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U.S. Securities and Exchange Commission

SECURITIES AND EXCHANGE COMMISSION

(Release No. 34-47838; File No. SR-PCX-2002-36)

May 13, 2003

Self-Regulatory Organizations; Order Approving Proposed Rule Change and Amendment No. 1 Thereto and Notice of Filing and Order Granting Accelerated Approval to Amendments No. 2 and 3 to the Proposed Rule Change by the Pacific Exchange, Inc. Relating to the Exchange's New Trading Platform for Options, PCX Plus

I. Introduction

On June 27, 2002, the Pacific Exchange, Inc. ("PCX" or "Exchange") filed with the Securities and Exchange Commission ("Commission" or "SEC"), pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 ("Act"),1 and Rule 19b-4 thereunder,2 a proposed rule change to adopt new rules for the implementation of its new trading platform for options, PCX Plus. The PCX's proposal also includes new rules on priority and allocations of orders, rule changes to permit options Market Makers3 to conduct their trading activities from locations away from the trading floor, and proposed system changes to accommodate new order handling procedures and automated trade processing. On November 6, 2002, the PCX filed Amendment No. 1 to the proposed rule change.4 The proposed rule change and Amendment No. 1 were published for comment in the Federal Register on November 18, 2002.5 The Commission received four comment letters with respect to the proposal and Amendment No. 1.6 On April 9, 2003, the PCX filed Amendment No. 2 to the proposed rule change.7 On April 16, 2003, the PCX filed Amendment No. 3 to the proposed rule change, withdrew Amendment No. 3 on April 22, 2003, and refiled Amendment No. 3 on April 22, 2003.8 This order approves the proposed rule change and Amendment No. 1; grants accelerated approval to Amendments No. 2 and 3 to the proposed rule change; and solicits comments from interested persons on Amendments No. 2 and 3.

II. Description of the Proposal

The Exchange has designed a new trading platform for options, PCX Plus. This new hybrid model combines the features of traditional floor-based markets and new electronic trading systems, while preserving a single marketplace with a single book. It allows PCX members to trade as Market Makers from locations away from the trading floor. For those options designated for trading on PCX Plus, the proposal replaces the PCX's current priority rules with new ones and expands upon the Exchange's current trading rules by permitting the entry of eligible orders of all account types into the Exchange's Consolidated Book,9 including public customer, Market Maker, and broker-dealer orders. The new trading platform will also accommodate independent quotations from numerous market participants. In addition, the Exchange represents that PCX Plus provides intermarket price protection and would operate in a manner consistent with the Options Intermarket Linkage Plan ("Linkage Plan").10

Under the PCX's proposal, orders would be allocated to Market Makers on a "size pro rata" basis. This formula would reward larger-sized bids and offers with greater participation in trades. In addition, the proposal would grant significant trade participation rights to market participants who are first to improve the PCX quote. Under this proposed rule change, a member who improves the quote and stands alone at that price for three seconds would receive First Improved Quote ("FIQ") status. Those with FIQ status would be guaranteed, at least, the greater of: (1) 40% of the next order(s) to buy or sell the same series (for a minimum of 20 contracts), or (2) the total size that it would receive pursuant to a size pro rata allocation. Market Makers must establish the best bid or offer ("BBO") or quote at the BBO to participate in automated trades.

The proposed new PCX Plus structure would involve four types of Market Makers on the Exchange.11 Lead Market Makers ("LMMs") would continue to provide two-sided markets throughout the trading day, while conducting their trading activities on the trading floor of the Exchange.12 Remote Market Makers ("RMMs") would be permitted to enter quotes and effect trades from off-site locations and to select their appointed issues. RMMs would be required to provide two-sided quotations in each issue in which they are appointed during 60% of the time the Exchange is open for trading. Floor Market Makers ("FMMs"), who are registered Market Makers with basic obligations on the Options Floor, would continue to trade as they do today and would supply independently generated Quotes with Size.13 Members would also be permitted to act as Supplemental Market Makers ("SMMs"), who would be provided with tools that allow them to add liquidity at the same price that is then being disseminated by the LMM.

Under the proposal, LMMs would be eligible to receive up to 40% in guaranteed participation on trades occurring at their disseminated markets. Members would also be entitled to receive up to 40% trade participation if they maintain FIQ status. Although members may receive more than 40% participation by virtue of a pro rata allocation, no member would be eligible to receive more than 40% participation as a guarantee by rule. LLMs would be entitled only to the greater of their 40% guaranteed participation or their size pro rata allocation, subject to the size of the LMM's disseminated size.14 The proposal is also designed to limit firms interacting with their customers' orders to receiving no more than a 40% share of such orders before the orders are exposed to further competition. Finally, no member would be allocated option contracts in excess of their expressed trading interest.

The proposal would allow available trading interest on the Exchange to be aggregated by price and size. Currently, only orders for the accounts of public customers are eligible to be represented in the PCX order book. Under the proposal, orders for all account types - including public customer, Firm, Market Maker and Non-Member Market Maker - may be represented in the Consolidated Book, along with Quotes with Size of PCX Market Makers (which would be entered for handling as if they were orders). Public customer orders displayed at the best price would continue to receive first priority on the Exchange.15 In addition, all classes of market makers will have the same ability to access information about the depth and size of quotes and orders on PCX Plus.16

Market and marketable limit orders routed electronically to PCX Plus would receive immediate executions against bids and offers in the Consolidated Book, unless a specified condition applies, in which case the order (or a portion of it) would be routed to a Floor Broker Hand Held Terminal for execution. The proposal also establishes new procedures for Market Makers' trading interest that interact electronically with orders in the Consolidated Book. In such situations, a Market Maker who initiates a transaction would be limited to 40% of the available customer contracts at the execution price or the Market Maker's size pro rata share, whichever amount is greater. The Market Maker would then be eligible to trade the remaining option contracts at the execution price once other Crowd Participants17 have had an opportunity to participate.

While the proposal is intended to further automate options trading on the Exchange, the Exchange represents that the proposed new system would continue to facilitate open outcry trading as currently practiced today, particularly for large transactions and executions of complex orders and contingency orders. When an order is entered by phone or re-routed to a Hand Held Terminal for execution, a Floor Broker would represent it at the appropriate trading post and would be afforded priority first to public customer interest in the Consolidated Book, then to bids or offers in the trading crowd, and finally to any Firm or Market Maker interest in the Consolidated Book.18

The Exchange proposes to phase in the use of PCX Plus in particular issues, while simultaneously phasing out the current Auto-Ex "wheel" functionality. During the phase-in period, the Exchange represents that it would have two sets of trading rules in operation, each applying to a different set of option issues traded on the Exchange. PCX represents that PCX Plus will be implemented gradually on an issue-by-issue basis beginning on December 15, 2003, and will become completely operative and applicable to all options issues by June 30, 2004.19

For a more detailed description of the specific proposed amendments to PCX's rules, see the Section II.A.1.b. ("Summary of Proposed Changes to PCX's Rules") in the Notice of the Proposal.20

III. Description of Amendments No. 2 and 3 to the Proposal

In Amendments No. 2 and 3, the PCX proposed changes to the proposed PCX Plus rules to address specific questions and concerns raised by the Comment Letters and by Commission staff.

A. Automated Opening Rotation Process

The Exchange proposes to modify PCX Rule 6.64(d) to clarify how the automated opening rotation would work in PCX Plus and to add PCX Rule 6.64, Commentary .02 to codify the procedure for determining a single price opening for option issues designated for trading on PCX Plus. The proposed automated opening rotations used by PCX Plus would differ from those currently used on the Trading Floor in the following respects: (1) there would be no "manual" openings as provided in current PCX Rule 6.64(b); (2) all account types (including orders for the accounts of broker-dealers and Market Maker Quotes with Size) would be eligible to participate in the opening; (3) the concept of an "imbalance threshold" (as described in current Rule PCX 6.64(c)(2)(D)) would no longer apply; and (4) there would be an electronic Requests for Quotes ("RFQ") process when the opening price cannot be determined within certain parameters. The manner in which the opening rotation would operate is described below.

1. Establishing a Market for the Opening Rotation

Opening rotations for options designated for trading on PCX Plus would be conducted at the commencement of each trading day using the process described in proposed PCX Rule 6.64(d). In Amendment No. 2, PCX proposes to modify the proposal to specify that the PCX Plus system would accept market and limit orders and Quotes with Size for inclusion in the opening rotation process ("Rotation Process") up until the Rotation Process is initiated in that option series. PCX further clarifies in Amendment No. 2 that market orders would have priority over limit orders during the Rotation Process and any open orders residing in the Consolidated Book from the previous trading session would be included in the Rotation Process. As set forth in the Notice of Proposal, contingency orders (except for "opening only" orders) will not participate in the Rotation Process.21 Amendment No. 2 also clarifies that after the primary market for the underlying security disseminates the opening trade or the opening quote, the related option series would be opened automatically based on the following principles and procedures set forth in the Notice of Proposal.

First, PCX Plus would verify that a Quote with Size has been received from the LMM before a series is eligible for the Rotation Process. Second, PCX Plus would determine a single price at which a particular option series would be opened, as provided in proposed Commentary .02 and as described below. Third, orders in the PCX Plus system would maintain priority over Market Maker bids and offers that are not being represented in the Consolidated Book as Quotes with Size. Orders in the PCX Plus system would be matched up with one another, based on the priority rules as set forth in proposed Rule 6.76(a); provided, however, that (1) Market Maker Quotes with Size would have priority over orders for Firms, Market Makers, and Non-Member Market Makers during the Rotation Process and (2) orders for the accounts of Firms, Market Makers, and Non-Member Market Makers would be executed based on price/time priority during the Rotation Process. Finally, following the opening, any unexecuted contracts would be represented as bids and offers on the Exchange.

2. Determining the Opening Price for Option Issues Designated for Trading on PCX Plus

In Amendments No. 2 and 3, PCX proposes to add Commentary .02 to PCX Rule 6.64 to establish the process by which PCX Plus would automatically determine a single price at which a particular option series would be opened. The opening price is that price at which the maximum number of contracts may be executed within the established market. The opening price would always be on or between the bid and offer established by the Rotation Process. If there were two or more prices at which the maximum number of contracts are executable within the established market, then the opening price would be the midpoint of the available prices. If, however, the midpoint of the available prices is not consistent with the minimum price variation ("MPV"),22 the opening price would be determined as follows: (1) at the next higher (lower) price that is consistent with the MPV if that price is closer to the midpoint than the next lower (higher) price that is consistent with the MPV; (2) if the next higher and lower prices that are consistent with the MPV are equidistant from the midpoint, at the next higher or lower price consistent with the MPV that leaves the least residual customer limit order volume;23 or (3) if the next higher and lower prices consistent with the MPV are equidistant from the midpoint price and leave the same residual customer limit order volume, at the price that the next MPV greater than the midpoint price.24

To illustrate how the PCX proposes to establish the opening price, assume that the established market is 6.00-6.50 and that the maximum number of options contracts that could be matched is 250 contracts at prices on or between 6.10 and 6.40. Since the resulting midpoint price of 6.25 represents a price increment other than an eligible MPV permitted under the Exchange's rules, the PCX Plus system will select the eligible MPV that is closest to the 6.25 midpoint which, in this case, is either 6.20 or 6.30. Since the midpoint at the MPV is equidistant (i.e., 0.05) from both the higher and lower prices, the opening price will be set at the price that will result in the least trading on the customer limit orders residing in the Consolidated Book. If the customer limit order volume is the same amount for both the higher and lower prices, then the opening price will be set at the nearest MPV that is greater than the midpoint which, in this example, would be 6.30.

In the event that the opening price cannot be determined within the range of 75% of the lowest Quote with Size bid and 125% of the highest Quote with Size offer, the PCX proposes that the PCX Plus system would initiate an RFQ process as follows: First, an RFQ would be sent to all Crowd Participants. The RFQ would indicate the series and the total sell (buy) interest at the lowest Quote with Size bid (highest Quote with Size offer), if insufficient bids (offers) have been submitted. Second, all opening eligible bids and offers would continue to be accepted during the RFQ period for inclusion in the opening transaction calculation. At the conclusion of the RFQ period, the Rotation Process would determine an opening price pursuant to proposed subsection (b) of Commentary .02 to proposed PCX Rule 6.64(d). Third, if the Rotation Process cannot be completed after the first RFQ, a second RFQ would be disseminated. Fourth, if the Rotation Process cannot be completed following the second RFQ period, a third, expanded, RFQ would be disseminated to all Crowd Participants and any other Market Makers logged on to the system. PCX proposes that the expanded RFQ would include: (1) the series; (2) the volume representing the total sell (buy) interest at the lowest Quote with Size bid (highest Quote with Size offer), if insufficient bids (offers) have been submitted; and (3) the side of the market with the imbalance. Finally, if the Rotation Process cannot be completed following the third RFQ period, an alert would be generated to Exchange staff. No additional RFQs would be disseminated. The Rotation Process would attempt to open the series every 30 seconds until it can be successfully completed.

B. Appointment of RMMs

In Amendment No. 2, the Exchange proposes to add a new proposed subsection (h)25 to PCX Rule 6.35 to allow Member Firms26 who own or lease multiple seats to have an equal number of primary appointments available to them as would an individual that owns or leases the same number of seats. Under proposed PCX Rule 6.35(h), if a Member Firm has two or more Nominees27 that are registered as RMMs, then the number of seats held in the name of such RMMs may be aggregated for the purpose of determining the number of options issues eligible for primary appointment pursuant to proposed PCX Rule 6.35(g)(2). The distribution of the option issues as primary appointments for each RMM would be at the discretion of the Member Firm; however, an RMM would be prohibited from concurrently trading or quoting the same option issue as an RMM who is a Nominee for the same Member Firm. Additionally, for purposes of PCX Rule 6.35, the primary appointment would apply collectively to the Member Firm (subject to the approval of the Options Allocation Committee), rather than to each Nominee registered as a RMM.

The PCX believes that the proposed new subsection (h) to PCX Rule 6.35 is consistent with current membership rules as each RMM that performs market-making activities on behalf of the Member Firm would have to be assigned a membership in order to trade on PCX Plus. In addition, each RMM would have to be registered and properly qualified pursuant to current PCX Rule 6.33.

C. Restriction on the Entry of Two-Sided Quotations

Under proposed PCX Rule 6.37(h)(5), as published in the Notice of the Proposal, RMMs would be required to trade at least 75% of their average daily trading volume per quarter in issues included in their primary appointments. RMMs would be permitted to trade up to 25% of their quarterly contract volume in option issues that are not included within their primary appointments. In Amendment No. 2, the Exchange proposes to amend its proposal to include a provision that would restrict RMMs from entering two-sided quotations in option issues that are not included within their primary appointments. However, RMMs would be permitted to enter single-sided quotes28 and multiple orders to buy and sell the same option series. PCX believes that such restriction is necessary to ensure the proper performance of the PCX Plus system and to prevent RMMs from circumventing the spirit and intent of limiting the number of option issues per seat as set forth in proposed PCX Rule 6.35(g)(2).

D. LMM Trade Allocation Methodology

The Exchange proposes to amend proposed PCX Rule 6.76(a)(2)(C) concerning the methodology used to allocate trades to LMMs. As discussed in the Notice of the Proposal, LMMs in options trading in PCX Plus would be guaranteed an allocation up to 40% of the incoming trading interest on trades occurring at their disseminated markets. The LMM's 40% participation would apply to the quantity remaining after all public customer orders and quotes with FIQ status, if any, have first been executed.29 In addition, if there were contracts remaining to be executed, the remaining portion of the LMM's bid or offer would have participated in the "size pro rata" allocation, as provided in proposed PCX Rule 6.76(a)(4). Thus, LMMs would have received both a 40% guaranteed participation and a size pro rata allocation.

