe that Rule
201(d)(2) will adversely affect the goals of short sale regulation that
Rule 201 seeks to advance. Thus, we believe that a broker-dealer should
be able to mark such orders ``short exempt'' so that those acting in
the capacity of a ``market maker,'' with the commensurate negative and
positive obligations, will be able to offset a customer odd-lot order
and liquidate an odd-lot position without a trading center's policies
and procedures preventing the execution or display of such orders at a
price that is less than or equal to the current national best bid.
4. Domestic Arbitrage
We are adopting in Rule 201(d)(3) without modification the ability
for a broker-dealer to mark as ``short exempt'' short sale orders
associated with certain bona fide domestic arbitrage transactions.
Although commenters generally stated that a domestic arbitrage
provision should be included in any short sale price test restriction,
some commenters also stated that the provision, as proposed, should be
expanded to cover more trading scenarios.\484\ However, one commenter
stated that arbitrage activities are not unique in contributing to
market efficiency and any short sale price test restriction that the
Commission adopts should require few, if any, exceptions to maintain
market quality.\485\
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\484\ See, e.g., letter from SIFMA (June 2009) (stating that the
exception should cover convertible arbitrage strategies); letter
from AIMA (stating that the provisions relating to domestic and
international arbitrage are too narrow in scope, and that they
should be broadened to include: (1) Bona fide strategies and risk
management tools that provide necessary market liquidity and
efficiency, and (2) other forms of convertible securities that
differ from standard American-style convertibles); letter from
Credit Suisse (June 2009); letter from Citadel et al. (June 2009)
(stating that the exception should be broadened to cover any
transaction in connection with domestic arbitrage, even if not
contemporaneous in time); letter from RBC (June 2009) (stating that
the exception should accommodate convertible arbitrage strategies as
well as arbitrage strategies that do not meet the contemporaneous
requirement of this provision); letter from MFA (June 2009) (stating
that we should broaden the domestic arbitrage provision to include
``bona fide hedging transactions,'' such as risk arbitrage and
statistical arbitrage transactions).
\485\ See letter from Hudson River Trading; see also letter from
Liquidnet (expressing concern regarding the complexity of the
arbitrage and other exceptions to a short sale price test
restriction and concern that the exceptions could result in
different rules applying to different industry participants).
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As discussed above, the short sale price test restriction adopted
in Rule 201(b) will apply to a covered security only after the security
has experienced a significant intra-day price decline, will remain in
place for a limited period of time, and will continue to permit short
selling at a price above the national best bid (rather than, for
example, halting all short selling in that security). As such, we do
not believe it is appropriate at this time to broaden the scope of the
domestic arbitrage provision. Due to the already limited scope and
applicability of Rule 201, we believe that expanding the domestic
arbitrage provision to cover more trading scenarios would undermine our
goals in adopting Rule 201. Thus, we are adopting the provision as
proposed.
Subsection (e)(7) of former Rule 10a-1 contained an exception
related to domestic arbitrage.\486\ That exception applied to bona fide
arbitrage undertaken to profit from a current difference in price
between a convertible security and the underlying common stock.\487\
The term ``bona fide arbitrage'' describes an activity undertaken by
market professionals in which essentially contemporaneous purchases and
sales are effected in order to lock in a gross profit or spread
resulting from a current differential in pricing of two related
securities.\488\ For example, a person may sell short securities to
profit from a current price differential based upon a convertible
security that entitles him to acquire a number of securities equivalent
to the securities sold short. We continue to believe that bona fide
arbitrage activities are beneficial to the markets because

[[Page 11268]]

they tend to reduce pricing disparities between related securities and,
thereby, promote market efficiency.\489\
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\486\ See Exchange Act Release No. 1645 (Apr. 8, 1938).
\487\ See 1999 Concept Release, 64 FR 57996.
\488\ 1999 Concept Release, 64 FR at 58001, n.54 and
accompanying text (discussing the domestic arbitrage exception under
former Rule 10a-1). See also Section 220.6(b) of Regulation T, which
states that the term ``bona fide arbitrage'' means: ``(1) A purchase
or sale of a security in one market together with an offsetting sale
or purchase of the same security in a different market at as nearly
the same time as practicable for the purpose of taking advantage of
a difference in prices in the two markets; or (2) A purchase of a
security which is, without restriction other than the payment of
money, exchangeable or convertible within 90 calendar days of the
purchase into a second security together with an offsetting sale of
the second security at or about the same time, for the purpose of
taking advantage of a concurrent disparity in the prices of the two
securities.'' 12 CFR 220.6(b). See also Exchange Act Release No.
15533 (Jan. 29, 1979), 44 FR 6084 (Jan. 31, 1979) (``1979 Release'')
(interpretation concerning the application of Exchange Act Section
11(a)(1) to bona fide arbitrage).
\489\ See 1979 Release, 44 FR 6084.
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Rule 201(d)(3) parallels the exception in former Rule 10a-1(e)(7).
Specifically, Rule 201(d)(3) provides that a broker-dealer may mark a
short sale order of a covered security ``short exempt'' if the broker-
dealer has a reasonable basis to believe that the short sale order is
``for a good faith account of a person who then owns another security
by virtue of which he is, or presently will be, entitled to acquire an
equivalent number of securities of the same class as the securities
sold; provided such sale, or the purchase which such sale offsets, is
effected for the bona fide purpose of profiting from a current
difference between the price of the security sold and the security
owned and that such right of acquisition was originally attached to or
represented by another security or was issued to all the holders of any
such securities of the issuer.'' \490\
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\490\ Rule 201(d)(3).
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The domestic arbitrage exception in former Rule 10a-1 was intended
to be consistent with the arbitrage provision of Regulation T.\491\
Thus, consistent with that provision, former Rule 10a-1(e)(7) referred
to a ``special arbitrage account'' and not a ``good faith account.''
\492\ The Federal Reserve Board amended Regulation T in 1998 to
eliminate the ``special arbitrage account'' and to allow the functions
formerly effected in that account to be effected in a ``good faith
account.'' Consistent with that language, Rule 201(d)(3) refers to a
``good faith account.''
---------------------------------------------------------------------------

\491\ See 12 CFR 220.6.
\492\ See Proposal, 74 FR at 18056.
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Because allowing domestic arbitrage at a price that is less than or
equal to the current national best bid will potentially promote market
efficiency, we have included in Rule 201 a limited provision to allow
broker-dealers to mark short sale orders ``short exempt'' where the
broker-dealer has a reasonable basis to believe that the conditions in
proposed Rule 201(d)(3) have been met. Thus, Rule 201 is designed to
permit the execution or display of such orders in connection with bona
fide arbitrage transactions involving convertible, exchangeable, and
other rights to acquire the securities sold short, where such rights of
acquisition were originally attached to, or represented by, another
security, or were issued to all the holders of any such class of
securities of the issuer.
5. International Arbitrage
We are adopting Rule 201(d)(4) without modification to allow a
broker-dealer to mark as ``short exempt'' short sale orders associated
with certain international arbitrage transactions. In response to our
request for comment, commenters were generally supportive of this
provision relating to international arbitrage.\493\ Some commenters,
however, stated that they believe that the provision should be expanded
to cover more trading scenarios.\494\
---------------------------------------------------------------------------

\493\ See, e.g., letter from SIFMA (June 2009); letter from RBC
(June 2009); letter from NYSE Euronext (Sept. 2009); letter from
STANY (Sept. 2009).
\494\ See, e.g., letter from RBC (June 2009) (stating that the
exception should accommodate convertible arbitrage strategies as
well as arbitrage strategies that do not meet the contemporaneous
requirement of this provision); letter from Credit Suisse (June
2009); see also supra note 484 (discussing comments regarding the
domestic arbitrage provision).
---------------------------------------------------------------------------

As discussed above, the short sale price test restriction of Rule
201(b) will apply to a covered security only after the security has
experienced a significant intra-day price decline, will remain in place
for a limited period of time, and will continue to permit short selling
at a price above the current national best bid (rather than, for
example, halting all short selling in that security). As such, we do
not believe it is appropriate at this time to broaden the scope of the
international arbitrage provision. Due to the already limited scope and
applicability of Rule 201, we believe that expanding the scope of the
international arbitrage provision to cover more trading scenarios would
undermine our goals in adopting Rule 201 because its scope would be
even further limited, thereby risking not achieving our goals in
adopting Rule 201. Thus, we are adopting the provision as proposed.
Former Rule 10a-1(e)(8) included an international arbitrage
exception that was adopted in 1939.\495\ In adopting the exception, the
Commission stated that it was necessary to facilitate ``transactions
which are of a true arbitrage nature, namely, transactions in which a
position is taken on one exchange which is to be immediately covered on
a foreign market.'' \496\ We believe likewise that such transactions
will have utility under Rule 201. As discussed above in connection with
domestic arbitrage, bona fide arbitrage transactions promote market
efficiency because they equalize prices at an instant in time in
different markets or between relatively equivalent securities.
---------------------------------------------------------------------------

\495\ See Exchange Act Release No. 2039 (Mar. 10, 1939), 4 FR
1209 (Mar. 14, 1939).
\496\ See id.
---------------------------------------------------------------------------

Rule 201(d)(4) parallels the exception contained in former Rule
10a-1(e)(8). Specifically, Rule 201(d)(4) provides that a broker-dealer
may mark a short sale order of a covered security ``short exempt'' if
the broker-dealer has a reasonable basis to believe that the short sale
order is ``for a good faith account and submitted to profit from a
current price difference between a security on a foreign securities
market and a security on a securities market subject to the
jurisdiction of the United States, provided that the short seller has
an offer to buy on a foreign market that allows the seller to
immediately cover the short sale at the time it was made.'' \497\
---------------------------------------------------------------------------

\497\ Rule 201(d)(4).
---------------------------------------------------------------------------

In Rule 201(d)(4), we have simplified the language of former Rule
10a-1(e)(8) to make it more understandable.\498\ In addition, we have
changed the reference in former Rule 10a-1(e)(8) from a ``special
international arbitrage account'' to a ``good faith account.'' As
discussed above in connection with the domestic arbitrage provision of
Rule 201(d)(3), this revision will make the provision consistent with
the arbitrage provision in Regulation T.
---------------------------------------------------------------------------

\498\ Former Rule 10a-1(e)(8) provided that the short sale price
test restrictions of that rule shall not apply to: ``Any sale of a
security registered on, or admitted to unlisted trading privileges
on, a national securities exchange effected for a special
international arbitrage account for the bona fide purpose of
profiting [sic] from a current difference between the price of such
security on a securities market not within or subject to the
jurisdiction of the United States and on a securities market subject
to the jurisdiction of the United States; provided the seller at the
time of such sale knows or, by virtue of information currently
received, has reasonable grounds to believe that an offer enabling
him to cover such sale is then available to him in such foreign
securities market and intends to accept such offer immediately.''
---------------------------------------------------------------------------

In addition, as proposed, we have incorporated language from the
exception in former Rule 10a-1(e)(12) that provided that, for purposes
of the international arbitrage exception, a depository receipt for a
security shall be deemed to be the same security represented by the
receipt. This language was originally included in the Commission's 1939
release adopting the international arbitrage exception, but was
incorporated separately in former Rule 10a-1(e)(12).\499\ Although we
requested comment in the Proposal regarding whether a depository
receipt for a security should be deemed to be the same security
represented by the receipt, we did not receive comments specific to
this request.\500\ As proposed,

[[Page 11269]]

we are incorporating in Rule 201(d)(4) the language from the exception
in former Rule 10a-1(e)(12).\501\
---------------------------------------------------------------------------

\499\ See supra note 495.
\500\ See Proposal, 74 FR at 18057.
\501\ To the extent that the short sale is of a depository
receipt and the seller intends to purchase the same security
represented by the depository receipt to immediately cover the short
sale of the depository receipt, the sale may be marked ``short
exempt'' provided that the seller reasonably believes at the time of
the sale that it will be able to convert the security to be
purchased into the depository receipt and deliver the depository
receipt by settlement date for the sale.
---------------------------------------------------------------------------

As with the exception in former Rule 10a-1(e)(8), Rule 201(d)(4)
will apply only to bona fide arbitrage transactions. Thus, this
provision will only be applicable if at the time of the short sale
there is a corresponding offer in a foreign securities market, so that
the immediate covering purchase will have the effect of neutralizing
the short sale. We believe Rule 201(d)(4) is necessary to facilitate
arbitrage transactions in which a position is taken in a security in
the U.S. market, and which is to be immediately covered in a foreign
market.\502\ Thus, we do not believe that permitting broker-dealers to
mark these orders ``short exempt'' will undermine our goals for
adopting Rule 201, and, as described above, we believe facilitating or
permitting these transactions has utility in terms of promoting market
and pricing efficiency.
---------------------------------------------------------------------------

\502\ We note that the requirement that the transaction be
``immediately'' covered on a foreign market requires the foreign
market to be open for trading at the time of the transaction. See
Proposal, 74 FR at 18057, n.166; see also 2003 Regulation SHO
Proposing Release, 68 FR at 62986, n.119.
---------------------------------------------------------------------------

6. Over-Allotments and Lay-Off Sales
We have determined to adopt without modification in Rule 201(d)(5)
a provision that will permit a broker-dealer to mark as ``short
exempt'' short sale orders by underwriters or syndicate members
participating in a distribution in connection with an over-allotment,
and any short sale orders for purposes of lay-off sales by such persons
in connection with a distribution of securities through a rights or
standby underwriting commitment.\503\ In response to our request for
comment, commenters were generally supportive of inclusion of this
provision relating to certain syndicate activity.\504\ Some commenters,
however, asked that we expand this provision beyond over-allotment and
lay-off sales.\505\
---------------------------------------------------------------------------

\503\ See Rule 201(d)(5).
\504\ See, e.g., letter from BATS (May 2009); letter from SIFMA
(June 2009); letter from NYSE Euronext (Sept. 2009).
\505\ See, e.g., letter from SIFMA (June 2009).
---------------------------------------------------------------------------

As discussed above, the short sale price test restriction of Rule
201(b) will apply to a covered security only after the security has
experienced a significant intra-day price decline, will remain in place
for a limited period of time, and will continue to permit short selling
at a price above the national best bid (rather than, for example,
halting all short selling in that security). As such, we do not believe
it is appropriate at this time to broaden the scope of the provision
relating to over-allotment and lay-off sales. Due to the already
limited scope and applicability of Rule 201, we believe that expanding
the scope of this provision to cover other sales effected in connection
with a distribution would undermine our goals in adopting Rule 201
because it would further limit the scope of the Rule, thereby risking
not achieving our goals in adopting Rule 201. Thus, we are adopting the
provision as proposed. In addition, we note that we are including a
``short exempt'' marking provision for syndicate and lay-off sales in
part because, as discussed further below, we have historically excepted
such activity from short sale rules.
Former Rule 10a-1(e)(10) contained an exception for over-allotment
and lay-off sales.\506\ Although the exception was not adopted until
1974, the Commission's approval of the concept of excepting over-
allotments and lay-off sales from short sale rules is long-
standing.\507\ In addition, we note that recently we excepted these
sales from the July Emergency Order, which among other things required
that short sellers borrow or arrange to borrow securities prior to
effecting a short sale, stating that it was not necessary for the Order
to cover such sales because such activity is covered by Regulation M
under the Exchange Act,\508\ an anti-manipulation rule.\509\ In
accordance with the long-standing Commission position regarding these
sales, we are including in Rule 201(d)(5) a provision to permit broker-
dealers to mark as ``short exempt'' short sale orders in connection
with over-allotment and lay-off sales, which provision also parallels
the exception in former Rule 10a-1(e)(10).
---------------------------------------------------------------------------

\506\ See 1974 Release, 39 FR 35570.
\507\ See, e.g., Exchange Act Release No. 3454 (July 6, 1946),
in which the Commission approved the NYSE's special offering plan,
which permitted short sales in the form of over-allotments to
facilitate market stabilization.
\508\ 17 CFR 242.100 et seq.
\509\ See Exchange Act Release No. 58190 (July 18, 2008), 73 FR
42837 (July 23, 2008) (amending the July Emergency Order to include
exceptions for certain short sales).
---------------------------------------------------------------------------

7. Riskless Principal Transactions
We have determined to adopt without modification in Rule 201(d)(6)
a provision that will permit a broker-dealer to mark as ``short
exempt'' short sale orders where broker-dealers are facilitating
customer buy orders or sell orders where the customer is net long, and
the broker-dealer is net short but is effecting the sale as riskless
principal.\510\ In response to our request for comment, commenters that
specifically addressed this provision supported its inclusion.\511\
---------------------------------------------------------------------------

\510\ See Rule 201(d)(6).
\511\ See, e.g., letter from BATS (May 2009); letter from SIFMA
(June 2009); letter from Credit Suisse (June 2009); letter from NYSE
Euronext (Sept. 2009).
---------------------------------------------------------------------------

As discussed in the Proposal,\512\ in 2005, the Commission, via
authority delegated to the Staff, granted exemptive relief under former
Rule 10a-1 for any broker-dealer that facilitates a customer buy or
long sell order on a riskless principal basis.\513\ In granting the
relief, the Commission noted representations made in the letter
requesting relief that, in the situation where the amount of securities
that the broker-dealer purchases for the customer may not be sufficient
to give the broker-dealer an overall net ``long'' position, former Rule
10a-1 would constrain the ability of the broker-dealer to fill the
customer buy order. Further, the Commission noted representations in
the letter requesting relief that, because such short sales would be
effected only in response to a customer buy order, this should vitiate
any concerns about such sales having a depressing impact on the
security's price.\514\
---------------------------------------------------------------------------

\512\ See Proposal, 74 FR at 18057-18058.
\513\ See letter from James A. Brigagliano, Assistant Director,
Division of Market Regulation, SEC, to Ira Hammerman, Senior Vice
President and General Counsel, Securities Industry Association,
dated July 18, 2005 (``Riskless Principal Letter'').
\514\ See id.
---------------------------------------------------------------------------

In addition, the Commission noted representations made in the
letter requesting relief that where a broker-dealer is facilitating a
customer long sale order in a riskless principal transaction, because
the ultimate seller is long the shares being sold, these transactions
present none of the potential abuses that former Rule 10a-1 was
designed to address.\515\ The Commission also noted representations
that the application of former Rule 10a-1 to riskless principal
transactions involving a customer long sale can inhibit the broker-
dealer's ability to provide timely (or any) execution to such customer
long sale. Specifically, if the broker-dealer has a net short position,
the broker-dealer will be restricted from executing its own principal
trade to complete the first leg of the riskless principal
transaction.\516\

[[Page 11270]]

Thus, compliance with former Rule 10a-1 would adversely affect a
broker-dealer's ability to provide best execution to a customer
order.\517\
---------------------------------------------------------------------------

\515\ See id.
\516\ See id.
\517\ See id.
---------------------------------------------------------------------------

Taken together, Rules 201(a)(8) and (d)(6) parallel the conditions
for relief in the Riskless Principal Letter.\518\ Consistent with the
relief granted in the Riskless Principal Letter, we believe that
including a provision to permit a broker-dealer to mark ``short
exempt'' short sale orders in connection with riskless principal
transactions is appropriate and will not undermine our goals in
adopting short sale price test regulation. In particular, we note that
such a provision will facilitate a broker-dealer's ability to provide
best execution to customer orders. In addition, such provision will
apply only where the customer is selling long.
---------------------------------------------------------------------------

\518\ These conditions are also consistent with the definition
of ``riskless principal transactions'' under Rule 10b-18 of the
Exchange Act. See 17 CFR 240.10b-18(a)(12).
---------------------------------------------------------------------------

Rule 201(a)(8) defines the term ``riskless principal'' to mean ``a
transaction in which a broker or dealer, after having received an order
to buy a security, purchases the security as principal at the same
price to satisfy the order to buy, exclusive of any explicitly
disclosed markup or markdown, commission equivalent, or other fee, or,
after having received an order to sell, sells the security as principal
at the same price to satisfy the order to sell, exclusive of any
explicitly disclosed markup or markdown, commission equivalent, or
other fee.'' \519\
---------------------------------------------------------------------------

\519\ Rule 201(a)(8). In addition to being consistent with the
conditions in the Riskless Principal Letter and Rule 10b-18(a)(12)
of the Exchange Act, this definition is consistent with the
definition of ``riskless principal'' in FINRA Rule 6642. See FINRA
Rule 6642(d). We note that Rule 201(a)(8), as adopted, is slightly
modified from the definition in the Proposal in that we have added
language to clarify that the term ``same price'' shall be exclusive
of any explicitly disclosed markup or markdown, commission
equivalent, or other fee. This language is consistent with the
conditions in the Riskless Principal Letter and Rule 10b-18(a)(12).
It is also consistent with FINRA's trade reporting rules which
require a riskless principal transaction in which both legs are
executed at the same price to be reported once, in the same manner
as an agency transaction, exclusive of any markup, markdown,
commission equivalent, or other fee. See FINRA Rule 6380A(d)(3)(B).
---------------------------------------------------------------------------

Rule 201(d)(6) provides that a broker-dealer may mark a short sale
order ``short exempt'' if the broker-dealer has a reasonable basis to
believe that the short sale order is to effect the execution of a
customer purchase or the execution of a customer ``long'' sale on a
riskless principal basis.\520\ In addition, Rule 201(d)(6) requires the
broker-dealer, if it marks an order ``short exempt'' under this
provision, to have written policies and procedures in place to assure
that, at a minimum: (i) The customer order was received prior to the
offsetting transaction; (ii) the offsetting transaction is allocated to
a riskless principal or customer account within 60 seconds of
execution; and (iii) that it has supervisory systems in place to
produce records that enable the broker-dealer to accurately and readily
reconstruct, in a time-sequenced manner, all orders on which the
broker-dealer relies pursuant to this provision.\521\
---------------------------------------------------------------------------

\520\ See Rule 201(d)(6). Due to the modification to the
definition of ``riskless principal'' in Rule 201(a)(8), we have not
included in Rule 201(d)(6) the proposed language that stated that
the purchase or sell order must be given the same per-share price at
which the broker-dealer sold or bought shares to satisfy the
facilitated order, exclusive of any explicitly disclosed markup or
markdown, commission equivalent or other fee. See also supra note
519.
\521\ See Rule 201(d)(6). We note that we determined to adopt,
as proposed, in Rule 201(d)(6) an explicit requirement that broker-
dealers must establish policies and procedures for handling such
transactions to be consistent with the conditions in the Riskless
Principal Letter and Rule 10b-18(a)(12), which also contain such a
requirement.
---------------------------------------------------------------------------

We believe that Rule 201(d)(6) will provide broker-dealers with
additional flexibility to facilitate customer orders and provide best
execution. In addition, we believe that the conditions set forth in
Rule 201(d)(6) will provide a mechanism for the surveillance of the
provision's use by linking it to specific incoming orders and
executions, and by requiring broker-dealers to establish procedures for
handling such transactions. These requirements will help ensure that
broker-dealers are complying with Rule 201(d)(6).
8. Transactions on a Volume-Weighted Average Price Basis
We have determined to adopt in Rule 201(d)(7) without modification
the ability for a broker-dealer to mark as ``short exempt'' certain
short sale orders executed on a volume-weighted average price
(``VWAP'') basis. In response to the Proposal, commenters to this
provision were supportive of the provision. Some commenters, however,
requested that we expand this provision to, for example, cover all
benchmark orders, similar to the exception in Rule 611 of Regulation
NMS.\522\ As discussed above, the short sale price test restriction of
Rule 201(b) will apply to a covered security only after the security
has experienced a significant intra-day price decline, will remain in
place for a limited period of time, and will continue to permit short
selling at a price above the current national best bid (rather than,
for example, halting all short selling in that security). As such, we
do not believe it is appropriate at this time to broaden the scope of
the provision relating to transactions on a VWAP basis. Due to the
already limited scope and applicability of Rule 201, we believe that
expanding the scope of this provision to cover other transactions would
undermine our goals in adopting Rule 201 because it would further limit
the scope of the Rule, thereby risking not achieving our goals in
adopting Rule 201. Thus, we are adopting the provision as proposed.
---------------------------------------------------------------------------

\522\ See, e.g., letter from SIFMA (June 2009); letter from RBC
(June 2009); see also letter from Goldman Sachs (June 2009); letter
from ICI (June 2009) (stating that a broadened exception would be
necessary to facilitate execution of the types of large orders
executed by institutional investors and that such benchmark orders
do not raise concerns of manipulation or negative market effects
that a short sale price test restriction would be designed to
prevent); letter from Credit Suisse (Sept. 2009) (positing that the
exception should be extended to cover any orders executed on a
similar formulaic basis as VWAP orders).
---------------------------------------------------------------------------

Under former Rule 10a-1, the Commission, via authority delegated to
the Staff, granted limited relief from that rule in connection with
short sales executed on a VWAP basis.\523\ The relief was limited to
VWAP transactions that are arranged or ``matched'' before the market
opens at 9:30 a.m., but are not assigned a price until after the close
of trading when the VWAP value is calculated. The Commission granted
the exemptions based, in part, on the fact that these VWAP short sale
transactions appeared to pose little risk of facilitating the type of
market effects that former Rule 10a-1 was designed to prevent.\524\ In
particular, the Commission noted that the pre-opening VWAP short sale
transactions do not participate in or affect the determination of the
VWAP for a particular security.\525\ Moreover, the Commission stated
that all trades used to calculate the day's VWAP would continue to be
subject to former Rule 10a-1.\526\
---------------------------------------------------------------------------

\523\ See e.g. letter from Larry E. Bergmann, Senior Associate
Director, Division of Market Regulation, SEC, to Edith Hallahan,
Associate General Counsel, Phlx, dated Mar. 24, 1999; letter from
Larry E. Bergmann, Senior Associate Director, Division of Market
Regulation, SEC, to Soo J. Yim, Wilmer, Cutler & Pickering, dated
Dec. 7, 2000; letter from James Brigagliano, Assistant Director,
Division of Market Regulation, SEC, to Andre E. Owens, Schiff Hardin
& Waite, dated Mar. 30, 2001; letter from James Brigagliano,
Assistant Director, Division of Market Regulation, SEC, to Sam Scott
Miller, Esq., Orrick, Herrington & Sutcliffe LLP, dated May 12,
2001; letter from James Brigagliano, Assistant Director, Division of
Market Regulation, SEC, to William W. Uchimoto, Esq., Vie
Institutional Services, dated Feb. 12, 2003.
\524\ See id.
\525\ See id.
\526\ See id.
---------------------------------------------------------------------------

Consistent with the relief granted under former Rule 10a-1 and with
the Proposal, we are providing that a broker-dealer may mark as ``short

[[Page 11271]]

exempt'' certain short sale orders executed at the VWAP. Rule 201(d)(7)
differs from the relief granted under former Rule 10a-1, however, in
that it is not limited to VWAP transactions that are arranged or
``matched'' before the market opens at 9:30 a.m., or that are not
assigned a price until after the close of trading when the VWAP value
is calculated. As noted in the Proposal, we believe this restriction is
not necessary because VWAP short sale transactions appear to pose
little risk of facilitating the type of market effects that a short
sale price test restriction is designed to prevent. In addition, in
contrast to the Proposal, we have not included in Rule 201 the
requirement that no short sale orders marked ``short exempt'' may be
used to calculate the VWAP. We have not incorporated this condition
into Rule 201(d)(7) because the information used to calculate the VWAP
will not contain information regarding whether an order was marked
``short exempt.''
Thus, pursuant to Rule 201(d)(7), a broker-dealer may mark a short
sale order of a covered security ``short exempt'' if the broker-dealer
has a reasonable basis to believe that the short sale order is for the
sale of a covered security at the VWAP that meets the following
conditions: \527\ (1) The VWAP for the covered security is calculated
by: Calculating the values for every regular way trade reported in the
consolidated system for the security during the regular trading
session, by multiplying each such price by the total number of shares
traded at that price; compiling an aggregate sum of all values; and
dividing the aggregate sum by the total number of reported shares for
that day in the security; (2) the transactions are reported using a
special VWAP trade modifier; (3) the VWAP matched security qualifies as
an ``actively-traded security'' (as defined under Rules 101(c)(1) and
102(d)(1) of Regulation M), or where the subject listed security is not
an ``actively-traded security,'' the proposed short sale transaction
will be permitted only if it is conducted as part of a basket
transaction of twenty or more securities in which the subject security
does not comprise more than 5% of the value of the basket traded; (4)
the transaction is not effected for the purpose of creating actual, or
apparent, active trading in or otherwise affecting the price of any
security; and (5) a broker or dealer will act as principal on the
contra-side to fill customer short sale orders only if the broker-
dealer's position in the covered security, as committed by the broker-
dealer during the pre-opening period of a trading day and aggregated
across all of its customers who propose to sell short the same security
on a VWAP basis, does not exceed 10% of the covered security's relevant
average daily trading volume, as defined in Regulation M.\528\
---------------------------------------------------------------------------

\527\ See Rule 201(d)(7).
\528\ See Rule 201(d)(7); 17 CFR 242.100(b) (defining average
daily trading volume), 242.101(c)(1), 242.102(d)(1).
---------------------------------------------------------------------------

Except as discussed above, the conditions set forth in Rule
201(d)(7) parallel the conditions contained in the exemptive relief
from former Rule 10a-1 granted for VWAP short sale transactions. We
believe that these conditions worked well in restricting the exemptive
relief to situations that generally would not raise the harms that
short sale price tests are designed to prevent. We believe they will be
similarly effective in serving that function today and, therefore, we
have incorporated them into Rule 201(d)(7).
9. Decision Not To Adopt a Provision That a Broker-Dealer May Mark an
Order ``Short Exempt'' in Connection With Bona Fide Market Making
Activity
As discussed in the Proposal, former Rule 10a-1(e)(5) provided a
limited exception from the restrictions of that rule for ``[a]ny sale *
* * by a registered specialist or registered exchange market maker for
its own account on any exchange with which it is registered for such
security, or by a third market maker for its own account over-the-
counter, (i) Effected at a price equal to or above the last sale,
regular way, reported for such security pursuant to an effective
transaction reporting plan * * *. Provided, however, That any exchange,
by rule, may prohibit its registered specialist and registered exchange
market makers from availing themselves of the exemption afforded by
this paragraph (e)(5) if that exchange determines that such action is
necessary or appropriate in its market in the public interest or for
the protection of investors.'' \529\ Unless prohibited by exchange
rule, this exception was intended to permit registered specialists or
market makers to protect customer orders against transactions in other
markets in the consolidated system by allowing them to sell short at a
price equal to the last trade price reported to the consolidated
system, even if that sale was on a minus or zero-minus tick.\530\
Although former Rule 10a-1 included this exception for market makers,
exchanges adopted rules that prohibited their registered specialists
and market makers from availing themselves of this exception.\531\ In
addition, former Rule 10a-1 did not contain a general exception for
short selling in connection with bona fide market making
activities.\532\
---------------------------------------------------------------------------

\529\ See Proposal, 74 FR at 18059.
\530\ See 1974 Release, 39 FR 35570. Former Rule 10a-1(a)(1)(i)
referenced the last sale price reported to an effective transaction
reporting plan, but former Rule 10a-1(a)(2) also permitted an
exchange to make an election to use the last sale price reported in
that exchange market. Certain exchanges, such as the NYSE,
implemented short sale price test rules consistent with former Rule
10a-1(a)(2). See, e.g., former NYSE Rule 440B.
\531\ See 1974 Release, 39 FR 35570.
\532\ We note, however, that NASD's former bid test contained an
exception for short sales executed by qualified market makers in
connection with bona fide market making. Although the NASD's former
bid test contained an exception for short sales executed by
qualified market makers in connection with bona fide market making
activity, we understand that market makers relied on the exception a
small percentage of the time. For example, a 1997 study indicates
that during a sample month in 1997, market maker short sales at or
below the inside bid accounted for only 2.41% of their total share
volume. See D. Timothy McCormick and Bram Zeigler, The Nasdaq Short
Sale Rule: Analysis of Market Quality Effects and The Market Maker
Exemption, NASD Economic Research, (August 7, 1997) at 27; see also
2003 Regulation SHO Proposing Release, 68 FR at 62989. In addition,
we note that when the Commission approved NASD's former bid test and
the market maker exception to the bid test, it noted concerns that
the market maker exception could create opportunities for abusive
short selling. See Exchange Act Release No. 34277 (June 29, 1994),
59 FR 34885 (July 7, 1994). See also supra note 43 (discussing NASD
Rule 3350).
---------------------------------------------------------------------------

In the Proposal, in connection with one proposed rule, the proposed
circuit breaker halt rule, we included a provision that would permit a
broker-dealer to mark a short sale order ``short exempt'' in connection
with certain bona fide market making activities. None of the other
proposed rules contained a ``short exempt'' marking provision with
respect to bona fide market making activities. In connection with the
proposed circuit breaker halt rule, we included an exception for equity
and options market makers engaged in bona fide market making
activities.\533\ We also included in the proposed circuit breaker halt
rule an exception related to bona fide market making in
derivatives.\534\
---------------------------------------------------------------------------

\533\ See Proposal, 74 FR at 18110. Proposed Rule 201(d)(1) of
the proposed circuit breaker halt rule provided that the short
selling halt would not apply to ``[a]ny sale of a covered security
by a registered market maker, block positioner, or other market
maker obligated to quote in the over-the-counter market, in each
case that are selling short a covered security as part of bona fide
market making in such covered security.'' Id.
\534\ See id. Proposed Rule 201(d)(4) of the proposed circuit
breaker halt rule provided that the short selling halt would not
apply to ``[a]ny sale of a covered security by any person that is a
market maker, including an over-the-counter market maker, if the
sale is part of a bona fide market making and hedging activity
related directly to bona fide market making in: (i) Derivative
securities based on that covered security; or (ii) exchange traded
funds and exchange traded notes of which that covered security is a
component.'' Id.

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

[[Page 11272]]

In response to our decision not to provide in the Proposal for most
of the proposed alternatives that a broker-dealer may mark an order
``short exempt'' in connection with bona fide market making activity,
we received a wide variety of comments both supporting and opposing
such a provision. Many commenters stated that any short sale price test
restriction adopted by the Commission must include an exception for
market makers due to the large amount of liquidity that they provide to
the markets; although comments varied with respect to the necessity of
such an exception to the various proposed price test restrictions and
circuit breaker rules and to whom such an exception should apply.\535\
Commenters stated that the lack of a market maker exception to any
short sale price test restriction could result in, among other things,
reduced liquidity, increased bid-ask spreads, increased volatility,
increased barriers to entry for new market makers, reduced competition
among market makers, and increased costs to market makers and
investors.\536\ Some commenters stated that the Commission should
consider exceptions that would permit high frequency traders \537\ and
other market makers to continue to provide the same level of liquidity
to the markets.\538\
---------------------------------------------------------------------------

\535\ See, e.g., roundtable statement of Rosenblatt Securities;
letter from BATS (May 2009); letter from Matlock Capital (May 2009);
letter from Pink OTC; letter from Direct Edge (June 2009); letter
from Engmann Options; letter from Prof. Rosenthal; letter from
Credit Suisse (June 2009); letter from John Gilmartin, Co-CEO and
Ben Londergan, Co-CEO, Group One Trading, L.P., dated June 17, 2009
(``Group One Trading (June 2009)''); letter from Allston Trading
(June 2009); letter from Knight Capital (June 2009); letter from
STANY (June 2009); letter from AIMA; letter from Barclays (June
2009); letter from Citadel et al. (June 2009); letter from EWT (June
2009); letter from GETCO (June 2009); letter from Goldman Sachs
(June 2009); letter from ICI (June 2009); letter from NYSE Euronext
(June 2009); letter from RBC (June 2009); letter from SIFMA (June
2009); letter from STA (June 2009); letter from T.D. Pro Ex; letter
from Vanguard (June 2009); letter from Direct Edge (Sept. 2009);
letter from BATS (Sept. 2009); letter from Credit Suisse (Sept.
2009); letter from Group One Trading (Sept. 2009); letter from
Allston Trading (Sept. 2009); letter from Knight Capital (Sept.
2009); letter from STANY (Sept. 2009); letter from Citadel et al.
(Sept. 2009); letter from EWT (Sept. 2009); letter from GETCO (Sept.
2009); letter from Goldman Sachs (Sept. 2009); letter from NYSE
Euronext (Sept. 2009); letter from RBC (Sept. 2009); letter from
SIFMA (Sept. 2009); letter from William J. Brodsky, Chairman and
CEO, The Chicago Board Options Exchange, Inc., dated Sept. 21, 2009
(``CBOE (Sept. 2009)''); letter from Edward Jones; letter from Virtu
Financial.
\536\ See, e.g., letter from SIFMA (June 2009); letter from
Knight Capital (June 2009); letter from EWT (June 2009); letter from
GETCO (June 2009); letter from Goldman Sachs (June 2009); letter
from EWT (Sept. 2009); letter from Virtu Financial; but cf. letter
from Dr. Jim DeCosta, dated Sept. 14, 2009 (``Dr. Jim DeCosta'')
(noting that there are currently few barriers to entry for market
makers and abuse can arise from small market makers, who are in need
of business, being willing to misuse a bona fide market maker
exemption in exchange for order flow).
\537\ See letter from Bingham McCutchen.
\538\ See, e.g., roundtable statement of Rosenblatt Securities;
letter from MFA (June 2009); see also letter from Credit Suisse
(Mar. 2009).
---------------------------------------------------------------------------

Some commenters stated that an exception for options market makers,
in particular, would be necessary for any short sale price test
restriction, citing the important role that short selling plays in an
options market maker's ability to hedge risk and the negative impact
that a short sale price test restriction would have on options market
quality, liquidity, bid-ask spreads, quote size, and investor
costs.\539\ One commenter noted that although former Rule 10a-1 did not
contain an options market maker exception, the NASD's former bid test
contained an exception that ``allowed options market makers to provide
liquidity and depth for listed options by allowing them to hedge,'' but
that also had ``limited definitions and scope.'' \540\ Another
commenter recognized the risk of a transference effect resulting from
an options market maker exception, namely that an exception may
facilitate short selling by buying puts from or selling calls to market
makers, but stated that there was no empirical evidence showing that
the risk is more than theoretical.\541\
---------------------------------------------------------------------------

\539\ See, e.g., roundtable statement of Rosenblatt Securities;
letter from BATS (May 2009); letter from Matlock Capital (May 2009);
letter from Direct Edge (June 2009); letter from Engmann Options;
letter from Prof. Rosenthal; letter from Credit Suisse (June 2009);
letter from Group One Trading (June 2009); letter from STANY (June
2009); letter from John Favia, Blue Capital Group LLC, dated June
19, 2009 (``Blue Capital''); letter from Goldman Sachs (June 2009);
letter from ISE (June 2009); letter from NYSE Euronext (June 2009);
letter from RBC (June 2009); letter from SIFMA (June 2009); letter
from STA (June 2009); letter from T.D. Pro Ex; letter from Boston
Options Exchange et al. (June 2009); letter from Direct Edge (Sept.
2009); letter from BATS (Sept. 2009); letter from Credit Suisse
(Sept. 2009); letter from Group One Trading (Sept. 2009); letter
from Knight Capital (Sept. 2009); letter from STANY (Sept. 2009);
letter from Goldman Sachs (Sept. 2009); letter from ISE (Sept.
2009); letter from NYSE Euronext (Sept. 2009); letter from RBC
(Sept. 2009); letter from SIFMA (Sept. 2009); letter from Boston
Options Exchange, Chicago Board Options Exchange, International
Securities Exchange, Nasdaq Options Market, Nasdaq OMX PHLX, NYSE
Amex, NYSE Arca and The Options Clearing Corporation, dated Sept.
22, 2009 (``Boston Options Exchange et al. (Sept. 2009)''); letter
from CBOE (Sept. 2009).
\540\ Letter from CBOE (June 2009); see also letter from Boston
Options Exchange et al. (June 2009); letter from ISE (June 2009);
letter from Citadel et al. (June 2009); letter from STANY (June
2009); letter from GETCO (June 2009).
\541\ See letter from Blue Capital; but cf. letter from John H.
Frazer, Jr., dated May 4, 2009 (``Frazer'') (stating that if options
market makers are not subject to the short sale price test
restriction, then ``short sellers will simply purchase Puts knowing
that Options Market Makers will simply sell the stock short without
restriction.'').
---------------------------------------------------------------------------

Some commenters stated that a market maker exception should include
market makers in listed and OTC derivatives.\542\ Other commenters
stated that a market maker exception should cover block
positioners.\543\ In addition, some commenters stated that a market
maker exception should include market makers in convertibles and
warrants.\544\ Several commenters stated that an exception for market
makers in ETFs should be included in any price test restriction adopted
by the Commission.\545\
---------------------------------------------------------------------------

\542\ See, e.g., letter from Direct Edge (June 2009); letter
from Credit Suisse (June 2009); letter from STANY (June 2009);
letter from Barclays (June 2009); letter from Goldman Sachs (June
2009); letter from ICI (June 2009); letter from NYSE Euronext (June
2009); letter from RBC (June 2009); letter from SIFMA (June 2009);
letter from ISDA; letter from Direct Edge (Sept. 2009); letter from
Credit Suisse (Sept. 2009); letter from STANY (Sept. 2009); letter
from Goldman Sachs (Sept. 2009); letter from RBC (Sept. 2009);
letter from SIFMA (Sept. 2009).
\543\ See letter from Credit Suisse (June 2009); letter from RBC
(June 2009); letter from SIFMA (June 2009); letter from SIFMA (Sept.
2009); letter from Credit Suisse (Sept. 2009); letter from RBC
(Sept. 2009).
\544\ See, e.g., letter from Credit Suisse (June 2009); letter
from SIFMA (June 2009); letter from Credit Suisse (Sept. 2009);
letter from Direct Edge (Sept. 2009); letter from SIFMA (Sept.
2009).
\545\ See, e.g., letter from Credit Suisse (June 2009); letter
from Allston Trading (June 2009); letter from STANY (June 2009);
letter from Goldman Sachs (June 2009); letter from ICI (June 2009);
letter from SIFMA (June 2009); letter from SIFMA (Sept. 2009);
letter from Credit Suisse (Sept. 2009); letter from STANY (Sept.
2009); letter from Goldman Sachs (Sept. 2009); letter from Direct
Edge (Sept. 2009).
---------------------------------------------------------------------------

In addition, some commenters stated that to not include an
exception for bona fide market making activities is inconsistent with
the Commission's short sale-related emergency orders issued in mid- to
late-2008, which included various forms of exceptions for bona fide
market making activities.\546\ Commenters also noted that since its
adoption in 2004, Regulation SHO has included an exception for bona
fide market making activities from the ``locate'' requirement of Rule
203(b)(1).\547\ Several commenters also noted that fails to deliver
resulting from certain bona fide market making activity are provided
additional time to be closed out under Regulation SHO's close-out
requirements.\548\
---------------------------------------------------------------------------

\546\ See, e.g., letter from SIFMA (June 2009); letter from RBC
(June 2009); letter from CBOE (June 2009); letter from Boston
Options Exchange et al. (June 2009); letter from ISE (June 2009);
letter from Citadel et al. (June 2009); letter from Goldman Sachs
(June 2009); see also supra Section II.C. (discussing the
Commission's emergency orders).
\547\ See, e.g., letter from SIFMA (June 2009); letter from CBOE
(June 2009); letter from Boston Options Exchange et al. (June 2009);
letter from Goldman Sachs (June 2009); letter from GETCO (June
2009); see also 17 CFR 242.203(b)(2)(iii).
\548\ See, e.g., letter from Goldman Sachs (June 2009); letter
from Wolverine; letter from Boston Options Exchange et al. (June
2009); letter from GETCO (Sept. 2009); letter from Virtu Financial;
letter from Nasdaq OMX Group (Oct. 2009); see also 17 CFR
242.204(a)(3).

