[Federal Register Volume 75, Number 56 (Wednesday, March 24, 2010)]
[Notices]
[Pages 14227-14229]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2010-6516]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-61735; File No. SR-NASDAQ-2010-007]
Self-Regulatory Organizations; The NASDAQ Stock Market LLC; Order
Approving Proposed Rule Change, as Modified by Amendment No. 1,
Relating to the Elimination of a Market Maker Requirement for Each
Option Series
March 18, 2010.
I. Introduction
On January 14, 2010, The NASDAQ Stock Market LLC (``Nasdaq'' or
``Exchange'') filed with the Securities and Exchange Commission
(``Commission''), pursuant to Section 19(b)(1) of the Securities
Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 thereunder,\2\ a
proposed rule change to eliminate the requirement that at least one
Options Market Maker \3\ must be registered for trading a particular
series before it may be opened for trading on the Nasdaq Options Market
(``NOM''). On January 26, 2009, the Exchange filed Amendment No. 1 to
the proposal. The proposed rule change, as modified by Amendment No. 1,
was published for comment in the Federal Register on February 4,
2009.\4\ The Commission received one comment letter on the proposal.\5\
This order approves the proposed rule change, as modified by Amendment
No. 1.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ An ``Options Market Maker'' is a Participant registered with
NASDAQ as a Market Maker. See NOM Rules, Chapter I, Section 1(a)(26)
and Chapter VII, Section 2. An ``Options Participant'' or
``Participant'' is a firm or organization that is registered with
the Exchange pursuant to Chapter II of the NOM Rules for purposes of
participating in options trading on NOM as a ``NASDAQ Options Order
Entry Firm'' or ``NASDAQ Options Market Maker.'' See NOM Rules,
Chapter I, Section 1(a)(40).
\4\ See Securities Exchange Act Release No. 61443 (January 29,
2010), 74 FR 46267 (``Notice'').
\5\ See letter from Janet M. Kissane, Senior Vice President--
Legal and Corporate Secretary, NYSE Euronext, to Elizabeth M.
Murphy, Secretary, Commission, dated February 26, 2010 (``NYSE
Euronext Comment Letter'').
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II. Description of the Proposal
Currently, Chapter IV, Section 5 of the NOM rulebook provides, in
relevant part, that after a particular class of options has been
approved for listing on NOM by NASDAQ Regulation, NASDAQ will open
trading in series of options in that class only if there is at least
one Market Maker registered for trading that particular series. The
Exchange is now proposing to eliminate this requirement to have a
Market Maker in every series. The Exchange argues that removing this
requirement will expand the number of series available to investors for
trading and for hedging risks associated with securities underlying
those options. Further, the Exchange asserts that market makers
currently may choose to register as Market Makers in a particular
series solely to permit an option to trade on NOM. The Exchange
believes that the proposed rule change will permit Market Makers to
focus their expertise on the products that are more consistent with
their business objectives or more likely to attract customer order
flow.
The Exchange also notes that the Options Order Protection and
Locked/Crossed Market Plan requires plan participants (such as Nasdaq)
to establish, maintain and enforce written policies and procedures that
are reasonably designed to prevent trade-throughs in that participant's
market in Eligible Options Classes.\6\ Further, the Exchange notes that
NOM has put in place rules to implement this provision of the Plan, and
that its systems are designed to systematically avoid trading through
protected quotations on other options exchanges.\7\ Thus, the Exchange
believes that the lack of a two-sided or tight market on NOM would not
cause customer orders to be executed at prices inferior to the best
prices available across all exchanges.
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\6\ See Securities Exchange Act Release No. 60405 (July 30,
2009), 74 FR 39362 (August 6, 2009) (File No. 4-546) (approval order
for the Protection and Locked/Crossed Plan).
\7\ See NOM Rules, Chapter XII, Section 2; and Securities
Exchange Act Release No. 60525 (August 18, 2009), 74 FR 43188
(August 26, 2009) (approval order for NOM's proposed rule change to
implement the Protection and Locked/Crossed Plan).
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In addition, the Exchange is proposing to delete paragraph (b) of
Section 5, Chapter IV, which states that a class of options will be put
into a non-regulatory halt if at least one series for that class is not
open for trading. The Exchange explains that this provision was put in
place so that the Exchange could approve underlying securities for the
listing of options but delay the listing if the Market Makers on the
Exchange were not yet ready to register in any series of options for
that class. With the elimination of the other
[[Page 14228]]
paragraph in Section 5 requiring a Market Maker in each option series,
the Exchange believes this provision is no longer necessary.
