November 29, 2005
I am writing with regard to the above-referenced rule submission and the latest attempt by the NYSE to deal with the mess it created therein, SR-NYSE-2005-79. As is the case with a prior "clarification", the NYSE has failed to deal with the serious underlying problem of SR-NYSE-2005-57.
The Misrepresentations in SR-NYSE-2005-57
In SR-NYSE-2005-57, the NYSE represented (page 4) that it was proposing to "systematize certain functions that are currently performed manually regarding the execution of elected stop orders and CAP-DI orders and converted CAP-DI orders."
Central, under SEC Rule 19b-4, to its claim that the proposal was eligible for immediate effectivenes s was the NYSE's representation that "The rules regarding the election and execution of CAP-DI and stop orders and the conversion and execution of CAP-DI orders remain the same."
Presumably acting on the assumption that the NYSE staff knew what they were talking about, the Commission gave immediate effectiveness to SR-NYSE-2005-57. In response thereto, I submitted comment letters pointing out rather emphatically that the NYSE proposal clearly changed, in substantive, detrimental ways, the manner in which CAP-DI and stop orders would be executed, and that therefore the NYSE proposal was most certainly not eligible for immediate effectiveness under SEC Rule 19b-4. (I ask that my prior correspondence be incorporated by reference herein, including those addressed to SR-NYSE-2005-69, as the analysis therein continues to be entirely relevant here).
In response, the NYSE submitted SR-NYSE-2005-69 as a "clarification" of SR-NYSE-2005-57. This ""clarification" is a true logical and intellectual disaster that not only failed to join issue with my substantive comments, but also revealed that SR-NYSE-2005-57 had effectively resulted in the SEC's granting immediate effectiveness to substantive order execution changes related to its controversial "hybrid market" proposal. I pointed out that this constituted an outrageous abuse of the SEC's rule approval process, as the NYSE to date has been unable to obtain SEC approval of any aspect of the "hybrid market" proposal that has been subject to the Commission's normal prior public comment procedure.
Shortly after I submitted these comments, the NYSE withdrew SR-NYSE-2005-69 rather than attempt to continue to defend SR-NYSE-2005-57, or defend the process it had engaged in with respect to SR-NYSE-2005-57. Thus, the NYSE to date has made no official defense of its position with the Commission so as to obt ain SEC approval in light of the serious issues raised. (SR-NYSE-2005-69 remains on the NYSE website, and to that extent remains part of the public record).
The obvious question, fairly raised, is whether or not the NYSE is acting with intentional bad faith here. I'm inclined to think that the problem is fundamentally one of truly incompetent NYSE staff work. I don't mean to seem cynical, but if the NYSE were really trying to be intentionally duplicitous here, the material would probably have been more intelligently presented.
But the SEC staff need to put the NYSE on notice: the NYSE should be deemed to be acting in bad faith faith if it fails to address what is a significant, on-going problem with the quality of its rule submissions. (See my comments on SR-NYSE-2004-70 and SR-NYSE-2004-05 for other examples of incompetent NYSE staff work).
SR-NYSE-2005-79: The NYSE Continues to Ignore the Issue
SR-NYSE-2005-79 completes the picture as to what an utter debacle this matter has become. Presumably, the NYSE staff, realising that they only shoot themselves in the foot these days when they attempt to "clarify"anything, have abandoned any pretense of justifying SR-NYSE-2005-57. Rather, they are simply proposing a "modification"of a particular kind of stop order execution. (The NYSE website nonetheless refers to this rule submission as a "clarification" of SR-NYSE-2005-57, but the rule submssion itself makes no such claim, nor could it).
The NYSE has not addressed at all the central problem: the proposed electronic execution of stop and CAP-DI orders constitutes a substantive change from the manner in which these orders are executed under current auction market rules. (See my earlier correspondence, which describes in detail the nature and extent of the substa ntive changes, an analysis which the NYSE cannot refute).
The task for the NYSE in SR-NYSE-2005-79 (after promising a "clarification" in SR-NYSE-2005-69), a task it does not even attempt to undertake, should have been to explain why the proposed change in the manner of executing elected stop and CAP-DI orders is eligible for immediate effectiveness. That the NYSE is effecting a material change here is beyond dispute. The NYSE, in a masterful feat of illogic, acts as though it is entitled to immediate effectiveness as if the "hybrid market" were already a reality and trading crowds that provided on-the-spot price improvement were a thing of the past. (See my earlier correspondence as to the logical fallacy of "contingent immediate effectiveness", a concept unknown in SEC rules, but which is what the NYSE has managed to pull off so far).
It is clearly the NYSE's prerogative to propose to remove elected stop and CAP-DI ord ers from the physical auction, per its when-and-if approved "hybrid market", and to deny these orders the types of opportunities for price improvement available in the physical auction. But it is not the NYSE's prerogative to obtain "immediate effectiveness" of a "plan" to do this, as this constitutes de facto approval of the underlying (and quite controversial) concepts. (And, as I've noted in earlier correspondence, the NYSE certainly doesn't need an SEC approval order to engage in contingent systems planning).
The SEC needs to uphold the public interest here. There is no nice way to say this : the NYSE obtained approval of SR-NYSE-2005-57 illegally. Approval was obtained on the basis of the NYSE's representation that it was not changing the rules regarding the execution of stop and CAP-DI orders, a blatant misrepresentation, as those orders would no longer be exposed to trading crowds for price improvement as required today. The NYSE's notion of "electronic representation" (a classic bogus term) of floor broker orders as being the equivalent of current trading crowd procedures is laughable. "Electronic representation" requires a floor broker to enter his/her order into NYSE systems before a contra side stop or CAP-DI order is elected, with no possibility of providing price improvement. In contrast, in the physical auction, a floor broker can make an on-the-spot decision, after the order is elected, to trade with the order, and possibly provide price improvement. One can argue the merits or demerits of one approach versus the other, but what is inarguable is that the NYSE has proposed a material change.
The SEC should abrogate the effectiveness of SR-NYSE-2005-57, as immediate effectiveness is clearly illegal here. (Alternatively, but only to forestall the inevitable abrogation, the SEC could demand a full, on-the-record justification of SR-NYSE-2005-57. But of course, t he NYSE made a laughingstock of itself when it attempted such a justification in SR-NYSE-2005-69).
The only honourable recourse is for the NYSE to submit an appropriate amendment to SR-NYSE-2004-05 (the "hybrid market" proposal) explaining why it wants to remove elected stop and CAP-DI orders from the auction and deny them the opportunity for price improvement. (This is simply another instance of the NYSE's disemboweling the auction market, while emphasising in its "hybrid market" propaganda that the benefits of the auction will continue as ever thus. Isn't anyone paying attention to this garbage?).
This entire matter needs to be handled under the Commission's normal prior public comment procedure.
Any other course of action severely compromises the integrity of the Commission's rule approval process.