Self-Regulatory Organizations; Notice of Filing of Proposed Rule Change by the Chicago Board Options Exchange, Inc. Relating to Solicited Transactions

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-34323; File No. SR-CBOE-94-15]

Self-Regulatory Organizations; Notice of Filing of Proposed Rule

Change by the Chicago Board Options Exchange, Inc. Relating to

Solicited Transactions

July 6, 1994.

Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934

(``Act''),\1\ notice is hereby given that on May 3, 1994, the Chicago

Board Options Exchange, Inc. (``CBOE'' or ``Exchange'') filed with the

Securities and Exchange Commission (``Commission'') the proposed rule

change as described in Items I, II, and III below, which Items have

been prepared by the self-regulatory organization. The Commission is

publishing this notice to solicit comments on the proposed rule change

from interested persons.

---------------------------------------------------------------------------

\1\15 U.S.C. 78s(b)(1).

---------------------------------------------------------------------------

I. Self-Regulatory Organization's Statement of the Terms of

Substance of the Proposed Rule Change

The Exchange proposes to adopt a new Rule 6.9 that would regulate

the execution of ``solicited orders,'' as that term is defined in the

rule; would set forth specific priority principles applicable to such

orders; and would restrict trading by members and associated persons

possessing knowledge of imminent undisclosed solicited transactions.

The text of the proposal is available at the Office of the

Secretary, CBOE and at the Commission.

II. Self-Regulatory Organization's Statement of the Purpose Of, and

Statutory Basis For, the Proposed Rule Change

In its filing with the Commission, the self-regulatory organization

included statements concerning the purpose of and basis for the

proposed rule change and discussed any comments it received on the

proposed rule change. The text of these statements may be examined at

the places specified in Item IV below. The self-regulatory organization

has prepared summaries, set forth in sections (A), (B) and (C) below,

of the most significant aspects of such statements.

(A) Self-Regulatory Organization's Statement of the Purpose Of, and

Statutory Basis For, the Proposed Rule Change

The purpose of the proposed rule change is to regulate the

execution of ``solicited'' transactions in options, i.e., options

transactions having terms that are pre-negotiated prior to the time the

orders comprising the transaction are exposed to the trading crowd on

the CBOE floor. The proposed rule change also restricts trading in any

class of an option, as well as trading in the underlying security or

any ``related instrument,'' by CBOE members and their associated

persons who have knowledge of an imminent solicited transaction in

options of that class. This prohibition applies until all terms are

disclosed to the trading crowd or until execution of the solicited

transaction cannot reasonably be considered imminent given the passage

of time since the transaction was agreed upon.

The Exchange believes that it is appropriate to permit solicitation

between potential buyers and potential sellers of options in advance of

the time they send actual orders to the trading crowd on the Exchange.

The Exchange states that complex options orders, such as spreads,

straddles and combination orders, as well as stock-option orders, often

require the ``advance shopping'' that is characteristic of a solicited

transaction. The Exchange believes that such interactions between

buyers and sellers and the resulting solicited transactions can enhance

liquidity and depth at the CBOE by bringing orders to the floor that

might otherwise be difficult to effect.

Nevertheless, if the orders that comprise a solicited transaction

are not suitably exposed to the order interaction process on the CBOE

floor, the execution of such orders would not be consistent with CBOE

rules designed to promote order interaction in an open-outcry auction.

For example, Rule 6.43 requires bids and offers to be made at the post

by public outcry, and Rule 6.74 imposes specific order exposure

requirements on floor brokers seeking to cross buy orders with sell

orders. Solicited transactions by definition entail negotiation, and if

the orders that comprise a solicited transaction are not adequately

exposed to the floor auction, the crowd cannot have sufficient time to

digest and react to those orders' terms. The pre-negotiation inherent

in the solicitation process thus can enable the parties to a solicited

transaction to preempt the crowd to an execution at the pre-negotiated

price.

Proposed Rule 6.9 is intended to preserve the right to solicit

orders in advance of submitting a proposed trade to the crowd, while at

the same time assuring that original orders that are the subject of a

solicitation are exposed to the auction market in a meaningful way. For

instance, the proposed rule change would require a member representing

an original order that is the subject of a solicitation to disclose the

terms of the original order to the crowd before the original order can

be executed. CBOE believes that such disclosure would eliminate the

unfairness that can be associated with pre-negotiated transactions and

would subject the order that is the subject of the solicitation to full

auction interaction with other orders in the crowd.

