Self-Regulatory Organizations; Notice of Filing of Proposed Rule Change by New York Stock Exchange, Inc. Relating To Initiation of On- Floor Orders in a Stock by Floor Professionals Who Have a Listed Option Position in That Stock

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-33642; File No. SR-NYSE-93-17]

Self-Regulatory Organizations; Notice of Filing of Proposed Rule

Change by New York Stock Exchange, Inc. Relating To Initiation of On-

Floor Orders in a Stock by Floor Professionals Who Have a Listed Option

Position in That Stock

February 18, 1994.

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

(``Act''), 15 U.S.C. 78s(b)(1), notice is hereby given that on March

14, 1993, the New York Stock Exchange, Inc. (``NYSE''` or ``Exchange'')

filed with the Securities and Exchange Commission (``Commission'' or

``SEC'') 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.

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

of the Proposed Rule Change

Exchange Rule 96 currently prohibits a member registered as a

Competitive Trader\1\ or Registered Competitive Market Maker

(``RCMM'')\2\ from initiating, while on the Floor of the Exchange, the

purchase or sale, for his own account or his member organization's

account, of any stock in which he has an option position, or in which

he knows his firm has an option position. Rule 96 currently applies to

all options, including those traded on a national securities exchange

(``listed options''). The proposed rule change would remove the

prohibition in Rule 96 as to listed options.

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\1\A Competitive Trader is a NYSE member who is authorized to

initiate proprietary transactions on the Floor of the Exchange but

who is not registered as a specialist, odd-lot dealer or Registered

Competitive Market Maker. See NYSE Rules 111 & 112(e). Competitive

Traders exist pursuant to, and must comply with the requirements of,

Section 11(a)(1)(G) of the Act. See also SEC Rule 11a1-1(T). In

addition, the NYSE requires that 75 percent of a Competitive

Trader's monthly transactions must be stabilizing transactions under

the tick-test. See NYSE Rule 112(d).

\2\A RCMM is a NYSE member who is authorized to initiate

proprietary transactions on the Floor of the Exchange. See NYSE Rule

107. RCMMs are not subject to the same tick-test as Competitive

Traders; however, they must comply with a complex series of rules

about the price at which they can trade and the size of those

trades. Id. Unlike Competitive Traders, RCMMs have an affirmative

obligation to maintain a fair and orderly market. See NYSE Rule

109(B)(4).

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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

1. Purpose

Rule 96 was adopted in the mid-1930's after extensive

investigations and public hearings by the Commission concerning

manipulative practices and ``pool'' operations involving the use of

options. At present, Rule 96 prohibits a member registered as a

Competitive Trader or RCMM from initiating, while on the Floor, the

purchase or sale, for his own account or his member organization's

account, of any stock in which he has an option position, or in which

he knows his firm has an option position. Rule 96 does not prohibit a

Competitive Trader or RCMM from trading in options; rather, the rule

simply provides that such members may not initiate a proprietary trade

in a stock on the Floor where they have an option position in the

stock. Rule 96 currently applies to all options, including those traded

over-the-counter (``OTC options``) and listed options.

The purpose of the proposed rule change is to remove the

prohibition in Rule 96 as to listed options. Thus, under the proposed

rule change, a Competitive Trader or RCMM would be permitted to

initiate a proprietary purchase or sale of stock on the Floor where he

has a listed option position in that stock, but not where he has an OTC

option position in that stock.

The Exchange believes that the proposed rule change is appropriate

for three reasons:

(1) By removing a restraint on members' initiating transactions on

the Floor, the proposed rule change can be expected to add to the depth

and liquidity of the Exchange market.

(2) Listed options are substantially different from the OTC options

which Rule 96 was originally intended to regulate, and any regulatory

concerns that might arise as to listed options can be addressed by

monitoring and surveillance of revised Rule 96.

(3) The proposed rule change will remove a competitive barrier to

fair competition, since no other professionals are subject to

comparable restrictions.

Enhancement to the Exchange Market

The Exchange established the membership categories of Competitive

Trader and RCMM to provide a means whereby members, subject to certain

conditions, could add to the quality of the Exchange market by

initiating proprietary transactions on the Floor. The current

restriction in Rule 96 defeats this purpose in some instances by

precluding Floor professionals from initiating such Floor transactions

in any stock where they have an option position overlying such stock

(or where they know their member organization has such an option

position).

