Division of Market Regulation:
Advisory Committee on Market Information:
Minutes of July 19, 2001 Meeting

Thursday, July 19, 2001
9:15 a.m. - 1:40 p.m.

Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, D.C.

Before: Dean Joel Seligman, Chair/Moderator

Participants

MR. MICHAEL ATKIN,
Vice President, Financial Information Services Division,
Software and Information Industry Association

MR. ANDREW BROOKS,
V.P. Head of Equity Trading,
T. Rowe Price

MR. RICHARD BERNARD,
Group Executive Vice President,
New York Stock Exchange

MR. ROBERT COLBY,
Deputy Director, Division of Market
Regulation, SEC

MR. PHILIP DEFEO,
Chairman/CEO, Pacific Stock Exchange

MR. BRIAN FAUGHNAN,
SAIC

MR. GREENBERT,
Managing Director, Susquehanna Partners

MR. WILLIAM R. HARTS,
Managing Director, Salomon Smith Barney

PROF. SIMON JOHNSON
Sloan School of Management, Massachusetts
Institute of Technology

MR. DAVID JOHNSON (By Telephone),
Head, CBOE Trading,
Morgan, Stanley, Dean, Whitter

MR. EDWARD J. JOYCE
President and Chief Operating Officer,
Chicago Board Options Exchange

MR. RICHARD KETCHUM
Deputy Chairman and President,
Nasdaq

PROF. DONALD C. LANGEVOORT
Georgetown University Law Center

MR. BERNARD L. MADOFF
Bernard L. Madoff Investment Securities

MR. MICHAEL MEYER,

MS. ANNETTE L. NAZARETH
Director, Division of Market
Regulation, SEC

MR. GERALD PUTNAM,
CEO, Archepelago

MR. PETER QUICK,
President, American Stock Exchange

MR. CHARLES ROGERS,
Executive V.P., Philadelphia Stock Exchange

MR. ERIC D. ROITER (By Telephone),
Senior Vice President and General Counsel,
Fidelity Management & Research Company

MR. MICHAEL SIMON,
Senior V.P., General Counsel,
International Stock Exchange

MR. CAMERON SMITH,
General Counsel, Datek Online Holdings

DEAN JOEL SELIGMAN, Chair/Moderator
Washington University School of Law

MR. MARK TELLINI,
Senior Vice President,
Charles Schwab

Introductory Remarks

Dean Joel Seligman

I. Presentations on Options Market Issues

A. Annette Nazareth: Differences in Regulatory Treatment of Stock Options Market Data; Current SEC Issues

B. Michael Meyer: OPRA Issues

C. Michael Atkin: Vendor Issues

D. Brian Faughnan (SIAC): Technological Issues

II. Discussion

Should our recommendations for the options markets differ from our recommendations for the stock markets? If so, in what respects?

A. Transparency
Does the greater volume of options market data necessitate a different type of transparency than for market data of the underlying stocks (e.g., less transparency for less actively-traded options series; a "request-for-quote" system; strategies for "flickering" quotes)? How should capacity concerns be addressed, both at the consolidator and vendor levels?

B. Consolidated Information

Should the Display Rule be extended to the options markets? To what extent would mandatory dissemination of an NBBO mitigate capacity concerns? Should options market participants be permitted to distribute separately information beyond the mandatory minimum?

C. Single vs. Competing Consolidators

Does a majority of Advisory Committee believe that the competing consolidators model should be introduced in the options markets? Would the volume of options data, and the related capacity issues make entry by competing consolidators more difficult?

D. Improvements to Existing Model

What improvements would those recommending retention of the single consolidator model suggest for the options markets? Should they differ in any way from those recommended for the stock market?

E Other Issues

MR. SELIGMAN: This is our final meeting of the SEC Advisory Committee on Market Information. As with all of our meetings, the public will have an opportunity to comment or post questions at the conclusion of the committee discussion.

We anticipate this meeting will be finished before a late lunchtime, approximately 1 p.m. We'll have about a 15-minute break a couple of hours down the line.

Our topic today is market information in the options context. And in a couple of very significant respects, this context is different than equities. Because of capacity issues, because of settlements of various underlying litigation each of the option exchanges has made proposals to the Commission which, at the moment, are not public and, at the moment, are being discussed between the exchanges and the Division of Market Regulation.

To some degree, I suspect, the discussion today will reflect aspects of consensus that has been arrived at within the discussions with OPRA and the discussions among the options exchanges, but I have not seen those proposals, nor would it be appropriate for the SEC representatives to directly paraphrase them.

So that, in one sense, we're operating much more in a work-in-progress mode today than we were with equities. In a second sense, there is an ongoing arbitration concerning Reuters that deals with market information as well.

As was indicated at earlier meetings, it is not the purpose of this committee to weigh in on any side with respect to that particular ongoing arbitration, and, hopefully, today we won't see a rehashing of positions there. There has not been, obviously, a final conclusion to that as well.

Now what I would like to do at the beginning of today's meeting is to lay out in some detail the distinctions in factual context and legal context between the options and the equities. We gave some thought to this. We decided to have four presentations.

We're privileged, as always, to have the Director of Market Regulation, Annette Nazareth, with us to present an articulation in the differences in regulatory treatment of the stock and options market, and that will give us, kind of, overriding legal context.

And then, from OPRA, Mike Meyer is going to lay out options issues and try to highlight to some degree on behalf of the options exchanges how they see factual differences. Mike has a handout that summarizes his comments, which many of you will want to see, if you haven't received it yet.

Mike Atkin is then going to focus on a perspective from the point of view of vendors. Committee members should already have received a copy of his distribution, and, if not, there are additional copies available.

And finally, Brian -- is it Faughnan?

MR. FAUGHNAN: Faughnan.

MR. SELIGMAN: Faughnan. Forgive me. I've just been calling you Brian -- will focus on technological issues. After that we'll take a short break, and then, as a group, we'll discuss the policy recommendations we'll make to the Commission for the balance of the meeting.

Let me now turn things over to Annette.

MS. NAZARETH: Thanks Joel. I thought I would give you a bit of background on the regulatory and what derives from that, the factual differences between the options market data and equity market data and, hopefully, this background will help us in assessing the extent to which the recommendations of this committee will differ, if at all, between the options markets and the stock market.

Just to give you a little bit of background, as, obviously, most of you are aware, standardized options began trading in 1973 with the Commission's registration of the Chicago Board of Options Exchange as a national securities exchange.

And as trading in options grew, the Commission approved options trading on other exchanges as well, and today standardized options trade on five exchanges -- the AMEX, the CBOE, the ISE, the Pacific Exchange and the Philadelphia Stock Exchange.

Stepping back a bit, I thought I'd take just a couple of minutes to discuss the development of options trading. In the mid-1970s, as options trading was experiencing rapid and substantial growth, concerns about trading in sales practice abuses arose, and by July of 1977 the expansion in listed options trading, including trading certain options trading classes on more than one exchange, led to allegations that there was manipulation in the market for exchange-traded options.

And in response to that situation, the Commission requested that the options exchanges voluntarily refrain from listing any options classes beyond those already listed as of July 1977, and it initiated an investigation and a special study of the options market in October of 1977.

The Options Study outlined several familiar issues -- some things never change -- to be explored in the options market, including comprehensive quote system for the dissemination of firm quotes, market linkage, an order routing system to enable the best execution of orders, a nationwide limit order protection rule to ensure that agency orders received auction-type trading protections, and off- board trading restrictions.

In 1980, the Commission ended its moratorium on expansion of standardized options trading and solicited comments on several profession to more fully integrate the options markets into the national market system.

And in 1989, as you know, the Commission adopted Rule 19c-5, which generally prohibited an exchange from adopting rules that would limit its ability to list any stock option because that option was listed on another exchange.

Turning now to the regulatory treatment of the options market information, the production of consolidated market data information began in 1976 when the Commission approved the Options Price Reporting Authority's, or OPRA, registration as a SIP, or Securities Information Processor.

As initially approved, OPRA functioned as the administrator of a consolidated system for the collection and dissemination of reports of all completed transactions for all exchange-traded options. And then, in 1981, the Commission approved the addition to OPRA's functions of the collection and dissemination of consolidated quotation information for options, and at the same time the Commission approved the OPRA plan as a national market system plan.

Many of the other national market system initiatives that were embodied in Section 11A of the Exchange Act were implemented in the stock market at a time when standardized options trading was relatively new, and as a result those same provisions were not imposed on the options market.

In particular, when the Quote Rule was adopted for the equity securities in 1978, standardized options had only been traded for a few years, and so the Commission did not extend that to options at that time.

Similarly, when the Transaction Reporting Rule and the Display Rule were adopted in 1980, they, too, were not applied to the options markets; thus, the options markets were not required by SEC rule to collect and distribute and "trade" information, and vendors and broker dealers were not required, again by SEC rule, to provide consolidated options data.

In subsequent years, the Quote Rule, the Transaction Reporting Rule and the Display Rule also were not formally extended to the options markets in part because their purposes were largely achieved through the provisions of the OPRA plan.

As I mentioned, OPRA was already distributed consolidated quote information and transaction information, and, in addition, the non-discrimination provisions of the vendor agreements required by the OPRA plan effectively achieved the purposes of the Display Rule by requiring vendors to disseminate consolidated data.

