Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (“Act”), and Rule 19b-4 thereunder, notice is hereby given that on February 15, 2000, the Pacific Exchange, Inc. (“PCX” or “Exchange”) filed with the Securities and Exchange Commission (“Commission” or “SEC”) the proposed rule change as described in Items I, II and III below, which Items have been Start Printed Page 23060prepared by the Exchange. The Commission is publishing this notice to solicit comments on the proposed rule change from interested persons.
I. Self-Regulatory Organization's Statement of the Terms of Substance of the Proposed Rule Change
The Exchange proposes to amend its rules to allow automatic executions of orders in its Limit Order Book (“Limit Order Book” or “Book”) when those orders become marketable. Below is the text of the proposed rule change. Proposed new language is italicized.
¶5231 Automatic Execution System
Rule 6.87(a)-(k)—No change.
(1) Auto-Ex Book Function
(A) The Auto-Ex Book function of POETS will permit orders in the Limit Order Book to be executed via the Auto-Ex system when those orders become marketable, subject to the following procedures:
(i) When one or more orders in the Limit Order Book become marketable, as indicated by a locked or crossed market being displayed on the trading floor, the LMM may direct the OBO to initiate the Auto-Ex Book function, which will cause marketable orders in the Limit Order Book to be automatically executed against the accounts of market makers who are participating on the Auto-Ex system at the time.
(B) The Auto-Ex Book function is subject to a one-year pilot program which is set to expire [insert date one year from date of SEC approval].
II. Self-Regulatory Organization's Statement of the Purpose of, and Statutory basis for, the Proposed Rule Change
In its filing with the Commission, the Exchange included statements concerning the purpose of and basis for the proposed rule change and discussed any comments its received on the proposed rule change. The text of these statements may be examined at the places specified in Item IV below. The Exchange has prepared summaries, set forth in Sections A, B, and C below, of the most significant aspects of such statements.
A. Self-Regulatory Organization's Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change
At the PCX, limit orders of public customers may be placed in the Exchange's Options Limit Order Book  either electronically (via POETS  ) or manually, by an options floor broker. At this time, only limit orders of “public customers” are eligible to be placed in the Limit Order Book. Orders not eligible to be placed in the Limit Order Book must be manually represented by a floor broker at the trading post.
Currently, orders in the Limit Order Book can be executed in two ways. First, they can be executed electronically against incoming market or limit orders that a member firm has entered through POETS. For example, if a customer order to buy 20 option contracts at $5 is being represented in the Book, an incoming market order to sell 20 contracts (or limit order to sell 20 contracts at $5) entered electronically will execute against that order in the Book.
Second, orders in the Book can be executed manually. To execute an order in the Book manually, a floor member  must vocalize a bid or offer for the option contracts being represented in the Book. This requires that the floor member gain the attention of the Order Book Official (“OBO”  ) and make an appropriate vocalization, e.g., “sell 20 XYZ calls to the Book at $5.”  To consummate the trade, the OBO must perform the following actions: (1) call up the appropriate page for that particular option on the class display; (2) highlight the appropriate series (e.g., March 30 calls); (3) enter either the buy key or the sell key; (4) enter either the put key or the call key; (5) type in the number of contracts to be purchased or sold; (6) enter the floor member's acronym (e.g., MO1) and; (7) press the “enter” key to execute at the limit price or, alternatively, to improve the limit price, enter the better price (e.g., 47/8) and press the “enter” key.
The current manual process for executing orders in the Book is used when an order in the Book becomes marketable and a trade occurs. For example, assume that the PCX market is 5 bid, 51/8 asked, with 20 contracts in the Book to buy at 5. Next, assume that the underlying stock ticks down 1/8 of a point, and the new market in the option becomes 47/8 bid, 5 asked. As long as the order to buy at 5 remains in the Book, the market will be locked at 5 bid, 5 asked. To unlock the market, the order in the Book, which is now marketable, must be traded—but to do so will require a member of the trading crowd to obtain the OBO's attention, vocalize an offer for some or all of the contracts available at 5, and wait for the OBO to type in the information on the trade.