The Exchange believes the proposed rule change will further the

purposes of Rule 107 by facilitating RCMM participation as dealers on

the Exchange. Currently, the prohibition in Rule 96 conflicts with the

purposes of Rule 107 by effectively precluding RCMMs from participating

as dealers in any stock where they have an option positin in that

stock. By deleting the prohibition in Rule 96 as to listed options, the

proposed rule change will eliminate this barrier to RCMM dealer

participation, thereby permitting RCMMs to add to the depth and

liquidity of the Exchange market in situation where they currently may

not do so.

In a similar vein, the proposed rule change will facilitate

transactions by Competitive Traders on the Floor by permitting them to

initiate such transactions in a stock where they have an option

position in such stock. This enhanced ability to initiate transactions

on the Floor will, as with RCMMs, add to the depth and liquidity of the

Exchange market.

Regulatory Concerns

Rule 96 was adopted in the mid-1930's to regulate trading where

members have a position in OTC options, not listed options, and the

trading abuses in the OTC market that gave rise to Rule 96 are simply

not present with respect to today's closely surveilled trading in

listed options. The Exchange believes that regulatory concerns as to

listed option trading can be addressed by monitoring and surveillance

of revised Rule 96.

The Exchange notes that if the prohibition in Rule 96 were to be

removed as to listed options, RCMMs and Competitive Traders would

remain subject to the restrictions on members' on-Floor proprietary

transactions stated in Rules 108 and 112,\3\ and thus would not be in

any greater position to exploit their alleged time and place advantage

over public investors.

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\3\Under Rule 108, an on-Floor order placed by a member to

establish or increase a position in the member's proprietary account

is not entitled to priority, or precedence based on size, over an

off-Floor order placed by a public customer. On-Floor and off-floor

are defined in rule 112; that rule also prohibits frontrunning of

block transactions.

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Removal of Barrier to Fair Competition

The Exchange notes that off-Floor professionals (including

specialists and market makers on regional exchanges) are not subject to

any restrictions in effacing off-Floor proprietary trades in a stock

where they have an option position (whether a listed or OTC option) in

that stock. Thus, off-Floor professional can be said to enjoy a

significant competitive advantage over Floor professionals on the

Exchange, who are restricted in their on-Floor proprietary transactions

in a stock where they have an option position in that stock.

The Exchange acknowledges that a floor professional my initiate an

off-Floor order in a stock where he has an option position in that

stock. However, a significant reason why Competitive Traders and RCMMs

become registered as such is to be able, in the routine conduct of

their business, to initiate proprietary trades on the Floor rather than

``upstairs.'' Thus, the ability of Floor professionals to initiate off-

Floor orders in a stock in which they have an option position is

largely meaningless when viewed in the context of the way such

professionals routinely conduct their business. The Exchange does not

believe that any viewed in the context of the way such professionals

routinely conduct their business, when off-Floor professionals are not

subject to comparable restrictions in the routine conduct of their

business.

SEC Staff Comments on SR-NYSE-76-54

In response to proposed changes to Rules 96, 102, and 105 that were

submitted in file No. SR-NYSE-76-54, the SEC staff suggested that the

Exchange's proposals be revised so that Floor professionals would be

permitted to use listed options only for hedging purposes.\4\ Most of

the SEC staff's comments were directed specifically at specialists'

trading of specialty stock options pursuant to Rule 105.

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\4\The NYSE submitted File No. SR-NYSE-76-54 to the Commission

on October 22, 1976. The proposed rule change was noticed for

comment in Securities Exchange Act Release 12924 (October 27, 1976),

41 FR 48430 (November 3, 1976). The file, like other options

proposals that raised significant regulatory issues, became dormant

during the ``options moratorium'' in order to allow the Commission

to complete its Special Study of the Options Markets. Shortly

thereafter, the NYSE refiled its proposals to amend Rule 96 (File

No. SR-NYSE-82-19) and Rules 102 and 105 (File No. SR-NYSE-82-20).

