On March 25, 2013, Miami International Securities Exchange LLC (the “Exchange” or “MIAX”) filed with the Securities and Exchange Commission (“Commission”), pursuant to Section 19(b)(1)
On May 6, 2010, the U.S. equity markets experienced a severe disruption that, among other things, resulted in the prices of a large number of individual securities suddenly declining by significant amounts in a very short time period before suddenly reversing to prices consistent with their pre-decline levels.
To replace the single-stock circuit breaker pilot program, the equity exchanges filed a National Market System Plan
The Plan sets forth requirements that are designed to prevent trades in individual NMS stocks from occurring outside of the specified price bands. The price bands consist of a lower price band and an upper price band for each NMS stock. When one side of the market for an individual security is outside the applicable price band, i.e., the National Best Bid is below the Lower Price Band, or the National Best Offer is above the Upper Price band, the Processors
The Primary Listing Exchange may also declare a trading pause when the stock is in a Straddle State, i.e., the National Best Bid (Offer) is below (above) the Lower (Upper) Price Band and the NMS Stock is not in a Limit State. In order to declare a trading pause in this scenario, the Primary Listing Exchange must determine that trading in that stock deviates from normal trading characteristics such that declaring a trading pause would support the Plan's goal to address extraordinary market volatility.
On May 31, 2012, the Commission approved the Plan as a one-year pilot, which shall be implemented in two phases.
In light of the Plan, the Exchange has proposed to adopt Rule 530(f) to address market maker quoting obligations when an underlying security enters a Limit or Straddle state. Specifically, MIAX proposed in Rule 530(f)(1)(i)–(iv) to suspend, when the security underlying an option is in a Limit or Straddle State, the following market maker quoting obligations: (i) The bid/ask differential requirements set forth in Exchange Rule 603(b)(4); (ii) the minimum quote size requirement set forth in Exchange Rule 604(b)(2); (iii) the two-sided quote requirement set forth in Exchange Rule 604(c); and (iv) the continuous quote requirement set forth in Exchange Rule 604(e). Concerning the calculation of a market maker's continuous quoting obligation, the Exchange will exclude the amount of time an NMS stock underlying a MIAX option is in a Limit State or Straddle State from the total amount of time in the trading day when calculating the percentage of the trading day MIAX Market Makers are required to quote.
The Exchange represented that market makers should be relieved of these quoting obligations during Limit and Straddle States because during such periods, market makers could not be certain whether they could buy or sell an underlying security, or if they could, at what price or quantity. The Exchange's corresponding proposal to suspend the maximum quotation spread requirement during Limit or Straddle States is intended to encourage market makers to choose to provide liquidity during such states. According to the Exchange, allowing options market makers the flexibility to choose whether to enter quotes, and to do so without restrictions on the bid-ask differential, the minimum size of the quote, and the ability to enter one-sided quotes, is necessary to encourage market makers to provide liquidity in options classes overlying securities that may enter a Limit State or Straddle State. The Exchange proposed Rule 530(f)(2) to make clear that a market maker's relief from the quoting obligations described above shall terminate when the Limit or Straddle state no longer exists in the affected underlying stock.
MIAX additionally proposed in Rule 530(f)(3) to maintain, unchanged, its scheme concerning the priority of quotes and orders during Limit and Straddle states. Specifically, MIAX has proposed to keep the provisions of Exchange Rule 514 unaffected during Limit or Straddle states when a market maker receives relief from its quoting obligations.
Exchange Rule 514 describes, among other things, priority of quotes and orders on the Exchange, allocation methods used on the Exchange, and participation guarantees granted to certain Market Makers. Rule 514(g) details the Primary Lead Market Maker (“PLMM”) participation guarantee and Rule 514(h) describes the Directed Lead Market Maker (“DLMM”) participation guarantee. The participation guarantees set forth in Exchange Rule 514 only apply if the affected PLMM or DLMM has submitted a priority quote at the NBBO. The Exchange represented that, although proposed rule 530(f)(1) would relieve market makers, including PLMMs and DLMMs, from their quoting obligations during Limit or Straddle states, maintaining participation guarantees could encourage market makers to provide liquidity at the NBBO during such states.
Similarly, the Exchange proposed in Rule 530(g)(2)(i) to consider all market maker quotes submitted during Limit or Straddle states that result in an execution to be “priority quotes,” notwithstanding the usual criteria governing priority quotes that would otherwise be applicable under Rule 517(b).