Today, the options markets continue to operate with limited market integration facilities. The Commission has, however, as many of you in this room know, taken several recent steps to more fully integrate the options markets into the national markets system.

For example, the Commission adopted amendments to the Quote Rule, which became effective in this year, that formally extended it to transactions in listed options. Among other things, the amendments require the options exchanges and the options market makers to publish firm quotes.

The amendments were distinguishable in certain key respects, those from the provisions that apply to equities; for example, because of capacity concerns, the options exchanges can elect at this time not to collect and make available the size associated with each quotation in this adoption. Instead, they may establish by rule and publish the size for which the best bid and offer in each options series is applicable.

In another step to integrate options trading into the national market system, the Commission recently adopted execution quality and order routing disclosure rules. And one of those rules, the Order Routing Disclosure Rule, currently applies to transactions in options as well as equities. And that rule became effective at the beginning of this month and, as you know, requires broker dealers to route customer orders -- that route customer orders in stocks and listed options to make publicly available quarterly reports that identify the venue to which customer orders are routed for execution.

The other rule, the Execution Quality Disclosure Rule for market centers, was not applied to the options markets, and that was in large part because currently there is no consolidated NBBO for listed options, and many of the calculation done under that rule require an NBBO.

The options exchanges, again, don't currently distribute an NBBO through the OPRA system; rather, each exchange calculates a best bid and offer for use by its own market. Because each exchange generally obtains quote information from the other four exchanges from OPRA and incorporated it into their quote directly, each OPRA exchange today is potentially using a slightly different best quote at any point in time.

As part of the reform of OPRA, however, the participant exchanges have agreed that an NBBO should be calculated by OPRA, but they have not yet come to agreement on how to do so. Indeed, one of the issues that seems to be debated at this point is whether an NBBO distributed through the OPRA system should indicate the market on which the NBBO is available.

With regard to the display of customer limit orders, the options exchanges currently are not subject to the Limit Order Display Rule, but some of the exchanges recently have filed proposed rule changes to adopt such requirements in their own markets similar to our Limit Order Display Rule.

Finally, the provisions of the OPRA plan mandate that the exchanges disseminate options market information only through OPRA with some narrow exceptions to permit electronic facilities to operate. We currently have before us an amendment to the OPRA plan that would permit the options exchanges to separately distribute their data so long as recipients of the consolidated data also receive full quote information or, ultimately, if there is an NBBO, that they would also receive an NBBO.

In addition to trying to better integrate the options markets into the national market system, the Commission and the options industry recently had been devoting much attention to concerns about the capacity of options market information systems.

All the transactions executed on and all price quotations for options generated by each option exchange are communicated to the public by OPRA through the facility of its exclusive process of SIAC. Market data is sent to OPRA and distributed to market data vendors on a consolidated basis for use by options markets participants, including retail investors, broker dealers and the exchanges themselves.

Thus, SIAC and all the options markets participants as well as the communications lines between them must each have sufficient capacity to handle options market data. Note how this market data dissemination regime is distinguishable from equity securities. OPRA does not distribute an NBBO, as is the case in the equity markets, and pursuant to the terms of the OPRA plan the quotes of every options market must be distributed by vendors regardless of the market where the quotation took place, which is the language from the OPRA plan.

This situation poses unique issues in the options market. Each trade that is executed on an options exchange as well as each price change quoted on an options exchange is reported to OPRA as a message. As of May, there were approximately 377,000 open options series traded on the five options exchanges for which two-sided quotes were disseminated continuously through the OPRA system.

Quote message traffic represents the vast majority of the options message traffic that is generated. Generally, quotes are generated automatically for individual options series based on changes in the underlying stock price or index value.

In other words, every time a price changes for a particular equity security, the quotes of all the options on that security or an index in which that security is represented may be automatically updated on each exchange that trades those options.

This enormous amount of quote message traffic burdens the OPRA system and threatens to surprise the reliability of utility of options market data disseminated to market participants, including retail investors.

As options message traffic has increased over the past few years, OPRA has directed SIAC to implement systems enhancements to accommodate additional message traffic. In addition, the options exchanges have individually implemented a number of internal quote message mitigation strategies, and, in November of 2000, as a result of growing concern that the option exchanges will be unable to agree on how to allocate capacity during peak usage periods, the Commission adopted as a short-term solution amendments to the OPRA plan to establish a methodology by which limited OPRA system capacity available would be allocated if necessary.

The OPRA system capacity has recently been expanded to equal approximately 24,000 messages per second. Fortunately, peak usage to date has been just over 7,000 messages per second. Despite existing excess in OPRA system capacity, volume concerns persist because of vendor capacity limitations and the potential for future increases in option quote volume.

The options exchanges are continuing to explore permanent industry-wide solutions to the capacity problem, including the development of a request for quote system, the imposition of industry-wide limitations on options products that may be listed based on numeric criteria and the use of an NBBO.

I hope this gives you some grounding in what the issues are concerning the options markets. I'm sure there will be some overlap between what I said and those who follow, but hopefully this provides us with some base on which to make our judgments in comparing what should be necessary for the options markets. Thank you.

MR. SELIGMAN: Thank you, Annette. Are there questions from the Committee?

(No response.)

MR. SELIGMAN: Okay. Let me now turn, then, to Mike Meyer. And I'd ask at the beginning of his presentation -- oh, I'm sorry.

MR. HARTS: I'm sorry. Annette, you mentioned that there's this issue about an NBBO being disseminated displaying which exchange has the best bid and offer. Is that the sole remaining barrier to approving that or to reaching an agreement?

MS. NAZARETH: No. I think there are others as well, but that was one that I thought was worthy of note.

MR. SELIGMAN: Let me turn to Mike Meyer, then, at this point, and ask if he could introduce -- do you want to speak from over there? I think it might be helpful -- if you'd like -- because of sight line issues, if you could introduce the representatives from the various options exchange.

MR. MEYER: Thank you, Joe. I am Mike Meyer, and I've been counsel to the Options Price Reporting Authority I guess since sometime in the late '70s, just the other day, I guess, it seems like to me. And there are a number of other people here who probably know more than I do about market information and options.

Several of the options exchanges have been represented on your committee right from the beginning. The AMEX, Peter Quick is here; CBOE, Joyce; ISE, Mike Simon; and now Charlie Rogers from the Philadelphia Exchange is at the table. And Joe Corrigan, who is the executive director of OPRA, is in the audience. Oh, and Phil DeFeo is also here from the Pacific Exchange.

And Phil, you've been here throughout, have you not, or are you just at this --

MR. DEFEO: First time.

MR. MEYER: First time. All right. So Pacific and Philadelphia are added. So that's pretty good representation. That's all the options exchanges and the executive director of OPRA, and I'm sure those people will provide their expert knowledge at the appropriate time.

I've prepared a brief outline of what I'll say. I'll try and keep the whole thing short. Joel told me to avoid cliches, be gender neutral and stay within the time limits. I'm not sure about the first two. It's hard to avoid cliches especially, but I'll try and stay within the time limit.

I did put something down in my outline about the really early history of OPRA, which is probably more interesting to me than anyone, because I lived it. The only point that's to be made there, I think, and this is a theme that I hope will echo through my brief remarks is, really, options are not different from equities in terms of the benefit to investors of transparency, a benefit to investors of access to market information.

And I believe the SEC right from the beginning recognized the significance of transparency in the options market. Indeed, that was one of the motivating factors for the initial approval of CBOE's proposal, because up to that time put and call options had been traded in a largely invisible over-the-counter market through the Put and Call Broker Dealers Association where the closest thing to transparencies were, anybody around old enough to remember, little advertisements that used to appear in the Wall Street Journal listing the prices at which puts and calls would be available.

And CBOE said as one of the reasons why its registration should be granted would be for the first time it would offer transparency. It would have, at the beginning, last sale reporting, real time last sale reporting.

When the AMEX, in '74, I believe it was, proposed an option market, that was at the same time that national market system notions were about. Congress was debating what ultimately became the '75 amendment itself to the Exchange Act.

At that early time, the Commission recognized the importance of transparency in options, and that's what I refer to here as really the earliest evidence of this was Lee Pickard, who was then the director of -- I can't remember whether it was called Trading in Markets or Market Regulation. It may still have been called -- but anyway, Annette's predecessor wrote a letter and said both the AMEX and the CBOE had to "satisfactorily address," that was the term, a number of issues.

One was common clearing, and that led to the Options Clearing Corporation. Another was a common tape for last sale reporting. That was even before the AMEX began to trade, and it was in recognition that there would likely not be much, if any, multiple trading at that time, so therefore not much to consolidate, maybe nothing to consolidate.

But with all the focus on national market system, the Commission decided wisely, I believe, that with options it had a chance to start with a clean slate, and it wanted the structure of the options market to have in place mechanisms for consolidated reporting, so that, when the time came that there would be the same option traded on more than one exchange there wouldn't be the need to retrofit consolidated reporting into that, as was the case for stocks.

So that was the "satisfactorily address" letter, and that led directly to OPRA. And even though, as Annette described, the history of when OPRA filed what, under which rule, and when it became registered is what arcane and reflects the fact that the '75 amendments came along, and the Commission adopted new rules, the OPRA plan and OPRA itself go right back to the earliest days of options trading on more than one exchange and was, indeed, a condition to the AMEX's beginning and the condition to the CBOE's expanding what was a ten-series pilot.

