Self-Regulatory Organizations; Notice of Filing of Proposed Rule Change by the Chicago Stock Exchange, Inc. Relating to the Addition of an Interpretation to the Minimum Variation Rule

[Federal Register Volume 63, Number 205 (Friday, October 23, 1998)]
[Notices]
[Pages 56956-56957]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-28199]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-40545; File No. SR-CHX-98-25]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change by the Chicago Stock Exchange, Inc. Relating to the Addition of 
an Interpretation to the Minimum Variation Rule

October 13, 1998.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on September 29, 1998,\3\ the Chicago Stock Exchange, Inc. (``CHX'' or 
``Exchange'') filed with the Securities and Exchange Commission 
(``SEC'' or ``Commission'') the proposed rule change as described in 
Items I, II, and III below, which Items have been prepared by CHX. The 
Commission is publishing this notice to solicit comments on the 
proposed rule change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Amendment No. 1 was filed on October 13, 1998, the substance 
of which is incorporated into this notice. Letter from Patricia L. 
Levy, General Counsel, CHX, to Katherine A. England, Assistant 
Director, Division of Market Regulation, Commission, dated October 
9, 1998.
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    CHX is proposing to add Interpretation and Policy .06 to Article 
XX, Rule 22 relating to the trading by members in increments smaller 
than the minimum variation in order to match bids and offers displayed 
in other markets for the purpose of preventing Intermarket Trading 
System (``ITS'') trade-throughs. Proposed new language is in italics.

Article XX--Minimum Variation

Rule 22  No text change.
*  *  * Interpretations and Policies
    .01 through .05  No text change.
    .06  Notwithstanding the foregoing and any other rule regarding 
adherence to the minimum variation, a member may execute orders on the 
Floor in increments smaller than the minimum variation in order to 
match bids and offers displayed by other markets for the purpose of 
preventing Intermarket Trading System trade-throughs, provided, 
however, a limit order executed on the Exchange must continue to be 
priced at an increment no less than the current minimum variation for 
such security, and specialists must continue to reflect their principal 
bids and offers in such increments.
* * * * *

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, CHX included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. CHX has prepared summaries, set forth in Sections A, B, 
and C below, of the most significant aspects of such statements.

III. Self-Regulatory Organization's Statement of the Purpose of, 
and Statutory Basis for, the Proposed Rule Change

1. Purpose
    Over the past 18 months, a number of self regulatory organizations 
(``SROs''), including the Exchange, the Pacific Exchange, Inc. 
(``PCX''), the American Stock Exchange (``Amex''), the Nasdaq Stock 
Market (``Nasdaq''), the New York Stock Exchange (``NYSE'') and the 
Chicago Board Options Exchange (``CBOE''), have reduced the minimum 
trading and quotation increments of most equity securities to as little 
as 1/16 of one dollar.\4\ Subsequent to the reduction to sixteenths, 
several third market makers have commenced quoting securities in 
increments smaller than those approved for trading on the exchanges on 
which the securities are listed or traded.\5\ Several exchanges have 
responded by permitting their members to execute trades in these finer

[[Page 56957]]