In early 1985, the Commission approved the latter rule filing,

thereby permitting NYSE specialists to trade options on their

specialty stock but, consistent with the staff's earlier comments,

only for hedging purposes. See Securities Exchange Act Release No.

21710 (February 4, 1985), 50 FR 5708 (February 11, 1985). The

amendments to Rule 96, however, were noticed but never received

Commission approval. See Securities Exchange Act Release No. 20006

(July 26, 1983), 48 FR 35217 (August 3, 1983). On March 15, 1993,

the NYSE withdrew File No. SR-NYSE-82-19 and resubmitted the

substance of that proposal as this File No. SR-NYSE-93-17.

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While Rule 105 permits specialists to use listed options to offset

the risks of making markets in stocks in which they are registered, the

Exchange does not believe that it would be appropriate to re-structure

Rule 96 along the lines of Rule 105. A ``hedging limitation'' in such a

re-structured version of Rule 96 would have the effect of requiring

Competitive Traders and RCMMs to use listed options only to offset the

risk of loss in stock positions which they acquired as a result of

orders in such stocks that were initiated on the Floor. In practice,

such a limitation would be even more restrictive than the current

regulation, which, as noted above, permits Floor professionals to trade

in listed options, but simply precludes them from initiating an order

on the Floor in a stock which underlies such option position. The

Exchange does not believe that making Rule 96 even more stringent than

it is today would serve any valid regulatory purpose.

As noted above, Rule 96 does not prohibit a Competitive Trader or

RCMM from trading in options, but provides only that he may not

initiate a proprietary order on the Floor in any stock where he has an

option position in that stock. The Exchange does not believe that any

sort of ``reverse hedging limitation'' in Rule 96 would make sense

because it would mean, in effect, that a Competitive Trader or RCMM

could initiate a proprietary trade on the Floor if necessary to hedge

an option position. However, the primary dealings of RCMMs and

Competitive Traders are in stocks, not the overlying options. In the

Exchange's view, a ``reverse hedging limitation'' in Rule 96 would bear

no relation to the practical business dealings of RCMMs and Competitive

Traders, and would constitute an unnecessary burden of over-regulation

given the minimal potential for trading abuse.

2. Statutory Basis

The statutory bases for the proposed rule change are sections

6(b)(5), 6(b)(8) and 11A(a)(1)(c)(ii) of the Act. By removing the

prohibition on Competitive Traders and RCMMs initiating proprietary

transactions on the Floor in a stock where they have a listed option

position in such stock, and thereby permitting such members to add to

the depth and liquidity of the Exchange market in situations where they

may not currently do so, the proposed rule change will have the effect

of ``facilitating transactions in securities'' and will ``perfect the

mechanism of a free and open market,'' as called for in section

6(b)(5).

To the extent that the proposed rule change permits Floor

professionals to initiate transactions on a more equal regulatory

footing with other securities professionals, the proposed rule change

is designed to eliminate unfair discrimination between brokers or

dealers, as called for in section 6(b)(5); to remove a burden on

competition not necessary or appropriate in furtherance of the purposes

of the Act, as called for in section 6(b)(8); and to promote fair

competition among brokers and dealers, as called for in section

11A(a)(1)(C)(ii).

B. Self-Regulatory Organization's Statement on Burden on Competition

The Exchange does not believe that the proposed rule change will

impose any burden on competition that is not necessary or appropriate

in furtherance of the purposes of the Act. In fact, the proposed rule

change will enhance competition by permitting Floor professionals to

initiate proprietary transactions on a more equal regulatory plane with

all other securities professionals.

C. Self-Regulatory Organization's Statement on Comments on the Proposed

Rule Change Received From Members, Participants or Others

The Exchange has neither solicited nor received written comments on

the proposed rule change.

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

Commission Action

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

Register or within such other 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 the 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 at the

Commission's Public Reference Section, 450 Fifth Street, NW.,

Washington, DC 20549. Copies of such filing will also be available for

inspection and copying at the principal office of the NYSE. All

submissions should refer to File No. SR-NYSE-93-17 and should be

submitted by March 21, 1994.

For the Commission, by the Division of Market Regulation,

pursuant to delegated authority.

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 94-4474 Filed 2-25-94; 8:45 am]

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