In response to the Phlx Letter, which argued that the proposed trade allocation methodology would provide LMMs with a disproportionate share of the incoming order flow, PCX proposes in Amendment No. 2 to eliminate proposed PCX Rule 6.76(a)(2)(C)(iv) and proposes to amend proposed PCX Rule 6.76(a)(2)(C)(iii) so that LMMs would receive an allocation representing the greater of their 40% guaranteed participation or their size pro rata allocation, but no greater than the size of the LMM's disseminated size.30

E. Obvious Error and Trade Nullification/Price Adjustment Rules

In a separate rule filing, the Exchange proposes to adopt new rules that would allow it to either adjust or nullify a transaction in circumstances where a member or its customer has made an error and the price of the execution is "obviously" not correct.31 The proposed rules will contain objective standards regarding when a transaction was clearly the result of an "obvious error," under what circumstances a trade would be adjusted or nullified, and to what price a trade would be adjusted if adjustment were appropriate under the circumstances. The Exchange represents that its obvious error and trade nullification/price adjustment rules applicable to PCX Plus will be based upon the rules that the Commission ultimately approves in File No. SR-PCX-2002-01, and not the existing Price Adjustment rules.32 The Exchange further represents that it will not implement PCX Plus before File No. SR-PCX-2002-10 has been approved by the Commission.

F. System Phase-In and Applicability of Rules

In response to the request of Commission staff, PCX proposes to amend proposed PCX Rule 6.90(b) to clarify the application of trading rules in option issues traded on PCX Plus during the phase-in period. During the phase-in period, PCX would have two sets of trading rules in operation, each applying to a different set of option issues traded on the Exchange. Accordingly, PCX estimates that the rules applicable to PCX Plus would be implemented gradually on an issue-by-issue basis beginning on December 15, 2003, and would become completely operative and applicable to all options issues by June 30, 2004. At that time, the rules relating to PCX Plus would supercede existing rules that are inapplicable to the new trading environment.33 The PCX represents that the purpose of the gradual rollout schedule is to give PCX and its members the opportunity to observe and gain experience with the new system and to give PCX the opportunity to make any adjustments and changes to the system (in consultation with and approval by the Commission), if and when necessary.

G. Prevention of the Misuse of Material, Non-Public Information

In Amendment No. 2, PCX represents that PCX Rule 2.6(e) (Prevention of the Misuse of Material, Non-Public Information) would apply to members trading on PCX Plus. PCX believes that PCX Rule 2.6(e) would require a PCX Market Maker to maintain information barriers (that are reasonably designed to prevent the misuse of material, non-public information by such member) with any affiliates that may act as a specialist or market maker in any security underlying the options for which the PCX member acts as a Market Maker.

H. Maximum Order Size Eligibility

As discussed in the Notice of the Proposal, proposed PCX Rule 6.76 provides that the maximum size of an inbound order (the "Maximum Order Size") that may be eligible for execution on PCX Plus will be established by the LMM in the issue, subject to the approval of two Floor Officials, whose approval must be further ratified by the Options Floor Trading Committee. In Amendment No. 2, the Exchange proposes to modify this provision to require approval of the LMM's initial determination of the Maximum Order Size by the Options Floor Trading Committee. In addition, the Exchange proposed to add the following text: "Any request by the LMM for changes to the Maximum Order Size must be accompanied by a verified statement indicating the business reason for the change and the estimated duration of such change. Such requests must be approved by two Floor Officials, whose approval must be further ratified by the Options Floor Trading Committee." Furthermore, in Amendment No. 2, PCX proposes to add language to proposed PCX Rule 6.76 to prohibit a LMM from requesting changes to the Maximum Order Size in order to manipulate the operation of PCX Plus or for any anti-competitive purposes.

The Exchange believes that the proposed amendment to proposed PCX Rule 6.76 addresses the competitive concerns raised by the Commission staff and is consistent with the terms and spirit of the Commission's Order.34

I. Linkage Plan

The Commission staff requested the Exchange to clarify the application of the definition

of "Eligible Market Maker," as that term is used in the Linkage Plan35 and in PCX Rule 6.92. In this regard, for purposes of the Linkage Plan, PCX represents in Amendment No. 2 that a PCX Market Maker would be considered an Eligible Market Maker if the PCX Market Maker is logged on to the PCX Plus system and provides continuous two-sided quotations (or, in the case of a SMM, the size of its quotation) through an electronic interface to the PCX Plus System.

J. Quoting Obligations of SMMs and FMMs

The quoting obligations of SMMs and FMMs are set forth in proposed PCX Rule 6.37(g)(3) and (4), respectively. In Amendment No. 2, the Exchange proposes to modify these proposed rules to clarify that when the aforementioned Market Makers are present in the trading crowd, they would be required to provide quotations on PCX Plus through an electronic interface with the Exchange, but would be permitted to also provide quotations by public outcry. In addition, whenever a Floor Broker represents an order in the trading crowd and calls for a market in a particular options series, each SMM and FMM present at the trading post would be obligated to vocalize a two-sided, legal-width market (pursuant to PCX Rule 6.37(b)(1)).

The Exchange believes that this proposed amendment to proposed PCX Rule 6.37 will ensure that SMMs and FMMs meet their affirmative obligations and be entitled to receive special margin treatment by assisting the LMM in maintaining a fair and orderly market.

K. Suspension of the PCX Plus System

In the Notice of the Proposal, proposed PCX Rule 6.90(g) included provisions regarding the suspension of the PCX Plus system in the event of any disruption or malfunction in the use or operation of system, as well as any other unusual market conditions not involving a system malfunction. In Amendment No. 2, the Exchange proposes to amend proposed PCX Rule 6.90(g) as follows:

First, the Exchange proposes to eliminate that portion of the text in proposed Rule 6.90(g)(1) that refers to the declaration of a "fast market" by two Floor Officials. The Exchange believes that the deleted phrase "declare a fast market" is inapplicable given its market structure and trading system. The PCX Plus system enables Market Makers to set parameters establishing the amount of their quotation size that would be available for execution against inbound interest, with the system automatically executing such orders according to these parameters. Consequently, when a system disruption or malfunction occurs but the Exchange is able to process and disseminate quotes accurately, any orders received by the Exchange would be routed to Floor Broker Hand Held Terminals for representation in the trading crowd. In such circumstances, Market Maker bids and offers would continue to be firm pursuant to PCX Rule 6.86 and SEC Rule 11Ac1-1 under the Act. Regular trading procedures would be resumed by the Exchange when two Floor Officials determine that the disruption or malfunction is corrected.

Second, the Exchange proposes to add language to proposed PCX Rule 6.90(g)(1) to clarify that those orders that are routed to Floor Broker Hand Held Terminals for manual representation during a system disruption or malfunction would be executed pursuant to the order execution and priority principles set forth in proposed PCX Rule 6.76(d).

Finally, the Exchange proposes to eliminate proposed PCX Rule 6.90(g)(2), which relates to other unusual market conditions not involving a system malfunction, because it is superfluous. The Exchange believes that under any circumstance where a fair and orderly market cannot be maintained, the trading halt guidelines set forth in current PCX Rule 6.65 will be followed. Trading may be resumed whenever two Floor Officials determine that a fair and orderly market may be maintained. The Exchange also proposes to make a conforming change to PCX Rule 6.28(c)(6) by eliminating that portion of the text that refers to the suspension of the PCX Plus system during fast markets and unusual market conditions, as this provision is no longer applicable.

L. Applicability of Automated System Access Privileges ("ASAP") Memberships

ASAP Memberships are governed by current PCX Rule 1.14, which allows certain qualified broker-dealers ("ASAP Members") electronic access to the Exchange's automated options trading system, Pacific Options Exchange Trading System ("POETS"), as well as any other systems approved by the PCX's Board of Governors. In Amendment No. 2, PCX represents that an ASAP Membership cannot be utilized: (1) to effect trades via PCX Plus, or (2) by a member to act as a RMM.

M. Miscellaneous Changes

Finally, in Amendment No. 2, the PCX proposes the following technical and miscellaneous changes:

  1. PCX Rule 6.52 - The Exchange proposes to change the text of proposed PCX Rule 6.52(a) to clarify that, for those option issues designated for trading on PCX Plus, limit orders for the accounts of public customers, broker-dealers, and Market Makers, and Quotes with Size of Market Makers will be eligible for placement in the Consolidated Book. In option issues not designated for trading on PCX Plus, the Exchange proposes to retain the provisions contained in current PCX Rule 6.52(a) and (c),36 which would be renumbered as subsections (b) and (d), respectively (current PCX Rule 6.52(b) would be renumbered as subsection (c)).

  2. Proposed PCX Rule 6.76(b)(2)(B) - The Exchange also proposes to change the text in proposed PCX Rule 6.76(b)(2)(B) to clarify that the provisions in paragraph (B) would apply to a Firm or Non-Member Market Maker order that was entered one minute or more before the inbound order.

  3. Proposed PCX Rule 6.90(e) - Proposed PCX Rule 6.90(e) sets forth the practices that would be prohibited on PCX Plus. The Exchange represents that the requirements of this rule would apply only to members and member organizations that have direct electronic access to PCX Plus and are responsible for the execution and settlement of any resulting trades.

IV. Solicitation of Comments

Interested persons are invited to submit written data, views, and arguments concerning Amendments No. 2 and 3 to the proposed rule change, including whether Amendments No. 2 and 3 are consistent with the Act. Persons making written submissions should file six copies thereof with the Secretary, Securities and Exchange Commission, 450 Fifth Street, NW, Washington, DC 20549-0609. Copies of the submission, all subsequent amendments, all written statements with respect to the proposed rule change that are filed with the Commission, and all written communications relating to the proposed rule change between the Commission and any person, other than those that may be withheld from the public in accordance with the provisions of 5 U.S.C. 552, will be available for inspection and copying in the Commission's Public Reference Room. Copies of such filing will also be available for inspection and copying at the principal office of the PCX. All submissions should refer to File No. SR-PCX-2002-36 and should be submitted by [insert date 21 days from the date of publication].

V. Discussion

After careful review, the Commission finds that the proposed rule change, as amended, is consistent with the Act and the rules and regulations promulgated thereunder applicable to a national securities exchange and, in particular, with the requirements of Section 6(b) of the Act.37 Specifically, the Commission finds that approval of the proposed rule change, as amended, is consistent with Section 6(b)(5) of the Act38 in that it is designed to facilitate transactions in securities; to prevent fraudulent and manipulative acts and practices; to promote just and equitable principles of trade; to foster cooperation and coordination with persons engaged in regulating, clearing, settling, processing information with respect to, and facilitating transactions in securities; to remove impediments to and perfect the mechanism of a free and open market and a national market system; and in general, to protect investors and the public interest.

A. Obligations of Market Makers

The PCX Plus proposal contemplates four types of Maker Makers: LMMs, RMMs, FMMs, and SMMs. LMMs are required to provide continuous two-sided quotes that meet certain spread parameters throughout the trading day in each of their appointed issues. LMMs must enter their quotations through an automated quotation system, but may also provide quotations by public outcry.

RMMs enter quotations from off-floor locations through an electronic interface with the Exchange.39 Further, because PCX Rule 6.37(h)(1) states that all rules applicable to market makers apply to RMMs unless otherwise provided, PCX Rule 6.37(a) - (c) would apply to RMMs.40 In addition, RMMs are required to provide continuous two-sided quotations that meet certain quote spread parameters in each of their appointed issues 60% of the time that the Exchange is open for options trading, and may not enter two-sided quotes in options issues that are not included in the RMMs primary appointment. RMMs could, however, enter single-sided quotes and multiple orders to buy and sell the same option series in issues outside their primary appointment.

FMMs would be physically located in the trading crowd, and like RMMs, would be required to provide two-sided quotations that meet certain quote spread parameters through an auto-quoting device when present in the trading crowd. FMMs would also be obligated to vocalize a two-sided legal-width market whenever a floor broker enters the trading crowd.

Finally, when present in the trading crowd, SMMs would be required to provide the size of their quotations at the LMM's bid or offer through an electronic interface device. Also, like FMMs, SMMs would be obligated to vocalize a two-sided, legal-width market whenever a floor broker enters the trading crowd.

In addition, all Market Makers must trade at least 75% of their average daily trading volume per quarter in issues included in their primary appointment.41 All Market Makers, except RMMs, must also execute at least 60% of their transactions in-person.

Market Makers receive certain benefits for carrying out their duties. For example, a lender may extend credit to a broker-dealer without regard to the restrictions in Regulation T of the Board of Governors of the Federal Reserve system if the credit is to be used to finance the broker-dealer's activities as a specialist or market maker on a national securities exchange.42 The Commission believes that a Market Maker must have an affirmative obligation to hold itself out as willing to buy and sell options for its own account on a regular or continuous basis to justify this favorable treatment. In this regard, the Commission believes that PCX's rules impose such affirmative obligations on PCX Plus Market Makers.

B. Priority and Allocation

Under the proposal, the best priced bids and offers have priority over worse priced bids and offers. The Commission believes that the capability that PCX Plus provides to market makers to independently submit their quotes and then reward market makers with better quotes through this priority rule should substantially enhance incentives to quote competitively by providing market participants that improve the quote with an allocation of the resulting trade.43

In addition, bids and offers for public customers would get first priority over other bids or offers at the same price. If there is more than one highest bid or lowest offer for a public customer, the bids/offers would be ranked based on time priority. Non-customer orders and Quotes with Size would be allocated (after any LMM or FIQ guarantees, discussed below) on a size pro rata basis.

1. LMM Guarantee

PCX Rule 6.82 currently provides LMMs with a 40% participation right in transactions occurring at their disseminated bids and/or offers in their allocated issues. PCX Plus rules would also guarantee to the LMM 40% of the portion of an order traded at the LMM's quote that remains after the execution of all public customer orders and quotes with FIQ status. The LMM, however, would be entitled to its size pro rata allocation, if it were greater than the allocation it would receive under the LMM guarantee. In no event would the LMM be allocated contracts greater than its disseminated size.44

The Commission recognizes that a large guaranteed participation right will erode the incentive of other market makers to make competitive markets. Thus, the Commission must weigh whether a proposed participation right adequately balances the aim of rewarding the specialist or lead market maker with the aim of leaving a sizeable enough portion of the incoming order for the other market makers quoting at the same price.45 The Commission has previously taken the position that a trade participation right that does not exceed 40%, including any guaranteed percentage of the trade to be accorded to any other trade participant, is not inconsistent with the Act.46

2. FIQ Status

A non-customer order or Quote with Size that improves the best bid or offer on the Exchange will have FIQ status with respect to other bids or offers at the same price, unless it is matched or further improved within three seconds. An order or Quote with Size with FIQ status is entitled to trade against the greater of: (1) 40% of the next inbound electronic order or orders (after public customer orders have been executed), and (2) the total size that the order or Quote with Size with FIQ status would be entitled to receive pursuant to a size pro rata allocation. An order or Quote with Size with FIQ status would not be awarded a greater number of contracts than the size of the bid or offer with FIQ status. LLMs would be entitled only to the greater of their 40% guaranteed participation or the number of contracts the LMM would be entitled to receive for having FIQ status.47

The Phlx commented that because the "LMM need only match the price improving quote (as opposed to further improving it), LMMs likely would automate the matching process to ensure that no Market Maker that improves the quote would ever be able to maintain FIQ status."48 The Commission, however, does not believe that giving any preference to a Market Maker that first improves the quote is required by the Act. The Commission also believes that because all PCX Plus Market Makers will be able to independently and automatically generate quotes in all series and the will participate in the trade pursuant to the size pro rata allocation when they are at the best price, that even if the Market Maker loses its FIQ status because its quote is matched by another Market Maker or the LMM, the proposal substantially enhances incentives to quote competitively.49 Finally, although it is not unlawful for a market maker to take the prices offered by its competitors into account when setting its own prices, or to follow or copy prices of its competitors, such a decision must be a unilateral business judgment not intended to harass or punish a competitor for improving prices or otherwise acting competitively and not the result of collusive agreement. Accordingly, the Commission expects that the PCX will surveil its market to ensure that market makers are not coordinating quotes in PCX Plus or engaging in other anticompetitive conduct.

C. Linkage Obligations

Under PCX Rule 6.92(a), an "Eligible Market Maker" for purposes of the Linkage Plan is defined as "a market maker that: (i) is assigned to, and is providing two-sided quotations in, the Eligible Option Class; (ii) is logged on to participate in Auto-Ex in such Eligible Option Class;50 and (iii) is in compliance with the requirements of PCX Rule 6.95 (relating to limitation on principal order access)."51 PCX Market Makers would be considered to be Eligible Market Makers participating in the automated execution system for PCX Plus issues if they are logged on to the PCX Plus system and provide continuous two-sided quotes (or, with respect to SMMs, the size of their quote) through an electronic interface to the PCX Plus System. The Commission notes that to enable PCX to comply with its obligations under the Linkage Plan, PCX Rules 6.92 through 6.96 will apply to the PCX Plus system.52 The Commission also notes that PCX clarified in Amendment No. 2 that LLMs have responsibility for handling incoming Linkage orders. The Commission believes that these provisions should assure other Linkage Plan participants that the introduction of PCX Plus should not jeopardize the PCX's ability to satisfy its obligations under the Linkage Plan.