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

[[Page 11273]]

Several commenters, however, discussed the importance of limiting a
market maker exception to bona fide market making activity and
requested that the Commission define the term strictly so as to
eliminate the possibility for gaming.\549\ Moreover, some commenters
stated that a market maker exception may not be necessary. For example,
commenters noted that equity market makers will usually sell at their
offer quote, which would not be inhibited by any price test
restriction.\550\ One commenter stated that if we were to adopt a
circuit breaker approach with the alternative uptick rule, an equity
market making exception may not be as critical because equity market
makers generally post their offers one price increment above the
national best bid.\551\ This commenter stated that ``[i]n a market
characterized by the kind of decline that would trigger a circuit
breaker, remaining above the [national best bid] will tend to be the
natural norm.'' \552\
---------------------------------------------------------------------------

\549\ See letter from Pink OTC; letter from SIFMA (June 2009);
letter from STA (June 2009); letter from SIFMA (Sept. 2009); see
also letter from NYSE Euronext (June 2009); letter from NYSE
Euronext (Sept. 2009) (stating that the definition should contain
some obligation to the market).
\550\ See letter from CBOE (June 2009); letter from GETCO (June
2009). Although GETCO stated that a market maker typically should
not need an exception because the market maker will be able to sell
short on the offer when providing liquidity, this commenter also
noted that market makers such as GETCO ``often employ market making
strategies that sometimes include removing liquidity on the bid as
part of the overall strategy, which may include short selling.''
GETCO stated that such strategies result in tighter spreads, more
liquidity and potentially lower costs to investors. See letter from
GETCO (June 2009).
\551\ See letter from Direct Edge (Sept. 2009).
\552\ Letter from Direct Edge (Sept. 2009).
---------------------------------------------------------------------------

Other commenters stated that there should not be an exception for
market makers in any short sale price test restriction that the
Commission adopts.\553\ One commenter noted that the activities of
market makers ``are not unique in contributing to market efficiency;
all market participants, regardless of trading frequency or
professional expertise, improve market quality by their very
participation, whether or not their trading activity is arbitrage or
professional market making * * * the Commission's goal should be to
implement rules that are sufficiently focused and require few, if any,
exceptions to maintain market quality.'' \554\ In addition, as
discussed in Section III.B. above, several commenters cautioned against
the Commission adopting numerous exceptions and discussed problems that
may arise from adopting a short sale price test restriction with many
or complex exceptions, such as additional implementation difficulties,
greater compliance costs, lack of uniformity that may cause unfair
application of the rule, increased opportunities for gaming and abuse,
and, overall, a less effective rule that only applies to a limited
number of short sales.\555\
---------------------------------------------------------------------------

\553\ See, e.g., letter from David G. Furr, dated Apr. 20, 2009;
letter from R. Skinner, dated Apr. 21, 2009; letter from Frazer;
letter from IBC; letter from Vitus Lask, dated June 20, 2009; letter
from Stephen R. Porpora, dated Sept. 10, 2009; letter from Hudson
River Trading; letter from David Furr, dated Nov. 3, 2009.
\554\ Letter from Hudson River Trading.
\555\ See supra note 434.
---------------------------------------------------------------------------

At this time, we believe that including a provision to permit
broker-dealers to mark as ``short exempt'' short sale orders in
connection with market making activity in the equity or options markets
is not necessary and would not advance the goals of our adopting a
short sale price test restriction. We recognize that there are distinct
differences between options market making and market making in the
equity markets and that Rule 201 may impact these markets differently.
In addition, we recognize commenters' concerns regarding the potential
negative market impact of not including an exception for market making
activity in the equity or options markets. Due to the reasons discussed
below, however, we believe such impact, if any, would be limited. In
addition, we believe that the potential costs of not including
exceptions for equity and options market makers are justified by the
benefits provided by the Rule in preventing short selling, including
potentially manipulative or abusive short selling, from driving down
further the price of a security that has already experienced a
significant intra-day price decline.
We believe that the potential negative market impact from not
including an equity or options market maker exception to Rule 201 will
be limited, in large part, because Rule 201 is a narrowly-tailored Rule
that will impose a short sale price test restriction only if the price
of a covered security declines by 10% or more from the covered
security's closing price as determined by the listing market for the
covered security as of the end of regular trading hours on the prior
day. In addition, once triggered, the short sale price test restriction
will apply for a limited period of time--the remainder of the day on
which the circuit breaker has been triggered and the following day.
Thus, unlike NASD's former bid test or former Rule 10a-1 (which also
did not include an exception for bona fide market making activity),
Rule 201 does not impose a short sale price test restriction that will
apply all the time to all covered securities. Nor does Rule 201 impose
a halt on short selling. Instead, Rule 201 is a targeted Rule that will
not impact trading in the majority of covered securities. As discussed
in more detail above,\556\ in response to our request for comment on an
appropriate threshold at which to trigger the proposed circuit breaker
short sale price restrictions, commenters submitted estimates of the
number of securities that would trigger a circuit breaker rule at a 10%
threshold \557\ and the estimates reflect that a 10% circuit breaker
threshold, on average, should result in a limited percentage of covered
securities triggering the threshold.\558\ In addition, following its
review of trading data, the Staff found that, during the period
covering April 9, 2001 to September 30, 2009, the price test
restrictions of Rule 201 would have, on an average day, been triggered
for approximately 4% of covered securities.\559\ The Staff also found
that for a low volatility period, covering January 1, 2004 to December
31, 2006, the 10% trigger level of Rule 201 would have, on an average
day, been triggered for approximately 1.3% of covered securities.\560\
---------------------------------------------------------------------------

\556\ See supra Section III.A.5. (discussing the circuit breaker
trigger level).
\557\ See, e.g., letter from Jordan & Jordan; letter from
Citadel et al. (June 2009); letter from MFA (June 2009); letter from
SIFMA (June 2009); letter from Credit Suisse (Sept. 2009).
\558\ See supra notes 305 to 308 and accompanying text.
\559\ See supra note 310 and accompanying text.
\560\ See supra note 311 and accompanying text.
---------------------------------------------------------------------------

In addition, we believe that any negative market impact due to the
lack of a bona fide market making exception for equity market makers
will be limited, if any, because as noted by some commenters, for the
most part, equity market makers sell at their offer quote.\561\ Thus,
the price test restriction of Rule 201, that requires short selling at
a price above the national best bid and only if the circuit breaker has
been triggered, is consistent with equity market making strategies
because these market makers generally post their offer quotes at a
price above the national best bid.\562\ In addition, because equity
market makers typically provide liquidity on the opposite side of the
market, if a covered security is experiencing significant downward
price pressure such that it is subject to

[[Page 11274]]

Rule 201, market makers will tend to be buying not selling the
security. Thus, equity market makers will continue to be able to
provide liquidity in that security.
---------------------------------------------------------------------------

\561\ See, e.g., letter from CBOE (June 2009); letter from GETCO
(June 2009).
\562\ See letter from Direct Edge (Sept. 2009).
---------------------------------------------------------------------------

Although a number of commenters expressed concerns regarding the
lack of an options market maker exception from a price test
restriction, we do not believe that such an exception under Rule 201 is
necessary because, unlike with a ban on short selling, options market
makers will be able to sell short to hedge their positions even when
the restriction is in place.\563\ In addition, not all covered
securities have options traded on them (``optionable covered
securities''). As discussed above, data provided by commenters and
Staff analysis indicate that, on an average day, a limited number of
all covered securities would trigger a 10% circuit breaker level.\564\
Thus, an even more limited number of optionable covered securities
would trigger a 10% circuit breaker, thereby further reducing the need
for an options market maker exception to the Rule's requirements. To
the extent that an optionable covered security is subject to Rule 201,
we recognize this may result in a delay in an options market maker's
ability to sell short to hedge a position.\565\ Such delay, and the
resulting uncertainty options market makers may face (including as the
price of an optionable covered security approaches the circuit breaker)
regarding their ability to obtain immediate execution of their short
sale hedging transactions, may have a negative impact on the options
markets, such as the widening of options quote spreads.
---------------------------------------------------------------------------

\563\ We note that some commenters, in stating that a short sale
price test restriction should include an options market maker
exception, provided support for their arguments by referencing the
impact of the Short Sale Ban Emergency Order that halted short
selling in the securities subject to the emergency order, rather
than imposing a short sale price test restriction that would
continue to allow short selling while the restriction is in effect.
See, e.g., letter from CBOE.
\564\ See supra note 310 and 311 and accompanying text.
\565\ We note that one commenter stated that ``[options market
makers] need immediacy in their hedges, which means selling at lower
than the inside offer quote.'' See letter from CBOE (June 2009).
Rule 201, if triggered, limits short selling to a price above the
current national best bid. Thus, it does not prevent short selling
at a price between the current national best bid and offer.
---------------------------------------------------------------------------

We believe, however, that this potential negative market impact and
any resulting costs to options market makers will be limited and are
justified by the benefits of the Rule. As discussed above, we believe
these costs will be limited because, among other things, due to the
Rule's circuit breaker approach, the Rule's restrictions will not apply
to most optionable covered securities most of the time. In addition,
even when a security is experiencing excessive downward price pressure
such that the short sale price test restriction of Rule 201 has been
triggered for a particular security, we expect there will be purchasers
in the market willing to buy the security at the offer or at a price
between the current national best bid and offer. Thus, for securities
that are subject to Rule 201, there will be buying interest in the
market that will result in execution of short sale hedging
transactions.
We have also determined not to include an options market maker
exception because we are concerned about creating an un-level playing
field between options market makers and market makers in other
derivatives that sell short to hedge their positions in the
derivative.\566\ For the reasons discussed above and below, we do not
believe that any market maker exception is necessary.
---------------------------------------------------------------------------

\566\ We also note that, as discussed in Section III.A.1. above,
we, as well as some commenters, are concerned about the ability to
obtain a short position through the use of derivative products and
that synthetic short positions may increase as a result of the
adoption of a short sale price test restriction. We are concerned
that inclusion of an exception in Rule 201 for short sale hedging
transactions would make such an increase even more likely. See supra
Section III.A.1.
---------------------------------------------------------------------------

We are also concerned that the inclusion of an exception for equity
or options market makers may create an opportunity for potential
misuse. Whether from misuse or proper use, if a large volume of short
selling were excepted from the short sale price test restrictions of
the Rule, such an exception could potentially undermine our goals for
adopting the Rule.\567\ We are also concerned that the inclusion of an
exception could result in significant additional surveillance and
compliance costs necessary to help to determine whether market
participants are validly claiming the applicable exception and to
prevent any misuse. In determining not to include such an exception, we
also considered these additional costs.
---------------------------------------------------------------------------

\567\ See, e.g., Ekkehart Boehmer, Charles M. Jones and Xiaoyan
Zhang, 2009, Shackling Short Sellers: The 2008 Shorting Ban. This
study on the Short Sale Ban Emergency Order found that ``[d]uring
the shorting ban (19 Sep through 8 Oct), [NYSE-executed] short sales
are 7.72% of overall trading volume for stocks on the original ban
list, compared to 19.32% of overall trading volume over the same
time interval for the matching set of non-banned stocks.'' The
authors of the study attributed the on-going short sales in the
banned stocks to market makers selling short as part of their market
making and hedging activity, as such activity was excepted from the
Short Sale Ban Emergency Order. See id. While short sale volume
decreased in the banned stocks, based on this study's results and
its comparison of ban and non-ban stocks, approximately 40% of the
short sale trading volume would be expected to be exempt short
selling. This short selling may have occurred as a result of market
making exceptions.
---------------------------------------------------------------------------

Although some commenters noted that the NASD's former bid test
contained exceptions for equity and options market makers, as noted
above, former Rule 10a-1, which was in place for almost seventy years,
and applied on a permanent, market-wide basis, did not contain any such
exceptions. We are not aware of any negative impact on market quality
or any significant costs to investors arising from the lack of such
exceptions. In addition, we note that although Regulation SHO currently
contains a limited exception from its locate requirement \568\ and an
additional two days to close out fails to deliver under its close-out
requirement for certain market making activity,\569\ these exceptions
relate to the ability to obtain shares in time to make delivery by
settlement date rather than to downward price pressure and potential
price manipulation resulting from short selling. Thus, although
commenters noted these exceptions as support for an exception from a
short sale price test restriction, we do not agree that the inclusion
of such exceptions to Regulation SHO's locate and close-out
requirements necessitates the inclusion of such an exception in Rule
201.
---------------------------------------------------------------------------

\568\ See 17 CFR 242.203(b)(2)(iii).
\569\ See 17 CFR 242.204(a)(3).
---------------------------------------------------------------------------

Moreover, we note that we recently eliminated an exception to
Regulation SHO's close-out requirement relating to fails to deliver
resulting from options market making activity because, as we noted in
the Options Market Maker Elimination Release, a substantial level of
fails to deliver continued to persist in threshold securities, and it
appeared that a significant number of the fails were as a result of the
options market maker exception.\570\ In addition, in adopting that
amendment, we noted that although we acknowledged commenters' concerns
regarding the potential impact of the elimination of the options market
maker exception on market making risk, quote depths, spread widths, and
market liquidity, we believed that these potential effects were
justified by the benefits of requiring such fails to deliver to be
closed out within specific time-frames

[[Page 11275]]

rather than being allowed to persist indefinitely.\571\
---------------------------------------------------------------------------

\570\ See Options Market Maker Elimination Release, 73 FR at
61696. In addition, as we stated in the Options Market Maker
Elimination Release, preliminary analysis by the Staff indicated
that there was a significant increase in fails to deliver in
threshold securities with options traded on them following
elimination of the grandfather exception to Regulation SHO's close-
out requirement. See id. at 61693.
\571\ See id. at 61696. As discussed above and as noted by
several commenters to the Proposal and Re-Opening Release, since the
elimination of the options market maker exception to Regulation
SHO's close-out requirement, among other Commission actions, data
from the Staff indicates there has been a significant reduction in
fails to deliver. See supra note 119 (discussing the recent
reduction in fails to deliver).
---------------------------------------------------------------------------

Similarly, although we recognize commenters' concerns about the
potential impact of the lack of an options market maker exception or a
general equity market maker exception on market liquidity, volatility,
spread widths, and investor costs, we believe, for the reasons
discussed, that these potential costs are justified by the benefits of
requiring that when a covered security's price is undergoing
significant downward price pressure, short selling in the security by
market makers generally is restricted. Moreover, as discussed above,
because the short sale price test restriction of Rule 201(b) will apply
to a covered security only after the security has experienced a
significant intra-day price decline, will remain in place for a limited
period of time, and will continue to permit short selling at a price
above the current national best bid (rather than, for example, halt all
short selling in that security) even when the restriction is in place,
we believe that the negative market impact, if any, when the
restriction is in place, will be limited.\572\
---------------------------------------------------------------------------

\572\ See supra Sections III.A.3. and III.A.4. (discussing,
among other things, the market impact of the alternative uptick rule
in combination with a circuit breaker approach); see also infra
Sections X.B.1.a. and X.B.2.a. (discussing the market impact of the
alternative uptick rule and the circuit breaker approach).
---------------------------------------------------------------------------

For the reasons discussed above, rather than provide an exception
for short selling in connection with bona fide market making activity,
whether in the equity or options markets, we have determined to limit
the extent to which market makers will be permitted to sell short
without restriction under Rule 201. We note, however, as discussed
above, Rule 201 permits broker-dealers to mark short sale orders as
``short exempt'' in connection with riskless principal transactions. We
also note that under Rule 201, a trading center's policies and
procedures will be designed to permit the execution or display of short
sale orders at the offer. As discussed above, and as noted by some
commenters, equity market makers typically will sell at their offer
quote.\573\ Thus, Rule 201 generally will not restrict short selling by
equity market makers engaged in bona fide market making activity.
Moreover, in connection with both equity and options market makers,
because most covered securities and, to an even greater extent, most
optionable covered securities, will not be subject to the short sale
price test restriction of Rule 201, these market makers will be able to
continue to provide liquidity and hedge positions, as applicable, by
selling short at or below the national best bid in most securities most
of the time. For all these reasons, at this time we do not believe it
is necessary to provide that a broker-dealer may mark an order ``short
exempt'' where the short sale order is in connection with bona fide
market making activity, whether in the equity or options markets.\574\
---------------------------------------------------------------------------

\573\ See supra notes 550, 561, and 562 and accompanying text.
\574\ We note, however, as discussed in more detail below, we
have instructed the Staff to assess the impact of the Rule on the
options markets and to provide a written assessment of the impact.
See infra Section VIII.
---------------------------------------------------------------------------

IV. Order Marking

In the Proposal, we proposed amending Rule 200(g) of Regulation SHO
to add a ``short exempt'' marking requirement.\575\ Rule 200(g) of
Regulation SHO provides that a broker-dealer must mark all sell orders
of any security as ``long'' or ``short.'' \576\ As initially adopted,
Regulation SHO included an additional marking requirement of ``short
exempt'' applicable to short sale orders if the seller was ``relying on
an exception from the tick test of 17 CFR 240.10a-1, or any short sale
price test of any exchange or national securities association.'' \577\
We adopted amendments to Rule 200(g) of Regulation SHO to remove the
``short exempt'' marking requirement in conjunction with our
elimination of former Rule 10a-1.\578\
---------------------------------------------------------------------------

\575\ See Proposal, 74 FR at 18082-18083.
\576\ See 17 CFR 242.200(g).
\577\ See 2004 Regulation SHO Adopting Release, 69 FR at 48030.
\578\ See 2007 Price Test Adopting Release, 72 FR 36348.
---------------------------------------------------------------------------

In conjunction with the adoption of Rule 201 of Regulation SHO to
add a short sale circuit breaker rule, we are amending Rule 200(g) of
Regulation SHO, substantially as proposed, to again impose a ``short
exempt'' marking requirement.\579\ Specifically, Rule 200(g), as
amended, provides that ``[a] broker or dealer must mark all sell orders
of any equity security as ``long,'' ``short,'' or ``short exempt.''
\580\ In addition, Rule 200(g)(2) provides that a sale order shall be
marked ``short exempt'' only if the provisions of paragraph (c) or (d)
of Rule 201 are met.\581\
---------------------------------------------------------------------------

\579\ In connection with Rule 200(g), we note that we have made
one technical modification to Rule 200(g)(2) from the language in
the proposed circuit breaker with modified uptick rule.
Specifically, we have specified the subsections of Rule 201--
subsections (c) and (d)--that set forth the circumstances under
which a short sale order may be marked ``short exempt.''
\580\ Rule 200(g).
\581\ See Rule 200(g)(2).
---------------------------------------------------------------------------

In response to our requests for comment, several commenters noted
that a new ``short exempt'' marking requirement would require
adjustments to front end systems, that many firms have multiple front
end systems, and that such costs would be multiplied for firms with
correspondent clearing operations because each correspondent firm can
have its own front end system.\582\ Commenters also stated that market
participants would need to make adjustments to reporting systems,
including blue sheets, OATS, and OTS reporting systems,\583\ in
addition to order entry and routing applications.\584\
---------------------------------------------------------------------------

\582\ See letter from RBC (June 2009); letter from NSCP; see
also letter from FIF (June 2009).
\583\ See letter from RBC (June 2009); letter from NSCP; letter
from FIF (June 2009).
\584\ See letter from FIF (June 2009).
---------------------------------------------------------------------------

In contrast, several commenters indicated that requiring broker-
dealers to mark all sell orders ``long,'' ``short,'' or ``short
exempt'' would provide valuable information to the Commission \585\ and
that such information would be worth the costs of requiring such
marking.\586\ One commenter indicated that the information provided by
a ``short exempt'' marking requirement would provide the Commission
with data on the extent to which exceptions are being used to
circumvent the requirements of Rule 201.\587\ In addition, with respect
to implementation periods, one commenter stated that the ``short
exempt'' marking requirement would require coding for new fields in
order records, which should be accomplished in approximately three
months.\588\
---------------------------------------------------------------------------

\585\ See, e.g., letter from CFA; letter from STA (June 2009).
\586\ See, e.g., letter from STA (June 2009).
\587\ See id.
\588\ See id.
---------------------------------------------------------------------------

After considering the comments, we have determined to adopt the
proposed ``short exempt'' marking requirement, including the
requirement that a sale order shall be marked ``short exempt'' only if
the provisions of paragraph (c) or (d) of Rule 201 are met. The ``short
exempt'' marking requirement will provide a record that a broker-dealer
is availing itself of one of the provisions of paragraph (c) or (d) of
Rule 201. The records provided pursuant to the ``short exempt'' marking
requirements of Rule 200(g) will also aid surveillance by SROs and the
Commission for

[[Page 11276]]

compliance with the provisions of Rule 201. In addition, under the
policies and procedures approach required by Rule 201, the ``short
exempt'' marking requirement will indicate to a trading center whether
it must execute or display a short sale order without regard to whether
the short sale order is at a price that is less than or equal to the
current national best bid.
We recognize that the ``short exempt'' marking requirement will
increase implementation and compliance costs, including costs related
to adjusting front-end systems, reporting systems, and order entry and
routing applications.\589\ We believe, however, that these costs are
justified by the benefit of the information that the ``short exempt''
marking requirement will provide. In addition, to allow sufficient time
to make any necessary systems changes, we are providing for a six month
implementation period for the ``short exempt'' marking requirement of
Rule 200(g) such that market participants will have to comply with this
requirement six months following the effective date of these
amendments. We believe that a six month implementation period will
provide market participants with sufficient time in which to modify
their systems and procedures in order to comply with the proposed
marking requirements. In addition, the six month implementation period
is consistent with the implementation period for Rule 201.
---------------------------------------------------------------------------

\589\ See infra Section X.A.3. and Section X.B.4. (discussing
the benefits and costs of the ``short exempt'' order marking
requirement).
---------------------------------------------------------------------------

V. Exemptive Procedures

Consistent with the provisions proposed, Rule 201(f) as adopted
includes provisions establishing procedures for the Commission, upon
written request or its own motion, to grant an exemption from the
Rule's provisions, either unconditionally or on specified terms and
conditions, if the Commission determines that such exemption is
necessary or appropriate in the public interest and is consistent with
the protection of investors.\590\ Pursuant to this provision, we will
consider and act upon appropriate requests for relief from the
provisions of Rule 201 and will consider the particular facts and
circumstances relevant to each such request and any appropriate
conditions to be imposed as part of the exemption.
---------------------------------------------------------------------------

\590\ See Rule 201(f).
---------------------------------------------------------------------------

In response to our request for comment, one commenter stated that
``it is important for the Commission to have detailed procedures for
granting exemptions,'' but that exemptions can decrease overall
compliance with the rule by encouraging other market participants to
tailor their situation to qualify for an exemption.\591\ The commenter
stated that the Commission ``must set the bar high for those seeking
exemptive relief.'' \592\
---------------------------------------------------------------------------

\591\ Letter from STA (June 2009).
\592\ Id.
---------------------------------------------------------------------------

We have determined to include in Rule 201 a provision related to
granting exemptions from the Rule's provisions in order to provide
clear procedures for requests and grants of exemptions. As stated
above, we will consider requests for relief and grant exemptions from
Rule 201 if the Commission determines that an exemption is necessary or
appropriate in the public interest and is consistent with the
protection of investors, taking into account the particular facts and
circumstances relevant to each such request and any appropriate
conditions to be imposed in connection with the exemption.

VI. Overseas Transactions

In connection with former Rule 10a-1, the Commission consistently
took the position that the rule applied to trades in securities subject
to that rule where the trade was ``agreed to'' in the U.S., but booked
overseas.\593\ In addition, in the 2004 Regulation SHO Adopting Release
we stated that any broker-dealer using the United States jurisdictional
means to effect short sales in securities traded in the United States
would be subject to Regulation SHO, regardless of whether the broker-
dealer is registered with the Commission or relying on an exemption
from registration.\594\ For example, a U.S. money manager decides to
sell a block of 500,000 shares in a covered security. The money manager
negotiates a price with a U.S. broker-dealer, who sends the order
ticket to its foreign trading desk for execution. In our view, this
trade was agreed to in the United States and occurred in the United
States as much as if the trade had been executed by the broker-dealer
at a U.S. trading desk. Consistent with these prior statements, we
stated in the Proposal that if a short sale is agreed to in the United
States, it must be effected in accordance with the requirements of the
proposed rules, unless otherwise excepted.\595\
---------------------------------------------------------------------------

\593\ See Exchange Act Release No. 27938 (Apr. 23, 1990), 55 FR
17949 (Apr. 30, 1990) (stating that the no-action position exempting
certain index arbitrage sales from former Rule 10a-1 would not apply
to an index arbitrage position that was established in an offshore
transaction unless the holder acquired the securities from a seller
that acted in compliance with former Rule 10a-1 or other comparable
provision of foreign law). See also Exchange Act Release No. 21958
(Apr. 18, 1985), 50 FR 16302, 16306, n.48 (Apr. 25, 1985) (stating
that, ``Rule 10a-1 does not contain any exemption for short sales
effected in international markets.''). The question of whether a
particular transaction negotiated in the U.S. but nominally executed
abroad by a foreign affiliate is a domestic trade for U.S.
regulatory purposes was also addressed in the Commission's Order
concerning Wunsch Auction Systems, Inc. (WASI). The Commission
stated its belief that ``trades negotiated in the U.S. on a U.S.
exchange are domestic, not foreign trades. The fact that the trade
may be time-stamped in London for purposes of avoiding rule 390 does
not in our view affect the obligation of WASI and BT Brokerage to
maintain a complete record of such trades and report them as U.S.
trades to U.S. regulatory and self-regulatory authorities and, where
applicable, to U.S. reporting systems.'' See Exchange Act Release
No. 28899 (Feb. 20, 1991), 56 FR 8377, 8381 (Feb. 28, 1991). In what
is commonly referred to as the ``fax market,'' a U.S. broker-dealer
acting as principal for its customer negotiates and agrees to the
terms of a trade in the U.S., but transmits or faxes the terms
overseas to be ``printed'' on the books of a foreign office. This
practice of ``booking'' trades overseas was analyzed in depth in the
Division of Market Regulation's Market 2000 Report. In the Report,
the Division estimated that at that time approximately seven million
shares a day in NYSE stocks were faxed overseas, and many of these
trades were nominally ``executed'' in the London over-the-counter
market. See Division of Market Regulation, SEC, Market 2000: An
Examination of Current Equity Market Developments (Jan. 1994), Study
VII, p. 2.
\594\ See 2004 Regulation SHO Adopting Release, 69 FR at 48014,
n.54.
\595\ See Proposal, 74 FR at 18083-18084.
---------------------------------------------------------------------------

In response to our request for comment, one commenter stated that
``[g]enerally speaking, the Commission has taken the position that the
provisions of Regulation SHO apply to transactions in covered
securities `agreed to' in the United States, but sent to a foreign
market for execution. Notwithstanding, there has been on-going
confusion in this area. The Commission should use this opportunity to
clarify the applicability of the restrictions (and Regulation SHO
generally) to transactions in covered securities executed on overseas
markets.'' \596\ Consistent with our prior statements, we note that
Rule 201 applies to any short sale effected using the United States
jurisdictional means, regardless of the jurisdiction in which the short
sale is executed.
---------------------------------------------------------------------------

\596\ Letter from RBC (June 2009).
---------------------------------------------------------------------------

VII. Rule 201 Implementation Period

In the Proposal and Re-Opening Release, we proposed a three-month
and two-month implementation period, respectively, and requested
comment regarding these implementation periods.\597\ We are adopting in
Rule 201 a six-month implementation period, such that trading centers
will have to comply with Rule 201 six months following the effective
date of Rule 201. We believe that this implementation period will
provide trading centers,

[[Page 11277]]

broker-dealers and other market participants with sufficient time in
which to modify their systems, policies and procedures in order to
comply with the requirements of Rule 201.
---------------------------------------------------------------------------

\597\ See Proposal, 74 FR at 18042; Re-Opening Release, 74 FR at
42036.
---------------------------------------------------------------------------

In response to our request for comment, commenters indicated that a
circuit breaker rule triggering the alternative uptick rule will
require an implementation period of between three and twelve
months.\598\ Several commenters noted that because the alternative
uptick rule, unlike the other proposed price tests, would not require
sequencing of bids or last sale prices, the alternative uptick rule
could be implemented more quickly than the other proposed price tests
and could be implemented within three to six months.\599\ One commenter
noted that implementation concerns with respect to a short sale price
test restriction could be minimized, provided that trading centers
``could leverage existing architecture developed to comply with the
Order Protection Rule in Reg NMS (Rule 611).'' \600\ Another commenter
noted that implementation of a circuit breaker triggering the
alternative uptick rule would be easier to implement, ``provided that
the Commission permits firms to leverage the numerous systems changes
made to facilitate compliance with Regulation NMS (including the use of
internal market data rather than consolidated data supplied by the
industry plans).'' \601\ Other commenters noted that adopting the
alternative uptick rule in conjunction with a circuit breaker, rather
than as a permanent, market-wide rule, would not add significantly to
the implementation time required.\602\
---------------------------------------------------------------------------

\598\ See, e.g., letter from FIF (Sept. 2009); letter from
Citadel et al. (Sept. 2009); letter from Credit Suisse (Sept. 2009);
letter from Direct Edge (Sept. 2009); letter from EWT (Sept. 2009);
letter from NYSE Euronext (Sept. 2009); letter from RBC (Sept.
2009); letter from SIFMA (Sept. 2009); letter from MFA (Oct. 2009);
letter from Amer. Bankers Assoc.; see also letter from NSCP; letter
from RBC (June 2009); letter from STA (June 2009).
\599\ See, e.g., letter from Credit Suisse (June 2009); letter
from Credit Suisse (Sept. 2009); letter from STA (Sept. 2009);
letter from FIF (Sept. 2009).
\600\ Letter from MFA (Oct. 2009).
\601\ Letter from Goldman Sachs (Sept. 2009).
\602\ See, e.g., letter from Credit Suisse (Sept. 2009); letter
from Nasdaq OMX Group (Oct. 2009).
---------------------------------------------------------------------------

Several commenters, however, did not agree that the absence of a
sequencing requirement would shorten the implementation time required
for the alternative uptick rule.\603\ In addition, several commenters
did not agree that previous implementation of Regulation NMS might
allow for quicker implementation of a price test.\604\ Other commenters
stated that adopting the alternative uptick rule in conjunction with a
circuit breaker would add to the implementation time.\605\ Some
commenters expressed concerns that allowing for certain exceptions
could affect the implementation time.\606\
---------------------------------------------------------------------------

\603\ See, e.g., letter from Citadel et al. (Sept. 2009); letter
from NYSE Euronext (Sept. 2009); letter from RBC (Sept. 2009);
letter from SIFMA (Sept. 2009).
\604\ See, e.g., letter from NSCP; letter from RBC (June 2009).
\605\ See letter from Direct Edge (Sept. 2009) (stating that
adopting the alternative uptick rule with a circuit breaker would
add approximately four to six weeks to the development process);
letter from NYSE Euronext (Sept. 2009).
\606\ See letter from Goldman Sachs (Sept. 2009); letter from
FIF (Sept. 2009).
---------------------------------------------------------------------------

We believe that a six month implementation period is
appropriate.\607\ This implementation period, which is longer than the
implementation periods proposed in the Proposal and the Re-opening
Release, takes into consideration commenters' concerns that
implementation of a price test could be complex. We do not believe that
a longer implementation time is warranted because Rule 201 will not
require monitoring of the sequence of bids or last sale prices, unlike
other proposed price tests, and because Rule 201 will require the
implementation of policies and procedures similar to those required for
trading centers under Regulation NMS. In addition, market participants
will be able to leverage the numerous systems changes made and current
architecture developed to facilitate compliance with Regulation NMS.
These factors should reduce implementation time.
---------------------------------------------------------------------------

\607\ We note that, in effect, market participants will have
approximately eight months from publication in the Federal Register
to implement Rule 201. Rule 201 will not become effective until
sixty days following publication in the Federal Register and the
Compliance Date for Rule 201 is six months following the Rule's
Effective Date.
---------------------------------------------------------------------------

In addition, we believe the six month implementation period will
allow sufficient time to address any complexities implementing the
circuit breaker and the ``short exempt'' order marking
requirement.\608\ We note that broker-dealers are already familiar with
and have experience implementing a ``short exempt'' marking requirement
as Regulation SHO, as originally adopted, included such a
requirement.\609\ The ``short exempt'' marking requirement was
eliminated together with the elimination of all short sale price test
restrictions in July 2007.\610\ In addition, we note that broker-
dealers were able to make significant systems changes to de-program the
``short exempt'' marking requirement from their systems in less than 90
days from the compliance date for elimination of the requirement.\611\
Thus, we believe that a six month implementation period should be
sufficient.
---------------------------------------------------------------------------

\608\ See supra Section III.B. (discussing the ``short exempt''
marking provisions of Rule 201) and supra Section IV. (discussing
the ``short exempt'' marking requirement of Rule 200(g)).
\609\ See 2004 Regulation SHO Adopting Release, 69 FR 48008.
\610\ See 2007 Price Test Adopting Release, 72 FR 36348.
\611\ See letter from Josephine J. Tao, Assistant Director,
Division of Market Regulation, SEC, to Ira Hammerman, Senior
Managing Director and General Counsel, Securities Industry and
Financial Markets Association, dated July 2, 2007.
---------------------------------------------------------------------------

We also believe that a six month implementation period is
appropriate for any systems changes that must be made by listing
markets and single plan processors to comply with Rule 201. As
discussed above, the single plan processors currently receive
information from listing markets regarding trading restrictions (i.e.
Regulatory Halts as defined in those plans) on individual securities
and disseminate such information. Thus, the requirements of Rule
201(b)(3) are similar to existing obligations on plan processors
pursuant to the requirements of Regulation NMS, the CTA and CQ Plans
and the Nasdaq UTP Plan. Due to this similarity, we believe that a six
month implementation period is appropriate.

VIII. Decision Not To Implement Rule 201 on a Pilot Basis

In the Proposal, we requested comment regarding whether, before
determining whether to adopt a short sale price test restriction or
circuit breaker rule on a permanent basis, we should adopt a rule that
would apply on a pilot basis to specified securities.\612\ In response
to our request for comment, a number of commenters stated that any
price test restriction should be adopted on a pilot basis.\613\ A
number of commenters indicated that a pilot study should be conducted
prior to adoption of a price test on a permanent basis in order to
gather empirical evidence on the effectiveness and/or market impact

[[Page 11278]]

of a price test.\614\ Some commenters stated that adopting a price test
on a pilot basis only would limit any negative market impact to the
subset of securities subject to the price test.\615\ Another commenter
stated that a pilot study would allow the Commission to gather data on
the effects of a price test as compared to a control group not subject
to a price test.\616\ One commenter noted that a pilot study would
allow the Commission to observe the effects of a price test under
current market conditions,\617\ while another stated that the
Commission should study a price test in the context of severe market
conditions.\618\ Another commenter stated that a pilot study is
particularly important for the alternative uptick rule because it has
not been in effect in the market previously and would be more
restrictive than other proposed price tests.\619\ Other commenters
noted that a pilot study could provide data regarding the impact or
need for various exceptions to a price test.\620\ Several commenters
indicated that pilot study data should be made publicly available to
permit third parties to analyze the results of the pilot study.\621\
---------------------------------------------------------------------------

\612\ See, e.g., Proposal, 74 FR at 18071.
\613\ See, e.g., letter from BATS (May 2009); letter from IAG;
letter from BIO; letter from James J. Angel, PhD, CFA, Associate
Professor of Finance, McDonough School of Business, Georgetown
University, dated June 19, 2009 (``Prof. Angel (June 2009)'');
letter from Barclays (June 2009); letter from Citadel et al. (June
2009); letter from EWT (June 2009); letter from NSCP; letter from
RBC (June 2009); letter from STA (June 2009); letter from NYSE
Euronext (June 2009); letter from Knight Capital (June 2009); letter
from STANY (June 2009); letter from T. Rowe Price (June 2009);
letter from Credit Suisse (June 2009); memorandum regarding meeting
with Penson; letter from CFA; letter from Knight Capital (Sept.
2009); letter from Prof. Angel (Sept. 2009); letter from Dialectic
Capital (Sept. 2009); letter from Direct Edge (Sept. 2009); letter
from EWT (Sept. 2009); letter from NYSE Euronext (Sept. 2009);
letter from Qtrade; letter from RBC (Sept. 2009); letter from STANY
(Sept. 2009); letter from Virtu Financial.
\614\ See, e.g., letter from BATS (May 2009); letter from BIO;
letter from Prof. Angel (June 2009); letter from Credit Suisse (June
2009); letter from Knight Capital (June 2009); letter from NSCP;
letter from RBC (June 2009); letter from STANY (June 2009);
memorandum regarding meeting with Penson; letter from CFA; letter
from Prof. Angel (Sept. 2009); letter from Dialectic Capital (Sept.
2009); letter from Direct Edge (Sept. 2009); letter from EWT (Sept.
2009); letter from Knight Capital (Sept. 2009); letter from Qtrade;
letter from RBC (Sept. 2009); letter from STANY (Sept. 2009); see
also letter from Park National (stating that a review of a price
test based on the national best bid should be conducted six months
after implementation to ensure effectiveness). We also note that a
number of commenters indicated that the Commission should gather
empirical evidence through further study, though not necessarily in
the form of a pilot study, prior to adopting a price test. See,
e.g., letter from BATS (May 2009); letter from Citadel et al. (June
2009); letter from Dialectic Capital (June 2009); letter from
Geoffrey F. Foisie, Investments Manager, Shawbrook, dated June 16,
2009; letter from Amer. Bar Assoc. (July 2009); letter from Jeffrey
W. Rubin, Chair, Committee on Federal Regulation of Securities,
American Bar Association, dated Sept. 30, 2009 (``Amer. Bar Assoc.
(Sept. 2009)''); letter from Goldman Sachs (Sept. 2009).
\615\ See, e.g., letter from Credit Suisse (June 2009); letter
from STA (June 2009).
\616\ See letter from Citadel et al. (June 2009).
\617\ See letter from NYSE Euronext (June 2009).
\618\ See letter from Virtu Financial.
\619\ See letter from STANY (Sept. 2009).
\620\ See, e.g., letter from T. Rowe Price (June 2009); letter
from Direct Edge (Sept. 2009); see also letter from Wells Fargo
(June 2009) (noting that additional study regarding an exception for
bona fide market making activity would be needed if the Commission
adopted a circuit breaker rule).
\621\ See letter from BATS (May 2009); letter from STA (June
2009).
---------------------------------------------------------------------------

In contrast, several commenters stated that the Commission should
not adopt a price test restriction on a pilot basis.\622\ Several of
these commenters expressed concerns regarding the costs to implement a
price test on a pilot basis,\623\ with some stating that such costs
would outweigh the benefits of a pilot study.\624\ One commenter stated
that a price test should be implemented as soon as possible, without a
pilot study, because a pilot study would produce little or no
benefit.\625\ Several commenters expressed support for a ``sunset''
provision allowing the Commission to more easily remove a price test
restriction if it was determined that the restriction was not meeting
the Commission's goals or was harming the market.\626\
---------------------------------------------------------------------------

\622\ See, e.g., letter from Amer. Bankers Assoc.; letter from
SIFMA (June 2009); letter from IBC.
\623\ See, e.g., letter from Amer. Bankers Assoc.; letter from
NYSE Euronext (June 2009); letter from SIFMA (June 2009); letter
from STA (June 2009).
\624\ See, e.g., letter from Amer. Bankers Assoc.; letter from
SIFMA (June 2009).
\625\ See letter from IBC.
\626\ See, e.g., letter from SIFMA (June 2009); letter from
Dialectic Capital (June 2009). One commenter also cited easier
removal of the price test restriction as an argument for a pilot
study. See letter from STANY (June 2009).
---------------------------------------------------------------------------

We have determined not to adopt Rule 201 on a pilot basis. We
believe that adopting the rule on a temporary pilot basis and/or only
for a subset of securities will not advance the goals of our adopting
Rule 201. For example, one goal in adopting Rule 201 is to address
erosion of investor confidence in our markets. We believe that adopting
Rule 201 on a pilot basis, such that the Rule would apply for the
duration of the pilot only, could undermine this goal because, among
other things, investors would know that the Rule is in place for a
limited period of time rather than on a permanent basis and, therefore,
may believe that any benefits that result from the Rule could be
temporary.
In addition, we note that unlike the Pilot, which removed then-
existing short sale price test restrictions for a subset of securities,
undertaking a pilot study in connection with Rule 201 would require
market participants to undertake as much time, effort and expense as
full implementation of the new rule. As noted by one commenter, the
implementation cost would be the same whether the Rule is adopted on a
pilot or a permanent basis.\627\ We also do not believe a ``sunset''
provision would advance our goal of restoring investor confidence
because, as with a pilot, investors would know that the Rule is in
place for a limited period of time rather than on a permanent basis
and, therefore, may believe that any benefits that result from the Rule
could be temporary.
---------------------------------------------------------------------------

\627\ See letter from STA (June 2009). We note that a number of
commenters expressed concerns regarding the implementation costs of
a price test. See infra Sections X.B.1.b. and X.B.2.b. (discussing
implementation costs).
---------------------------------------------------------------------------

We encourage researchers, however, to provide the Commission with
their own empirical analyses regarding the impact of the Rule on the
options markets, and on market quality in general. We will, moreover,
carefully monitor the operation of the Rule to assess its impact and
effectiveness, including the Rule's impact on market quality, to
determine whether any modifications to the Rule are warranted. In
addition, we have instructed the Staff to assess the impact of the Rule
on the options markets and to provide us with a written report of their
assessment within the shortest time practicable for completing a
meaningful study, which we expect, in any event, will not exceed two
years from the Compliance Date.
To the extent that we determine at any time that any of the current
parameters of Rule 201, such as the exceptions to the Rule, the 10%
trigger level, the duration of the price test restriction if triggered,
the basing of the trigger level on the prior day's closing price as
determined by the covered security's listing market, or changed market
conditions, result in Rule 201 not adequately addressing our concerns
or meeting our goals in adopting Rule 201, we will consider whether to
amend Rule 201, or grant relief thereunder, as appropriate at that
time.

IX. Paperwork Reduction Act

A. Background

Certain provisions of the amendments to Regulation SHO contain new
``collection of information'' requirements within the meaning of the
Paperwork Reduction Act of 1995 (``PRA'').\628\ We submitted the
collection of information to the Office of Management and Budget
(``OMB'') for review and approval in accordance with 44 U.S.C. 3507(d)
and 5 CFR 1320.11. An agency may not conduct or sponsor, and a person
is not required to respond to, a collection of information unless it
displays a currently valid OMB control number. The title for the
collection of information is ``Rules 201 and 200(g)'' and the OMB
control number for the collection of information is 3235-0651.
---------------------------------------------------------------------------

\628\ 44 U.S.C. 3501 et seq.
---------------------------------------------------------------------------

We are adopting amendments to Rules 201 and 200(g) of Regulation
SHO under the Exchange Act. The amendments to Rule 201 impose a short
sale-related circuit breaker that, if triggered, will impose a short
sale price test restriction on a particular security for a limited

[[Page 11279]]

period of time. Specifically, Rule 201 requires that a trading center
establish, maintain, and enforce written policies and procedures
reasonably designed to prevent the execution or display of a short sale
order of a covered security at a price that is less than or equal to
the current national best bid if the price of that covered security
decreases by 10% or more from the covered security's closing price as
determined by the listing market for the covered security as of the end
of regular trading hours on the prior day.\629\ In addition, the Rule
requires that the trading center establish, maintain, and enforce
written policies and procedures reasonably designed to impose this
short sale price test restriction for the remainder of the day and the
following day when a national best bid for the covered security is
calculated and disseminated on a current and continuing basis by a plan
processor pursuant to an effective national market system plan.\630\ In
addition, we are adopting amendments to Rule 200(g) of Regulation SHO
to provide that a broker-dealer may mark certain qualifying sell orders
``short exempt.'' In particular, if the broker-dealer chooses to rely
on its own determination that it is submitting the short sale order to
the trading center at a price that is above the current national best
bid at the time of submission or to rely on an exception specified in
the Rule, it must mark the order as ``short exempt.'' \631\
---------------------------------------------------------------------------

\629\ Rule 201(b). See also supra Section III.A.7. (discussing
the policies and procedures approach).
\630\ Id.
\631\ See Rules 200(g) and 200(g)(2); see also supra Section IV.
(discussing the amendments to Rule 200(g)).
---------------------------------------------------------------------------

B. Summary

As detailed below, several provisions under the amendments to
Regulation SHO impose a new ``collection of information'' within the
meaning of the PRA.
1. Policies and Procedures Requirement Under Rule 201
Rule 201 imposes a new ``collection of information'' within the
meaning of the PRA. Rule 201 requires that a trading center establish,
maintain, and enforce written policies and procedures reasonably
designed to prevent the execution or display of a short sale order of a
covered security at a price that is less than or equal to the current
national best bid if the price of that covered security decreases by
10% or more from the covered security's closing price as determined by
the listing market for the covered security as of the end of regular
trading hours on the prior day.\632\ In addition, the Rule requires
that the trading center establish, maintain, and enforce written
policies and procedures reasonably designed to impose this short sale
price test restriction for the remainder of the day and the following
day when a national best bid for the covered security is calculated and
disseminated on a current and continuing basis by a plan processor
pursuant to an effective national market system plan. Thus, a trading
center's policies and procedures must be reasonably designed to permit
the trading center to be able to obtain information from the single
plan processor regarding whether a covered security is subject to the
short sale price test restriction of Rule 201; if the covered security
is subject to the short sale price test restriction of Rule 201, to
determine whether or not the short sale order is priced in accordance
with the provisions of Rule 201(b); and to recognize when an order is
marked ``short exempt'' such that the trading center's policies and
procedures do not prevent the execution or display of such orders at a
price that is less than or equal to the current national best bid, even
if the covered security is subject to the short sale price test
restriction of Rule 201.\633\
---------------------------------------------------------------------------

\632\ Rule 201(b). See also supra Section III.A.7. (discussing
the policies and procedures approach).
\633\ Id.
---------------------------------------------------------------------------

At a minimum, a trading center's policies and procedures must
enable a trading center to monitor, on a real-time basis, the national
best bid, so as to determine the price at which the trading center may
execute or display a short sale order. As mentioned above, a trading
center must have policies and procedures reasonably designed to permit
the execution or display of a short sale order of a covered security
marked ``short exempt'' without regard to whether the order is at a
price that is less than or equal to the current national best bid.\634\
---------------------------------------------------------------------------

\634\ Rule 200(g)(2). The broker-dealer marking the order
``short exempt'' will have responsibility for being able to identify
on which provision of Rule 201 it was relying in marking the order
``short exempt.''
---------------------------------------------------------------------------

A trading center must also take such steps as will be necessary to
enable it to enforce its policies and procedures effectively. A trading
center must regularly surveil to ascertain the effectiveness of the
policies and procedures required under the Rule and must take prompt
action to remedy deficiencies in such policies and procedures.\635\ The
nature and extent of the policies and procedures that a trading center
must establish to comply with these requirements will depend upon the
type, size, and nature of the trading center.
---------------------------------------------------------------------------

\635\ This provision will reinforce the on-going maintenance and
enforcement requirements of Rule 201(b)(1) by explicitly assigning
an affirmative responsibility to trading centers to surveil to
ascertain the effectiveness of their policies and procedures. See
Rule 201(b)(2). We note that Rule 611(a)(2) of Regulation NMS
contains a similar provision for trading centers. See 17 CFR
242.611(a)(2).
---------------------------------------------------------------------------

2. Policies and Procedures Requirement Under the Broker-Dealer and
Riskless Principal Provisions
Rule 201 contains a broker-dealer provision that requires a new
``collection of information'' under the PRA. Rule 201(c) permits a
broker-dealer submitting a short sale order for the covered security to
a trading center to mark the order ``short exempt'' if the broker-
dealer identifies the order as being at a price above the current
national best bid at the time of submission.\636\ This provision
requires a new collection of information in that a broker-dealer
marking an order ``short exempt'' under Rule 201(c) must identify a
short sale order as priced in accordance with the requirements of Rule
201(c); establish, maintain, and enforce written policies and
procedures reasonably designed to prevent the incorrect identification
of orders as being priced in accordance with the requirements of Rule
201(c); regularly surveil to ascertain the effectiveness of these
policies and procedures, and to take prompt action to remedy
deficiencies.\637\
---------------------------------------------------------------------------

\636\ See Rule 201(c). As a result, a trading center's policies
and procedures will need to be reasonably designed to permit the
execution or display of such orders without regard to whether the
order is at a price that is less than or equal to the current
national best bid. See Rule 201(b)(1)(iii).
\637\ See Rules 201(c)(1) and 201(c)(2).
---------------------------------------------------------------------------

Rule 201 also contains a riskless principal provision that requires
a new ``collection of information'' under the PRA. Specifically, Rule
201(d)(6) permits a broker-dealer to mark as ``short exempt'' short
sale orders where broker-dealers are facilitating customer buy orders
or sell orders where the customer is net long, and the broker-dealer is
net short but is effecting the sale as riskless principal, provided
certain conditions are satisfied.\638\ This provision requires a new
collection of information in that it requires a broker-dealer marking
an order ``short exempt'' under this provision to have written policies
and procedures in place to assure that, at a

[[Page 11280]]

minimum: (i) The customer order was received prior to the offsetting
transaction; (ii) the offsetting transaction is allocated to a riskless
principal or customer account within 60 seconds of execution; and (iii)
that it has supervisory systems in place to produce records that enable
the broker-dealer to accurately and readily reconstruct, in a time-
sequenced manner, all orders on which the broker-dealer relies pursuant
to this provision.\639\
---------------------------------------------------------------------------

\638\ See Rule 201(d)(6). As a result, a trading center's
policies and procedures will need to be reasonably designed to
permit the execution or display of such orders without regard to
whether the order is at a price that is less than or equal to the
current national best bid. See Rule 201(b)(1)(iii).
\639\ See Rule 201(d)(6).
---------------------------------------------------------------------------

3. Marking Requirements
While the current marking requirements in Rule 200(g) of Regulation
SHO, which require broker-dealers to mark all sell orders of any equity
security as either ``long'' or ``short,'' \640\ remain in effect, the
amendments to Rule 200(g) add a new marking requirement of ``short
exempt.'' \641\ In particular, if the broker-dealer chooses to rely on
its own determination that it is submitting the short sale order to the
trading center at a price that is above the current national best bid
at the time of submission or to rely on an exception specified in the
Rule, it must mark the order as ``short exempt.'' \642\ The new ``short
exempt'' marking requirements impose a new collection of information.
---------------------------------------------------------------------------

\640\ 17 CFR 242.200(g).
\641\ See Rule 200(g); see also supra Section IV. (discussing
the amendments to Rule 200(g)).
\642\ See Rule 200(g)(2).
---------------------------------------------------------------------------

C. Use of Information

1. Policies and Procedures Requirement Under Rule 201
The information collected under Rule 201's written policies and
procedure requirement \643\ will help ensure that the trading center
does not execute or display any impermissibly priced short sale orders,
unless an order is marked ``short exempt,'' in accordance with the
Rule's requirements. This written policies and procedures requirement
will also provide trading centers with flexibility in determining how
to comply with the requirements of Rule 201. The information collected
also will aid the Commission and SROs that regulate trading centers in
monitoring compliance with the Rule's requirements. In addition, it
will aid trading centers and broker-dealers in complying with the
Rule's requirements.
---------------------------------------------------------------------------

\643\ See Rule 201(b).
---------------------------------------------------------------------------

2. Policies and Procedures Requirement Under the Broker-Dealer and
Riskless Principal Provisions
The broker-dealer provision in Rule 201(c) permits a broker-dealer
submitting a short sale order for the covered security to a trading
center to mark the order ``short exempt'' if the broker-dealer
identifies the order as being at a price above the current national
best bid at the time of submission.\644\ This provision includes a
policies and procedures requirement that is designed to help prevent
incorrect identification of orders for purposes of Rule 201(c)'s
broker-dealer provision. The information collected will also enable the
Commission and SROs to examine for compliance with the requirements of
the exception.
---------------------------------------------------------------------------

\644\ See Rule 201(c).
---------------------------------------------------------------------------

Moreover, the information collected under the written policies and
procedures requirement in the riskless principal exception in Rule
201(d)(6) \645\ will help assure that broker-dealers comply with the
requirements of this provision. The information collected will also
enable the Commission and SROs to examine for compliance with the
requirements of the exception.
---------------------------------------------------------------------------

\645\ See Rule 201(d)(6).
---------------------------------------------------------------------------

3. Marking Requirements
The amendments to Rule 200(g) add a new marking requirement of
``short exempt.'' \646\ In particular, if the broker-dealer chooses to
rely on its own determination that it is submitting the short sale
order to the trading center at a price that is above the current
national best bid at the time of submission or to rely on an exception
specified in the Rule, it must mark the order as ``short exempt.''
\647\ The purpose of the information collected is to enable the
Commission and SROs to monitor whether a person entering a sell order
covered by Rule 201 is acting in accordance with one of the provisions
contained in paragraph (c) or (d) of the Rule. In particular, the
``short exempt'' marking requirement will provide a record that will
aid in surveillance for compliance with the provisions of Rule 201. It
also will provide an indication to a trading center regarding whether
or not it must execute or display a short sale order in accordance with
the Rule's provisions. In addition, it will help a trading center
determine whether its policies and procedures are reasonable and
whether its surveillance is effective.
---------------------------------------------------------------------------

\646\ See Rule 200(g); see also supra Section IV. (discussing
the amendments to Rule 200(g)).
\647\ See Rule 200(g)(2).
---------------------------------------------------------------------------

D. Respondents

As discussed below, the Commission has considered each of the
following respondents for the purposes of calculating the reporting
burdens under the amendments to Rules 200(g) and 201 of Regulation SHO.
1. Policies and Procedures Requirement Under Rule 201
Rule 201 requires each trading center to establish, maintain, and
enforce written policies and procedures reasonably designed to prevent
the execution or display of a short sale order of a covered security at
a price that is less than or equal to the current national best bid
during the period when the circuit breaker is in effect, unless an
exception applies.\648\ A ``trading center'' is defined as ``a national
securities exchange or national securities association that operates an
SRO trading facility, an alternative trading system, an exchange market
maker, an OTC market maker, or any other broker or dealer that executes
orders internally by trading as principal or crossing orders as
agent.'' \649\ Because Rule 201 applies to any trading center that
executes or displays a short sale order in a covered security, the Rule
applies to 10 registered national securities exchanges that trade
covered securities (or ``SRO trading centers''),\650\ and approximately
407 broker-dealers (including ATSs) registered with the Commission (or
``non-SRO trading centers'').\651\
---------------------------------------------------------------------------

\648\ See Rule 201(b).
\649\ See Rule 201(a)(9); see also 17 CFR 242.600(b)(78).
\650\ Currently, there are 10 national securities exchanges (BX,
BATS, CBOE, CHX, ISE, Nasdaq, NSX, NYSE, NYSE Amex, and NYSE Arca)
that operate an SRO trading facility for covered securities and thus
will be subject to the Rule. The Proposal indicated that one
national securities association (FINRA) would also be subject to the
Rule. See Proposal, 74 FR at 18086, n.334. However, FINRA operates
an SRO display-only facility for covered securities, rather than an
SRO trading facility, and thus is not subject to the Rule.
\651\ This number includes the approximately 357 firms that were
registered equity market makers or specialists at year-end 2008
(this number was derived from annual FOCUS reports and discussion
with SRO staff), as well as the 50 ATSs that operate trading systems
that trade covered securities. The Commission believes it is
reasonable to estimate that in general, firms that are block
positioners--i.e., firms that are in the business of executing
orders internally--are the same firms that are registered market
makers (for instance, they may be registered as a market maker in
one or more Nasdaq stocks and carry on a block positioner business
in exchange-listed stocks), especially given the amount of capital
necessary to carry on such a business.