So much for history. Certain SEC rules, in fact most of the SEC rules that apply to market information and stocks, at least in their inception, did not apply to options. That's not because there was some sense that transparency was less important for options, as I hope I've just made clear, but largely it was either because of kind of a fear of the unknown -- options were something new, and it wasn't clear what would happen if these rules that applied to stocks applied to options -- or because, in some cases, it simply was not at that time practical to apply the rules to options.

So for example, the Quote Rule, when the Quote Rule was first adopted, there was not yet the systems in place for auto quoting a multiple series of options, and the fear was that if a Quote Rule applied traders simply wouldn't be able to live within that rule. They couldn't possibly manually update the quotes in all of the series that they were trading in order to be firm on those quotes. So the Quote Rule simply didn't apply.

But as soon as the systems became available that enabled the traders to maintain quotes in all of those series, the auto quote systems, the exchanges themselves without any particular prodding from the Commission but, rather, in response to competitive conditions in the market, implemented those quote systems, and OPRA amended its plan to accommodate quotes, and under exchange rules those quotes became firm. So that's how quotes became a part of the options system.

The main distinguishing characteristic, I think, of options from stocks are the fact that options are traded in these multiple series. So that for any single stock, an IBM, whatever, you have a bid and an offer at any point in time. With options, you have a bid and an offer for each series in IBM.

And as others have and will describe to you, particularly in volatile times, when new series are open, when stock prices move, the old series don't go away until they expire, and before you know it you have hundreds if not thousands of series being quoted. That leads to this enormous amount of data.

I'm not a Power Point presenter. I don't have a lot of graphics, but I do have at the back of my little outline a couple of charts because they simply illustrate graphically what has happened to message traffic, over the years.

The first just shows the general explosive growth in options message traffic going back to 1995 and up to the present. The second chart is much the same; it just shows it in terms of peak messages. And the third chart compares options messages with CT and CQ.

I guess, to be fair, in this chart you really need to add the CT and CQ, because CT is the last sale, and CQS are the quotes; whereas, options are both last sale and quotes, but quotes are largely what options are. You can see it's just orders of magnitude greater in the case of options.

What has accounted for the growth in message traffic in options has been a number of things; first, just the fact that it started as a brand new business at zero, and the market as grown, more options, more classes, more exchanges, more traders, therefore, more message traffic.

Add to that the expansion of multiple trading a couple of years ago where suddenly many more classes and series are traded on many more exchanges each of which is generate its own quotes, that has caused the growth.

On top of that, add the fact that, unlike in the stock world where there is often a primary market and other exchanges simply echo or some say ape the quotes in that primary market, there really is no single primary market in options. Each exchange is quoting its own series the way it sees fit, and they change on each exchange not in relation to what happens in some primary market. That leads to many more and different quotes from time to time.

Then, finally, decimalization has certainly had its impact on increasing message traffic in options. When you look at all of these factors and consider how much message traffic has grown, I'll say, and hopefully not too defensively, that I think OPRA and SIAC have done a really terrific job in keeping ahead of that enormous growth.

Any business that grows at this rate is going to have capacity problems from time to time. If you build too much capacity too soon, you can't afford. Your customers can't afford it. And if you don't build enough capacity, can you go out of business.

OPRA and SIAC have done, really, a pretty good job and have kept ahead of the capacity curve almost all the time, although there was a period, and Annette referred to it, a couple of years ago, when there was a capacity crunch. It was the combination of all these factors and particularly the expansion of multiple trading. There were days -- and very volatile markets, I should add, at that particular time where there were queues in the OPRA line. There were delays, not often, but it should never happen.

I think it's fair to say that those problems, at least for now, are behind us. The solution to the problems, for the most part, consisted of building a bigger system, and OPRA has done that. So that when it has a system today that's capable of handling 24,000 messages per second and is scheduled to go up to 38,000 and when its peak has been somewhat over 7,000, there's a lot of head room there.

Really, there is no capacity problem today at OPRA, or at SIAC. It's another question as to how vendors and end- users can handle that amount of data. But of course, today, although the system is at 24,000, the actual message traffic is substantially less than that.

The only thing on the horizon that could dramatically increase options message traffic might be if options were traded in pennies. And I think others may speak to that, but I don't think there's a whole lot of support for moving in that direction, to the contrary. But beyond that, I think most of the big changes are behind us, and I think we have an OPRA system that can handle its capacity.

I'm going to talk some more about capacity issues, however, it's kind of, the centerpiece of, I think, what you're all concerned about. Just a couple of other things before I get to that. I, kind of, departed from my outline a little bit.

OPRA is governed slightly different from CTA/CQ; I think reflecting its history and reflecting the fact that there's no single dominant primary market in OPRA. OPRA is a committee of exchanges. Each exchange has one vote on the committee. There is no network administrator on OPRA. No one exchange has any greater authority than any other.

OPRA is administered by a staff of full-time individuals headed by Joe Corrigan, who is here, its executive director. Nominally, those persons are employees of the CBOE. Originally, they were employees of the AMEX when OPRA was first organized, and it was simply decided to move that function to Chicago with AMEX's full support at the time, but that's nominal.

That's simply because OPRA itself, unlike CTA, is not an association, nor an entity. It's simply a committee of exchanges, and it cannot itself employ anyone. It doesn't have a taxpayer identification number, and what have you.

So, CBOE is the nominal employer. Each exchange has one vote on OPRA in every respect, except, a peculiarity of the plan is there is a weighted tie-breaking vote, and that has never happened. In other respects, OPRA is much like CTA. It charges more or less the same. The revenue is shared, and the basis of volume more or less the same.

There is one difference here, and that is OPRA has always presented itself more simply, I think, to the vendor community than CTA; that is, OPRA has a very simple schedule of fees, of vendor fees, subscriber fees. It doesn't matter how the vendor uses the data. It doesn't matter how the subscriber uses the data. The fees are, essentially, the same.

So there's less need for vendors and subscribers to describe to OPRA what they do with data. They don't have the same administrative burdens in maintaining their relationship with OPRA, as some of them have described for CTA.

Back to capacity just a little bit, and then I'll be, kind of, winding up my remarks. Although OPRA has not been subject to the Commission's Display Rule -- I think for the same reason that it hasn't been subject to other Commission rules when those rules were first adopted. The Display Rule requires collection of size, and OPRA still doesn't show size of its quote -- nevertheless, the OPRA plan right from the beginning has had its own Display Rule which the Commission approved, and therefore indirectly is a Commission requirement pursuant to the OPRA plan.

The OPRA Display Rule simply says that a vendor, in redistributing options information, in effect, has to display consolidated information. It cannot display information selectively from less than all of the markets that trade a particular series.

Subject to that requirement, under the OPRA plan and under the vendor agreements, the vendors are free to filter, limit the data any way they want. Vendors can show options data for the near months only, for the most active underlying stocks only, or any other way that they may think it's in their interest to provide a service they can surely show less than everything. They simply cannot filter by market center in a multiply-traded option.

That may be significant in helping relieve vendors of the downstream capacity burden. Annette mentioned that OPRA is considering developing its own NBBO service, and it certainly is. And I think it's fair to say -- and any of the exchanges can correct me if I'm wrong -- that there really is agreement among the exchanges on all aspects of that OPRA- provided NBBO service except the issue of whether to show a market identifier or not. And while there is a majority and a minority view on that, it hasn't been resolved.

The unresolved issues, if any, are simply that that determination currently is bundled together with a number of other initiatives to make changes to OPRA some of which are in response to the settled enforcement cases, and others are simply in response to what OPRA sees as its needs. And there isn't agreement on all of those other things.

And to the extent that NBBO is bundled with all of those other things, then they all have to be resolved before the NBBO goes into place. Even on those others I don't think -- I don't want to overstate the differences -- There's largely agreement on everything. The devil is in the details, and there still is some disagreement on some of the details.

If OPRA provides an NBBO service, that won't have any impact on OPRA's systems because SIAC is still going to have to capture all of the quotes from all of the markets and process them, indeed process them one more way than it does today by reading those lines and identifying the best bid and offer at any point in time.

So there will be no reduction in the size of the OPRA system itself on account of NBBO. On the other hand, the OPRA system is quite large today and is capable of handling that.

Downstream, however, where vendors and end-users may have difficulty receiving so much data they will have one more alternative; namely, subscribe to an NBBO service only. And if they do that, although I don't know the technical answer how much of a reduction will there be, and I don't know whether -- Brian Faughnan of SIAC may give an educated guess on that -- but just intuitively it ought to be a substantial reduction in data, if all you're seeing is an NBBO.

The NBBO will change and change frequently but not as much as all of the quotes from all of the exchanges. So that ought to provide some substantial relief.

That ties to something else that I just want to talk about, and then maybe I'll stop talking. This committee has considered the question of competing consolidators or a single consolidator. OPRA, as does CTA, today follows the single consolidator model, and at least thus far within OPRA there hasn't been any initiative to move away from that model.

Personally, I think that it's the best model for options. I won't go beyond my focus and talk about what I think on equities, but for options I think it's the best model for some obvious reasons.

One is given the capacity needs of OPRA, it's costly to build a system of the size of the OPRA system, and to have to build a system of that size more than once over again really multiplies those costs to a point that it's just likely to be unacceptable.