To promote disclosure at the inception of a solicitation period,

rather than later, and to encourage solicited persons to bid or offer

at prices that improve the current market, CBOE's rule change would

establish a series of priority principles for solicited transactions.

Priority would be accorded depending on whether the original order is

disclosed throughout the solicitation period; whether the solicited

order improves the best bid or offer in the crowd; and whether the

solicited order matches the original order's limit. Thus, when the

original order is disclosed in advance of the solicitation and the

solicited order both matches the disclosed original order's limit and

improves the market, the solicited order will have priority over other

orders in the crowd and may trade with the original order at the

improved bid or offered price, subject to the customer limit order book

priorities set forth in Rule 6.45. When a solicited order does not

match the original order's limit and does not improve the market,

however, it will not have priority over other bids and offers

represented in the crowd even if the original order was disclosed to

the crowd for the full solicitation period. A responsive solicited

order will not have priority to trade with the original order even if

the solicited order improves the market; instead, in that instance,

others in the crowd may trade ahead of the solicited person at the

improved price.

In addition to requiring disclosure of original orders and

clarifying the priority principles applicable to solicited

transactions, proposed Rule 6.9(e) would make it prohibited conduct,

inconsistent with just and equitable principles of trade, for any

member or associated person who has knowledge of all the material terms

of an original order and a solicited order that matches the original

order's price, to enter an order to buy or sell an option of the same

class as any option that is the subject of the solicitation prior to

the time the original order's terms are disclosed to the crowd or the

execution of the solicited transaction can no longer reasonably be

considered imminent. This prohibition would extend to orders to buy or

sell the underlying security or any ``related instrument,'' as that

term is defined in the Rule. The CBOE believes that these prophylactic

requirements are necessary to prevent members and associated persons

from using undisclosed information about imminent solicited option

transactions to trade the relevant option or any closely-related

instrument in advance of persons represented in the relevant options

crowd.

The CBOE believes that proposed Rule 6.9 will improve the CBOE

auction by clarifying the requirements applicable to solicited

transactions and by enabling the Exchange to initiate enforcement

proceedings in appropriate cases under specific rules. The Exchange

believes that the proposed rule change is consistent with section 6(b)

of the Act in general and section 6(b)(5) in particular in that it is

designed to promote just and equitable principles of trades and to

protect investors and the public interest.

(B) Self-Regulatory Organization's Statement on Burden on Competition

CBOE does not believe that the proposed rule change will impose any

burden on competition.

(C) Self-Regulatory Organization's Statement on Comments on the

Proposed Rule Change Received From Members, Participants, or Others

Written comments on the proposed rule change were neither solicited

nor received.

III. Date of Effectiveness of the Proposed Rule Change and Timing

for Commission Action

Within 35 days of the date of publication of this notice in the

Federal Register or within such longer period: (i) As the Commission

may designate up to 90 days of such date if it finds such longer period

to be appropriate and publishes its reasons for so finding or (ii) as

to which the self-regulatory organization consents, the Commission

will:

(a) By order approve such proposed rule change, or

(b) Institute proceedings to determine whether the proposed rule

change should be disapproved.

IV. Solicitation of Comments

Interested persons are invited to submit written data, views and

arguments concerning the foregoing. Persons making written submissions

should file six copies thereof with the Secretary, Securities and

Exchange Commission, 450 Fifth Street, NW., Washington, DC 20549.

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 Section, 450 Fifth Street, NW.,

Washington, DC. Copies of such filing will also be available for

inspection and copying at the principal office of the above-mentioned

self-regulatory organization. All submissions should refer to File No.

SR-CBOE-94-15 and should be submitted by August 3, 1994.

For the Commission, by the Division of Market Regulation,

pursuant to delegated authority.\2\

---------------------------------------------------------------------------

\2\17 CFR 200.30-3(a)(12) (1993).

---------------------------------------------------------------------------

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 94-16951 Filed 7-12-94; 8:45 am]

BILLING CODE 8010-01-M