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

[[Page 11281]]

2. Policies and Procedures Requirement Under the Broker-Dealer and
Riskless Principal Provisions
The collection of information required in connection with the
broker-dealer provision in Rule 201(c) and in connection with the
riskless principal provision in Rule 201(d)(6) applies to all
registered brokers-dealers submitting short sale orders in reliance on
these provisions. While not all broker-dealers likely will enter sell
orders in securities covered by the amendments to Rules 200(g) and 201
in a manner that will subject them to this collection of information,
we estimate, for purposes of the PRA, that all of the approximately
5,178 \652\ registered broker-dealers will do so.
---------------------------------------------------------------------------

\652\ This number is based on a review of 2008 FOCUS Report
filings reflecting registered broker-dealers, including introducing
broker-dealers. This number does not include broker-dealers that are
delinquent on FOCUS Report filings.
---------------------------------------------------------------------------

3. Marking Requirements
The collection of information that is required pursuant to the
``short exempt'' marking requirements of Rule 200(g) applies to all
registered brokers-dealers submitting short sale orders marked ``short
exempt'' in accordance with the provisions contained in paragraph (c)
or (d) of Rule 201. While not all broker-dealers likely will enter sell
orders in securities covered by the amendments to Rules 200(g) and 201
in a manner that will subject them to this collection of information,
we estimate, for purposes of the PRA, that all of the approximately
5,178 \653\ registered broker-dealers will do so.
---------------------------------------------------------------------------

\653\ Id.
---------------------------------------------------------------------------

E. Total Annual Reporting and Recordkeeping Burdens

1. Policies and Procedures Requirement Under Rule 201
Rule 201 requires each trading center to establish, maintain, and
enforce written policies and procedures reasonably designed to prevent
the execution or display of a short sale order of a covered security at
a price that is less than or equal to the current national best bid
during the period when the circuit breaker is in effect.\654\ Thus,
trading centers must develop written policies and procedures reasonably
designed to permit the trading center to be able to obtain information
from the single plan processor regarding whether a covered security is
subject to the short sale price test restriction of Rule 201; if the
covered security is subject to the short sale price test restriction of
Rule 201, to determine whether or not the short sale order is priced in
accordance with the provisions of Rule 201(b); and to recognize when an
order is marked ``short exempt'' such that the trading center's
policies and procedures do not prevent the execution or display of such
orders at a price that is less than or equal to the current national
best bid, even if the covered security is subject to the short sale
price test restriction of Rule 201.
---------------------------------------------------------------------------

\654\ See Rule 201(b)(1).
---------------------------------------------------------------------------

In the Proposal, we provided estimates of the reporting and
recordkeeping burdens for trading centers under the proposed short sale
price test restrictions, both on a permanent, market-wide basis and in
conjunction with a circuit breaker.\655\ We also requested comment, in
the Proposal and the Re-Opening Release, as to whether the proposed
burden estimates were appropriate or whether such estimates should be
increased or reduced, and if so, for which entities and by how
much.\656\
---------------------------------------------------------------------------

\655\ See Proposal, 74 FR at 18087.
\656\ See Proposal, 74 FR at 18088; Re-Opening Release, 74 FR at
42036.
---------------------------------------------------------------------------

One commenter provided a cost estimate, including costs for
``development man-hours'' of $500,000 per firm for implementation of a
new short sale price test restriction by trading centers, either on a
permanent, market-wide basis, or in conjunction with a circuit
breaker.\657\ One commenter stated that a new short sale price test
restriction would involve ``significant implementation costs'' and
``the generation and retention of voluminous compliance reports'' but
did not provide a specific estimate of the cost or hours that would be
involved.\658\ Several commenters expressed general concerns regarding
the time and cost that would be imposed for implementation and on-going
monitoring and surveillance of a new short sale price test restriction,
including a policies and procedures requirement, but did not provide
specific estimates of such time and cost.\659\
---------------------------------------------------------------------------

\657\ Letter from Wolverine. Wolverine provided an estimate of
$500,000 per firm for implementation costs, which it applied to both
non-SRO trading centers and other registered broker-dealers.
\658\ Letter from EWT (Sept. 2009).
\659\ See, e.g., letter from RBC (June 2009); letter from STANY
(June 2009); letter from CPIC (June 2009); letter from EWT (Sept.
2009); letter from RBC (Sept. 2009). We received time estimates only
with respect to the Commission's proposed implementation time and
did not receive comments regarding estimated PRA burden hours. See
supra Section VII. (discussing comments on implementation time).
---------------------------------------------------------------------------

We considered these comments in reviewing the burden estimates for
trading centers that we proposed with respect to the collection of
information requirements in Rule 201. We believe that the cost and time
required for implementation of Rule 201 will be lower than some
commenters' stated estimates \660\ because we believe that the
implementation and on-going monitoring and surveillance costs of the
alternative uptick rule will be lower than the implementation and on-
going monitoring and surveillance costs that would be associated with
adoption of the proposed modified uptick rule or the proposed uptick
rule. Unlike the proposed modified uptick rule and the proposed uptick
rule, which would have required sequencing of the national best bid or
last sale price (i.e., whether the current national best bid or last
sale price is above or below the previous national best bid or last
sale price), the alternative uptick rule references only the current
national best bid.
---------------------------------------------------------------------------

\660\ We received comments expressing concerns about the
implementation and on-going monitoring and compliance costs of a
short sale price test restriction that were not specific to the
alternative uptick rule. See, e.g., letter from RBC (June 2009);
letter from STANY (June 2009); letter from CPIC (June 2009); letter
from Wolverine.
---------------------------------------------------------------------------

A number of commenters stated that because the alternative uptick
rule would not require monitoring of the sequence of bids or last sale
prices, implementing the alternative uptick rule would be less costly
\661\ or easier than implementing the proposed modified uptick rule or
the proposed uptick rule.\662\ In addition, several commenters stated
that the alternative uptick rule would be easier to program into
trading and surveillance systems than the proposed modified uptick rule
or the proposed uptick rule.\663\ Another commenter stated, with
respect to the alternative uptick rule, that ``actual implementation
costs in terms of time and capital expenditure would be

[[Page 11282]]

negligible when compared to those involved in implementing either the
uptick rule or modified uptick rule.'' \664\
---------------------------------------------------------------------------

\661\ See, e.g., letter from BATS (May 2009); letter from
Michael L. Crowl, Managing Director, Global General Counsel,
Barclays Global Investors, dated Sept. 21, 2009 (``Barclays (Sept.
2009)''); letter from BATS (Sept. 2009); letter from GETCO (Sept.
2009); letter from ICI (Sept. 2009); letter from Glen Shipway (Sept.
2009); letter from STA (Sept. 2009). In addition, several commenters
acknowledged that implementation of the alternative uptick rule will
likely be less costly, without referencing the sequencing issue.
See, e.g., letter from Atherton Lane; letter from STANY (Sept.
2009).
\662\ See, e.g., letter from Credit Suisse (June 2009); letter
from Goldman Sachs (June 2009); letter from SIFMA (June 2009);
letter from Glen Shipway (Sept. 2009); letter from SIFMA (Sept.
2009). In addition, one commenter acknowledged that implementation
of the alternative uptick rule will likely be easier, without
referencing the sequencing issue. See letter from Allston Trading
(Sept. 2009).
\663\ See, e.g., letter from BATS (May 2009); letter from
Goldman Sachs (June 2009); letter from Glen Shipway (Sept. 2009);
letter from ICI (Sept. 2009); see also letter from National Stock
Exchange et al.
\664\ Letter from BATS (Sept. 2009).
---------------------------------------------------------------------------

Several commenters indicated that implementation of the alternative
uptick rule would not be easier or less costly than implementation of
the proposed modified uptick rule or the proposed uptick rule.\665\
However, we note that some of these commenters presented concerns that
were not directly related to the alternative uptick rule \666\ or to
implementation costs or difficulties.\667\ Additionally, one commenter
did not provide the reasoning for its belief that the alternative
uptick rule would not be easier or less costly to implement.\668\
---------------------------------------------------------------------------

\665\ See, e.g., letter from Matlock Capital (Sept. 2009);
letter from NYSE Euronext (Sept. 2009); letter from RBC (Sept.
2009); letter from Knight Capital (Sept. 2009).
\666\ See, e.g., letter from NYSE Euronext (Sept. 2009) (stating
that implementation of the alternative uptick rule would be more
difficult on the basis that the alternative uptick rule would be
paired with a circuit breaker and attributing implementation
difficulties to the circuit breaker approach, not the alternative
uptick rule); letter from RBC (Sept. 2009) (expressing concern about
the implementation cost of any short sale price test restriction in
general).
\667\ See, e.g., letter from Knight Capital (Sept. 2009)
(characterizing a potential increase in friction, confusion, or
inefficiency in the market as an implementation difficulty that may
arise from the alternative uptick rule).
\668\ See letter from Matlock Capital (Sept. 2009).
---------------------------------------------------------------------------

Several commenters indicated that their belief that other
commenters' estimates regarding the difficulty or costs of implementing
and monitoring the proposed modified uptick rule and the proposed
uptick rule were exaggerated.\669\ We recognize that some commenters'
estimates of the costs of the proposed modified uptick rule or the
proposed uptick rule may have been conservative. We also believe that
because the alternative uptick rule does not include a sequencing
requirement, the implementation and on-going monitoring and
surveillance costs of the alternative uptick rule will be less than
such costs would be with respect to the other proposed short sale price
test restrictions.
---------------------------------------------------------------------------

\669\ See, e.g., letter from Matlock Capital (Sept. 2009);
letter from ISE (Sept. 2009); letter from Bingham McCutchen.
---------------------------------------------------------------------------

In addition, as noted in the Proposal, while we have based our
burden estimates, in part, on the burden estimates provided in
connection with the adoption of Regulation NMS,\670\ we believe that
these estimates may be on the high end because trading centers have
already had to establish policies and procedures in connection with
that Regulation's Order Protection Rule, which could help form the
basis for the policies and procedures for Rule 201. Several commenters
agreed, stating that previous experience with the policies and
procedures required under Regulation NMS might reduce the
implementation and on-going monitoring and compliance burdens on
trading centers.\671\ In contrast, some commenters indicated that the
Commission overstated the benefit of such previous experience,\672\
because, for example, ``systems re-written and architected for Reg NMS
* * * did not include any short sale restrictions,'' \673\ or because
such systems will require modifications in order to be used in the
context of a short sale price test restriction.\674\ However, we
considered these issues when considering the impact of previous
experience with the policies and procedures requirement of Regulation
NMS's Order Protection Rule. We continue to believe that because most
trading centers already have in place systems and written policies and
procedures to comply with Regulation NMS's Order Protection Rule, most
trading centers will already be already familiar with establishing,
maintaining, and enforcing trading-related policies and procedures,
which will mitigate the burden of implementation of the policies and
procedures requirement under Rule 201. We realize, however, that the
exact nature and extent of the policies and procedures that a trading
center is required to establish likely will vary depending upon the
type, size, and nature of the trading center. Thus, our estimates take
into account different types of trading centers and we realize that
these estimates may be on the low-end for some trading centers while
they may be on the high-end for other trading centers.
---------------------------------------------------------------------------

\670\ See Regulation NMS Adopting Release, 70 FR 37496; see also
Proposal, 74 FR at 18087.
\671\ See, e.g., letter from EWT (Sept. 2009); letter from MFA
(Oct. 2009).
\672\ See, e.g., letter from FIF (June 2009); letter from NSCP;
letter from RBC (June 2009).
\673\ Letter from FIF (June 2009); see also letter from RBC
(June 2009).
\674\ See letter from NSCP; letter from RBC (June 2009).
---------------------------------------------------------------------------

We considered whether our estimates of the burdens associated with
the collection of information requirements for trading centers with
respect to the proposed modified uptick rule included in the Proposal
\675\ would change under the circuit breaker approach of Rule 201, but,
as discussed below, concluded that these estimates continue to
represent reasonable estimates under the circuit breaker approach in
combination with the alternative uptick rule.
---------------------------------------------------------------------------

\675\ See Proposal, 74 FR at 18087.
---------------------------------------------------------------------------

Despite some commenters' concerns regarding the implementation
costs of a circuit breaker rule,\676\ we believe that the circuit
breaker approach will result in largely the same implementation costs
as we estimated would be incurred if we adopted a permanent, market-
wide short sale price test restriction.\677\ As one commenter stated
``[o]nce the price test is in place, there is minimal incremental
effort required to add a Circuit Breaker that controls the application
of the price test.'' \678\ Similarly, another commenter stated that
``[t]he additional coding required to implement a circuit breaker is
minimal * * *'' \679\ We believe that there will be only minimal, if
any, implementation costs for a circuit breaker approach in addition to
the costs we estimated previously for the implementation of a
permanent, market-wide short sale price test rule because trading
centers would need to establish written policies and procedures to
implement the short sale price test restriction regardless of whether
the short sale price test restriction is adopted on a permanent,
market-wide basis or, in the case of Rule 201, adopted in conjunction
with a circuit breaker. Several other commenters agreed, stating that
the costs of the circuit breaker approach would be similar to, or only
incrementally higher than, the costs of a permanent, market-wide
approach.\680\
---------------------------------------------------------------------------

\676\ See, e.g., letter from T. Rowe Price (June 2009); letter
from Glen Shipway (June 2009); see also letter from STANY (June
2009) (stating that costs savings of a circuit breaker approach
would be reduced if the circuit breaker triggered a short sale price
test restriction); letter from NYSE Euronext (Sept. 2009) (stating
that ``a circuit breaker approach raises significant implementation
complexities''); letter from SIFMA (June 2009) (including a survey
reflecting implementation costs of a circuit breaker triggering a
short sale price test based on the national best bid). We note that
one commenter indicated that adoption of a circuit breaker approach
would add approximately four to six weeks to the implementation time
of the alternative uptick rule. See letter from Direct Edge (Sept.
2009); see also supra Section VII. (discussing comments on
implementation time).
\677\ See Proposal, 74 FR at 18087.
\678\ Letter from Nasdaq OMX Group (Oct. 2009).
\679\ Letter from Credit Suisse (Sept. 2009).
\680\ See, e.g., letter from STA (June 2009).
---------------------------------------------------------------------------

In addition, with respect to on-going monitoring and surveillance
costs of the circuit breaker approach, we recognize, as noted by one
commenter,\681\ that trading centers will need to continuously monitor
whether a security is subject to the provisions of Rule 201 and that
there will be costs associated with such monitoring. However, we
believe that these costs will be offset because, under the circuit
breaker approach, the alternative uptick rule is time limited and will
only apply

[[Page 11283]]

on a stock-by-stock basis, which will reduce our previously estimated
costs for on-going monitoring and surveillance. This is because trading
centers only need to monitor and surveil for compliance with the
alternative uptick rule during the limited period of time that the
circuit breaker is in effect with respect to a specific security. As
such, the circuit breaker approach will allow regulatory, supervisory
and compliance resources to focus on, and to address, those situations
where a specific security is experiencing significant downward price
pressure. As noted by one commenter, a circuit breaker ``is
particularly efficient in stable and rising markets because it avoids
imposing continuous monitoring and compliance costs where there is
little or no corresponding risk of abusive short selling.'' \682\
---------------------------------------------------------------------------

\681\ See letter from Glen Shipway (June 2009).
\682\ Letter from Nasdaq OMX Group (Oct. 2009); see also letter
from SIFMA (Sept. 2009).
---------------------------------------------------------------------------

Further, although, under the circuit breaker approach, market
participants will need to monitor whether a stock is subject to Rule
201, we believe that familiarity with a circuit breaker approach may
help mitigate such compliance costs. As discussed in the Proposal,
currently, all stock exchanges and FINRA have rules or policies to
implement coordinated circuit breaker halts.\683\ Moreover, SROs have
rules or policies in place to coordinate individual security trading
halts corresponding to significant news events.\684\
---------------------------------------------------------------------------

\683\ See supra note 292.
\684\ See, e.g., FINRA Rule 6120; see also Proposal, 74 FR at
18065-18066 (discussing the background on circuit breakers).
---------------------------------------------------------------------------

On balance, we believe that the estimates of the burdens associated
with the collection of information requirements for trading centers
included in the Proposal \685\ are appropriate with respect to Rule
201. Thus, our estimates have not changed from the Proposal, except to
the extent that total burden estimates have changed because we have
updated the estimated number of trading centers.\686\
---------------------------------------------------------------------------

\685\ See Proposal, 74 FR at 18087.
\686\ The Proposal indicated that there were approximately 372
non-SRO trading centers, including approximately 325 firms that were
registered equity market makers or specialists at year-end 2007
(this number was derived from annual FOCUS reports and discussion
with SRO staff), as well as 47 ATSs that operate trading systems
that trade NMS stocks. See Proposal, 74 FR at 18086. We now estimate
that there are approximately 407 non-SRO trading centers, including
approximately 357 firms that were registered equity market makers or
specialists at year-end 2008 (this number was derived from annual
FOCUS reports and discussion with SRO staff), as well as 50 ATSs
that operate trading systems that trade covered securities. See
supra note 651. We also note that the number of SRO trading centers
has changed from 11 in the Proposal to 10. See supra note 650.
---------------------------------------------------------------------------

Although the exact nature and extent of the policies and procedures
that a trading center must establish likely will vary depending upon
the nature of the trading center (e.g., SRO vs. non-SRO, full service
broker-dealer vs. market maker), we estimate that it initially will, on
average, take an SRO trading center approximately 220 hours \687\ of
legal, compliance, information technology and business operations
personnel time,\688\ and a non-SRO trading center approximately 160
hours \689\ of legal, compliance, information technology and business
operations personnel time,\690\ to develop the required policies and
procedures.
---------------------------------------------------------------------------

\687\ For purposes of this adopting release, we are basing our
estimates on the burden hour estimates provided in connection with
the adoption of Regulation NMS because the policies and procedures
developed in connection with that Regulation's Order Protection Rule
are in many ways similar to what a trading center will need to do to
comply with Rule 201. See Regulation NMS Adopting Release, 70 FR
37496; see also Proposal, 74 FR at 18087. We note, however, that
these estimates may be on the high end because trading centers have
already had to establish similar policies and procedures to comply
with Regulation NMS.
\688\ Based on experience and estimates provided in connection
with Regulation NMS, we anticipate that of the 220 hours we estimate
will be spent to establish the required policies and procedures, 70
hours will be spent by legal personnel, 105 hours will be spent by
compliance personnel, 20 hours will be spent by information
technology personnel and 25 hours will be spent by business
operations personnel of the SRO trading center.
\689\ For purposes of this adopting release, we are basing our
estimates on the burden hour estimates provided in connection with
the adoption of Regulation NMS because the policies and procedures
developed in connection with that Regulation's Order Protection Rule
are in many ways similar to what a trading center will need to do to
comply with the Rule 201. See Regulation NMS Adopting Release, 70 FR
37496; see also Proposal, 74 FR at 18087. We note, however, that
these estimates may be on the high end because trading centers have
already had to establish similar policies and procedures to comply
with Regulation NMS.
\690\ Based on experience and the estimates provided in
connection with Regulation NMS, we anticipate that of the 160 hours
we estimate will be spent to establish policies and procedures, 37
hours will be spent by legal personnel, 77 hours will be spent by
compliance personnel, 23 hours will be spent by information
technology personnel and 23 hours will be spent by business
operations personnel of the non-SRO trading center.
---------------------------------------------------------------------------

In addition to these estimates (of 220 hours for SRO respondents
and 160 hours for non-SRO respondents), we expect that SRO and non-SRO
respondents will incur one-time external costs for outsourced legal
services. While we recognize that the amount of legal outsourcing
utilized to help establish written policies and procedures may vary
widely from entity to entity, we estimate that on average, each trading
center will outsource 50 hours of legal time in order to establish
policies and procedures in accordance with the amendments.\691\
---------------------------------------------------------------------------

\691\ As discussed above, we base our burden estimate of 50
hours of outsourced legal time on the burden estimate used for
Regulation NMS because the policies and procedures developed in
connection with that Regulation's Order Protection Rule are in many
ways similar to what a trading center will need to do to comply with
Rule 201. See Regulation NMS Adopting Release, 70 FR 37496; see also
Proposal, 74 FR at 18087.
---------------------------------------------------------------------------

We estimate that there will be an initial one-time burden of, on
average, 220 (not including the outsourced 50 hours of legal time)
burden hours per SRO trading center or 2,200 hours,\692\ and, on
average, 160 (not including the outsourced 50 hours of legal time)
burden hours per non-SRO trading center or 65,120 hours,\693\ for a
total of 67,320 burden hours to establish the required written policies
and procedures.\694\ We estimate a cost of, on average, approximately
$8,340,000 for both SRO and non-SRO trading centers resulting from
outsourced legal work.\695\
---------------------------------------------------------------------------

\692\ The estimated 2,200 burden hours necessary for SRO trading
centers to establish policies and procedures are calculated by
multiplying 10 times 220 hours (10 x 220 hours = 2,200 hours).
\693\ The estimated 65,120 burden hours necessary for non-SRO
trading centers to establish policies and procedures are calculated
by multiplying 407 times 160 hours (407 x 160 hours = 65,120 hours).
\694\ See Rule 201(b).
\695\ This figure was calculated as follows: (50 legal hours x
$400 x 10 SRO trading centers) + (50 legal hours x $400 x 407 non-
SRO trading centers) = $8,340,000. Based on industry sources, we
estimate that the average hourly rate for outsourced legal services
in the securities industry is $400.
---------------------------------------------------------------------------

Once a trading center has established the required written policies
and procedures, we estimate that, on average, it will take an SRO and
non-SRO trading center each approximately two hours per month of on-
going internal legal time and three hours of on-going internal
compliance time to ensure that its written policies and procedures are
up-to-date and remain in compliance with the amendments to Rule 201, or
a total of 60 hours annually per respondent.\696\ In addition, we
estimate that, on average, it will take an SRO and non-SRO trading
center each approximately 16 hours per month of on-going compliance
time, 8 hours per month of on-going information technology time, and 4
hours per month of on-going legal time associated with on-going
monitoring and surveillance for and enforcement of trading in

[[Page 11284]]

compliance with Rule 201, or a total of 336 hours annually per
respondent.\697\
---------------------------------------------------------------------------

\696\ This figure was calculated as follows: (2 legal hours x 12
months) + (3 compliance hours x 12 months) = 60 hours annually per
respondent. As discussed above, this burden estimate of 60 hours is
based on experience and what was estimated for Regulation NMS to
ensure that written policies and procedures were up-to-date and
remained in compliance. See Regulation NMS Adopting Release, 70 FR
37496; see also Proposal, 74 FR at 18087.
\697\ This figure was calculated as follows: (16 compliance
hours x 12 months) + (8 information technology hours x 12 months) +
(4 legal hours x 12 months) = 336 hours annually per respondent. As
discussed above, this burden estimate of 336 hours is based on
experience and what was estimated for Regulation NMS regarding
similarly required on-going monitoring and surveillance for and
enforcement of trading in compliance with that regulation's policies
and procedures requirement.
---------------------------------------------------------------------------

2. Policies and Procedures Requirement Under the Broker-Dealer and
Riskless Principal Provisions
To rely on the broker-dealer provision of Rule 201(c), a broker-
dealer marking a short sale order in a covered security ``short
exempt'' under Rule 201(c) must identify the order as being at a price
above the current national best bid at the time of submission to the
trading center and must establish, maintain, and enforce written
policies and procedures that are reasonably designed to prevent the
incorrect identification of orders as being submitted to the trading
center at a permissible price.\698\ At a minimum, the broker-dealer's
policies and procedures must be reasonably designed to enable a broker-
dealer to monitor, on a real-time basis, the national best bid so as to
determine the price at which the broker-dealer may submit a short sale
order to a trading center in compliance with the requirements of Rule
201(c). In addition, a broker-dealer must take such steps as necessary
to enable it to enforce its policies and procedures effectively.\699\
---------------------------------------------------------------------------

\698\ See Rule 201(c).
\699\ This will include the requirement that broker-dealers
regularly surveil to ascertain the effectiveness of their policies
and procedures and take prompt remedial steps. This provision is
intended to reinforce the on-going maintenance and enforcement
requirements of the provision contained in Rule 201(c)(1) by
explicitly assigning an affirmative responsibility to broker-dealers
to surveil to ascertain the effectiveness of their policies and
procedures. See Rule 201(c)(2).
---------------------------------------------------------------------------

To rely on the riskless principal provision under Rule 201(d)(6) a
broker-dealer must have written policies and procedures in place to
assure that, at a minimum: (i) The customer order was received prior to
the offsetting transaction; (ii) the offsetting transaction is
allocated to a riskless principal or customer account within 60 seconds
of execution; and (iii) that it has supervisory systems in place to
produce records that enable the broker-dealer to accurately and readily
reconstruct, in a time-sequenced manner, all orders on which the
broker-dealer relies pursuant to this provision.\700\
---------------------------------------------------------------------------

\700\ See Rule 201(d)(6).
---------------------------------------------------------------------------

In the Proposal, we provided estimates of the reporting and
recordkeeping burdens for broker-dealers to implement, monitor and
surveil on an on-going basis the policies and procedures required to
rely on the broker-dealer provision of Rule 201(c) or the riskless
principal provision under Rule 201(d)(6).\701\ We also requested
comment, in the Proposal and the Re-Opening Release, as to whether the
proposed burden estimates were appropriate or whether such estimates
should be increased or reduced, and if so, for which entities and by
how much.\702\ The following discussion of comments on the proposed
burden estimates for broker-dealers includes comments that were
discussed above with respect to the burden estimates for trading
centers \703\ because, in some cases, commenters provided comments and
estimates on the costs of establishing and monitoring policies and
procedures under the proposed short sale price tests without
distinguishing between costs that would be applicable to trading
centers as opposed to broker-dealers.
---------------------------------------------------------------------------

\701\ See Proposal, 74 FR at 18088-18089.
\702\ See Proposal, 74 FR at 18089; Re-Opening Release, 74 FR at
42036.
\703\ See supra Section IX.E.1. (discussing reporting and
recordkeeping burdens for trading centers).
---------------------------------------------------------------------------

One commenter provided a cost estimate, including costs for
``development man-hours'' of $500,000 per firm for implementation of
Rule 201 by broker-dealers.\704\ One commenter stated that a new short
sale price test restriction would involve ``significant implementation
costs'' and ``the generation and retention of voluminous compliance
reports'' but did not provide a specific estimate of the cost or hours
that would be involved.\705\ Several commenters expressed general
concerns regarding the time and cost that would be imposed on market
participants for implementation and on-going monitoring and
surveillance of a new short sale price test restriction, including a
policies and procedures requirement but did not provide specific
estimates of such time and cost.\706\
---------------------------------------------------------------------------

\704\ Letter from Wolverine. Wolverine provided an estimate of
$500,000 per firm for implementation costs, which it applied to both
non-SRO trading centers and other registered broker-dealers.
\705\ Letter from EWT (Sept. 2009). EWT also did not specify
whether this comment on our estimated annual reporting and
recordkeeping burdens with respect to provisions of the proposed
rules that would require a new ``collection of information'' was
specific to the provisions applicable to trading centers or to the
provisions applicable to broker-dealers.
\706\ See, e.g., supra note 659. These commenters' concerns
regarding implementation costs either were expressed with respect to
market participants generally or included references to obligations
that would be imposed on, or changes that would have to be made by,
broker-dealers.
---------------------------------------------------------------------------

In addition, several commenters noted that implementation and on-
going monitoring and surveillance of the requirements of the broker-
dealer provision would impose significant costs on broker-dealers, but
did not provide an estimate of such costs.\707\ Several commenters
stated that the costs of the broker-dealer provision could be
particularly burdensome for smaller broker-dealers, but did not provide
a time or cost estimate of such burdens.\708\
---------------------------------------------------------------------------

\707\ See, e.g., letter from Credit Suisse (June 2009); letter
from FIF (June 2009); letter from Lime Brokerage (June 2009); letter
from NSCP; letter from STANY (June 2009); letter from EWT (Sept.
2009).
\708\ See, e.g., letter from Credit Suisse (June 2009); letter
from NSCP; letter from T.D. Pro Ex. We received time estimates on
the Commission's proposed implementation time, but did not receive
comments with respect to the estimated PRA burden hours. See supra
Section VII. (discussing comments on implementation time).
---------------------------------------------------------------------------

We considered these comments in reviewing the burden estimates for
broker-dealers that we proposed with respect to the collection of
information requirements in Rule 201. We believe that the cost and time
required for implementation and on-going monitoring and surveillance of
the policies and procedures required to rely on the broker-dealer
provision of Rule 201(c) will be lower than some commenters' stated
estimates \709\ because the alternative uptick rule references only the
current national best bid, unlike the proposed modified uptick rule and
the proposed uptick rule, which would have required sequencing of the
national best bid or last sale price.\710\ Because the alternative
uptick rule does not require sequencing of the national best bid, we
believe that the policies and procedures required in order to rely on
the broker-dealer provision under the alternative uptick rule, which
are similar to those required for non-SRO trading centers in complying
with paragraph (b) of Rule 201, will be easier and less costly to

[[Page 11285]]

implement and monitor than would be the case under the proposed
modified uptick rule or the proposed uptick rule.\711\ We note that one
of the commenters that expressed concerns about the implementation cost
of the broker-dealer provision also acknowledged that a rule ``that
would not require data centralization and sequencing would be
significantly less complex and faster to implement.'' \712\
---------------------------------------------------------------------------

\709\ We received comments expressing concerns about the
implementation and on-going monitoring and compliance costs to
broker-dealers of a short sale price test restriction that were not
specific to the alternative uptick rule. See, e.g., letter from
Credit Suisse (June 2009); letter from RBC (June 2009); letter from
STANY (June 2009); letter from CPIC (June 2009); letter from
Wolverine; letter from T.D. Pro Ex; letter from FIF (June 2009);
letter from Lime Brokerage (June 2009); letter from NSCP.
\710\ We also note that it is possible that some smaller broker-
dealers that determine to rely on the broker-dealer provision may
determine that it is cost-effective for them to outsource certain
functions necessary to comply with Rule 201(c) to larger broker-
dealers, rather than performing such functions in house, to remain
competitive in the market. This may help mitigate costs associated
with implementing and complying with Rule 201(c). Additionally, they
may decide to purchase order management software from technology
firms. Order management software providers may integrate changes
imposed by Rules 200(g) and 201 into their products, thereby
providing another cost-effective way for smaller broker-dealers to
comply with the requirement of Rule 201(c).
\711\ See supra notes 660 to 669 and accompanying text
(discussing comments on the impact of the alternative uptick rule on
implementation and on-going monitoring and compliance costs).
\712\ Letter from Credit Suisse (June 2009).
---------------------------------------------------------------------------

We disagree with several commenters who stated that, although
implementation and on-going monitoring and surveillance of the
alternative uptick rule might be easier and/or less costly for trading
centers, this would not hold true for broker-dealers.\713\ One of these
commenters stated that ``in order to avoid rejection of short sale
orders under an alternative uptick rule, programming would need to be
implemented to anticipate changes in the national best bid between the
time a short sale order is entered and the time it reaches the relevant
market center.'' \714\ However, the broker-dealer provision of Rule
201(c) is designed specifically to help avoid this result. Under the
broker-dealer provision, a broker-dealer may, in accordance with the
policies and procedures required by the provision, identify the order
as being at a price that is above the current national best bid at the
time the order is submitted to the trading center and mark the order
``short exempt.'' Trading centers are required to have written policies
and procedures in place to permit the execution or display of a short
sale order of a covered security marked ``short exempt'' without regard
to whether the order is at a price that is less than or equal to the
current national best bid.\715\
---------------------------------------------------------------------------

\713\ See, e.g., letter from Citadel et al. (Sept. 2009); letter
from EWT (Sept. 2009); letter from Lime Brokerage (Sept. 2009).
\714\ Letter from Citadel et al. (Sept. 2009).
\715\ See Rule 201(b)(1)(iii).
---------------------------------------------------------------------------

In addition, as noted in the Proposal, while we have based our
burden estimates on the burden estimates provided in connection with
the adoption of Regulation NMS with respect to non-SRO trading centers
(which includes broker-dealers),\716\ we note that these estimates may
be on the high end for those broker-dealers that have already had to
establish policies and procedures in connection with that Regulation's
Order Protection Rule, which could help form the basis for the policies
and procedures for the broker-dealer provision of Rule 201(c), or the
riskless principal provision under Rule 201(d)(6). Several commenters
agreed, indicating that broker-dealers' previous experience with the
policies and procedures required under Regulation NMS might reduce the
implementation and on-going monitoring and compliance burdens on
broker-dealers.\717\ Some commenters stated that the Commission
overstated the benefit of such previous experience \718\ because, for
example, ``systems re-written and architected for Reg NMS * * * did not
include any short sale restrictions,'' \719\ or because such systems
will require modifications in order to be used in the context of a
short sale price test restriction.\720\ However, we considered these
issues when considering the impact of previous experience with the
policies and procedures requirement of Regulation NMS's Order
Protection Rule. We continue to believe that because broker-dealers may
already have in place systems and written policies and procedures in
connection with Regulation NMS's Order Protection Rule, those broker-
dealers will already be familiar with establishing, maintaining, and
enforcing trading-related policies and procedures, which will mitigate
the burden of implementation of the policies and procedures requirement
under the broker-dealer provision of Rule 201(c), or the riskless
principal provision under Rule 201(d)(6). We realize, however, that the
exact nature and extent of the policies and procedures that a broker-
dealer must establish likely will vary depending upon the type, size,
and nature of the broker-dealer. Thus, our estimates take into account
different types of broker-dealers and we realize that these estimates
may be on the low-end for some broker-dealers while they may be on the
high-end for other broker-dealers.
---------------------------------------------------------------------------

\716\ See supra note 670.
\717\ See, e.g., letter from EWT (Sept. 2009); letter from MFA
(Oct. 2009).
\718\ See, e.g., letter from FIF (June 2009); letter from NSCP;
letter from RBC (June 2009).
\719\ Letter from FIF (June 2009); see also letter from RBC
(June 2009).
\720\ See letter from NSCP; letter from RBC (June 2009).
---------------------------------------------------------------------------

We considered whether our estimates of the burdens associated with
the collection of information requirements for broker-dealers with
respect to the proposed modified uptick rule included in the Proposal
\721\ would change under the circuit breaker approach of Rule 201, but
concluded, as discussed below, that these estimates continue to
represent reasonable estimates under the circuit breaker approach.
---------------------------------------------------------------------------

\721\ See Proposal, 74 FR at 18088-18089.
---------------------------------------------------------------------------

As discussed previously,\722\ despite some commenters' concerns
regarding the implementation costs of a circuit breaker rule,\723\ we
believe that the circuit breaker approach will result in largely the
same implementation costs as we estimated would be incurred if we
adopted a permanent, market-wide short sale price test
restriction.\724\ We believe that that there will be only minimal, if
any, implementation costs for a circuit breaker approach in addition to
the costs we estimated previously for the implementation of a
permanent, market-wide short sale price test rule because broker-
dealers relying on Rule 201(c) or Rule 201(d)(6) must establish written
policies and procedures required to comply with those provisions
regardless of whether the short sale price test restriction is adopted
on a permanent, market-wide basis or, in the case of Rule 201, adopted
in conjunction with a circuit breaker. Several other commenters agreed,
stating that the costs of the circuit breaker approach would be similar
to, or only incrementally higher than, the costs of a permanent,
market-wide approach.\725\
---------------------------------------------------------------------------

\722\ See supra Section IX.E.1. (discussing estimated burdens of
the collection of information requirements applicable to trading
centers under Rule 201).
\723\ See supra note 676.
\724\ See Proposal, 74 FR at 18088.
\725\ See, e.g., letter from Nasdaq OMX Group (Oct. 2009);
letter from Credit Suisse (Sept. 2009); letter from STA (June 2009).
---------------------------------------------------------------------------

In addition, with respect to on-going monitoring and surveillance
costs of the circuit breaker approach, we recognize, as noted by one
commenter,\726\ that broker-dealers relying on Rule 201(c) or Rule
201(d)(6) must continuously monitor whether a security is subject to
the provisions of Rule 201 and that there will be costs associated with
such monitoring. However, we believe that these costs will be offset
because, under the circuit breaker approach, the alternative uptick
rule is time limited and will only apply on a stock by stock basis,
which will reduce our previously estimated costs for on-going
monitoring and surveillance. This is because broker-dealers relying on
Rule 201(c) will only need to monitor and surveil for compliance with
the alternative uptick rule, and broker-dealers relying on Rule
201(d)(6) will only need to monitor for compliance with the
requirements of that provision, during the limited period of time that
the circuit breaker is in effect with respect to a specific security.
As such, the circuit breaker approach will allow

[[Page 11286]]

regulatory, supervisory and compliance resources to focus on, and to
address, those situations where a specific security is experiencing
significant downward price pressure.\727\
---------------------------------------------------------------------------

\726\ See letter from Glen Shipway (June 2009).
\727\ See, e.g., letter from Nasdaq OMX Group (Oct. 2009);
letter from SIFMA (Sept. 2009).
---------------------------------------------------------------------------

On balance, we believe that the estimates of the burdens associated
with the collection of information requirements for broker-dealers
included in the Proposal \728\ are appropriate with respect to Rule
201. Thus, our estimates have not changed from the Proposal, except to
the extent that total burden estimates have changed because we have
updated the estimated number of broker-dealers.\729\
---------------------------------------------------------------------------

\728\ See Proposal, 74 FR at 18088-18089.
\729\ The Proposal indicated that there were approximately 5,561
broker-dealers. This number was based on a review of 2007 FOCUS
Report filings reflecting registered broker-dealers, including
introducing broker-dealers. This number did not include broker-
dealers that were delinquent on FOCUS Report filings. See Proposal,
74 FR at 18086. We now estimate that there are approximately 5,178
broker-dealers. See supra note 652 and accompanying text.
---------------------------------------------------------------------------

Although the exact nature and extent of the required policies and
procedures that a broker-dealer must establish under the broker-dealer
or the riskless principal provisions likely will vary depending upon
the nature of the broker-dealer (e.g., full service broker-dealer vs.
market maker), we estimate that it initially will, on average, take a
broker-dealer approximately 160 hours \730\ of legal, compliance,
information technology and business operations personnel time,\731\ to
develop the required policies and procedures. In addition to this
estimate of 160 hours, we expect that broker-dealers will incur one-
time external costs for outsourced legal services. While we recognize
that the amount of legal outsourcing utilized to help establish written
policies and procedures will vary widely from entity to entity, we
estimate that on average, each broker-dealer will outsource 50 hours
\732\ of legal time in order to establish policies and procedures in
accordance with the broker-dealer provision in Rule 201(c) and the
riskless principal provision in Rule 201(d)(6).
---------------------------------------------------------------------------

\730\ We base this estimate of 160 hours on the estimated burden
hours we believe it will take a non-SRO trading center (which
includes broker-dealers) to develop similarly required policies and
procedures, since the policies and procedures required under the
broker-dealer provision or the riskless principal exception will be
similar to those required for non-SRO trading centers in complying
with paragraph (b) of Rule 201. See Regulation NMS Adopting Release,
70 FR 37496; see also Proposal, 74 FR at 18087.
\731\ Based on experience and the estimates provided in
connection with Regulation NMS, we anticipate that of the 160 hours
we estimate will be spent to establish policies and procedures, 37
hours will be spent by legal personnel, 77 hours will be spent by
compliance personnel, 23 hours will be spent by information
technology personnel and 23 hours will be spent by business
operations personnel of the broker-dealer.
\732\ As discussed above, we base our burden estimate of 50
hours of outsourced legal time on the burden estimate used for
Regulation NMS because the policies and procedures developed in
connection with that Regulation's Order Protection Rule are in many
ways similar to what a broker-dealer will need to do to comply with
the policies and procedures required under the broker-dealer
provision and the riskless principal exception of Rule 201. See
Regulation NMS Adopting Release, 70 FR 37496; see also Proposal, 74
FR at 18087.
---------------------------------------------------------------------------

We estimate that, on average, there will be an initial one-time
burden of 160 burden hours per broker-dealer or 828,480 hours \733\ to
establish policies and procedures required under the broker-dealer
provision in Rule 201(c) and the riskless principal provision in Rule
201(d)(6). We estimate an average cost of approximately $103,560,000
for broker-dealers resulting from outsourced legal work.\734\
---------------------------------------------------------------------------

\733\ The estimated 828,480 burden hours necessary for a broker-
dealer to establish policies and procedures are calculated by
multiplying 5,178 times 160 hours (5,178 x 160 hours = 828,480
hours). See supra note 730.
\734\ This figure was calculated as follows: (50 legal hours x
$400 x 5,178 broker-dealers) = $103,560,000. Based on industry
sources, we estimate that the average hourly rate for outsourced
legal services in the securities industry is $400.
---------------------------------------------------------------------------

Once a broker-dealer has established written policies and
procedures that are required under Rule 201(c) or Rule 201(d)(6), we
estimate that it will take, on average, a broker-dealer approximately
two hours per month of internal legal time and three hours of internal
compliance time to ensure that its written policies and procedures are
up-to-date and remain in compliance with Rule 201(c) or 201(d)(6), or a
total of 60 hours annually per respondent.\735\ In addition, we
estimate that, on average, it will take a broker-dealer approximately
16 hours per month of on-going compliance time, 8 hours per month of
on-going information technology time, and 4 hours per month of on-going
legal time associated with on-going monitoring and surveillance for and
enforcement of trading in compliance with Rule 201, or a total of 336
hours annually per respondent.\736\
---------------------------------------------------------------------------

\735\ This figure was calculated as follows: (2 legal hours x 12
months) + (3 compliance hours x 12 months). As discussed above, this
burden estimate of 60 hours is based on experience and what was
estimated for a Regulation NMS respondent to ensure that its written
policies and procedures were up-to-date and remained in compliance.
\736\ This figure was calculated as follows: (16 compliance
hours x 12 months) + (8 information technology hours x 12 months) +
(4 legal hours x 12 months) = 336 hours annually per respondent. As
discussed above, this burden estimate of 336 hours is based on
experience and what was estimated for Regulation NMS for similarly
required on-going monitoring and surveillance for and enforcement of
trading in compliance with that regulation's policies and procedures
requirement.
---------------------------------------------------------------------------

3. Marking Requirements
The amendments to Rule 200(g) add a new marking requirement of
``short exempt.'' \737\ In particular, if the broker-dealer chooses to
rely on its own determination that it is submitting the short sale
order to the trading center at a price that is above the current
national best bid at the time of submission or to rely on an exception
specified in the Rule, it must mark the order as ``short exempt.''
\738\
---------------------------------------------------------------------------

\737\ See Rule 200(g); see also supra Section IV. (discussing
the amendments to Rule 200(g)).
\738\ See Rule 200(g)(2).
---------------------------------------------------------------------------

In the Proposal, we provided estimates of the reporting and
recordkeeping burdens for the ``short exempt'' marking requirement. We
also requested comment, in the Proposal and Re-Opening Release, on the
accuracy of such estimates.\739\
---------------------------------------------------------------------------

\739\ See Proposal, 74 FR at 18089; Re-Opening Release, 74 FR at
42036.
---------------------------------------------------------------------------

Several commenters noted that the ``short exempt'' marking
requirement would impose significant implementation costs, but did not
provide a specific estimate of such costs.\740\ One commenter stated
that costs of the ``short exempt'' marking requirement would be worth
the benefits gained.\741\ We considered these comments in reviewing the
burden estimates of the ``short exempt'' marking requirement of Rule
200(g).
---------------------------------------------------------------------------

\740\ See, e.g., letter from FIF (June 2009); letter from NSCP;
letter from RBC (June 2009).
\741\ See letter from STA (June 2009).
---------------------------------------------------------------------------

We also considered whether our estimates of the burdens associated
with the collection of information requirements for broker-dealers with
respect to the amendments to Rule 200(g) in conjunction with the
proposed modified uptick rule included in the Proposal \742\ would
change under the circuit breaker approach of Rule 201, but concluded,
as discussed below, that these estimates continue to represent
reasonable estimates under the circuit breaker approach.
---------------------------------------------------------------------------

\742\ See Proposal, 74 FR at 18089.
---------------------------------------------------------------------------

[[Page 11287]]

regardless of whether the short sale price test restriction is adopted
on a permanent, market-wide basis or, in the case of Rule 201, adopted
in conjunction with a circuit breaker.
In addition, with respect to on-going monitoring and surveillance
costs of the ``short exempt'' marking requirements in conjunction with
a circuit breaker approach, we recognize, as noted by one
commenter,\743\ that market participants will need to continuously
monitor whether a security is subject to the provisions of Rule 201 and
that there will be costs associated with such monitoring. However, we
believe that these costs will be offset because, under the circuit
breaker approach, use of the ``short exempt'' provisions of Rule 201(c)
and Rule 201(d) and the related marking requirements are time limited
and will only apply on a stock by stock basis, which will reduce our
previously estimated costs for on-going monitoring and surveillance.
This is because broker-dealers who choose to rely on Rule 201(c) or
Rule 201(d) will only need to monitor and surveil for compliance with
the requirements of those provisions and will only need to mark
qualifying orders ``short exempt'' during the limited period of time
that the circuit breaker is in effect with respect to a specific
security. As such, the circuit breaker approach will allow regulatory,
supervisory and compliance resources to focus on, and to address, those
situations where a specific security is experiencing significant
downward price pressure.\744\
---------------------------------------------------------------------------

\743\ See letter from Glen Shipway (June 2009).
\744\ See, e.g., letter from Nasdaq OMX Group (Oct. 2009);
letter from SIFMA (Sept. 2009).
---------------------------------------------------------------------------

On balance, we believe our proposed estimates of the burdens
associated with the collection of information requirements of the
``short exempt'' marking requirement \745\ are appropriate with respect
to Rule 200(g) as adopted. Thus, our estimates have not changed from
the Proposal, except to the extent that total burden estimates have
changed because we have updated the estimated number of broker-
dealers.\746\
---------------------------------------------------------------------------

\745\ See Proposal, 74 FR at 18089.
\746\ See supra note 729.
---------------------------------------------------------------------------

We believe that the implementation cost of the ``short exempt''
marking requirement will likely be similar to the implementation cost
of the order marking requirements of Rule 200(g) of Regulation SHO,
which had originally included the category of ``short exempt.''
Industry sources at that time estimated initial implementation costs
for the former ``short exempt'' marking requirement to be approximately
$100,000 to $125,000.\747\ Based on these estimates, as adjusted for
inflation, we estimate that the initial implementation cost of the
``short exempt'' marking requirement will be approximately $115,000 to
$145,000 per broker-dealer \748\ for a total initial implementation
cost of approximately $595,470,000 to $750,810,000 for all broker-
dealers.\749\
---------------------------------------------------------------------------

\747\ See 2004 Regulation SHO Adopting Release, 69 FR at 48023.
\748\ The adjustment for inflation was calculated using
information in the Consumer Price Index, U.S. Department of Labor,
Bureau of Labor Statistics.
\749\ These figures were calculated as follows: ($115,000 x
5,178) = $595,470,000 and ($145,000 x 5,178) = $750,810,000.
---------------------------------------------------------------------------

While not all broker-dealers likely will enter sell orders in
securities covered by the amendments to Rules 200(g) and 201 in a
manner that will subject them to this collection of information, we
estimate, for purposes of the PRA, that all of the approximately 5,178
registered broker-dealers will do so. For purposes of the PRA, the
Staff has estimated that a total of approximately 12.9 billion ``short
exempt'' orders are entered annually.\750\
---------------------------------------------------------------------------

\750\ As we stated in the Proposal, our estimate of 12.9 billion
``short exempt'' orders was calculated based on a review of short
sale trades and short sale orders during August 2008. We believe
that August 2008 data is representative of a normal month of
trading. Specifically, we calculated that there were about 263
million short sale trades during August 2008 for Amex, FINRA,
Nasdaq, NYSE Arca, and NYSE market centers. Based on a review of
Rule 605 reports from the three largest market centers during August
2008, we estimate a ratio of 14.4 orders to trades. We gross up 263
million short sale trades by 14.4, which yields 3.8 billion short
sale orders during August 2008 or an annualized figure of 45.4
billion. We estimate that approximately 28.5% of short sale orders
are short exempt using Nasdaq short sale data from January to April
2005. We multiply 45.4 billion times 0.285 to obtain our estimate of
12.9 billion short exempt orders. See Proposal, 74 FR at 18089. We
also note that, because the circuit breaker rule will not be in
place at all times or for all securities, the frequency and,
therefore, the estimated burden of marking ``short exempt'' is
expected to be lower. We did not receive any comments on the
estimated number of annual ``short exempt'' orders.
---------------------------------------------------------------------------

This is an average of approximately 2,491,309 annual responses by
each respondent.\751\ As we discussed in the Proposal, each response of
marking sell orders ``short exempt'' will take approximately .000139
hours (.5 seconds) to complete. This estimate is based on the same time
estimate for marking sell orders ``long'' or ``short'' used upon
adoption of Rule 200(g) under Regulation SHO.\752\ We believe this
estimate is appropriate because, in accordance with the current marking
requirements of Rule 200(g) of Regulation SHO, broker-dealers are
already required to mark a sell order either ``long'' or ``short.''
Thus, most broker-dealers already have the necessary mechanisms and
procedures in place and are already familiar with processes and
procedures to comply with the marking requirements of Rule 200(g) of
Regulation SHO and broker-dealers will be able to continue to use the
same mechanisms, processes and procedures to comply with the amendments
to Rules 200(g) and 200(g)(2). We note, however, that this estimate may
be too high given technological advances, such as automation of sell
order marking, since the adoption of Rule 200(g) in 2004.
---------------------------------------------------------------------------

\751\ This figure was calculated as follows: 12.9 billion
``short exempt'' orders divided by 5,178 broker-dealers.
\752\ See 2004 Regulation SHO Adopting Release, 69 FR at 48023,
n.140; see also 2003 Regulation SHO Proposing Release, 68 FR at
63000, n.232.
---------------------------------------------------------------------------

Thus, the total approximate estimated annual hour burden per year
is 1,793,100 burden hours (12,900,000,000 orders marked ``short
exempt'' multiplied by 0.000139 hours/order marked ``short exempt'').
Our estimate for the paperwork compliance for the marking requirement
of Rule 200(g) for each broker-dealer is approximately 346 burden hours
(2,491,309 responses multiplied by 0.000139 hours/responses) or (a
total of 1,793,100 burden hours divided by 5,178 respondents).

F. Collection of Information Is Mandatory

1. Policies and Procedures Requirements
The collection of information required under Rule 201's policies
and procedures requirement is mandatory for trading centers executing
and displaying short sale orders in covered securities. The collection
of information required under Rule 201's policies and procedures
requirements in connection with the broker-dealer provision in Rule
201(c) and the riskless principal exception in Rule 201(d)(6) is
mandatory for broker-dealers relying on these provisions.
2. Marking Requirements
The collection of information is mandatory for all broker-dealers
submitting sale orders marked ``short exempt'' in reliance on one of
the provisions contained in paragraph (c) or (d) of Rule 201.

G. Confidentiality

1. Policies and Procedures Requirements
We expect that the information collected pursuant to Rule 201's
required policies and procedures for trading centers will be
communicated to

[[Page 11288]]

the members, subscribers, and employees (as applicable) of all trading
centers. In addition, the information collected pursuant to Rule 201's
required policies and procedures for trading centers will be retained
by the trading centers and will be available to the Commission and SRO
examiners upon request, but not subject to public availability. The
information collected pursuant to Rule 201's broker-dealer provision
and the riskless principal exception will be retained by the broker-
dealers and will be available to the Commission and SRO examiners upon
request, but not subject to public availability.
2. Marking Requirements
The information collected pursuant to the ``short exempt'' marking
requirements in Rule 200(g) and Rule 200(g)(2) will be submitted to
trading centers and will be available to the Commission and SRO
examiners upon request. The information collected pursuant to the
``short exempt'' marking requirement may be publicly available because
it may be published, in a form that would not identify individual
broker-dealers, by SROs that publish on their Internet Web sites
aggregate short selling volume data in each individual equity security
for that day and, on a one-month delayed basis, information regarding
individual short sale transactions in all exchange-listed equity
securities.