III. Discussion and Commission Findings
After careful review, the Commission finds that the proposed rule
change, as amended, is consistent with the requirements of the Act and
the rules and regulations thereunder applicable to a national
securities exchange and, in particular, with Section 6(b)(5) of the
Act,\8\ which requires, among other things, that the rules of a
national securities exchange be designed to prevent fraudulent and
manipulative acts and practices, to promote just and equitable
principles of trade, to remove impediments to, and perfect the
mechanism of, a free and open market and a national market system and,
in general, to protect investors and the public interest.\9\
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\8\ 15 U.S.C. 78f(b)(5).
\9\ In approving this proposed rule change, the Commission has
considered the proposed rule's impact on efficiency, competition,
and capital formation. See 15 U.S.C. 78c(f).
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The Commission has stated previously that it does not believe that
the Act requires an exchange to have market makers.\10\ In making this
finding in connection with its approval of NOM, the Commission stated
that the Act does not mandate a particular market model for national
securities exchanges, and many different types of market models can
satisfy the requirements of the Act. The Commission further noted that
although Market Makers could be an important source of liquidity on
NOM, they likely would not be the only source.\11\ Similarly, in
adopting Regulation ATS, the Commission found that assuring liquidity
through the posting of continuous two-sided quotations was not a
necessary component of an exchange.\12\
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\10\ See Securities Exchange Act Release Nos. 57478 (March 12,
2008), 73 FR 14521, 14527 (March 18, 2008) (File No. SR-NASDAQ-2007-
004) (``NOM Approval Order'') and Securities Exchange Act Release
No. 40760 (December 8, 1998), 63 FR 70844 (December 22, 1998)
(``Regulation ATS Release'').
\11\ See NOM Approval Order, supra note 10, at 14527.
\12\ Regulation ATS Release, supra note 10, at 70898-70900.
Specifically, the Commission stated, ``[A]lthough traditional
exchanges still provide liquidity through two-sided quotations and,
hence, raise an expectation of execution at the quoted price, this
is no longer an essential characteristic of a securities market * *
* Market makers and specialists may be important liquidity providers
on a particular exchange, but liquidity now comes from many sources
across multiple markets. For example, the public exposure of
investor limit orders means that it is now easier to access
liquidity in trading venues that do not have market makers or
specialists.'' Id. at 70899.
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In its comment letter, NYSE Euronext notes that NOM Market Makers
are considered specialists under the Act and are required to engage in
a course of dealings for their own account to assist in the maintenance
of a fair and orderly market. As such, NYSE Euronext argues that the
Exchange's proposal would result in no one being responsible for the
maintenance of a fair and orderly market on NOM where there is no
Market Maker registered in a series.\13\ NYSE Euronext also suggests
that Nasdaq seek an exemption under Section 11(c) of the Act ``to be
relieved of the obligation to appoint a specialist.'' \14\
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\13\ See NYSE Euronext Comment Letter, supra note 5, at 1.
\14\ See NYSE Euronext Comment Letter, supra note 5, at 1.
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As stated above, the Commission believes that the Act does not
require an exchange to have specialists or market markets and that
Market Makers are not the only source of liquidity on an exchange.
Moreover, Section 11 of the Act does not require exchanges to have
specialists or market makers. Section 11(b) of the Act permits, but
does not require, a national securities exchange to allow a member to
be registered as a specialist.\15\ Accordingly, the Commission
disagrees with NYSE Euronext's assertion that Nasdaq is required to
seek an exemption to allow it to eliminate its Market Maker listing
requirement.
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\15\ 15 U.S.C. 78k(b).
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NYSE Euronext also argues that when Nasdaq originally adopted its
rules governing NOM, the Securities Industry and Financial Markets
Association (``SIFMA'') submitted a comment letter that raised the
issue of having a market maker appointed in each series (``SIFMA
Comment Letter'').\16\ In particular, NYSE Euronext notes that the
SIFMA Comment Letter stated that Nasdaq should clarify the treatment of
option series without a market maker, including what actions would be
taken should a Market Maker withdraw from making a market in a
particular series and whether NOM would continue to match orders in
such series. NYSE Euronext maintains that Nasdaq should address why
SIFMA's concerns are no longer valid.
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\16\ See NYSE Euronext Comment Letter, supra note 5, at 1-2.
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The Commission notes that these comments in the SIFMA Comment
Letter did not raise questions as to whether having a series without a
Market Maker would be consistent with the Act, but rather sought
clarification as to what would occur should a Market Maker stop quoting
or withdraw from making a market in a particular option series.\17\ As
NYSE Euronext acknowledged in its comment letter, Nasdaq addressed the
SIFMA Comment Letter by amending its rules to clarify the treatment of
option series in such cases.\18\
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\17\ See NOM Approval Order, supra note 10, at 14526.