D. PCX Plus Executions

PCX Plus provides for automated executions and manual executions, as well as split-price executions and electronic book executions. The PCX represents that once PCX Plus is completely phased in, it will replace the PCX's current Auto-Ex "wheel" in its entirety.

Under PCX's current rules, an incoming eligible market or marketable limit order is automatically executed against an order in the PCX order book if there is an order representing the best price on the Exchange. Otherwise, the inbound order, or a portion of it, is executed by Market Makers in the trading crowd who are logged onto PCX's Auto-Ex "wheel."

Under PCX Plus, inbound marketable orders would be immediately executed against bids and offers in the Consolidated Book unless: (1) the size of the inbound order exceeds the PCX's established Maximum Order Size;53 or (2) the inbound order is for the account of a Firm or Non-Market Maker and more than 50% of the aggregate trading interest in the Consolidated Book at the execution price is for the account(s) of public customers. If either of these two conditions exist, the inbound order would be routed to a Floor Broker Hand Held Terminal for manual execution by the trading crowd based on priority rules in proposed PCX Rule 6.76(d).

If the inbound marketable order does not meet the two conditions above, the way it would be executed under the proposed rules would differ depending on whether a single firm or Non-Member Market Maker order at the best price on the Consolidated Book was entered less than one minute, or one minute or more, before the inbound order.54

The Commission notes that inbound electronic orders entered through PCX Plus will receive split-price execution at multiple price levels if there is insufficient trading interest at the best price in the Consolidated Book and the remainder of the order can be filled at one or more other price levels in the Consolidated Book. The Commission notes that, consistent with the Linkage Plan, under the PCX's proposed rules for PCX Plus, the order cannot be executed at a price that trades through another market, and so the balance of the order, if any, will either be placed on the Consolidated Book, or, if it locks or crosses the NBBO, routed to a Floor Broker Hand Held Terminal for manual execution.55

Under the PCX Plus system, Market Makers can receive electronic book executions when they enter a Quote with Size that initiates a trade with the Consolidated Book. The initiating Quote with Size will immediately execute against the Consolidated Book if the percentage of the transaction including public customer interest comprises no more than 40% of the transaction. If the public customer interest is more than 40% of the transaction, the initiating Quotes with Size will receive the greater of the 40% of the public customer interest in the Consolidated Book at that price, or the total size that the initiating Quote with Size would receive on a size pro rata allocation. The Crowd Participants will then have an opportunity to obtain the balance of the Consolidated Book on a size pro rata basis. The Commission notes that split-price executions will not occur with electronic book executions.

The Commission believes that the various types of PCX Plus executions, including automated and manual executions, as well as split-price and electronic book executions, should allow Market Makers and floor brokers to provide more efficient and immediate executions for inbound orders and Quotes with Size, subject to priority and allocation principles.

E. Section 11(a) of the Act

Under the proposed rules, public customer orders would always receive first priority. Therefore, the Commission believes that the PCX Plus system should comply with Section 11(a) of the Act.56

F. NBBO Step-Up Feature

The PCX proposes to incorporate an NBBO Step-Up feature for PCX Plus that is similar to its current PCX Rule 6.87(i), which allows PCX members logged on to Auto-Ex to step up to the NBBO in executing incoming orders. Under PCX Plus, an LMM in an issue would have the discretion, subject to the approval of two Floor Officials, to use the NBBO Step-Up feature to step up and execute orders at the NBBO price when the NBBO is better than the PCX's disseminated price. The LMM also would have the discretion to use the NBBO Step-Up feature to disseminate Quotes with Size at the NBBO, which would then be disseminated via Options Price Reporting Authority.

The Commission notes that the LMM in an issue may not use the NBBO Step-Up feature to match quotations of other PCX participants who are quoting at the NBBO.57 The Commission further notes that SMMs may choose, but are not required, to participate in the NBBO Step-Up feature.58 Thus, SMMs cannot be required to trade at a price that is not their own quote, unless they so choose. As a result, the Commission believes that the NBBO step-up feature will not undermine SMMs' incentives to add size to the LMM's quotes.

G. Crossing Rules

The PCX Plus proposal incorporates a new crossing mechanism that would permit the cross and execution of two orders with instructions to match the identified buy-side with the identified sell-side at a specified cross price.59 Under the crossing mechanism, a PCX Broker (defined as a member, member organization, or associated person who enters orders as agent for accounts other than for Market Makers) would enter certain terms of each cross order into PCX Plus for electronic execution. If the cross price entered is outside of the BBO, PCX Plus would reject the cross orders. If the cross price is between the BBO, the order designated by the PCX Broker as the side to be exposed to the market would be displayed to the other members for 30 seconds. The exposed order would also be sent to OPRA for public dissemination.60

The PCX proposal establishes certain prohibitions regarding cross orders to prevent internalization and to promote competition. Under the proposal, it would be a violation of PCX rules for a PCX Broker to be a party to any arrangement designed to circumvent proposed PCX Rule 6.76(c) by providing an opportunity for a public customer or a broker-dealer to execute against agency orders handled by the PCX Broker immediately upon their entry into PCX Plus. PCX Brokers also would not be permitted to execute as principal any orders they represent as agent unless: (1) agency orders are first exposed on the Exchange for at least 30 seconds; (2) the PCX Broker utilizes the crossing mechanism pursuant to proposed PCX Rule 6.76(c)(2); or (3) the PCX Broker executes the orders pursuant to PCX Rule 6.47 ("Crossing" Orders and

Stock/Option Orders). The Commission believes that these rules should promote intramarket price competition by providing market makers with a reasonable opportunity to compete for a significant percentage of the incoming order and, therefore, should protect investors and the public interest.

H. Integrated Market Making and Side-by-Side Trading

The PCX has indicated that PCX Rule 2.6(e), which governs the use of material, non-public information, would apply to members trading on PCX Plus. The PCX has represented that this rule would require a PCX Market Maker to maintain information barriers - that are reasonably designed to prevent the misuse of material, non-public information by such member - with any affiliates that may act as specialist or market maker in any security underlying the options for which the PCX member acts as a Market Maker. The Commission believes that the requirement that there be an information barrier between the PCX Market Maker and its affiliates with respect to transactions in the option and the underlying security serve to reduce the opportunity for unfair trading advantages or misuse of material, non-public information.

I. Prohibited Practices

The PCX proposal includes certain prohibited practices for PCX members entering orders through PCX Plus.61 The proposed prohibitions are similar to those under current PCX Rule 6.87(d).

PCX members would be prohibited from dividing up orders considered to be part of a single investment decision into small lots in order to stay within the Maximum Order Size established pursuant to PCX Rule 6.76. Multiple orders to trade the same option issue that are on the same side of the market, whether long or short, and multiple orders to trade the same options series entered within any 15-second period for the account of the same beneficial owner will be presumed to be based on a single investment decision. The Commission finds that the 15-second requirement as applicable to multiple orders for the same beneficial owner is consistent with the provisions of the Act and the rules and regulations thereunder. The Commission believes that fifteen seconds is a sufficient time period to allow Market Makers to change their quotations following an execution, while at the same time not unduly long as to place a burden on investors seeking to execute transactions on the Exchange. The Commission believes that this prohibition should prevent the splitting of orders on behalf of the same beneficial owner to meet PCX Plus eligibility, while providing a safe-harbor rule for multiple orders entered after the 15-second time period. The Exchange has represented and the Commission notes that the prohibition against splitting orders applies only to PCX members and member organizations that have direct electronic access to PCX Plus, and does not apply in any way to customers.

J. Suspension of PCX Plus

The PCX Plus proposal includes rules regarding the suspension of PCX Plus.62 Under the proposed PCX Plus rules, PCX Plus could be suspended in the event of any disruption or malfunction in the use or operation of the system by two Floor Officials. The Commission notes that if the PCX Plus system is suspended for any reason, the priority and allocation rules of PCX Plus set forth in PCX Rule 6.76(d) would apply.

K. Obvious Error

The Exchange represents that its obvious error and trade nullification/price adjustment rules applicable to PCX Plus will be based upon the rules that the Commission ultimately approves in File No. SR-PCX-2002-01, and not the existing Price Adjustment rules. Further, PCX represents that it will not implement PCX Plus until File No. SR-PCX-2002-01 has been approved by the Commission. Thus, the implementation of PCX Plus is contingent upon the Commission's approval of SR-PCX-2002-01.

VI. Accelerated Approval of Amendments No. 2 and 3

The Commission finds good cause for approving Amendments No. 2 and 3 to the proposed rule change prior to the thirtieth day after the amendments are published for comment in the Federal Register pursuant to Section 19(b)(2) of the Act.63 Amendment No. 2 addresses concerns raised in some of the Comment Letters,64 as well as issues and concerns raised by Commission staff. Amendment No. 3 clarifies proposed Commentary .02 of PCX Rule 6.64 regarding procedures for determining a single price opening for options issues designated for trading on PCX Plus. The Commission believes that the proposed changes in Amendments No. 2 and 3 are necessary to the proper functioning and implementation of PCX Plus, and therefore, believes that accelerated approval of Amendments No. 2 and 3 is appropriate.

VII. Conclusion

For the foregoing reasons, the Commission finds that the proposed rule change, as amended, is consistent with the Act and the rules and regulations thereunder applicable to a national securities exchange, and, in particular, with Section 6(b)(5) of the Act.65

IT IS THEREFORE ORDERED, pursuant to Section 19(b)(2) of the Act,66 that the proposed rule change (SR-PCX-2002-36) and Amendment No. 1 are approved, and that Amendments No. 2 and 3 thereto are approved on an accelerated basis.

For the Commission, by the Division of Market Regulation, pursuant to delegated authority.67

