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SECURITIES AND EXCHANGE COMMISSION
17 CFR Part 240
(Release No. 34-34753; File No. S7-28-94)
RIN 3235-AG21
Customer Limit Orders
AGENCY: Securities and Exchange Commission
ACTION: Proposed Rule
SUMMARY: The Securities and Exchange Commission proposes a rule
setting standards for market makers in handling customer limit
orders in NASDAQ National Market System securities. The rule
would prohibit a market maker from trading for its own account,
directly, or indirectly, at a price at which the market maker
could execute a customer limit order it is holding, without
executing the customer's limit order at the limit price or a
price more favorable to the customer, under the specific terms
and conditions by which the order is accepted by the market
maker.
DATES: Comments should be submitted on or before 60 days from
the date of the publication of this release in the Federal
Register.
ADDRESSES: Interested persons should submit three copies of
their written data, views and opinions to Jonathan G. Katz,
Secretary, Securities and Exchange Commission, 450 Fifth Street,
N.W., Washington, D.C. 20549, and should refer to File No.
S7-28-94. All submissions will be made available for public
inspection and copying at the Commission's Public Reference Room,
Room 1024, 450 Fifth Street, N.W., Washington D.C. 20549.
FOR FURTHER INFORMATION CONTACT: Scott C. Kursman, (202) 942-
3197, Attorney, Office of Market Supervision, Division of Market
Regulation, Securities and Exchange Commission, Mail Stop 5-1,
450 Fifth Street, N.W., Washington, D.C. 20549.
SUPPLEMENTARY INFORMATION:
I. Introduction and Background
The Securities and Exchange Commission ("SEC" or
"Commission") today is proposing a rule (17 CFR 240.15c5-1) to
prohibit market makers in NASDAQ National Market System
("NASDAQ/NMS") securities from trading ahead of customer orders
that they are holding at the same or better price. The
Commission is proposing to change existing practices because it
believes this will enhance broker-dealer competition, promote
efficient pricing of securities, facilitate best execution of
customer orders and better reflect investor expectations in the
NASDAQ/NMS market. The growth of the NASDAQ market and the
concomitant visibility of and investor interest in its companies
has changed investors' expectations.
In designing the proposed rule, the Commission has been
mindful of the special role of NASDAQ market makers in
discovering prices and providing liquidity in NASDAQ/NMS stocks.
The proposal seeks comment on specific trading standards that
would govern individual market makers. The proposed rule is
intended to have the effect of giving priority to orders that
improve the market (i.e., narrow the bid-ask spread) being made
by a specific market maker.
Generally, an order to buy or sell a security at a specified
price ("limit order") is first received by the customer's broker,
who either routes the order to an affiliated or non-affiliated
market maker for execution or, if the firm is itself a market
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maker in the security, to the firm's market making desk. The
combination of limit order execution and market maker functions
can lead to the market maker competing with a customer for
executions. While the past few years have seen several positive
efforts at improving limit order handling practices in the NASDAQ
market, the Commission believes that it should consider a limit
order priority rule to ensure protection for all customer orders
in this market.
The priority accorded a customer limit order today is
different depending on the structure of the marketplace of
execution. The rules of national securities exchanges generally
require specialists and other market professionals to yield to a
customer's limit order; the specialist cannot trade for its own
account at prices equal to or better than the limit order until
the limit order is executed.-[1]-/ The rules of the National
Association of Securities Dealers ("NASD") similarly prohibit
third market makers (over-the-counter market makers in listed
securities) from trading ahead of customer limit orders in the
third market.-[2]-/
In 1988, the Commission addressed the issue of customer
limit order protection in the NASDAQ market.-[3]-/ In the
Manning decision, the Commission affirmed, based on principles of
agency law, an NASD determination that it is inconsistent with
just and equitable principles of trade for a market maker to
trade ahead of a customer limit order unless the customer is
first informed of the firm's limit order policy. As a result of
the Manning decision, the NASD filed a proposed rule change with
the Commission stating that a member firm will not be deemed to
have violated NASD Rules of Fair Practice if it provides
customers with a statement setting forth the circumstances in
which the member firm accepts limit orders and the policies and
procedures that the firm follows in handling these orders.-[4]-/
In July, 1993, the NASD Board of Governors reviewed the
handling of limit orders in NASDAQ securities and concluded that
-[1]-/ See, e.g., New York Stock Exchange ("NYSE") Rule 92, 2
NYSE Guide (CCH) 2092.