If a particular competing consolidator looked at the world of OPRA and said, "Well, 7,000 is your peak. I don't need to go to 24- or 38,000. I'll build a 10,000 messages per second system and not spend so much money," now you'll have a situation where one consolidator system is different in size from account, and if we should get another capacity crunch one consolidator will queue when the other consolidator didn't queue. Different investors will see different things about the options market.

At least even during the period when we had problems no particular market was advantaged or disadvantaged as compared to anyone else. No investor was advantaged or disadvantaged. Everybody saw the same single feed, and when it queued, unfortunately it queued for everyone. It's just hard to imagine a world where some consolidators were showing different data from others.

I also think it's wise and safe to build a system with as much head room as OPRA has done, and that's, obviously, more affordable if you only have to do it one time and not many times over.

An argument in favor of competing consolidators that I've read, I guess, is that it promotes competition and innovation. OPRA, at least is considered ways to accomplish the same thing in reliance on its NBBO service and by relaxing what Annette referred to as the exclusivity requirement of a plan; that is -- and this isn't in place yet, but it certainly could be and is actively being considered -- if it were permitted, for exchanges, vendors, others to provide options information outside of the options system, so long as some minimum consolidated information accompanied that and that minimum could be nothing more than the consolidated NBBO, then that ought to allow exchanges and vendors to respond to market forces and innovate and create value-added services for which they perceive a demand. But at the same time, there would always be a single authoritative official source of a consolidated NBBO.

That's the direction that we're moving, and we look forward to finishing that work. One more thing. When we experienced the capacity crunch of a couple of years ago, that was a difficult time, and I think we learned from it.

When there was a limitation on OPRA's capacity and the demand exceeded it, the exchanges needed to allocate that capacity among themselves. That proved to be difficult to accomplish because the exchanges compete with each other, and it's a zero sum piece of pie, not avoiding cliches despite Joel's warning. One exchange gives up a piece of pie, the other one gets it.

Nevertheless, with the Commission hanging around and knocking heads together, with difficulty the exchanges were able to allocate capacity to the extent they needed to get through that difficult period.

It was with that in mind, that the Commission then imposed its own formula for allocating capacity as an amendment to the plan, but with all respect the horse had already been stolen, and then the barn door got locked with that formula. Another cliche.

MR. SELIGMAN: That's three.

MR. MEYER: But they've all been gender neutral, if you noticed. We've never had to use that formula and likely never will because we have so much capacity today, and there's just no need to allocate.

Going forward -- and I won't take the time to wind together the strands from the enforcement settlement and the capacity needs which were, more or less independent of each other but just happened to occur at the same time.

OPRA has a plan going forward for dealing with capacity that ought to obviate the need ever to allocate either pursuant to the formula or in any other way. And in simple terms, it allows each exchange, in effect, to inform an independent authority, which will be the Independent System Capacity Authority, or ISCA, if you will, how much capacity it needs.

This independent authority will build the system through the processor, SIAC or whomever the processor may be, to satisfy the needs of the exchanges as communicated. Each exchange will pay for the capacity that's requested.

The independent authority has authority not to build all of the capacity required, if it thought that it was truly excessive and would impose costs on OPRA or the industry that they shouldn't have to bear. But in the ordinary case it wouldn't be expected to exercise that authority. It would be expected to do what the exchanges asked it to do.

That's an effort to put the capacity decisions into each exchange's own individual control for themselves. There are questions of sharing, and there will be sharing in order to make the thing work efficiently, but that's the direction that we're moving. That, too, is part of this bundled amendment where there's still some details to be ironed out, but we're moving in that way.

So Joel, maybe that said I'll stop and be happy to respond to any questions now or later.

MR. SELIGMAN: Let me open it up to the group. Would they like to pose any questions to Mike at this point? Bill.

MR. HARTS: Bill Harts. I had a question about the graph and your peak rate. You're saying that now you can handle -- or you're about to be able to handle 24 or --

MR. MEYER: Can now handle 24,000, and 38,000 is the next step, which I think is going to be before the end of this year. Is that right, Joe? Third quarter of this year.

MR. HARTS: And is that per second or per minute? Because on the --

MR. MEYER: Per second.

MR. HARTS: -- graph it shows one minute peak rate, or is that supposed to be one second?

MR. MEYER: Well, that's a good question. I can tell you I think it's the peak in messages per second over a one minute period of time. So you take -- it's the averages over a minute, because you can get down to a microsecond, and it might come in higher than that.

So to make it meaningful you slice the time up into minutes, and then you average the rate for each minute, and highest we've experienced is 7,000 messages per second as an arch over a minute.

MR. HARTS: So over the course of that minute there were actually 420,000 --

MR. MEYER: If you've multiplied it by 60, that's what it would be.

MR. SELIGMAN: Any other questions for Mike? Mike Atkin.

MR. ATKIN: Maybe I misinterpreted something, but you said that the current peak is around 7,000 messages per second, and you said that most of the big hits on increasing traffic were over, yet the projection is for 24, and then after that is 32 and then 52. Is there some change that has occurred that would have some impact on those projections now that's different from previously?

MR. MEYER: Well, I think that the system is as large as it is first because we know that our projections are imperfect and that there can be events; for example, short- term events, that create great volatility and activity in the market that can give and you peak over a short period of time, some news event -- Greenspan does something -- what have you.

So we have to build for that, but also you hope to not have to be changing this year to year to year. There has been an overall growth in the options market. The exchanges expect that growth to continue. So looking longer term they need to build a system to handle the long-term growth.

What I meant was that the systematic changes that raise the level instantly to a new plateau seem largely to be behind this except for the possibility of trading in pennies.

MR. SELIGMAN: Other questions for Mike Meyer at this point?

(No response.)

MR. SELIGMAN: All right. Mike, why don't I invite you to take a chair and sit with us at the table.

MR. MEYER: Thank you.

MR. SELIGMAN: Let me ask Mike Atkin if he could make a presentation.

MR. ATKIN: During the conference call in preparation for this meeting which, of course, I was on because I thought we were talking about the final report, which turned out not to be even on the agenda for this meeting, I was surprised with a request by the Commission to do a survey of vendors and users and to try to summarize the issues related to capacity. And of course, I was delighted to help in any way.

At a minimum, as a result of this research, I learned a little bit about options markets, which I really had not much understanding before, and I was flooded with statistics and opinions from both user firms and vendors. And I think it's clear to say that there's absolutely no shortage of passion about this issue out there within the industry.

I'll also say that in addition to passion there is a lot of excellent research on options traffic mitigation strategies. As I indicated in my memo, I am clearly not an expert in options market data, but I now find myself in that most difficult of situations of having just enough information and understanding to be dangerous.

I also learned this morning that there was some conflict in the findings that I had in my report and what I learned from this morning's discussion. I certainly have not been able to reconcile those conflicts, and in listening to Mike speak we might be in violate agreement on many of the things that are in my report.

In order to get a passing grade from our professor over here, I spoke with eight vendors, ADP, Bloomberg, Bridge, MoneyLine, Reuters, S&P, Telekurs and Thomson. I spoke with five user firms, Fidelity, Goldman Sachs, Lazard, Merrill Lynch and UBS. And I spoke with two consultants. One is T. Williams, who is sitting here in the audience who was involved in doing the SRI consulting research study on options mitigation, also involved in decimalization issues. And Charlotte Cooney from Jordan & Jordan, who is doing a lot of work with SIA on decimalization.

I also sent my report to everybody I talked to. I sent it to our executive committee. So I feel pretty confident that the findings have been at least scrutinized and generally verified.

That being said, there was a surprising degree of consensus amongst vendors and users on most, if not all, of the conclusions in our memo. I feel safe in reporting that there is a high degree of concern about both the growth of options traffic and the management and usefulness of options market data currently being disseminated.

Without exception everybody we spoke to is working hard to upgrade capacity, to upgrade bandwidth, to upgrade their processing power to meet SIAC projections. I do not believe, however, that at the present time the industry is ready to fully handle the current 24,000 messages per second projection into their distribution platforms.

Also, to say that there is a clear distinction between how options traders and market makers view options data and how the rest of the industry views options market data, in general, the options traders want every bit of data they can get their hands on for both the development of theoretical indications of market conditions and to meet their regulatory requirements for evaluation.

That being said, most everyone, perhaps even including the options traders, believe that the majority of quotes, specifically the "away from the market," the "out of the money," the individual exchange specific quotes, which, in my discussions the phrase "nothing more than free advertising" came up every time are, to be kind, considered less than useful.

The other consistent concern had to do with the lack of communication between the exchanges and the industry on both quote mitigation strategies and on capacity projections. The gap between projections and reality seems to be fairly wide. The cost of upgrading systems to meet projections is fairly high.

I guess one of the main conclusions is that the importance of a good and honest dialogue, if allowed, cannot be overstated. On a side note, I'll apologize for putting a little short course on options traffic in my memo. I did that because I thought there might be people like me who had no clue about how the options market worked.

One of the key points, however, is not only how the options pricing process works but the impact of corporate action information such as splits and mergers on options pricing and options data maintenance.

I got deluged with statistics and projections and scenarios from every side. I tried to put them in context for my memo. In broad terms, I think these are the most relevant ones. Options pricing is about 70 to 80 percent of U.S. market data traffic. Somewhere between 20 and 30 percent of opposites series have no open interest.

Zero open interest and zero volume account for a lot of quotes, perhaps as much as 60 percent or even more of total volume. Away from the market quotes, resulting from multiple listings, account for about 25 percent of volume.