Margaret H. McFarland
Deputy Secretary

Attachment: Text of Proposed Rule


________________________
1 15 U.S.C. 78s(b)(1).
2 17 CFR 240.19b-4.
3 Proposed PCX Rule 6.32(a) (defines "Market Maker" as an individual who is registered with the Exchange for the purpose of making transactions as a dealer-specialist on the floor of the Exchange or, in the case of a Remote Marker Maker, through the facilities of the Exchange).
4 Amendment No. 1 replaced the PCX's original Rule 19b-4 filing in its entirety.
5 Securities Exchange Act Release No. 46803 (November 8, 2002), 67 FR 69580 ("Notice of the Proposal").
6 See letters to Jonathan G. Katz, Secretary, Commission, from Thomas Peterffy, Chairman, and David M. Battan, Vice President and General Counsel, Interactive Brokers Group LLC ("IB Group"), dated December 9, 2002 ("IB Group Letter"); Meyer S. Frucher, Chairman and Chief Executive Officer, Philadelphia Stock Exchange, Inc. ("Phlx"), dated December 9, 2002 ("Phlx Letter"); Thomas N. McManus, Executive Director and Counsel, Morgan Stanley & Co., Incorporated ("Morgan Stanley"), dated January 6, 2003 ("Morgan Stanley Letter"); and Gerald D. O'Connell, Associate Director, Susquehanna International Group, LLP ("Susquehanna"), dated January 8, 2003 ("Susquehanna Letter") (collectively, "Comment Letters").
7 See letter from Kathryn L. Beck, Senior Vice President, General Counsel, and Corporate Secretary, PCX, to Nancy J. Sanow, Assistant Director, Division of Market Regulation ("Division"), Commission, dated April 7, 2003 ("Amendment No. 2"). See Section III. of this order for a detailed description of Amendment No. 2.
8 See letter from Peter D. Bloom, Acting Managing Director, Regulatory Policy, PCX, to Deborah L. Flynn, Assistant Director, Division, Commission, dated April 14, 2003 ("Amendment No. 3"). The PCX withdrew Amendment No. 3 and refiled it on April 22, 2003, after making minor technical changes to the proposed rule text. See letter from Peter D. Bloom, Acting Managing Director, Regulatory Policy, PCX, to Deborah L. Flynn, Assistant Director, Division, Commission, dated April 21, 2003. In Amendment No. 3, PCX made clarifications to proposed Commentary .02 to PCX Rule 6.64 regarding the procedures for determining a single price opening for options issues designated for trading on PCX Plus.
9 See proposed PCX Rule 6.1(b)(37) (defining "Consolidated Book" as the Exchange's electronic book of limit orders for the accounts of public customers and broker-dealers, and Quotes with Size. All orders and Quotes with Size that are entered into the Consolidated Book will be ranked and maintained in accordance with the rules of priority as provided in proposed PCX Rule 6.76).
10 See Securities Exchange Act Release Nos. 43086 (July 28, 2000), 65 FR 48023 (August 4, 2000) (order approving the Linkage Plan submitted by American Stock Exchange LLC, Chicago Board Options Exchange, Inc. and International Securities Exchange, Inc.); 43574 (November 16, 2000), 65 FR 70850 (November 28, 2000) (order approving the PCX as participant in Options Intermarket Linkage Plan); and 43573 (November 16, 2000), 65 FR 70851 (November 28, 2000) (order approving Philadelphia Stock Exchange, Inc. as participant in the Linkage Plan).
11 See proposed PCX Rule 6.32(a).
12 LMMs will also be responsible for performing certain functions under the Linkage Plan. See supra note 10.
13 See proposed PCX Rule 6.1(b)(33) (which defines "Quote with Size" as a quotation to buy or sell a specific number of option contracts at a specific price that a Market Maker has entered into PCX Plus through an electronic interface).
14 See proposed PCX Rule 6.76(a)(2)(C)(iii).
15 Under the PCX's proposal, inbound orders are allocated based on the following priority sequence: public customer orders have first priority to trade against such orders; quotes with FIQ status have second priority (subject to a 40% cap); the portion of the order subject to LMM guaranteed participation will be allocated next; followed by any trading interest for the accounts of non-public customers. See proposed PCX Rule 6.76(a).
16 See proposed subsection (c) to PCX Rule 6.57.
17 See proposed PCX Rule 6.1(b)(38) (which defines "Crowd Participants" as the Market Makers appointed to an option issue under Rule 6.35, and any Floor Brokers actively representing orders at the best bid or offer on the Exchange for a particular option series.)
18 See proposed PCX Rule 6.76(d).
19 See Amendment No. 2, supra note 7.
20 See Notice of the Proposal, supra note 5. See also Amendment No. 2, supra note 7, which proposes additional amendments to some of those PCX rules.
21 PCX believes that the exclusion of these order types will simplify and facilitate the process for completing the opening. Market participants that desire to have such orders represented in the opening can choose not to impose the contingency until after the opening if they want to attempt to participate in the opening.
22 The Exchange's current MPV for option contracts quoted under $3 is $0.05 and for option contracts quoted at or above $3 is $0.10. See PCX Rule 6.72.
23 PCX believes that this opening match criterion is reasonable and is structured fairly by selecting an opening price that would leave the fewest resting customer orders in the Consolidated Book.
24 See Amendment No. 2, supra note 7 and Amendment No. 3, supra note 8.
25 Proposed Rule 6.35(h) is being renumbered as proposed PCX Rule 6.35(i).
26 A "Member Firm" means "a partnership, corporation, limited liability company or other organization in good standing who owns or leases a membership or upon whom a member has conferred privileges of membership pursuant to and in compliance with Article VIII of the PCX Constitution." See PCX Rule 1.1(j).
27 A "Nominee" means "a Member Firm which owns more than one membership may register such additional membership or memberships in the name of a nominee or nominees subject to such conditions and requirements as the Board of Governors may prescribe." See Article VIII, Section 2(a) of the PCX Constitution.
28 RMMs enter single-sided quotes directly into an interface with PCX Plus. RMMs would not be permitted, however, to stream quotes in such issues. RMMs also could enter orders through a proprietary brokerage terminal, which would be routed to a floor broker for representation. An RMM may choose to enter an order, rather than a single-sided quote, when the order is complex, is being entered on a contingency basis, or involves other discretion. Telephone call between Sonia Trocchio, Special Counsel, Division, Commission, and Pete Armstrong, Senior Vice President, Options Floor Operations, PCX on April 16, 2003.
29 Proposed PCX Rule 6.76(a)(2)(C)(ii).
30 The LMM's disseminated size would not include the size of any SMMs quoting at the LMM's disseminated price. Telephone call between Sonia Trocchio, Special Counsel, Division, Commission, and Pete Armstrong, Senior Vice President, Options Floor Operations, PCX on April 17, 2003.
31 See File No. SR-PCX-2002-01.
32 Telephone call between Deborah Flynn, Assistant Director, Division, Commission, and Kathryn Beck, Senior Vice President, General Counsel, and Corporate Secretary, PCX on April 14, 2003.
33 See proposed PCX Rule 6.90(b).
34 See Order Instituting Public Administrative Proceedings Pursuant to Section 19(h)(1) of the Act, Making Findings and Imposing Remedial Sanctions ("Settlement Order"). Securities Exchange Act Release No. 43268 (September 11, 2000) (File No. 3-10282).
35 See Linkage Plan, supra note 10, section 2(7) (definition of "Eligible Market Maker").
36 Current PCX Rule 6.52(c) describes the circumstances and procedures to be followed by Floor Brokers for the entry, cancellation and changes of orders held by the Order Book Official.
37 15 U.S.C. 78f(b). In approving this proposal, the Commission has considered the proposed rule's impact on efficiency, competition and capital formation. 15 U.S.C. 78c(f).
38 15 U.S.C. 78f(b)(5).
39 The Commission notes that, in Amendment No. 2, PCX represented that an ASAP Membership, governed by PCX Rule 1.14, cannot be used to effect trades via PCX Plus, or to act as a RMM. See Amendment No. 2, supra note 7.
40 PCX Rule 6.37(a) states that transactions of a market maker should constitute a course of dealings reasonably calculated to contribute to the maintenance of a fair and orderly market. PCX Rule 6.37(b) states, among other things, that a market maker is expected to engage, to a reasonable degree under the existing circumstances, in dealings for his own account when there is a lack of price continuity, a temporary disparity between the supply of and demand for a particular option contract, or a temporary distortion of the price relationships between option contracts of the same class. PCX Rule 6.37(c) sets forth the requirements for trading by a market maker in options classes to which the market maker is not appointed.
41 PCX represents that this 75% average daily trading volume requirement will apply to all PCX Market Makers pursuant to PCX Rule 6.35, Commentary .03. Telephone conversation between Kathryn Beck, Senior Vice President, General Counsel, and Corporate Secretary, PCX, and Sapna C. Patel, Attorney, Division, Commission, on April 10, 2003.
42 See 12 CFR 221.5(c)(6).
43 The Exchange has submitted the proposed rule change pursuant to subparagraph IV.B.h.(i)(aa) of the Commission's September 11, 2000 Order Instituting Public Administrative Proceedings Pursuant to Section 19(h)(1) of the Securities Exchange Act of 1934, Making Findings and Imposing Remedial Sanctions, which required the PCX (as well as other floor-based option market exchanges) to adopt new, or amend existing rules to substantially enhance incentives to quote competitively and substantially reduce disincentives to act competitively. See Settlement Order, supra note 34.
44 Proposed PCX Rule 6.76(a)(2)(C)(iii).
45 See Securities Exchange Act Release No. 43100 (July 31, 2000), 65 FR 48778, 48787-90 (August 9, 2000) ("Phlx 80/20 Proposal") (Commission requested comment on whether the proposal by the Phlx to establish an 80% specialist guarantee would be consistent with the Act).
46 See, e.g., Securities Exchange Act Release No. 45936 (May 15, 2002), 67 FR 36279, 26280 (May 23, 2002) (SR-CBOE-2002-10) (approving participation entitlements that range from 34 percent to 40 percent for the DPM providing the primary quote feed, depending on the total number of appointed market makers in the option); Securities Exchange Act Release No. 42835 (May 26, 2000), 65 FR 35683, 35685-66 (June 5, 2000) (SR-CBOE-99-10) (approving DPM guarantee for crossed orders that, when combined with the percentage crossed by the floor broker, cannot exceed 40% of the original order (after relevant public customer orders have been satisfied)); and Securities Exchange Act Release No. 42455 (February 24, 2000), 65 FR 11388, 11398 (March 2, 2000) (approving International Securities Exchange's application for registration as a national securities exchange, which contains a 40% participation right for facilitating EAMs); see also Phlx 80/20 Proposal, supra note 45.
47 See proposed PCX Rule 6.76(a)(3)(C).
48 See Phlx Letter, supra note 6.
49 Currently, a Market Maker that improves the quote would be able to participate in the resulting trade only if that Market Maker happens to be next on the Auto-Ex "wheel."
50 PCX represents that it will amend this rule to clarify that a market maker logged on to participate in PCX Plus would also satisfy the requirements of this provision. Telephone call between Kathryn L. Beck, Senior Vice President, PCX and Sonia Trocchio, Special Counsel, Division, Commission on April 8, 2003.
51 The Commission approved the Linkage Plan in July 2000. See supra note 10.
52 PCX represents that it will amend these rules, as necessary, to clarify their applicability to PCX Plus. Telephone call between Kathryn L. Beck, Senior Vice President, PCX and Sonia Trocchio, Special Counsel, Division, Commission on April 8, 2003.
53 Proposed PCX Rule 6.76(b)(1). The Maximum Order Size eligible for execution on PCX Plus will be established by the LLM in the issue, subject to approval of the Options Floor Committee.
54 Proposed PCX Rule 6.76(b)(2).
55 PCX Rule 6.76(b)(3).
56 15 U.S.C. 78k(a).
57 Proposed PCX Rule 6.76(b)(5)(B).
58 Proposed PCX Rule 6.76(b)(5).
59 Proposed PCX Rule 6.76(c). In addition, PCX Rule 6.94 prohibits crosses from occurring outside of the NBBO.
60 Telephone call between Sonia Trocchio, Special Counsel, Division, Commission, and Pete Armstrong, Senior Vice President, Options Floor Operations, PCX on April 16, 2003.
61 Proposed PCX Rule 6.90(e).
62 PCX Rule 6.90(g).
63 15 U.S.C. 78s(b)(2).
64 The Commission notes that two of the commenters, IB Group and Morgan Stanley, supported the PCX's proposal and urged the Commission to approve the proposal. The other two commenters, the Phlx and Susquehanna, raised concerns regarding the PCX's proposal. The Phlx's comments focused mainly on preferential treatment afforded to LMMs. As discussed above, the PCX addressed the concerns raised by the Phlx Letter and the Commission staff in Amendment No. 2. The Susquehanna Letter raised general concerns about the practice of internalization in the options markets, not limited to PCX's proposal, and asked the Commission to consider its policy against internalization in reviewing the PCX's proposed rules. See Comment Letters, supra note 6.
65 15 U.S.C. 78f(b)(5).
66 15 U.S.C. 78s(b)(2).
67 17 CFR 200.30-3(a)(12).



Attachment

Below is the text of the proposed rule change, File No. SR-PCX-2002-36, as amended. New language is underlined; deletions are in brackets (changes are from current PCX rules).

* * * * *

Rules of the Board of Governors
of the
Pacific Exchange, Inc.

* * * * *

Rule 4

General Rules

* * * * *

Trading Sessions

Rule 4.2. Unless otherwise ruled by the Board, the Exchange shall be open for the transaction of business daily except on Saturdays and Sundays. The hours at which trading sessions shall open and close shall be established by the Board.

Dealings upon the Exchange shall be limited to the hours during which the Exchange is open for the transaction of business. No member shall make any bid, offer or transaction upon the Floor or, in the case of a Remote Market Maker, through the facilities of the Exchange before the official opening of the Exchange and loans of securities may be made after those hours.

Commentary:

.01 The Board of Governors has resolved that transactions may be effected on the Options Floor of the Exchange and, in the case of a Remote Market Maker, through the

facilities of the Exchange until 1:02 p.m. for equity options and until 1:15 p.m. for index options each business day at which time no further transactions may be made.

.02 - No change.

* * * * *

Rule 6

Options Trading

¶4725 Applicability, Definitions and References

Rule 6.1(a) - No change.

(b) Definitions. The following terms as used in Rule 6 shall, unless the context otherwise indicates, have meanings herein specified:

    (1) - (5) - No change.

    (6) Exchange Option Transaction and Exchange Transaction-The term "Exchange option transaction" and the term "Exchange transaction," as used in Rules 6.6, 6.15, 6.22, 6.36, and 6.79 means a transaction effected on [the floor of] a national securities exchange which has qualified for participation in Options Clearing Corporation pursuant to the provisions of the By-Laws of Options Clearing Corporation, between members of such exchange or exchanges, for the purchase or sale of an option contract, or for the closing out of a long or short position in an option contract, and as used elsewhere in this Rule means a transaction effected on the [Floor of the] Exchange between Exchange members for the purchase or sale of an options contract, or for the closing out of a long or short position in an option contract.

    (7) - (32) - No change.

    (33) Quote with Size. The term "Quote with Size" means a quotation to buy or sell a specific number of option contracts at a specific price that a Market Maker has entered into PCX Plus through an electronic interface.

    (34) - Reserved.

    (35) Non-Member Market Maker. The term "Non-Member Market Maker" includes, but is not limited to, specialists, designated primary market makers, lead market makers, market makers, registered options traders, primary market makers and competitive market makers registered on an exchange other than the PCX.

    (36) Firm. The term "Firm" means a broker-dealer that is not registered as a dealer-specialist or market maker on a registered national securities exchange or association.

    (37) Consolidated Book. The term "Consolidated Book" means the Exchange's electronic book of limit orders for the accounts of Public Customers and broker-dealers, and Quotes with Size. All orders and Quotes with Size that are entered into the Book will be ranked and maintained in accordance with the rules of priority as provided in Rule 6.76.

    (38) Crowd Participants. The term "Crowd Participants" means the Market Makers appointed to an option issue under Rule 6.35, and any Floor Brokers actively representing orders at the best bid or offer on the Exchange for a particular option series.

(c) References.

    (1) - No change.

    (2) For purposes of the PCX rules, the term "Market Maker" includes Lead Market Makers, Remote Market Makers, Supplemental Market Makers, and Floor Market Makers, unless the context otherwise indicates.

(d) - (e) - No change.

* * * * *

MARKET MAKERS

¶4905 Market Maker Defined

Rule 6.32(a). A Market Maker is an individual who is registered with the Exchange for the purpose of making transactions as a dealer-specialist on the Floor of the Exchange or, in the case of a Remote Market Maker, through the facilities of the Exchange in accordance with the provisions of this subsection [Section]. Registered Market Makers are designated as specialists on the Exchange for all purposes under the Securities Exchange Act of 1934 and the Rules and Regulations thereunder. Except as provided in subsection (c) [Commentary .02] below, only transactions that are initiated on the Floor of the Exchange or executed through the facilities of the Exchange by a Remote Market Maker will [shall] count as Market Maker transactions for the purposes of Rule 6.32. A Market Maker on the Exchange must be either a Lead Market Maker, a Remote Market Maker, a Supplemental Market Maker, or a Floor Market Maker.

    (1) A Lead Market Maker is a registered Market Maker who makes transactions as dealer-specialist while on the Floor of the Exchange and who meets the qualification requirements of Rule 6.82(b).

    (2) A Remote Market Maker is an individual who is registered with the Exchange for the purpose of making transactions as dealer-specialist from a location off the Floor of the Exchange. A Remote Market Maker may also execute transactions while on the Floor of the Exchange. Transactions of Remote Market Makers that are executed through the facilities of the Exchange are deemed to be Market Maker transactions for purposes of Rule 6.32.

    (3) A Supplemental Market Maker is a registered Market Maker who makes transactions as dealer-specialist while on the Floor of the Exchange and who provides quotations: (A) manually, by public outcry; or (B) automatically, through an electronic interface device at the LMM's prevailing bid or offering price, with a size to be designated by the Supplemental Market Maker.

    (4) A Floor Market Maker is a registered Market Maker who makes transactions as a dealer-specialist while on the Floor of the Exchange and provides quotations: (A) manually, by public outcry, or (B) automatically through an auto-quoting device.

(b) [Com. .01] Market Makers and Floor Brokers effecting transactions as Market Makers are instructed that, except as specified in subsection (c) [Commentary .02] below, only transactions that are initiated on the Floor of the Exchange or, in the case of a Remote Market Maker, through the facilities of the Exchange by that person shall count as Market Maker transactions and be entitled to special margin treatment, pursuant to the net capital requirements of Rule 15c3-1 under the Securities Exchange Act of 1934 and Regulation T of the Board of Governors of the Federal Reserve system. Accordingly, any position established for the account of a Market Maker other than a Remote Market Maker which has been "entered from off the floor" must be placed in the Market Maker's investment account and be subject to applicable customer margin.

(c) [Com. .02] A Market Maker may enter opening orders from off the Floor of the Exchange and receive special margin treatment for such orders during any calendar quarter, provided that such Market Maker executes in person, and not through the use of orders, at least 80% of his or her total transactions during that calendar quarter. This provision, if applicable, shall supersede the 60% in-person requirement of Rule 6.37(d).[,] [Commentary .07.] In addition, the off-floor orders for which a Market Maker received market-maker treatment shall be consistent with a Market Maker's duty to maintain fair and orderly markets and in general shall be effected for the purpose of hedging, reducing the risk of, or rebalancing open positions of the Market Maker. Remote Market Makers may enter opening orders from off the Floor of the Exchange for execution by Floor Brokers and receive special margin treatment for them as long as the entry of such orders is consistent with the Remote Market Maker's duty to maintain fair and orderly markets and such orders are entered for the purpose of hedging, reducing the risk of, or rebalancing open positions of the Remote Market Maker.

(d) [Com. .03] A Market Maker, while on the floor, may enter a GTC order with a Floor Broker and still receive special margin treatment, as described in subsection (b) [Commentary .01] above. However, the order must be a limit order where the quantity cannot be increased or the limit changed. If the quantity is increased or the limit changed, the GTC order shall be treated as an order entered from off the floor. Likewise, limit orders to "buy and sell" in the same series, discretionary orders, and "market not-held" orders may not be handled on a GTC basis without being treated as orders [entered from off the floor.] subject to customer margin treatment.

(e) [Com .04] - No change.

[Commentary:]

    [.01] [Moved to New Rule 6.32(b)]

    [.02] [Moved to New Rule 6.32(c)]

    [.03] [Moved to New Rule 6.32(d)]

    [.04] [Moved to New Rule 6.32(e)]

* * * * *

¶4917 Trading by Members on the Floor

Rule 6.34. - No change.

Commentary:

.01 Floor Brokers' Use of the Book. Unless otherwise prohibited in this Rule or Rule 6.38 or Rule 6.52(a), a Floor Broker may enter an order for its proprietary account in the Consolidated Book for the purpose of liquidating a position resulting from a bona fide error made in the course of its floor brokerage business.1

* * * * *

¶4923 Appointment of Market Makers

Rule 6.35(a) - No change.

(b) - (f) - Reserved.

(g) Remote Market Makers.

    (1) Each Remote Market Maker must select a primary appointment as set forth in subsection (2), below. Remote Market Makers may select from among any option issues traded on the Exchange for inclusion in their primary appointments, which must be approved by the Options Allocation Committee. In considering the approval of the appointment of a Remote Market Maker in each security, the Options Allocation Committee will consider:

      (A) the financial resources available to the Remote Market Maker;

      (B) the Remote Market Maker's experience, expertise and past performance in making markets, including the Remote Market Maker's performance in other securities;

      (C) the Remote Market Maker's operational capability; and

      (D) the maintenance and enhancement of competition among Market Makers in each security in which they are appointed.

    (2) Except as provided in subsection (h), below, the following rules apply to the primary appointments of Remote Market Makers:

      (A) Remote Market Makers on a single seat may have up to 8 option issues within their primary appointments.

      (B) Remote Market Makers with 2 seats may have up to 18 option issues within their primary appointments.

      (C) Remote Market Makers with 3 seats may have up to 30 option issues within their primary appointments.

      (D) Remote Market Makers with 4 seats may have up to 44 option issues within their primary appointments.

      (E) Remote Market Makers with 5 seats may have up to 60 option issues within their primary appointments.

      (F) Remote Market Makers with 6 seats may have up to 78 option issues within their primary appointments.

      (G) Remote Market Makers with 7 seats may have up to 98 option issues within their primary appointments.