The priority rules of the New York Stock Exchange do
permit an exception to this general principle for
pre-arranged crosses of 25,000 shares or more. Such a
cross may be executed on the floor without interacting
with pre-existing limit orders at the same price. A
preexisting limit order, however, may interact with the
buyer or seller in the cross if it provides a price
that is better than the proposed cross price. See
Securities Exchange Act Release No. 31343
(October 21, 1992), 57 FR 48645 (October 27, 1992).
-[2]-/ NASD Bylaws, Schedule G, Section 4(f), NASD Manual
(CCH) 1921. Third market dealers account for more
than 9% of listed stock trades.
-[3]-/ See In re E.F. Hutton & Co. (the so-called "Manning
decision"), Securities Exchange Act Release No. 25887
(July 6, 1988), 41 SEC Doc. 473, appeal filed, Hutton &
Co. Inc. v. SEC, Dec. No. 88-1649 (D.C. Cir. Sept. 2,
1988), (Stipulation of Dismissal Filed, Jan. 11, 1989).
-[4]-/ Securities Exchange Act Release No. 26824 (May 15,
1989), 54 FR 22046 (May 22, 1989). The proposal
included model disclosure language to be used by firms
whose policy is not to grant priority to customer limit
orders over the member's own proprietary trading.
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"the continuation of the disclosure exception appeared
inappropriate."-[5]-/ The NASD solicited member comment on
eliminating the disclosure "safe-harbor" approach for members
trading ahead of customer limit orders and the effect a rule
prohibiting trading ahead might have on integrated broker-
dealers, on limit orders received from other firms, and on market
liquidity.-[6]-/
After full consideration of the concerns articulated in the
comment process, the NASD withdrew its rule filing proposing the
disclosure safe harbor approach,-[7]-/ and submitted a proposed
Interpretation to its Rules of Fair Practice, prohibiting member
firms from trading ahead of their customers' limit orders in
their market making capacity.-[8]-/ The Division of Market
Regulation's Market 2000 study examined this practice and
recommended that a ban apply to trading ahead of all customer
limit orders, not just those of a firm's own customer.-[9]-/ The
study noted that the adverse effects of trading ahead exist
whether the customer's order is handled by the customer's firm or
by another market maker.-[10]-/
The Commission approved the NASD Interpretation on June 29,
1994, but expressed concern that the prohibition did not extend
to trading ahead of limit orders of other firms' customers that
have been sent to the market maker for execution.-[11]-/ The
NASD also convened a special task force to study the potential
effect of expanded limit order protection on market liquidity and
market maker capital commitment and to report back to the Board
in September. The Commission stated that while such a study
could be helpful to a future consideration of this issue, the
Commission believed that member-to-member trades raise
significant concerns that should be addressed and, if necessary,
the Commission would consider instituting its own rulemaking
proceeding for that purpose.-[12]-/
The task force has now submitted its report to the NASD
Board of Directors and the Board has proposed for member comment
market maker standards that would restrict market makers from
trading ahead of certain member-to-member trades, keyed in part
on the size of the customer limit order.-[13]-/ Under the NASD
-[5]-/ See File No. SR-NASD-93-58, p.6.
-[6]-/ See NASD Notice to Members 93-49 (July 23, 1993).
-[7]-/ See Letter from Robert E. Aber, Vice President and
General Counsel, NASD, to Selwyn Notelovitz, Branch
Chief, Over-the-Counter Regulation, Division of Market
Regulation, SEC (October 13, 1993).
-[8]-/ Securities Exchange Act Release No. 33697 (March 1,
1994), 59 FR 10842 (March 8, 1994).