\18\ See NYSE Euronext Comment Letter, supra note 5, at 1-2.
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NYSE Euronext also contends that Nasdaq should be required to
assist brokers in fulfilling their duty of best execution because many
permit holders on NYSE Arca Inc. (``Arca'') and NYSE Amex LLC
(``Amex'') routinely route orders to multiple exchanges as part of
their due diligence.\19\ Specifically, NYSE Euronext states that Nasdaq
should be required to cancel back to brokers any resting orders in a
series where a registered market maker is not quoting or to send an
alert that a registered market maker quotation is no longer
present.\20\
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\19\ See NYSE Euronext Comment Letter, supra note 5, at 2.
\20\ See id.
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The duty of best execution requires a broker-dealer to seek the
most favorable terms reasonably available under the circumstances for a
customer's transaction.\21\ The Commission has not viewed the duty of
best execution as requiring automated routing on an order-by-order
basis to the market with the best quoted price at that time. Rather,
the duty of best execution requires broker-dealers to periodically
assess the quality of competing markets to assure that order flow is
directed to markets providing the most beneficial terms for their
customer orders.\22\ Broker-dealers must examine their procedures for
seeking to obtain best execution in light of market and technology
changes and modify those practices if necessary to enable their
customers to obtain the best reasonably available terms.\23\ In doing
so, broker-dealers must take into account price improvement
opportunities, and whether different markets may be more suitable for
different types of orders or
[[Page 14229]]
particular securities.\24\ The Commission believes that the potential
lack of a Market Maker quoting in particular series will be a factor to
be considered in a broker-dealer's best execution routing
determination, similar to other factors a broker-dealer must consider
in connection with its best execution obligation.
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\21\ See, e.g., Securities Exchange Act Release No. 37619A
(September 6, 1996), 61 FR 48290 (September 12, 1996), at 48322
(``Order Handling Rules Release'').
\22\ Id. at 48322-48333 (``[I]n conducting the requisite
evaluation of its internal order handling procedures, a broker-
dealer must regularly and rigorously examine execution quality
likely to be obtained from different markets or market makers
trading a security.''). See also Newton v. Merrill, Lynch, Pierce,
Fenner & Smith, Inc., 135 F.3d 266, at 271, 274 (3d Cir.), cert.
denied, 525 U.S. 811 (1998); Payment for Order Flow, Securities
Exchange Act Release No. 34902 (October 27, 1994), 59 FR 55006
(November 2, 1994), at 55009.
\23\ Order Handling Rules Release, supra note 21, at 48323.
\24\ Id.
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The NYSE Euronext Comment Letter also questions how Nasdaq's
proposal fosters transparency, price competition, and the development
of the national market system.\25\ The Commission does not believe that
the proposal will have a negative affect on price transparency, as the
prices and sizes of orders on NOM will continue to be disseminated on
the consolidated tape even though Market Makers may not be posting two-
sided quotations. Further, the Commission believes that the proposal
could foster intermarket price competition by providing an additional
market and source of liquidity for options series that would otherwise
have been prohibited from trading on NOM due to the lack of a Market
Maker registered in that series. Finally, the Commission does not
believe that the proposal will have a negative effect on the
development of a national market system. As noted above,
notwithstanding the elimination of the requirement to have a registered
Market Maker trading in a particular series, NOM is designed to ensure,
and the Options Order Protection and Locked/Crossed Market Plan
requires that procedures are in place to ensure, that orders executed
on NOM will not trade-through better prices on other options exchanges.
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\25\ See NYSE Euronext Comment Letter, supra note 5, at 2.
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Finally, the NYSE Euronext Comment Letter expresses doubt about the
necessity of the proposed rule change and suggests that if there is no
Market Maker to trade a series, NOM should simply not list such
series.\26\ The Commission notes that a proposed rule change is not
required to be ``necessary'' in order to be found consistent with the
Act. Further, as Nasdaq noted, one of the primary purposes of the
proposal is to expand the number of series available to investors for
trading and hedging purposes on NOM, and NYSE Euronext's recommendation
would not advance this objective.
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\26\ See NYSE Euronext Comment Letter, supra note 5, at 2.
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For the reasons noted above, the Commission believes that the
proposed rule change is consistent with the Act.
IV. Conclusion
It is therefore ordered, pursuant to Section 19(b)(2) of the
Act,\27\ that the proposed rule change (SR-NASDAQ-2010-007), as
modified by Amendment No. 1, be, and hereby is, approved.
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\27\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\28\
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\28\ 17 CFR 200.30-3(a)(12).
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Florence E. Harmon,
Deputy Secretary.
[FR Doc. 2010-6516 Filed 3-23-10; 8:45 am]
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