The Exchange believes that the current manual process for executing orders in the Book is inefficient. During times of heavy trading, it can be difficult for the OBO to type in specific trade details when that OBO may be involved in trades in other option series or other option issues. The inefficiencies of the current process have also become exacerbated due to rapid swings in prices that have been occurring recently in the marketplace, particularly in options overlying so-called “internet stocks.”
Accordingly, the Exchange is proposing to effect a system change that will cause orders in the Book to be executed more efficiently when they become marketable. Specifically, Start Printed Page 23061marketable orders in the Book will be executed via the Auto-Ex system when the Lead Market Maker (“LMM”) directs the OBO to operate the Auto-Ex Book Function. For example, if there are 30 contracts in the Book to buy at $5 and the trading crowd's offer to sell changes to a price of $5, rather than locking the market (5 bid, 5 asked), the system will, upon the instruction of the LMM, execute the orders in the Book via the Auto-Ex System. The 30 contracts to buy in the Book at $5 will then be executed against the accounts of market makers who are logged on to Auto-Ex at that time.
The function will also permit orders in the Book at various prices to be executed almost simultaneously. For example, assume that there are multiple orders in the Book, including orders to buy 50 contracts at $5, 50 contracts to buy at 43/4 and 50 contracts to buy at 41/2. If the underlying stock price moves significantly, resulting in the PCX offering price of the overlying option price moving from 51/4 down to 4;1/2, the LMM may direct the OBO to initiate the Auto-Ex Book feature so that all of the buy orders in the Book referred to above will be automatically executed at their limit prices. This result simply speeds up the process for what currently may occur manually, with individual members of the trading crowd selling options against the buy orders in the book at their limit prices. Alternatively, however, the LMM or members of the trading crowd may determine to provide price improvement to the customer orders in the book, and may direct that all of those buy orders in the example (including those with limit prices of $5, 43/4 and 41/2) be filled at 41/2. In this instance, of course, the Auto-Ex Book feature would not be used.
The Exchange is proposing to implement the use of the Auto-Ex Book function on a one-year pilot program basis. This will allow the Exchange to study the operation of the system and to report back to the Commission at least sixty days prior to seeking permanent approval of the system change.
The Exchange notes that the proposed Auto-Ex Book feature will operate in a manner that is similar to the Exchange's Automated Opening Rotation (“AOR”) system, which automates the execution of orders in the Book at the opening of trading. Specifically, the AOR system permits the OBO to establish a single price opening for executing market and marketable limit orders in the POETS system. It executes any imbalance of orders that existed at the opening at a single price, against the accounts of market makers who are participating on the Auto-Ex System at the time. The Exchange believes that approval of the Auto-Ex Book proposal, like the Commission's approval of the AOR system, will facilitate execution of orders in POETS, eliminate problems and inefficiencies associated with manual trading, eliminate backlogs of unexecuted orders, promote fair participation in trading against orders in the Book by all participants, and in general, improve market efficiency on the PCX.
In conclusion, the Exchange believes that use of the proposed feature will help to assure that customers' orders in the Book are filled more promptly. It will also help to prevent delays in trading and prompt resolution of problems in the crowd, because OBO's will not have to take as much time to respond to requests to execute marketable orders in the Book.
The Exchange believes that this proposal is consistent with Section 6(b) of the Act, in general, and furthers the objectives of Section 6(b)(5) in particular, in that it is designed to facilitate transactions in securities, promote just and equitable principles of trade, and to protect investors and the public interest.
B. Self-Regulatory Organization's Statement on Burden on Competition
The Exchange does not believe that the proposed rule change will impose any burden on competition that is not necessary or appropriate in furtherance of the purposes of the Act.
C. Self-Regulatory Organization's Statement on Comments on the Proposed Rule Change Received From Members, Participants, or Others
Written comments on the proposed rule change were neither solicited nor received.
III. Date of Effectiveness of the Proposed Rule Change and Timing for Commission Action
Within 35 days of the date of 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 Exchange consents, the Commission will:
(A) by order approve such 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. 20549-0609. 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 in the Commission's Public Reference Room. Copies of such filing will also be available for inspection and copying at the principal office of the PCX. All submissions should refer to File No. SR-PCX-00-03 and should be submitted by [May 29, 2001.]Start Signature
For the Commission, by the Division of Market Regulation, pursuant to delegated authority.