-[9]-/ Division of Market Regulation, SEC, Market 2000: An
Examination of Current Equity Market Developments
("Market 2000 Study"), V-5 (1994).
-[10]-/ Id.
-[11]-/ Securities Exchange Act Release No. 34279 (June 29,
1994), 59 FR 34883 (July 7, 1994).
-[12]-/ Id.
-[13]-/ See Special NASD Notice to Members 94-79 (September 23,
1994).
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proposal, market makers would be prohibited from trading at
prices equal to or better than the price of a customer limit
order they hold if the size of that order was 1,000 shares or
less and from trading at prices better than a customer's limit
order if the size of that order was greater than 1,000 shares.
The Commission believes that the NASD's proposal is an
instructive step and will provide useful comment from the member
firm community. The Commission, however, believes that comment
from the broader constituency of the investing public and other
non-NASD members will be critical in formulating adequate limit
order protection for the NASDAQ market. In addition, the
Commission believes that alternatives which provide more
extensive limit order protection for public customers also should
be the subject of public comment. Therefore, the Commission has
determined to propose its own rule. Publication of the proposal
will compliment the efforts of the NASD and enable the Commission
to act on its own initiative if it deems such action appropriate.
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II. Discussion
The Commission proposes to adopt Rule 15c5-1 pursuant to
Section 15(c)(5) of the Securities Exchange Act of 1934
("Exchange Act")-[14]-/, among other provisions.-[15]-/ Section
15(c)(5) grants the Commission authority over dealers acting in
the capacity of market makers by permitting the Commission to
impose standards with respect to dealing as the Commission, by
rule, shall prescribe as necessary or appropriate in the public
interest and for the protection of investors, to maintain fair
and orderly markets, or to remove impediments to and perfect the
mechanism of a national market system.-[16]-/
The legislative history of the Securities Acts Amendments of
1975, under which Section 15(c)(5) was adopted, endorsed priority
for customer limit orders in national market system securities
and stated that the Commission should have discretion to achieve
this protection. Congress noted that for suitable securities,
every effort should be made to ensure that public investors in
these securities would receive the benefits and protections that
would result from the placing of public orders ahead of dealers'
orders in determining the sequence in which orders entering the
market are executed.-[17]-/
NASDAQ has evolved from a market of thinly traded companies
in 1975 to one that today accounts for 42% of share volume and
29.2% of dollar volume in the U.S. equity markets.-[18]-/ During
that time, the Commission, together with the NASD, has attempted
to implement rules that reflect increased investor interest in
this market. The events which gave rise to the Manning case date
back to 1984 and the Commission has been pressing for improved
limit order priority since then.
In its order approving the recent NASD Interpretation, the
Commission indicated that a further Commission rule might be
necessary to ensure protection for all public limit orders in
NASDAQ/NMS securities, should the NASD fail to do so. The NASD's
Interpretation prevents a market maker from trading ahead of its
own customers' limit orders, but does not prevent the same market
maker from trading ahead of the limit orders of other firms'
customers that are sent to the market maker for execution.-[19]-/
The Commission believes that it is reasonable for customers to
expect that the quality of the execution received will not vary
from trade to trade. Under current NASD rules, the quality of
the execution received could vary depending on whether the
customer's firm or an affiliate makes a market in a security or
whether that firm sends the order to another market maker for
execution. Customers choose their brokers for a variety of
reasons, including cost and integrity; whether the broker also
makes a market in a security in which the customer may be
interested should not affect the quality of the execution.
The Commission agrees with the conclusion of the Division
of Market Regulation's Market 2000 Study that the adverse effects
-[14]-/ Section 15(c)(5), 15 U.S.C. 78o.
-[15]-/ Section 11A, 15 U.S.C. 78k-1; Section 23, 15 U.S.C.
78w.
-[16]-/ See Exchange Act Section 15(c)(5), supra note 14.
-[17]-/ S. Rep. No. 75, 94th Cong., 1st Sess. 16 (1975)("Senate
Report").