So if I got the statistics right and I add it up correctly, that's somewhere over 70 percent of options quotes are considered not particularly useful by the people that we talked to. The other alarming statistic had to do with the quote to trade ratio for options, particularly with fully electronic exchanges such as ISE, accounting for a significantly higher ratio of quotes to trades than the other exchanges.

If that trend is, then, for other exchanges to go more electronic, you can assume that ratio will increase, and hence data traffic will increase.

So what does this mean for vendors and for users? I think there are really two issues that were identify. The first had to do with the costs of data collection, processing and distribution. And the truth is that upgrading systems to handle increasing traffic projections is a costly thing for both vendors and users.

The key here, however, is not really about the cost of doing business. Vendors readily admit that they must be able to handle all of the data that's thrown at them. No one is complaining about that business requirement. That's what vendors do.

And users also readily admit that they expect their vendors to be able to handle everything that SIAC throws at them, and they also expect to be able to up grade their own internal systems to be able to handle all the data that's coming through.

The issue here, I think, is really twofold. First, is all that data really needed? And then second, if it is, what are the real projections on capacity so they can plan appropriately. The core message that I walk away with is that no one wants to haul around what they termed as useless data, and then making sense of all of that huge volume of data, as you put it into your databases and into your calculations is not a significant undertaking.

The second and perhaps most important perspective from the vendors -- and I should clarify this is only about data feed vendors. There really is no issue for stand-alone terminal vendors that I could find. The issue is about their desire for flexibility in creating useful services for their clients.

And I guess, Mike, this is where I seem to have a conflict with what you were saying. Vendors say that most of their clients don't want the raw OPRA feed. Many can't handle the volume of data. Customers want the vendor to be able to deal with all those data processing issues by filtering and by differing timely and accurate quotes on a variety of criteria, whether it be by contracts they're interested in or by fresh quotes or by NBBO or by whatever.

The core of the problem seems to be that requests by data feed customers to see collective detail on just specific options contracts results in an opening of the floodgates internally on all streaming updates on all data. And the vendors, more than two or three of them, said that what they desire is flexibility to be able to tailor products based on the specialized needs of their customers rather than on regulatory mandate.

And whether that mandate is by the Commission or by the exchanges I'm not sure, although there seems to be a conflict between what you were indicating and what I found.

I did have a conversation with a number of vendors on the range of possible approaches to address this problem. Everything I heard, kind of, falls broadly into four categories. The first is just deliver the full spectrum of updates, require your clients to upgrade their systems and processing capabilities to handle projections.

Second, vendor could manage the data by turning off part of the data stream or by filtering the data for the customer or by providing the customer with publish and subscribe tools to manage the data internally, although here I found a very big conflict between options traders requirements within a firm and the rest of the users within that.

The vendor could determine and disseminate quotes only from the primary market. This is all without judgment and assessment of whether this is actually possible or not. And then fourth, the vendor -- this is the most consistent recommendation -- the vendor or, preferably, the consolidator could calculate an initial NBBO and filter out all the unnecessary data.

Let me conclude with giving you the recommendations I heard from the people I talked with. I was, frankly, surprised at the consistency of quote mitigation recommendations on the things that at least this universe of people suggest that the Commission should consider.

I should also point out that we were asked to talk to the vendors and users. I did not talk to any of the exchanges. So for what it's worth, this is what came out of those discussions in order of passion.

First, I void penny increments at all costs. No one we spoke to considered them to be of any value whatsoever. Number two, create an official NBBO for options with the appropriate inter-market linkages and accurate size indicators. I should point out that this only helps reduce traffic if you allow people to distribute only the NBBO and not the individual exchange quotes.

Third, consider suspension or modification of the Firm Quote Rule to reduce the need for auto quoting for out of the money and away from the market quotes or, alternatively, set minimum underlying price changes to trigger options price recalculations.

Fourth, consider lounge for split services from OPRA; i.e., either the NBBO versus full detail or separate lines based on level of activity. It was surprising to learn that most people project there are well fewer than 100 locations globally that want the full data stream. And, in fact, if you say that those locations are, perhaps, multiple locations per customer it's even fewer.

Five, consider possible strategies to prioritize the disseminations of options based on value to end-users such as quote by request for out of the money, deep in the money, 4th expiration, less active options, things of that nature, although Mike seems to indicate that's currently possible.

And finally, provide and allow for an open dialogue among exchanges and vendors on options traffic issues. I'd like to re-enforce that vendors indicate that there is insufficient communication currently and even some reluctance among exchanges to discuss either quote mitigation strategies or capacity projections, and this seems to be particularly important given that projections have been frequently well below actual levels.

So, as I indicated in our memo, if there is anything that the Commission would like for us to do to put some more flesh on this skeleton, we'd be delighted to do so. And if you have any questions, I'd be more than happy to answer them, if I can.

MR. SELIGMAN: Mike, first of all, let me thank you for a very thorough presentation and a very thoughtful memo. You began with a somewhat memorable phrase where you stated that on some issues there was "violate agreement."

I think it would useful to take a look at pages 4 and 5 of your memo. I'm going to simultaneously ask both Mikes to respond to this and see where there appears to be agreement between, on the one has not, the vendors and users that Mike Atkin spoke to and, on the other hand, the options exchanges.

The listed six alternatives for consideration. I think it would be very useful for us to see where there are really differences. The first was "to avoid penny increments." If I heard both Mikes correctly, there seems to be general concord that nobody wants penny increments in at least these two camps.

MR. ATKIN: Absolutely.

MR. SELIGMAN: Okay. The second was with respect to an official, which I assume would mean by SEC rule, NBBO. In Mike Atkin's presentation, he focuses on, I take it -- basically, paralleling what you have for equities with the identification of the market. And I take it at the moment you're moving towards an NBBO not by SEC rule but through the OPRA plan, which would not have identification of the market?

MR. MEYER: Two things. First, although it wouldn't be by SEC rule, as with any amendment of the OPRA plan, it has to be filed with and approved by the Commission. So, it's tantamount to SEC rule without the SEC going through a rule-making procedure. They would have to be on board for what it is that OPRA proposes to do.

The question of market identifier is really unresolved at OPRA today.

MR. SELIGMAN: But at the very least, there seems to be concord on both sides. You want an NBBO.

MR. MEYER: Yes.

MR. SELIGMAN: You want an NBBO not on an individual exchange basis but capturing the whole industry.

MR. MEYER: Correct.

MR. SELIGMAN: And we're really dealing with a detail there.

MR. MEYER: I think that's right.

MR. SELIGMAN: And there are really two details, and one may be more consequential than the other. One detail is how is it adopted. The other is whether or not there would be specific market indicators.

MR. ATKIN: Yeah. I think I just want to maybe add to that that --

MR. SELIGMAN: Okay. And I take it both the equity markets and the -- The manner of adoption is not significant. It's going to be done by the exchanges with the concurrence of the SEC, or it won't be done at all. Mike.

MR. ATKIN: However, it might be significant in that there's currently NBBOs out there for options, and they really want a single official uniform consistent NBBO, and however that would occur is --

MR. SELIGMAN: And that's what we're working toward. Okay. Third point is, basically, kind of a quote mitigation notion. From the perspective of Mike Atkin and the vendors and users, they think a way to reduce quote traffic is, in effect, to suspend or modify the Firm Quote Rule for out of the money and away from the market quotes. Do the exchanges have any view on that one?

MR. MEYER: Yeah. The exchanges have spent a consider amount of time recently, and it's ongoing, in quote mitigation. There's a separate committee of the exchanges that more or less parallels OPRA but technically is outside of OPRA pursuant to Commission authority.

It's being facilitated by the Options Clearing Corporation, and its solely focus is quote mitigation. Mitigation seems to be very difficult to accomplish, and while mitigation is one of the answers to capacity, I didn't talk about it earlier because, really, system design is by far the first answer to capacity. You have to have a big enough system.

The difficulty with mitigation, I think part came out of Mike Atkin's own presentation because there's a tension between, on the one hand, the folks that Mike talk to saying: "A lot of this data is useless. We don't want it. It's junk," and some of the people that he talked to saying: "We want all the information we can get. We want everything." It's hard to reconcile those two.

When you mitigation, that means that there are certain series that technically are available to be traded, but one way or another current quotes aren't being disseminated. It's possible that someone will want to trade those quotes, so you have a difficult choice. Do they trade blind?

The first trade will initiate quoting. Now it's not a sound series anymore. But how about that first trade? Is it fair to make someone buy or sell an option when he doesn't know -- he or she doesn't know what the current quote is?

So the exchanges have talked about a request for quote system where some of these out of the money, away from the market, distant months be quoted unless someone requests, and then they will be quoted, and then someone can trade.

The problem is we have some indication that if we went that route there are some people, the ones Mike Atkin talked to who say we want everything, who will just routinely and perhaps even automatically request. So the mitigation won't be effective.

Mitigation is still being pursued. There are profession to mitigation that probably will be implemented and probably will be effective in reducing quotes, but it's very difficult and should not be viewed as the first response to capacity problems, in my opinion.

MR. ATKIN: If I may, my point was that you changed the Firm Quote Rule to mitigate the need for auto quoting for those out of the money and away from the market options. Most of the people we talked to don't really want to tell the exchanges how to do their business and believe that the exchanges are capable of figuring out all the things they need to do to manage capacity.