      (H) Remote Market Makers with 8 seats may have up to 120 option issues within their primary appointments.

    The Options Floor Trading Committee will determine uniform limits on the number of issues applicable to RMMs with more than 8 seats.

    (3) Remote Market Makers may change the option issues that are included in their primary appointments, subject to the approval of the Options Allocation Committee ("OAC"). Such requests must be made in a form and manner prescribed by the Exchange. In considering whether to approve Remote Market Makers' request to change their primary appointments, the OAC will consider the factors set forth in subsection (g)(1), above.

    (4) Remote Market Makers may withdraw from trading an option issue that is within their primary appointment by providing the Exchange with a three-business-day written notice of such withdrawal. Remote Market Makers who fail to give advance written notice of withdrawal to the Exchange may be subject to formal disciplinary action pursuant to Rule 10. Subsequent to withdrawal, the Remote Market Maker may not be re-appointed as a Remote Market Maker in that option issue for a period of one full calendar quarter.

    (5) The Exchange may suspend or terminate any appointment of a Remote Market Maker in one or more option issues under this Rule whenever, in the Exchange's judgment, the interests of a fair and orderly market are best served by such action.

    (6) A Remote Market Maker may seek review of any action taken by the Exchange pursuant to this subsection (g), including the denial of the appointment for, or the termination or suspension of, a Remote Market Maker's appointment in an option issue or issues, in accordance with Rule 10 or 11, as applicable.

(h) If a Member Firm has two or more Nominees that are registered as Remote Market Makers, then:

    (1) the number of seats held in the name of such Remote Market Makers may be aggregated for the purpose of determining the number of options issues eligible for primary appointment pursuant to subsection (g)(2) above;

    (2) the primary appointment applies to the Member Firm, subject to the approval of the Options Allocation Committee;

    (3) the distribution of the option issues within the primary appointments for each Remote Market Maker will be at the discretion of the Member Firm; and

    (4) at no time will a Remote Market Maker concurrently trade or quote the same option issue as a Remote Market Maker who is a Nominee for the same Member Firm.

(i) A Member Firm acting as an LMM firm may trade up to four issues as a Remote Market Maker. These four issues are not required to be located at posts that are contiguous with the existing primary appointments of the Member Firm's individual Members. The Lead Market Maker may enter quotations electronically in such issues from a location away from the trading post.

Commentary:

.01 - .05 - No change.

* * * * *

¶4929 Letters of Guarantee

Rule 6.36(a). Required of [e] Each [m] Member. No Market Maker may [shall] make any transaction on the floor of the Exchange or, in the case of a Remote Market Maker, through the facilities of the Exchange unless there is in effect a Letter of Guarantee which has been issued for such member by a Clearing Member and approved by the Options Clearing Corporation and the Exchange. A member may not have more than one such Letter in effect at the same time except for the purpose of facilitating the transfer of that member's Market Maker account from one Clearing Member to another or unless the Exchange determines otherwise.

(b) - (c) - No change.

Commentary:

.01 - No change.

* * * * *

¶4935 Obligations of Market Makers

Rule 6.37(a) - (c) - No change.

(d) In-Person Requirements for Market Makers (other than Remote Market Makers who are not present on the Trading Floor).2 [Reserved.] In order to meet the obligations of this rule, and in the interest of a fair and orderly market, an adequate number of Market Makers must be available throughout each trading session. In acknowledgement thereof, the following minimum in-person trading requirements shall be in effect: At least 60% of a Market Maker's transactions must be executed by the Market Maker in-person, while he is present on the Options Trading Floor of the Exchange. Orders executed for a Market Maker through a Floor Broker will not be credited toward the 60% requirement. A failure to comply with this 60% in-person trading requirement may result in a fine pursuant to Rule 10.13; however, if aggravating circumstances are present, formal disciplinary action may be taken pursuant to Rule 10.3.

In order to assure compliance with the spirit and intent of the 60% requirement, the Exchange may review each of the Market Maker's transactions used to meet the 60% requirement, so as to ensure that the Market Maker is not effecting numerous single or small-lot transactions during limited appearances on the floor of the Exchange, only to meet the technical requirements of the 60% requirement.

(e) - (f) - No change.

(g) Quoting Obligations of Market Makers.

    (1) Lead Market Makers. Lead Market Makers must provide continuous two-sided quotations throughout the trading day in each of their appointed issues. Such quotations must meet the legal quote width requirements of Rule 6.37(b). LMMs must also specify a size for each of their quotations applicable to:

      (A) orders for Public Customers; and

      (B) orders and Quotes with Size for broker-dealers.

    Lead Market Makers must enter their quotations through an automated quotation system with the Exchange, but may also provide quotations by public outcry.

    (2) Remote Market Makers. Remote Market Makers must provide continuous two-sided quotations in each issue in which they are appointed during 60% of all times during which the Exchange is open for options trading. Such quotations must meet the legal quote width requirements of Rule 6.37(b). In addition, Remote Market Makers must specify a size for each of their quotations applicable to:

      (A) orders for Public Customers; and

      (B) orders and Quotes with Size for broker-dealers.

    These obligations will apply to all of the Remote Market Maker's appointed issues collectively, rather than on an issue-by-issue basis. Compliance with this obligation will be determined on a per-calendar-quarter basis. Remote Market Makers must enter all of their quotations through an electronic interface with the Exchange. The public outcry requirements of Rule 6.73 do not apply to Remote Market Makers.

    (3) Supplemental Market Makers. When present in the Trading Crowd, Supplemental Market Makers must provide the size of their quotations for PCX Plus through an electronic interface with the Exchange, but may also provide quotations by public outcry. Whenever a Floor Broker enters the trading crowd and calls for a market in a particular option series, the Supplemental Market Maker will be obligated to vocalize a two-sided, legal-width market (pursuant to Rule 6.37(b)(1)). Any resulting transactions will count toward that Supplemental Market Maker's in-person requirement.

    (4) Floor Market Makers. When present in the Trading Crowd, Floor Market Makers must provide the price and size for their quotations for PCX Plus through an electronic interface with the Exchange, but may also provide quotations by public outcry. Whenever a Floor Broker enters the trading crowd and calls for a market in a particular option series, the Floor Market Maker will be obligated to vocalize a two-sided, legal-width market (pursuant to Rule 6.37(b)(1)). Any resulting transactions will count toward that Floor Market Maker's in-person requirement.

(h) Obligations of Remote Market Makers

    (1) All PCX Rules applicable to Market Makers will also apply to Remote Market Makers unless otherwise provided or unless the context clearly indicates otherwise. The following Rules do not apply to Remote Market Makers who are not present on the Trading Floor: Rule 6.2(b) - (f) and (h) (Admission to and Conduct on the Options Trading Floor); Rule 6.35(a) (Appointment of Market Makers); Rule 6.37(d) and Commentaries .03 and .05 (Obligations of Market Makers); Rule 6.53, Commentary .01 (Issuing a Call for Market Makers); Rule 6.66 (Order Identification); Rule 6.73 (Manner of Bidding and Offering); Rule 6.74 (Bid and Offers in Relation to Units of Trading); and Rule 6.100 (Evaluation of Options Trading Crowd Performance).

    (2) For purposes of the following Rules, Remote Market Makers are deemed not to be members of the trading crowd: Rule 6.8, Commentary .08(c)(2) (the firm facilitation exemption procedures relating to position limits); Rule 6.47(a) - (f) (Crossing Orders and Stock/Option Orders); and Rule 6.66 (trading crowd participants to whom order identification information must be provided).

    (3) Each Remote Market Maker must meet its quoting obligations as set forth in Rule 6.37(g). A failure to comply with the 60% quoting requirement may result in a fine pursuant to Rule 10.13; however, if aggravating circumstances are present, formal disciplinary action may be taken pursuant to Rule 10.4. The Exchange may consider exceptions to this quoting requirement based on demonstrated legal or regulatory requirements or other mitigating circumstances (e.g., excused leaves of absence, personal emergencies, or equipment problems).

    (4) A Remote Market Maker may be called upon by an Exchange official designated by the Board of Governors to submit a single quote or maintain continuous quotes in one or more series of an option issue to which the Remote Market Maker is appointed whenever, in the judgment of such official, it is necessary to do so in the interest of maintaining fair and orderly markets.

    (5) Remote Market Makers must trade at least 75% of their average daily trading volume per quarter in issues included in their primary appointments pursuant to Rule 6.35(g). Remote Market Makers may trade up to 25% of their quarterly contract volume in option issues that are not included within their primary appointments. Remote Market Makers may not enter two-sided quotations in option issues that are not included within their primary appointments.

    (6) If the Exchange finds any failure by a Remote Market Maker to engage in a course of dealings as specified in subsections (3) - (5) above, such Remote Market Maker will be subject to disciplinary action or suspension or revocation of registration by the Exchange in one or more of the option issues in which the Remote Market Maker holds a primary appointment. Nothing in this Rule will limit any other power of the Board of Governors under the Constitution, Rules, or procedures of the Exchange with respect to the registration of a Remote Market Maker or in respect to any violation by a Remote Market Maker of the provisions of this Rule.

    (7) Performance Standards. The Options Allocation Committee will periodically conduct an evaluation of Remote Market Makers to determine whether they have fulfilled performance standards relating to, among other things, quality of markets, competition among Market Makers, observance of ethical standards, and administrative factors. The Options Allocation Committee may consider any relevant information including, but not limited to, the results of a Remote Market Maker evaluation, trading data, a Remote Market Maker's regulatory history and such other factors and data as may be pertinent in the circumstances.

      (A) If the Options Allocation Committee finds any failure by a Remote Market Maker to meet minimum performance standards, the Options Allocation Committee may take the following actions, after written notice and after opportunity for hearing pursuant to Rule 11:

        (i) restriction of appointments to additional option issues in the Remote Market Maker's primary appointment;

        (ii) suspension, termination, or restriction of an appointment in one or more option issues; or

        (iii) suspension, termination, or restriction of the Remote Market Maker's registration in general.

      (B) If a Remote Market Maker's appointment in an option issue or issues has been terminated pursuant to this subsection (7), the Remote Market Maker may not be re-appointed as a Remote Market Maker in that option issue or issues for a period not to exceed six (6) months.

Commentary:

.01 - .02 - No change.

.03 (a) When a Market Maker other than a Remote Market Maker displays a market on the screen that [which] is the best market in that crowd, the Market Maker is obligated to ensure that its [to inform the Order Book Official when he leaves the crowd and request that his] market [be] is removed from the screen when the Market Maker leaves the crowd.

[(b)When a Market Maker provides a market, and later changes this market within a reasonable period of time, such Market Maker shall announce the new market to the crowd and the Order Book Official. A Market Maker who repeatedly violates this requirement will be subject to disciplinary action.]

.04 - .06 - No change.

[.07 In order to meet the obligations of this rule, and in the interest of a fair and orderly market, an adequate number of Market Makers must be available throughout each trading session. In acknowledgement thereof, the following minimum in-person trading requirements shall be in effect: At least 60% of a Market Maker's transactions must be executed by the Market Maker in-person, while he is present on the Options Trading Floor of the Exchange. Orders executed for a Market Maker through a Floor Broker will not be credited toward the 60% requirement. A failure to comply with this 60% in-person trading requirement may result in a fine pursuant to Rule 10.13; however, if aggravating circumstances are present, formal disciplinary action may be taken pursuant to Rule 10.3.]

[In order to assure compliance with the spirit and intent of the 60% requirement, the Exchange may review each of the Market Maker's transactions used to meet the 60% requirement, so as to ensure that the Market Maker is not effecting numerous single or small-lot transactions during limited appearances on the floor of the Exchange, only to meet the technical requirements of the 60% requirement.]3

.07 [.08] Leaves of Absence: In order to assure compliance with all applicable rules, regulations and guidelines, the Options Allocation Committee has provided the following procedures for granting leaves of absence to Market Makers:

    (a)[(1)]

    Market Makers may request leaves of absence when they plan to be away from the floor or, in the case of a Remote Market Maker, withdraw temporarily from entering quotations into the PCX Plus system, for periods in excess of two weeks during a calendar quarter.

    (b)[(2)] Requests for leaves of absence must be submitted in writing to the Exchange [Surveillance Department] prior to the commencement of the intended leave.

    (c)[(3)] While on leave, Market Makers will not be permitted to make opening transactions in Exchange listed options, in their Market Maker accounts, through the use of a Floor Brokers, except as provided in Rule 6.32(c)[, Commentary .01].

    (d)[(4)] - No change.

.08 [.09] - No change.

* * * * *

¶4941 Restriction on Acting as Market Maker and Floor Broker

Rule 6.38(a) Application

    (1) The restrictions in subsection (b) do not apply to Lead Market Makers who are performing the functions of a Floor Broker pursuant to Rule 6.82(h)(3).

    (2) Remote Market Makers that are trading from a location off the Floor are not eligible to perform the functions of Floor Brokers.

(b) Restrictions

    (1)[(a)] - No change.

    (2)[(b)] Members who act as both Market Makers and Floor Brokers whose quarterly total contract volume as a Market Maker exceeds that as a Floor Broker must obtain a [shall be given] Primary Appointment and comply with the terms of Rule 6.35 and Rule 6.37.

    (3) - (5)[(c) - (e)] - No change.

* * * * *

ORDER BOOK OFFICIALS

¶5003 Order Book Official Defined

Obligations for Orders

Rule 6.52(a). In option issues designated for trading on PCX Plus pursuant to Rule 6.90, limit orders for the accounts of Public Customers, broker-dealers and Market Makers will be eligible for representation in the Consolidated Book. In addition, Quotes with Size of Market Makers will be included in the Consolidated Book. Members submitting orders or Quotes with Size to the Order Book Official for execution or for entry into the Consolidated Book must comply with such format requirements as may be prescribed by the Exchange. There is no limit to the size of orders or quotes that may be entered into the Consolidated Book. The Exchange will determine whether any or all types of contingency orders (as defined in Rule 6.62(c)) will be eligible to be included in the Consolidated Book.

If an option issue has not been designated as eligible for trading on PCX Plus, then the provisions of subsections (b) through (d) below will apply.

(b) Acceptance. Order Book Officials will, for all options contracts of the class or classes assigned to them, accept and maintain a written record of orders that are placed in their custody. Such orders shall include limit orders (as defined in Rule 6.62) and such other orders as may be designated by the Options Floor Trading Committee. An Order Book Official will not accept orders of any other type or from any source other than a member. Only non-broker/dealer customer orders may be placed with an Order Book Official pursuant to this Rule. For the purposes of this Rule, the term "broker/dealer" includes foreign broker/dealers.

(c)[(b)] - No change.

(d)[(c)] - No change.

Commentary:

.01 - .05 - No change.

* * * * *

¶5039 Disclosure of Orders

Rule 6.57. Equal Access to Book Depth and Size.

(a) If an option issue has not been designated by the Exchange as eligible for trading on PCX Plus, the provisions of Rule 6.57(b) will apply. If an option issue has been designated as eligible for trading on PCX Plus, then the provisions of subsection (c), below, will apply.

(b) - No change.

(c) In option issues designated for trading on PCX Plus, all Crowd Participants (as defined in Rule 6.1(b)(38)) will be able to access at the same time the same information in regard to orders and Quotes with Size placed through PCX Plus.

* * * * *

¶5073 Trading Rotations

Rule 6.64(a). A "trading rotation" is [a series of very brief time periods during which bids, offers, and transactions in only a single, specified option contract may be made] a process by which trading is initiated in a specified options class. Two Floor Officials may direct that one or more trading rotations be employed on any business day to aid in producing a fair and orderly market. For each rotation so employed, two Floor Officials must specify the particular option contacts to be included and the sequence of such option contracts in the rotation. Two or more trading rotations may be employed simultaneously, if two Floor Officials so prescribe. Trading rotations may be employed at the opening and at the close of the Exchange each business day. Trading rotations, when held, will be conducted by the Order Book Official acting in such class of options. The rotations will be conducted in the following manner:

(b) - No change.

Automated Opening Rotations

(c) Automated Opening Rotations. The Exchange will designate option issues that are eligible for automated opening rotations pursuant to this Rule 6.64(c). The Exchange will also designate option issues that are eligible for automated opening rotations pursuant to Rule 6.64(d). If an option series has not been designated as eligible for automated opening rotations pursuant to Rule 6.64(d), and if that series is not opened automatically pursuant to Rule 6.64(c), then that series will be opened manually pursuant to Rule 6.64(b). [may employ automated opening rotations in designated series of options. All option series that are eligible for participation in the Automatic Opening Rotation will be opened automatically. Conversely, if an option series is not opened automatically pursuant to this Rule, then that series must be opened manually pursuant to applicable Exchange Rules. Automated Opening Rotations, when held, will be based upon the following procedures.]