H. Record Retention Period

1. Policies and Procedures Requirements
Any records generated in connection with Rule 201's requirements
that trading centers and broker-dealers (with respect to the broker-
dealer and riskless principal provisions) establish written policies
and procedures must be preserved in accordance with, and for the
periods specified in, Exchange Act Rules 17a-1 \753\ for SRO trading
centers and 17a-4(e)(7) \754\ for non-SRO trading centers and
registered broker-dealers.
---------------------------------------------------------------------------

\753\ 17 CFR 240.17a-1.
\754\ 17 CFR 240.17a-4(e)(7).
---------------------------------------------------------------------------

2. Marking Requirements
The amendments to Rule 200(g) and Rule 200(g)(2) do not contain any
new record retention requirements. All registered broker-dealers that
are subject to the amendments are currently required to retain records
in accordance with Rule 17a-4(e)(7) under the Exchange Act.\755\
---------------------------------------------------------------------------

\755\ Id.
---------------------------------------------------------------------------

X. Cost-Benefit Analysis

We are sensitive to the costs and benefits of our rules. To assist
us in evaluating the costs and benefits of the amendments to Regulation
SHO, in the Proposal and the Re-Opening Release, we encouraged
commenters to discuss any costs or benefits that the proposed rules
might impose.\756\ In particular, we requested comment on the potential
costs for any modification to both computer systems and surveillance
mechanisms and for information gathering, management, and recordkeeping
systems or procedures, as well as any potential benefits resulting from
the proposed amendments for registrants, issuers, investors, broker-
dealers, other securities industry professionals, regulators, and
others.\757\ We also requested comment as to the extent to which
placing price restrictions on short selling could impact or lessen some
of the benefits of legitimate short selling or could lead to a decrease
in market efficiency, price discovery, or liquidity.\758\ Commenters
were requested to provide analysis and data to support their views on
the costs and benefits associated with the proposed amendments to Rule
201 and Rule 200(g).\759\ We discuss below the benefits and costs,
including cost mitigation features, of Rule 201.
---------------------------------------------------------------------------

\756\ See Proposal, 74 FR at 18090; Re-Opening Release, 74 FR at
42037.
\757\ See Proposal, 74 FR at 18090.
\758\ See id.
\759\ See id.; Re-Opening Release, 74 FR at 42037.
---------------------------------------------------------------------------

A. Benefits

We believe it is appropriate at this time to adopt in Rule 201 a
circuit breaker approach combined with the alternative uptick rule.
Specifically, Rule 201(b) requires that a trading center establish,
maintain, and enforce written policies and procedures reasonably
designed to prevent the execution or display of a short sale order of a
covered security at a price that is less than or equal to the current
national best bid if the price of that covered security decreases by
10% or more from the covered security's closing price as determined by
the listing market for the covered security as of the end of regular
trading hours on the prior day.\760\ In addition, the Rule requires
that the trading center establish, maintain, and enforce written
policies and procedures reasonably designed to impose this short sale
price test restriction for the remainder of the day and the following
day when a national best bid for the covered security is calculated and
disseminated on a current and continuing basis by a plan processor
pursuant to an effective national market system plan.\761\
---------------------------------------------------------------------------

\760\ Rule 201(b).
\761\ Rule 201(b).
---------------------------------------------------------------------------

In conjunction with the amendments to Rule 201, we are amending
Rule 200(g) of Regulation SHO to provide that a broker-dealer may mark
certain qualifying sell orders ``short exempt.'' In particular, if the
broker-dealer chooses to rely on its own determination that it is
submitting the short sale order to the trading center at a price that
is above the current national best bid at the time of submission or to
rely on an exception specified in the Rule, it must mark the order as
``short exempt.'' \762\
---------------------------------------------------------------------------

\762\ See Rules 200(g) and 200(g)(2).
---------------------------------------------------------------------------

We discuss below the benefits of Rule 201 with respect to two
inter-related aspects of the Rule: the short sale price test
restriction, specifically the alternative uptick rule, and the circuit
breaker approach that triggers application of that restriction. We have
separated the discussion into two parts in order to more clearly
address the comments that we received with respect to the various
aspects of Rule 201. However, the circuit breaker approach and the
alternative uptick rule under Rule 201 operate in conjunction with one
another and should not be considered isolated provisions.
1. Alternative Uptick Rule
The alternative uptick rule is designed to prevent the execution or
display of short sale orders at a price that is less than or equal to
the current national best bid. By not allowing short sellers to sell at
or below the current national best bid, the alternative uptick rule
will allow long sellers, by selling at the bid, to sell first in a
declining market for a particular security. As the Commission has noted
previously in connection with short sale price test restrictions, a
goal of such restrictions is to allow long sellers to sell first in a
declining market.\763\ A short seller that is seeking to profit quickly
from accelerated, downward market moves may find it advantageous to be
able to short sell at the current national best bid. By placing long
sellers ahead of short sellers in the execution queue under certain
circumstances, Rule 201 will help promote capital formation, since
investors may be more willing to hold long positions if they know they
may have a preferred position over short sellers when they wish to
sell.\764\
---------------------------------------------------------------------------

\763\ See supra note 17.
\764\ But see infra notes 821 to 827 and accompanying text
(discussing the potential negative impact of Rule 201 on various
trading strategies that include short selling).

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

[[Page 11289]]

In addition, because the alternative uptick rule, when triggered,
will generally permit short selling only at a price above the current
national best bid, the alternative uptick rule will not allow short
sales to get immediate execution at the bid.\765\ In other words, short
sellers will not be permitted to act as liquidity takers when the
alternative uptick rule applies, but will participate, if at all, as
liquidity providers (unless an exception applies), adding depth to the
market. Put another way, unless an exception applies, short sales will
execute only when purchasers arrive willing to buy at prices above the
national best bid. In discussing the alternative uptick rule, one
commenter stated that ``[n]ot only does it faithfully replicate the old
uptick rule it improves upon it by making each and every short sale a
liquidity providing transaction.'' \766\
---------------------------------------------------------------------------

\765\ As noted by some commenters, there may be situations in
which a short seller could get immediate execution, such as where an
order is executed in a facility that provides executions at the mid-
point of the national best bid and offer. See, e.g., letter from ISE
(Sept. 2009); see also letter from BATS (Sept. 2009).
\766\ Letter from Glen Shipway (Sept. 2009).
---------------------------------------------------------------------------

Further, the alternative uptick rule is designed to help restore
investor confidence in the securities markets.\767\ It will also help
restore investor confidence during times of substantial uncertainty
because, once the circuit breaker has been triggered for a particular
security, long sellers will have preferred access to bids for the
security, and the security's continued price decline will more likely
be due to long selling and the underlying fundamentals of the issuer,
rather than to other factors. Bolstering investor confidence in the
markets should help to encourage investors to be more willing to invest
in the markets, thus adding depth and liquidity to the markets. In
addition, we note that a number of commenters stated that they believe
that a short sale price test restriction will aid small investors.\768\
---------------------------------------------------------------------------

\767\ See, e.g., supra note 94 (citing comment letters
suggesting that reinstatement of short price test restrictions in
some form will help restore investor confidence in the markets).
\768\ See supra note 97 (citing commenters who stated that a
short sale price test restriction would aid small investors).
---------------------------------------------------------------------------

As we stated in the Proposal, short sale price test restrictions,
whether a permanent market-wide restriction or in combination with a
circuit breaker, might help prevent short selling, including
potentially manipulative or abusive short selling, from being used as a
tool to exacerbate a declining market in a security.\769\ Because the
alternative uptick rule only permits short selling at a price above the
current national best bid, unless an exception applies, we believe it
will be more effective than the proposed uptick rule or the proposed
modified uptick rule at achieving our goals in helping to prevent short
selling, including potentially manipulative or abusive short selling,
from being used as a tool to exacerbate a declining market in a
security. Several commenters stated that the alternative uptick rule
would dramatically decrease price pressure on a security \770\ and,
thereby, the ability of market participants to use short selling as a
market manipulation tool.\771\ Another commenter, in supporting the
alternative uptick rule, stated that it would ``likely be more
restrictive on short selling than the original Rule 10a-1 `uptick
rule'.'' \772\
---------------------------------------------------------------------------

\769\ See Proposal, 74 FR at 18050, 18053, 18059, 18061, 18065,
18069; see also Securities and Exchange Commission, Special Study of
Securities Markets, H.R. Doc. No. 95, 88th Cong., 1st Sess., at 251
(1963).
\770\ See, e.g., letter from BATS (Sept. 2009); letter from
Wells Fargo (Sept. 2009); see also letter from SIFMA (Sept. 2009)
(stating that a circuit breaker coupled with the alternative uptick
rule ``would limit instances where a security is the subject of
severe downward pressure'').
\771\ See letter from BATS (Sept. 2009); letter from Wells Fargo
(Sept. 2009); letter from STA (Sept. 2009); letter from Glen Shipway
(Sept. 2009).
\772\ Letter from Virtu Financial.
---------------------------------------------------------------------------

In addition, we believe that the alternative uptick rule is
preferable to the proposed modified uptick rule or the proposed uptick
rule, in part, because it will be easier and less costly to implement
and monitor. Unlike the proposed modified uptick rule and the proposed
uptick rule, which would have required sequencing of the national best
bid or last sale price, the alternative uptick rule references only the
current national best bid. Several commenters expressed support for the
alternative uptick rule, stating that the alternative uptick rule was
preferable to the proposed modified uptick rule or the proposed uptick
rule because it would eliminate sequencing issues \773\ and would be
easier and less costly to implement.\774\ One commenter noted that the
alternative uptick rule would simplify on-going surveillance and
enforcement, as compared to the other proposed short sale price test
restrictions.\775\ In addition, we believe that the implementation and
on-going monitoring and compliance costs of the alternative uptick rule
are justified by the benefits provided in preventing short selling,
including potentially manipulative or abusive short selling, from being
used as a tool to exacerbate a declining market in a security.
---------------------------------------------------------------------------

\773\ See, e.g., letter from Direct Edge (June 2009); letter
from BATS (Sept. 2009); letter from Credit Suisse (Sept. 2009);
letter from STA (Sept. 2009); letter from Wells Fargo (Sept. 2009);
see also letter from Hudson River Trading (expressing a preference
for the alternative uptick rule, as opposed to the proposed modified
uptick rule or the proposed uptick rule, if in conjunction with a
circuit breaker); see also supra notes 661 to 664 and accompanying
text.
\774\ See, e.g., letter from BATS (Sept. 2009); letter from
Credit Suisse (Sept. 2009); letter from European Investors (Sept.
2009); letter from Goldman Sachs (Sept. 2009); letter from STA
(Sept. 2009); letter from Glen Shipway (Sept. 2009); letter from T.
Rowe Price (Sept. 2009); letter from Wells Fargo (Sept. 2009); see
also letter from Hudson River Trading; see also supra notes 661 to
664 and accompanying text.
\775\ See letter from SIFMA (Sept. 2009).
---------------------------------------------------------------------------

2. Circuit Breaker Approach
Under the circuit breaker approach, the alterative uptick rule will
apply only if the price of a covered security has declined by 10% or
more from the covered security's closing price as determined by the
listing market for the covered security as of the end of regular
trading hours on the prior day.\776\ In addition, the short sale price
test restriction will only remain in place for the remainder of the day
and for the following day.\777\ The listing market for each covered
security must determine whether that covered security is subject to
Rule 201 \778\ and must immediately notify the single plan processor
responsible for consolidation of information for the covered security
in accordance with Rule 603(b) of Regulation NMS \779\ of the fact that
a covered security has become subject to the short sale price test
restriction of Rule 201. The plan processor must then disseminate this
information.\780\
---------------------------------------------------------------------------

\776\ See Rule 201(b).
\777\ See id.
\778\ See Rule 201(b)(3).
\779\ 17 CFR 242.603(b); see supra note 368.
\780\ See Rule 201(b)(3); 17 CFR 242.603(b).
---------------------------------------------------------------------------

We believe that a circuit breaker approach strikes the appropriate
balance between our goal of preventing short selling, including
potentially manipulative or abusive short selling, from being used as a
tool to exacerbate a declining market in a security and the need to
allow for the continued smooth functioning of the markets, including
the provision of liquidity and price efficiency in the markets.\781\
The circuit breaker approach of Rule 201 will help benefit the market
for a particular security by allowing participants, when a security is
undergoing a significant intra-day price decline, an opportunity to re-
evaluate circumstances and respond to volatility in that security. We
also believe that a circuit breaker will better target short selling
that may be related to potential bear raids \782\ and other forms of
manipulation that may be

[[Page 11290]]

used to exacerbate a price decline in a covered security.
---------------------------------------------------------------------------

\781\ See supra Section III.A.4.
\782\ See supra note 36 and accompanying text.
---------------------------------------------------------------------------

In response to our requests for comment, some commenters expressed
support for a circuit breaker approach because it would be more
narrowly-tailored to address our concerns about the effects of short
selling in a market subject to a significant downturn than a permanent,
market-wide short sale price test restriction.\783\ For example, one
commenter noted that ``by implementing the alternative uptick rule only
after a circuit breaker threshold has been reached, [the commenter]
believes the Commission would strike the appropriate balance between
the desirable goals of maximizing efficiency when the market is
operating within normal trading ranges and prohibiting potentially
abusive short selling when it is not, while refraining from imposing
excessive implementation costs on the industry.'' \784\ Another
commenter stated that a circuit breaker is preferable because it ``will
restrict short selling when prices begin to decline substantially and
short selling becomes more likely to be abusive and potentially
harmful.'' \785\
---------------------------------------------------------------------------

\783\ See, e.g., letter from Direct Edge (June 2009); letter
from Citadel et al. (Sept. 2009); letter from Direct Edge (Sept.
2009); letter from BATS (Sept. 2009); letter from Goldman Sachs
(Sept. 2009); letter from Hudson River Trading (Sept. 2009); letter
from Qtrade; letter from SIFMA (Sept. 2009); letter from Virtu
Financial; see also letter from Goldman Sachs (June 2009); letter
from SIFMA (June 2009); letter from Nasdaq OMX Group (Oct. 2009).
\784\ Letter from BATS (Sept. 2009).
\785\ Letter from Nasdaq OMX Group (Oct. 2009); see also letter
from Goldman Sachs (June 2009); letter from BATS (Sept. 2009);
letter from SIFMA (Sept. 2009); letter from Credit Suisse (Sept.
2009); letter from Virtu Financial.
---------------------------------------------------------------------------

As discussed above, short selling is an important tool in price
discovery and the provision of liquidity to the market, and we
recognize that imposition of a short selling circuit breaker that when
triggered imposes the alternative uptick rule could restrict otherwise
legitimate short selling activity during periods of significant
volatility. Under the circuit breaker approach, the alternative uptick
rule will only be imposed when a covered security has experienced an
intra-day price decline of 10% or more and will only apply for the
remainder of the day and the following day. As discussed
previously,\786\ commenters' estimates and the Staff's analysis show
that a 10% circuit breaker threshold generally should affect only a
limited percentage of covered securities. In addition, when triggered,
the short sale price test restriction will apply for a limited period
of time, i.e., the remainder of the day and the following day, rather
than all the time. Thus, Rule 201 is structured so that it will not be
triggered for the majority of covered securities most of the time and,
thereby, will not interfere with the smooth functioning of the markets
for those securities, including when prices in such securities are
undergoing minimal downward price pressure or are stable or rising. To
the extent that Rule 201 results in a disruption to the smooth
functioning of the markets, including the provision of liquidity and
price efficiency in the markets, we believe that such costs are
justified by the benefits provided by the Rule in preventing short
selling, including potentially manipulative or abusive short selling,
from being used as a tool to exacerbate a declining market in a
security.
---------------------------------------------------------------------------

\786\ See supra Section III.A.5. (discussing the circuit breaker
trigger level).
---------------------------------------------------------------------------

Several commenters stated their belief that implementing short sale
price test restrictions on a permanent, market-wide basis, rather than
in combination with a circuit breaker, would substantially diminish the
benefits that short sellers bring to the markets.\787\ Another
commenter stated that a circuit breaker is preferable to a permanent,
market-wide short sale price test restriction because it ``permits
normal market activity while a stock is trading in a natural range and
short selling is more likely to benefit the market (by, for example,
increasing price discovery and liquidity).'' \788\
---------------------------------------------------------------------------

\787\ See, e.g., letter from Direct Edge (Sept. 2009); letter
from Credit Suisse (Sept. 2009).
\788\ Letter from Nasdaq OMX Group (Oct. 2009); see also letter
from Goldman Sachs (June 2009); letter from BATS (Sept. 2009);
letter from SIFMA (Sept. 2009); letter from Credit Suisse (Sept.
2009); letter from Virtu Financial.
---------------------------------------------------------------------------

The Commission has long held the view that circuit breakers may
help restore investor confidence during times of substantial
uncertainty.\789\ We believe that the requirements of Rule 201 will
produce such benefits. By imposing the alternative uptick rule once a
security's price is experiencing a significant intra-day price decline,
the short selling circuit breaker rule in Rule 201(b) is designed to
target only those securities that experience such declines and,
therefore, will help to prevent short selling from being used as a tool
to exacerbate the decline in the price of those securities. This
approach establishes a narrowly-tailored Rule that targets only those
securities experiencing such a decline and which only applies a short
sale price test restriction for a limited period of time. We believe
that addressing short selling in connection with such declines will
help restore investor confidence in the markets generally. One
commenter noted that ``preventing rapid declines in stock prices
strengthens investor confidence.'' \790\ Another commenter stated that
a circuit breaker triggering a short sale price test restriction would
provide ``investors with confidence that short sellers will be
restricted from conducting any perceived market manipulation strategies
such as `bear raids.' '' \791\
---------------------------------------------------------------------------

\789\ See, e.g., 1998 Release, 63 FR 18477; see also Proposal,
74 FR at 18067.
\790\ Letter from BIO.
\791\ Letter from Brian M. Collie, Esq., Associate, Taurus
Compliance Consulting, LLC, dated June 19, 2009 (``Taurus
Compliance'').
---------------------------------------------------------------------------

A circuit breaker approach will also allow regulatory, supervisory
and compliance resources to focus on, and to address, those situations
where a specific security is experiencing significant downward price
pressure. As noted by one commenter, a circuit breaker ``is
particularly efficient in stable and rising markets because it avoids
imposing continuous monitoring and compliance costs where there is
little or no corresponding risk of abusive short selling.'' \792\
---------------------------------------------------------------------------

\792\ Letter from Nasdaq OMX Group (Oct. 2009); see also letter
from SIFMA (Sept. 2009).
---------------------------------------------------------------------------

Requiring the listing market for a covered security to determine
whether the security has become subject to the short sale price test
restrictions of Rule 201 will help ensure consistency for each covered
security with respect to such determinations as only the listing market
for that covered security will be making the determination. In
addition, we believe that listing markets will be in the best position
to respond to anomalous or unforeseeable events that may impact a
covered security's price, such as an erroneous trade, because the
listing markets generally have in place specific procedures designed to
address such events.\793\ Further, because the single plan processors
currently receive information from listing markets regarding trading
restrictions (i.e. Regulatory Halts as defined in those plans) on
individual securities and disseminate such information, the
requirements of Rule 201(b)(3) are similar to existing obligations on
plan processors pursuant to the requirements of Regulation NMS, the CTA
and CQ Plans and the Nasdaq UTP Plan.
---------------------------------------------------------------------------

\793\ See supra note 327 (discussing NYSE's procedures to ensure
the accuracy and reliability of its closing price).
---------------------------------------------------------------------------

3. Marking Requirements
The ``short exempt'' marking requirements under Rule 200(g) will
provide a record that a broker-dealer is availing itself of the
provisions of

[[Page 11291]]

paragraph (c) or (d) of Rule 201. Thus, the records created pursuant to
the ``short exempt'' marking requirements of Rule 200(g) will aid
surveillance by SROs and the Commission for compliance with the
provisions of Rule 201. In addition, the ``short exempt'' marking
requirement will provide an indication to a trading center regarding
when it must execute or display a short sale order without regard to
whether the order is at a price that is less than or equal to the
current national best bid and will aid broker-dealers in complying with
their legal requirements.
In response to our requests for comment, several commenters
indicated that requiring broker-dealers to mark all sell orders
``long,'' ``short,'' or ``short exempt'' would provide valuable
information to the Commission \794\ and that such information would be
worth the costs of requiring such marking.\795\ One commenter stated
that the information provided by a ``short exempt'' marking requirement
would provide the Commission with data on the extent to which
exceptions are being used to circumvent the requirements of Rule
201.\796\
---------------------------------------------------------------------------

\794\ See, e.g., letter from STA (June 2009); letter from CFA.
\795\ See, e.g., letter from STA (June 2009).
\796\ See letter from STA (June 2009).
---------------------------------------------------------------------------

B. Costs

In the Proposal, we discussed the anticipated costs of the proposed
short sale price test restrictions, both on a permanent, market-wide
basis and in conjunction with a circuit breaker.\797\ We requested
comment, in the Proposal and Re-Opening Release, on the costs
associated with the proposed amendments.\798\ In particular, we
requested comment on the potential costs for any modification to both
computer systems and surveillance mechanisms and for information
gathering, management, and recordkeeping systems or procedures.\799\ We
also requested comment as to the extent to which placing price
restrictions on short selling could impact or lessen some of the
benefits of legitimate short selling or could lead to a decrease in
market efficiency, price discovery, or liquidity.\800\ We discuss the
comments that we received with respect to the costs of Rule 201 in
detail in Sections X.B.1., X.B.2., X.B.3 and X.B.4., below.
---------------------------------------------------------------------------

\797\ See Proposal, 74 FR at 18092-18100.
\798\ See Proposal, 74 FR at 18100; Re-Opening Release, 74 FR at
42037.
\799\ See Proposal, 74 FR at 18090.
\800\ See id.
---------------------------------------------------------------------------

We recognize that Rule 201 will impose costs on market participants
to implement and assure compliance with the requirements of the Rule.
After considering empirical evidence regarding former Rule 10a-1 and
the comments that we received in response to the Proposal and the Re-
Opening Release, as discussed below, we believe that Rule 201 will have
a minimal, if any, negative effect on market liquidity, price
efficiency, and quote depths.\801\ In addition, we recognize that there
will be market costs associated with Rule 201 in terms of the potential
impact of such a short sale-related circuit breaker on execution speed
and probability. By requiring for a limited time-period that short
sales may only be executed or displayed above the current national best
bid once a covered security has experienced an intra-day price decline
of 10% or more, Rule 201 may slow the speed of executions and impose
additional costs on market participants, including buyers.\802\ Such
costs may increase the costs of legitimate short selling.
---------------------------------------------------------------------------

\801\ See infra note 878 (citing empirical evidence showing that
former Rule 10a-1 did not have an effect on market liquidity and
price efficiency and that price test restrictions resulted in an
increase in quote depths). We note that, although the alternative
uptick rule is by definition more restrictive than the proposed
modified uptick rule, differences between the operation of the
proposed uptick rule and the alternative uptick rule mean that one
approach or the other would be more restrictive in particular
circumstances. See, e g., supra note 242 and accompanying text
(discussing automated trade matching systems).
\802\ As discussed above, on the day the Pilot went into effect,
listed Pilot securities underperformed listed control group
securities by approximately 24 basis points. The Pilot and control
group securities, however, had similar returns over the first six
months of the Pilot. See supra note 52 (referencing Staff's Summary
Pilot Report at 8).
---------------------------------------------------------------------------

To the extent that Rule 201 results in increased costs for short
selling in covered securities that trigger the alternative uptick rule,
it may increase the trading costs of legitimate short selling for these
securities and may result in a reduction in short selling generally.
Restricting short selling may also reduce ``long'' activity where the
short selling is part of a larger trading strategy.
We believe, however, that such costs will be mitigated by the
circuit breaker approach of Rule 201. Under the circuit breaker
approach, the alternative uptick rule will only be imposed when a
covered security has experienced an intra-day price decline of 10% or
more and will only apply for the remainder of the day and the following
day. As discussed previously,\803\ commenters' estimates and the
Staff's analysis show that a 10% circuit breaker threshold generally
should affect only a limited percentage of covered securities. In
addition, when triggered, the short sale price test restriction will
apply for a limited period of time, i.e., the remainder of the day and
the following day, rather than all the time. Thus, Rule 201 is
structured so that it will not be triggered for the majority of covered
securities most of the time and, thereby, will not interfere with the
smooth functioning of the markets for those securities, including when
prices in such securities are undergoing minimal downward price
pressure or are stable or rising. To the extent that Rule 201 results
in increased costs for short selling in covered securities that trigger
the alternative uptick rule, a reduction in short selling generally,
and a reduction in ``long'' activity where the short selling is part of
a larger trading strategy, we believe that such costs are justified by
the benefits provided by the Rule in preventing short selling,
including potentially manipulative or abusive short selling, from being
used as a tool to exacerbate a declining market in a security.
---------------------------------------------------------------------------

\803\ See supra Section III.A.5. (discussing the circuit breaker
trigger level).
---------------------------------------------------------------------------

In addition, we recognize that Rule 201, when triggered, will
impose a short sale price test restriction, when, currently, there is
an absence of any short sale price test restrictions. This will result
in costs in terms of modifications to systems and surveillance
mechanisms, as well as changes to processes and procedures. We
anticipate that these changes will likely result in immediate
implementation costs for trading centers and SROs and other market
participants associated with reprogramming trading and surveillance
systems to account for short sale price test restrictions based on best
bid information, as discussed in more detail below. We also believe
Rule 201 will impose costs on trading centers and SROs and other market
participants related to systems changes to computer software,
reprogramming costs, and surveillance and compliance costs, as well as
staff time and technology resources, associated with monitoring
compliance with Rule 201, as discussed below.
Moreover, imposing a short sale-related circuit breaker that, if
triggered, will impose a short sale price test restriction, when there
are currently no short sale price test restrictions in place also may
mean that staff (compliance personnel, associated persons, etc.) may
need to be trained or re-trained regarding rules related to short sale
price test restrictions. As such, we believe Rule 201 may impose
training and compliance costs for trading

[[Page 11292]]

centers, SROs, and other market participants.
However, as discussed below, because the alternative uptick rule
references only the current national best bid, unlike the proposed
modified uptick rule and the proposed uptick rule, which would have
required sequencing of the national best bid or last sale price, we
believe that the alternative uptick rule will be easier and less costly
to implement and monitor than the proposed modified uptick rule or the
proposed uptick rule.\804\
---------------------------------------------------------------------------

\804\ See infra Section X.B.1.b.i. and Section X.B.1.b.ii.
(discussing the implementation and on-going monitoring and
surveillance costs of the alternative uptick rule on trading centers
and broker-dealers).
---------------------------------------------------------------------------

Further, we note that the policies and procedures that are required
to be implemented under Rule 201 are similar to those that are required
under the Order Protection Rule of Regulation NMS.\805\ Thus, we
believe trading centers and broker-dealers may already be familiar with
establishing, maintaining, and enforcing trading-related policies and
procedures, including programming their trading systems in accordance
with such policies and procedures. We believe this familiarity may
reduce the implementation costs of Rule 201 and may make Rule 201 less
burdensome to implement.
---------------------------------------------------------------------------

\805\ See Regulation NMS Adopting Release, 70 FR 37496; see also
Proposal, 74 FR at 18087; 17 CFR 242.611.
---------------------------------------------------------------------------

In addition, we believe that the implementation, and on-going
monitoring and compliance costs of Rule 201 are justified by the
benefits provided by the Rule in preventing short selling, including
potentially manipulative or abusive short selling, from being used as a
tool to exacerbate a declining market in a security.
We discuss below the costs of Rule 201 with respect to two inter-
related aspects of the Rule: The short sale price test restriction,
specifically the alternative uptick rule, and the circuit breaker
approach that triggers application of that restriction. We have
separated the discussion into two parts in order to more clearly
address the comments that we received with respect to the various
aspects of Rule 201. However, the circuit breaker approach and the
alternative uptick rule under Rule 201 operate in conjunction with one
another and should not be considered isolated provisions.
1. Alternative Uptick Rule
Rule 201 requires a trading center to have written policies and
procedures reasonably designed to prevent the execution or display of a
short sale order of a covered security at a price that is less than or
equal to the current national best bid if the price of that covered
security decreases by 10% or more from the covered security's closing
price as determined by the listing market for the covered security as
of the end of regular trading hours on the prior day.\806\
---------------------------------------------------------------------------

\806\ See Rule 201(b)(1).
---------------------------------------------------------------------------

a. Impact on Market Quality
As stated above, in the Proposal and Re-Opening Release, we
requested comment on the costs of a short sale price test
restriction,\807\ and specifically as to the extent to which placing
price restrictions on short selling could impact or lessen some of the
benefits of legitimate short selling or could lead to a decrease in
market efficiency, price discovery, or liquidity.\808\
---------------------------------------------------------------------------

\807\ See Proposal, 74 FR at 18090, 18100; Re-Opening Release,
74 FR at 42037.
\808\ See Proposal, 74 FR at 18090.
---------------------------------------------------------------------------

The Commission received comments stating that the alternative
uptick rule, or any short sale price restriction for that matter, would
reduce the benefits that short selling provides to the markets.\809\
For example, commenters stated that a short sale price test restriction
would negatively impact liquidity,\810\ market volume,\811\ bid-ask
spreads and price discovery.\812\ Several commenters also stated that a
short sale price test restriction might increase volatility.\813\
---------------------------------------------------------------------------

\809\ See, e.g., letter from Prof. Lipkin; letter from Citadel
et al. (June 2009); letter from GETCO (June 2009); letter from
Goldman Sachs (June 2009); letter from ICI (June 2009); letter from
ISDA; letter from Lime Brokerage (June 2009); letter from RBC (June
2009); letter from Vanguard (June 2009); letter from Allston Trading
(Sept. 2009); letter from TD Asset Management; letter from EWT
(Sept. 2009); letter from BATS (Sept. 2009); letter from Citadel et
al. (Sept. 2009); letter from CPIC (Sept. 2009); letter from Credit
Suisse (Sept. 2009); letter from EWT (Sept. 2009); letter from
Dialectic Capital (Sept. 2009); letter from GETCO (Sept. 2009);
letter from Hudson River Trading; letter from Lime Brokerage (Sept.
2009); letter from RBC (Sept. 2009); letter from STA (Sept. 2009);
letter from STANY (Sept. 2009); letter from Vanguard (Sept. 2009);
letter from Bingham McCutchen; letter from MFA (Oct. 2009); letter
from Nasdaq OMX Group (Oct. 2009); see also letter from Credit
Suisse (Mar. 2009).
\810\ See, e.g., letter from Chad Stogel, Trillium Trading, LLC,
dated May 26, 2009 (``Chad Stogel''); letter from Citadel et al.
(June 2009); letter from Credit Suisse (June 2009); letter from Lime
Brokerage (June 2009); letter from MFA (June 2009); letter from STA
(June 2009); letter from EWT (Sept. 2009); letter from BATS (Sept.
2009); letter from Citadel et al. (Sept. 2009); letter from Lime
Brokerage (Sept. 2009); letter from RBC (Sept. 2009); letter from
STA (Sept. 2009); letter from Bingham McCutchen; see also letter
from Credit Suisse (Mar. 2009).
\811\ See, e.g., letter from Chad Stogel; letter from Citadel et
al. (June 2009); letter from Credit Suisse (June 2009); letter from
MFA (June 2009); letter from STA (June 2009); letter from EWT (Sept.
2009); letter from BATS (Sept. 2009); letter from Citadel et al.
(Sept. 2009); letter from RBC (Sept. 2009); letter from Bingham
McCutchen; see also letter from Credit Suisse (Mar. 2009).
\812\ See, e.g., letter from Credit Suisse (June 2009); letter
from MFA (June 2009); letter from Lime Brokerage (June 2009); letter
from STA (June 2009); letter from RBC (Sept. 2009); see also letter
from Credit Suisse (Mar. 2009).
\813\ See, e.g., letter from Prof. Lipkin; letter from AIMA;
letter from Citadel et al. (June 2009); letter from Credit Suisse
(June 2009); letter from RBC (June 2009); letter from SIFMA (June
2009); letter from Citadel et al. (Sept. 2009); letter from TD Asset
Management; letter from Barclays (Sept. 2009); see also letter from
NSCP.
---------------------------------------------------------------------------

We believe, however, that the short sale price test restriction of
Rule 201 will have a limited negative effect on liquidity, market
volume, bid-ask spreads, price discovery and volatility. The Pilot
Results found that the former tick test of Rule 10a-1 and former bid
test of NASD, which were permanent, market-wide short sale price tests,
did not have a significant impact on daily volatility, and also found
some evidence that the short sale price tests dampened intra-day
volatility for smaller stocks.\814\ In addition, the Pilot Results
found that the Pilot data provided limited evidence that then-current
short sale price test restrictions distort a security's price. The
Pilot Results also found that the short sale price test restrictions
resulted in an increase in quote depths.\815\ Realized liquidity
levels, however, were unaffected by the removal of such short sale
price test restrictions.\816\ In addition, one study concluded that
former Rule 10a-1 had little or no effect on price efficiency.\817\
Another study found no evidence that former Rule 10a-1 negatively
impacted price discovery.\818\ Due to differences in the operation of
former Rule 10a-1 and Rule 201, when it applies, the alternative uptick
rule under Rule 201 will be more restrictive than former Rule 10a-1 in
some circumstances and less restrictive in others.\819\ As discussed
above, however, due to the circuit breaker approach in Rule 201, the
alternative uptick rule of Rule 201 generally will apply to a limited
number of covered securities \820\ and will apply only when

[[Page 11293]]

the circuit breaker has been triggered for a covered security. As such,
it will not be triggered for the majority of covered securities at any
given time and, when triggered, will remain in effect for a short
duration--that day and the following day. Considering the empirical
studies and the comments, and because of the limited scope and duration
of Rule 201, we believe that the impact of Rule 201, if any, on
liquidity, market volume, bid-ask spreads, price discovery and
volatility will be limited. To the extent that Rule 201 negatively
impacts liquidity, market volume, bid-ask spreads, price discovery and
volatility, we believe that such costs are justified by the benefits
provided by the Rule in preventing short selling, including potentially
manipulative or abusive short selling, from being used as a tool to
exacerbate a declining market in a security.
---------------------------------------------------------------------------

\814\ See Staff's Summary Pilot Report at 55-56.
\815\ See Staff's Summary Pilot Report at 55; see also Karl B.
Diether, Kuan Hui Lee and Ingrid M. Werner, 2009, It's SHO Time!
Short-Sale Price-Tests and Market Quality, Journal of Finance 64:37.
\816\ See supra note 54.
\817\ See J. Julie Wu, Uptick Rule, short selling and price
efficiency, Aug. 14, 2006.
\818\ See Lynn Bai, 2008, The Uptick Rule of Short Sale
Regulation--Can it Alleviate Downward Price Pressure from Negative
Earnings Shocks? Rutgers Business Law Journal 5:1-63.
\819\ See, e g., supra note 242 and accompanying text
(discussing automated trade matching systems).
\820\ See supra Section III.A.5. (discussing the circuit breaker
trigger level and duration).
---------------------------------------------------------------------------

The Commission received a number of comments addressing the extent
to which a short sale price test restriction might cause a reduction in
short selling.\821\ For example, commenters stated that a reduction in
short selling might result from: The implementation costs and on-going
compliance costs of a short sale price test restriction; \822\
uncertainty about whether a short sale order can be executed; \823\ and
reduced use of trading strategies that are market neutral or that rely
on the ability to hedge through short sales.\824\ Several commenters
stated that the alternative uptick rule would restrict short sales more
than the other proposed short sale price test restrictions,
specifically because it would not allow immediate execution, and fewer
short sales might be executed as a result.\825\ A number of commenters
stated that a reduction in short selling would result in decreased
liquidity, wider price spreads, and more costly trading for investors
overall.\826\ Some commenters stated that such an increase in costs to
investors would have a negative effect on investor confidence.\827\
---------------------------------------------------------------------------

\821\ See, e.g., letter from Peter J. Driscoll, Chairman, John
C. Giesea, President and CEO, Security Traders Association, dated
May 4, 2009 (``STA (May 2009)''); letter from Citadel et al. (June
2009); letter from CPIC (June 2009); letter from MFA (June 2009);
letter from Allston Trading (Sept. 2009); letter from Barclays
(Sept. 2009); letter from CBOE (Sept. 2009); letter from Citadel et
al. (Sept. 2009); letter from CPIC (Sept. 2009); letter from EWT
(Sept. 2009); letter from GETCO (Sept. 2009); letter from ICI (Sept.
2009); letter from ISE (Sept. 2009); letter from RBC (Sept. 2009);
letter from MFA (Oct. 2009).
\822\ See, e.g., letter from CPIC (June 2009); letter from
Barclays (Sept. 2009).
\823\ See, e.g., letter from STA (May 2009); letter from Citadel
et al. (June 2009); letter from STA (June 2009); letter from
Barclays (Sept. 2009); letter from STA (Sept. 2009); see also letter
from Lime Brokerage (June 2009) (explaining specifically the
increased risk that would be associated with virtual market making
strategies).
\824\ See, e.g., letter from STA (May 2009); letter from Credit
Suisse (June 2009); letter from STA (June 2009); letter from
Barclays (Sept. 2009); letter from STA (Sept. 2009); letter from MFA
(Oct. 2009); see also letter from Lime Brokerage (June 2009)
(explaining specifically the increased risk that would be associated
with virtual market making strategies).
\825\ See, e.g., letter from Allston Trading (Sept. 2009);
letter from Barclays (Sept. 2009); letter from CBOE (Sept. 2009);
letter from Citadel et al. (Sept. 2009); letter from CPIC (Sept.
2009); letter from EWT (Sept. 2009); letter from GETCO (Sept. 2009);
letter from ICI (Sept. 2009); letter from ISE (Sept. 2009); letter
from RBC (Sept. 2009); letter from MFA (Oct. 2009).
\826\ See, e.g., letter from STA (May 2009); letter from Chad
Stogel; letter from Allston Trading (June 2009); letter from Credit
Suisse (June 2009); letter from STA (June 2009); letter from STA
(Sept. 2009); letter from MFA (June 2009).
\827\ See, e.g., letter from Citadel et al. (June 2009); letter
from Vanguard (June 2009); letter from Allston Trading (Sept. 2009);
letter from EWT (Sept. 2009); letter from GETCO (Sept. 2009); see
also letter from NSCP (stating that, without empirical evidence of
inefficiency or failure in the equity markets that both caused
deterioration of investor confidence and that would be remedied by a
short sale price test restriction, a loss in confidence in the
Commission as a fair and impartial regulator could do more harm in
the long-run to damage the confidence of investors); letter from STA
(June 2009) (stating that ``[p]romulgating a rule that would not
have any impact on the execution of abusive short sales may, in
fact, foster further deterioration of investor confidence'').
---------------------------------------------------------------------------

The short sale price test restriction of Rule 201 may cause a
limited reduction in short selling as a result of the implementation
costs and on-going compliance costs of a short sale price test
restriction; uncertainty about whether a short sale order can be
executed; and reduced use of trading strategies that are market neutral
or that rely on the ability to hedge through short sales. However, the
alternative uptick rule will only be imposed when a covered security
has experienced an intra-day price decline of 10% or more and will only
apply for the remainder of the day and the following day. Due to the
limited scope and applicability of Rule 201, we believe that any
reduction in short selling will be limited.\828\ In addition, we
believe that any such reduction in short selling will have a minimal,
if any, resulting negative impact on liquidity and price efficiency. As
noted above, the Pilot Results found that the Pilot data provided
limited evidence that then-current short sale price test restrictions,
which were permanent and market-wide, distort a security's price. The
Pilot Results also found that the short sale price test restrictions
resulted in an increase in quote depths.\829\ Realized liquidity
levels, however, were unaffected by the removal of such short sale
price test restrictions.\830\ In addition, one study concluded that
former Rule 10a-1 had little or no negative effect on price
efficiency.\831\ Another study found no evidence that former Rule 10a-1
negatively impacted price discovery.\832\ Due to differences in the
operation of former Rule 10a-1 and Rule 201, when it applies, the
alternative uptick rule under Rule 201 will be more restrictive than
former Rule 10a-1 in some circumstances and less restrictive in
others.\833\ As discussed above, however, due to the circuit breaker
approach in Rule 201, the alternative uptick rule of Rule 201 generally
will apply to a limited number of covered securities \834\ and will
apply only when the circuit breaker has been triggered for a covered
security. As such, it will not be triggered for the majority of covered
securities at any given time and, when triggered, will remain in effect
for a short duration--that day and the following day. Considering the
empirical studies and the comments, and due to the limited scope and
duration of Rule 201, we believe that any reduction in short selling as
a result of Rule 201 will have a minimal, if any, negative impact on
liquidity and price efficiency. To the extent that Rule 201 has a
negative impact on liquidity and price efficiency, we believe that such
costs are justified by the benefits provided by the Rule in preventing
short selling, including potentially manipulative or abusive short
selling, from being used as a tool to exacerbate a declining market in
a security.
---------------------------------------------------------------------------

\828\ See supra Section III.A.5. (discussing the circuit breaker
trigger level and duration).
\829\ See Staff's Summary Pilot Report at 55 and supporting
text; see also Karl B. Diether, Kuan Hui Lee and Ingrid M. Werner,
2009, It's SHO Time! Short-Sale Price-Tests and Market Quality,
Journal of Finance 64:37.
\830\ See supra note 54.
\831\ See J. Julie Wu, Uptick Rule, short selling and price
efficiency, Aug. 14, 2006.
\832\ See Lynn Bai, 2008, The Uptick Rule of Short Sale
Regulation--Can it Alleviate Downward Price Pressure from Negative
Earnings Shocks? Rutgers Business Law Journal 5:1-63.
\833\ See, e g., supra note 242 and accompanying text
(discussing automated trade matching systems).
\834\ See supra Section III.A.5. (discussing the circuit breaker
trigger level and duration).
---------------------------------------------------------------------------

In addition, commenters stated that a short sale price test
restriction in general, or the alternative uptick rule specifically,
might negatively impact various trading strategies that include short
selling,\835\ such as high frequency

[[Page 11294]]

trading,\836\ options valuation models that are used to value and hedge
equity derivatives transactions,\837\ market neutral trading strategies
or those that rely on hedging,\838\ convertible arbitrage,\839\
statistical arbitrage,\840\ program or portfolio trading baskets,\841\
and hedging strategies that significantly contribute to market
liquidity, such as computerized liquidity providers or ``virtual market
makers.'' \842\ Commenters noted what they believe would be the
negative consequences of such an impact, including increasing bid-ask
spreads, reducing market volume,\843\ reducing market liquidity,\844\
reducing market efficiency,\845\ complicating the raising of capital by
corporate issuers,\846\ and causing investors to exit the market.\847\
Other commenters expressed the belief that restrictions on short
selling might encourage the use of other trading strategies that
largely mirror the benefits of short selling (such as sales of calls,
purchase of puts, synthetic short sales of OTC derivatives, and sales
of security futures), but that impose additional costs, such as reduced
efficiency or inaccessibility to small investors.\848\
---------------------------------------------------------------------------

\835\ See, e.g., letter from Citadel et al. (June 2009); letter
from Credit Suisse (June 2009); letter from ISDA; letter from RBC
(June 2009); letter from STA (June 2009); letter from Vanguard (June
2009); letter from EWT (Sept. 2009); letter from TD Asset
Management; letter from Lime Brokerage (Sept. 2009); letter from
Bingham McCutchen; letter from MFA (Oct. 2009); see also letter from
Credit Suisse (Mar. 2009).
\836\ See, e.g., letter from Bingham McCutchen.
\837\ See, e.g., letter from ISDA.
\838\ See, e.g., letter from Citadel et al. (June 2009); letter
from Credit Suisse (June 2009); letter from EWT (Sept. 2009); letter
from TD Asset Management; letter from MFA (Oct. 2009). This category
includes such trading methods as long short equity strategies,
convertible securities investors, and hedged strategies such as 130/
30 portfolios. See id.
\839\ See, e.g., letter from Citadel et al. (June 2009); letter
from Credit Suisse (June 2009); letter from Goldman Sachs (June
2009); letter from SIFMA (June 2009).
\840\ See, e.g., letter from Citadel et al. (June 2009).
\841\ See letter from TD Asset Management.
\842\ See, e.g., letter from Lime Brokerage (June 2009); letter
from Lime Brokerage (Sept. 2009).
\843\ See, e.g., letter from Citadel et al. (June 2009); letter
from Lime Brokerage (Sept. 2009); letter from Bingham McCutchen;
letter from Credit Suisse (June 2009).
\844\ See, e.g., letter from Chad Stogel; letter from Citadel et
al. (June 2009); letter from Lime Brokerage (June 2009); letter from
STA (June 2009); letter from EWT (Sept. 2009); letter from BATS
(Sept. 2009); letter from Citadel et al. (Sept. 2009); letter from
Lime Brokerage (Sept. 2009); letter from STA (Sept. 2009); letter
from Bingham McCutchen.
\845\ See e.g., letter from Citadel et al. (June 2009); letter
from Citadel et al. (Sept. 2009).
\846\ See, e.g., letter from Citadel et al. (June 2009); letter
from Credit Suisse (June 2009); letter from Goldman Sachs (June
2009); letter from SIFMA (June 2009).
\847\ See, e.g., letter from Credit Suisse (June 2009).
\848\ See, e.g., letter from Prof. Rosenthal; letter from
Barclays (June 2009) (warning that a mere transfer of short selling
activity to other types of markets would impair the price discovery,
efficiency, safety, and soundness of the public equity markets);
letter from STA (June 2009) (discussing a possible shift to the
derivative markets); letter from RBC (June 2009) (discussing sales
of calls, purchases of puts, and short selling of security futures
as methods to bypass the price restrictions); letter from Vanguard
(June 2009) (discussing the use of synthetic short sales through OTC
derivatives); see also supra Section III.A.1. (discussing the
creation of ``synthetic'' short positions that are the economic
equivalent of a short sale through the use of derivative
securities).
---------------------------------------------------------------------------

To the extent that Rule 201 may have a negative effect on various
trading strategies that include short selling, we believe any such
negative effect will be limited. Under Rule 201, although short selling
will be restricted for a limited time by the alternative uptick rule if
the price of a covered security decreases by 10% or more, unlike with
securities subject to the Short Sale Ban Emergency Order, Rule 201 will
permit short selling at a price above the current national best bid in
the covered security even when the restriction is in place. Thus, short
sellers engaged in various trading strategies that include short
selling will generally continue to be able to sell short for the
limited period of time when the short sale price test restriction is in
effect. In addition, we note that many of the above comments on
potential market-wide impacts of a short sale price test restriction on
various trading strategies that include short selling were not specific
to a short sale price test applied in conjunction with a circuit
breaker.\849\ Under the circuit breaker approach, the alternative
uptick rule will only be imposed when a covered security has
experienced an intra-day price decline of 10% or more and will only
apply for the remainder of the day and the following day.\850\ We
believe that the negative impact of Rule 201, if any, on various
trading strategies that include short selling will be limited because
of the limited scope and duration of Rule 201. To the extent that Rule
201 has a negative impact on various trading strategies that include
short selling, we believe that such costs are justified by the benefits
provided by the Rule in preventing short selling, including potentially
manipulative or abusive short selling, from being used as a tool to
exacerbate a declining market in a security.
---------------------------------------------------------------------------

\849\ See, e.g., letter from Bingham McCutchen; letter from
ISDA; letter from TD Asset Management; letter from EWT (Sept. 2009);
letter from Lime Brokerage (Sept. 2009); letter from Citadel et al.
(Sept. 2009); letter from STA (Sept. 2009); letter from BATS (Sept.
2009); letter from MFA (Oct. 2009).
\850\ See supra Section III.A.5. (discussing the circuit breaker
trigger level and duration).
---------------------------------------------------------------------------

We recognize that imposing a short sale price test restriction with
respect to NMS stocks, without a similar restriction on derivative
securities, could increase the use of derivative securities to create a
short position and that such ``synthetic'' short positions could
increase as a result of Rule 201. As discussed in Section III.A.1.,
above, however, short sales in the equity markets to hedge derivatives
transactions are subject to Rule 201. In addition, we remain concerned
that the ability to create a short position through the use of
derivative securities may undermine the goals of short sale price test
restrictions. At a later time, we may reconsider whether additional
regulation of derivative securities and the use of ``synthetic'' short
positions may be appropriate.
Several commenters discussed how constraints on short selling might
harm price discovery and pricing efficiency.\851\ Commenters stated
that, under the alternative uptick rule, only long sellers could hit
bids displayed as part of the national market system, which would
result in long sellers exclusively dictating the market price of
purchases, which would harm price discovery.\852\ Additionally,
commenters stated that the alternative uptick rule would restrict the
informational content that short sale orders contain to only passive
orders, meaning that the information would not be fully communicated in
the price discovery process and pricing inefficiency would arise.\853\
Other commenters stated that the alternative uptick rule might result
in an inflated transaction price \854\ or upward stock price
manipulation.\855\
---------------------------------------------------------------------------

\851\ See, e.g., letter from Matlock Capital (May 2009); letter
from Prof. Rosenthal; letter from Goldman Sachs (June 2009); Autore,
Billingsley, and Kovacs, Short Sale Constraints, Dispersion of
Opinion, and Market Quality: Evidence from the Short Sale Ban on
U.S. Financial Stocks (June 19, 2009); letter from GETCO (June
2009); letter from STA (June 2009); letter from Allston Trading
(Sept. 2009); letter from Bingham McCutchen; letter from Citadel et
al. (Sept. 2009); letter from CPIC (Sept. 2009); letter from
Dialectic Capital (Sept. 2009); letter from EWT (Sept. 2009); letter
from Hudson River Trading; letter from STA (Sept. 2009); letter from
TD Asset Management.
\852\ See, e.g., letter from Citadel et al. (Sept. 2009); letter
from Dialectic Capital (Sept. 2009); letter from Bingham McCutchen;
see also letter from GETCO (June 2009); letter from Charles A.
Trzcinka, Professor of Finance and Chairman of the Finance
Department, Kelly School of Business, Indiana University, dated May
10, 2009; letter from Prof. Rosenthal; Autore, Billingsley, and
Kovacs, Short Sale Constraints, Dispersion of Opinion, and Market
Quality: Evidence from the Short Sale Ban on U.S. Financial Stocks
(June 19, 2009).
\853\ See, e.g., letter from TD Asset Management; letter from
CPIC (Sept. 2009); see also letter from GETCO (June 2009); letter
from Goldman Sachs (June 2009).
\854\ See, e.g., letter from Allston Trading (Sept. 2009);
letter from Citadel et al. (Sept. 2009); letter from CPIC (Sept.
2009); letter from Dialectic Capital (Sept. 2009); letter from EWT
(Sept. 2009); letter from Hudson River Trading; letter from STA
(Sept. 2009).
\855\ See, e.g., letter from Allston Trading (Sept. 2009);
letter from Citadel et al. (Sept. 2009); letter from RBC (Sept.
2009); see also letter from AIMA; letter from Citadel et al. (June
2009); letter from Goldman Sachs (June 2009); letter from RBC (June
2009).