I think that, hopefully, they could reduce the need for auto quoting for unnecessary information and make sure that the dialogue between what the exchanges are planning and what the industry itself is expecting is sufficient.

MR. SELIGMAN: This will no doubt invite some discussion from the committee after a break, but let me just pose one tentacle question. Is there concord by what we mean by "out of the money"? That is, is it a euphemism, or is it a technical phrase in the industry?

MR. MEYER: Well, of course, any call option where the strike price is higher than the market, any put option where the strike is below, if I've got it correct, is out of the money. The question is by how much is it out of the money, and it's when they are deeply out of the money that there is less interest in these quotes.

I don't know as anyone as defined "deep," but I don't think that would be very difficult to do. If there is a gray area, you'd probably include the gray area until it started to get pretty close to black, and that's where you draw the line. I don't think that's would be a difficult challenge.

MR. SELIGMAN: When Mike Atkin spoke to his vendors and users and they used the concept of out of the money, did they have any thought as to how deeply out of the money they were dealing with?

MR. ATKIN: They did. I would not be able to recreate that discussion. There are certain people who understand options pricing and options trading. I'm not one of them, so I would just not be able to do the that. I have a lot of notes I took on what that means. There are a lot of charts on where out of the money is and where far out of the money is. It's just not really an area that I'm competent enough to speak to.

MR. SELIGMAN: Let me, then, turn your attention to the fourth alternative, which you referred to as split service offerings from OPRA. On the equity side, there was a distinction that was drawn between what is at this point being referred to as core data -- last sale reports, NBBO -- where there would be a mandate, and, on the other hand, additional data that could be provided by exchange where it would be more kind of free market capacity for customization.

Is that the kind of concept you're suggesting, that your vendors and users were proposing on the options side?

MR. ATKIN: If you mean by "core data" the NBBO and last sale?

MR. SELIGMAN: Yes.

MR. ATKIN: In general, I think that's what people are asking for.

MR. SELIGMAN: And again, it would be the NBBO, though, at the moment for all quotes or quotes within a particular band?

MR. ATKIN: Joe, I just really couldn't tell you. I'm not quite certain. People around this room know a lot more about it than I do.

MR. SELIGMAN: Okay. Mike, do you want to comment at all?

MR. MEYER: Well, I think this is another one of the places where there is a violate agreement. I think this is precisely what we're talking about in creating an NBBO service, that that would be the required minimum call it core, if you will, combined with last sale reports, always combined with last sale reports.

Important for me to utter one more cliche, another horse related one, and that is the you can lead to water, you can lead the horse to water. OPRA imposes its requirements and would, I believe, impose any NBBO core requirement on the vendor only, on the redistributor only and not on the end- user. You've got to make the information available to the end-user, but you can't make him drink. So he can choose to internally filter it, screen it, look at it any way he wants. Under the current OPRA plan and contracts, that's the situation. There's no requirement imposed on the end-user.

MR. ATKIN: Mike, what's the definition of "end- user" versus "vendor"? How about a internal redistributor? Is that --

MR. MEYER: Internal redistribution is an end-user. It's an external redistribution that's a vendor.

MR. SELIGMAN: Mike Atkin, while I know you have six alternatives let me just ask one final question with respect to the fifth. There were possible strategies to prioritize the dissemination of options based on value to end-users, and you listed five separate ones.

Was there any one or two or were there any one or two that seemed to get more support and more interest from your vendors or end-users, or was it a sense that these were just kind of a laundry list of ideas, and none had any particular --

MR. ATKIN: Are you referring to my whole list of six, or are you referring to item No. 5?

MR. SELIGMAN: I'm just focusing on item No. 5.

MR. ATKIN: It was really a single point there, which is the concept of quote by request. And there are lots of things you could quote by request, whether that be out of the money, expiration month, less active options.

What, I'm a little confused in with it's a quote by request managed by vendors or whether it's a quote by request managed by exchanges. I was personally under the impression it was managed by vendors, but I would defer to Mike. He probably knows much more about it than I do.

MR. SELIGMAN: Then Mike Meyer pointed out that some discussion with the options exchanges have had that quote by request, and their basic sense is it might not work for the simple reason that if a single vendor or end-user requested it you'd have to supply all the information across the board.

MR. ATKIN: Well, yeah. But if the mitigation strategy was at the vendor site, then, you know, that's a different issue.

MR. MEYER: First, these criteria, No. 5, are not surprising. These are the very same kinds of criteria that the exchanges have considered if there is to be a quote by request feature. The exchanges considered if there is quote by request where does the quoting stop? That is, at one point, just don't quote at all. The exchanges just wouldn't quote except by request in particular series.

Another alternative would be the exchanges would continue to auto quote in every series and would send those quotes to the processor, but that's where they would stop. The processor would warehouse them and wouldn't send them downstream.

I guess what you're talking about now is still a further approach where the quotes would go down to the vendor, and the vendor could warehouse them except by request. Two points on that.

One is that wouldn't alleviate a vendor of the need to be able to receive the full data stream from the processor, and some vendors seem to want to be relieved of that.

The second is, and this is the area where Mike expressed some difference the views between what I'd said and what he was hearing from the vendors. Vendors are free today to warehouse quotes. Once they take them they're not under any obligation to include certain series, deep outs, away from the markets and what they distribute to their end-users. They can slice it, dice it, filter it any way they want to as long as what they show on a consolidated way from every market to trades to series.

They may not all understand that, and maybe we should be doing a better job than we have in communicating that to vendors, although I'm surprised that they don't understand it, but that's the situation.

MR. SELIGMAN: Let me open it up for the rest of the committee. Do they have questions for Mike Atkin?

MR. PUTNAM: We're talking about deep in the money options here as well as -- in my opinion, the deep in the money options is probably more useless information than an out of the money option is because of a speculator. So deep just as much as out?

MR. MEYER: Either side.

MR. QUICK: But if there's open interest in the deep in the money, then it's relevant.

MR. PUTNAM: Then it's relevant because you've got investors out there who have them. The deeper in the money the more it just becomes a stock, so it doesn't matter.

MR. JOYCE: I think it's important to note that it's -- Ed Joyce -- that the options series that no one has an interest in is sometimes overstated, that phrase. There is a subset of people that want that information, and that's where it gets difficult, to just say we're not sending it out.

And then that relates to at what point in the chain are you solving the capacity problem. If OPRA has to calculate -- or the exchanges have to calculate the information and send it to OPRA and OPRA has to send it to the vendor, so that subset of customers that does want the information and will pay for the information has it available. What you've really done, you have not solved any capacity concern through that alternative at any point in the chain, until you get to the end, where you're sending less data to the people that want less data.

You're not solving it at the exchange end. You're not solving it at OPRA, and you're not solving it at the vendor. You are solving it from the vendor to the customers, if there's a subset of issues, which I'm sure there is a large subset of customers that would be perfectly happy with less data. It's just not everybody.

MR. SELIGMAN: Other questions?

MR. McNELIS: Brian McNelis from Reuters. I think the last couple of comments were really instructive because what we all seem to be agreeing is that, first of all, there is a difference among customers as to what they would like to receive. And second of all, we have the regulatory structure which imposes a one size fits all rule on everyone in the chain, and that seems to be a very great disparity as to what we're doing.

It seems more reasonable to allow the flexibility of the customer to decide what he wants to get and let that solve the problem and go into a more free and open market solution to the issue.

MR. SELIGMAN: Thank you Brian. Are there other questions for Mike Atkin? Andy.

MR. BROOKS: Thanks Joel. Andy Brooks at T. Rowe. I thought Ed Joyce's comment was really very interesting, and I guess two things come to my mind. One is so many options quotes are theoretical. People use them in a theoretical way, and that subset of the investing crowd is always going to want as much as you can give them, and they will not be appeased or interested in getting less because of the theoretical things that they do with these theoretical quotes, because often things don't trade. I mean, they just don't trade, but people look at relationships.

Secondly, I guess I wonder for those people that have ever owned a way out of the money option or a way deep in the money, less deep in the money but way out of the money option, how do you value it if there's no quote and you get a monthly statement from somebody?

MR. SELIGMAN: Let me, at this point, to, at the risk of using my own cliche, to keep the train on the track, as Brian if he could enrich our discussion with a presentation on the technological issues.

MR. FAUGHNAN: Good morning. I'm Brian Faughnan, And I'm Managing Director at SIAC responsible for planning and development of the national market systems, and I just have a couple of slides here to give you an overview of the OPRA system just in relation to this discussion.

Just from a high level, OPRA is a dual-noded configuration system where we have a node at each of our sites, two sites of SIAC, one in Brooklyn, one in lower Manhattan. The two nodes are connected and used in production simultaneously and connected through a high-speed ATM link.

The five exchange participants send their data half into one node and half into the other node, and our system accounts the data and sends it out based on symbol over the eight IP multicast groups to the data recipients.

So, the data comes in like in the case of CTS and CQS using TCP/IP, it's consolidated, stored, time stamps are applied, records are written to a file, and the data is disseminated out over the high-speed lines with a time stamp using IP multicast similar to CTS and CQS.

Just from the capacity standpoint of the various components, and a lot of this has been touched on already, but just to go through them, basically, as you might expect, from an OPRA perspective the number of CPUs required to support the transaction rates are much greater, and those CPUs are also of a higher power, higher level CPUs that are used in OPRA.