-[18]-/ See supra note 9, at 9.
-[19]-/ See supra note 11.
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of trading ahead exist whether the customer's order is handled by
the customer's firm or by another market maker.-[20]-/ Rule
15c5-1 would apply to customer limit orders, regardless of where
the order is ultimately routed for execution.
The Commission believes that the principles of investor
protection and market integrity would be advanced by a limit
order priority rule. The lack of limit order protection results
in inferior executions for customers and adversely affects the
price discovery process for these securities.-[21]-/
By providing a customer's limit order priority over the
market maker's proprietary trading, more trade volume will be
available to be matched with the customer's order, resulting in
quicker and more frequent executions for limit order customers.
In the past, customers may have refrained from placing limit
orders because of the uncertainty of and difficulty in obtaining
an execution at a price between the spread. A customer limit
order rule will encourage dealers that accept customer limit
orders to execute them in a timely fashion so that they may
resume their proprietary trading activities. With the
improvement in the quality of these executions, investors will
have greater confidence in this market and trade volume from
retail investors could increase.-[22]-/
In addition, customer limit order priority would improve the
price discovery process in NASDAQ/NMS securities. Limit orders
aid price discovery by adding liquidity to the market and by
tightening the effective spread between the bid and ask price of
a security, even though these limit orders would not be displayed
in the market maker's quote. The practice of not executing a
limit order until the inside quotation price reaches the
customer's limit order price also impedes the price discovery
process by preventing those orders from interacting with other
orders. More expeditious handling of customer limit orders under
the proposed rule could provide investors with a more accurate
indication of the buy and sell interest at a given moment.-[23]-/
One of the problems with not giving customer limit orders
priority is the cost to public customers in terms of inferior or
missed executions for limit orders. It is currently impossible
for customers to monitor these costs. The ability of a customer
to monitor the cost of the transaction and choose a broker-
dealer on that basis imposes a competitive discipline on the
market maker to achieve the best possible execution for the
customer or risk losing the business. Unlike institutional
clients who are in a better position to negotiate their own
protection with market makers, public customers have less viable
alternatives in determining where their orders are ultimately
sent for execution. Under these circumstances, market makers
lack the same incentive to provide superior executions to public
customers.
Market makers who oppose a comprehensive rule mandating
limit order priority for customers do so in part on the ground
that such a rule would reduce their return from market
-[20]-/ See supra note 9, at V-8.
-[21]-/ Id. at V-7.
-[22]-/ Id.
-[23]-/ Id.
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making.-[24]-/ Market makers are, of course, entitled to earn a
profit from their service; A limit order rule could force market
makers to recoup the cost of the transaction in ways more
apparent to the customer, such as by charging a commission for
handling the limit order. The Commission requests comment in the
form of specific data regarding the potential consequences of the
proposed rule for market liquidity and market maker capital
commitment.
III. Description of the Proposed Rule
Limit order protection in the NASDAQ market is now required
only of firms that execute their own customers' limit orders.
Market makers still may trade ahead of the limit orders entered
by customers of other firms that are sent to them for execution.
Proposed Rule 15c5-1 would provide limit order protection to all
customers in NASDAQ/NMS securities, regardless of where the order
is ultimately sent for execution.
-[24]-/ See letter from Frank Masi, President, Securities
Traders Association of New York ("STANY"), to Jonathan
G. Katz, Secretary, SEC (March 29, 1994).
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A. General Prohibition on Trading Ahead
Paragraph (a) of the proposed rule establishes the general
prohibition on trading ahead of limit orders: a market maker
shall not effect a transaction involving a covered security for
its own account, directly or indirectly, at a price at which the
market maker could execute a customer limit order it is holding
without executing the customer limit order at the limit price or
a price more favorable to the customer, under the specific terms
and conditions by which the order was accepted by the market
maker.
The rule applies once a market maker has accepted a customer
limit order for execution.-[25]-/ The rule applies to all market
makers, whether they are handling orders for their firm's clients
or orders sent from another firm. Finally, the rule applies to
all accounts of the market maker in which the market maker or any
person associated with the market maker is directly or indirectly
interested.