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

[[Page 11295]]

We believe that Rule 201 will have a limited negative effect on
price discovery and price efficiency. As discussed above, the Pilot
Results \856\ found that the Pilot data provided limited evidence that
the former tick test of Rule 10a-1(a) and former bid test of NASD,
which were permanent, market-wide short sale price tests, distorted a
security's price. In addition, one study concluded that former Rule
10a-1 had little or no effect on price efficiency.\857\ Another study
found no evidence that former Rule 10a-1 negatively impacted price
discovery.\858\ Due to differences in the operation of former Rule 10a-
1 and Rule 201, when it applies, the alternative uptick rule under Rule
201 will be more restrictive than former Rule 10a-1 in some
circumstances and less restrictive in others.\859\ As discussed above,
however, due to the circuit breaker approach in Rule 201, the
alternative uptick rule of Rule 201 generally will apply to a limited
number of covered securities \860\ and will apply only when the circuit
breaker has been triggered for a covered security. As such, it will not
be triggered for the majority of covered securities at any given time
and, when triggered, will remain in effect for a short duration--that
day and the following day. Considering the empirical studies and the
comments and because of the limited scope and duration of Rule 201, we
believe that Rule 201 will have little, if any, negative effect on
price discovery and price efficiency. To the extent that Rule 201
negatively affects price discovery and price efficiency, we believe
that such costs are justified by the benefits provided by the Rule in
preventing short selling, including potentially manipulative or abusive
short selling, from being used as a tool to exacerbate a declining
market in a security.
---------------------------------------------------------------------------

\856\ See Staff's Summary Pilot Report at 55; Karl B. Diether,
Kuan Hui Lee and Ingrid M. Werner, 2009, It's SHO Time! Short-Sale
Price-Tests and Market Quality, Journal of Finance 64:37-73; Gordon
J. Alexander and Mark A. Peterson, 2008, The Effect of Price Tests
on Trader Behavior and Market Quality: An Analysis of Reg. SHO,
Journal of Financial Markets 11:84-111; J. Julie Wu, Uptick Rule,
short selling and price efficiency, Aug. 14, 2006; Lynn Bai, 2008,
The Uptick Rule of Short Sale Regulation--Can it Alleviate Downward
Price Pressure from Negative Earnings Shocks? Rutgers Business Law
Journal 5:1-63.
\857\ See J. Julie Wu, Uptick Rule, short selling and price
efficiency, Aug. 14, 2006.
\858\ See Lynn Bai, 2008, The Uptick Rule of Short Sale
Regulation--Can it Alleviate Downward Price Pressure from Negative
Earnings Shocks? Rutgers Business Law Journal 5:1-63.
\859\ See, e g., supra note 242 and accompanying text
(discussing automated trade matching systems).
\860\ See supra notes 305 to 311 and accompanying text
(discussing data reflecting that, on average, a limited number of
covered securities would hit a 10% trigger level each day).
---------------------------------------------------------------------------

A number of commenters discussed the impact that the alternative
uptick rule might have on execution.\861\ Several commenters stated
that, under the alternative uptick rule, short sales would be
ineligible for immediate execution, causing increased trading costs and
opportunity costs, decreased liquidity, and widened spreads.\862\
Commenters also stated that the alternative uptick rule would increase
the risk of non-execution of a short sale, which would reduce the speed
of price discovery and increase execution prices.\863\ Commenters also
noted that the alternative uptick rule could cause missed execution
opportunities, thereby causing retail investors to pay artificially
high prices to obtain execution.\864\
---------------------------------------------------------------------------

\861\ See, e.g., letter from Citadel et al. (Sept. 2009); letter
from Group One Trading (Sept. 2009); letter from TD Asset
Management; letter from CPIC (Sept. 2009); letter from Lime
Brokerage (Sept. 2009); letter from RBC (Sept. 2009); letter from
SIFMA (Sept. 2009); letter from STA (Sept. 2009); letter from
Barclays (Sept. 2009).
\862\ See, e.g., letter from Citadel et al. (Sept. 2009); letter
from TD Asset Management; letter from CPIC (Sept. 2009); letter from
STA (Sept. 2009). As noted by some commenters, however, there may be
situations in which a short seller could get immediate execution,
such as where an order is executed in a facility that provides
executions at the mid-point of the national best bid and offer. See,
e.g., letter from ISE (Sept. 2009); see also letter from BATS (Sept.
2009).
\863\ See, e.g., letter from Barclays (Sept. 2009); letter from
STA (Sept. 2009).
\864\ See, e.g., letter from Allston Trading (Sept. 2009);
letter from Citadel et al. (Sept. 2009); letter from Dialectic
Capital (Sept. 2009); see also letter from Chad Stogel.
---------------------------------------------------------------------------

As we stated in the Re-Opening Release, because the alternative
uptick rule will only permit short selling at a price above the current
national best bid, the alternative uptick rule will generally not allow
short sales to get immediate execution, even in an advancing
market,\865\ which may slow the speed of executions and impose
additional costs on market participants, including buyers.\866\ We
note, however, that the above comments on the potential impacts of the
alternative uptick rule on execution were not specific to a short sale
price test in conjunction with a circuit breaker.\867\ Under the
circuit breaker approach, the alternative uptick rule will only be
imposed when a covered security has experienced an intra-day price
decline of 10% or more and will only apply for the remainder of the day
and the following day.\868\ We believe that the negative impact of Rule
201, if any, on execution speed and probability will be limited because
of the limited scope and duration of Rule 201. To the extent that Rule
201 negatively impacts execution speed and probability, we believe that
such costs are justified by the benefits provided by the Rule in
preventing short selling, including potentially manipulative or abusive
short selling, from being used as a tool to exacerbate a declining
market in a security.
---------------------------------------------------------------------------

\865\ See Re-Opening Release, 74 FR at 42034; see also supra
note 227 (noting that under some circumstances a short seller may be
able to get immediate execution).
\866\ See supra note 52 (discussing returns for listed Pilot
securities and listed control group securities during the first six
months of the Pilot and referencing Staff's Summary Pilot Report at
8).
\867\ See, e.g., letter from Allston Trading (Sept. 2009);
letter from Barclays (Sept. 2009); letter from Citadel et al. (Sept.
2009); letter from Dialectic Capital (Sept. 2009); letter from TD
Asset Management; letter from CPIC (Sept. 2009); letter from STA
(Sept. 2009).
\868\ See supra Section III.A.5. (discussing the circuit breaker
trigger level and duration).
---------------------------------------------------------------------------

Several commenters suggested that short sellers who remain in the
markets, as well as other market participants, might change their
trading behavior in response to a short sale price test
restriction.\869\ For example, commenters expressed the belief that
other traders might use computer algorithms to identify the presence of
short sellers who have sell orders exactly one increment above the bid
and quickly adjust their bid price downward in anticipation of the
stock price dropping, which would result in the price of the security
declining even further overall.\870\ Similarly, several commenters
stated that short sale limit orders might be perceived by other market
participants as a negative view on a covered security, which might have
negative implications on market efficiency, market liquidity, and bid-
ask spreads and might cause buyers to withdraw their bids.\871\ One
commenter noted that displayed short sale limit orders could be
``subject to the risk that long sellers would use the information in
the orders to their advantage and front-run or pick off the orders.''
\872\ Additionally, commenters stated that short sellers who seek to
execute above the best bid without displaying the offer would be driven
to transact in market centers that do not display their better-priced
bids as part of the national

[[Page 11296]]

market system, such as dark pools, or through broker-dealers that offer
internalization.\873\ Commenters noted that such an increase in volume
directed to non-public markets would decrease overall market
transparency, liquidity, and pricing efficiency.\874\
---------------------------------------------------------------------------

\869\ See, e.g., letter from STA (May 2009); letter from Group
One Trading (Sept. 2009); letter from Lime Brokerage (Sept. 2009).
\870\ See letter from Group One Trading (Sept. 2009); letter
from STANY (Sept. 2009).
\871\ See, e.g., letter from Barclays (Sept. 2009); letter from
MFA (Oct. 2009); see also letter from STA (Sept. 2009) (stating that
because short sale orders would have to be priced one increment
above the national best bid, and would drop in price as bids were
exhausted, the alternative uptick rule ``would also prolong and
deepen downward moves by forcing there to be overhanging, passive
supply'').
\872\ Letter from Citadel et al. (Sept. 2009).
\873\ See, e.g., letter from EWT (Sept. 2009); letter from Group
One Trading (Sept. 2009); letter from STANY (Sept. 2009).
\874\ See id.; see also letter from STA (May 2009).
---------------------------------------------------------------------------

Although we recognize that short sellers who remain in the markets,
as well as other market participants, might change their trading
behavior in response to a short sale price test restriction, we believe
any such effect will be limited by the circuit breaker approach of Rule
201. Under the circuit breaker approach, the alternative uptick rule
will only be imposed when a covered security has experienced an intra-
day price decline of 10% or more and will only apply for the remainder
of the day and the following day.\875\ To the extent that Rule 201
results in changes in trading behavior, we believe that such an impact
is justified by the benefits provided by the Rule in preventing short
selling, including potentially manipulative or abusive short selling,
from being used as a tool to exacerbate a declining market in a
security.
---------------------------------------------------------------------------

\875\ See supra Section III.A.5. (discussing the circuit breaker
trigger level and duration).
---------------------------------------------------------------------------

In addition, we note that, as discussed in Section II.D., above, we
reviewed the empirical analyses that commenters submitted to us or
discussed in their comments. Consistent with the Pilot Results, a study
of the effect that rescission of former Rule 10a-1 had on market
quality found that the elimination had no measurable effect on market
volatility,\876\ while the results of other studies on the effect of
the lack of a short sale price test restriction on volatility were
mixed.\877\ However, we note that the study showing no measurable
effect on market volatility only analyzed daily volatility during a
six-week period following the elimination of former Rule 10a-1 and,
thus, may have limited statistical significance. In addition, the
studies evidencing an increase in volatility do not address the extent
to which other factors may have contributed to or caused the increased
volatility.
---------------------------------------------------------------------------

\876\ See Ekkehart Boehmer, Charles M. Jones, and Xiaoyan Zhang,
Unshackling Short Sellers: The Repeal of the Uptick Rule (Nov.
2008).
\877\ See, e.g., letter from NAREIT; letter from High Street
Advisors; letter from European Investors (Sept. 2009).
---------------------------------------------------------------------------

Studies of other aspects of market quality suggest little
measurable impact of a short sale price test restriction on price
discovery, market efficiency, liquidity or market quality in
general.\878\ Several commenters cited empirical evidence showing that
restrictions on short selling, particularly bans on short selling, may
impede liquidity, price discovery, and market efficiency,\879\ but the
cited studies do not address the effects of a short sale price test
restriction in general or Rule 201 in particular. The empirical
analyses that commenters submitted on whether a short sale price test
restriction dampens price pressure from short sellers are mixed, but
generally focus on long time horizons, such as weeks or months, as
opposed to short time horizons, such as seconds or minutes, which are
more relevant to the impact of a short sale price test restriction on
price pressure.\880\
---------------------------------------------------------------------------

\878\ See, e.g., the Pilot Results; see also supra note 856 and
accompanying text. Numerous commenters also sent analyses on short
selling restrictions in general or on the short selling ban. See,
e.g., letter from AIMA; letter Allston Trading (June 2009); Autore,
Billingsley, and Kovacs, Short Sale Constraints, Dispersion of
Opinion, and Market Quality: Evidence from the Short Sale Ban on
U.S. Financial Stocks (June 19, 2009); letter from BATS (May 2009);
letter from CBOE (June 2009); letter from Citadel et al. (June
2009); letter from Credit Suisse (June 2009), letter from CPIC (June
2009); letter from GETCO (June 2009); letter from Goldman Sachs
(Sept. 2009); letter from Hudson River Trading; letter from ICI
(June 2009); letter from NSCP; letter from NYSE Euronext (June
2009); letter from TD Asset Management; letter from STANY (June
2009); letter from Wolverine.
\879\ See supra note 128.
\880\ See, e.g., J. Julie Wu, Uptick Rule, short selling and
price efficiency, Aug. 14, 2006.
---------------------------------------------------------------------------

In summary, after considering the empirical evidence and the
comments that we received in response to the Proposal and the Re-
Opening Release, we believe that Rule 201 will have a minimal, if any,
negative effect on market liquidity, price efficiency, and quote
depths.\881\ In addition, we recognize that there will be market costs
associated with Rule 201 in terms of the potential impact of such a
short sale-related circuit breaker on execution speed and probability.
Such costs may increase the costs of legitimate short selling. To the
extent that Rule 201 results in increased costs for short selling in
covered securities, it may increase the trading costs of legitimate
short selling for these securities and may result in a reduction in
short selling generally. Restricting short selling may also reduce
``long'' activity where the short selling is part of a larger trading
strategy. As discussed above, we believe that these costs will be
limited because of the circuit breaker approach of Rule 201.
---------------------------------------------------------------------------

\881\ See supra note 878 (citing empirical evidence showing that
former Rule 10a-1 did not have an effect on market liquidity and
price efficiency and that price test restrictions resulted in an
increase in quote depths). We note that, although the alternative
uptick rule is by definition more restrictive than the proposed
modified uptick rule, differences between the operation of the
proposed uptick rule and the alternative uptick rule mean that one
approach or the other would be more restrictive in particular
circumstances. See, e. g., supra note 242 and accompanying text
(discussing automated trade matching systems).
---------------------------------------------------------------------------

We believe that the potential costs of Rule 201 are justified by
its design, such that, when Rule 201 is triggered, it will allow long
sellers, by selling at the bid, to sell first, ahead of short sellers,
in a declining market for a particular security. As the Commission has
noted previously in connection with short sale price test restrictions,
a goal of such restrictions is to allow long sellers to sell first in a
declining market.\882\ A short seller that is seeking to profit quickly
from accelerated, downward market moves may find it advantageous to be
able to short sell at the current national best bid. In addition, by
making bids accessible only by long sellers when a security's price is
undergoing significant downward price pressure, Rule 201 will help to
facilitate and maintain stability in the markets and help ensure that
they function efficiently. It will also help restore investor
confidence during times of substantial uncertainty because, once the
circuit breaker has been triggered for a particular security, long
sellers will have preferred access to bids for the security, and the
security's continued price decline will more likely be due to long
selling and the underlying fundamentals of the issuer, rather than to
other factors. In addition, combining the alternative uptick rule with
a circuit breaker strikes the appropriate balance between our goal of
preventing short selling, including potentially manipulative or abusive
short selling, from being used as a tool to exacerbate a declining
market in a security and the need to allow for the continued smooth
functioning of the markets, including the provision of liquidity and
price efficiency in the markets.
---------------------------------------------------------------------------

\882\ See supra note 17.
---------------------------------------------------------------------------

In addition, we believe several of the provisions contained in
paragraph (d) of Rule 201 will help to mitigate any potential price
distortions or costs associated with Rule 201. These provisions are
designed to help promote the workability of Rule 201, while at the same
time furthering our goals for adopting short sale price test
regulation.
As discussed above,\883\ we are adopting the seller's delay in
delivery exception under Rule 201(d)(1) to allow sale orders of owned
but restricted

[[Page 11297]]

securities to be displayed or executed at a price that is less than or
equal to the current national best bid, thereby mitigating the negative
impact of Rule 201, if any, on execution speed and probability and
helping to promote the workability of Rule 201.
---------------------------------------------------------------------------

\883\ See supra Section III.B.2. (discussing the ``short
exempt'' provision for seller's delay in delivery).
---------------------------------------------------------------------------

Rule 201(d)(2) allows a broker-dealer to mark a short sale order as
``short exempt'' if the broker-dealer has a reasonable basis to believe
that the short sale order is by a market maker to off-set a customer
odd-lot order or liquidate an odd-lot position which changes such
broker-dealer's position by no more than a unit of trading.\884\ We
believe that the odd-lot exception will promote the workability of Rule
201 and help mitigate potential price distortions or costs associated
with the Rule, if any, because it will allow those acting in the
capacity of a ``market maker'' to off-set customer odd-lot orders
without regard to whether the sale order is at a price that is less
than or equal to the current national best bid, thereby facilitating
the liquidity providing function of market makers.
---------------------------------------------------------------------------

\884\ See supra Section III.B.3. (discussing the ``short
exempt'' provision for odd lot transactions).
---------------------------------------------------------------------------

Rule 201(d)(3) permits a broker-dealer to mark as ``short exempt''
short sale orders associated with certain bona fide domestic arbitrage
transactions.\885\ Moreover, to facilitate arbitrage transactions in
which a short position is taken in a security in the U.S. markets, and
which is to be immediately covered on a foreign market, Rule 201(d)(4)
permits a broker-dealer to mark as ``short exempt'' short sale orders
associated with certain international arbitrage transactions.\886\
Because domestic arbitrage and international arbitrage transactions
promote market efficiency by equalizing prices at an instant in time in
different markets or between relatively equivalent securities,\887\ we
believe these provisions will help mitigate the negative effect of Rule
201, if any, on market and pricing efficiency and help to promote the
workability of Rule 201.
---------------------------------------------------------------------------

\885\ See supra Section III.B.4. (discussing the ``short
exempt'' provision for domestic arbitrage transactions).
\886\ See supra Section III.B.5. (discussing the ``short
exempt'' provision for international arbitrage transactions).
\887\ See supra Sections III.B.4. and III.B.5. (discussing the
benefits of bona fide arbitrage activities to market efficiency
because they tend to reduce pricing disparities between related
securities).
---------------------------------------------------------------------------

Rule 201(d)(5) permits a broker-dealer to mark as ``short exempt''
short sale orders by underwriters or syndicate members participating in
a distribution in connection with an over-allotment, and any short sale
orders for purposes of lay-off sales by such persons in connection with
a distribution of securities through a rights or standby underwriting
commitment.\888\ We are including a ``short exempt'' marking provision
for syndicate and lay-off sales because, as discussed above, we have
historically excepted such activity from short sale rules.\889\ In
addition, we note that the public offering process is key to capital
formation. By facilitating price support during the offering process,
Rule 201(d)(5) will mitigate the negative effects of Rule 201, if any,
on capital formation.
---------------------------------------------------------------------------

\888\ See supra Section III.B.6. (discussing the ``short
exempt'' provision for over-allotments and lay-off sales).
\889\ See id.
---------------------------------------------------------------------------

Rule 201(d)(6) allows a broker-dealer to mark as ``short exempt''
short sale orders where broker-dealers are facilitating customer buy
orders or sell orders where the customer is net long, and the broker-
dealer is net short but is effecting the sale as riskless
principal.\890\ We believe that the riskless principal exception of
Rule 201(d)(6) will facilitate broker-dealers' ability to provide best
execution to certain customer orders, thus mitigating the negative
impact of Rule 201, if any, on execution speed and probability and
helping to promote the workability of Rule 201.
---------------------------------------------------------------------------

\890\ See supra Section III.B.7. (discussing the ``short
exempt'' provision for riskless principal transactions).
---------------------------------------------------------------------------

Rule 201(d)(7) permits a broker-dealer to mark as ``short exempt''
certain short sale orders executed on a VWAP basis.\891\ We believe
that the exception for VWAP short sale transactions will provide an
additional source of liquidity for investors' VWAP orders and will help
enable investors to achieve their objective of obtaining an execution
at the VWAP, thus mitigating the negative impact of Rule 201, if any,
on liquidity and execution speed and probability and helping to promote
the workability of Rule 201.
---------------------------------------------------------------------------

\891\ See supra Section III.B.8. (discussing the ``short
exempt'' provision for transactions on a volume weighted average
price basis).
---------------------------------------------------------------------------

b. Implementation and On-Going Monitoring and Surveillance Costs
i. Policies and Procedures Requirement Under Rule 201
Rule 201 requires a trading center to have written policies and
procedures reasonably designed to prevent the execution or display of a
short sale order of a covered security at a price that is less than or
equal to the current national best bid if the price of that covered
security decreases by 10% or more from the covered security's closing
price as determined by the listing market for the covered security as
of the end of regular trading hours on the prior day.\892\ In addition,
the Rule requires that the trading center establish, maintain, and
enforce written policies and procedures reasonably designed to impose
this short sale price test restriction for the remainder of the day and
the following day when a national best bid for the covered security is
calculated and disseminated on a current and continuing basis by a plan
processor pursuant to an effective national market system plan.\893\ In
addition, trading centers are required to regularly surveil to
ascertain the effectiveness of the policies and procedures required
under the Rule and to take prompt action to remedy deficiencies in such
policies and procedures.\894\
---------------------------------------------------------------------------

\892\ See Rule 201(b)(1)(i).
\893\ See Rule 201(b)(1)(ii).
\894\ See Rule 201(b)(2).
---------------------------------------------------------------------------

As stated previously, we discussed in the Proposal the anticipated
costs of the proposed short sale price test restrictions and, in the
Proposal and Re-Opening Release, we requested comment on the costs
associated with the proposed amendments.\895\ In particular, we
requested comment on the potential costs for any modification to both
computer systems and surveillance mechanisms and for information
gathering, management, and recordkeeping systems or procedures.\896\
---------------------------------------------------------------------------

\895\ See Proposal, 74 FR at 18090, 18092-18103; Re-Opening
Release, 74 FR at 42037.
\896\ See Proposal, 74 FR at 18090.
---------------------------------------------------------------------------

A number of commenters expressed concerns that the costs of
implementing a short sale price test restriction would be
significant.\897\ However, many of these comments were not specific to
the alternative uptick rule.\898\ While some commenters discussed the
potential implementation costs of the alternative uptick rule, they did
not provide specific estimates of such costs.\899\ Most commenters
compared estimated implementation costs of the alternative uptick rule
to the other proposed rules.\900\
---------------------------------------------------------------------------

\897\ See, e.g., letter from NSCP; letter from STANY (June
2009); letter from RBC (June 2009); letter from Wolverine; letter
from CPIC (Sept. 2009); letter from EWT (Sept. 2009); letter from
RBC (Sept. 2009); letter from STA (Sept. 2009).
\898\ See, e.g., letter from NSCP; letter from STANY (June
2009); letter from RBC (June 2009); letter from Wolverine.
\899\ See, e.g., letter from CPIC (Sept. 2009); letter from EWT
(Sept. 2009); letter from RBC (Sept. 2009); letter from STA (Sept.
2009).
\900\ See, e.g., letter from EWT (Sept. 2009) (stating that the
net savings of the alternative uptick rule to the broader industry
compared to the other proposals would at best be minimal); letter
from STA (Sept. 2009); letter from BATS (Sept. 2009); letter from
Goldman Sachs (Sept. 2009); letter from Wells Fargo (Sept. 2009);
letter from SIFMA (Sept. 2009); letter from ICI (Sept. 2009); letter
from Credit Suisse (Sept. 2009).

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

[[Page 11298]]

As discussed in the PRA section above, we believe that the
implementation and on-going monitoring and surveillance costs of the
alternative uptick rule will be lower than the implementation and on-
going monitoring and surveillance costs that would be associated with
adoption of the proposed modified uptick rule or the proposed uptick
rule.\901\ Unlike the proposed modified uptick rule and the proposed
uptick rule, which would have required sequencing of the national best
bid or last sale price (i.e., whether the current national best bid or
last sale price is above or below the previous national best bid or
last sale price), the alternative uptick rule references only the
current national best bid. In addition, we believe that the
implementation and on-going monitoring and surveillance costs of the
alternative uptick rule are justified by the benefits provided by
preventing short selling, including potentially manipulative or abusive
short selling, from being used as a tool to exacerbate a declining
market in a security.
---------------------------------------------------------------------------

\901\ See supra Section IX.E.1. (discussing estimated burdens on
trading centers of the collection of information requirements in
connection with Rule 201).
---------------------------------------------------------------------------

A number of commenters stated that because the alternative uptick
rule would not require monitoring of the sequence of bids or last sale
prices, implementing the alternative uptick rule would be less costly
\902\ or easier than implementing the proposed modified uptick rule or
the proposed uptick rule.\903\ In addition, several commenters stated
that the alternative uptick rule would be easier to program into
trading and surveillance systems than the proposed modified uptick rule
or the proposed uptick rule.\904\ Another commenter stated, with
respect to the alternative uptick rule, that ``actual implementation
costs in terms of time and capital expenditure would be negligible when
compared to those involved in implementing either the uptick rule or
modified uptick rule.'' \905\
---------------------------------------------------------------------------

\902\ See, e.g., letter from BATS (May 2009); letter from BATS
(Sept. 2009); letter from GETCO (Sept. 2009); letter from ICI (Sept.
2009); letter from Glen Shipway (Sept. 2009). In addition, several
commenters acknowledged that implementation of the alternative
uptick rule will likely be less costly, without referencing the
sequencing issue. See, e.g., letter from STANY (Sept. 2009).
\903\ See, e.g., letter from Glen Shipway (Sept. 2009); letter
from SIFMA (Sept. 2009); letter from STA (Sept. 2009); see also
letter from Credit Suisse (June 2009). In addition, one commenter
acknowledged that implementation of the alternative uptick rule will
likely be easier, without referencing the sequencing issue. See
letter from Allston Trading (Sept. 2009).
\904\ See, e.g., letter from BATS (May 2009); letter from Glen
Shipway (Sept. 2009); letter from ICI (Sept. 2009); see also letter
from National Stock Exchange et al.
\905\ Letter from BATS (Sept. 2009).
---------------------------------------------------------------------------

Several commenters indicated that implementation of the alternative
uptick rule would not be easier or less costly than implementation of
the proposed modified uptick rule or the proposed uptick rule.\906\
However, we note that some of these commenters presented concerns that
were not directly related to the alternative uptick rule \907\ or to
implementation costs or difficulties.\908\ Additionally, one commenter
did not provide the reasoning for its belief that the alternative
uptick rule would not be easier or less costly to implement.\909\
---------------------------------------------------------------------------

\906\ See, e.g., letter from Matlock Capital (Sept. 2009);
letter from NYSE Euronext (Sept. 2009); letter from Knight Capital
(Sept. 2009).
\907\ See, e.g., letter from NYSE Euronext (Sept. 2009) (stating
that implementation of the alternative uptick rule would be more
difficult on the basis that the alternative uptick rule would be
paired with a circuit breaker and attributing implementation
difficulties to the circuit breaker approach, not the alternative
uptick rule).
\908\ See, e.g., letter from Knight Capital (Sept. 2009)
(characterizing a potential increase in friction, confusion, or
inefficiency in the market as an implementation difficulty that may
arise from the alternative uptick rule).
\909\ See letter from Matlock Capital (Sept. 2009).
---------------------------------------------------------------------------

Several commenters indicated their belief that other commenters'
estimates regarding the difficulty or costs of implementing and
monitoring the proposed modified uptick rule and the proposed uptick
rule were exaggerated.\910\ We recognize that some commenters'
estimates of the costs of the proposed modified uptick rule or the
proposed uptick rule may have been conservative. We also believe that
because the alternative uptick rule does not include a sequencing
requirement, the implementation and on-going monitoring and
surveillance costs of the alternative uptick rule will be less than
such costs would be with respect to the other proposed short sale price
test restrictions.
---------------------------------------------------------------------------

\910\ See, e.g., letter from Matlock Capital (Sept. 2009);
letter from ISE (Sept. 2009); letter from Bingham McCutchen.
---------------------------------------------------------------------------

One commenter stated that the Commission ``underestimate[s] the
time and expense that will be required for market participants to
comply with the [alternative uptick] rule (or any other of the proposed
alternatives)'' and that such costs ``will include expenses * * * for
the initial implementation of any restriction.'' \911\ However, this
commenter did not specify why or how the implementation cost of the
alternative uptick rule may be greater than we estimated.\912\
---------------------------------------------------------------------------

\911\ Letter from RBC (Sept. 2009).
\912\ In addition, with respect to the commenter's concern that
we underestimated the time required for implementation, we note
that, as discussed in Section VII., above, we believe that a six
month implementation period is appropriate. This implementation
period, which is longer than the implementation periods proposed in
the Proposal and the Re-Opening Release, takes into consideration
commenters' concerns that implementation of a price test could be
complex. We do not believe that a longer implementation time is
warranted because, for example, Rule 201 does not require monitoring
of the sequence of bids or last sale prices, unlike other proposed
price tests, and because Rule 201 requires the implementation of
policies and procedures similar to those required for trading
centers under Regulation NMS.
---------------------------------------------------------------------------

One commenter indicated that implementation costs would be
approximately $500,000 per firm, for a total of $191,000,000 for all
non-SRO trading centers subject to Rule 201,\913\ including costs for
``the purchase of additional costly data feeds'' but not including
``costs associated with developing appropriate internal supervisory
procedures and compliance programs.'' \914\ The implementation cost
estimates provided by this commenter, which are significantly higher
than our estimate of, on average, $68,381 per non-SRO trading
center,\915\ were not specific to the alternative uptick rule. Because
the alternative uptick rule references only the current national best
bid, unlike the proposed modified uptick rule and the proposed uptick
rule, which would have required sequencing of the national best bid or
last sale price, we believe that the alternative uptick rule will be
easier and less costly to implement and monitor than the proposed
modified uptick rule or the proposed uptick rule.\916\ In addition, we
note that implementation of Rule 201 will not require modifications to
how data feeds are currently received. As discussed above, Rule 201
does not mandate that the receipt of the current national best bid must
be from any one particular data feed; thus, trading centers will be
able to continue using the data feed they currently use, and for which
they

[[Page 11299]]

currently pay.\917\ As a result, we believe this commenter's estimates
of the implementation costs are higher than our estimated
implementation costs for Rule 201.
---------------------------------------------------------------------------

\913\ See letter from Wolverine. In its letter, Wolverine
multiplied its implementation cost estimate of $500,000 by 382 non-
SRO trading centers for a total of $191,000,000. See id. As
indicated above, however, we now estimate that there are 407 non-SRO
trading centers. See supra note 686.
\914\ Id.
\915\ See infra note 960 and accompanying text (discussing our
estimated implementation costs for trading centers).
\916\ See supra notes 661 to 669 and accompanying text
(discussing comments on the impact of the alternative uptick rule on
implementation and on-going monitoring and compliance costs).
\917\ See supra notes 404 to 411 and accompanying text
(discussing the use of various data feeds in determining the current
national best bid).
---------------------------------------------------------------------------

Another commenter conducted a survey of firms with respect to
implementation cost estimates. Cost estimates in response to the survey
indicated that a circuit breaker triggering a short sale price test
based on the national best bid would have implementation costs that
averaged between $235,000 and $2,000,000 per firm.\918\ This estimated
implementation cost range is significantly higher than our estimated
range of, on average, $68,381 per non-SRO trading center to $86,880 per
SRO trading center for implementation.\919\ We note that the
commenter's survey results covered fifty firms, categorized as large
firms, regional firms, and clearing firms, rather than SRO trading
centers, non-SRO trading centers and broker-dealers. Thus, it is
difficult to determine the implementation costs to trading centers,
including non-SRO trading centers, from these survey results. In
addition, these cost estimates were based on a circuit breaker
triggering the proposed modified uptick rule and, as such, were not
specific to the alternative uptick rule. Because the alternative uptick
rule references only the current national best bid, unlike the proposed
modified uptick rule and the proposed uptick rule, which would have
required sequencing of the national best bid or last sale price, we
believe that the alternative uptick rule will be easier and less costly
to implement and monitor than the proposed modified uptick rule or the
proposed uptick rule.\920\
---------------------------------------------------------------------------

\918\ See letter from SIFMA (June 2009). SIFMA did not
categorize estimates of the implementation costs of a circuit
breaker triggering a short sale price test based on the national
best bid by SRO trading centers, non-SRO trading centers, and other
broker-dealers, but categorized responses by larger firms, with
implementation cost estimates that averaged $2,000,000 per firm,
with the highest estimate at $9,000,000 per firm, regional firms,
with estimates that averaged $235,000 per firm, with the highest
estimate at $500,000 per firm, and clearing firms, with estimates
that averaged $1,200,000 per firm, with the highest estimate at
$1,900,000 per firm. SIFMA only provided the average and highest
cost estimates per category. See id.
\919\ See infra note 960 and accompanying text (discussing our
estimated implementation costs for trading centers).
\920\ See supra notes 661 to 669 and accompanying text
(discussing comments on the impact of the alternative uptick rule on
implementation and on-going monitoring and compliance costs).
---------------------------------------------------------------------------

Commenters indicated that implementation costs would include costs
for modifications to multiple systems, including blue sheet, OATS, and
OTS reporting systems, trading system interfaces, execution management
systems, and order management systems; modifications to data feeds;
\921\ adjustments to data retention capabilities; revisions to written
policies and procedures; and personnel training regarding the new
requirements.\922\ We recognize that implementation of Rule 201 will
impose surveillance and reprogramming costs for enforcing, monitoring,
and updating trading, order management, execution management,
surveillance, and reporting systems under Rule 201, systems changes to
computer software, adjustments to data retention capabilities, as well
as staff time and technology resources. These costs are included in our
estimates of the costs of implementing Rule 201.\923\
---------------------------------------------------------------------------

\921\ As discussed above, implementation of Rule 201 will not
require modifications to how data feeds are currently received. See
supra notes 404 to 411 and accompanying text (discussing the use of
various data feeds in determining the current national best bid).
\922\ See, e.g., letter from NSCP; letter from STANY (June
2009); letter from RBC (June 2009); letter from Wolverine; letter
from EWT (Sept. 2009).
\923\ See infra note 960 and accompanying text (discussing our
estimates of the implementation costs of Rule 201 by trading
centers).
---------------------------------------------------------------------------

In addition, commenters expressed concerns that the costs of on-
going monitoring and surveillance of a short sale price test
restriction would be significant.\924\ Only one commenter specifically
discussed concerns about the on-going monitoring and surveillance costs
of the alternative uptick rule, and this commenter did not provide
specific cost estimates.\925\ One commenter stated that the alternative
uptick rule would be easier to surveil and monitor than the proposed
modified uptick rule or the proposed uptick rule, and thus would
present lower on-going costs to the industry.\926\ The alternative
uptick rule references only the current national best bid, unlike the
proposed modified uptick rule and the proposed uptick rule, which would
have required sequencing of the national best bid or last sale price.
Thus, we believe that the alternative uptick rule will be easier and
less costly to implement and monitor than the proposed modified uptick
rule or the proposed uptick rule.\927\
---------------------------------------------------------------------------

\924\ See, e.g., letter from NSCP; letter from RBC (June 2009);
letter from SIFMA (June 2009); letter from Wolverine; letter from
RBC (Sept. 2009).
\925\ See letter from RBC (Sept. 2009).
\926\ See letter from STA (Sept. 2009).
\927\ See supra notes 661 to 669 and accompanying text
(discussing comments on the impact of the alternative uptick rule on
implementation and on-going monitoring and compliance costs).
---------------------------------------------------------------------------

Another commenter estimated that on-going system maintenance would
cost $20,000 annually per firm.\928\ This estimate is lower than our
estimated total cost of, on average, $121,356 annually per trading
center for on-going monitoring and surveillance.\929\ This commenter
stated that this estimate covers the cost ``annually to maintain the
system.'' It is not clear what specific on-going monitoring and
surveillance functions are included in the commenter's estimate but we
believe that our estimate is more inclusive, in that it specifically
takes into account costs for the commitment of resources associated
with compliance administration and oversight, response to regulatory
inquiries and examinations, response to internal inquiries, market
surveillance, data retention, testing, training, and enforcement, with
attendant opportunity costs.\930\
---------------------------------------------------------------------------

\928\ See letter from Wolverine. Wolverine does not apply this
estimate to exchanges and ATSs, but only to other non-SRO trading
centers (such as market makers), noting that on-going costs for
exchanges and ATSs ``should be minimal because they would be limited
to system testing and maintenance, not the regulation of hundreds of
members' systems, procedures and trading activity.'' Id.
\929\ See infra notes 961 to 962 and accompanying text
(discussing our estimates of the on-going monitoring and
surveillance costs of Rule 201 by trading centers).
\930\ See infra notes 934 and 935 and accompanying text
(discussing the scope of our on-going monitoring and compliance cost
estimates).
---------------------------------------------------------------------------

One commenter conducted a survey of fifty firms with respect to on-
going monitoring cost estimates. Cost estimates in response to the
survey indicated that a circuit breaker triggering a short sale price
test based on the national best bid would have on-going monitoring
costs that averaged between $45,000 and $175,000 per firm.\931\
Although our estimated cost of, on average, $121,356 per trading center
for on-going monitoring and surveillance,\932\ falls within this
commenter's estimated range of on-going monitoring cost, we note that
the survey results covered fifty firms,

[[Page 11300]]

categorized as large firms, regional firms, and clearing firms, rather
than SRO trading centers, non-SRO trading centers and broker-dealers.
Thus, it is difficult to determine the implementation costs to trading
centers, including non-SRO trading centers, from these survey results.
In addition, these cost estimates were not specific to the alternative
uptick rule. Because the alternative uptick rule references only the
current national best bid, unlike the proposed modified uptick rule and
the proposed uptick rule, which would have required sequencing of the
national best bid or last sale price, we believe that the alternative
uptick rule will be easier and less costly to implement and monitor
than the proposed modified uptick rule or the proposed uptick
rule.\933\
---------------------------------------------------------------------------

\931\ See letter from SIFMA (June 2009). SIFMA did not
categorize estimates of the on-going monitoring costs of a circuit
breaker triggering a short sale price test based on the national
best bid by SRO trading centers, non-SRO trading centers, and other
broker-dealers, but categorized responses by larger firms, with on-
going monitoring cost estimates that averaged $130,000 per firm,
with the highest estimate at $1,500,000 per firm, regional firms,
with estimates that averaged $45,000 per firm, with the highest
estimate at $350,000 per firm, and clearing firms, with estimates
that averaged $175,000 per firm, with the highest estimate at
$250,000 per firm. SIFMA only provided the average and highest cost
estimates per category. See id.
\932\ See infra notes 961 to 962 and accompanying text
(discussing our estimated on-going monitoring and surveillance costs
for trading centers).
\933\ See supra notes 661 to 669 and accompanying text
(discussing comments on the impact of the alternative uptick rule on
implementation and on-going monitoring and compliance costs).
---------------------------------------------------------------------------

Commenters indicated that the on-going costs to trading centers of
a short sale price test restriction would include surveillance,
testing, training, administration and supervision, data retention,
response to regulatory inquiries and examinations, and response to
internal inquiries.\934\ We agree with these comments and believe that
Rule 201 will require the commitment of resources associated with
compliance administration and oversight, response to regulatory
inquiries and examinations, response to internal inquiries, market
surveillance, data retention, testing, training, and enforcement, with
attendant opportunity costs. These costs are included in our estimates
of the costs of on-going monitoring and surveillance of Rule 201.\935\
---------------------------------------------------------------------------

\934\ See, e.g., letter from NSCP; letter from RBC (June 2009);
letter from SIFMA (June 2009); letter from Wolverine; letter from
RBC (Sept. 2009).
\935\ See infra notes 961 to 962 and accompanying text
(discussing our estimates of the on-going monitoring and
surveillance costs of Rule 201 to trading centers).
---------------------------------------------------------------------------

In estimating the costs to trading centers of implementing Rule
201, we considered that the policies and procedures required to be
implemented for purposes of Rule 201 are similar to those that are
required under Regulation NMS.\936\ In accordance with Regulation NMS,
trading centers must have in place written policies and procedures in
connection with that Regulation's Order Protection Rule, which could
help form the basis for implementing the policies and procedures for
Rule 201.\937\ Thus, we believe trading centers may already be familiar
with establishing, maintaining, and enforcing trading-related policies
and procedures, including programming their trading systems in
accordance with such policies and procedures. We believe this
familiarity will reduce the implementation costs of Rule 201 on trading
centers and will make Rule 201 less burdensome to implement. Moreover,
because trading centers have already developed or modified their
surveillance mechanisms in order to comply with Regulation NMS's
policies and procedures requirement, trading centers may already have
retained and trained the necessary personnel to ensure compliance with
that Regulation's policies and procedures requirements and, therefore,
may already have in place most of the infrastructure and potential
policies and procedures necessary to comply with Rule 201.\938\
Further, we believe that the implementation and on-going monitoring and
surveillance costs of the alternative uptick rule are justified by the
benefits provided in preventing short selling, including potentially
manipulative or abusive short selling, from being used as a tool to
exacerbate a declining market in a security.
---------------------------------------------------------------------------

\936\ See Regulation NMS Adopting Release, 70 FR 37496; see also
Proposal, 74 FR at 18087; 17 CFR 242.611.
\937\ See Regulation NMS Adopting Release, 70 FR 37496; see also
17 CFR 242.611.
\938\ We also believe some trading centers may have retained
personnel familiar with the former SRO bid tests, which may make
Rule 201 even less burdensome to implement. See, Proposal, 74 FR at
18095, n.393 and 18053, n.125.
---------------------------------------------------------------------------

Several commenters indicated that the Commission overstated the
benefit of previous implementation of Regulation NMS in mitigating the
costs of implementing a short sale price test restriction,\939\
because, for example, ``systems re-written and architected for Reg NMS
* * * did not include any short sale restrictions,'' \940\ or because
such systems will require modifications in order to be used in the
context of a short sale price test restriction.\941\ However, we took
into account that Regulation NMS was implemented after elimination of
the prior short sale price tests when considering the impact of
previous experience with the policies and procedures requirement of
Regulation NMS's Order Protection Rule. And, although we recognize that
systems and processes will have to be modified for implementation of
Rule 201, we continue to believe that because most trading centers
already have in place systems and written policies and procedures in
order to comply with Regulation NMS's Order Protection Rule, most
trading centers will already be familiar with establishing,
maintaining, and enforcing trading-related policies and procedures,
which will mitigate the burden of implementation of the policies and
procedures requirement under Rule 201.
---------------------------------------------------------------------------

\939\ See, e.g., letter from FIF (June 2009); letter from NSCP;
letter from RBC (June 2009).
\940\ Letter from FIF (June 2009); see also letter from RBC
(June 2009).
\941\ See letter from NSCP; letter from RBC (June 2009).
---------------------------------------------------------------------------

Several commenters agreed, stating that previous experience with
the policies and procedures required under Regulation NMS might reduce
the implementation and on-going monitoring and compliance burdens on
trading centers.\942\ One commenter stated that implementation of a
circuit breaker approach combined with the alternative uptick rule
would be easier to implement than the other proposed short sale price
tests or proposed circuit breaker rules, ``provided that the Commission
permits firms to leverage the numerous systems changes made to
facilitate compliance with Regulation NMS (including the use of
internal market data rather than consolidated data supplied by the
industry plans).'' \943\ And one commenter stated that prior
implementation of Regulation NMS could ease implementation of a short
sale price test restriction, ``provided that broker-dealers'
implementations of Regulation NMS was sufficiently modular and
extensible.'' \944\ We believe that Rule 201 is structured so that
trading centers will be able to leverage their existing systems and
experience with implementing the policies and procedures required by
Regulation NMS's Order Protection Rule. For example, Rule 201 does not
mandate that the receipt of the current national best bid must be from
any one particular data feed; thus, trading centers will be able to use
internal market data if they choose.\945\ Thus, as stated above, we
believe that familiarity with trading-related policies and procedures
under Regulation NMS will mitigate the burden of implementation of the
policies and procedures requirement under Rule 201.
---------------------------------------------------------------------------

\942\ See, e.g., letter from EWT (Sept. 2009); letter from
Goldman Sachs (Sept. 2009); letter from MFA (Oct. 2009).
\943\ Letter from Goldman Sachs (Sept. 2009); see also letter
from MFA (Oct. 2009).
\944\ Letter from EWT (Sept. 2009).
\945\ See supra notes 404 to 411 and accompanying text
(discussing the use of various data feeds in determining the current
national best bid).
---------------------------------------------------------------------------

Moreover, the written policies and procedures requirement of Rule
201 is designed to provide trading centers with significant flexibility
in determining how to comply with the requirements of

[[Page 11301]]

the Rule. For example, Rule 201 is designed to provide trading centers
and their customers with flexibility in determining how to handle
orders that are not immediately executable or displayable by the
trading center because the order is impermissibly priced. Thus, if an
order were impermissibly priced, the trading center could, in
accordance with policies and procedures reasonably designed to prevent
the execution or display of a short sale at a price that is less than
or equal to the current national best bid, re-price the order upwards
to the lowest permissible price and hold it for later execution at its
new price or better.\946\ As quoted prices change, Rule 201 allows a
trading center to repeatedly re-price and display an order at the
lowest permissible price down to the order's original limit order price
(or, if a market order, until the order is filled). Because a trading
center could re-price and display a previously impermissibly priced
short sale order, Rule 201 may allow for the more efficient functioning
of the markets because trading centers do not have to reject or cancel
impermissibly priced orders unless instructed to do so by the trading
center's customer submitting the short sale order. We note that a
number of commenters expressed support for a policies and procedures
approach to any short sale price test restriction, in part, because it
would add flexibility to the Rule's requirements.\947\
---------------------------------------------------------------------------

\946\ For example, if a trading center receives a short sale
order priced at $47.00 when the current national best bid in the
security is $47.00, the trading center could re-price the order at
the permissible offer price of $47.01, and display the order for
execution at this new limit price.
\947\ See, e.g., letter from T. Rowe Price (June 2009); letter
from AIMA; letter from RBC (June 2009); letter from Citadel et al.
(Sept. 2009).
---------------------------------------------------------------------------

Moreover, while latencies in obtaining data regarding the national
best bid from consolidated market data feeds, as discussed in detail
above, may impact implementation costs associated with Rule 201, a
trading center could have policies and procedures that would provide
for a snapshot of the applicable national best bid of the security. We
note that some commenters expressed concerns regarding latencies in
obtaining data regarding the national best bid disseminated by
proprietary data feeds and/or by SIPs.\948\ We believe that a policies
and procedures approach that provides for a snapshot of the applicable
current national best bid will aid trading centers in dealing with time
lags in receiving data regarding the national best bid from different
data sources, as well as lead to reduced initial and on-going costs
associated with Rule 201 for trading centers by facilitating
verification of whether a short sale order was executed or displayed at
a permissible price.
---------------------------------------------------------------------------

\948\ See, e.g., letter from Glen Shipway (Sept. 2009); see also
letter from Credit Suisse (June 2009); letter from FIF (June 2009);
letter from Lime Brokerage (June 2009); letter from RBC (June 2009);
letter from SIFMA (June 2009); letter from Direct Edge (June 2009);
letter from BATS (Sept. 2009); letter from Credit Suisse (Sept.
2009); letter from Lime Brokerage (Sept. 2009).
---------------------------------------------------------------------------

We considered whether our estimates of the costs to trading centers
for implementation and on-going monitoring and surveillance of the
proposed modified uptick rule included in the Proposal \949\ would
change under the circuit breaker approach of Rule 201, but concluded,
as discussed below, that these estimates continue to represent
reasonable estimates under the circuit breaker approach.
---------------------------------------------------------------------------

\949\ See Proposal, 74 FR at 18093.
---------------------------------------------------------------------------

Despite some commenters' concerns regarding the implementation
costs of a circuit breaker rule,\950\ we believe that the circuit
breaker approach will result in largely the same implementation costs
as we estimated would be incurred if we adopted a permanent, market-
wide short sale price test restriction.\951\ As one commenter stated,
``[o]nce the price test is in place, there is minimal incremental
effort required to add a Circuit Breaker that controls the application
of the price test.'' \952\ Similarly, another commenter stated that
``[t]he additional coding required to implement a circuit breaker is
minimal * * *'' \953\ We believe that there will be only minimal, if
any, implementation costs for a circuit breaker approach in addition to
the costs that we estimated previously for the implementation of a
permanent, market-wide short sale price test rule because trading
centers will need to establish written policies and procedures to
implement the short sale price test restriction regardless of whether
the short sale price test restriction is adopted on a permanent,
market-wide basis or, in the case of Rule 201, adopted in conjunction
with a circuit breaker. Several other commenters agreed, stating that
the costs of the circuit breaker approach would be similar to, or only
incrementally higher than, the costs of a permanent, market-wide
approach.\954\
---------------------------------------------------------------------------

\950\ See supra note 676.
\951\ See Proposal, 74 FR at 18093.
\952\ Letter from Nasdaq OMX Group (Oct. 2009).
\953\ Letter from Credit Suisse (Sept. 2009).
\954\ See, e.g., letter from STA (June 2009).
---------------------------------------------------------------------------

In addition, with respect to on-going monitoring and surveillance
costs of the circuit breaker approach, we recognize, as noted by one
commenter,\955\ that trading centers will need to continuously monitor
whether a security is subject to the provisions of Rule 201 and that
there will be costs associated with such monitoring. However, we
believe that these costs will be offset because, under the circuit
breaker approach, the alternative uptick rule will be time limited and
will only apply on a stock-by-stock basis, which will reduce our
previously estimated costs for on-going monitoring and surveillance.
This is because trading centers will only need to monitor and surveil
for compliance with the alternative uptick rule during the limited
period of time that the circuit breaker is in effect with respect to a
specific security. As such, the circuit breaker approach will allow
regulatory, supervisory and compliance resources to focus on, and to
address, those situations where a specific security is experiencing
significant downward price pressure.\956\ Further, although, under the
circuit breaker approach, market participants will need to monitor
whether a stock is subject to Rule 201 or not, we believe that
familiarity with a circuit breaker approach may help mitigate such
compliance costs.\957\
---------------------------------------------------------------------------

\955\ See letter from Glen Shipway (June 2009).
\956\ See, e.g., letter from Nasdaq OMX Group (Oct. 2009);
letter from SIFMA (Sept. 2009).
\957\ See supra notes 292 and 684 and accompanying text
(discussing stock exchanges' and FINRA's rules or policies to
implement coordinated circuit breaker halts and SRO rules or polices
to coordinate individual security trading halts corresponding to
significant news events).
---------------------------------------------------------------------------

On balance, we believe that the estimates of the costs to trading
centers for implementation and on-going monitoring and surveillance of
the proposed modified uptick rule included in the Proposal \958\ are
appropriate with respect to Rule 201. Thus, our estimates have not
changed from the Proposal, except to the extent that total burden
estimates have changed because we have updated the estimated number of
trading centers.\959\ As detailed in PRA Section IX.E.1., above, we
realize that the exact nature and extent of the policies and procedures
that a trading center is required to establish likely will vary
depending upon the type, size, and nature of the trading center (e.g.,
SRO vs. non-SRO, full service broker-dealer vs. market maker). Thus,
our estimates take into account different types of trading centers and
we realize that these estimates may be on the low-end for some trading
centers while they may be on the high-end for other trading centers.
---------------------------------------------------------------------------

\958\ See Proposal, 74 FR at 18093.
\959\ See supra note 686 (discussing the change in the estimated
number of trading centers).

