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Notice

Self-Regulatory Organizations; Notice of Filing of Proposed Rule Change and Amendment No. 1 Thereto by the New York Stock Exchange, Inc. Amending Paragraph (1) of the Guidelines to Exchange Rule 105 To Permit Approved Persons of Specialists to Act as a Specialist With Respect to an Option on a Specialty Stock

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Start Preamble December 6, 2001.

Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934 and (“Act”),[1] Rule 19b-4 thereunder,[2] notice is hereby given that on October 18, 2001, the New York Stock Exchange, Inc. (“NYSE” 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 the Exchange. The Exchange filed Amendment No. 1 to the proposed rule change on December 4, 2001.[3] The Commission is publishing this notice to solicit comments on the proposed rule change from interested persons.

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I. Self-Regulatory Organization's Statement of the Terms of Substance of the Proposed Rule Change

The NYSE proposes to amend paragraph (1) of the Guidelines to NYSE Rule 105 to permit an approved person of a specialist to act as a specialist or primary market maker with respect to an option on a stock in which the specialist acts as a market maker on the Exchange (“specialty stock”), provided that all of the requirements of the NYSE Rule 98 exemptive program are met.

The text of the proposed rule change appears below. New text is in italics; deletions are in brackets.

Guidelines for Specialists' Specialty Stock Option Transactions Pursuant to Rule 105

(a) through (k)—No change

* * * * *

(l) Specialist Shall Not Be Options Market-Maker

* * * * *

(ii) Notwithstanding the above, an approved person of an equity specialist entitled to an exemption from this rule under Rule 98 may act as a competitive market-maker, competitive options trader, registered options trader, or as a specialist or market-maker [in a similar non-primary market-making capacity] in any option as to which the underlying security is a stock in which the associated specialist is registered as such; provided, however, that if an approved person is so acting as an options market maker pursuant to this paragraph, neither that approved person, nor any other approved person of the specialist, may act as a market maker in any equity security in which the associated specialist is registered as such and which underlies an option as to which the approved person acts as an options market maker.

* * * * *

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 it received on the proposed rule change. The next 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, Proposed Rule Change

(1) Purpose

NYSE Rule 105 provides that an “approved person” (i.e., an affiliate in a control relationship) of a specialist organization may trade options on a specialty stock only for hedging purposes. If the approved person establishes a system of internal controls and information barriers pursuant to Exchange Rule 98, however, the approved person may engage in proprietary trading of specialty stock options without being restricted solely to hedging transactions.

Currently, even with an NYSE Rule 98 exemption, an approved person of a specialist may not act as a specialist or primary market maker with respect to an option on a specialty stock. Such approved person of a specialist may, however, act as a competitive or non-primary market maker in a specialty stock option. According to the Exchange, the prohibition on acting as an options specialist or primary market maker has been rooted, historically, in concerns about the perception of an inherent conflict of interest, as there is a direct pricing relationship between a stock and its associated option.

The Exchange believes that on-going consolidation within the securities industry makes it likely that large, well-capitalized, well-regulated organizations may seek to conduct distinct business operations among several affiliated entities. The concerns about possible conflicts of interest as between stock and option market making continue to exist, but the Exchange believes that they can be effectively addressed pursuant to the NYSE Rule 98 exemptive program. The Exchange believes that its experience with this program has demonstrated the viability of “functional regulation” whereby affiliated entities conduct distinct lines of business with strict information barriers between them. Under the NYSE Rule 98 program, specialists and their affiliates must present their proposed operating model to the Exchange for prior approval, and are thereafter, subject to annual NYSE examination. The Exchange states that the NYSE Rule 98 program has been in effect for more than 15 years, and forwards that there have been no instances of a material breach of information barriers.

The Exchange now proposes to amend paragraph (1) of the Guidelines to NYSE Rule 105 to permit an approved person of a specialist to act as a specialist or primary market maker with respect to an option on a specialty stock, provided all requirements of the NYSE Rule 98 exemptive program are met. Thus, among other matters, the approved person must (i) conduct its operations in a legal entity that is separate and distinct from the Exchange equity specialist; (ii) maintain separate and distinct books and records and its own, separately dedicated capital; (iii) maintain strict information barriers between itself and the affiliated Exchange equity specialist regarding trading and position information; (iv) conduct its day to day business with its own staff; and (v) make all trading decisions independent of the Exchange equity specialist.

The Exchange believes that these safeguards are sufficient to address potential conflict of interest problems, while ensuring that the separate entities remain subject to meaningful functional regulation.

(2) Statutory Basis

The Exchange believes the basis for the proposed rule change, as amended, is the requirement under section 6(b)(5) of the Act[4] that an exchange have rules that are designed 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.

B. Self-Regulatory Organization's Statement on Burden on Competition

The Exchange does not believe that the proposed rule change, as amended, will impose any burden on competition that is not necessary or appropriate in furtherance of the purpose of the Act.

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

The Exchange has neither solicited nor received written comments on the proposed rule change.

III. Date of Effectiveness of the Proposed Rule Change and Time 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 reason for so finding, or (ii) as to which the Exchange consents, the Commission will:Start Printed Page 64330

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 proposed rule change, as amended, is consistent with the Act. Persons making written submissions should file six copies thereof with the Secretary, Securities and Exchange Commission, 450 Fifth Street, NW., Washington, DC 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 filings will also be available for inspection and copying at the principal office of the Exchange. All submissions should refer to File No. SR-NYSE-2001-43 and should be submitted by January 2, 2002.

Start Signature

For the Commission, by the Division of Market Regulation, pursuant to delegated authority.[5]

Margaret H. McFarland,

Deputy Secretary.

End Signature End Preamble

Footnotes

3.  See letter from James E. Buck, Senior Vice President and Secretary, NYSE, to Nancy Sanow, Assistant Director, Division of Market Regulation, Commission, dated December 3, 2001 (“Amendment No. 1”). In Amendment No. 1, the NYSE decided to keep the portion of paragraph (l)(ii) of the Guidelines to NYSE Rule 105, which prohibits an approved person affiliated with an NYSE specialist that acts as an options market maker and any other approved person of the specialist from acting as a market maker in any equity security in which the associated specialist is registered as such and which underlies an option to which the approved person acts as an options market maker.

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[FR Doc. 01-30653 Filed 12-11-01; 8:45 am]

BILLING CODE 8010-01-M