The application of the rule can best be illustrated through
the following example. Firm A is a retail brokerage firm. Firm
B is a market making firm with no customers of its own. Firm C
is an integrated firm with both brokerage and market making
units. The present NASD Interpretation applies only to orders
received and executed internally by firm C.-[26]-/ The proposed
rule would cover these orders as well as orders sent from firm A
to firms B or C, and orders sent from firm C to firm B.
For instance, firm A may send firm B a customer limit order
to buy 1,000 shares of stock at $20 1/4. Firm B, a market maker
in that security, is quoting a bid of $20 and an offer of $20
1/2. Under the proposed rule, a purchase of a certain number of
shares by firm B at $20 1/4 or lower would trigger an obligation
to fill the same number of shares in the customer's order at $20
1/4. A failure to execute the customer's limit order either
before or immediately after the market maker's purchase would
constitute a violation of the rule. The Commission is requesting
comment on whether it should exclude from the protection of the
rule limit orders to buy at the bid or limit orders to sell at
the offer.
B. "Covered Security"
The rule would apply to NASDAQ securities that have been
designated National Market System securities. A NASDAQ security
is a registered equity security for which quotation information
is disseminated in the National Association of Securities Dealers
Automated Quotation system. A NASDAQ National Market System
security is a NASDAQ security as defined above for which
transaction reports are required to be made on a real-time basis
pursuant to an effective transaction reporting plan.-[27]-/ The
Commission requests comments on the feasibility of extending the
limit order protection measures incorporated herein to other
NASDAQ securities, such as NASDAQ SmallCap securities and over-
the-counter ("OTC") Bulletin Board-eligible securities.-[28]-/
-[25]-/ NASD rules do not require a market maker to accept a
customer limit order.
-[26]-/ The Interpretation also applies to firm A if it
forwards limit orders to an affiliated firm (e.g., Firm
D, a firm that it controls) for execution.
-[27]-/ See 17 CFR 240.11Aa3-1.
-[28]-/ A NASDAQ SmallCap security is one which (1) satisfies
all applicable requirements for qualification as a
(continued...)
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C. Definition of "Customer Limit Order"
Paragraph (c)(3) of the proposed rule defines the term
"limit order" as an order to buy or sell shares of a security at
a specified price or other price more favorable to the customer.
In the example above, the customer placed a limit order to buy
1,000 shares of stock at 20 1/4, indicating that the customer
wishes to pay no more than $20.25 for the security. The market
maker may fill the order at a lower price, but not at a price
higher than the limit the customer has set.
The Commission proposes to limit the class of persons who
would be protected by the rule to public customers only. To this
end, the term "customer" in paragraph (c)(3) is defined as a
person who is not a registered broker or dealer. Nevertheless,
because customer limit orders often are sent to a market maker by
a broker or another market maker that originally received the
order, the definition of "customer" would encompass such orders
as customer orders entitled to protection under the rule. Orders
for registered brokers or dealers that are sent to a market maker
by another broker or market maker would not be entitled to this
protection. The Commission requests comment on the necessity of
restricting limit order protection to customers and the
effectiveness of the definition in carrying out that purpose.
D. "Terms and Conditions"
While the proposed rule does not distinguish institutional
from retail orders, the Commission believes that larger-sized
orders may qualify for special treatment. The language of the
proposed rule that would allow the parties to set the specific
terms and conditions for acceptance of limit orders is intended
to permit market makers to employ the appropriate strategy in
filling a larger sized order without being subjected to the
requirements of the proposed ban.
By distinguishing the protection afforded a limit order by
its size or dollar value, the rule would recognize the greater
significance of larger size orders to market makers seeking to
establish or liquidate a position and the ability of larger sized
customers to negotiate specific order handling procedures.