MIAX represented that the purpose of this proposed rule is to provide an incentive for Market Makers to submit quotations during Limit and Straddle states by affording their quotes priority quote status, ensuring them of priority executions over professional interest when they assume the risk of quoting at or near the NBBO during times of extreme volatility. As with the participation guarantees, a market maker quote is deemed a priority quote during such states only if it participates in an execution at the NBBO.
Proposed Rule 530(g) sets forth changes in the manner in which the Exchange's System will function during Limit and Straddle States. Specifically Proposed Rule 530(g)(1) describes the functionality of the Exchange's Opening Process
Proposed Rule 530(g)(1)(i) provides that Opening Process shall be delayed for options overlying an NMS Stock that entered a Straddle State or a Limit State prior to the opening of trading such overlying options. As proposed, the Opening Process shall begin when such Straddle or Limit State has ended and there is not a halt or Trading Pause in effect. The Exchange therefore will not open an option overlying an NMS Stock that is in a Limit State or Straddle State.
Proposed Rule 530(g)(1)(ii) addresses scenarios where the Exchange's Opening Process has started but not yet completed when the underlying NMS Stock enters a Straddle or Limit State. When the affected option is in the Opening Process but trading has not begun, the Opening Process will be terminated if the underlying NMS Stock is in a Limit or Straddle State. The Opening Process will begin anew in the affected overlying options when such Limit or Straddle State has ended and there is not a halt or Trading Pause in effect. Thus, if an Opening Process is occurring, it will cease and the Exchange shall re-commence the Opening Process from the beginning once the Limit or Straddle State is no longer present.
Proposed Rule 530(h) provides that the Exchange will halt trading in options overlying an NMS Stock that is subject to a trading pause. The Exchange clarified in Amendment No. 1 that proposed Rule 530(h) is intended merely to clarify that current Exchange Rule 504(c)—the generally applicable rule concerning the treatment of options overlying securities subject to a trading pause—shall equally apply when an underlying security becomes subject to a trading pause as a result of the Plan.
Proposed Rule 530(i) provides that the Exchange will open trading following a trading pause pursuant to the Exchange's opening procedures contained in Rule 503. Proposed Rule 530(i) further adds that the Exchange may resume trading in options contracts overlying an affected NMS Stock if trading on the Primary Listing Exchange has not resumed within ten minutes of receipt of a trading pause and at least one exchange has resumed trading in such NMS Stock.
After careful review, the Commission finds that the proposed rule change is consistent with the requirements of the Act and rules and regulations thereunder applicable to a national securities exchange.
The Commission finds that the proposal to suspend a market maker's obligations when the underlying security is in a Limit or Straddle State is consistent with the Act. During a Limit or Straddle State, there may not be a reliable price for the underlying security to serve as a benchmark for market makers to price options. In addition, the absence of an executable bid or offer for the underlying security will make it more difficult for market makers to hedge the purchase or sale of an option. Given these significant changes to the normal operating conditions of market makers, the Commission finds that the Exchange's decision to suspend a market maker's obligations in these limited circumstances is consistent with the Act.
The Commission notes, however, that the Plan was approved on a pilot basis and its Participants will monitor how it is functioning in the equity markets during the pilot period. To this end, the Commission expects that, upon implementation of the Plan, the Exchange will continue monitoring the quoting requirements that are being amended in this proposed rule change and that it will determine if any necessary adjustments are required to ensure that they remain consistent with the Act.
The Commission also finds that the proposal to maintain participation guarantees and priority quote treatment for market makers who participate in an execution at the NBBO during a Limit or Straddle state is consistent with the Act. To the extent that market makers are only eligible for such benefits if they are quoting at the best price on the Exchange, this proposal is reasonably designed to incentivize market makers to quote more aggressively when the underlying security has entered into a limit up-limit down state than they might otherwise quote, potentially providing additional liquidity and price discovery.
Lastly, the Commission finds that the Exchange's proposals concerning its Opening Process and use of trading halts when an underlying security is subject to a trading pause are consistent with the Act. The Exchange's proposal to delay its Opening Process for an option if the underlying has entered a Limit or Straddle is reasonably designed to avoid opening an option during a time when the price of the underlying security may be uncertain.
In addition, the Commission finds good cause, pursuant to Section 19(b)(2) of the Act
For the Commission, by the Division of Trading and Markets, pursuant to delegated authority.