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

[[Page 11302]]

As detailed in PRA Section IX.E.1., above, we estimate a total one-
time initial cost of $28,699,867 \960\ for all trading centers subject
to Rule 201 to establish the written policies and procedures reasonably
designed to prevent the execution or display of short sale orders at a
price that is less than or equal to the current national best bid.
---------------------------------------------------------------------------

\960\ This figure was calculated by adding $20,359,867 and
$8,340,000 (for outsourced legal work). The $20,359,867 figure was
calculated as follows: (70 legal hours x $305) + (105 compliance
hours x $313) + (20 information technology hours x $292) + (25
business operation hours x $273) = $66,880 per SRO x 10 SROs =
$668,800 total cost for SROs; (37 legal hours x $305) + (77
compliance hours x $313) + (23 information technology hours x $292)
+ (23 business operation hours x $273) = $48,381 per broker-dealer x
407 broker-dealers = $19,691,067 total cost for broker-dealers;
$668,800 + $19,691,067 = $20,359,867. The $8,340,000 figure for
outsourced legal work was calculated as follows: (50 legal hours x
$400 x 10 SROs) + (50 legal hours x $400 x 407 broker-dealers) =
$8,340,000.
Based on industry sources, we estimate that the average hourly
rate for outsourced legal services in the securities industry is
$400. For in-house legal services, we estimate that the average
hourly rate for an attorney in the securities industry is
approximately $305 per hour. The $305/hour figure for an attorney is
from SIFMA's Management & Professional Earnings in the Securities
Industry 2008, modified to account for an 1800-hour work-year and
multiplied by 5.35 to account for bonuses, firm size, employee
benefits and overhead. In addition, we estimate that the average
hourly rate for an assistant compliance director, a senior computer
programmer, and a senior operations manager in the securities
industry is approximately $313, $292, and $273 per hour,
respectively. These figures are from SIFMA's Management &
Professional Earnings in the Securities Industry 2008, modified to
account for an 1800-hour work-year and multiplied by 5.35 to account
for bonuses, firm size, employee benefits and overhead.
---------------------------------------------------------------------------

Once a trading center has established written policies and
procedures reasonably designed to prevent the execution or display of a
short sale order at a price that is less than or equal to the current
national best bid, we estimate a total annual on-going cost of
$7,751,196 \961\ for all trading centers subject to Rule 201 to ensure
that their written policies and procedures are up-to-date and remain in
compliance with Rule 201. In addition, with regard to on-going
monitoring for and enforcement of trading in compliance with Rule 201,
as detailed in PRA Section IX.E.1., above, we believe that, once the
tools necessary to carry out on-going monitoring have been put in
place, a trading center will be able to incorporate on-going monitoring
and enforcement within the scope of its existing surveillance and
enforcement policies and procedures without a substantial additional
burden. We recognize, however, that this on-going compliance will not
be cost-free, and that trading centers will incur some additional
annual costs associated with on-going compliance, including compliance
costs of reviewing transactions. We estimate that each trading center
will incur an average annual on-going compliance cost of $102,768, for
a total annual cost of $42,854,256 for all trading centers.\962\
---------------------------------------------------------------------------

\961\ This figure was calculated as follows: (2 legal hours x 12
months x $305) x (10 + 407) + (3 compliance hours x 12 months x
$313) x (10 + 407) = $7,751,196.
\962\ We estimate that each trading center will incur an average
annual on-going compliance cost of $102,768 for a total annual cost
of $42,854,256 for all trading centers. This figure was calculated
as follows: (16 compliance hours x $313) + (8 information technology
hours x $292) + (4 legal hours x $305) x 12 months = $102,768 per
trading center x 417 trading centers = $42,854,256. As discussed
above, we base our burden hour estimates on the estimates used for
Regulation NMS because it requires similar on-going monitoring and
surveillance for and enforcement of trading in compliance with that
regulation's policies and procedures requirement.
For in-house legal services, we estimate that the average hourly
rate for an attorney in the securities industry is approximately
$305 per hour. The $305/hour figure for an attorney is from SIFMA's
Management & Professional Earnings in the Securities Industry 2008,
modified to account for an 1800-hour work-year and multiplied by
5.35 to account for bonuses, firm size, employee benefits and
overhead. In addition, we estimate that the average hourly rate for
an assistant compliance director, a senior computer programmer, and
a senior operations manager in the securities industry is
approximately $313, $292, and $273 per hour, respectively. These
figures are from SIFMA's Management & Professional Earnings in the
Securities Industry 2008, modified to account for an 1800-hour work-
year and multiplied by 5.35 to account for bonuses, firm size,
employee benefits and overhead.
---------------------------------------------------------------------------

To summarize, we estimate an average one-time initial cost of
$86,880 per SRO trading center and $68,381 per non-SRO trading center
for a total one-time initial cost of $28,699,867 \963\ for all trading
centers subject to Rule 201 to establish the written policies and
procedures reasonably designed to prevent the execution or display of
short sale orders at a price that is less than or equal to the current
national best bid. We estimate an average annual on-going cost of
$18,588 per trading center for a total annual on-going cost of
$7,751,196 \964\ for all trading centers subject to Rule 201 to ensure
that their written policies and procedures are up-to-date and remain in
compliance with Rule 201. In addition, we estimate an average annual
cost of $102,768 per trading center for a total annual cost of
$42,854,256 for all trading centers for on-going monitoring for and
enforcement of trading in compliance with Rule 201.\965\
---------------------------------------------------------------------------

\963\ See supra note 960.
\964\ See supra note 961.
\965\ See supra note 962.
---------------------------------------------------------------------------

ii. Policies and Procedures Requirement Under the Broker-Dealer and
Riskless Principal Provisions
A broker-dealer marking an order ``short exempt'' under Rule 201(c)
must identify the order as being at a price above the current national
best bid at the time of submission to the trading center \966\ and must
establish, maintain, and enforce written policies and procedures
reasonably designed to prevent the incorrect identification of orders
as being priced in accordance with the requirements of Rule
201(c).\967\
---------------------------------------------------------------------------

\966\ See Rule 201(c). As a result, a trading center's policies
and procedures will need to be reasonably designed to permit the
execution or display of such orders without regard to whether the
order is at a price that is less than or equal to the current
national best bid. See Rule 201(b)(1)(iii).
\967\ See Rule 201(c)(1). As part of its written policies and
procedures, a broker-dealer also is required to regularly surveil to
ascertain the effectiveness of its policies and procedures and take
prompt remedial steps. See Rule 201(c)(2). This provision is
intended to reinforce the on-going maintenance and enforcement
requirements of the provision contained in Rule 201(c)(1) by
explicitly assigning an affirmative responsibility to broker-dealers
to surveil to ascertain the effectiveness of their policies and
procedures. See id.
---------------------------------------------------------------------------

Rule 201(d)(6) allows a broker-dealer to mark short sale orders of
a covered security ``short exempt'' where a broker-dealer is
facilitating customer buy orders or sell orders where the customer is
net long, and the broker-dealer is net short but is effecting the sale
as riskless principal, provided certain conditions are satisfied.\968\
A broker-dealer marking an order ``short exempt'' under this provision
is required to have written policies and procedures in place to assure
that, at a minimum: (i) The customer order was received prior to the
offsetting transaction; (ii) the offsetting transaction is allocated to
a riskless principal or customer account within 60 seconds of
execution; and (iii) that it has supervisory systems in place to
produce records that enable the broker-dealer to accurately and readily
reconstruct, in a time-sequenced manner, all orders on which the
broker-dealer relies pursuant to this provision.\969\
---------------------------------------------------------------------------

\968\ See Rule 201(d)(6). As a result, a trading center's
policies and procedures must be reasonably designed to permit the
execution or display of such orders without regard to whether the
order is at a price that is less than or equal to the current
national best bid. See Rule 201(b)(1)(iii).
\969\ See Rule 201(d)(6).
---------------------------------------------------------------------------

As stated previously, we discussed in the Proposal the anticipated
costs of the proposed short sale price test restrictions and we
requested comment, in the Proposal and Re-Opening Release, on the costs
associated with the proposed amendments.\970\ In particular, we
requested comment on the potential costs for any modification to both
computer systems and surveillance mechanisms and for information
gathering, management, and recordkeeping systems or procedures.\971\

[[Page 11303]]

In response to our request for comment, commenters that specifically
addressed the riskless principal provision of Rule 201(d)(6) supported
its inclusion.\972\
---------------------------------------------------------------------------

\970\ See Proposal, 74 FR at 18090, 18092-18103; Re-Opening
Release, 74 FR at 42037.
\971\ See Proposal, 74 FR at 18090.
\972\ See, e.g., letter from BATS (May 2009); letter from SIFMA
(June 2009); letter from Credit Suisse (June 2009); letter from NYSE
Euronext (Sept. 2009).
---------------------------------------------------------------------------

Several commenters expressed concerns with respect to the costs of
the broker-dealer provision of Rule 201(c), but did not provide a
specific estimate of such costs.\973\ Several commenters stated that
the broker-dealer provision would place responsibility for ensuring
order compliance with Rule 201 on broker-dealers, rather than
exchanges, and noted that this is a significant difference from former
Rule 10a-1 and NASD's former bid test.\974\ Similarly, one commenter
stated that the broker-dealer provision would significantly expand the
implementation cost of Rule 201, without providing a specific estimate
of such cost.\975\ Although we agree that implementation of the broker-
dealer provision of Rule 201(c) will impose costs on broker-dealers who
choose to rely on this provision, we note that Rule 201(c) is not a
requirement of the Rule, but rather provides that a broker-dealer may
mark a sell order for a security that has triggered the circuit breaker
as ``short exempt,'' provided that the broker-dealer identifies the
order as being at a price above the current national best bid at the
time of submission to the trading center and otherwise complies with
the requirements of the provision.
---------------------------------------------------------------------------

\973\ See, e.g., letter from Credit Suisse (June 2009); letter
from STANY (June 2009); letter from FIF (June 2009); letter from
Lime Brokerage (June 2009); letter from NSCP; letter from Direct
Edge (June 2009).
\974\ See, e.g., letter from Credit Suisse (June 2009); letter
from STANY (June 2009).
\975\ See letter from Lime Brokerage (June 2009).
---------------------------------------------------------------------------

In addition, as discussed throughout this adopting release, the
alternative uptick rule references only the current national best bid,
unlike the proposed modified uptick rule and the proposed uptick rule,
which would have required sequencing of the national best bid or last
sale price. In order to rely on the broker-dealer provision, a broker-
dealer must establish, maintain, and enforce written policies and
procedures reasonably designed to prevent the incorrect identification
of orders as being at a price above the current national best bid at
the time of submission of the order to the trading center. Because the
alternative uptick rule does not require sequencing of the national
best bid, we believe that the policies and procedures required in order
to rely on the broker-dealer provision under the alternative uptick
rule will be easier and less costly to implement and monitor than would
be the case under the proposed modified uptick rule or the proposed
uptick rule.\976\ We note that one of the commenters that expressed
concerns about the implementation cost of the broker-dealer provision
also acknowledged that a rule ``that would not require data
centralization and sequencing would be significantly less complex and
faster to implement.'' \977\
---------------------------------------------------------------------------

\976\ See supra notes 709 to 715 and accompanying text
(discussing comments on the impact of the alternative uptick rule on
implementation and on-going monitoring and compliance costs).
\977\ Letter from Credit Suisse (June 2009).
---------------------------------------------------------------------------

We disagree with several commenters who stated that, although
implementation and on-going monitoring and surveillance of the
alternative uptick rule might be easier and/or less costly for trading
centers, this would not hold true for broker-dealers.\978\ One of these
commenters stated that ``in order to avoid rejection of short sale
orders under an alternative uptick rule, programming would need to be
implemented to anticipate changes in the national best bid between the
time a short sale order is entered and the time it reaches the relevant
market center.'' \979\ However, the broker-dealer provision of Rule
201(c) is designed specifically to help avoid this result. Under the
broker-dealer provision, a broker-dealer may, in accordance with the
policies and procedures required by the provision, identify the order
as not being at a price that is less than or equal to the current
national best bid at the time the order is submitted to the trading
center and mark the order ``short exempt.'' Trading centers are
required to have written policies and procedures in place to permit the
execution or display of a short sale order of a covered security marked
``short exempt'' without regard to whether the order is at a price that
is less than or equal to the current national best bid.\980\
---------------------------------------------------------------------------

\978\ See, e.g., letter from Citadel et al. (Sept. 2009); letter
from EWT (Sept. 2009); letter Lime Brokerage (Sept. 2009).
\979\ Letter from Citadel et al. (Sept. 2009).
\980\ See Rule 201(b)(1)(iii).
---------------------------------------------------------------------------

Commenters also expressed concerns about the competitive pressure
of the broker-dealer provision, stating either that broker-dealers
would feel compelled to undertake implementation of the provision,
despite the high cost,\981\ which would be particularly burdensome for
smaller firms,\982\ or that smaller firms would find the costs
prohibitive, placing them at a competitive disadvantage.\983\ We
recognize that broker-dealers are faced with competitive concerns and
that such concerns may influence their decision whether or not to rely
on the broker-dealer provision of Rule 201(c). With respect to the
cost, as stated above, although we recognize that the broker-dealer
provision will impose implementation costs on broker-dealers who choose
to rely on this provision, we believe that this cost will not be as
great as stated by some commenters because the alternative uptick rule
does not require sequencing of the national best bid, unlike the
proposed modified uptick rule and the proposed uptick rule, which would
have required sequencing of the national best bid or last sale
price.\984\ We believe that, without a sequencing requirement, the
policies and procedures required in order to rely on the broker-dealer
provision under the alternative uptick rule will be easier and less
costly to implement and monitor, for all broker-dealers including
smaller broker-dealers, than would be the case under the proposed
modified uptick rule or the proposed uptick rule.\985\
---------------------------------------------------------------------------

\981\ See, e.g., letter from STANY (June 2009); letter from FIF
(June 2009); letter from Lime Brokerage (June 2009).
\982\ See, e.g., letter from T.D. Pro Ex; letter from Taurus
Compliance; letter from Credit Suisse (June 2009).
\983\ See, e.g., letter from Credit Suisse (June 2009); letter
from NSCP.
\984\ We also note that it is possible that some smaller broker-
dealers that determine to rely on the broker-dealer provision may
determine that it is cost-effective for them to outsource certain
functions necessary to comply with Rule 201(c) to larger broker-
dealers, rather than performing such functions in house, to remain
competitive in the market. This may help mitigate costs associated
with implementing and complying with Rule 201(c). Additionally, they
may decide to purchase order management software from technology
firms. Order management software providers may integrate changes
imposed by Rules 200(g) and 201 into their products, thereby
providing another cost-effective way for smaller broker-dealers to
comply with the requirement of Rule 201(c).
\985\ See supra notes 709 to 715 and accompanying text
(discussing comments on the impact of the alternative uptick rule on
implementation and on-going monitoring and compliance costs to
broker-dealers).
---------------------------------------------------------------------------

[[Page 11304]]

of such cost.\986\ We agree that broker-dealers who choose to rely on
the broker-dealer provision of Rule 201(c) will face on-going costs for
data storage, surveillance and review. However, we believe that broker-
dealers' on-going monitoring and surveillance costs under Rule 201(c)
will be mitigated by the alternative uptick rule, as compared to the
proposed modified uptick rule or the proposed uptick rule, because the
alternative uptick rule will reference only the current national best
bid in determining permissible short sales.\987\ In order to rely on
the broker-dealer provision, a broker-dealer must establish, maintain,
and enforce written policies and procedures reasonably designed to
prevent the incorrect identification of orders as being at a price
above the current national best bid at the time of submission of the
order to the trading center. Under the alternative uptick rule, broker-
dealers who choose to rely on Rule 201(c) will need to monitor the
current national best bid, but will not be required to monitor the
sequence of bids or last sale prices, as would have been required under
the proposed modified uptick rule or the proposed uptick rule,
respectively. Several commenters noted that the lack of a sequencing
requirement would make the alternative uptick rule, in comparison to
the other proposed short sale price tests, less costly \988\ or easier
to monitor on an on-going basis.\989\ One commenter stated that the
alternative uptick rule would reduce the data retention requirements of
a new short sale price test restriction.\990\
---------------------------------------------------------------------------

\986\ See letter from NSCP; see also letter from Credit Suisse
(June 2009).
\987\ See supra notes 709 to 715 and accompanying text
(discussing comments on the impact of the alternative uptick rule on
implementation and on-going monitoring and compliance costs to
broker-dealers).
\988\ See supra note 661.
\989\ See, e.g., letter from Glen Shipway (Sept. 2009); letter
from SIFMA (Sept. 2009); letter from STA (Sept. 2009); see also
letter from Credit Suisse (June 2009). In addition, one commenter
acknowledged that monitoring of the alternative uptick rule will
likely be easier, without referencing the sequencing issue. See
letter from Allston Trading (Sept. 2009).
\990\ See letter from STA (Sept. 2009).
---------------------------------------------------------------------------

Another commenter stated that the ``Commission's cost estimates
seem to underestimate the cost to large, full service broker-dealers,
since the volume of orders handled by these firms are likely to lead to
significantly greater technology and storage costs alone as well as
more frequent reviews'' but did not provide a specific cost
estimate.\991\ As we stated in the Proposal,\992\ we recognize that the
exact nature and extent of the required policies and procedures, and
thus the costs associated with such policies and procedures, that a
broker-dealer is required to establish under the broker-dealer
provision in Rule 201(c) likely will vary depending upon the nature of
the broker-dealer, and we have taken this into account in our cost
estimates.\993\
---------------------------------------------------------------------------

\991\ Letter from NSCP.
\992\ See Proposal, 74 FR at 18093.
\993\ See infra notes 1022 to 1024 and accompanying text
(discussing our estimates of implementation and on-going monitoring
and surveillance costs to broker-dealers).
---------------------------------------------------------------------------

The following discussion of comments on the costs to broker-dealers
includes comments that were discussed above with respect to the costs
to trading centers \994\ because, in some cases, commenters provided
comments and estimates on the costs of establishing and monitoring
policies and procedures under the proposed short sale price tests
without distinguishing between costs that would be applicable to
trading centers as opposed to broker-dealers. One commenter provided a
dollar estimate of broker-dealer implementation costs at approximately
$500,000 per broker-dealer, for a total of $2,780,500,000 for all
broker-dealers subject to Rule 201,\995\ including costs for ``the
purchase of additional costly data feeds'' but not including ``costs
associated with developing appropriate internal supervisory procedures
and compliance programs.'' \996\ However, we note that this
implementation cost estimate for the broker-dealer provision, which is
significantly higher than our estimate of, on average, $68,381 per
broker-dealer,\997\ was not specific to the alternative uptick rule. As
discussed above, we believe that the alternative uptick rule will be
easier and less costly to monitor than the proposed modified uptick
rule or the proposed uptick rule because under the alternative uptick
rule, broker-dealers who choose to rely on Rule 201(c) will need to
monitor the current national best bid, but will not be required to
monitor the sequence of bids or last sale prices, as would have been
required under the proposed modified uptick rule or the proposed uptick
rule, respectively.\998\ In addition, we note that implementation of
Rule 201 will not require modifications to how data feeds are currently
received. As discussed above, Rule 201 does not mandate that the
receipt of the current national best bid must be from any one
particular data feed; thus, broker-dealers will be able to continue
using the data feed they currently use and for which they currently
pay.\999\
---------------------------------------------------------------------------

\994\ See supra Section X.B.1.b.i. (discussing costs to trading
centers).
\995\ See letter from Wolverine. Wolverine provided an estimate
of $500,000 per firm for implementation costs, which it applied to
both non-SRO trading centers and other registered broker-dealers. In
its letter, Wolverine multiplied its implementation cost estimate of
$500,000 by 5,561 for a total of $2,780,500,000. See id. As
indicated above, the Commission now estimates the number of broker-
dealers at 5,178 based on a review of 2008 FOCUS Report filings
reflecting registered broker-dealers, including introducing broker-
dealers. This number does not include broker-dealers that are
delinquent on FOCUS Report filings. See supra note 652.
\996\ Letter from Wolverine.
\997\ See infra note 1022 and accompanying text (discussing our
estimated implementation costs for broker-dealers).
\998\ See supra notes 709 to 715 and accompanying text and notes
978 to 980 and accompanying text (discussing comments on the impact
of the alternative uptick rule on implementation and on-going
monitoring and compliance costs).
\999\ See supra notes 404 to 411 and accompanying text
(discussing the use of various data feeds in determining the current
national best bid).
---------------------------------------------------------------------------

Another commenter conducted a survey of fifty firms with respect to
implementation and on-going monitoring cost estimates. Cost estimates
in response to the survey indicated that a circuit breaker triggering a
short sale price test based on the national best bid would have
implementation costs that averaged between $235,000 and $2,000,000 per
firm.\1000\ This estimated implementation cost range is significantly
higher than our cost estimate of, on average, $68,381 per broker-dealer
for implementation.\1001\ In addition, cost estimates in response to
the survey indicated that a circuit breaker triggering a short sale
price test based on the national best bid would have on-going
monitoring costs that averaged between $45,000 and $175,000 per
firm.\1002\ Our estimated cost of $121,356 per broker-dealer for on-
going monitoring and surveillance \1003\ falls within this commenter's
estimated range of on-going monitoring cost. We note that the estimated
costs were categorized by large firms, regional firms, and clearing
firms, rather than by SRO trading centers, non-SRO trading centers and
broker-dealers. As a result, it is difficult to determine the
applicability of these cost estimates to the expected implementation
and on-

[[Page 11305]]

going monitoring and compliance costs of Rule 201 to broker-dealers. In
addition, this commenter's cost estimates were not specific to the
alternative uptick rule. As discussed above, because the alternative
uptick rule references only the current national best bid, unlike the
proposed modified uptick rule and the proposed uptick rule, which would
have required sequencing of the national best bid or last sale price,
we believe that the alternative uptick rule will be easier and less
costly to implement and monitor than the proposed modified uptick rule
or the proposed uptick rule.\1004\
---------------------------------------------------------------------------

\1000\ See supra note 918 (discussing the results of SIFMA's
cost estimate survey with respect to the costs of implementing a
circuit breaker triggering a short sale price test based on the
national best bid); see also letter from Wolverine.
\1001\ See infra note 1022 and accompanying text (discussing our
estimated implementation costs for broker-dealers).
\1002\ See supra note 931 (discussing the results of SIFMA's
cost estimate survey with respect to the on-going monitoring costs
of a circuit breaker triggering a short sale price test based on the
national best bid).
\1003\ See infra note 1022 and accompanying text (discussing our
estimated implementation costs for broker-dealers).
\1004\ See supra notes 709 to 715 and accompanying text and
notes 978 to 980 and accompanying text (discussing comments on the
impact of the alternative uptick rule on implementation and on-going
monitoring and compliance costs).
---------------------------------------------------------------------------

We considered these comments in evaluating the costs of
implementation and on-going monitoring and surveillance of the broker-
dealer provision of Rule 201(c) and the riskless principal provision of
Rule 201(d)(6). We note that the policies and procedures that must be
implemented under the broker-dealer provision are similar to those that
are required under the Order Protection Rule of Regulation NMS.\1005\
Thus, we believe broker-dealers will already be familiar with
establishing, maintaining, and enforcing trading-related policies and
procedures, including programming their trading systems in accordance
with such policies and procedures.
---------------------------------------------------------------------------

\1005\ See Regulation NMS Adopting Release, 70 FR 37496; see
also 17 CFR 242.611.
---------------------------------------------------------------------------

Although, as discussed above with respect to trading centers,
several commenters stated that previous implementation of Regulation
NMS would not mitigate the costs to broker-dealers of implementing a
short sale price test restriction,\1006\ we considered these comments,
as well as comments stating that previous implementation of Regulation
NMS could ease implementation provided that broker-dealers could
leverage existing systems in implementing Rule 201,\1007\ and continue
to believe that familiarity with Regulation NMS policies and procedures
will reduce the implementation costs of the broker-dealer provision
under Rule 201(c) on broker-dealers. Moreover, because broker-dealers
may have already developed or modified their surveillance mechanisms in
order to comply with the policies and procedures requirement of the
Order Protection Rule under Regulation NMS, broker-dealers may already
have retained and trained the necessary personnel to ensure compliance
with that Regulation's policies and procedures requirements and,
therefore, may already have in place most of the infrastructure and
potential policies and procedures necessary to comply with the broker-
dealer provision of Rule 201(c). In addition, one commenter supported
using a policies and procedures approach to any short sale price test
restriction because it would ease implementation for broker-
dealers.\1008\
---------------------------------------------------------------------------

\1006\ See, e.g., letter from FIF (June 2009); letter from RBC
(June 2009).
\1007\ See, e.g., letter from MFA (Oct. 2009).
\1008\ See, e.g., letter from GE.
---------------------------------------------------------------------------

Moreover, while latencies in obtaining data regarding the national
best bid from consolidated market data feeds, as discussed in detail
above, may impact implementation costs associated with Rule 201, a
broker-dealer could have policies and procedures that would provide for
a snapshot of the applicable national best bid of the security. Several
commenters expressed concerns that implementing ``snapshot'' capability
to preserve an auditable record of the current national best bid would
be difficult and costly for broker-dealers,\1009\ particularly because
this is not a capability currently supported by many broker-
dealers.\1010\ Commenters also noted that ``snapshot'' capability would
require increased data storage.\1011\
---------------------------------------------------------------------------

\1009\ See, e.g., letter from Credit Suisse (June 2009); letter
from STANY (June 2009); letter from FIF (June 2009); letter from
Lime Brokerage (June 2009); letter from NSCP.
\1010\ See, e.g., letter from STANY (June 2009); letter from FIF
(June 2009).
\1011\ See, e.g., letter from STANY (June 2009); letter from FIF
(June 2009); letter from NSCP; letter from Direct Edge (June 2009).
---------------------------------------------------------------------------

Although we recognize commenters' concerns that implementing
``snapshot'' capability could be costly for some broker-dealers, we
note that most broker-dealers may already have developed ``snapshot''
capability in connection with Regulation NMS's Order Protection Rule.
We also agree that ``snapshot'' capability will require data storage by
broker-dealers; however, as noted by one commenter,\1012\ because the
alternative uptick rule does not require sequencing of the national
best bid, the data storage requirements under the alternative uptick
rule are lower than they would be under the proposed modified uptick
rule or the proposed uptick rule. In addition, we believe that the
costs of a policies and procedures approach that provides for a
snapshot of the applicable current national best bid of the security
are justified because snapshot capability will aid broker-dealers in
dealing with time lags in receiving data regarding the national best
bid from different data sources and facilitate verification of whether
a short sale order was executed or displayed at a permissible price.
---------------------------------------------------------------------------

\1012\ See letter from STA (Sept. 2009).
---------------------------------------------------------------------------

We considered whether our estimates of the costs to broker-dealers
for implementation and on-going monitoring and surveillance of the
proposed modified uptick rule included in the Proposal \1013\ would
change under the circuit breaker approach of Rule 201, but, as
discussed below, concluded that these estimates continue to represent
reasonable estimates under the circuit breaker approach combined with
the alternative uptick rule.
---------------------------------------------------------------------------

\1013\ See Proposal, 74 FR at 18093-18094.
---------------------------------------------------------------------------

As discussed previously,\1014\ despite some commenters' concerns
regarding the implementation costs of a circuit breaker rule,\1015\ we
believe that the circuit breaker approach will result in largely the
same implementation costs as we estimated would be incurred if we
adopted a permanent, market-wide short sale price test
restriction.\1016\ We believe that that there will be only minimal, if
any, implementation costs for a circuit breaker approach in addition to
the costs we estimated previously for the implementation of a
permanent, market-wide short sale price test rule because broker-
dealers relying on Rule 201(c) or Rule 201(d)(6) are required to
establish written policies and procedures required to comply with those
provisions regardless of whether the short sale price test restriction
is adopted on a permanent, market-wide basis or, in the case of Rule
201, adopted in conjunction with a circuit breaker. Several other
commenters agreed, stating that the costs of the circuit breaker
approach would be similar to, or only incrementally higher than, the
costs of a permanent, market-wide approach.\1017\
---------------------------------------------------------------------------

\1014\ See supra Section IX.E.1. (discussing estimated burdens
of the collection of information requirements applicable to trading
centers under Rule 201).
\1015\ See supra note 676.
\1016\ See Proposal, 74 FR at 18093-18094.
\1017\ See, e.g., letter from Nasdaq OMX Group (Oct. 2009);
letter from Credit Suisse (Sept. 2009); letter from STA (June 2009).
---------------------------------------------------------------------------

In addition, with respect to on-going monitoring and surveillance
costs of the circuit breaker approach, we recognize, as noted by one
commenter,\1018\ that broker-dealers relying on Rule 201(c) or Rule
201(d)(6) will need to continuously monitor whether a security is
subject to the provisions of Rule 201 and that there will be costs
associated with such

[[Page 11306]]

monitoring. However, we believe that these costs will be offset
because, under the circuit breaker approach, the alternative uptick
rule will be time limited and will only apply on a stock by stock
basis, which will reduce our previously estimated costs for on-going
monitoring and surveillance. This is because broker-dealers relying on
Rule 201(c) will only need to monitor and surveil for compliance with
the alternative uptick rule, and broker-dealers relying on Rule
201(d)(6) will only need to monitor for compliance with the
requirements of that provision, during the limited period of time that
the circuit breaker is in effect with respect to a specific security.
As such, the circuit breaker approach will allow regulatory,
supervisory and compliance resources to focus on, and to address, those
situations where a specific security is experiencing significant
downward price pressure.\1019\
---------------------------------------------------------------------------

\1018\ See letter from Glen Shipway (June 2009).
\1019\ See, e.g., letter from Nasdaq OMX Group (Oct. 2009);
letter from SIFMA (Sept. 2009).
---------------------------------------------------------------------------

On balance, we believe that the estimates of the costs to broker-
dealers for implementation and on-going monitoring and surveillance of
the proposed modified uptick rule included in the Proposal \1020\ are
appropriate with respect to the broker-dealer provision of Rule 201(c)
and the riskless principal provision of Rule 201(d)(6). Thus, our
estimates have not changed from the Proposal, except to the extent that
total cost estimates have changed because we have updated the estimated
number of broker-dealers.\1021\ Our estimates of the implementation
costs to broker-dealers include the costs of surveillance and
reprogramming costs for enforcing, monitoring, and updating trading,
execution management, and surveillance systems under Rule 201, systems
changes to computer software, as well as staff time and technology
resources. Our estimates of the on-going monitoring and surveillance
costs include the commitment of resources associated with compliance
oversight, market surveillance, data storage and enforcement, with
attendant opportunity costs.
---------------------------------------------------------------------------

\1020\ See Proposal, 74 FR at 18093-18094.
\1021\ See supra note 729 (discussing the change in the
estimated number of broker-dealers).
---------------------------------------------------------------------------

As detailed in PRA Section IX.E.2., above, we realize that the
exact nature and extent of the required policies and procedures that a
broker-dealer is required to establish under the broker-dealer
provision in Rule 201(c), as well as under the riskless principal
provision in Rule 201(d)(6), likely will vary depending upon the type,
size and nature of the broker-dealer (e.g., full service broker-dealer
vs. market maker). Thus, our estimates take into account different
types of broker-dealers and we realize that these estimates may be on
the low-end for some broker-dealers while they may be on the high-end
for other broker-dealers.
As detailed in PRA Section IX.E.2., above, we estimate a total one-
time initial cost of $354,076,818 for all broker-dealers relying on the
broker-dealer provision in Rule 201(c) and the riskless principal
provision in Rule 201(d)(6) to establish written policies and
procedures reasonably designed to prevent the incorrect identification
of orders as being priced in accordance with the broker-dealer
provision or, in the case of the riskless principal provision, to
assure that, at a minimum: (i) The customer order was received prior to
the offsetting transaction; (ii) the offsetting transaction is
allocated to a riskless principal or customer account within 60 seconds
of execution; and (iii) that it has supervisory systems in place to
produce records that enable the broker-dealer to accurately and readily
reconstruct, in a time-sequenced manner, all orders on which the
broker-dealer relies pursuant to this provision.\1022\
---------------------------------------------------------------------------

\1022\ This figure was calculated by adding $250,516,818 and
$103,560,000 (for outsourced legal work). The $250,516,818 figure
was calculated as follows: (37 legal hours x $305) + (77 compliance
hours x $313) + (23 information technology hours x $292) + (23
business operation hours x $273) = $48,381 per broker-dealer x 5,178
broker-dealers = $250,516,818 total cost for broker-dealers. The
$103,560,000 figure was calculated as follows: (50 legal hours x
$400 x 5,178) = $103,560,000.
Based on industry sources, we estimate that the average hourly
rate for outsourced legal services in the securities industry is
$400. For in-house legal services, we estimate that the average
hourly rate for an attorney in the securities industry is
approximately $305 per hour. In addition, we estimate that the
average hourly rate for an assistant compliance director, a senior
computer programmer, and a senior operations manager in the
securities industry is approximately $313, $292, and $273 per hour,
respectively. The estimates for in-house legal services, assistant
compliance director, senior computer programmer, and senior
operations manager are from SIFMA's Management & Professional
Earnings in the Securities Industry 2008, modified to account for an
1800-hour work-year and multiplied by 5.35 to account for bonuses,
firm size, employee benefits and overhead.
---------------------------------------------------------------------------

Once a broker-dealer has established written policies and
procedures so that it may rely on the broker-dealer provision in Rule
201(c) and the riskless principal provision in Rule 201(d)(6), we
estimate a total annual on-going cost of $96,248,664 for all broker-
dealers relying on either of these provisions to ensure that their
written policies and procedures are up-to-date and remain in compliance
with Rule 201.\1023\ In addition, with regard to on-going monitoring
for and enforcement of trading in compliance with the broker-dealer
provision in Rule 201(c) and the riskless principal provision in Rule
201(d)(6), as detailed in PRA Section IX.E.2., above, we believe that,
once the tools necessary to carry out on-going monitoring have been put
in place, a broker-dealer will be able to incorporate on-going
monitoring and enforcement within the scope of its existing
surveillance and enforcement policies and procedures without a
substantial additional burden. We recognize, however, that this on-
going compliance will not be cost-free, and that broker-dealers will
incur some additional annual costs associated with on-going compliance,
including compliance costs of reviewing transactions. We estimate that
each broker-dealer will incur an average annual on-going compliance
cost of $102,768, for a total annual cost of $532,132,704 for all
broker-dealers.\1024\
---------------------------------------------------------------------------

\1023\ This figure was calculated as follows: (2 legal hours x
12 months x $305) x 5,178 + (3 compliance hours x 12 months x $313)
x 5,178 = $96,248,664.
\1024\ This figure was calculated as follows: (16 compliance
hours x $313) + (8 information technology hours x $292) + (4 legal
hours x $305) x 12 months = $102,768 per broker-dealer x 5,178
broker-dealers = $532,132,704. As discussed above, we base our
estimate of burden hours on the estimates used for Regulation NMS
because it requires similar on-going monitoring and surveillance for
and enforcement of trading in compliance with that regulation's
policies and procedures requirement.
For in-house legal services, we estimate that the average
hourly rate for an attorney in the securities industry is
approximately $305 per hour. In addition, we estimate that the
average hourly rate for an assistant compliance director and a
senior computer programmer in the securities industry is
approximately $313 and $292 per hour, respectively. These figures
are from SIFMA's Management & Professional Earnings in the
Securities Industry 2008, modified to account for an 1800-hour work-
year and multiplied by 5.35 to account for bonuses, firm size,
employee benefits and overhead.
---------------------------------------------------------------------------

To summarize, we estimate an average one-time initial cost of
$68,381 per broker-dealer for a total one-time initial cost of
$354,076,818 for all broker-dealers relying on the broker-dealer
provision in Rule 201(c) and the riskless principal provision in Rule
201(d)(6) to establish the written policies and procedures required to
rely on the broker-dealer provision or the riskless principal
provision.\1025\ We estimate an average annual on-going cost of $18,588
per broker-dealer for a total annual on-going cost of $96,248,664 for
all broker-dealers relying on either of these provisions to ensure that
their written policies and procedures are up-to-date and remain in
compliance with Rule 201.\1026\ In addition, we estimate an average
annual cost of $102,768 per

[[Page 11307]]

broker-dealer for a total annual cost of $532,132,704 for all broker-
dealers for on-going monitoring for and enforcement of trading in
compliance with the broker-dealer provision in Rule 201(c) and the
riskless principal provision in Rule 201(d)(6).\1027\
---------------------------------------------------------------------------

\1025\ See supra note 1022.
\1026\ See supra note 1023.
\1027\ See supra note 1024.
---------------------------------------------------------------------------

2. Circuit Breaker Approach
Under the circuit breaker approach, the alterative uptick rule will
apply only if the price of a covered security has declined by 10% or
more from the covered security's closing price as determined by the
listing market for the covered security as of the end of regular
trading hours on the prior day.\1028\ In addition, this short sale
price test restriction will apply for the remainder of the day and the
following day when a national best bid for the covered security is
calculated and disseminated on a current and continuing basis by a plan
processor pursuant to an effective national market system plan.\1029\
---------------------------------------------------------------------------

\1028\ See Rule 201(b)(i).
\1029\ See Rule 201(b)(ii).
---------------------------------------------------------------------------

a. Impact on Market Quality
As stated above, in the Proposal and Re-Opening Release, we
requested comment on the costs of a circuit breaker rule,\1030\ and
specifically on the extent to which the proposed amendments to
Regulation SHO, including the proposed circuit breaker rules, could
impact or lessen some of the benefits of legitimate short selling or
could lead to a decrease in market efficiency, price discovery, or
liquidity.\1031\
---------------------------------------------------------------------------

\1030\ See Proposal, 74 FR at 18090, 18100; Re-Opening Release,
74 FR at 42037.
\1031\ See Proposal, 74 FR at 18090.
---------------------------------------------------------------------------

\1032\ See Proposal, 74 FR at 18067.
---------------------------------------------------------------------------

In response to our requests for comments, several commenters stated
that a short sale circuit breaker could exacerbate downward pressure on
stocks as their value reached the threshold level.\1033\ Commenters
also discussed the possibility that short selling demand could be built
up until the short selling restriction is lifted.\1034\ Other
commenters, however, discounted the possibility or impact of a ``magnet
effect,'' \1035\ including some commenters who cited empirical studies
that question whether a circuit breaker would result in artificial
pressure on the price of individual securities.\1036\
---------------------------------------------------------------------------

\1033\ See, e.g., letter from Matlock Capital (May 2009); letter
from Schwab; letter from Lime Brokerage (June 2009); letter from STA
(June 2009); letter from Glen Shipway (June 2009); letter NYSE
Euronext (June 2009); letter from Wolverine; letter from Direct Edge
(June 2009); letter from Amer. Bankers Assoc.; letter from NYSE
Euronext (Sept. 2009); see also letter from SIFMA (June 2009)
(indicating that an ``on/off'' circuit breaker trigger could dampen
any magnet effect); letter from Direct Edge (Mar. 2009).
\1034\ See letter from STA (June 2009); letter from Wolverine.
\1035\ See letter from BATS (May 2009); letter from Credit
Suisse (June 2009); letter from Credit Suisse (Sept. 2009); letter
from Hudson River Trading; letter from Virtu Financial; see also
letter from Credit Suisse (Mar. 2009).
\1036\ See letter from Credit Suisse (June 2009); letter from
Credit Suisse (Sept. 2009); see also letter from Credit Suisse (Mar.
2009); letter from Nasdaq OMX Group (Oct. 2009).
---------------------------------------------------------------------------

After considering the comments, including studies cited by
commenters, we do not believe that the evidence is clear regarding a
``magnet effect.'' \1037\ In fact, many academic studies that have
analyzed circuit breakers in other contexts found no evidence of such
trading patterns.\1038\ We recognize, however, that some of these
studies were conducted in markets dissimilar from the highly automated
markets currently existing in the United States and, therefore, that
limits their utility in this context. Overall, however, the most
relevant studies fail to demonstrate a magnet effect and we believe
that adopting the circuit breaker approach best serves our goals.
---------------------------------------------------------------------------

\1037\ See supra notes 280 to 285 and accompanying text
(discussing comments on the ``magnet effect'' and our response).
\1038\ See supra note 285.
---------------------------------------------------------------------------

Commenters also stated that a circuit breaker could have a
stigmatizing effect on affected securities by creating the impression
that a stock is ``down so significantly that the trading rules must
change.'' \1039\ Other commenters expressed concerns that the circuit
breaker could have a negative effect on affected securities because
``if a security has suffered a significant decline, additional
constraints that affect the ability of market makers to provide high-
quality markets may actually hasten the decline, as decreased size and
wider spreads will further undermine the already battered investor
confidence in the security.'' \1040\ Another commenter noted that a
circuit breaker ``may exacerbate market dislocations by suddenly and
unexpectedly altering the regulatory regime and liquidity
characteristics of a particular security, precisely when it is under
duress.'' \1041\
---------------------------------------------------------------------------

\1039\ Letter from Schwab; see also letter from Amer. Bankers
Assoc.
\1040\ Letter from EWT (June 2009).
\1041\ Letter from EWT (June 2009); see also letter from Matlock
Capital (May 2009).
---------------------------------------------------------------------------

We recognize that the circuit breaker approach of Rule 201 could
result in some perception of stigmatization of stocks that trigger the
short sale price test restriction of Rule 201. As discussed above in
Section X.B.1.a., we also recognize that imposing a short sale price
test restriction may negatively impact market quality with respect to a
covered security that has triggered the circuit breaker. In addition,
although we agree that a circuit breaker combined with a halt on short
selling could cause or exacerbate market dislocations, we do not
believe that the circuit breaker approach of Rule 201 will have the
same impact because it will continue to allow short selling at a price
above the national best bid, even when the short sale price test
restriction is in effect. Further, to the extent that the circuit
breaker approach results in stigmatization, market dislocations, or
other negative impacts on market quality, we believe any such costs are
justified by the benefits provided by the Rule.
As discussed in detail in Section III.A.5., above, commenters'
estimates and the Staff's analysis show that a 10% circuit breaker
threshold generally should affect only a limited percentage of covered
securities, thus will not interfere with the smooth functioning of the
markets for the majority of covered securities most of the time. And,
although a permanent market-wide approach that would apply to all
covered securities all the time may, as one commenter stated, provide
an element of predictability,\1042\ we believe that the circuit breaker
approach of Rule 201 is appropriate because it provides a balance
between achieving our goals for adopting a short sale price test
restriction and limiting impediments to the normal operations of the
market. As discussed above, due to the changes in market conditions and
erosion of investor confidence that occurred recently, investors have
become increasingly concerned about sudden and excessive declines in
prices that appear to be unrelated to issuer fundamentals.\1043\ We
believe that a time-limited circuit breaker that is triggered by a
significant intra-day decline in price of an individual

[[Page 11308]]

security is a targeted response to address these concerns.
---------------------------------------------------------------------------

\1042\ See letter from NYSE Euronext (Sept. 2009).
\1043\ See supra Section II.C. (discussing investor confidence);
see also Proposal, 74 FR at 18046-18049.
---------------------------------------------------------------------------

Commenters also expressed concerns that, during periods of
volatility, ``circuit breakers could potentially impact far too many
stocks on any given day and damage the benefits of short
selling.''\1044\ Similarly, a number of commenters expressed concerns
that, if the trigger level for a circuit breaker were set too low, the
circuit breaker would impose a short sale price test restriction that
would impair trading in a stock not only due to a price decline that
might indicate abusive or abnormal trading activity, but also during
normal market conditions, thus impairing normal trading activity,
further limiting the provision of market benefits such as liquidity and
price efficiency, and causing disruptions to investors and
markets.\1045\
---------------------------------------------------------------------------

\1044\ Letter from Atherton Lane; see also letter from Citadel
et al. (June 2009); letter from Goldman Sachs (June 2009); letter
from ISE (June 2009); letter from MFA (June 2009); letter from SIFMA
(June 2009); letter from Wells Fargo (June 2009); letter from SIFMA
(Sept. 2009).
\1045\ See, e.g., letter from Citadel et al. (June 2009); letter
from Goldman Sachs (June 2009); letter from MFA (June 2009); letter
from SIFMA (June 2009); letter from SIFMA (Sept. 2009).
---------------------------------------------------------------------------

When the markets experience periods of extreme volatility, we
expect that the circuit breaker will be triggered for more securities
than during periods of low volatility. We believe this is an
appropriate result of Rule 201 because it is designed to impose
restrictions on short selling when individual securities are undergoing
significant intra-day price declines. In addition, we recognize that a
10% trigger level may capture some ``normal'' trading activity.
However, as discussed in detail in Section III.A.5., above, commenters'
estimates and the Staff's analysis show that a 10% circuit breaker
threshold generally should affect only a limited percentage of covered
securities. This supports the conclusion that Rule 201 provides a
tailored approach that reaches a limited subset of covered securities
that are experiencing a significant intra-day price decline, while
generally not restricting short selling in the majority of covered
securities. To the extent that Rule 201 impairs normal trading
activity, we believe that such costs are justified by the benefits
provided by the Rule in preventing short selling, including potentially
manipulative or abusive short selling, from being used as a tool to
exacerbate a declining market in a security.
Several commenters expressed concerns that a circuit breaker
approach ``does not adequately address the negative implications of
unregulated short selling'' because it would permit relatively
unrestricted, and potentially manipulative, short selling up to the
trigger point.\1046\ One commenter stated that a circuit breaker would
not be effective to address manipulative short selling because
``predatory short selling is not a one-day event, but the culmination
of a series of events.'' \1047\
---------------------------------------------------------------------------

\1046\ Letter from T. Rowe Price (June 2009); see also letter
from Atherton Lane; letter from Chlebina (Apr. 2009); letter from
Equity Insight; letter from Wells Fargo (June 2009); letter from
Glen Shipway (Sept. 2009).
\1047\ Letter from Equity Insight.
---------------------------------------------------------------------------

While it is true that, under a circuit breaker approach, the short
sale price test restriction of Rule 201 will not apply to short selling
in a security before the 10% intra-day decline trigger is reached, or
after the duration of the restriction has passed, we believe that the
circuit breaker approach is designed to strike the appropriate balance
between our goal of preventing potential short sale abuse and the need
to limit impediments to the normal operations of the market. As we
stated in the Proposal, in discussing a short selling circuit breaker,
one commenter noted that such a measure could address the issue of
``bear raids'' while limiting the market impact that may arise from
other forms of short sale price test restrictions.\1048\ As discussed
above, short selling is an important tool in price discovery and the
provision of liquidity to the market, and we recognize that imposition
of a short selling circuit breaker that when triggered imposes the
alternative uptick rule could restrict otherwise legitimate short
selling activity during periods of significant volatility. To the
extent that Rule 201 permits relatively unrestricted, and potentially
manipulative, short selling during times when the circuit breaker has
not been triggered for a particular security, we believe that such
costs are justified by the benefits provided by the circuit breaker
approach in not interfering with the provision of market benefits such
as liquidity and price efficiency for the majority of covered
securities most of the time.
---------------------------------------------------------------------------

\1048\ See Proposal, 74 FR at 18067, n.252 (noting a letter from
Peter Brown, dated Dec. 12, 2008).
---------------------------------------------------------------------------

After considering the comments, as discussed above, that we
received with respect to the potential market impacts of a circuit
breaker approach, we believe that such potential market impacts do not
undermine our goals of preventing potential short sale abuse and
addressing investor confidence, while balancing these goals with the
need to limit impediments to the normal operations of the market. The
Commission has long held the view that circuit breakers may help
restore investor confidence during times of substantial
uncertainty.\1049\ We believe that the requirements of Rule 201 will
produce such benefits. By imposing the alternative uptick rule once a
security's price is experiencing a significant price decline, the short
selling circuit breaker rule in Rule 201(b) is designed to target only
those securities that experience significant intra-day price declines
and, therefore, will help to prevent short selling from being used as a
tool to exacerbate the decline in the price of those securities. This
approach establishes a narrowly-tailored Rule that will target only
those securities experiencing such a decline. We believe that
addressing short selling in connection with such declines in individual
securities will help restore investor confidence in the markets
generally.
---------------------------------------------------------------------------

\1049\ See, e.g., 1998 Release, 63 FR 18477; see also Proposal,
74 FR at 18067.
---------------------------------------------------------------------------

Further, as discussed above, short selling is an important tool in
price discovery and the provision of liquidity to the market, and we
recognize that imposition of a short selling circuit breaker that when
triggered imposes the alternative uptick rule could restrict otherwise
legitimate short selling activity during periods of significant
volatility. Under the circuit breaker approach, the alternative uptick
rule will only be imposed when a covered security has experienced an
intra-day price decline of 10% or more and will only apply for the
remainder of the day and the following day. We believe that the
negative impact of Rule 201, if any, on the market will be limited
because of the limited scope and duration of Rule 201. Further, to the
extent that Rule 201 negatively impacts market quality, we believe that
such costs are justified by the benefits provided by the Rule in
preventing short selling, including potentially manipulative or abusive
short selling, from being used as a tool to exacerbate a declining
market in a security.
b. Implementation and On-Going Monitoring and Surveillance Costs
We discussed in the Proposal and the Re-Opening Release the
anticipated costs of the proposed circuit breaker rules \1050\ and we
requested comment on the costs associated with the proposed circuit
breaker rules.\1051\ In particular, we requested comment on the
potential

[[Page 11309]]

costs for any modification to both computer systems and surveillance
mechanisms and for information gathering, management, and recordkeeping
systems or procedures.\1052\
---------------------------------------------------------------------------

\1050\ See Proposal, 74 FR at 18097-18100; Re-Opening Release,
74 FR at 42035.
\1051\ See Proposal, 74 FR at 18101-18103; Re-Opening Release,
74 FR at 42037.
\1052\ See Proposal, 74 FR at 18090.
---------------------------------------------------------------------------

Several commenters expressed concerns regarding the implementation
costs of a circuit breaker approach in comparison to the costs of
implementing a permanent, market-wide test, but did not provide
specific cost estimates.\1053\ One commenter stated that ``the circuit
breaker proposal would be the least cost effective'' but did not
provide a specific cost estimate with respect to a circuit breaker
rule.\1054\
---------------------------------------------------------------------------

\1053\ See supra note 676.
\1054\ Letter from T. Rowe Price (June 2009).
---------------------------------------------------------------------------

One commenter conducted a survey of fifty firms with respect to
implementation cost and on-going monitoring costs estimates of a new
short sale price test restriction.\1055\ Cost estimates in response to
the survey indicated that a permanent, market-wide short sale price
test based on the national best bid would have implementation costs
that averaged between $200,000 and $1,100,000 per firm,\1056\ while a
circuit breaker triggering a short sale price test based on the
national best bid would have implementation costs that averaged between
$235,000 and $2,000,000 per firm.\1057\ This represents an estimated
increase in implementation costs for a circuit breaker approach, as
compared to a permanent, market-wide approach, of $35,000 to $900,000
per firm. However, we note that these cost estimates were based on a
circuit breaker triggering the proposed modified uptick rule and, as
such, were not specific to the alternative uptick rule.\1058\ As
discussed throughout this adopting release, because the alternative
uptick rule does not require sequencing of the national best bid,
unlike the proposed modified uptick rule and the proposed uptick rule,
which would have required sequencing of the national best bid or last
sale price, we believe that the policies and procedures required under
the alternative uptick rule will be easier and less costly to implement
and monitor than would be the case under the proposed modified uptick
rule or the proposed uptick rule.
---------------------------------------------------------------------------

\1055\ See letter from SIFMA (June 2009).
\1056\ See letter from SIFMA (June 2009). SIFMA did not
categorize estimates of the implementation costs of a permanent,
market-wide short sale price test based on the national best bid by
SRO trading centers, non-SRO trading centers, and other broker-
dealers, but categorized responses by larger firms, with
implementation cost estimates that averaged $1,000,000 per firm,
with the highest estimate at $7,000,000 per firm, regional firms
with estimates that averaged $200,000 per firm, with the highest
estimate at $500,000 per firm, and clearing firms, with estimates
that averaged $1,100,000 per firm, with the highest estimate at
$1,900,000 per firm. SIFMA provided cost estimates in terms of the
average estimated cost and the highest estimated cost. See id.
\1057\ See supra note 918 (discussing SIFMA's survey of cost
estimates with respect to the implementation costs of a circuit
breaker triggering a short sale price test based on the national
best bid).
\1058\ We also note that the commenter's survey results covered
fifty firms, categorized as large firms, regional firms, and
clearing firms, rather than SRO trading centers, non-SRO trading
centers and broker-dealers. Thus, it is difficult to determine costs
of a circuit breaker approach to trading centers as opposed to
broker-dealers from the survey results.
---------------------------------------------------------------------------

We recognize that imposing a short sale-related circuit breaker
rule when, currently, there is an absence of a short sale-related
circuit breaker may result in costs in terms of modifications to
systems and surveillance mechanisms, as well as changes to processes
and procedures.\1059\ Such costs will include implementation costs for
market participants associated with reprogramming trading and
surveillance systems to account for the requirements of the short sale
related circuit breaker. We also recognize that the circuit breaker
approach may impose costs on market participants related to systems
changes to computer software, reprogramming costs, and surveillance and
compliance costs, as well as staff time and technology resources,
associated with monitoring compliance with the short sale related
circuit breaker. Moreover, imposing a short sale related circuit
breaker rule when there are currently no short sale related circuit
breakers in place also may mean that staff (compliance personnel,
associated persons, etc.) may need to be trained or re-trained
regarding rules related to the circuit breaker requirements.
---------------------------------------------------------------------------

\1059\ Although under the circuit breaker approach, a price test
will not be in place all the time or for all securities, trading
centers, and broker-dealers relying on Rule 201(c) or Rule
201(d)(6), will need to establish reasonable policies and procedures
in advance to ensure compliance whenever the circuit breaker is
triggered. We note that it would not be reasonable for a trading
center, or a broker-dealer relying on Rule 201(c) or Rule 201(d)(6)
to wait until the circuit breaker is triggered to begin establishing
reasonable policies and procedures to prevent the execution or
display of the particular covered security at a price that is less
than or equal to the current national best bid. Thus, we recognize
that the circuit breaker approach will result in immediate upfront
costs to trading centers and to broker-dealers intending to rely on
Rule 201(c) or Rule 201(d)(6). See supra Section X.B.1. (discussing
costs of the alternative uptick rule).
---------------------------------------------------------------------------

As discussed previously,\1060\ despite some commenters' concerns
regarding the implementation costs of a circuit breaker rule, we
believe that the circuit breaker approach will result in largely the
same implementation costs as we estimated would be incurred if we
adopted a permanent, market-wide short sale price test
restriction.\1061\ We believe that there will be only minimal, if any,
implementation costs for a circuit breaker approach in addition to the
costs we estimated previously for the implementation of a permanent,
market-wide short sale price test rule.\1062\
---------------------------------------------------------------------------

\1060\ See supra notes 676 to 684 and 723 to 727 and
accompanying text (discussing the impact of the circuit breaker
approach on implementation and on-going monitoring and surveillance
costs to trading centers and broker-dealers).
\1061\ See Proposal, 74 FR 18093-18094.
\1062\ Several commenters agreed, stating that the costs of the
circuit breaker approach would be similar to, or only incrementally
higher than, the costs of a permanent, market-wide approach. See,
e.g., letter from Nasdaq OMX Group (Oct. 2009); letter from Credit
Suisse (Sept. 2009); letter from STA (June 2009).
---------------------------------------------------------------------------

In addition, with respect to on-going monitoring and surveillance
costs of the circuit breaker approach, we recognize, as noted by one
commenter,\1063\ that market participants will need to continuously
monitor whether a security is subject to the provisions of Rule 201 and
that there will be costs associated with such monitoring. However, we
believe that these costs will be offset because, under the limited
scope and duration of the circuit breaker approach, market participants
will only need to monitor and surveil for compliance with the
alternative uptick rule during the limited period of time that the
circuit breaker is in effect with respect to a specific security. This
will reduce our previously estimated costs for on-going monitoring and
surveillance.\1064\
---------------------------------------------------------------------------

\1063\ See letter from Glen Shipway (June 2009).
\1064\ Commenters noted that the circuit breaker approach will
allow regulatory, supervisory and compliance resources to focus on,
and to address, those situations where a specific security is
experiencing significant downward price pressure. See, e.g., letter
from Nasdaq OMX Group (Oct. 2009); letter from SIFMA (Sept. 2009).
---------------------------------------------------------------------------

In addition, although, under the circuit breaker approach, market
participants will need to monitor whether a stock is subject to Rule
201 or not, we believe that familiarity with a circuit breaker approach
may help mitigate such compliance costs. As discussed in the Proposal,
currently, all stock exchanges and FINRA have rules or policies to
implement coordinated circuit breaker halts.\1065\ Moreover, SROs have
rules or policies in place to coordinate individual security trading
halts corresponding to significant news events.\1066\
---------------------------------------------------------------------------

\1065\ See supra note 292.
\1066\ See, e.g., FINRA Rule 6120; see also Proposal, 74 FR at
18065-18066 (discussing the background on circuit breakers).