Market makers actively compete for customer order flow. A
customer dealing in greater size or amount generally can better
monitor the market for the security and negotiate alternative
execution procedures with another market maker.-[29]-/
The Commission preliminarily believes that larger sized
orders should be distinguished by measurable characteristics such
as number of shares or dollar amount. To this end, comment is
requested on the appropriate level of a size limit, i.e. 5,000 or
10,000 shares, and/or a dollar value limit, i.e. $50,000,
-[28]-/(...continued)
NASDAQ security and is not a NASDAQ National Market
System security; (2) is a right to purchase such
security; or (3) is a warrant to subscribe to such
security. See File No. SR-NASD-94-48.
The OTC Bulletin Board provides an electronic quotation
medium for subscribing members to reflect market making
interest in eligible securities, which are generally
domestic or foreign equity securities or American Depository
Receipts not listed on NASDAQ or the New York or American
Stock Exchanges. See NASD Over-the-Counter Bulletin Board
Service Rules, 3, NASD Manual (CCH) 2573.
-[29]-/ There are an average of 11.9 market makers for every
NASDAQ/NMS security. See NASD, 1994 NASDAQ Fact Book
and Company Directory (1994).
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$100,000 or $200,000, that would determine market maker
obligations with respect to these two types of orders in the
final rule. This will insure that the rule ultimately adopted
includes limit order protection for retail investors while
maintaining the ability of market makers to negotiate order
handling arrangements with their institutional clients.
E. Exceptions
The rule proposal also establishes exceptions for all-or-
none and odd-lot orders as well as a general exemptive provision
[paragraph (d)]. The specific exceptions to the rule [paragraph
(b)] are discussed below. The Commission requests comment on the
need for an all-or-none or odd-lot order exception and a general
exemptive provision.
Exception for All-or-None Orders
The proposed rule includes an exception for all-or-none
customer limit orders [paragraph (b)(2)]. An all-or-none
customer limit order is defined in paragraph (c)(1) as one that
carries a condition that instructs the market maker to execute
all of the shares in the order only if it can be done all at
once. The purpose of this exception is to prevent delays in
executing other orders that a market maker may be receiving at
the time the market maker is handling the all-or-none order. In
the example above, the customer's limit order for 1,000 shares of
stock could be filled in several separate transactions. With an
all-or-none order, a market maker must execute all the shares of
the order in a single trade. The market maker may not have
immediate access to that number of shares. In the meantime,
other orders may be received that require the market maker to
purchase shares from other market makers or their customers.
Without this exception, the market maker would not be able to buy
any stock at less than the all-or-none limit order price and,
ultimately, the execution quality of other customer orders would
suffer. Thus, using the above example, the exception would
permit a market maker handling an all-or-none order to purchase
shares in the security for its own account at $20 1/4 or lower
without filling the customer's limit order, but only for amounts
smaller than the 1,000 shares in the all-or-none order. The
market maker could not, however, purchase 1,000 shares or more at
$20 1/4 or lower for its own account without satisfying the
customer limit order.
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IV. Initial Regulatory Flexibility Analysis
The Commission has prepared an Initial Regulatory
Flexibility Analysis ("IRFA") in accordance with 5 U.S.C. 603
regarding proposed Rule 15c5-1. The IRFA uses certain
definitions of small entities adopted by the Commission for
purposes of the Regulatory Flexibility Act. The IRFA indicates
that regulatory action is required in order to ensure that market
makers in NASDAQ/NMS securities adhere to certain minimum
standards of fair treatment of customers. Specifically, by
prohibiting a market maker from trading ahead of a customer limit
order that it holds, the rule would improve the quality of
executions for customers and the price discovery process in the
market for these securities.
In 1993, there were 492 active NASDAQ market makers.-[30]-/
Data on the number of market makers meeting the definition of
small entity that make markets in NASDAQ/NMS securities and
execute customer limit orders is unavailable. The Commission is
unable to quantify reasonably the impact that the proposed rule
would have on small market makers or small issuers. The
Commission does not believe it would be practicable to exempt
small market makers from the proposed rule because to do so would
be inconsistent with the Commission's statutory mandate to
protect investors.