The process or capacity again, as mentioned, 24,000 compared to the 1,000 and 1,500 for CT and CQ. Number of participants, again, five and nine for CTA. TCP/IP inputs, as would be expected, there would be more inputs for the OPRA data coming in from the exchanges. There's currently eight logical inputs from each of the five options exchanges.

Input capacity again was mentioned. This is from a throttling perspective on the input side. We have a process or capacity. We have throttling on the input side, and we have pacing output side.

The IP multicast outputs we have eight, as mentioned already, compared to the four and five for CTS and CQS. The IP multicast capacity is based on the data recipient connection. We were working on T-1s for CT, CQ and OPRA for a while, and when we increased message for second rate based on OPRA's projections that are given to SIAC, and we're directed to upgrade our systems, we ask the data recipient to come in with T-3s at that point, and the capacity on the T-3 is in the level of 50,000 messages per second, while still supporting CTS and CQS over those feeds.

Data recipients, at the latest count, approximately 50 for OPRA, 86 and 83 for CTS and CQS, and again, the message per second peaks on a one-minute average basis, 70/18 for OPRA as compared to 226 and 509 for CTS and CQS.

He also have threads that run through the system that support the number of messages per second that can be handled over each of the OPRA eight high-speed lines. There's a smaller thread, so there's two levels that have to be determined when looking at capacity, not only the overall system capacity, but what are the messages for second rates that can be supported on any one of those eight output threads based on breakout situations, or what have you.

And also, transaction files, needless to say, have to be big enough to support 50,000 messages per second over some extended period of time. So the transaction files and disk space required are enormous.

Moving to the technological considerations, the same considerations apply to OPRA as they do to CTS and CQS with the following exceptions:

As far as sequencing of information, trades and quotes are consolidated through OPRA as one system right now; whereas, obviously, we have trades going at the CTS and quotes going at the CQS for the equity side.

Other differences are the lack of databases and calculations occurring in OPRA. At this point, OPRA consolidates the data, logs the data and disseminates it out over the high-speed lines, there are no databases or calculations being performed on the data.

That carries over into the validation tolerances in that there is minimum message validation other than verifying that, yes, the category and types of the messages on the input side are alphabetic as opposed to numeric, but there is no price tolerance validation as there is no database to compare them against.

From a capacity standpoint, it can't be emphasized enough extremely high transactions rates that the system needs to support going to 38,000 in September. The major challenge there is not just, obviously, receiving a direction from the OPRA committee to build a system to support 38,000 messages per second. It's the movement of all the components of the industry to be in position to support that message rate before it can be used.

I'll answer any questions if I can.

MR. SELIGMAN: Mike Atkin.

MR. ATKIN: Did I interpret that slide correctly that the T-3 requirement is in place when you move to 50,000 messages per second? Right now you're currently doing T-1 in requirements for the --

MR. FAUGHNAN: All of the OPRA data recipients are on T-3s now. So the connection supports a bandwidth of 50,000 messages per second for OPRA while also supporting CTS and CQS data.

MR. ATKIN: And then downstream from the vendor to the firm would also then require a T-3?

MR. FAUGHNAN: If it was required to send 50,000 or 38,000 messages per second from the vendor to the user, you will require a T-3.

MR. SELIGMAN: Let me pose a question simultaneous with Brian and Mike Atkin. Brian made the point that the capacity, in terms of messages per second, would be moving up to 38,000 in September, but for that to be effective, you have to have the vendors and end-users able to handle that magnitude.

Do you have a sense as to when the vendors and end- users are likely to be able to handle out of the 24,000 now or the 38,000?

MR. ATKIN: They're all doing it now. They're all investing heavily to meet that capacity. A couple of vendors are putting it in the range of $15- and $18 million to get there. So they're in the process of doing it.

MR. SELIGMAN: Other questions for Brian? Brian McNelis.

MR. McNELIS: Brian McNelis, Reuters. Brian, if the T-3s weren't available and it all had to go on T-1s, do you know at 50,000 messages how many T-1s would be required?

MR. FAUGHNAN: There's approximately -- this is testing my math skills here. Twenty-five T-1s are supported by a T-3. So it's approximately 1.3 megabytes of data per second can be sent down a T-1 line. On a T-3 line respect it's in the 40 megabytes per second range.

MR. McNELIS: And what's the bandwidth requirement of 50,000 messages?

MR. FAUGHNAN: I'm not sure off the top of my head, but I believe it's 29 megabytes per second.

MR. McNELIS: So you would need somewhere in the range of 20-some plus T-1s to deliver the data?

MR. FAUGHNAN: Yes. One of the issues with that is you can't subscribe for a part of an IP multicast group over a T-1. So it would be based on how you set up your network and how you're actually handling the bandwidth.

In your network, all these T-1s look like one big pipe for the data to go down, or, if you're treating them all as individuals, then you could send one down one, another down the other, but then you run out at eight. So it's more of a matter of your network configuration, but yes, you would need that kind of bandwidth.

MR. SELIGMAN: Do we have other questions for Brian?

(No response.)

MR. SELIGMAN: Okay. Brian, thank you very much.

MR. FAUGHNAN: You're very welcome.

MR. SELIGMAN: We appreciate the written presentation as well as the oral. We've got a lot to cover. Let us just take exactly -- I guess we said we would take a 15-minute break. But this time, for the first time, we really mean it. When 11 o'clock arrives, I'll be starting the meeting again. They haven't given me a gavel, but a figurative gavel will come down, and we'll go, and we'll cover, obviously, a lot of ground.

Let me, just by way of touching on one other aspect of our process, at the end of our discussions today, besides inviting the public for questions and comments I'll then talk a few minutes about where we go from here. So until 11:00.

(A brief recess was taken.)

MR. SELIGMAN: Let me begin our discussion. There are, in the agenda, essentially, four issues we wanted to focus on. The first is the most general, and you may want to anticipate as we go through this more precise questions that come later.

It's framed in terms of transparency. I view it really in somewhat more precise terms. The question with respect to the options markets is a combination of transparency and capacity, and it's capacity which means it gets special treatment in our process and has received special treatment from the SEC historically.

My instinct based upon comments that have been made today and earlier is, in theory, the same kind of enthusiasm that there existed for transparency in the equity markets exist, but the question is to what extent does this general presence have to be -- make allowances for the capacity realities in the options market.

And it's in that sense I'd ask you to take a look at the first question. The real issue, it seems to me, is at the moment you have a system where vast volume of quote traffic is circulated out. Is that system inevitable, or are there recommendations this group would like to make to try to reduce the amount of message traffic either going into OPRA or going out?

And that framed, let me throw it open for discussion. After maybe about 20, 30 minutes, I'll ask you maybe individually to express views as we did on the equity side. Should we have, in effect, pretty much the world we have now in terms of options quote traffic, or is there a better world that someone would like to propound as would be appropriate for this group to recommend?

MR. JOYCE: This is Ed Joyce. I'll start out. My view is that transparency is necessary and that if the current world means continuous quoting and consolidated last sales, adding onto the NBBO, which I agree and I think all the exchanges agree with, I think that is the world that is necessary to maintain the transparency.

It gets difficult when you start evaluating the quote mitigation strategies. I think we should continue to focus on quote mitigation, but I don't think the entire structure should be changed.

The secondary I get concerned about when we focus on primary market, I mean, there were many years that I would have been very happy to have people just send out the primary market, because CBOE was the primary market. But in options, it's not as obvious.

It's a class-by-class issue, and to say that you'll send out the primary market, I think it has a whole different meanings in the options world, and therefore, I believe that we have to continue generally with the current format, and we can do better on mitigation.

MR. SELIGMAN: Ed, let me pose one follow-up for you. Should there be less transparency for less actively traded options or for out of the money options, however that's ultimately define?

MR. JOYCE: I've been in many of the -- I put that in the category of the quote mitigation discussions, and I've been in many of those. And while I think we have to stay with that, I get concerned when we talked about less transparency. If it translates into not displaying a current quote, I'm really not in support of it.

I have a difficult time envisioning the world where an RFQ world works. I think you'd have to redo the entire information processing system to live in that world. You may as well not have those products, in my mind, because one of two things are going to happen; either automatically people are going to request for quote to keep the quote live, or it's going to be invisible.

The option trading, in many ways, is driven by the quote. The quote is what -- it was referred to as theoretical, and I think you right on, but it's that theoretical price that people are evaluating versus their view of the value or their theoretical model that's generating the trade.

So without a price you may as well not have those products listed at all, as far as I'm concerned, and I think you'll get resistance from firms and exchanges to just eliminating products.

MR. SELIGMAN: So from your view, the world you'd be most intrigued to see -- or most pleased to see, I guess, is a better way to put it, would be a world in a sense with a similar universe of quotes we have now but an NBBO?

MR. JOYCE: Yes, a similar universe with a more aggressive and continued focus on quote mitigation, but it wouldn't be good to the degree where you'd just wipe out the quotes. And it sounds like, given the earlier comments, that there should be more involvement of the vendors in that process, but generally I would agree with the way you characterized it.

MR. D. JOHNSON: This is Dave Johnson. But what about RFQ? Are you in favor of the RFQs?

MR. JOYCE: No, I'm not.

MR. SELIGMAN: Dave, what about you?