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

[[Page 11310]]

We also note that one commenter conducted a survey of firms with
respect to on-going monitoring costs estimates of a new short sale
price test restriction.\1067\ Cost estimates in response to the survey
indicated that a permanent, market-wide short sale price test based on
the national best bid would have on-going monitoring costs that
averaged between $50,000 and $175,000 per firm,\1068\ while a circuit
breaker triggering a short sale price test based on the national best
bid would have on-going monitoring costs that averaged between $45,000
and $175,000 per firm.\1069\ This seems to support our view that the
on-going monitoring costs of a circuit breaker approach, as compared to
a permanent, market-wide approach, would be largely the same.
---------------------------------------------------------------------------

\1067\ See letter from SIFMA (June 2009).
\1068\ See letter from SIFMA (June 2009). SIFMA did not
categorize estimates of the on-going costs of a permanent, market-
wide short sale price test based on the national best bid by SRO
trading centers, non-SRO trading centers, and other broker-dealers,
but categorized responses by larger firms, with on-going monitoring
cost estimates that averaged $100,000 per firm, with the highest
estimate at $1,500,000 per firm, regional firms with estimates that
averaged $50,000 per firm, with the highest estimate at $450,000 per
firm, and clearing firms, with estimates that averaged $175,000 per
firm, with the highest estimate at $250,000 per firm. SIFMA only
provided the average and highest cost estimates per category. See
id.
\1069\ See supra note 931 (discussing SIFMA's survey of cost
estimates with respect to the on-going monitoring costs of a circuit
breaker triggering a short sale price test based on the national
best bid).
---------------------------------------------------------------------------

After considering the comments, we believe that the implementation,
on-going monitoring and surveillance costs of a circuit breaker
triggering a short sale price test restriction will be similar to the
implementation, on-going monitoring and surveillance costs of the same
short sale price test restriction on a permanent, market-wide basis.
Thus, we believe that our estimates of the implementation and on-going
monitoring and surveillance costs of Rule 201 for trading centers and
broker-dealers, as reflected in Sections X.B.1.b.i and X.B.1.b.ii.,
discussing the implementation and on-going monitoring and compliance
costs of the alternative uptick rule, are appropriate after taking into
consideration the circuit breaker approach of Rule 201. Further, we
believe that such costs are justified by the benefits provided by the
Rule in preventing short selling, including potentially manipulative or
abusive short selling, from being used as a tool to exacerbate a
declining market in a security.
Under the circuit breaker approach of Rule 201, the listing market
for each covered security must determine whether that covered security
is subject to Rule 201.\1070\ Once the listing market has determined
that a security has become subject to the requirements of Rule 201, the
listing market shall immediately notify the single plan processor
responsible for consolidation of information for the covered security
in accordance with Rule 603(b) of Regulation NMS \1071\ of this fact.
The plan processor must then disseminate this information.\1072\ We
recognize that these requirements will require changes by the listing
markets and single plan processors to systems currently supported by
each.\1073\ We note that, because listing markets and single plan
processors will require time in which to reprogram and test their
systems and procedures to comply with Rule 201, the systems and
programming costs associated with Rule 201 might be higher without a
sufficient implementation period.\1074\ We believe that the six month
implementation period will provide listing markets and single plan
processors with time to make required changes in a measured fashion,
which will help alleviate some of the potential disruptions that may be
associated with implementing Rule 201.\1075\
---------------------------------------------------------------------------

\1070\ See Rule 201(b)(3).
\1071\ See supra note 368 (discussing the single plan processors
for NMS stocks).
\1072\ See Rule 201(b)(3); 17 CFR 242.603(b).
\1073\ See letter from FIF (June 2009); see also supra Section
III.A.6. (discussing the determination regarding securities subject
to Rule 201 and dissemination of such information).
\1074\ For example, commenters indicated that a circuit breaker
rule triggering the alternative uptick rule would require an
implementation period of between three and twelve months. See letter
from NSCP; letter from NYSE Euronext (June 2009); letter from RBC
(June 2009); letter from STA (June 2009); letter from FIF (Sept.
2009); letter from Citadel et al. (Sept. 2009); letter from Credit
Suisse (Sept. 2009); letter from Direct Edge (Sept. 2009); letter
from EWT (Sept. 2009); letter from RBC (Sept. 2009); letter from
SIFMA (Sept. 2009); letter from MFA (Oct. 2009); see also letter
from Amer. Bankers Assoc.; letter from NYSE Euronext (Sept. 2009);
letter from Goldman Sachs (Sept. 2009).
\1075\ See supra Section VII. (discussing the implementation
period for Rule 201); see also supra Section III.A.6.
---------------------------------------------------------------------------

While we recognize that listing markets will incur initial up-front
costs associated with having to update their systems, including systems
changes to computer software, as well as staff time and technology
resources to update their systems and surveillance mechanisms to ensure
compliance with the Rule's requirements,\1076\ familiarity with a
circuit breaker approach may help mitigate the implementation and
compliance costs. In addition, we believe that listing markets may be
able to leverage some of their existing procedures to ease the
implementation of Rule 201's requirements. For example, as discussed in
the Proposal, currently, all stock exchanges and FINRA have rules or
policies to implement coordinated circuit breaker halts \1077\ and
listing markets also already send information to single plan processors
regarding Regulatory Halts as defined in those plans. Moreover, SROs
have rules or policies in place to coordinate individual security
trading halts corresponding to significant news events.\1078\ In
addition, we note that listing markets are familiar with making
determinations regarding, and imposing trading restrictions on,
individual NMS stocks.\1079\ Similarly, in connection with such
activities, listing markets currently monitor price changes in covered
securities relative to the closing price as of the end of regular
trading hours on the prior day.
---------------------------------------------------------------------------

\1076\ See supra Section X.B.1. (discussing costs of the
alternative uptick rule).
\1077\ See supra note 292.
\1078\ See supra note 684.
\1079\ For example, listing markets already have rules or
policies in place to coordinate trading suspensions or halts in
individual NMS stocks. See, e.g., Nasdaq Rule 4120 (relating to
trading halts in Nasdaq-listed securities); NYSE Rule 123D (relating
to delayed openings and trading halts in NYSE-listed securities).
---------------------------------------------------------------------------

Further, we note that listing markets are also trading centers, as
defined by Rule 201,\1080\ and as such, will have costs in connection
with systems changes to implement the policies and procedures
requirements of Rule 201 applicable to trading centers.\1081\ We
believe that the costs to listing markets associated with having to
update their systems to ensure compliance with the Rule's requirements
applicable to listing markets will be an incremental addition to the
costs associated with the implementation of the policies and procedures
requirements applicable to trading centers.\1082\ We believe that the
implementation and compliance costs for listing markets are justified
by the benefits provided by requiring the listing market for a covered
security to determine whether the security has become subject to the
short sale price test restrictions of Rule 201 because this will help
to ensure consistency for each covered security with respect to such
determinations.
---------------------------------------------------------------------------

\1080\ See Rule 201(a)(9).
\1081\ See supra Section IX.E.1. (discussing implementation
costs to trading centers).
\1082\ See id.
---------------------------------------------------------------------------

We recognize that single plan processors will also incur initial
up-front costs associated with having to update their systems,
including systems changes to computer software, as well as staff time
and technology resources to update their systems and surveillance
mechanisms in order to ensure

[[Page 11311]]

compliance with the circuit breaker requirements.\1083\ We believe,
however, that the single plan processors' current familiarity with
receiving and disseminating information regarding individual NMS stocks
will help mitigate these implementation and compliance costs. For
example, the single plan processors currently receive information from
listing markets regarding trading restrictions, such as Regulatory
Halts as defined in those plans, on individual securities and
disseminate such information. As a result, the requirements of Rule
201(b)(3) are similar to existing obligations on plan processors
pursuant to the requirements of Regulation NMS, the CTA and CQ Plans
and the Nasdaq UTP Plan. Two commenters agreed that dissemination of
information regarding the triggering of Rule 201 would be a function
similar to other functions currently performed by the plan
processors.\1084\ Further, we believe that the implementation and
compliance costs for single plan processors are justified by the
benefits provided by requiring the single plan processors to
disseminate information on whether a security has become subject to the
short sale price test restrictions of Rule 201 because the similarity
of this function to current functions performed by the single plan
processors will help to ensure the workability and smooth functioning
of the Rule.
---------------------------------------------------------------------------

\1083\ See supra Section X.B.1. (discussing costs of the
alternative uptick rule).
\1084\ See letter from NYSE Euronext (Sept. 2009); letter from
Virtu Financial.
---------------------------------------------------------------------------

3. Implementation Period
We believe that a six month implementation period will provide
trading centers, broker-dealers, listing markets, the single plan
processors and other market participants with a sufficient amount of
time in which to modify their systems and procedures in order to comply
with the requirements of Rule 201.\1085\ The six month implementation
period will provide market participants with time to make required
changes in a measured fashion, which will help alleviate some of the
potential disruptions that may be associated with implementing Rule
201. Because trading centers, listing markets, the single plan
processors and other market participants will require time in which to
reprogram and test their systems and procedures to comply with Rule
201, the systems and programming costs associated with Rule 201 might
be higher without a sufficient implementation period. For example,
commenters indicated that a circuit breaker rule triggering the
alternative uptick rule would require an implementation period of
between three and twelve months.\1086\
---------------------------------------------------------------------------

\1085\ See supra Section VII. (discussing the implementation
period).
\1086\ See letter from NSCP; letter from NYSE Euronext (June
2009); letter from RBC (June 2009); letter from STA (June 2009);
letter from FIF (Sept. 2009); letter from Citadel et al. (Sept.
2009); letter from Credit Suisse (Sept. 2009); letter from Direct
Edge (Sept. 2009); letter from EWT (Sept. 2009); letter from RBC
(Sept. 2009); letter from SIFMA (Sept. 2009); letter from MFA (Oct.
2009); see also letter from Amer. Bankers Assoc.; letter from NYSE
Euronext (Sept. 2009); letter from Goldman Sachs (Sept. 2009).
---------------------------------------------------------------------------

The six month implementation period, which is longer than the
implementation periods proposed in the Proposal and the Re-Opening
Release, takes into consideration commenters' concerns that
implementation of a short sale price test could be complex.\1087\ We do
not believe that an implementation period longer than 6 months is
warranted because Rule 201 does not require monitoring of the sequence
of bids or last sale prices, unlike other proposed short sale price
tests,\1088\ and because Rule 201 requires the implementation of
policies and procedures similar to those required for trading centers
under Regulation NMS.\1089\ In addition, as discussed above, market
participants will be able to leverage the numerous systems changes made
and current architecture developed to facilitate compliance with
Regulation NMS. These factors should reduce implementation time.
---------------------------------------------------------------------------

\1087\ See, e.g., letter from NSCP; letter from RBC (June 2009);
letter from SIFMA (June 2009); letter from RBC (Sept. 2009); see
also letter from Direct Edge (Sept. 2009) (stating that adoption of
a circuit breaker approach will add approximately four to six weeks
to the implementation time of the alternative uptick rule); letter
from NYSE Euronext (Sept. 2009) (stating that ``a circuit breaker
approach raises significant implementation complexities''). But cf.
letter from Credit Suisse (Sept. 2009) (stating that a circuit
breaker approach will not significantly increase implementation
time); letter from Nasdaq OMX Group (Oct. 2009) (stating that
``[o]nce the price test is in place, there is minimal incremental
effort required to add a Circuit Breaker that controls the
application of the price test'').
\1088\ Several commenters noted that because the alternative
uptick rule, unlike the other proposed price tests, does not require
sequencing of bids or last sale prices, the alternative uptick rule
could be implemented more quickly than the other proposed price
tests, in three to six months. See, e.g., letter from Credit Suisse
(June 2009); letter from STA (June 2009); letter from Credit Suisse
(Sept. 2009); letter from FIF (Sept. 2009). But cf. letter from
Citadel et al. (Sept. 2009); letter from NYSE Euronext (Sept. 2009);
letter from RBC (Sept. 2009); letter from SIFMA (Sept. 2009).
\1089\ One commenter stated that implementation concerns with
respect to a short sale price test restriction could be mitigated,
provided that trading centers ``could leverage existing architecture
developed to comply with the order protection rule in Reg NMS (Rule
611).'' Letter from MFA (Oct. 2009). Another commenter stated that
implementation of a circuit breaker triggering the alternative
uptick rule would be easier to implement, ``provided that the
Commission permits firms to leverage the numerous systems changes
made to facilitate compliance with Regulation NMS (including the use
of internal market data rather than consolidated data supplied by
the industry plans).'' Letter from Goldman Sachs (Sept. 2009). But
cf. letter from FIF (June 2009); letter from NSCP; letter from RBC
(June 2009).
---------------------------------------------------------------------------

4. Marking Requirements
While the current marking requirements in Rule 200(g) of Regulation
SHO, which require broker-dealers to mark all sell orders of any equity
security as either ``long'' or ``short,'' \1090\ will remain in effect,
the amendments to Rule 200(g) will add a new marking requirement of
``short exempt.'' \1091\ In particular, if the broker-dealer chooses to
rely on its own determination that it is submitting the short sale
order to the trading center at a price that is above the current
national best bid at the time of submission or to rely on an exception
specified in the Rule, it must mark the order as ``short exempt.''
\1092\ We discussed in the Proposal the anticipated costs of the
proposed amendments \1093\ and, in the Proposal and Re-Opening Release,
we requested comment on the costs associated with the proposed
amendments.\1094\
---------------------------------------------------------------------------

\1090\ 17 CFR 242.200(g).
\1091\ See Rule 200(g); see also supra Section IV. (discussing
the amendments to Rule 200(g)).
\1092\ See Rule 200(g)(2).
\1093\ See Proposal, 74 FR at 18100.
\1094\ See Proposal, 74 FR at 18103; Re-Opening Release, 74 FR
at 42037.
---------------------------------------------------------------------------

Several commenters expressed concerns regarding the implementation
costs of the ``short exempt'' marking requirements.\1095\ Several
commenters noted that the ``short exempt'' marking requirements would
require modifications to multiple systems, including modifications to
blue sheet, OATS and OTS reporting systems.\1096\ One commenter noted
that such modifications would be in addition to changes to order entry
and routing applications.\1097\ Another commenter noted that one of its
primary implementation concerns was related to ``re-implementation of
`Short Sale Exempt' order types in interfaces between [the commenter]
and [its] Customers as well as the venues that support such exempt
order types.'' \1098\ In contrast, one commenter, in supporting
adoption of the ``short

[[Page 11312]]

exempt'' marking requirements (in the event that the Commission decided
to adopt a short sale price test restriction), stated that ``[t]he
costs of marking the orders appropriately will be worth the benefits
gained.'' \1099\
---------------------------------------------------------------------------

\1095\ See, e.g., letter from FIF (June 2009); letter from NSCP;
letter from RBC (June 2009); letter from Lime Brokerage (Sept.
2009); letter from FIF (Sept. 2009).
\1096\ See, e.g., letter from NSCP; letter from RBC (June 2009);
letter from FIF (June 2009); letter from FIF (Sept. 2009).
\1097\ See letter from FIF (June 2009); letter from FIF (Sept.
2009).
\1098\ Letter from Lime Brokerage (Sept. 2009).
\1099\ Letter from STA (June 2009).
---------------------------------------------------------------------------

We recognize commenters' concerns with respect to the costs of the
``short exempt'' marking requirement and we considered these comments
in evaluating the costs of the ``short exempt'' marking requirement.
Such costs will include one-time costs for broker-dealers for
reprogramming and systems changes, including modifications to reporting
systems, order entry and routing applications. In addition, the costs
of the ``short exempt'' marking requirement will include on-going
monitoring and surveillance costs for broker-dealers. However, we
believe that such costs will be limited because broker-dealers already
have established systems, processes, and procedures in place to comply
with the current marking requirements of Rule 200(g) of Regulation SHO
with respect to marking a sell order either ``long'' or ``short'' and,
therefore, will likely leverage such systems, processes and procedures
to comply with the ``short exempt'' marking requirements in Rules
200(g) and 200(g)(2). Further, we believe that the implementation and
compliance costs of the ``short exempt'' marking requirements are
justified by the benefits provided by the requirements in aiding
surveillance by SROs and the Commission for compliance with the
provisions of Rule 201 and providing an indication to a trading center
regarding when it must execute or display a short sale order without
regard to whether the order is at a price that is less than or equal to
the current national best bid.
We also considered whether our estimates of the implementation and
on-going monitoring and compliance costs associated with the ``short
exempt'' marking requirements under the amendments to Rule 200(g), as
proposed in conjunction with the proposed modified uptick rule \1100\
would change under the circuit breaker approach of Rule 201, but
concluded, as discussed below, that these estimates continue to
represent reasonable estimates under the circuit breaker approach.
---------------------------------------------------------------------------

\1100\ See Proposal, 74 FR at 18089.
---------------------------------------------------------------------------

We believe that the ``short exempt'' marking requirements of Rule
200(g), in conjunction with a circuit breaker approach, will result in
largely the same implementation costs as we estimated would be incurred
if the ``short exempt'' marking requirements were combined with a
market-wide short sale price test restriction.\1101\ This is because
broker-dealers relying on the provisions of Rule 201(c) or Rule 201(d)
will need to make systems changes to implement the ``short exempt''
marking requirements regardless of whether the short sale price test
restriction is adopted on a permanent, market-wide basis or, in the
case of Rule 201, adopted in conjunction with a circuit breaker.
---------------------------------------------------------------------------

\1101\ See Proposal, 74 FR at 18100.
---------------------------------------------------------------------------

In addition, with respect to on-going monitoring and surveillance
costs of the ``short exempt'' marking requirements in conjunction with
a circuit breaker approach, we recognize, as noted by one
commenter,\1102\ that market participants will need to continuously
monitor whether a security is subject to the provisions of Rule 201 and
that there will be costs associated with such monitoring. However, we
believe that these costs will be offset because, under the circuit
breaker approach, use of the ``short exempt'' provisions of Rule 201(c)
and Rule 201(d) and the related marking requirements will be time
limited and will only apply on a stock by stock basis. As a result,
broker-dealers who choose to rely on Rule 201(c) or Rule 201(d) will
only need to monitor and surveil for compliance with the requirements
of those provisions and will only need to mark qualifying orders
``short exempt'' during the limited period of time that the circuit
breaker is in effect with respect to a specific security. The circuit
breaker approach will allow regulatory, supervisory and compliance
resources to focus on, and to address, those situations where a
specific security is experiencing significant downward price
pressure.\1103\
---------------------------------------------------------------------------

\1102\ See letter from Glen Shipway (June 2009).
\1103\ See, e.g., letter from Nasdaq OMX Group (Oct. 2009);
letter from SIFMA (Sept. 2009).
---------------------------------------------------------------------------

On balance, we believe our proposed estimates of the costs
associated with the ``short exempt'' marking requirement \1104\ are
appropriate with respect to Rule 200(g) as adopted. Thus, our estimates
have not changed from the Proposal, except to the extent that total
burden estimates have changed because we have updated the estimated
number of broker-dealers.\1105\
---------------------------------------------------------------------------

\1104\ See Proposal, 74 FR at 18089.
\1105\ See supra note 729.
---------------------------------------------------------------------------

We believe that the implementation cost of the ``short exempt''
marking requirement will likely be similar to the implementation cost
of the order marking requirements of Rule 200(g) of Regulation SHO,
which had originally included the category of ``short exempt.''
Industry sources at that time estimated initial implementation costs
for the former ``short exempt'' marking requirement to be approximately
$100,000 to $125,000.\1106\ Based on these estimates, as adjusted for
inflation, we estimate that the initial implementation cost of the
``short exempt'' marking requirement will be approximately $115,000 to
$145,000 per broker-dealer \1107\ for a total initial implementation
cost of approximately $595,470,000 to $750,810,000 for all broker-
dealers.\1108\
---------------------------------------------------------------------------

\1106\ See 2004 Regulation SHO Adopting Release, 69 FR at 48023.
\1107\ The adjustment for inflation was calculated using
information in the Consumer Price Index, U.S. Department of Labor,
Bureau of Labor Statistics.
\1108\ These figures were calculated as follows: ($115,000 x
5,178) = $595,470,000 and ($145,000 x 5,178) = $750,810,000.
---------------------------------------------------------------------------

We recognize that there will be an on-going paperwork burden cost
associated with adding the ``short exempt'' marking requirements. For
example, as detailed in PRA Section IX.E.3., above, we estimate that
the total annual cost for each broker-dealer subject to the ``short
exempt'' marking requirements will be $93,420 \1109\ for a total annual
on-going cost of $483,728,760 for all broker-dealers subject to the
``short exempt'' marking requirements.\1110\
---------------------------------------------------------------------------

\1109\ This figure was calculated as follows: (346 hours x $270)
= $93,420 per broker-dealer. The 346 hour estimate was calculated as
follows: 12.9 billion ``short exempt'' orders/5,178 broker-dealers =
2,491,309 annual responses by each broker-dealer. Each response of
marking sell orders ``short exempt'' will take approximately .000139
hours (.5 seconds) to complete. (2,491,309 responses x 0.000139
hours) = 346 burden hours.
Based on industry sources, we estimate that the average hourly
rate for compliance attorneys is $270. The $270/hour figure for
compliance attorneys is from SIFMA's Management & Professional
Earnings in the Securities Industry 2008, modified to account for an
1800-hour work-year and multiplied by 5.35 to account for bonuses,
firm size, employee benefits and overhead.
\1110\ This figure was calculated as follows: ($93,420 x 5,178)
= $483,728,760.
---------------------------------------------------------------------------

To provide market participants with the time needed to make the
changes required to comply with Rule 200(g), we are adopting an
implementation period under which market participants will have to
comply with these requirements six months following the effective date
of the adoption of these amendments. In the Proposal, we proposed a
three month implementation period for the ``short exempt'' marking
requirements under Rule 200(g). In response to our request for comment,
several commenters stated that the ``short exempt'' marking requirement
would require systems changes.\1111\ Another commenter stated that the
``short exempt'' marking requirement would require coding for new
fields in order

[[Page 11313]]

records, which should be accomplished in approximately three
months.\1112\
---------------------------------------------------------------------------

\1111\ See, e.g., letter from RBC (June 2009); letter from NSCP;
letter from FIF (June 2009).
\1112\ See letter from STA (June 2009).
---------------------------------------------------------------------------

We are sensitive to commenters' concerns that implementation of the
``short exempt'' marking requirement could be complex, and believe that
a six month implementation period, which is longer than the 3 month
implementation period proposed in the Proposal, will afford market
participants sufficient time to make the necessary modifications to
their systems and procedures. In addition, we believe that because it
will provide broker-dealers with time to make required changes in a
measured fashion, the six month implementation period will help
alleviate some of the potential disruptions that may be associated with
implementing the ``short exempt'' marking requirements.

XI. Consideration of Burden on Competition and Promotion of Efficiency,
Competition, and Capital Formation

Section 3(f) of the Exchange Act requires the Commission, whenever
it engages in rulemaking and is required to consider or determine
whether an action is necessary or appropriate in the public interest,
to consider, in addition to the protection of investors, whether the
action would promote efficiency, competition, and capital
formation.\1113\ In addition, Section 23(a)(2) of the Exchange Act
requires the Commission, when adopting rules under the Exchange Act, to
consider the impact such rules would have on competition.\1114\
Exchange Act Section 23(a)(2) prohibits the Commission from adopting
any rule that would impose a burden on competition not necessary or
appropriate in furtherance of the purposes of the Exchange Act.
---------------------------------------------------------------------------

\1113\ 15 U.S.C. 78c(f).
\1114\ 15 U.S.C. 78w(a)(2).
---------------------------------------------------------------------------

A number of commenters noted concerns about the impact of a short
sale price test restriction on efficiency, competition and capital
formation.\1115\ One commenter stated that ``the empirical evidence
from the many academic and Commission studies and experiences of [the
commenters] * * * raise a substantial question about whether the
proposed short sale restrictions can satisfy these standards.'' \1116\
Another commenter noted the beneficial impact of short selling on
efficiency and competition, quoting the Commission's statements that
short selling provides the market with liquidity and pricing
efficiency.\1117\ As discussed below, we considered these concerns, and
took them into account in formulating Rules 200(g) and 201, as adopted,
to address, to the extent possible, these concerns.
---------------------------------------------------------------------------

\1115\ See, e.g., letter from Joseph A. Dear, Chief Investment
Officer, California Public Employees' Retirement System, dated June
19, 2009; letter from Citadel et al. (June 2009); letter from
Pershing Square; letter from Vanguard (June 2009); letter from Amer.
Bar Assoc. (July 2009); letter from Amer. Bar Assoc. (Sept. 2009);
letter from MFA (Oct. 2009).
\1116\ Letter from Citadel et al. (June 2009).
\1117\ See letter from Pershing Square (citing 2006 Price Test
Elimination Proposing Release, 71 FR at 75069-75070).
---------------------------------------------------------------------------

A. Competition

We begin our consideration of potential competitive impacts with
observations of the current structure of the markets with respect to
trading centers and broker-dealers, mindful of the statutory
requirements regarding competition. Based on our experience in
regulating the securities markets, including reviewing information
provided by trading centers and broker-dealers in their registrations
and filings with us, and approving such registration applications, we
discuss below the basic framework of the markets they comprise.
1. Market Structure for Trading Centers and Broker-Dealers
Trading centers include national securities exchanges or national
securities associations that operate an SRO trading facility,
ATSs,\1118\ exchange market makers and OTC market makers, and any other
broker-dealer that executes orders internally, whether as agent or
principal.\1119\ All of these entities will be required to alter their
trading mechanisms to comply with Rule 200(g) and Rule 201.
---------------------------------------------------------------------------

\1118\ Under Regulation ATS, any entity that falls within the
definition of a securities exchange must apply to be a securities
exchange or must register as an ATS, subject to certain exceptions.
See 17 CFR 242.300, 301; see also 15 U.S.C. 78c(a)(1); 17 CFR
240.3b-16.
\1119\ See 17 CFR 242.600(b)(78). Currently, no national
securities association is a trading center, as that term is defined
in Rule 600(b)(78) of Regulation NMS.
---------------------------------------------------------------------------

The equity trading industry is a competitive one, with reasonably
low barriers to entry. The intensity of competition across trading
platforms in this industry has increased in the past decade as a result
of a number of factors, including market reforms and technological
advances. This increase in competition has resulted in decreases in
market concentration, more competition among trading centers, a
proliferation of trading platforms competing for order flow, and
decreases in trading fees.
The reasonably low barriers to entry for trading centers are
evidenced, in part, by the fact that new entities, primarily ATSs,
continue to enter the market.\1120\ For example, currently there are
approximately 50 registered ATSs that trade covered securities. In
addition, the Commission within the past few years has approved
applications by two entities--BATS and Nasdaq--to become registered as
national securities exchanges for trading equities, and approved
proposed rule changes by two existing exchanges--ISE and CBOE--to add
equity trading facilities to their existing options business. We
believe that competition among trading centers has been facilitated by
Rule 611 of Regulation NMS,\1121\ which encourages quote-based
competition between trading centers; Rule 605 of Regulation NMS,\1122\
which empowers investors and broker-dealers to compare execution
quality statistics across trading centers; and Rule 606 of Regulation
NMS,\1123\ which enables customers to monitor order routing practices.
---------------------------------------------------------------------------

\1120\ See Exchange Act Release No. 60997 (Nov. 13, 2009), 74 FR
61208, 61234 (Nov. 23, 2009) (discussing the reasonably low barriers
to entry for ATSs and that these reasonably low barriers to entry
have generally helped to promote competition and efficiency).
\1121\ 17 CFR 242.611.
\1122\ 17 CFR 242.605.
\1123\ 17 CFR 242.606.
---------------------------------------------------------------------------

Broker-dealers are required to register with the Commission and at
least one SRO. The broker-dealer industry, including market makers, is
a competitive industry, with most trading activity concentrated among
several dozen larger participants and with thousands of smaller
participants competing for niche or regional segments of the market.
There are 5,178 registered broker-dealers, of which 890 are small
broker-dealers.\1124\ Larger broker-dealers often enjoy economies of
scale over smaller broker-dealers and compete with each other to
service the smaller broker-dealers, who are both their competitors and
customers. The reasonably low barriers to entry for broker-dealers are
evidenced, for example, by the fact that the average number of new
broker-dealers entering the market each year between 2001 and 2008 was
389.\1125\
---------------------------------------------------------------------------

\1124\ These numbers are based on a review of 2007 and 2008
FOCUS Report filings reflecting registered broker-dealers, and
discussions with SRO staff. The number does not include broker-
dealers that are delinquent on FOCUS Report filings. We discuss the
impact of Rule 201 on small broker-dealers in Section XII.B., below.
\1125\ This number is based on a review of FOCUS Report filings
reflecting registered broker-dealers from 2001 through 2008. The
number does not include broker-dealers that are delinquent on FOCUS
Report filings. New registered broker-dealers for each year during
the period from 2001 through 2008 were identified by comparing the
unique registration number of each broker-dealer filed for the
relevant year to the registration numbers filed for each year
between 1995 and the relevant year.

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

[[Page 11314]]

2. Discussion of Impacts of Rules 200(g) and 201 on Competition
We believe that the estimated costs associated with implementing
and complying with Rules 200(g) and 201 are not so large as to raise
significant barriers to entry, or otherwise significantly alter the
competitive landscape of the industries involved. In industries
characterized by reasonably low barriers to entry and intense
competition, the viability of some of the less successful competitors
may be sensitive to regulatory costs. Nonetheless, given the reasonably
low barriers to entry into the market for execution services, we
believe that the trading center and broker-dealer industries will
remain competitive, despite the costs associated with implementing and
complying with Rules 200(g) and 201, even if those costs influence to
some degree the entry or exit decisions of individual trading centers
or broker-dealers at the margin.
Several commenters expressed concerns about the impact of a short
sale price test restriction on competition among broker-dealers.\1126\
For example, one commenter noted concerns with respect to decreased
competition and increased broker-dealer ``internalization.'' \1127\
Specifically, this commenter stated that, as a result of short sale
price test restrictions, ``a widening of bid/offer spreads and decrease
in liquidity provided by professional market makers could reverse the
consolidation of liquidity in the public markets, permitting some
brokers once again to take advantage of decreased competition in price
discovery and offer substantially inferior (but still technically
legal) internalization prices to their customers.'' \1128\ Although we
considered this commenter's concerns, we note that, as discussed above,
due to the circuit breaker approach of Rule 201, as well as findings by
the Pilot Results regarding the market impact of former Rule 10a-1, we
believe that the short sale price test restrictions of Rule 201 will
have a limited, if any, negative market impact, such as widening of
bid/offer spreads or decreased liquidity.\1129\ Thus, we do not believe
that Rule 201 will result in decreased competition in price discovery
or increased internalization.
---------------------------------------------------------------------------

\1126\ See, e.g., letter from Credit Suisse (June 2009); letter
from EWT (June 2009); letter from FIF (June 2009); letter from NSCP.
\1127\ Letter from EWT (June 2009).
\1128\ Id.
\1129\ See supra Section X.B.1.a. (discussing the impact of Rule
201 on liquidity, market volume, bid-ask spreads, price discovery
and volatility).
---------------------------------------------------------------------------

Another commenter stated that ``while it will not be mandated that
firms avail themselves of the [broker-dealer provision], competitive
pressure is likely to mean that broker dealers will need to invest
resources and time in building this functionality.'' \1130\ We
recognize that broker-dealers are faced with competitive concerns and
that such concerns may influence their decision whether or not to rely
on the broker-dealer provision of Rule 201(c). We also recognize that
if a broker-dealer chooses to rely on the broker-dealer provision it
will impose costs on such broker-dealers, and we considered these costs
in determining to adopt in Rule 201 the alternative uptick rule rather
than a rule that requires sequencing of the national best bid.\1131\
Although commenters expressed concerns with respect to the costs of the
broker-dealer provision of Rule 201(c) and the resulting impact on
competition, many of these comments were not specific to the
alternative uptick rule.\1132\ Without a sequencing requirement under
the alternative uptick rule, we believe that the policies and
procedures required to rely on the broker-dealer provision under Rule
201(c) will be easier and less costly to implement and monitor than the
cost concerns and estimates provided by some commenters.
---------------------------------------------------------------------------

\1130\ Letter from FIF (June 2009). In addition, some commenters
raised concerns with respect to competitive pressure on smaller
broker-dealers, in particular, in connection with a short sale price
test restriction. As noted above, we discuss the impact of Rule 201
on small broker-dealers in Section XII.B., below.
\1131\ See supra Section IX.E.2. (discussing the implementation
and on-going monitoring and compliance costs of the broker-dealer
provision).
\1132\ See, e.g., letter from STANY (June 2009); letter from FIF
(June 2009); letter from Lime Brokerage (June 2009); letter from
T.D. Pro Ex; letter from Taurus Compliance; letter from Credit
Suisse (June 2009); letter from NSCP.
---------------------------------------------------------------------------

Other commenters noted concerns regarding reduced competition among
market makers in the absence of a bona fide market making
exception.\1133\ We believe, however, that due to the approach of Rule
201, that is, the combination of a circuit breaker with the alternative
uptick rule, the lack of such a bona fide market maker exception will
have minimal, if any, impact on competition among market makers. This
is because, as noted by some commenters, equity market makers for the
most part sell at their offer quote.\1134\ Thus, the short sale price
test restriction of Rule 201, which requires short selling at a price
above the national best bid and only if the circuit breaker has been
triggered, is consistent with equity market making strategies because
these market makers generally sell at prices above the national best
bid.\1135\ This is particularly true where a security's price is
declining, as market makers often provide liquidity on the opposite
side of price moves to help reduce volatility. Thus, even during times
when a covered security is undergoing significant downward price
pressure, market makers are generally required to provide liquidity in
that security.\1136\
---------------------------------------------------------------------------

\1133\ See, e.g., letter from EWT (June 2009); letter from EWT
(Sept. 2009); letter from GETCO (June 2009); letter from Goldman
Sachs (June 2009); but cf. letter from Dr. Jim DeCosta (noting that
there are currently few barriers to entry for market makers and
abuse can arise from small market makers, who are in need of
business, being willing to misuse a bona fide market making
exemption in exchange for order flow). See also supra Section
III.B.9. (discussing the decision not to include an exemption for
bona fide market making).
\1134\ See, e.g., letter from CBOE (June 2009).
\1135\ See letter from Direct Edge (Sept. 2009); see also supra
note 532 (discussing a 1997 study indicating that during a sample
month in 1997, market maker short sales at or below the inside bid
accounted for only 2.41% of their total share volume).
\1136\ See, e.g., NYSE Rule 104(f) (stating that ``it is
commonly desirable that a member acting as [a designated market
maker] engage to a reasonable degree under existing circumstances in
dealings for the [designated market maker's] own account when lack
of price continuity, lack of depth, or disparity between supply and
demand exists or is reasonably to be anticipated''); CBOE Rule
53.23(a)(1) (stating that ``[w]ith respect to each security for
which it holds an Appointment, a CBSX Remote Market Maker has a
continuous obligation to engage, to a reasonable degree under the
existing circumstances, in dealings for its own account when there
exists, or it is reasonably anticipated that there will exist, a
lack of price continuity, or a temporary disparity between the
supply of and demand for a particular security'').
---------------------------------------------------------------------------

Weighing against the competitive concerns for the trading center
and broker-dealer industries, Rule 201 will advance the purposes of the
Exchange Act in a number of significant ways. It will help benefit the
market for a particular security by allowing market participants, when
a security is undergoing a significant intra-day price decline, an
opportunity to re-evaluate circumstances and respond to volatility in
that security. It will also help restore investor confidence during
times of substantial uncertainty because, once the circuit breaker has
been triggered for a particular security, long sellers will have
preferred access to bids for the security, and the security's continued
price decline will more likely be due to long selling and the
underlying fundamentals of the issuer, rather than to other factors. We
also believe that a circuit breaker will better target short selling
that may be related to potential

[[Page 11315]]

bear raids \1137\ and other forms of manipulation that may be used to
exacerbate a price decline in a covered security.
---------------------------------------------------------------------------

\1137\ See supra note 36 and accompanying text.
---------------------------------------------------------------------------

At the same time, however, we recognize the benefits to the market
of legitimate short selling, such as the provision of liquidity and
price efficiency, and considered these benefits in adopting the circuit
breaker approach of Rule 201. Under the circuit breaker approach, the
alternative uptick rule will only be imposed when a covered security
has experienced an intra-day price decline of 10% or more and will only
apply for the remainder of the day and the following day. We believe
that because of the limited scope and duration of Rule 201, it will not
interfere with the smooth functioning of the markets for the majority
of securities, including when prices in such securities are undergoing
minimal downward price pressure or are stable or rising. To the extent
that Rule 201 impacts the benefits of legitimate short selling, such as
the provision of liquidity and price efficiency, we believe that such
costs are justified by the benefits provided by the Rule in preventing
short selling, including potentially manipulative or abusive short
selling, from being used as a tool to exacerbate a declining market in
a security.
After due consideration of all these factors and the comments we
have received, we have determined that any burden on competition that
Rules 200(g) and 201 may impose is necessary or appropriate in the
furtherance of the purposes of the Exchange Act noted above.

B. Capital Formation

A purpose of Rule 201 is to strengthen investor confidence in the
markets we regulate which should help make investors more willing to
invest, resulting in the promotion of capital formation. Fair and
robust secondary markets, in which legitimate short selling can play a
positive role, supports the public offerings by which issuers raise
capital and, as a result, investors who provided private capital
realize profits and obtain liquidity. In addition, long holdings are
integral to capital formation. By placing long holders ahead of short
sellers in the execution queue under certain limited circumstances,
Rule 201 promotes capital formation, since investors should be more
willing to hold long positions if they know they may have a preferred
position over short sellers when they wish to sell in the market for
that security during a significant price decline in that security.
In addition, paragraphs (c) and (d) of Rule 201 include provisions
that are designed to limit any adverse effects on the public offering
process, which is necessary to capital formation, while at the same
time not undermining the goals of Rule 201.\1138\ In particular, Rule
201(d)(5) is designed to facilitate price support during the offering
process by allowing broker-dealers to mark short sale orders ``short
exempt'' if the short sale is by an underwriter or syndicate member
participating in a distribution in connection with an over-allotment or
if the short sale order is by an underwriter or syndicate member for
purposes of a lay-off sale in connection with a distribution of
securities through a rights or standby underwriting commitment.\1139\
---------------------------------------------------------------------------

\1138\ See supra Section III.B. (discussing ``short exempt''
provisions to Rule 201). Under these provisions, if a broker-dealer
chooses to rely on its own determination that it is submitting the
short sale order to the trading center at a price that is above the
current national best bid at the time of submission or to rely on an
exception specified in the Rule, it must mark the order as ``short
exempt.''
\1139\ See Rule 201(d)(5).
---------------------------------------------------------------------------

We note that short sales can facilitate convertible securities
offerings, and, as stated by some commenters,\1140\ we recognize that
hedges for this subset of offerings may become more expensive under
Rule 201 due to the absence of an exception from Rule 201 for short
selling in connection with convertible instruments. In this regard,
however, we note that as adopted, as opposed to some of our alternative
proposals, Rule 201 will not prohibit short selling to hedge a
position, although it could marginally increase the cost of adjusting a
hedge after a significant market decline. Even if these indirect costs
could, at the margin, reduce the attractiveness and, therefore, the
volume of certain types of offerings, we do not believe that any such
reduction will be significant because short sellers will be able to
sell at a price above the national best bid even during the limited
time the circuit breaker is in effect. Moreover, as described above,
Rule 201 includes an exception for short selling in connection with
certain types of capital-raising structures. Thus, while there may be a
change in the total mix of offering types, we have no reason to believe
that, in light of the anticipated positive effect of Rule 201 on
investor confidence, particularly confidence in long holdings, that
there will be any overall negative effect on capital formation as a
result of our adoption of this Rule.
---------------------------------------------------------------------------

\1140\ See supra notes 425 to 426 and accompanying text (noting
requests by commenters for exceptions for short sales in connection
with the facilitation of capital raising transactions through
convertible instruments by issuers and selling shareholders, and to
allow investors purchasing a convertible instrument to hedge their
long exposure).
---------------------------------------------------------------------------

We believe, and commenters agreed, that by helping to prevent short
selling, including manipulative or abusive short selling, from driving
down further the price of a security that has already experienced a
significant intra-day price decline, Rule 201 will help restore and
maintain investor confidence in the securities markets.\1141\
Bolstering investor confidence in the markets will help to encourage
investors to be more willing to invest in the markets, including during
times of substantial uncertainty, thereby adding depth and liquidity to
the markets and promoting capital formation.
---------------------------------------------------------------------------

\1141\ See supra Section II.C. (discussing restoring investor
confidence); see also letter from Edward C. Springer, dated May 3,
2009; letter from Richard Anderson, dated May 5, 2009; letter from
Mike Pascale, dated May 11, 2009; letter from Sigmon Wealth
Management (June 2009); form letter type C, a petition drafted by
Jim Cramer, William Furber, Eric Oberg, and Scott Rothbort and
signed by 5,605 investors. Another commenter stated that adoption of
the alternative uptick rule would have a beneficial impact on
capital formation, stating that ``[t]he most important function of
the capital markets is to raise capital for American corporations,''
and that ``by adopting the alternative uptick rule, the Commission
will have chosen the best approach to deal with the loss of
confidence by Congress and most importantly the investing public.''
Letter from Glen Shipway (Sept. 2009). We note, however, that this
commenter did not support adoption of the alternative uptick rule in
conjunction with a circuit breaker.
---------------------------------------------------------------------------

C. Efficiency

Rule 201 is designed to achieve the appropriate balance between our
goal of preventing short selling, including manipulative or abusive
short selling, from being used as a tool to exacerbate a declining
market in a security and the need to allow for the continued smooth
functioning of the markets, including the provision of liquidity and
price efficiency in the markets. By not allowing short sellers to sell
at or below the current national best bid while the circuit breaker is
in effect, the short sale price test restriction in Rule 201 will allow
long sellers in certain limited circumstances, by selling at the bid,
to sell first in a declining market for a particular security. As the
Commission has noted previously in connection with short sale price
test restrictions, a goal of such restrictions is to allow long sellers
to sell first in a declining market.\1142\
---------------------------------------------------------------------------

\1142\ See supra note 17.
---------------------------------------------------------------------------

The term ``price efficiency'' has a technical meaning in financial
economics, which is not the only way the term can be interpreted in the

[[Page 11316]]

Exchange Act.\1143\ We have, nonetheless, considered the effect of Rule
201 on price efficiency in terms of financial economic theory.\1144\
---------------------------------------------------------------------------

\1143\ See supra note 18 (defining the term ``price
efficiency'').
\1144\ See, e.g., Edward M. Miller, 1977, Risk, uncertainty, and
divergence of opinion, Journal of Finance 32, 1151-1168; Douglas W.
Diamond and Robert E. Verrecchia, 1987, Constraints on short-selling
and asset price adjustment to private information, Journal of
Financial Economics 18, 277-311.
---------------------------------------------------------------------------

We have structured Rule 201 to mitigate its impact on price
efficiency. In response to the Proposal and Re-Opening Release, several
commenters cited empirical evidence showing that short selling
contributes to price efficiency and that restrictions on short selling,
particularly bans on short selling, may negatively impact price
efficiency.\1145\ We note, however, that empirical evidence on former
Rule 10a-1 suggests that the former rule, which applied to all short
selling all the time unless an exception or exemption applied, had
minimal effect on price efficiency.\1146\ Due to differences in the
operation of former Rule 10a-1 and Rule 201, when it applies, the
alternative uptick rule under Rule 201 will be more restrictive than
former Rule 10a-1 in some circumstances and less restrictive in
others.\1147\ As discussed above, however, due to the circuit breaker
approach in Rule 201, the alternative uptick rule of Rule 201 generally
will apply to a limited number of covered securities \1148\ and will
apply only to a particular security for a limited period of time when
the circuit breaker has been triggered for a covered security. As such,
it will not be triggered for the majority of covered securities at any
given time and, when triggered, will remain in effect for a short
duration--that day and the following day. Thus, consistent with the
empirical evidence on former Rule 10a-1, we expect that the alternative
uptick rule will have a minimal impact on price efficiency.
---------------------------------------------------------------------------

\1145\ See, e.g., letter from Pershing Square (citing 2006 Price
Test Elimination Proposing Release, 71 FR at 75069-75070); letter
from CPIC (June 2009) (citing Pedro A. C. Saffi and Kari Sigurdson,
Price Efficiency and Short Selling, lESE Business School Working
Paper No. 748 (Apr. 2008); letter from Citadel et al. (June 2009).
\1146\ See, e.g., supra Section II.B. (discussing the Pilot
Results).
\1147\ See, e g., supra note 242 and accompanying text
(discussing automated trade matching systems).
\1148\ See supra notes 305 to 311 and accompanying text
(discussing data reflecting that, on average, a limited number of
covered securities would hit a 10% trigger level each day).
---------------------------------------------------------------------------

Moreover, paragraphs (c) and (d) of Rule 201 include provisions
designed to limit any adverse effects on price efficiency and
liquidity, while at the same time not undermining the goals of Rule
201.\1149\ In particular, paragraphs (d)(3) and (d)(4) of Rule 201 are
designed to facilitate pricing efficiency through certain domestic and
international arbitrage transactions. As stated above, allowing
arbitrage at a price that is less than or equal to the current national
best bid will potentially promote market efficiency. In addition,
paragraph (d)(6) of Rule 201, which relates to riskless principal
transactions, is designed to facilitate liquidity.
---------------------------------------------------------------------------

\1149\ See supra Section III.B. (discussing ``short exempt''
provisions to Rule 201); see also supra note 1138.
---------------------------------------------------------------------------

XII. Final Regulatory Flexibility Analysis

The Commission has prepared a Final Regulatory Flexibility Analysis
(``FRFA''), in accordance with the provisions of the Regulatory
Flexibility Act.\1150\ This FRFA relates to the amendments to Rules
200(g) and 201 of Regulation SHO under the Exchange Act. Rule 201 of
Regulation SHO implements a short sale-related circuit breaker that, if
triggered, will impose a short sale price test restriction.
Specifically, Rule 201 requires that a trading center establish,
maintain, and enforce written policies and procedures reasonably
designed to prevent the execution or display of a short sale order of a
covered security at a price that is less than or equal to the current
national best bid if the price of that covered security decreases by
10% or more from the covered security's closing price as determined by
the listing market for the covered security as of the end of regular
trading hours on the prior day. In addition, the Rule requires that the
trading center establish, maintain, and enforce written policies and
procedures reasonably designed to impose this short sale price test
restriction for the remainder of the day and the following day when a
national best bid for the covered security is calculated and
disseminated on a current and continuing basis by a plan processor
pursuant to an effective national market system plan.\1151\ In
addition, Rule 201 provides that the listing market for each covered
security must determine whether that covered security is subject to
Rule 201.\1152\ Once the listing market has determined that a security
has become subject to the requirements of Rule 201, the listing market
shall immediately notify the single plan processor responsible for
consolidation of information for the covered security in accordance
with Rule 603(b) of Regulation NMS \1153\ of the fact that a covered
security has become subject to the short sale price test restriction of
Rule 201. The plan processor must then disseminate this
information.\1154\ The amendments to Rule 200(g) of Regulation SHO add
a new marking requirement of ``short exempt.'' \1155\ In particular, if
the broker-dealer chooses to rely on its own determination that it is
submitting the short sale order to the trading center at a price that
is above the current national best bid at the time of submission or to
rely on an exception specified in the Rule, it must mark the order as
``short exempt.'' \1156\
---------------------------------------------------------------------------

\1150\ 5 U.S.C. 604.
\1151\ See Rule 201(b); see also supra Section III.A.7.
(discussing the policies and procedures approach).
\1152\ See Rule 201(b)(3).
\1153\ Rule 603(b) of Regulation NMS provides that ``[e]very
national securities exchange on which an NMS stock is traded and
national securities association shall act jointly pursuant to one or
more effective national market system plans to disseminate
consolidated information, including a national best bid and national
best offer, on quotations for and transactions in NMS stocks. Such
plan or plans shall provide for the dissemination of all
consolidated information for an individual NMS stock through a
single plan processor.'' 17 CFR 242.603(b).
\1154\ See Rule 201(b)(3); 17 CFR 242.603(b).
\1155\ See Rule 200(g); see also supra Section IV. (discussing
the amendments to Rule 200(g)).
\1156\ See Rule 200(g)(2).
---------------------------------------------------------------------------

A. Need for and Objectives of the Rule

We believe it is appropriate to adopt a circuit breaker in
combination with the alternative uptick rule because, when triggered,
it will prevent short selling, including potentially manipulative or
abusive short selling, from being used as a tool to exacerbate a
declining market in a security and will facilitate the ability of long
sellers to sell first upon such decline. This approach establishes a
narrowly-tailored Rule that will target only those securities that are
experiencing significant intra-day price declines. We believe that
addressing short selling in connection with such declines in individual
securities will help address erosion of investor confidence in our
markets generally. We are also adopting amendments to Rule 200(g) of
Regulation SHO in order to aid surveillance by SROs and the Commission
for compliance with the provisions of Rule 201.
As discussed above, following changes in market conditions since
the elimination of former Rule 10a-1, including marked increases in
market volatility in the U.S. and in every major stock market around
the world, we proposed to re-examine and seek comment on whether to
impose short sale price test restrictions or circuit breaker
restrictions on short selling.\1157\

[[Page 11317]]

Although in recent months there has been an increase in stability in
the securities markets, we remain concerned that excessive downward
price pressure on individual securities accompanied by the fear of
unconstrained short selling can undermine investor confidence in our
markets generally. In addition, we are concerned about potential future
market turmoil, including significant increases in market volatility
and steep price declines. Thus, as discussed in more detail throughout
this adopting release, after considering the comments, we have
determined that it is appropriate to adopt in Rule 201 a targeted short
sale price test restriction that will apply the alternative uptick rule
for the remainder of the day and the following day if the price of an
individual security declines intra-day by 10% or more from the prior
day's closing price for that security as determined by the covered
security's listing market.
---------------------------------------------------------------------------

\1157\ See Proposal, 74 FR at 18043, 18046; see also supra
Section II.C. (discussing the Proposal).
---------------------------------------------------------------------------

By not allowing short sellers to sell at or below the current
national best bid while the circuit breaker is in effect, the short
sale price test restriction in Rule 201 will allow long sellers, by
selling at the bid, to sell first in a declining market for a
particular security. As the Commission has noted previously in
connection with short sale price test restrictions, a goal of such
restrictions is to allow long sellers to sell first in a declining
market.\1158\ A short seller that is seeking to profit quickly from
accelerated, downward market moves may find it advantageous to be able
to short sell at the current national best bid. In addition, by making
bids accessible only by long sellers when a security's price is
undergoing significant downward price pressure, Rule 201 will help to
facilitate and maintain stability in the markets and help ensure that
they function efficiently. It will also help restore investor
confidence during times of substantial uncertainty because, once the
circuit breaker has been triggered for a particular security, long
sellers will have preferred access to bids for the security, and the
security's continued price decline will more likely be due to long
selling and the underlying fundamentals of the issuer, rather than to
other factors.
---------------------------------------------------------------------------

\1158\ See supra note 17.
---------------------------------------------------------------------------

In addition, combining the alternative uptick rule with a circuit
breaker strikes the appropriate balance between our goal of preventing
short selling, including potentially manipulative or abusive short
selling, from being used as a tool to exacerbate a declining market in
a security and the need to allow for the continued smooth functioning
of the markets, including the provision of liquidity and price
efficiency in the markets. The circuit breaker approach of Rule 201
will help benefit the market for a particular security by allowing
participants, when a security is undergoing a significant intra-day
price decline, an opportunity to re-evaluate circumstances and respond
to volatility in that security. We also believe that a circuit breaker
will better target short selling that may be related to potential bear
raids\1159\ and other forms of manipulation that may be used as a tool
to exacerbate a price decline in a covered security.
---------------------------------------------------------------------------

\1159\ See supra note 36 and accompanying text.
---------------------------------------------------------------------------

At the same time, however, we recognize the benefits to the market
of legitimate short selling, such as the provision of liquidity and
price efficiency. Thus, by imposing a short sale price test restriction
only when an individual security is undergoing significant price
pressure, rather than on all securities all the time, the short sale
price test restrictions of Rule 201 will apply to a limited number of
securities and for a limited duration.\1160\ Rule 201 is structured so
that generally it will not be triggered for the majority of covered
securities at any given time and, thereby, will not interfere with the
smooth functioning of the markets for those securities, including when
prices in such securities are undergoing minimal downward price
pressure or are stable or rising. If the short sale price test
restrictions of Rule 201 apply to a covered security it will be because
and when that security is undergoing significant downward price
pressure. To the extent that Rule 201 negatively affects the benefits
of legitimate short selling, such as the provision of liquidity and
price efficiency, we believe that such costs are justified by the
benefits provided by the Rule in preventing short selling, including
potentially manipulative or abusive short selling, from being used as a
tool to exacerbate a declining market in a security.
---------------------------------------------------------------------------

\1160\ See supra Section III.A.5. (discussing the circuit
breaker trigger level).
---------------------------------------------------------------------------

In addition, to help ensure the Rule's workability, we are amending
Rule 200(g) of Regulation SHO, as proposed, to provide that, once the
circuit breaker has been triggered for a covered security, if a broker-
dealer chooses to rely on its own determination that it is submitting a
short sale order to a trading center at a price that is above the
current national best bid at the time of submission or to rely on an
exception specified in the Rule, it must mark the order ``short
exempt.'' The short sale price test restriction of Rule 201 generally
will apply to a small number of securities for a limited duration, and
will continue to permit short selling rather than, for example, halting
short selling when the restriction is in place. As such, we believe
that the circumstances under which a broker-dealer may need to mark a
short sale order ``short exempt'' under Rule 201 are limited.