    (1) - (2) - No change.

    (3) Automated Opening Rotations. Series eligible for the Automated Opening Rotation will be opened automatically based on the following principles and procedures:

      (A) The POETS system will determine a single price at which a particular option series will be opened, as provided in Commentary .01 [.03], below.

      (B) - (C) - No change.

    (4) - No change.

PCX Plus Automated Opening Rotations

(d) The following Rule 6.64(d) will apply to automated opening rotations in options designated for trading under PCX Plus, pursuant to Rule 6.90.

    (1) Establishing a Market for the Opening Rotation. The PCX Plus system will accept market and limit orders and Quotes with Size for inclusion in the opening rotation process ("Rotation Process") up until the Rotation Process is initiated in that option series. Contingency orders (except for "opening only" orders) will not participate in the Rotation Process. Market orders will have priority over limit orders during the Rotation Process. Any open orders residing in the Consolidated Book from the previous trading session will be included in the Rotation Process. After the primary market for the underlying security disseminates the opening trade or the opening quote, the related option series will be opened automatically based on the following principles and procedures:

      (A) PCX Plus will verify that a Quote with Size has been received from the LMM before a series is eligible for automated opening rotation.

      (B) PCX Plus will determine a single price at which a particular option series will be opened, as provided in Commentary .02, below.

      (C) Orders in the PCX Plus system will maintain priority over Market Maker bids and offers that are not being represented in the Consolidated Book as Quotes with Size. Orders in the PCX Plus system will be matched up with one another, based on the priority rules as set forth in Rule 6.76(a); provided, however, that:

        (i) Market Maker Quotes with Size will have priority over orders for Firms, Market Makers, and Non-Member Market Makers during the Automated Opening Rotation; and

        (ii) orders for the accounts of Firms, Market Makers, and Non-Member Market Makers will be executed based on price/time priority.

      (D) Following the opening, any unexecuted contracts will be represented as bids and offers on the Exchange.

(e) - (h) - [(d) - (g)] - No change.

Commentary:

.01 Determining the Opening Price for Option Issues Not Designated for Trading on PCX Plus [a Single Price Opening]. The appropriate price to be used in a single price opening on the Exchange is determined in the following manner: Once the trading crowd has established the bid and offering prices in a particular series, the Order Book Official will identify the number of contracts available to sell at the previously-established bid price and the number of contracts available to buy at the previously-established offering price.

(a) - (d) - No change.

.02 Determining the Opening Price for Option Issues Designated for Trading on PCX Plus. PCX Plus will determine a single price at which a particular option series will be opened. The opening price is that price at which the maximum number of contracts may be executed within the established market.

    (a) The opening price will always be on or between the bid and offer established by the Rotation Process.

    (b) If there are two or more prices at which the maximum number of contracts are executable within the established market, then the opening price will be the midpoint of the available prices. If, however, the midpoint of the available prices is not consistent with the minimum price variation ("MPV"), then the opening price will be determined as follows:

      (1) at the next higher (lower) price that is consistent with the MPV if that price is closer to the midpoint than the next lower (higher) price that is consistent with the MPV; or

      (2) if the next higher and lower prices that are consistent with the MPV are equidistant from the midpoint, then the opening price will be established at the next higher or lower price consistent with the MPV that leaves the least residual customer limit order volume; or

      (3) if the next higher and lower prices consistent with the MPV are equidistant from the midpoint price and leave equal residual customer limit order volume, then the opening will be determined at the next MPV that is greater than the midpoint price.

    (c) If the opening price cannot be determined within the range of 75% of the lowest Quote with Size bid and 125% of the highest Quote with Size offer, then PCX Plus will initiate a Request for Quote ("RFQ") process as follows:

      (1) An RFQ will be sent to all Crowd Participants (as defined in Rule 6.1(b)(38)). The RFQ will indicate the series and the total sell (buy) interest at the lowest Quote with Size bid (highest Quote with Size offer), if insufficient bids (offers) have been submitted.

      (2) All opening eligible bids and offers will continue to be accepted during the RFQ period for inclusion in the opening transaction calculation. At the conclusion of the RFQ period, the Rotation Process will determine an opening price pursuant to subsection (b) of this Commentary .02.

      (3) If the Rotation Process cannot be completed after the first RFQ, a second RFQ will be disseminated.

      (4) If the Rotation Process cannot be completed following the second RFQ period, a third, expanded, RFQ will be disseminated to all Crowd Participants and any other Market Makers logged on to the system. The expanded RFQ will include the series; the volume representing the total sell (buy) interest at the lowest Quote with Size bid (highest Quote with Size offer), if insufficient bids (offers) have been submitted; and the side of the market with the imbalance.

      (5) If the Rotation Process cannot be completed following the third RFQ period, an alert will be generated to Exchange staff. No additional RFQs will be disseminated. The Rotation Process will attempt to open the series every 30 seconds until it can be successfully completed.

.03 Pilot Program. The Automated Opening Rotation System set forth in Rule 6.64(c) is subject to a pilot program, which is set to expire on September 30, 2003.

* * * * *

¶5127 Manner of Bidding and Offering

Rule 6.73. To be effective, a bid or offer must either be represented electronically in the Consolidated Book or be made by public outcry at the trading post where the option is traded. [Bids and offers to be effective must be made at the post by public outcry, except that bids and offers made by the Order Book Official shall be effective if displayed in a visible manner in accordance with Rule 6.55.] All bids and offers shall be general ones and shall not be specified for acceptance by particular members.

Commentary:

.01 - No change.

* * * * *

¶5139 Priority [of Bids and Offers] and Order Allocation Procedures

Rule 6.75. Except as provided by Rule 6.76 below, the following rules of priority shall be observed with respect to bids and offers:

(a) - (c) - No change.

(d) Opening rotations. The following priority rules will apply when a manual opening rotation is employed pursuant to Rule 6.64(b):

    (1) - (3) - No change.

(e) - (f) - No change.

(g) - Reserved.

(h) Priority on Split Price Transactions.4

    (1) Purchase priority. If a member purchases one or more option contracts of a particular series at a particular price or prices, the member must, at the next lower price at which another member bids, have priority in purchasing up to the equivalent number of option contracts of the same series that the member purchased at the higher price or prices, provided that the member's bid is made promptly and continuously and that the purchase so effected represents the opposite side of a transaction with the same order or offer as the earlier purchase or purchases.

    (2) Sale priority. If a member sells one or more option contracts of a particular series at a particular price or prices, he shall, at the next higher price at which another member offers, have priority in selling up to the equivalent number of option contracts of the same series that he sold at the lower price or prices, provided that his offer is made promptly and that the sale so effected represents the opposite side of a transaction with the same order or bid as the earlier sale or sales.

    (3) Two or more members entitled to priority. If the bids or offers of two or more members are both entitled to priority in accordance with subsections (1) or (2), it shall be afforded them, insofar as practicable, on an equal basis.

    (4) The priority afforded by this rule is effective only insofar as it does not conflict with orders on the book of the Order Book Official as provided in Rule 6.75. Such orders on the book of the Order Book Official have precedence over members' orders at a particular price; orders on the book also have precedence over members' orders that are not superior in price by at least the MPV.

Commentary:

.01 - .04 - No change.

* * * * *

[¶5145] [Priority on Split Price Transactions]5

[Rule 6.76. (a). Purchase priority. If a member purchases one or more option contracts of a particular series at a particular price or prices, the member must, at the next lower price at which another member bids, have priority in purchasing up to the equivalent number of option contracts of the same series that the member purchased at the higher price or prices, provided that the member's bid is made promptly and continuously and that the purchase so effected represents the opposite side of a transaction with the same order or offer as the earlier purchase or purchases.]

[(b) Sale priority. If a member sells one or more option contracts of a particular series at a particular price or prices, he shall, at the next higher price at which another member offers, have priority in selling up to the equivalent number of option contracts of the same series that he sold at the lower price or prices, provided that his offer is made promptly and that the sale so effected represents the opposite side of a transaction with the same order or bid as the earlier sale or sales.]

[(c) Two or more members entitled to priority. If the bids or offers of two or more members are both entitled to priority in accordance with paragraph (a) or paragraph (b), it shall be afforded them, insofar as practicable, on a pro rata basis.]

[Commentary:]

[.01 The priority afforded by this rule is effective only insofar as it does not conflict with orders on the book of the Order Book Official as provided in Rule 6.75. Such orders on the book of the Order Book Official have precedence over members' orders at a particular price; orders on the book also have precedence over members' orders that are not superior in price by at least the MPV.]

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PCX Plus

Priority and Order Allocation Procedures

Rule 6.76. The rules of priority and order allocation procedures set forth in this Rule 6.76 will apply to option issues designated by the Exchange to be traded in PCX Plus. The maximum size of an inbound order that may be eligible for execution on PCX Plus pursuant to Rule 6.76(b) (the "Maximum Order Size") will be initially established by the LMM in the issue, subject to the approval of the Options Floor Trading Committee. Any request by the LMM for changes to the Maximum Order Size must be accompanied by a verified statement indicating the business reason for the change and the estimated duration of such change. Such requests must be approved by two Floor Officials, whose approval must be further ratified by the Options Floor Trading Committee. A LMM is prohibited from requesting changes to the Maximum Order Size in order to manipulate the operation of PCX Plus or for any anti-competitive purposes.

    (a) Priority and Allocation Procedures for Orders and Quotes with Size

      (1) Price Priority. The highest bid has priority over all other bids; and the lowest offer has priority over all other offers.

      (2) Multiple bids or offers at the same price are afforded priority based on account type and other principles, as set forth below.

        (A) Public Customer Orders. Bids and offers in the Consolidated Book for Public Customer accounts have first priority over other bids or offers at the same price. If there is more than one highest bid for a Public Customer account or more than one lowest offer for a Public Customer account, then such bids or offers, respectively, will be ranked based on time priority.

        (B) FIQ Status. Orders and Quotes with Size in the Consolidated Book with First Improved Quote ("FIQ") status, as provided in subsection (a)(3), below, have second priority over either bids or offers at the same price, but only for up to 40% of the order against which the order or Quote with Size that has FIQ status will be executed.

        (C) LMM Guaranteed Participation. Bids and offers in the Consolidated Book for the account of the LMM have third priority if the LMM is eligible to receive guaranteed participation on such bid or offer pursuant to Rule 6.82.

          (i) LMMs will not receive any portion of an inbound order if their bids or offers are not at the trade price.

          (ii) The LMM's guaranteed participation is expressed as a percentage of the remaining quantity after all Public Customer orders and quotes with FIQ status (to the extent of their 40% participation), if any, have first been executed.

          (iii) The LMM will be allocated a number of contracts equal to the greater of their guaranteed participation or their "size pro rata" allocation as provided in subsection (a)(4) below, but in either case, no greater than the size of the LMM's disseminated size.

        (D) Non-Customer Orders and Quotes with Size. Orders and Quotes with Size in the Consolidated Book for the accounts of non-customers (including Firms (as defined in Rule 6.1(b)(36)) and Market Makers) have last priority. If there is more than one highest bid or more than one lowest offer in the Consolidated Book for the account of a non-customer, then such bids or offers will be afforded priority on a "size pro rata" basis.

      (3) First Improved Quote ("FIQ") Status

        (A) A non-customer order or Quote with Size that improves the best bid or offer on the Exchange and that is disseminated via OPRA will have "FIQ status" with respect to other bids or offers at the same price, unless it has been matched or further improved within three seconds. If it is matched within three seconds, then no FIQ status will apply to that order or quote. If it is improved, then the order or Quote with Size that improved the previous price will have priority and will itself receive FIQ status. If a Member increases the size of a quote with FIQ status, the additional quantity will not be afforded FIQ status. If a Member decreases the size of a quote with FIQ status, that revised quote will retain FIQ status. For purposes of this Rule, orders and Quotes with Size may only be matched or improved through an electronic interface device.

        (B) Order Allocation Process for Participants with FIQ Status.

          (i) Once the available Public Customer interest in the Consolidated Book has been filled, an order or Quote with Size that has FIQ status will be entitled to trade against the greater of:

            (a) 40% of the next inbound electronic order or orders to buy or sell the same series; or

            (b) the total size to which the order or Quote with Size with FIQ status would receive pursuant to a size pro rata allocation.

          The 40% allocation will be applied to the quantity remaining after all Public Customer orders have first been executed. In addition, an order or Quote with Size with FIQ status will not be allocated a number of contracts greater than the size of the bid or offer with FIQ status.

        (ii) An order or Quote with Size will continue to maintain FIQ status until either:

          (a) the entire commitment size has been filled by the execution of a single inbound order;

          (b) a portion of the commitment size has been filled by the execution of a single inbound order and the number of contracts executed based on the applicable allocation method as set forth in subsection (B)(i) above is at least 20 contracts (e.g., FIQ status for 100 contracts will no longer apply once a Market Maker has been allocated 40 contracts based on an allocation of 40% of a single 100-contract order); or

          (c) a portion of the commitment size has been filled by the execution of multiple inbound orders and the aggregate number of contracts allocated as a result of such executions equals or exceeds 20 contracts (e.g., FIQ status for 100 contracts will no longer apply once a Market Maker has been allocated a total of 24 contracts based on three subsequent allocations of 8 contracts, each of which are based on allocations of 40% of 20 contracts).

      (C) An LMM's Quote with Size with FIQ status will receive an allocation representing the greater of:

        (i) the number of contracts to which the LMM would be entitled as guaranteed participation pursuant to subsection (a)(2)(C) above; or

        (ii) the number of contracts to which the LMM would be entitled for having FIQ status.

      (D) If a non-customer order or Quote with Size has FIQ status but a Public Customer order on the same side of the market is then entered with a price matching that non-customer's order or Quote with Size, the Public Customer order will gain priority over the non-customer's order or Quote with Size. In such circumstances, inbound orders will be allocated as follows:

        (i) the customer order will first be executed up to its designated size; and

        (ii) the non-customer order or Quote with Size with FIQ status will then be eligible to participate in the balance of the order pursuant to subsection (B) above.

    (4) Size Pro Rata Allocation

      (A) Orders subject to allocation on a "size pro rata" basis will be allocated based on the following formula:

      (Size of Order to be Allocated) x (Participant's Quote Size) = Size Pro Rata Allocation

      (Aggregated Quote Size)

      For example:

      200 contracts to be allocated among three Market Makers quoting with the following sizes:

      MM1100
      MM2200
      MM3500
      Aggregated Quote Size800

      MM1 receives (200/800) x (100) = 25 contracts
      MM2 receives (200/800) x (200) = 50 contracts
      MM3 receives (200/800) x (500) = 125 contracts

      (B) The pro rata share allocated to each participant in the pool will be rounded down to a whole number, if applicable. If there are residual contracts to be filled after the pro rata calculation has been completed, such contracts will be allocated, with no more than one contract per participant, in the following sequence:

        (i) The participant in the pool who has the largest fractional amount (based on the pro rata calculation) will receive the first contract, and each successive contract (if any) will be allocated to each subsequent participant who has the next largest fractional share.

        (ii) If the last residual contracts are to be allocated between two or more participants having the same fractional amount, then the participant with the largest initial quote size in the pro rata pool will be allocated the next contract. Each successive contract (if any) will be allocated in the same manner.

        (iii) If the last residual contracts are to be allocated between two or more participants with the same fractional amount and initial quote size, then the participant with the first time priority in the pro rata pool will be allocated the next contract. Each successive contract (if any) will be allocated in the same manner.

(b) PCX Plus Executions. This subsection (b) addresses situations in which orders or Quotes with Size are executed through PCX Plus.

    (1) An inbound order that is marketable will be immediately executed against bids and offers in the Consolidated Book, unless one of the following conditions applies:

      (A) the size of the inbound order exceeds the Maximum Order Size established pursuant to Rule 6.76; or

      (B) the inbound order is for the account of a Firm or Non-Member Market Maker and more than 50% of the aggregate trading interest in the Consolidated Book at the execution price is for the account (or accounts) of Public Customers.