Margaret H. McFarland,
3. The rules applicable to the Limit Order Book are set forth in PCX Rules 6.51-6.58.Back to Citation
4. Pacific Options Exchange Trading System. See Securities Exchange Act Release No. 28633 (January 18, 2990), 55 FR 2466 (January 24, 1990).Back to Citation
5. See PCX Rule 6.87.Back to Citation
6. If there were no orders in the Book to buy at $5, and a bid of $5 was being disseminated by the PCX, then an incoming market order to sell (or a limit order to sell at $5) would be automatically executed by the Auto-Ex feature of POETS, with PCX market makers as the contra side to the trade. See note 14, infra.Back to Citation
7. Floor members include market makers and floor brokers. Only members and Exchange employees who have been approved to perform a floor function may consummate transactions on the trading floor. See PCX Rule 6.2, Commentary .01.Back to Citation
8. See generally PCX Rules 6.51-6.58 (rules relating to Order Book Officials (“OBOs”)). The Exchange notes that currently, all OBOs are employed by the PCX. However, the Commission recently approved an Exchange proposal to permit LMMs to use their own employees to operate the Book, which would include performing the function of the OBO. See Securities Exchange Act Release No. 41595 (July 2, 1999), 64 FR 38064 (July 14, 1999) (order approving SR-PCX-98-02). Therefore, the term “OBO” as used in this proposal includes OBOs currently employed by the Exchange and any employees of LMMs who are performing the function of the OBO.Back to Citation
9. Floor members must trade against orders in the Book ahead of orders then being manually represented in the trading crowd at the same price, because orders in the Book have priority over orders in the trading crowd. See PCX Rule 6.75(a)-(b).Back to Citation
10. A limit order to buy is marketable when the order's limit price is equal to or greater than the current offering price and a limit order to sell is marketable when the order's limit price is equal to or less than the current bid price. At the PCX, when the market on the screen on the trading floor is locked or crossed, the prices in the affected series are displayed in the purple, which alerts the members on the floor that there are buyers and sellers who are ready and willing to trade.Back to Citation
11. A similar result would occur if a market maker in the trading crowd offered to sell options at 5, or a floor broker in the crowd representing an order made an offer to sell at 5, while concurrently there was an existing bid in the Book at the same price, i.e., in theory, there would be a locked market. In practice, however, the market maker or floor broker willing to sell at 5 would vocalize an acceptance of the bid in the Book to trade at 5. If the size of the market maker's or floor broker's offer was greater than the size of the order in the Book, the offer at 5 would continue in effect until it was satisfied or withdrawn.Back to Citation
12. As noted above, this offer may be generated automatically by Auto-Quote, as a result of a change in the market in the underlying stock, or it may be generated manually by a member of the crowd vocalizing an offer, which is entered into POETS by the Market Quote Terminal Operator and subsequently disseminated.Back to Citation
13. The Auto-Ex feature of POETS permit eligible market or marketable limit orders sent from member firms to be executed automatically at the displayed bid or offering price. Participating market makers are designated as the contra side to each Auto-Ex order. Participating market makers are assigned by Auto-Ex on a rotating basis, with the first market maker selected at random from the list of signed-on market makers. Auto-Ex preserves book priority in all options. See PCX Rule 6.87; see also Securities Exchange Act Release No. 41823 (September 1, 1999), 64 FR 49265 (September 10, 1999) (order approving PXC proposal to increase the size of orders that may be automatically executed via Auto-Ex). The Auto-Ex system is also used to execute any imbalance of orders that there may be at the opening via the Automated Opening Rotation System. See Note 14, infra.Back to Citation
14. See Securities Exchange Act Release No. 43187 (August 21, 2000), 65 FR 54264 (August 29, 2000) (order approving one year extension of pilot program).Back to Citation
[FR Doc. 01-11337 Filed 5-4-01; 8:45 am]
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