B. Significant Issues Raised by Public Comment

In the Initial Regulatory Flexibility Analysis included in the
Proposal, we requested comment on the number of small entities that
would be affected by the proposed amendments and on the impact the
proposed amendments would have on small entities and how to quantify
the impact.\1161\ The Commission did not receive any comment letters
addressing the number of small entities that would be affected by the
proposed amendments.
---------------------------------------------------------------------------

\1161\ See Proposal, 74 FR at 18107.
---------------------------------------------------------------------------

Several commenters stated that the costs of implementing and
complying with the broker-dealer provision of Rule 201(c) could be
particularly burdensome for smaller broker-dealers, but did not provide
a cost estimate of such burdens.\1162\ One commenter stated that this
burden would ``adversely affect the ability of smaller broker-dealers
to compete or the level of service that they can provide to their
customers,'' \1163\ while another stated that a short sale price test
would ``disproportionately burden smaller broker-dealers, who would
likely be forced to route their flow through a handful of larger
brokers, impeding competition and adding to systemic risk as flow is
consolidated among fewer players.'' \1164\
---------------------------------------------------------------------------

\1162\ See, e.g., letter from Credit Suisse (June 2009); letter
from NSCP; letter from T.D. Pro Ex.
\1163\ Letter from NSCP.
\1164\ Letter from Credit Suisse (June 2009).
---------------------------------------------------------------------------

Although we agree that implementation of the broker-dealer
provision of Rule 201(c) will impose costs on broker-dealers who choose
to rely on this provision, we note that Rule 201(c) is not a
requirement of the Rule, but rather provides that a broker-dealer may
mark a sell order for a security that has triggered the circuit breaker
as ``short exempt,'' provided that the broker-dealer identifies the
order as being at a price above the current national best bid at the
time of submission to the trading center and otherwise complies with
the requirements of the provision.
In addition, as discussed throughout this adopting release, the
alternative

[[Page 11318]]

uptick rule references only the current national best bid, unlike the
proposed modified uptick rule and the proposed uptick rule, which would
have required sequencing of the national best bid or last sale price.
Although commenters expressed concerns with respect to the costs of the
broker-dealer provision of Rule 201(c), these comments were not
specific to the alternative uptick rule.\1165\ In order to rely on the
broker-dealer provision, a broker-dealer must establish, maintain, and
enforce written policies and procedures reasonably designed to prevent
the incorrect identification of orders as being at a price above the
current national best bid at the time of submission of the order to the
trading center. Without a sequencing requirement under the alternative
uptick rule, we believe that the policies and procedures required to
rely on the broker-dealer provision under Rule 201(c) will be easier
and less costly to implement and monitor than would be the case under
the proposed modified uptick rule or the proposed uptick rule,\1166\
and, therefore, lower than the cost concerns and estimates provided by
commenters. We note that one of the commenters that expressed concerns
about the implementation cost of the broker-dealer provision
acknowledged that a rule ``that would not require data centralization
and sequencing would be significantly less complex and faster to
implement.''\1167\
---------------------------------------------------------------------------

\1165\ See, e.g., letter from Credit Suisse (June 2009); letter
from NSCP; letter from T.D. Pro Ex.
\1166\ See supra notes 709 to 715 and accompanying text
(discussing comments on the impact of the alternative uptick rule on
implementation and on-going monitoring and compliance costs).
\1167\ Letter from Credit Suisse (June 2009).
---------------------------------------------------------------------------

We disagree with several commenters who stated that, although
implementation and on-going monitoring and surveillance of the
alternative uptick rule might be easier and/or less costly for trading
centers, this would not hold true for broker-dealers.\1168\ One of
these commenters stated that ``in order to avoid rejection of short
sale orders under an alternative uptick rule, programming would need to
be implemented to anticipate changes in the national best bid between
the time a short sale order is entered and the time it reaches the
relevant market center.'' \1169\ However, the broker-dealer provision
of Rule 201(c) is designed specifically to avoid this result. Under the
broker-dealer provision, a broker-dealer may, in accordance with the
policies and procedures required by the provision, identify the order
as being at a price above the current national best bid at the time the
order is submitted to the trading center and mark the order ``short
exempt.'' Trading centers are required to have written policies and
procedures in place to permit the execution or display of a short sale
order of a covered security marked ``short exempt'' without regard to
whether the order is at a price that is less than or equal to the
current national best bid.\1170\
---------------------------------------------------------------------------

\1168\ See, e.g., letter from Citadel et al. (Sept. 2009);
letter from EWT (Sept. 2009); letter Lime Brokerage (Sept. 2009).
\1169\ Letter from Citadel et al. (Sept. 2009).
\1170\ See Rule 201(b)(1)(iii).
---------------------------------------------------------------------------

\1171\ See, e.g., letter from STANY (June 2009); letter from FIF
(June 2009); letter from Lime Brokerage (June 2009).
\1172\ See, e.g., letter from T.D. Pro Ex; letter from Taurus
Compliance; letter from Credit Suisse (June 2009).
\1173\ See, e.g., letter from Credit Suisse (June 2009); letter
from NSCP.
---------------------------------------------------------------------------

However, with respect to the cost, although we recognize that the
broker-dealer provision will impose implementation costs on broker-
dealers who choose to rely on this provision, we believe that this cost
will not be as great as stated by some commenters because the
alternative uptick rule does not require sequencing of the national
best bid, unlike the proposed modified uptick rule and the proposed
uptick rule, which would have required sequencing of the national best
bid or last sale price.\1174\ We believe that, without a sequencing
requirement, the policies and procedures required in order to rely on
the broker-dealer provision under the alternative uptick rule will be
easier and less costly to implement and monitor than would be the case
under the proposed modified uptick rule or the proposed uptick rule.
---------------------------------------------------------------------------

\1174\ See supra note 1165 and accompanying text (discussing
impact of the alternative uptick rule on commenters' cost concerns
with respect to the broker-dealer provision of Rule 201(c)).
---------------------------------------------------------------------------

In addition, we note that it is possible that some smaller broker-
dealers that determine to rely on the broker-dealer provision may
determine that it is cost-effective for them to outsource certain
functions necessary to comply with Rule 201(c) to larger broker-
dealers, rather than performing such functions in house, to remain
competitive in the market. This may help mitigate costs associated with
implementing and complying with Rule 201(c). Additionally, they may
decide to purchase order management software from technology firms.
Order management software providers may integrate changes imposed by
Rules 200(g) and 201 into their products, thereby providing another
cost-effective way for smaller broker-dealers to comply with the
requirements of Rule 201(c).
Although we agree that the broker-dealer provision will impose
costs for implementation and on-going monitoring and surveillance, we
note that the policies and procedures that are required to be
implemented under the broker-dealer provision are similar to those that
are required under the Order Protection Rule of Regulation NMS.\1175\
In order to rely on the broker-dealer provision, a broker-dealer must
establish, maintain, and enforce written policies and procedures
reasonably designed to prevent the incorrect identification of orders
as being at a price above the current national best bid at the time of
submission of the order to the trading center. Because some broker-
dealers, including small broker-dealers, may have already developed or
modified their surveillance mechanisms in order to comply with the
policies and procedures requirement of the Order Protection Rule under
Regulation NMS, broker-dealers may already have retained and trained
the necessary personnel to ensure compliance with that Regulation's
policies and procedures requirements and, therefore, may already have
in place most of the infrastructure and potential policies and
procedures necessary to comply with the broker-dealer provision of Rule
201(c). In addition, one commenter supported using a policies and
procedures approach to any short sale price test restriction because it
would ease implementation for broker-dealers.\1176\ Thus, we believe
broker-dealers will already be familiar with establishing, maintaining,
and enforcing trading-related policies and procedures, including
programming their trading systems in accordance with such policies and
procedures.
---------------------------------------------------------------------------

\1175\ See Regulation NMS Adopting Release, 70 FR 37496; see
also 17 CFR 242.611.
\1176\ See, e.g., letter from GE.
---------------------------------------------------------------------------

Although several commenters stated that previous implementation of
Regulation NMS would not mitigate the costs to broker-dealers of
implementing

[[Page 11319]]

a short sale price test restriction,\1177\ we considered these
comments, as well as comments stating that previous implementation of
Regulation NMS could ease implementation provided that broker-dealers
could leverage existing systems in implementing Rule 201,\1178\ and
continue to believe that familiarity with Regulation NMS policies and
procedures will reduce the implementation costs of the broker-dealer
provision under Rule 201(c) on broker-dealers.\1179\
---------------------------------------------------------------------------

\1177\ See, e.g., letter from FIF (June 2009); letter from RBC
(June 2009).
\1178\ See, e.g., letter from MFA (Oct. 2009).
\1179\ See supra Section X.B.1.b.ii. (discussing implementation
and on-going monitoring and surveillance costs to broker-dealers
under Rule 201(c) and Rule 201(d)(6)).
---------------------------------------------------------------------------

C. Small Entities Affected by the Rule

Rule 201 requires that a trading center establish, maintain, and
enforce written policies and procedures reasonably designed to prevent
the execution or display of a short sale order of a covered security at
a price that is less than or equal to the current national best bid if
the price of that covered security decreases by 10% or more from the
covered security's closing price as determined by the listing market
for the covered security as of the end of regular trading hours on the
prior day. In addition, the Rule requires that the trading center
establish, maintain, and enforce written policies and procedures
reasonably designed to impose this short sale price test restriction
for the remainder of the day and the following day when a national best
bid for the covered security is calculated and disseminated on a
current and continuing basis by a plan processor pursuant to an
effective national market system plan.\1180\ Rule 201(a)(9) states that
the term ``trading center'' shall have the same meaning as in Rule
600(b)(78) of Regulation NMS, which defines a ``trading center'' as ``a
national securities exchange or national securities association that
operates an SRO trading facility, an alternative trading system, an
exchange market maker, an OTC market maker, or any other broker or
dealer that executes orders internally by trading as principal or
crossing orders as agent.'' \1181\
---------------------------------------------------------------------------

\1180\ See Rule 201(b)(1).
\1181\ See Rule 201(a)(9); see also 17 CFR 242.600(b)(78).
---------------------------------------------------------------------------

Rule 0-10(e) under the Exchange Act provides that the term ``small
business'' or ``small organization,'' when referring to an exchange,
means any exchange that: (i) Has been exempted from the reporting
requirements of Rule 601 under the Exchange Act; \1182\ and (ii) is not
affiliated with any person (other than a natural person) that is not a
small business or small organization, as defined by Rule 0-10.\1183\ No
national securities exchanges are small entities because none meets
these criteria. Thus, the current national securities exchanges that
are subject to Rule 201 are not ``small entities'' for purposes of the
Regulatory Flexibility Act.
---------------------------------------------------------------------------

\1182\ See 17 CFR 242.601.
\1183\ See 17 CFR 240.0-10(e); 13 CFR 121.201 (setting size
standards to define small business concerns).
---------------------------------------------------------------------------

The remaining non-SRO trading centers that are subject to Rule 201
are registered broker-dealers. The Commission has determined that there
are approximately 407 broker-dealers registered with the Commission
that may meet the definition of a trading center,\1184\ which includes
broker-dealers operating as equity ATSs, broker-dealers registered as
market makers or specialists in covered securities, and any broker-
dealer that is in the business of executing orders internally in
covered securities. Pursuant to Rule 0-10(c) under the Exchange Act, a
broker-dealer is defined as a small entity for purposes of the Exchange
Act and the Regulatory Flexibility Act if the broker-dealer had a total
capital (net worth plus subordinated liabilities) of less than $500,000
on the date in the prior fiscal year as of which its audited financial
statements were prepared, and it is not affiliated with any person
(other than a natural person) that is not a small entity.\1185\ Of
these 407 non-SRO trading centers, only five \1186\ are ``small
entities'' for purposes of the Regulatory Flexibility Act.
---------------------------------------------------------------------------

\1184\ See supra note 651.
\1185\ See 17 CFR 240.0-10(c)(1).
\1186\ This number was derived from a review of 2008 FOCUS
Report filings and discussion with SRO staff.
---------------------------------------------------------------------------

In addition, the broker-dealer provision of Rule 201(c) and the
riskless principal provision of Rule 201(d)(6) include policies and
procedures requirements to help prevent incorrect identification of
orders by broker-dealers for purposes of the provisions. The entities
covered by the broker-dealer provision of Rule 201(c), the riskless
principal provision of Rule 201(d)(6) and the marking requirements of
Rule 200(g) include small broker-dealers. Paragraph (c)(1) of Rule 0-10
under the Exchange Act, as mentioned above, states that the term
``small business'' or ``small organization,'' when referring to a
broker-dealer, means a broker-dealer that had total capital (net worth
plus subordinated liabilities) of less than $500,000 on the date in the
prior fiscal year as of which its audited financial statements were
prepared, and is not affiliated with any person (other than a natural
person) that is not a small entity.\1187\ We estimate that as of 2008
there were approximately 890 broker-dealers that are ``small entities''
for purposes of the Regulatory Flexibility Act.\1188\
---------------------------------------------------------------------------

\1187\ 17 CFR 240.0-10(c)(1).
\1188\ These numbers are based on a review of 2008 FOCUS Report
filings reflecting registered broker-dealers, including introducing
broker-dealers. This number does not include broker-dealers that are
delinquent on FOCUS Report filings.
---------------------------------------------------------------------------

In addition, Rule 201(b)(3) provides that the listing market for
each covered security must determine whether that covered security is
subject to Rule 201 and must notify the single plan processor
responsible for that covered security that the covered security has
become subject to the short sale price test restriction of Rule 201.
The plan processor must then disseminate this information.\1189\ As
discussed below, the entities covered by the determination and
dissemination requirements of Rule 201(b)(3) do not include small
entities.
---------------------------------------------------------------------------

\1189\ See Rule 201(b)(3).
---------------------------------------------------------------------------

Rule 201(a)(3) defines the term ``listing market'' to have the same
meaning as defined in the effective transaction reporting plan for the
covered security.\1190\ Under the definitions of ``listing market'' of
the two effective transaction reporting plans, the CTA Plan and the
Nasdaq UTP Plan, ``listing markets'' are national securities
exchanges.\1191\ Rule 0-10(e) under the Exchange Act provides that the
term ``small business'' or ``small organization,'' when referring to an
exchange, means any exchange that: (i) Has been exempted from the
reporting requirements of Rule 601 under the Exchange Act; \1192\ and
(ii) is not affiliated with any person (other than a natural person)
that is not a small

[[Page 11320]]

business or small organization, as defined by Rule 0-10.\1193\ No
national securities exchanges are small entities because none meets
these criteria. Thus, the listing markets that are subject to Rule 201
are not ``small entities'' for purposes of the Regulatory Flexibility
Act.
---------------------------------------------------------------------------

\1190\ See Rule 201(a)(3). Rule 201(a)(2) provides that ``[t]he
term effective transaction reporting plan for a covered security
shall have the same meaning as in Sec. 242.600(b)(22).'' Rule
201(a)(2); 17 CFR 600(b)(22).
\1191\ See supra note 364 (discussing the definition of
``listing market'' in the CTA Plan and the Nasdaq UTP Plan).
\1192\ See 17 CFR 242.601.
\1193\ See 17 CFR 240.0-10(e); 13 CFR 121.201.
---------------------------------------------------------------------------

There are two effective transaction reporting plans, the CTA Plan
and the Nasdaq UTP Plan. In accordance with Rule 603(b) of Regulation
NMS,\1194\ these plans, together with the CQ Plan, provide for the
dissemination of all consolidated information for individual NMS stocks
through a single plan processor. The plan processor for the CTA Plan is
SIAC and the plan processor for the Nasdaq UTP Plan is Nasdaq. Rule
201(a)(6) defines the term ``plan processor'' to have the same meaning
as in Rule 600(b)(55) of Regulation NMS.\1195\ Under Rule 600(b)(55),
the term ``plan processor'' means ``any self-regulatory organization or
securities information processor acting as an exclusive processor in
connection with the development, implementation and/or operation of any
facility contemplated by an effective national market system plan.''
\1196\ Paragraph (g) of Rule 0-10 defines the term ``small business''
or ``small organization,'' when referring to a securities information
processor, to mean a securities information processor that had gross
revenues of less than $10 million during the preceding fiscal year;
provided service to fewer than 100 interrogation devices or moving
tickers at all times during the preceding fiscal year; and is not
affiliated with any person (other than a natural person) that is not a
small business or small organization.\1197\ Neither SIAC nor Nasdaq
meet these criteria. Thus, the plan processors that are subject to Rule
201 are not ``small entities'' for purposes of the Regulatory
Flexibility Act.
---------------------------------------------------------------------------

\1194\ See 17 CFR 242.603(b).
\1195\ See Rule 201(a)(6); 17 CFR 242.600(b)(55).
\1196\ 17 CFR 242.600(b)(55).
\1197\ See 17 CFR 240.0-10(g).
---------------------------------------------------------------------------

D. Projected Reporting, Recordkeeping and Other Compliance Requirements

Rule 201 imposes some new or additional reporting, recordkeeping,
or compliance costs on trading centers and other broker-dealers that
are small entities. Rule 201 focuses on a trading center's written
policies and procedures as the mechanism through which to help prevent
the execution or display of short sale orders at a price that is less
than or equal to the current national best bid, unless an exception
applies. In addition, the broker-dealer provision of Rule 201(c) and
the riskless principal provision of Rule 201(d)(6) include policies and
procedures requirements to help prevent incorrect identification of
orders by broker-dealers for purposes of those provisions.
In regard to implementation and on-going monitoring and
surveillance costs of Rule 201 on trading centers that are small
entities,\1198\ we considered commenters' concerns that the cost and
time required for trading centers' implementation and on-going
monitoring and surveillance of a short sale price test restriction
could be high.\1199\ However, we note that the alternative uptick rule
references only the current national best bid, unlike the proposed
modified uptick rule and the proposed uptick rule, which would have
required sequencing of the national best bid or last sale price. Thus,
we believe that the alternative uptick rule will be easier and less
costly to implement and monitor for trading centers that are small
entities than the proposed modified uptick rule or the proposed uptick
rule.\1200\
---------------------------------------------------------------------------

\1198\ As discussed above, there are no SRO trading centers that
are ``small entities'' for purposes of the Regulatory Flexibility
Act. Of the estimated 407 non-SRO trading centers (which include
broker-dealers operating as equity ATSs, broker-dealers registered
as market makers or specialists in covered securities, and any
broker-dealer that is in the business of executing orders internally
in covered securities) we estimate that there are only 5 non-SRO
trading centers that are ``small entities'' for purposes of the
Regulatory Flexibility Act. See supra Section XII.C.
\1199\ See supra Section X.B.1.b.i. (discussing comments on the
implementation and on-going monitoring and compliance costs of the
policies and procedures requirement of Rule 201).
\1200\ See supra notes 661 to 669 and accompanying text
(discussing comments on the effect of the alternative uptick rule on
implementation and on-going monitoring and surveillance costs).
---------------------------------------------------------------------------

In addition, we note that the policies and procedures required to
be implemented for purposes of Rule 201 are similar to those that
trading centers are required to have in place under the Order
Protection Rule of Regulation NMS.\1201\ Thus, we believe trading
centers that are small entities may already be familiar with
establishing, maintaining, and enforcing trading-related policies and
procedures, including programming their trading systems in accordance
with such policies and procedures.
---------------------------------------------------------------------------

\1201\ See Regulation NMS Adopting Release, 70 FR 37496; see
also Proposal, 74 FR at 18087; 17 CFR 242.611.
---------------------------------------------------------------------------

Although, as discussed above, several commenters stated that
previous implementation of Regulation NMS would not mitigate the costs
of implementing a short sale price test restriction,\1202\ we
considered these comments, as well as comments stating that previous
implementation of Regulation NMS could ease implementation provided
that trading centers could use existing systems in implementing Rule
201,\1203\ and continue to believe that familiarity with Regulation NMS
policies and procedures will reduce the implementation costs for
trading centers of the policies and procedures requirement under Rule
201.
---------------------------------------------------------------------------

\1202\ See supra notes 939 to 941 and accompanying text
(discussing comments that prior implementation of Regulation NMS
would not mitigate the costs of implementing a short sale price test
restriction).
\1203\ See supra notes 942 to 945 and accompanying text
(discussing comments that prior implementation of Regulation NMS
could mitigate the costs of implementing a short sale price test
restriction).
---------------------------------------------------------------------------

Further, we believe that the implementation and on-going monitoring
and compliance costs for trading centers are justified by the benefits
provided by the Rule in preventing short selling, including potentially
manipulative or abusive short selling, from being used as a tool to
exacerbate a declining market in a security.
In regard to implementation and on-going monitoring and
surveillance costs of the broker-dealer provision of Rule 201(c) or the
riskless principal provision of Rule 201(d)(6) on small broker-
dealers,\1204\ as discussed in Section XII.B., above, several
commenters stated that the costs of implementing and complying with the
broker-dealer provision of Rule 201(c) could be particularly burdensome
for smaller broker-dealers.\1205\ Commenters also expressed concerns
about the competitive pressure of the broker-dealer provision, stating
either that broker-dealers would feel compelled to undertake
implementation of the provision, despite the high cost,\1206\ which
would be particularly burdensome for smaller firms,\1207\ or that
smaller firms would find the costs prohibitive, placing them at a
competitive disadvantage.\1208\
---------------------------------------------------------------------------

\1204\ As discussed above, we estimate that as of 2008 there
were approximately 890 broker-dealers that are ``small entities''
for purposes of the Regulatory Flexibility Act. See supra Section
XII.C.
\1205\ See supra notes 1162 to 1173 and accompanying text
(discussing comments on the costs of the broker-dealer provision of
Rule 201(c) for smaller broker-dealers).
\1206\ See, e.g., letter from STANY (June 2009); letter from FIF
(June 2009); letter from Lime Brokerage (June 2009).
\1207\ See, e.g., letter from T.D. Pro Ex; letter from Taurus
Compliance; letter from Credit Suisse (June 2009).
\1208\ See, e.g., letter from Credit Suisse (June 2009); letter
from NSCP.

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

[[Page 11321]]

We considered these comments in evaluating the costs of
implementation and on-going monitoring and surveillance of the broker-
dealer provision of Rule 201(c) on small broker-dealers. Although we
agree that implementation of the broker-dealer provision of Rule 201(c)
will impose costs on broker-dealers who choose to rely on this
provision, we note that Rule 201(c) is not a requirement of the Rule,
but rather provides that a broker-dealer may mark a sell order for a
security that has triggered the circuit breaker as ``short exempt,''
provided that the broker-dealer identifies the order as being at a
price above the current national best bid at the time of submission to
the trading center and otherwise complies with the requirements of the
provision. We recognize, however, that broker-dealers are faced with
competitive concerns and that such concerns may influence their
decision whether or not to rely on the broker-dealer provision of Rule
201(c).
With respect to the cost, although we recognize that the broker-
dealer provision will impose implementation costs on broker-dealers who
choose to rely on this provision, we believe that this cost will not be
as great as stated by some commenters because the alternative uptick
rule does not require sequencing of the national best bid, unlike the
proposed modified uptick rule and the proposed uptick rule, which would
have required sequencing of the national best bid or last sale
price.\1209\ We believe that, without a sequencing requirement, the
policies and procedures required in order to rely on the broker-dealer
provision under the alternative uptick rule will be easier and less
costly to implement and monitor than would be the case under the
proposed modified uptick rule or the proposed uptick rule.\1210\
---------------------------------------------------------------------------

\1209\ See supra notes 1165 to 1167 and accompanying text
(discussing impact of the alternative uptick rule on commenters'
cost concerns with respect to the broker-dealer provision of Rule
201(c)).
\1210\ See supra notes 709 to 715 and accompanying text
(discussing comments on the effect of the alternative uptick rule on
implementation and on-going monitoring and surveillance costs).
---------------------------------------------------------------------------

\1211\ See Regulation NMS Adopting Release, 70 FR 37496; see
also 17 CFR 242.611.
---------------------------------------------------------------------------

Although several commenters stated that previous implementation of
Regulation NMS would not mitigate the costs to broker-dealers of
implementing a short sale price test restriction,\1212\ we considered
these comments, as well as comments stating that previous
implementation of Regulation NMS could ease implementation provided
that broker-dealers could leverage existing systems in implementing
Rule 201,\1213\ and continue to believe that familiarity with
Regulation NMS policies and procedures will reduce the implementation
costs of the broker-dealer provision under Rule 201(c) on broker-
dealers.
---------------------------------------------------------------------------

\1212\ See, e.g., letter from FIF (June 2009); letter from RBC
(June 2009).
\1213\ See, e.g., letter from MFA (Oct. 2009).
---------------------------------------------------------------------------

Further, we believe that the implementation and on-going monitoring
and compliance costs for broker-dealers who choose to rely on the
broker-dealer provision are justified by the benefits of providing
broker-dealers with the option to manage their order flow, rather than
having to always rely on their trading centers to manage their order
flow on their behalf.
The amendments to Rule 200(g), to add a new marking requirement of
``short exempt'' \1214\ and to provide that a broker-dealer may mark a
sell order ``short exempt'' only if the provisions in paragraph (c) or
(d) of Rule 201 are met,\1215\ may impose some new or additional
reporting, recordkeeping, or compliance costs on broker-dealers that
are small entities. We recognize commenters' concerns with respect to
the costs of the ``short exempt'' marking requirement and we considered
these comments in evaluating the costs of the ``short exempt'' marking
requirement.\1216\ However, we believe that such costs will be limited
because small broker-dealers already have established systems,
processes, and procedures in place to comply with the current marking
requirements of Rule 200(g) of Regulation SHO with respect to marking a
sell order either ``long'' or ``short'' and, therefore, will likely
leverage such systems, processes and procedures to comply with the
``short exempt'' marking requirements in Rules 200(g) and
200(g)(2).\1217\ Further, we believe that the implementation and
compliance costs of the ``short exempt'' marking requirements are
justified by the benefits provided by the requirements in aiding
surveillance by SROs and the Commission for compliance with the
provisions of Rule 201 and providing an indication to a trading center
regarding when it must execute or display a short sale order without
regard to whether the order is at a price that is less than or equal to
the current national best bid.
---------------------------------------------------------------------------

\1214\ See Rule 200(g); see also supra Section IV. (discussing
the amendments to Rule 200(g)).
\1215\ See Rule 200(g)(2).
\1216\ See supra notes 582 to 588 (discussing comments on the
costs of the ``short exempt'' marking requirement).
\1217\ See supra notes 747 to 752 (discussing estimated costs of
the amendment to Rule 200(g)(2)).
---------------------------------------------------------------------------

In addition, to provide market participants with the time needed to
make the changes required to comply with Rule 200(g), we are adopting
an implementation period under which market participants will have to
comply with these requirements six months following the effective date
of the adoption of these amendments. We are sensitive to commenter's
concerns that implementation of the ``short exempt'' marking
requirement could be complex,\1218\ and believe that a six month
implementation period, which is longer than the 3 month implementation
period proposed in the Proposal, will afford market participants
sufficient time to make the necessary modifications to their systems
and procedures. In addition, we believe the six month implementation
period will help alleviate some of the potential disruptions that may
be associated with implementing the ``short exempt'' marking
requirements.
---------------------------------------------------------------------------

\1218\ See supra notes 582 to 588 and accompanying text
(discussing comments on the implementation time for the ``short
exempt'' marking requirement).

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

[[Page 11322]]

E. Agency Action to Minimize Effect on Small Entities

As required by the Regulatory Flexibility Act, we have considered
alternatives that would accomplish our stated objectives, while
minimizing any significant adverse impact on small entities. As noted
above, Rule 201 imposes some new or additional reporting,
recordkeeping, or compliance costs on trading centers and other broker-
dealers that are small entities. However, we expect the impact of the
new or additional reporting, recordkeeping, or compliance costs will be
limited by the similarity of the policies and procedures requirements
of Rule 201 to the policies and procedures requirement of the Order
Protection Rule under Regulation NMS. Although, as discussed above,
several commenters stated that previous implementation of Regulation
NMS would not mitigate the costs of implementing a short sale price
test restriction,\1219\ we considered these comments, as well as
comments stating that previous implementation of Regulation NMS could
ease implementation provided that firms could use existing systems in
implementing Rule 201,\1220\ and continue to believe that familiarity
with Regulation NMS policies and procedures will reduce the
implementation costs of the broker-dealer provision under Rule 201(c)
on broker-dealers.
---------------------------------------------------------------------------

\1219\ See supra notes 939 to 941 and accompanying text
(discussing comments that prior implementation of Regulation NMS
would not mitigate the costs of implementing a short sale price test
restriction).
\1220\ See supra notes 942 to 944 and accompanying text
(discussing comments that prior implementation of Regulation NMS
could mitigate the costs of implementing a short sale price test
restriction).
---------------------------------------------------------------------------

Thus, the five non-SRO trading centers that qualify as small
entities and the approximately 890 broker-dealers that qualify as small
entities should already have in place most of the infrastructure
necessary to comply with Rule 201. The marking requirements of the
amendments to Rule 200(g) are not expected to adversely affect small
entities because they impose minimal reporting, recordkeeping, or
compliance requirements. Rule 200(g) currently requires that broker-
dealers mark all sell orders of any equity security as either ``long''
or ``short.'' \1221\ Broker-dealers that are small entities should
already be familiar with the current marking requirements and should
already have in place mechanisms that could be used to comply with the
new ``short exempt'' marking requirement of Rule 200(g). Moreover, it
is not appropriate to develop separate requirements for small entities
under either Rule 201 or Rule 200(g) because we believe that to
accomplish the Commission's goals, as well as to avoid the possibility
of regulatory arbitrage that would undermine the Commission's goals,
all trading centers and broker-dealers, regardless of size, should be
subject to the same circuit breaker short sale price test restrictions
and all broker-dealers, regardless of size, should be subject to the
same order marking requirements.
---------------------------------------------------------------------------

\1221\ See 17 CFR 242.200(g).
---------------------------------------------------------------------------

F. Significant Alternatives

The Regulatory Flexibility Act directs us to consider significant
alternatives that would accomplish our stated objective, while
minimizing any significant adverse impact on small entities.\1222\ In
connection with Rules 201 and 200(g), we considered the following
alternatives: (i) Establishing different compliance or reporting
requirements or timetables that take into account the resources
available to small entities; (ii) clarifying, consolidating, or
simplifying compliance and reporting requirements under the Rule for
small entities; (iii) using performance rather than design standards;
and (iv) exempting small entities from coverage of the Rule, or any
part of the Rule. First, we note that Rule 201 as adopted and the
amendments to Rule 200(g) use performance standards, which we believe
will help to minimize any significant adverse impact on small entities.
---------------------------------------------------------------------------

\1222\ See 5 U.S.C. 603(a)(5).
---------------------------------------------------------------------------

A primary goal of the short sale-related circuit breaker under Rule
201 is to help restore investor confidence by not allowing sellers to
sell short at or below the current national best bid if the price of
that covered security decreases by 10% or more from the covered
security's closing price as determined by the listing market for the
covered security as of the end of regular trading hours on the prior
day, unless an exception applies. Rule 201 will allow long sellers, by
selling at the bid, to sell first in a declining market for a
particular security. As the Commission has noted previously in
connection with short sale price test restrictions, a goal of such
restrictions is to allow long sellers to sell first in a declining
market.\1223\ A short seller that is seeking to profit quickly from
accelerated, downward market moves may find it advantageous to be able
to short sell at the current national best bid. In addition, by making
bids accessible only by long sellers when a security's price is
undergoing significant downward price pressure, Rule 201 will help to
facilitate and maintain stability in the markets and help ensure that
they function efficiently. It will also help restore investor
confidence during times of substantial uncertainty because, once the
circuit breaker has been triggered for a particular security, long
sellers will have preferred access to bids for the security, and the
security's continued price decline will more likely be due to long
selling and the underlying fundamentals of the issuer, rather than to
other factors.
---------------------------------------------------------------------------

\1223\ See supra note 17.
---------------------------------------------------------------------------

In addition, combining the alternative uptick rule with a circuit
breaker strikes the appropriate balance between our goal of preventing
short selling, including potentially manipulative or abusive short
selling, from being used as a tool to exacerbate a declining market in
a security and the need to allow for the continued smooth functioning
of the markets, including the provision of liquidity and price
efficiency in the markets. The circuit breaker approach of Rule 201
will help benefit the market for a particular security by allowing
participants, when a security is undergoing a significant intra-day
price decline, an opportunity to re-evaluate circumstances and respond
to volatility in that security. We also believe that a circuit breaker
will better target short selling that may be related to potential bear
raids \1224\ and other forms of manipulation that may be used as a tool
to exacerbate a price decline in a covered security.
---------------------------------------------------------------------------

\1224\ See supra note 36 and accompanying text.
---------------------------------------------------------------------------

As discussed throughout this adopting release, we have designed
Rule 201 to accomplish its objectives with lower costs to trading
centers and broker-dealers than some of the alternatives we proposed
and considered. We believe the alternative uptick rule will require
less time and less costs for implementation because it does not require
sequencing of bids or last sale prices.\1225\ In addition, we believe
that the circuit breaker approach, which limits the short sale price
test restriction for an individual security to a two-day period
following a significant intra-day decline in share price in that
security, will also limit compliance costs for all participants.\1226\
---------------------------------------------------------------------------

\1225\ See supra Section X.B.1. (discussing the costs of the
alternative uptick rule).
\1226\ See supra Section III.A.4. (discussing the circuit
breaker approach).
---------------------------------------------------------------------------

The costs of compliance with Rules 201 and 200(g) are likely to
vary among individual trading centers and broker-dealer firms. As
detailed in PRA Section IX.E.1., above, we realize that the

[[Page 11323]]

policies and procedures that a trading center is required to establish
will likewise vary depending upon the type, size, and nature of the
trading center. In addition, as detailed in PRA Section IX.E.2., above,
we note that the nature and extent of policies and procedures that a
broker-dealer must establish under Rule 201(c) or 201(d)(6), if it
determines to rely on either provision to mark an order ``short
exempt,'' likely will vary based upon the type, size, and nature of the
broker-dealer.\1227\ Our estimates take into account different types of
trading centers and broker-dealers (including large versus small), and
we realize that the applicable estimates may be on the low-end for some
trading centers and broker-dealers while they may be on the high-end
for others.
---------------------------------------------------------------------------

\1227\ We note that one commenter stated that the ``Commission's
cost estimates seem to underestimate the cost to large, full service
broker-dealers, since the volume of orders handled by these firms
are likely to lead to significantly greater technology and storage
costs alone as well as more frequent reviews'' but did not provide a
specific cost estimate. See letter from NSCP.
---------------------------------------------------------------------------

Although we recognize that the costs of the Rules may vary based
upon the type, size, and nature of the trading center or broker-dealer,
we believe that uniform application of Rules 201 and 200(g) to all
trading centers and broker-dealers is necessary to prevent damaging
opportunities for regulatory arbitrage and to avoid confusion in the
markets. In addition, different application of the Rules' requirements
for small entities could undermine the goals of the short sale related
circuit breaker by potentially providing an avenue for short sellers to
evade the requirements of Rule 201. Further, in relation to the
already-mentioned concerns, we believe that our goal of restoring
investor confidence could be undermined by actual or perceived
regulatory arbitrage, market confusion, and/or evasion of Rule 201's
requirements as a result of different requirements for different market
participants in Rules 201 and 200(g).
Due to these concerns, we have concluded that in order for Rules
201 and 200(g) to be effective in helping to restore investor
confidence by preventing short selling, including potentially
manipulative or abusive short selling, from being used as a tool to
exacerbate a declining market in a security, the Rules' requirements
must apply uniformly to all trading centers and broker-dealers. Thus,
we have determined not to adopt different compliance requirements or a
different timetable for compliance requirements for small entities. In
addition, and for the same reasons, we have determined not to clarify,
consolidate, simplify, or otherwise modify Rules 201 and 200(g) for
small entities. Finally, we believe that it is inconsistent with the
purposes of the Exchange Act and the goals of adopting Rules 201 and
200(g) to except small entities from having to comply with Rules 201
and 200(g).

XIII. Statutory Authority

Pursuant to the Exchange Act and, particularly, Sections 2, 3(b),
6, 9(h), 10, 11A, 15, 15A, 17, 19, 23(a), and 36 thereof, 15 U.S.C.
78b, 78c(b), 78(f), 78i(h), 78j, 78k-1, 78o, 78o-3, 78q, 78s, 78w(a),
and 78mm, the Commission is amending Sec. Sec. 242.200 and 242.201 of
Regulation SHO.

XIV. Text of the Amendments to Regulation SHO

List of Subjects in 17 CFR Part 242

Brokers, Fraud, Reporting and recordkeeping requirements,
Securities.

0
For the reasons set out in the preamble, Title 17, Chapter II, Part
242, of the Code of Federal Regulations is amended as follows.

PART 242--REGULATIONS M, SHO, ATS, AC, AND NMS AND CUSTOMER MARGIN
REQUIREMENTS FOR SECURITY FUTURES

0
1. The authority citation for part 242 continues to read as follows:

Authority: 15 U.S.C. 77g, 77q(a), 77s(a), 78b, 78c, 78g(c)(2),
78i(a), 78j, 78k-l(c), 78l, 78m, 78n, 78o(b), 78o(c), 78o(g),
78q(a), 78q(b), 78q(h), 78w(a), 78dd-1, 78mm, 80a-23, 80a-29, and
80a-37.

0
2. Section 242.200 is amended by revising paragraph (g) introductory
text and adding paragraph (g)(2) to read as follows:

Sec. 242.200 Definition of ``short sale'' and marking requirements.

* * * * *
(g) A broker or dealer must mark all sell orders of any equity
security as ``long,'' ``short,'' or ``short exempt.''
(1) * * *
(2) A sale order shall be marked ``short exempt'' only if the
provisions of Sec. 242.201(c) or (d) are met.
* * * * *

0
3. Section 242.201 is revised to read as follows:

Sec. 242.201 Circuit breaker.

(a) Definitions. For the purposes of this section:
(1) The term covered security shall mean any NMS stock as defined
in Sec. 242.600(b)(47).
(2) The term effective transaction reporting plan for a covered
security shall have the same meaning as in Sec. 242.600(b)(22).
(3) The term listing market shall have the same meaning as the term
``listing market'' as defined in the effective transaction reporting
plan for the covered security.
(4) The term national best bid shall have the same meaning as in
Sec. 242.600(b)(42).
(5) The term odd lot shall have the same meaning as in Sec.
242.600(b)(49).
(6) The term plan processor shall have the same meaning as in Sec.
242.600(b)(55).
(7) The term regular trading hours shall have the same meaning as
in Sec. 242.600(b)(64).
(8) The term riskless principal shall mean a transaction in which a
broker or dealer, after having received an order to buy a security,
purchases the security as principal at the same price to satisfy the
order to buy, exclusive of any explicitly disclosed markup or markdown,
commission equivalent, or other fee, or, after having received an order
to sell, sells the security as principal at the same price to satisfy
the order to sell, exclusive of any explicitly disclosed markup or
markdown, commission equivalent, or other fee.
(9) The term trading center shall have the same meaning as in Sec.
242.600(b)(78).
(b)(1) A trading center shall establish, maintain, and enforce
written policies and procedures reasonably designed to:
(i) Prevent the execution or display of a short sale order of a
covered security at a price that is less than or equal to the current
national best bid if the price of that covered security decreases by
10% or more from the covered security's closing price as determined by
the listing market for the covered security as of the end of regular
trading hours on the prior day; and
(ii) Impose the requirements of paragraph (b)(1)(i) of this section
for the remainder of the day and the following day when a national best
bid for the covered security is calculated and disseminated on a
current and continuing basis by a plan processor pursuant to an
effective national market system plan.
(iii) Provided, however, that the policies and procedures must be
reasonably designed to permit:
(A) The execution of a displayed short sale order of a covered
security by a trading center if, at the time of initial display of the
short sale order, the order was at a price above the current national
best bid; and
(B) The execution or display of a short sale order of a covered
security marked ``short exempt'' without regard to whether the order is
at a price that is

[[Page 11324]]

less than or equal to the current national best bid.
(2) A trading center shall regularly surveil to ascertain the
effectiveness of the policies and procedures required by paragraph
(b)(1) of this section and shall take prompt action to remedy
deficiencies in such policies and procedures.
(3) The determination regarding whether the price of a covered
security has decreased by 10% or more from the covered security's
closing price as determined by the listing market for the covered
security as of the end of regular trading hours on the prior day shall
be made by the listing market for the covered security and, if such
decrease has occurred, the listing market shall immediately notify the
single plan processor responsible for consolidation of information for
the covered security pursuant to Sec. 242.603(b). The single plan
processor must then disseminate this information.
(c) Following any determination and notification pursuant to
paragraph (b)(3) of this section with respect to a covered security, a
broker or dealer submitting a short sale order of the covered security
in question to a trading center may mark the order ``short exempt'' if
the broker or dealer identifies the order as being at a price above the
current national best bid at the time of submission; provided, however:
(1) The broker or dealer that identifies a short sale order of a
covered security as ``short exempt'' in accordance with this paragraph
(c) must establish, maintain, and enforce written policies and
procedures reasonably designed to prevent incorrect identification of
orders for purposes of this paragraph; and
(2) The broker or dealer shall regularly surveil to ascertain the
effectiveness of the policies and procedures required by paragraph
(c)(1) of this section and shall take prompt action to remedy
deficiencies in such policies and procedures.
(d) Following any determination and notification pursuant to
paragraph (b)(3) of this section with respect to a covered security, a
broker or dealer may mark a short sale order of a covered security
``short exempt'' if the broker or dealer has a reasonable basis to
believe that:
(1) The short sale order of a covered security is by a person that
is deemed to own the covered security pursuant to Sec. 242.200,
provided that the person intends to deliver the security as soon as all
restrictions on delivery have been removed.
(2) The short sale order of a covered security is by a market maker
to offset customer odd-lot orders or to liquidate an odd-lot position
that changes such broker's or dealer's position by no more than a unit
of trading.
(3) The short sale order of a covered security is for a good faith
account of a person who then owns another security by virtue of which
he is, or presently will be, entitled to acquire an equivalent number
of securities of the same class as the securities sold; provided such
sale, or the purchase which such sale offsets, is effected for the bona
fide purpose of profiting from a current difference between the price
of the security sold and the security owned and that such right of
acquisition was originally attached to or represented by another
security or was issued to all the holders of any such securities of the
issuer.
(4) The short sale order of a covered security is for a good faith
account and submitted to profit from a current price difference between
a security on a foreign securities market and a security on a
securities market subject to the jurisdiction of the United States,
provided that the short seller has an offer to buy on a foreign market
that allows the seller to immediately cover the short sale at the time
it was made. For the purposes of this paragraph (d)(4), a depository
receipt of a security shall be deemed to be the same security as the
security represented by such receipt.
(5)(i) The short sale order of a covered security is by an
underwriter or member of a syndicate or group participating in the
distribution of a security in connection with an over-allotment of
securities; or
(ii) The short sale order of a covered security is for purposes of
a lay-off sale by an underwriter or member of a syndicate or group in
connection with a distribution of securities through a rights or
standby underwriting commitment.
(6) The short sale order of a covered security is by a broker or
dealer effecting the execution of a customer purchase or the execution
of a customer ``long'' sale on a riskless principal basis. In addition,
for purposes of this paragraph (d)(6), a broker or dealer must have
written policies and procedures in place to assure that, at a minimum:
(i) The customer order was received prior to the offsetting
transaction;
(ii) The offsetting transaction is allocated to a riskless
principal or customer account within 60 seconds of execution; and
(iii) The broker or dealer has supervisory systems in place to
produce records that enable the broker or dealer to accurately and
readily reconstruct, in a time-sequenced manner, all orders on which a
broker or dealer relies pursuant to this exception.
(7) The short sale order is for the sale of a covered security at
the volume weighted average price (VWAP) that meets the following
criteria:
(i) The VWAP for the covered security is calculated by:
(A) Calculating the values for every regular way trade reported in
the consolidated system for the security during the regular trading
session, by multiplying each such price by the total number of shares
traded at that price;
(B) Compiling an aggregate sum of all values; and
(C) Dividing the aggregate sum by the total number of reported
shares for that day in the security.
(ii) The transactions are reported using a special VWAP trade
modifier.
(iii) The VWAP matched security:
(A) Qualifies as an ``actively-traded security'' pursuant to Sec.
242.101 and Sec. 242.102; or
(B) The proposed short sale transaction is being conducted as part
of a basket transaction of twenty or more securities in which the
subject security does not comprise more than 5% of the value of the
basket traded.
(iv) The transaction is not effected for the purpose of creating
actual, or apparent, active trading in or otherwise affecting the price
of any security.
(v) A broker or dealer shall be permitted to act as principal on
the contra-side to fill customer short sale orders only if the broker's
or dealer's position in the covered security, as committed by the
broker or dealer during the pre-opening period of a trading day and
aggregated across all of its customers who propose to sell short the
same security on a VWAP basis, does not exceed 10% of the covered
security's relevant average daily trading volume.
(e) No self-regulatory organization shall have any rule that is not
in conformity with, or conflicts with, this section.
(f) Upon written application or upon its own motion, the Commission
may grant an exemption from the provisions of this section, either
unconditionally or on specified terms and conditions, to any person or
class of persons, to any transaction or class of transactions, or to
any security or class of securities to the extent that such exemption
is necessary or appropriate, in the public interest, and is consistent
with the protection of investors.

Dated: February 26, 2010.

[[Page 11325]]

By the Commission.
Elizabeth M. Murphy,
Secretary.
[FR Doc. 2010-4409 Filed 3-9-10; 8:45 am]
BILLING CODE 8011-01-P