    If the conditions specified in subsections (A) or (B) above apply, the order will be represented in the trading crowd pursuant to Rule 6.76(d).

    (2) An inbound order will be either fully or partially executed as follows:

      (A) If more than 40% of the size in the Consolidated Book is comprised of a single Firm or Non-Member Market Maker order at the price at which the inbound order would trade, and such Firm or Non-Member Market Maker order was entered less than one minute before the inbound order, then:

        (i) the inbound order will first be matched against all available Public Customer interest in the Consolidated Book;

        (ii) the inbound order, if not entirely filled, will then satisfy any available interest based on FIQ status and LMM guaranteed participation pursuant to Rule 6.76(a);

        (iii) the inbound order, if not entirely filled, will then match, on a size pro rata basis, with the interest of the Market Makers, Firms and Non-Member Market Makers in the Consolidated Book; provided that the size pro rata share interest of each individual Firm and each Non-Member Market Maker will be limited to 40% of the size of the remaining inbound order; and

        (iv) the balance of the order, if any, will then be routed to a Floor Broker Hand Held Terminal.

      (B) If the same conditions set forth in subsection (b)(2)(A) above apply but the Firm or Non-Member Market Maker order was entered one minute or more before the inbound order, then:

        (i) the inbound order will first be matched against all available Public Customer interest in the Consolidated Book;

        (ii) the inbound order, if not entirely filled, will then satisfy any available interest based on FIQ status and LMM guaranteed participation pursuant to Rule 6.76(a);

        (iii) the inbound order, if not entirely filled, will then match, on a size pro rata basis, with the interest of the Market Makers, Firms and Non-Member Market Makers in the Consolidated Book; provided that the size pro rata share interest of each individual Firm and each Non-Member Market Maker will be limited to 40% of the size of the remaining inbound order;

        (iv) the inbound order, if not entirely filled, will then match, on a size pro rata basis, with all other remaining volume in the Consolidated Book of Firms and Non-Member Market Makers who were previously limited to 40%; and

        (v) the balance of the order, if any, will then be either:

          (a) routed to a Floor Broker Hand Held Terminal in the case where the order locks or crosses the NBBO; or

          (b) executed at the next available price level based on split-price execution, as provided in subsection (b)(3), below.

      If neither of the conditions specified in subsections (a) or (b) apply, and the order is no longer marketable, then such order will be represented in the Consolidated Book.

    (3) Split-Price Executions. An inbound electronic order will receive an execution at multiple prices if there is some, but insufficient, trading interest at a price and the remainder of the order can be filled at one (or more) other prices based on available trading interest in the Consolidated Book. Orders will not be executed at a price that trades through another market. The balance of the order, if any, will be represented in the Consolidated Book, provided that if such order locks or crosses the NBBO, then the order will be routed to a Floor Broker Hand Held Terminal. This subsection (b)(3) will not apply to orders or Quotes with Size that are executed pursuant to Rules 6.76(b)(2)(A) and 6.76(b)(4).

    (4) Electronic Book Execution. This subsection addresses situations in which Market Makers interact electronically with orders in the Consolidated Book. When a Quote with Size from a Market Maker initiates a trade with the Consolidated Book (the "initiating Quote with Size"), an Electronic Book Execution will occur as follows.

      (A) The initiating Quote with Size will immediately execute against the Consolidated Book if the percentage of the transaction involving Public Customer interest (as represented in the Consolidated Book) would comprise no more than 40% of the transaction (e.g., if the initiating Quote with Size is for 20 contracts and the size in the Consolidated Book at the execution price is 50 contracts, six contracts of which are the Public Customer interest (6 ÷ 20 = 30%), then the initiating Quote with Size for 20 contracts will be executed in full).

      (B) If the initiating Quote with Size would effect a transaction against the Consolidated Book and the percentage of the transaction involving Public Customer interest would comprise more than 40% of the transaction, then the initiating Quote with Size will be processed as follows:

        (i) the Market Maker's initiating Quote with Size will receive an execution comprising the greater of:

          (a) 40% of the Public Customer interest in the Consolidated Book at that price; or

          (b) the total size to which the inbound initiating Quote with Size would receive pursuant to a size pro rata allocation.

        (ii) the balance of the Consolidated Book at that price will be displayed for three seconds (via a System Alert Message - SAM) to all "Crowd Participants" (as defined in Rule 6.1(b)(38)).

        (iii) the balance of the Public Customer interest in the Consolidated Book will then be allocated on size pro rata basis to all Crowd Participants, if any, who have entered bids or offers to trade at the execution price within the three seconds provided.

        (iv) after the Public Customer interest has been allocated, the initiating Quote with Size will match against all remaining interest in the Consolidated Book. If the initiating Quote with Size does not fill the Consolidated Book, then all Crowd Participants will be matched on a size pro rata basis with the remaining interest in the Consolidated Book at that price.

        (v) if the remaining Quotes with Size are executable at the next price level, they will be matched against the Consolidated Book on a size pro rata basis.

    (5) NBBO Step-Up.

      (A) The LMM in an issue may "Step-Up" and execute inbound orders at the NBBO price when the NBBO is better than the PCX's disseminated quote. Subject to the approval of two Floor Officials, the LMM will have sole discretion to determine whether the NBBO Step-Up feature:

        (i) will be engaged or disengaged;

        (ii) will be set to execute inbound orders when the NBBO is crossed or locked; and

        (iii) will be set to execute inbound orders at prices that are one or more trading increments better than the LMM's best bid or offer.

      (B) LMMs using the NBBO Step-Up feature may, at their discretion, disseminate Quotes with Size at the NBBO price when the NBBO price is better than the LMM's own disseminated price. If the LMM chooses to do so, then quotes at the NBBO will be disseminated via OPRA on the LMM's behalf. Such quotes will include the aggregate quotation size of the LMM and any Supplemental Market Makers who choose to participate in the NBBO Step-Up feature. LMMs may not use the NBBO Step-Up feature to match quotations of other PCX participants who are quoting at the NBBO. Accordingly, if another PCX participant enters an order or Quote with Size at the NBBO, then the LMM's original quote will prevail and the LMM's NBBO Step-Up quote will be removed from the PCX Plus system.

      (C) Inbound orders executed based on NBBO Step-Up will be allocated to Supplemental Market Makers who choose to participate in the NBBO Step-Up feature and the LMM on a size pro rata basis.

(c) Crossing Orders.

    (1) Definitions. For purposes of this Rule 6.76(c), the following terms will have the meanings herein specified.

      (A) "Cross Order" means two orders with instructions to match the identified buy-side with the identified sell-side at a specified price (the "Cross Price").

      (B) "Facilitation Order" means an order as defined in Rule 6.47(b).

      (C) "PCX Broker" means a Member, Member Organization or Associated Person who enters orders as agent for accounts other than for Market Makers.

      (D) "Exposed Order" means the buy or sell side of a Cross Order that has been designated by a PCX Broker as the side to be exposed to the market and that is eligible for execution against all trading interest. Public Customer orders will always be deemed to be the Exposed Order in a Cross Order. In the case of a Cross Order involving a non-customer on both the buy side and sell side, the PCX Broker must designate one side of the Cross Order as the Exposed Order.

      (E) "Shadow Order" means an order that is submitted by a PCX Broker to buy or sell a stated number of contracts at a specified price and that is to be executed in whole or in part against an Exposed Order. Any unexecuted portion of a Shadow Order will be canceled.

    (2) Crossing Mechanism. The Crossing Mechanism is a process by which a PCX Broker may facilitate orders or cross two orders. A Cross Order will be executed as follows:

      (A) A PCX Broker must enter into PCX Plus (the "System") the terms of each Cross Order to be executed electronically on the Exchange. The required terms include the terms of the order for a Public Customer or a broker dealer and the proposed Facilitation Order (or two orders to be crossed neither one of which is a Facilitation Order ("non-facilitation cross")), the proposed crossing price, the quantity of the order that the PCX Broker is willing to facilitate (in case of a facilitation cross), and an indication of which order is the Exposed Order. If the proposed Cross Price is outside the BBO at the time of order entry, the System will reject the Cross Order.

      (B) After accepting the Cross Order, the System will execute the Cross Order in the following sequence.

        (i) If the Cross Price is between the BBO:

          (a) The System will immediately display the Exposed Order's price and quantity for 30 seconds. During the 30-second exposure period, there will be no indication that the order is part of an impending cross. The System places the Shadow Order on hold and such order is not visible except to the PCX Broker that entered the Cross Order.

          (b) As long as the Exposed Order is the highest priority order at the best price, other Members and Member Organizations may trade against the Exposed Order during the exposure period. If at any time during the exposure period the Exposed Order is entirely filled, the System will cancel the remaining quantity of the Shadow Order and send the PCX Broker a message that the crossing transaction has been completed.

          (c) At the end of the exposure period, if the Exposed Order has not been entirely filled, but it is at the best price and has the highest priority, then the System will execute the remainder of the order against the Shadow Order. The System will then cancel the remainder of the Shadow Order and send the crossing firm a message that the crossing transaction has been completed.

          (d) At the end of the exposure period, if the Exposed Order has quantity remaining and it is not the highest priority order at the market, then the System will automatically cancel the remainder of the Exposed Order and the Shadow Order and will send the PCX Broker a message that the crossing transaction has been completed.

        (ii) If the Cross Price is at the BBO:

          (a) The Exposed Order will be matched at the displayed price against all pre-existing trading interest in the Consolidated Book with priority in accordance with Rule 6.76(a).

          (b) The remainder of the Exposed Order, if any, will be exposed at the limit price for 30 seconds. As long as the Exposed Order has the highest priority at the best price, other Members and Member Organizations may trade against the Exposed Order during the 30-second exposure period. If at any time during the exposure period, the Exposed Order is entirely filled, the System will cancel the remaining quantity of the Shadow Order and send the PCX Broker a message that the crossing transaction has been completed.

          (c) At the end of the exposure period, if the Exposed Order has not been entirely filled, but it is at the best price and has the highest priority, then the System will execute the remainder of the order against the Shadow Order. The System will then cancel the remainder of the Shadow Order and send the crossing firm a message that the crossing transaction has been completed.

          (d) At the end of the exposure period, if the Exposed Order has quantity remaining and it is not the highest priority order at the market, then the System will automatically cancel the remainder of the Exposed Order and the Shadow Order and send the PCX Broker a message that the crossing transaction has been completed.

    (3) Prohibited Conduct Related to Crossing Orders.

      (A) It will be a violation of Rule 6.76(c) for a PCX Broker to be a party to any arrangement designed to circumvent this Rule by providing an opportunity for a customer or a broker-dealer to execute against agency orders handled by the PCX Broker immediately upon their entry into the System.

      (B) PCX Brokers may not execute as principal orders they represent as agent unless:

        (i) agency orders are first exposed on the Exchange for at least 30 seconds;

        (ii) the PCX Broker utilizes the Crossing Mechanism pursuant to Rule 6.76(c)(2); or

        (iii) the PCX Broker executes the orders pursuant to Rule 6.47.

(d) Orders Executed Manually.

    (1) Floor Brokers manually representing orders in the trading crowd must comply with the order execution and priority principles set forth in Rule 6.75 and, in addition, with the following provisions establishing priority for bids and offers by account type:

      (A) Public Customer orders in the Consolidated Book have first priority. Multiple customer orders at the same price are ranked based on time priority.

      (B) Bids and offers of the members of the trading crowd have second priority. These bids and offers include those made by Market Makers and Floor Brokers (on behalf of orders they are representing).

      (C) Bids and Offers of broker-dealers (including Quotes with Size and orders of Market Makers) in the Consolidated Book have third priority. Multiple bids and offers of broker-dealers will be executed on a size pro rata basis pursuant to Rule 6.76(a).

    (2) Market Makers and Floor Brokers may trade with orders and Quotes with Size in the Consolidated Book by vocalizing a bid or offer in a particular series and effecting a trade with the Order Book Official.

Commentary:

.01 The provisions of Rule 6.90 will apply to transactions automatically executed pursuant to Rule 6.76(b), above.

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¶5169 Accommodation Transactions (Cabinet Trades)

Rule 6.80(a) Applicability. The Exchange will designate option issues that are eligible for cabinet trading pursuant to this Rule. If an option issue has not been designated as eligible for cabinet trading on PCX Plus, the provisions of Rule 6.80(b) will apply. If an option issue has been designated as eligible for cabinet trading on PCX Plus, then the provisions of subsection (c), below, will apply.

(b) Except as provided by subsection (c) below, the following provisions will apply to cabinet trading on the Exchange: [Trading under the following terms and conditions shall be available for all transactions in each series of option contracts open for trading on the Exchange:]

    (1) - (2) [(i) - (ii)] - No change.

    (3)[(iii)] Orders may be placed for customer, firm and Market Maker accounts, with priority based upon the sequence in which such orders are placed with the Order Book Official. The split-price priority provisions of Rule 6.75(h) [6.76] shall not apply.

    (4) - (6) [(iv) - (vi)] - No change.

[Commentary:]

(7) [.01] - No change.

(c) The following provisions of this subsection (c) will apply to option issues designated for cabinet trading on PCX Plus:

    (1) Cabinet trading under the following terms and conditions will be available in each series of option contracts open for trading on the Exchange.

    (2) Trading shall be conducted in accordance with other Exchange Rules except as otherwise provided herein.

    (3) Limit orders at a price of $1 per option contract must be placed on the Exchange in such form and manner as may be prescribed by the Exchange.

    (4) Orders for cabinet trading may be placed for the accounts of Public Customers, Firms, and Market Makers, with priority based upon the sequence in which such orders are placed on the Exchange.

    (5) Market Makers shall not be subject to the requirements of Rule 6.37 for orders placed pursuant to this Rule.

    (6) Members submitting opening orders priced at $1 per option contract must comply with the order entry procedures and format requirements as may be prescribed by the Exchange. Opening orders priced at $1 per option contract may be placed on the Exchange for execution only to the extent that the order book in Cabinet Trades contains unexecuted contract closing orders with which the opening orders immediately may be matched.

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[LEAD MARKET MAKERS]

¶5181 Lead Market Makers

Rule 6.82(a). General Provisions:

    (1) Lead Market Maker Defined. A Lead Market Maker ("LMM") is an individual or entity that has been deemed qualified by the Options Allocation Committee for the purpose of making transactions on the Options Floor of the Exchange in accordance with the provisions of Rule 6.82. Each LMM or nominee thereof must be registered with the Exchange as a Market Maker. Any member or member organization registered as a Market Maker with the Exchange is eligible to be qualified as an LMM. Remote Market Makers are not eligible to act as LMMs from a location off the trading floor.

    (2) - (3) - No change.

(b) - (h) - No change.

Commentary:

.01 - .03 - No change.

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¶ 5221 Firm Quotes

Rule 6.86(a) Definitions

    (1) - No change.

    (2) For purposes of this Rule and SEC Rule 11Ac1-1 as applied to the Exchange and its members, the term "Responsible Broker or Dealer" means that with respect to any bid or offer for any listed option made available by the Exchange to quotation vendors:[,]

      (A) in the case of option issues designated for trading on PCX Plus, the Lead Market Maker and any registered Market Makers who are quoting at the disseminated bid or offering price and who are constituting the trading crowd in such option series will collectively be the Responsible Broker or Dealer to the extent of the sizes of their respective bids and offers; or

      (B) for option issues not designated for trading on PCX Plus, the Lead Market Maker and any registered Market Makers constituting the trading crowd in such option series will collectively be the Responsible Broker or Dealer to the extent of the aggregate quotation size specified.

    (3) - No change.

(b) - (d) - No change.

Commentary:

.01 - .02 - No change.

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¶5231 Automatic Execution System

Rule 6.87(a) - No change.

(b) Eligible Orders. The Exchange will designate options issues that are eligible for execution on the Auto-Ex system pursuant to this Rule. Option issues that are not eligible for execution pursuant to Rule 6.87 will be eligible for execution pursuant to Rule 6.90. The following types of orders are eligible for execution on the Auto-Ex system:

    (1) - (7) - No change.

(c) - (p) - No change.

Commentary:

.01 - .08 - No change.

¶5232 Floor Broker Hand-Held Terminals

[Exchange Sponsored Hand-Held Terminals for Floor Brokers]

Rule 6.89(a). Exchange-Sponsored Hand-Held Terminals for Floor Brokers.

    (1) - No change.

    (2)[(b)] - No change.