increments under certain circumstances.\6\ Like these other exchanges, 
the CHX believes that it is important to provide its members with 
flexibility to effect transactions on the Exchange at a smaller 
increment than is set forth in its existing interpretations and 
policies. (i.e., 1/16 for most securities) for the purpose of matching 
a displayed bid or offer in another market at such smaller increment 
(i.e., 1/32, 1/64 or smaller) for the purpose of preventing ITS trade-
throughs. For example, if the best bid on the Exchange is 8 and a bid 
of 81/32 is displayed through ITS in another market center, the 
Exchange specialist or floor broker may execute a market or marketable 
limit order at 81/32 in order to match the other market's bid. Limit 
orders entered on the Exchange, however, will continue to be priced at 
the current minimum trading increments (i.e., usually 1/16), and orders 
priced in smaller increments will not be accepted. In addition, 
specialists will not be permitted to quote in these finer increments.
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    \4\ See Exchange Act Release Nos. 38780 (June 26, 1997), 62 FR 
36087 (July 3, 1997) (approving a PCX rule change to reduce the 
minimum quotation increment to 1/16 for stocks); 38571 (May 5, 
1997), 62 FR 25682 (May 9, 1997) (approving an Amex proposal to 
reduce the minimum trading increment to 1/16 for certain Amex-listed 
equity securities); 38678 (May 27, 1997), 62 FR 30363 (June 6, 1997) 
(approving a Nasdaq rule change to reduce the minimum quotation 
increment to 1/16 for certain Nasdaq-listed securities); 38897 
(August 1, 1997), 62 FR 42827 (August 8, 1997) (approving a NYSE 
rule change to reduce the minimum quotation increment to 1/16 for 
certain NYSE-listed securities); and 39159 (September 30, 1997), 62 
FR 52365 (October 9, 1997) (approving a CBOE rule change to reduce 
the minimum quotation increment to 1/16 for stocks).
    \5\ For example, Nasdaq systems are capable of trading 
securities priced under $10 in increments as fine as 1/32 of one 
dollar. Securities priced over $10 may be traded in increments as 
fine as 1/16 of one dollar. As a result, the Nasdaq third market 
makers may trade Amex listed securities that are traded on CHX and 
priced at less than $10 in increments finer than sixteenths.
    \6\ See Exchange Act Release Nos. 40199 (July 14, 1998), 63 FR 
39336 (July 22, 1998) (approving PCX rule permitting members to 
trade in increments smaller than 1/16, in order to match bids and 
offers displayed in other markets for the purpose of preventing ITS 
trade-throughs); 40189 (July 10, 1998), 63 FR 38439 (July 16, 1998) 
(approving Amex rule permitting members to trade in increments 
smaller than 1/16, in order to match bids and offers displayed in 
other markets for the purpose of preventing ITS trade-throughs).
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    The proposed amendment will allow CHX traders to match prices 
disseminated by market makers that may better the CHX quote by an 
increment finer than the current minimum increment (usually 1/16). 
Further, the proposal will enable the Exchange to match prices 
disseminated by another exchange in the event that another exchange 
were to reduce its minimum trading increment. Thus, the proposed 
amendment will assist Exchange members in fulfilling their obligation 
to obtain the best price for their customers.
    While the new interpretation would give members the extra 
flexibility that they need, the Exchange believes that a member would 
violate the spirit and intent of this new interpretation and would, 
most likely, be considered to have engaged in manipulative activity, in 
the event that the member enters an order in another market in a 
smaller variation for the express purpose of enabling such member to 
execute trades on the Exchange at such small increment. For example, if 
floor broker sent to a third market maker a 100 share limit order to 
buy that is priced 1/32 or 1/64 better than the current quote solely to 
enable the floor broker to cross a large block of stock on the Exchange 
at such better price without a specialist intervention, the Exchange 
would probably consider the floor broker to have engaged in 
manipulative activity.\7\
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    \7\ The Exchange believes this is consistent with a recent SEC 
enforcement action brought against two brothers who used the SEC's 
Limit Order Display Rule to manipulative the quote to their 
advantage. See In re Ian Fishman and Lawrence Fishman, Admin. Proc. 
File No. 3-9629 (June 24, 1998). In that case, the Commission stated 
that the brothers used a limit order ``to move the public bid or 
offer quote, in order to permit [Fishman] to buy or sell a security 
at a price that otherwise would not have been available in the 
market,'' and found that such activity violated Exchange Act Rule 
10b-5.
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2. Statutory Basis
    The Exchange believes that the proposed rule change is consistent 
with Section 6(b)(5) of the Act \8\ in that it is designed to promote 
just and equitable principles of trade, to remove impediments to and to 
perfect the mechanism of a free and open market and a national market 
system, and, in general, to protect investors and the public interest.
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    \8\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    CHX does not believe that the proposed rule change will impose any 
inappropriate burden on competition.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants, or Others

    Written comments were neither solicited nor received.

III. Date of Effectiveness of the Proposed Rule Change and Timing 
for Commission Action

    Within 35 days of the publication of this notice in the Federal 
Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) by order approve the proposed rule change, or
    (B) institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposal is 
consistent with the Act. Persons making written submissions should file 
six copies thereof with the Secretary, Securities and Exchange 
Commission, 450 Fifth Street, N.W., Washington, D.C. 20549. Copies of 
the submission, all subsequent amendments, all written statements with 
respect to the proposed rule change that are filed with the Commission, 
and all written communications relating to the proposed rule change 
between the Commission and any person, other than those that may be 
withheld from the public in accordance with the provisions of 5 U.S.C. 
552, will be available for inspection and copying at the Commission's 
Public Reference Room. Copies of such filing will also be available for 
inspection and copying at the principal office of the CHX.
    All submissions should refer to File No. SR-CHX-98-25 and should be 
submitted by November 13, 1998.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\9\
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    \9\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 98-28199 Filed 10-22-98; 8:45 am]
BILLING CODE 8010-01-M