MR. D. JOHNSON: I am. I think it addresses the capacity issue, and I believe Mike Atkin, in his survey, is consistent with much of the Street, be it firms like ours is that much of the information is not necessary at that moment.

I think it ultimately has to be necessary during the day and after the day for pricing and settlement, and what not, but during the day I think RFQs would a lot of issues.

MR. SELIGMAN: How do you deal, Dave, with the concern that Mike Meyer expressed to the effect that if you had an RFQ there would be some vendors or end-users that would just, basically, instantly request everything on an ongoing basis?

MR. D. JOHNSON: I don't know who those people would be, but again -- I would disagree with that. I don't think it would be an -- an RFQ is not on an ongoing basis, so I would disagree with that. I think that people would not be -- again, with the parameters that we have, out of the money, even in the money, open interest, that mitigates the necessity for the RFQ.

MR. SELIGMAN: Okay. Jerry Putnam.

MR. PUTNAM: I hate to say this when we're talking about lowering fees, but you could charge for the RFQ, and if someone really wanted it, they could pay for it. It's kind of like the allocation process or the short-term capacity fix now by way of allocating quotes. You could charge for it.

MR. SELIGMAN: Let me go back to both Ed and Dave for a second. In terms of quote mitigation strategies, are there specific ones you have in mind? Ed, let's start with you.

MR. JOYCE: There's none that we haven't beaten to death in the exchange meetings. I think probably the most effective has been desensitizing the auto quote systems so that they're not flickering, and that's done on an exchange basis. That's done independently.

At CBOE, we have implemented a desensitizing approach so that when have you a less active option that it doesn't necessarily have to tick on every penny movement of the stock. But I think that kind of thing and delisting options series I think the exchanges have to be aggressive as taking product on that isn't going to trade, whether it be series within a class or inactive option classes.

I think we should be aggressive at taking product on, but once we make the determination that the product is going to be up there should be transparency and continuous quoting.

MR. SELIGMAN: And Dave, from your point of view, are there specific mitigation strategies you have in mind?

MR. D. JOHNSON: Yes. I agree with Ed. There's probably a list of at least five that all the exchanges have addressed over and over again. The SRI study addressed it, that's probably a year and a half ago now. Anything that the exchanges have addressed I would be in favor of.

But in particular, as Ed said, aggressive listing for competitive reasons, but I am also very much in favor of aggressive delisting even if this multiple listing environment. There are primary exchanges that trade primary stock in a multiply-listed issue, and I believe that the exchanges should be aggressive in delisting the issues that are costly both to them and costly to the industry.

Once again, I'm in favor of the RFQ position. Those are the two I think that we can address right away. But again, it has been beaten through many a time and many different studies and in dialogue between the exchanges. I would like to endorse what the exchanges have done and continue to work along those lines.

MR. SELIGMAN: Thank you. I think I saw Mike Simon next, and then I'd like to pick up Charlie Rogers and maybe Peter Quick, if I could.

MR. SIMON: We at the ISE totally support the RFQ --

MR. D. JOHNSON: I can't really hear.

MR. SIMON: I'm sorry. Is this better? The more the option is in the money the more it quotes and the less it trades, so you have sort of an escalating inefficiency. In the two or three years that we've been looking at quote mitigation, the only quote mitigation strategy that gives you any bang for a buck is the cabinet or the RFQ.

The delisting gives you a little bit, but as it turns out the options that trade the least, the classes that you would delist, also quote the least. So while you're removing product and you're removing options for individuals to trade, you're not doing very much on the quote side.

The only way we've seen any bang for the buck is moving to an RFQ. For even the very active classes have very inactive series. Even the AOLs and the Ciscos that are very deep in the money don't trade but generate an enormous amount of quotes.

The way that we've dealt with the issue on the exchange side in our committee about preventing a simple request for a quote from opening it up is saying that a series would not open up for quoting until there has been a trade, effectively looking at each series as an individual opening for the day. So if something trades for its first time at 2 o'clock in the afternoon, that's when it would be begin quoting. And there's, obviously, a concern that for that first trade there's a paucity of information, but since most of the options pricing is theoretical people have theoretical prices for that option, and it's not that much different than beginning the trading and the beginning of the quoting at 9:30 in the morning than at 2 o'clock.

So we think that's one way to address it, that there would actually have to be a trade before an option quoting.

I just want to quickly respond to something Mike Atkin said before about one way to address it is to, perhaps, modify or repeal the Firm Quote Rule for all these series. And I'd just point out that up until April 1st the Firm Quote Rule didn't apply to options, and it's not the Firm Quote Rule that has led to this generation of quotations.

What has led to the quotations is competitive pressures. We at the ISE may prefer not to put out quotes for the deep in the money, but we have no choice but to if our competitors are. If our competitors have it there and we're going out and marketing ourselves to order flow providers, they may say, "well, once every two weeks me may have an order on one of these deep in the money, and if you didn't have a quote we're going to send it to the market that does have a quote, and we're going to turn our switch on to the market that we're going to send it to." And therefore, we're competitively disadvantaged.

No exchange unilaterally can stop quoting or go to an RFQ system. It has got to be done on a uniform basis, and it has to be done under the leadership of the Commission, because otherwise none of the exchanges is going to alone take the initiative here.

MR. SELIGMAN: Before I get back to Joel, I wanted to pick up the other two options exchanges. I think Charles Rogers had his hand up.

MR. ROGERS: Thank you. Charlie Rogers from the Philadelphia. I was actually going to raise two points. Michael covered the first one quite eloquent. I did want to circle back to what Ed Joyce said, one of the items he brought up. And I will apologize in advance for the cliche, but yes, we have beat a lot of dead horses here. One of the things that Ed mentioned that I found very interesting was the desensitizing of quotations.

Even if all the exchanges could get in a room and discuss desensitizing quotations, it would lend itself to uniformity across the board as to how much you would desensitize them, and then they would never be in sync as to who was going to make the first change.

What that lends itself to is the disparities in the market, which may be only for a second, which leads to electronic arbitrage, which really forces a lot of the exchanges, a lot of our specialists -- DPMs, LMMs, and so on -- to quote very, very quickly very often to make sure that the markets are not out of line so you're going to get picked off by electronic arbitrage.

MR. SELIGMAN: Appreciate that. Peter.

MR. QUICK: Former Chairman Levitt actually convened the heads of exchanges back last fall to talk about quote mitigation, and Paul Stevens from OCC was leading that effort in terms of mastering those folks.

And the AMEX has been very interested in quote mitigation. We actually had a board vote that would eliminate out of the money, 4th expiration month options, but that did not meet with approval from the rest of the industry in terms of getting things that aren't really quoted out of the picture.

As far as cabinet trading goes, we're very much in favor of that, in the quote per request in that respect for out of the money, deep out of the money options.

For the National Best Bid or Offer, actually, the options exchanges currently stand at four for it and four against it without designators showing which exchange actually has the best quote. And the reasons for that is because it's not an order routing. It's really more of a retail or public dissemination. Those people aren't making the decisions on where to route the order.

MR. SELIGMAN: Peter, can I just interrupt for one second? What you're saying is the options exchanges favor the NBBO, but on the issue as to whether or not there would be market identifiers there is a split?

MR. QUICK: 4 to 1 for eliminating.

MR. McNELIS: You said 4 to 4.

MR. QUICK: 4 to 1. I'm sorry.

MR. SELIGMAN: Okay. Now, when you say 4 to 1, it is 4 in favor of market identifiers or 4 opposed to market identifiers?

MR. QUICK: Four opposed to market identifiers.

MR. SELIGMAN: And the reason for the opposition, as you understand it?

MR. QUICK: I would have to have that exchange speak for themselves.

MR. MEYER: I could try and just, kind of, objectively state those who are opposed to a market identifier I think believe first, at Peter just said, that for those who would use an NBBO service a market identifier isn't critical because those are the customers who don't make the order routing decision.

It's the broker that makes the order routing decision, and he or she would see the full service that would have market identifier. If there were a market identifier, there's some risk that an exchange might want to be identified as the NBBO and therefore could increase the size by one contract to become the identified NBBO, which would have a counter-mitigating effect. You'd have more quotes than you otherwise would if that kind of game were played.

MR. SELIGMAN: As I understand this, though, excuse me if I sound a little bit crude in this, that normally would you viewed as aggressive competitive behavior, which we normally like, but the reason for the hesitation is because of capacity concerns?

MR. MEYER: The combination of a negative impact on capacity, if there were that kind of aggressive competitive behavior that we normally like, and the fact that this wouldn't preclude -- indeed, the exchanges would be expected to continue to aggressively compete in their quotes and would be identified in terms of price and size in the full data stream, which goes to those persons that are responsible for making order routing decisions, and that's where the competition is meaningful.

MR. SELIGMAN: Peter, I interrupted you. Sorry.

MR. QUICK: With regard to the cabinet trading, the only downside to that is a lack of transparency for the inactive series, and that would be a result that would be negative for that. But we think the quote mitigation benefits outweigh that fault.

MR. SELIGMAN: Let me turn to Joel Greenberg, and then I'll come to Andy.

MR. GREENBERG: Thank you. Just for point of clarification, Susquehanna, I guess, is the largest market maker in the options world today, so obviously these issues are important to us.

I want to touch on a few point, one that Charlie just made in terms of the electronic arbitrages. That is a large driver of the need for a ver