(b) Proprietary Brokerage Order Routing Terminals.6

    (1) Members and Member Organizations ("Members") must obtain prior Exchange approval to use any brokerage order routing terminals ("Terminals") on the Options Floor of the Exchange. To request such approval, Members must submit a letter of application to the Exchange specifying the make, model number, functions and intended use of the equipment, and must also provide additional information upon the request of the Exchange. The format of any orders to be transmitted over the Terminals must also be pre-approved by the Exchange.

    (2) In considering the approval of an application, as well as whether a previously issued approval should be withdrawn, the Exchange will take into account such factor as the physical size of the Terminal; space available at the post where the Terminal is to be used; telecommunication, electrical and radio frequency requirements; Terminal characteristics and capacity; and any factors that the Exchange considers relevant in the interest of maintaining fair and orderly markets, the orderly and efficient conduct of Exchange business, the maintenance and enhancement of competition, the ability of the Exchange to conduct surveillance of the use of the Terminal and the business transmitted through it, the adequacy of applicable audit trails, and the ability of the Terminal to interface with other Exchange facilities.

    (3) Members must report to the Exchange every proposed material change in functionality of a Terminal and every proposed change in the use of a Terminal. Members must not implement any such proposed changes unless and until they been approved by the Exchange. Members must also promptly file with the Exchange supplements to their applications whenever the information currently on file becomes inaccurate or incomplete for any reason.

    (4) The following restrictions apply to Members' use of Terminals on the Options Floor:

      (A) Members may receive brokerage orders in the trading crowd via Terminals, but must represent such orders in the trading crowd by open outcry in a manner that is consistent with Exchange rules.

      (B) When a Member executes an order that was received over a Terminal, the Member must fill out and time stamp a trading ticket within one minute of the execution. Exchange rules on record keeping and trade reporting are unchanged.

      (C) Terminals may be used to receive brokerage orders only. Terminals may not be used to perform a market making function. No Member may knowingly use a Terminal on a regular and continuous basis to simultaneously represent orders to buy and sell option contracts in the same series for the account of the same beneficial holder. If the Exchange determines that a person or entity has been sending, on a regular and continuous basis, orders to simultaneously buy and sell option contracts in the same series for the account of the same beneficial holder, the Exchange may prohibit orders for the account of such person or entity from being sent through the Exchange's Member Firm Interface for such period of time as the Exchange deems appropriate. Any system used by a Member to operate a Terminal must be separate and distinct from any system that may be used by a Member or any person associated with a Member in connection with market making functions.

      (D) No Member or any person associated with a Member may use for the benefit of such Member or any person associated with such Member any information contained in any brokerage order in the Terminal system until that information has been disclosed to the trading crowd. Such use includes, without limitation, placing an order or making or changing a bid or offer on the Exchange or in any other securities or futures market.

    (5) The operation and use of all aspects of the Terminal and all orders entered through the Terminal are subject to inspection and audit by the Exchange at any time upon reasonable notice. Members must furnish to the Exchange such information concerning the Terminal as the Exchange may from time to time request upon reasonable notice, including without limitation an audit trail identifying transmission, receipt, entry, execution and reporting of all orders. For the purpose of this paragraph, a notice of at least twenty-four hours shall be deemed to be reasonable (however, shorter periods may be provided in appropriate circumstances).

    (6) Neither the Exchange nor its directors, officers, employees or agents will be liable to a Member, a Member's employees, a Member's customers or any other person for any loss, damage, cost, expense or liability arising from the installation, operation, relocation, use of, or inability to use a Terminal on the floor of the Exchange (including any failure, malfunction, delay, suspension, interruption or termination in connection therewith).

    (7) The Exchange may at any time determine to terminate all approvals for the installation and use by Members of Terminals on the floor of the Exchange or at particular trading posts, in which event such approvals will be deemed terminated on the 30th calendar day following the day on which the Exchange gives notice to such Member(s) of such termination of approval. Any Exchange decision to terminate its approval of the installation or use of Terminals on the Floor will be based on the factors set forth in subsection (2), above, and on whether the installation or use of Terminals violates any provisions set forth in this Rule. Members who incur costs in developing or implementing proprietary systems do so at their own risk. A Member's approval to use a Terminal may also be summarily terminated by the Exchange, once notice has been provided to the affected Member, if any statement by such Member in its application or any supplement thereto is inaccurate or incomplete, or if such Member has failed to comply with any provision of this Policy, or if the operation of the Terminal is causing operational difficulties on the floor of the Exchange, and the Member has failed to cure the same within seven calendar days following the giving of notice (or such shorter period of time as the Exchange may deem appropriate if it determines the circumstances have created a situation requiring a shortened cure period). Members must immediately stop using their Terminals and must remove such Terminals from the floor of the Exchange upon the termination of approval pursuant to this paragraph. Nothing in this paragraph will be construed as a waiver of or limitation upon whatever right a Member may otherwise have to seek appropriate relief pursuant to PSE Rule 11 in the event the Exchange terminates approval of a Member's Terminal pursuant to this paragraph.

[¶5233 ] [Proprietary Brokerage Order Routing Terminals]7

[Rule 6.90. (a) Members and Member Organizations ("Members") must obtain prior Exchange approval to use any brokerage order routing terminals ("Terminals") on the Options Floor of the Exchange. To request such approval, Members must submit a letter of application to the Exchange specifying the make, model number, functions and intended use of the equipment, and must also provide additional information upon the request of the Exchange. The format of any orders to be transmitted over the Terminals must also be pre-approved by the Exchange.]

[(b) In considering the approval of an application, as well as whether a previously issued approval should be withdrawn, the Exchange will take into account such factor as the physical size of the Terminal; space available at the post where the Terminal is to be used; telecommunication, electrical and radio frequency requirements; Terminal characteristics and capacity; and any factors that the Exchange considers relevant in the interest of maintaining fair and orderly markets, the orderly and efficient conduct of Exchange business, the maintenance and enhancement of competition, the ability of the Exchange to conduct surveillance of the use of the Terminal and the business transmitted through it, the adequacy of applicable audit trails, and the ability of the Terminal to interface with other Exchange facilities.]

[(c) Members must report to the Exchange every proposed material change in functionality of a Terminal and every proposed change in the use of a Terminal. Members must not implement any such proposed changes unless and until they been approved by the Exchange. Members must also promptly file with the Exchange supplements to their applications whenever the information currently on file becomes inaccurate or incomplete for any reason.]

[(d) The following restrictions apply to Members' use of Terminals on the Options Floor:

    (1) Members may receive brokerage orders in the trading crowd via Terminals, but must represent such orders in the trading crowd by open outcry in a manner that is consistent with Exchange rules.

    (2) When a Member executes an order that was received over a Terminal, the Member must fill out and time stamp a trading ticket within one minute of the execution. Exchange rules on record keeping and trade reporting are unchanged.

    (3) Terminals may be used to receive brokerage orders only. Terminals may not be used to perform a market making function. No Member may knowingly use a Terminal on a regular and continuous basis to simultaneously represent orders to buy and sell option contracts in the same series for the account of the same beneficial holder. If the Exchange determines that a person or entity has been sending, on a regular and continuous basis, orders to simultaneously buy and sell option contracts in the same series for the account of the same beneficial holder, the Exchange may prohibit orders for the account of such person or entity from being sent through the Exchange's Member Firm Interface for such period of time as the Exchange deems appropriate. Any system used by a Member to operate a Terminal must be separate and distinct from any system that may be used by a Member or any person associated with a Member in connection with market making functions.

    (4) No Member or any person associated with a Member may use for the benefit of such Member or any person associated with such Member any information contained in any brokerage order in the Terminal system until that information has been disclosed to the trading crowd. Such use includes, without limitation, placing an order or making or changing a bid or offer on the Exchange or in any other securities or futures market.]

[(e) The operation and use of all aspects of the Terminal and all orders entered through the Terminal are subject to inspection and audit by the Exchange at any time upon reasonable notice. Members must furnish to the Exchange such information concerning the Terminal as the Exchange may from time to time request upon reasonable notice, including without limitation an audit trail identifying transmission, receipt, entry, execution and reporting of all orders. For the purpose of this paragraph, a notice of at least twenty-four hours shall be deemed to be reasonable (however, shorter periods may be provided in appropriate circumstances).]

[(f) Neither the Exchange nor its directors, officers, employees or agents will be liable to a Member, a Member's employees, a Member's customers or any other person for any loss, damage, cost, expense or liability arising from the installation, operation, relocation, use of, or inability to use a Terminal on the floor of the Exchange (including any failure, malfunction, delay, suspension, interruption or termination in connection therewith).]

[(g) The Exchange may at any time determine to terminate all approvals for the installation and use by Members of Terminals on the floor of the Exchange or at particular trading posts, in which event such approvals will be deemed terminated on the 30th calendar day following the day on which the Exchange gives notice to such Member(s) of such termination of approval. Any Exchange decision to terminate its approval of the installation or use of Terminals on the Floor will be based on the factors set forth in Subsection (b), above, and on whether the installation or use of Terminals violates any provisions set forth in this Rule. Members who incur costs in developing or implementing proprietary systems do so at their own risk. A Member's approval to use a Terminal may also be summarily terminated by the Exchange, once notice has been provided to the affected Member, if any statement by such Member in its application or any supplement thereto is inaccurate or incomplete, or if such Member has failed to comply with any provision of this Policy, or if the operation of the Terminal is causing operational difficulties on the floor of the Exchange, and the Member has failed to cure the same within seven calendar days following the giving of notice (or such shorter period of time as the Exchange may deem appropriate if it determines the circumstances have created a situation requiring a shortened cure period). Members must immediately stop using their Terminals and must remove such Terminals from the floor of the Exchange upon the termination of approval pursuant to this paragraph. Nothing in this paragraph will be construed as a waiver of or limitation upon whatever right a Member may otherwise have to seek appropriate relief pursuant to PSE Rule 11 in the event the Exchange terminates approval of a Member's Terminal pursuant to this paragraph.]

* * * * *

PCX Plus

Rule 6.90(a). Generally, PCX Plus is the Exchange's electronic order delivery, execution and reporting system for designated option issues through which orders and Quotes with Size of members are consolidated for execution and/or display. This trading system includes the electronic communications network that enables registered Market Makers to enter orders/Quotes with Size and execute transactions from remote locations or the Trading Floor.

(b) System Phase-In and Applicability of Rules. The PCX estimates that the rules applicable to PCX Plus will be implemented gradually on an issue-by-issue basis beginning December 15, 2003, and will become completely operative and applicable to all options issues by June 30, 2004. At that time, the rules relating to PCX Plus will supercede existing rules that are inapplicable to the new trading environment.

(c) Definitions.8

    (1) The term "User" means any person or broker-dealer that obtains electronic access to PCX Plus through an Order Entry Firm.

    (2) The term "Order Entry Firm" means a member organization of the Exchange that is able to route orders to the Exchange.

(d) Obligations of Order Entry Firms. Order Entry Firms must:9

    (1) comply with all applicable PCX options trading rules and procedures;

    (2) provide written notice to all Users regarding the proper use of PCX Plus; and

    (3) maintain adequate procedures and controls that will permit the Order Entry Firm to effectively monitor and supervise the entry of electronic orders by all Users. Order Entry Firms must monitor and supervise the entry of orders by Users to prevent the prohibited practices set forth in subsection (e).

(e) Prohibited Practices. Prohibited practices include, but are not limited to, the following:10

    (1) Dividing an order involving a single investment decision into multiple smaller lots so as not to exceed the Maximum Order Size established pursuant to Rule 6.76.

      (A) Multiple orders to trade the same option issue that are on the same side of the market (whether short or long) and multiple orders to trade the same option series entered within any 15-second period for the account of the same beneficial owner will be presumed to be based on a single investment decision.

      (B) Multiple orders to trade the same option issue that are on the same side of the market (whether short or long) and multiple orders to trade the same option series entered outside of any 15-second period for the account of the same beneficial owner will be deemed to be separate investment decisions; provided, however, that no Order Entry Firm may divide up or permit an existing order to be divided up to make its parts eligible for execution pursuant to Rule 6.76(b).

    (2) Entering orders via PCX Plus to perform a market making function. No member or person associated with a member may use PCX Plus on a regular and continuous basis to simultaneously execute orders to buy and sell series for the account of the same beneficial holder. In making the determination of whether a member or person associated with a member is using PCX Plus to perform a market making function, the Exchange will consider the following factors: the simultaneous or near-simultaneous entry of limit orders to buy and sell the same option; and the entry of multiple limit orders at different prices in the same option series.

    (3) Effecting transactions that constitute manipulation as provided in PCX Rule 4.6(a) and SEC Rule 10b-5.

(f) - Reserved.

(g) Suspension of the PCX Plus System. 11

    (1) System Disruption and Malfunctions. In the event of any disruption or a malfunction in the use or operation of PCX Plus with respect to an option issue or issues, two Floor Officials may disengage the PCX Plus system for that option issue or issues. If a PCX Plus system disruption or malfunction occurs but the Exchange is able to process and disseminate quotes accurately, then any orders received by the Exchange will be routed to Floor Broker Hand Held Terminals for representation in the trading crowd pursuant to Rule 6.76(d). Regular trading procedures will be resumed by the Exchange when two Floor Officials determine that the disruption or malfunction is corrected.

(h) Crossed or Locked Markets. The OFTC may designate, for an option issue, that an order will default for manual representation in the trading crowd if the NBBO is crossed or locked.12

* * * * *

Rule 10

Disciplinary Proceedings and Appeals

Minor Rule Plan

Rule 10.13(a) - (g) - No change.

(h) Minor Rule Plan: Options Floor Decorum and Minor Trading Rule Violations

    (1) - (25) - No change.

    (26) Failure to meet 60% In-Person Trading Requirement. (Rule 6.37(d))[, Com. .07)]

    (27) - (38) - No change.

    (39) Failure to meet 60% quoting requirement. (Rule 6.37(g)(2))

(i) - (j) - No change.

(k) Minor Rule Plan: Recommended Fine Schedule

    Fines  
(i) Options Floor Decorum and Minor Trading
Rule Violations13
1st
Violation
2nd
Violation
3rd
Violation
1. - 25. - No change.      
26. Failure to meet 60% In-Person Trading Requirement. (Rule 6.37(d))[, Com. .07)] $500 $1,000 $2,500
27. - 38. - No change.      

* * * * *

Options Floor Procedure Advices

Conduct of Floor Brokers

[A-5]

[Subject: Prohibitions Against Use of the Book by Floor Brokers in

Closing Out Errors]14

[Rule 6.34 forbids any member, while on the Floor, from initiating a transaction in which the member has an interest, unless the member is acting as a Market Maker, or unless the member is liquidating a position taken into his own account as a result of an error made while attempting to execute an order for a customer. Since bids, offers and transactions made to close out a position carried by a Floor Broker as the result of a brokerage error are clearly for the proprietary account of that member, they should not receive the priority treatment accorded to public customer orders held in the Book.]

[Accordingly, the placing of such of such orders in the Book shall be deemed a violation of Section 66(a) of Rule 6.52(a).]

* * * * *

________________________
1 Adapted from Options Floor Procedure Advice ("OFPA") A-5, which is being deleted.
2 Former Rule 6.37, Commentary .07 is being renumbered as new Rule 6.37(d).
3 Former Rule 6.37, Com. .07 is being moved to new Rule 6.37(d).
4 Former Rule 6.76 is being renumbered as new Rule 6.75(h).
5 Former Rule 6.76 is being moved to new Rule 6.75(h).
6 Former Rule 6.90 is being renumbered as new Rule 6.89(b).
7 Former Rule 6.90 is being moved to new Rule 6.89(b).
8 Proposed Rule 6.90(c) is adapted from current Rule 6.87(a).
9 Proposed Rule 6.90(d) is adapted from current Rule 6.87(c).
10 Proposed Rule 6.90(e)(1) - (3) is adapted from current Rule 6.87(d).
11 Proposed Rule 6.90(g) is adapted from current Rule 6.87(h).
12 Proposed Rule 6.90(h) is adapted from current Rule 6.87(j).
13 Fines for multiple violations of Options Floor Decorum and Minor Trading Rules are calculated on a running two-year basis.
14 Modified text was incorporated into new Rule 6.34, Commentary .01.

 

http://www.sec.gov/rules/sro/34-47838.htm


Modified: 05/15/2003