A copy of the Initial Regulatory Flexibility Analysis may be
obtained by contacting Scott C. Kursman, Attorney, Office of
Market Supervision, Division of Market Regulation, Securities and
Exchange Commission, Washington, D.C. 20549 (202) 942-3197.
V. Effects on Competition
Section 23(a)(2) of the Exchange Act-[31]-/ requires the
Commission, in adopting rules under the Act, to consider any
anti-competitive effects of such rules and to balance these
effects against the regulatory benefits gained in furthering the
purposes of the Act. As previously noted, comment letters
received prior to the adoption of the NASD Interpretation
suggested that such a rule would deny market makers an
opportunity to earn a profit in some situations. If true, this
may result in less market maker commitment in the NASDAQ/NMS
market which may in turn effect competition in this market. The
Commission is soliciting comment on the effect the rule may have
on market maker capital commitment and small issuers.
The Commission preliminarily views Rule 15c5-1 as causing no
burden on competition unnecessary or inappropriate in furtherance
of the purposes of the Exchange Act. The Commission believes
that the principles of customer protection that Congress
envisioned and that would be advanced by this rule justify the
burdens that the rule will impose on market makers. The
Commission, however, requests comment on any competitive burdens
that might result from adoption of the proposed rule described in
this release.
-[30]-/ See supra note 29.
-[31]-/ 15 U.S.C. 78w(a)(2).
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List of Subjects in 17 CFR Part 240
Reporting and recordkeeping requirements, Securities.
Text of Proposed Rule
For the reasons set out in the preamble, part 240 of Chapter
II of Title 17 of the Code of Federal Regulations is amended to
read as follows:
PART 240 -- GENERAL RULES AND REGULATIONS, SECURITIES
EXCHANGE ACT OF 1934
1. The authority citation for Part 240 continues to read in
part as follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77eee, 77ggg,
77nnn, 77sss, 77ttt, 78c, 78d, 78i, 78j, 78l, 78m, 78n, 78o, 78p,
788s, 78w, 78x, 78ll(d), 79q, 79t, 80a-20, 80a-23, 80a-29, 80a-
37, 80b-3, 80b-4 and 80b-11, unless otherwise noted.
*****
2. Section 240.15c5-1 is added to read as follows:
240.15c5-1. Prohibition on Market Makers Trading Ahead of
Customer Limit Orders.
(a) General Prohibition - A market maker shall not effect a
transaction involving a covered security for its own account,
directly or indirectly, at a price at which the market maker
could execute a customer limit order it is holding without
executing the customer limit order at the limit price or a price
more favorable to the customer, under the specific terms and
conditions by which the order is accepted by the market maker.
(b) Exceptions. The prohibition in paragraph (a) of this
section shall not apply to the following customer limit orders:
(1) "all-or-none" customer limit orders, provided that
the number of shares executed by the market maker is less
than the number of shares in the customer's all-or-none
order; or
(2) odd-lot customer limit orders.
(c) Definitions. For purposes of this section:
(1) The term all-or-none refers to a condition placed
upon a customer limit order that instructs the market maker
to either execute all of the shares in the order at the
specified price or execute none.
(2) The term covered security shall mean a NASDAQ
security that has been designated a National Market System
security pursuant to 240.11Aa2-1.
(3) The term customer limit order shall mean an order
to buy or sell a security at a specified price or a price
more favorable to the customer, that is not for the account
of either a broker or dealer; provided, however, that the
term customer limit order shall include an order transmitted
by a broker or dealer on behalf of a customer.
(4) The term market maker shall have the meaning
provided in Section 3(a)(38) of the Act (15 U.S.C.
78c(a)(38)).
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(d) Exemptions. The Commission, upon request or upon its
own motion, may exempt, by rule or by order, any market maker or
any class of market makers from the requirements of paragraph (a)
of this section with respect to any limit order or class of limit
orders, either unconditionally or on specified terms and
conditions, if the Commission determines that such exemption is
consistent with the public interest and the protection of
investors.
By the Commission.
Jonathan G. Katz
Secretary
Date: September 29, 1994