Self-Regulatory Organizations; Notice of Filing and Immediate Effectiveness of Proposed Rule Change by the National Association of Securities Dealers, Inc.

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-41174; File No. SR-NASD-99-13]

Self-Regulatory Organizations; Notice of Filing and Immediate

Effectiveness of Proposed Rule Change by the National Association of

Securities Dealers, Inc.

March 16, 1999.

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

(``Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that

on March 4, 1999, the National Association of Securities Dealers, Inc.

(``NASD'' or ``Association''), through its wholly-owned subsidiary. The

Nasdaq Stock Market, Inc. (``Nasdaq''), filed with the Securities and

Exchange Commission (``SEC'' or ``Commission'') the proposed rule

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

been prepared by Nasdaq. Nasdaq has designated this proposal as one

establishing or changing a due, fee or other charge imposed by the NASD

under Section 19(b)(3)(A)(ii) of the Act,\3\ which renders the proposal

effective upon filing by the Commission. The Commission is publishing

this notice to solicit comments on the proposed rule change from

interested persons.

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

\2\ 17 CFR 240.19b-4.

\3\ 15 U.S.C. 78s(b)(3)(A)(ii).

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

Substance of the Proposed Rule Change

Nasdaq is filing a proposed rule change to NASD Rule 7010. Below is

the text of the proposed rule change. Proposed new language is

italicized; proposed deletions are in brackets.

* * * * *

7010 System Services

(a)-(b) No Change

(c)

(1) Consolidated Quotation Service. Existing Paragraph remains the

same.

(2) Listed Securities Transaction Credit. For a pilot period,

qualified NASD members that trade securities listed on the NYSE and

Amex in over-the-counter transactions reported by the NASD to the

Consolidated Tape Association may receive from the NASD transaction

credits based on the number of trades so reported. To qualify for the

credit with respect to either Tape A reports or Tape B reports, an NASD

member must have accounted for 500 or more average daily Tape or Tape B

reports of over-the-counter transactions (but not in combination) as

reported to the Consolidated Tape by the NASD over the period of July

1, 1998 to December 31, 1998, and must continue to average either 500

or more daily Tape A or 500 or more daily Tape B reports (but not in

combination) of over-the-counter transactions as reported to the

Consolidated Tape by the NASD during the term of the pilot. If an NASD

member is so qualified to earn credits based either on its Tape A

activity, or its Tape B activity, or both, that member may earn credits

from one or both (as

[[Page 14035]]

the case may be, depending on the qualification standards) pools

maintained by the NASD, each pool representing 40% of the revenue paid

by the Consolidated Tape Association to the NASD for each of Tape A and

Tape B transactions. A qualified NASD member may earn credits from such

pools according to the member's pro rata share of the NASD's over-the-

counter trade reports in each of Tape A and Tape B for each calendar

quarter starting with October 1, 1998, and ending with the calendar

quarter starting on April 1, 1999.

* * * * *

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 NASD 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. Nasdaq 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

Nasdaq is proposing to establish a pilot program to provide a

transaction credit \4\ to NASD members who exceed certain level of

trading activity in exchange-listed securities. The NASD has determined

to establish a program regarding these transaction credits to assist in

finding ways to lower investor costs associated with trading, and to

respond to steps taken by other exchanges that complete for investors

order flow in these securities. The NASD has established the program as

a limited period pilot program to develop experience with assisting

NASD members trading in exchange-listed securities and to learn how

best to lower the cost of trading these securities.

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\4\ The transaction credit can be applied to any and all charges

imposed by NASD or its non-SRO affiliates. Any remaining balance may

be paid directly to the member.

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Background

Nasdaq's Third Market is a quotation, communication and execution

system which allows NASD members to trade stocks listed on the New York

Stock Exchange (``NYSE'') and the American Stock Exchange (``AMEX'').

The Third Market competes with regional exchanges like the Chicago

Stock Exchange (``CHX'') and the Cincinnati Stock Exchange (``CSE'')

for retail order flow in stocks listed on the NYSE and AMEX.\5\ The

NASD collects quotations from broker-dealers that trade these

securities over-the-counter and provides such quotations to the

Consolidates Quotation System for dissemination. Additionally, the NASD

collects trade reports from these broker-dealers trading such

securities in the over-the-counter market and provides the trade

reports to the Consolidated Tape Association (``CTA/CQA'') for

inclusion in the Consolidated Tape. As a participant in the CTA and

CQA, the NASD earns a share of those organizations' revenue from trades

that it reports in NYSE-listed securities (``Tape A'') and in Amex-

listed securities (``Tape B''). It is from the NASD's share of these

revenues that Nasdaq intends to create credit pools for qualified

members.

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\5\ Both CHX and CSE have established similar programs pursuant

to Section 19(b)(3)(A). See Securities Exchange Act Release No.

38237 (February 4, 1997), 62 FR 6592 (February 12, 1997) (providing

a transaction credit for specialists based upon a percentage of the

CTA tape revenue); Securities Exchange Act Release No. 39395

(December 3, 1997), 62 FR 65113 (December 10, 1997) (providing a

transaction credit to members on a pro rate basis, based upon a

percentage of the quarterly CSE Tape B transaction market share). To

remain competitive with these markets, the NASD believes that it

must evaluate programs designed to effectively respond to other

market's approaches to trading the same securities.

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Nasdaq's transaction credit pilot is intended to both lower costs

for Third Market Makers and for their customers, who execute trades in

exchange-listed stocks through NASD members and Nasdaq facilities. The

NASD believes that lowering the cost of trading increases competition

among market centers trading listed securities. The pilot will also

allow Nasdaq to evaluate the efficacy of this revenue sharing model and

more effectively compete for the retention of Third Market participants

with other regional exchanges who have adopted similar revenue

distribution methodologies.

Pilot Program

Under the pilot proposal, Nasdaq will first calculate two separate

pools of revenue from which credits can be earned--one representing 40%

of the gross revenues received from the Consolidated Tape Association

(``CTA'') for providing trade reports in NYSE-listed securities

executed in the Third Market for dissemination by CTA (``Tape A''), the

other representing 40% of the gross revenue received from CTA for

reporting AMEX trades (``Tape B''). To earn a credit from either of

these pools, an NASD member must have reached a minimum trading level

in that market segment for the period of July 1, 1998 to December 31,

1998. The measure that the NASD will use for this pilot period is 500

average daily executions in Tape A (to qualify for the Tape A pool) or

500 average daily executions for Tape B (to qualify for this pool).\6\

Only those NASD members who both exceeded this 500 average daily

execution threshold during the July to December 1998 time period and

continue to average either 500 or more Tape A or 500 or more Tape B

daily executions during the term of the pilot will be eligible for

transaction credits. If an NASD member is so qualified, it will become

part of the pilot's control group, and thus, be eligible to receive a

pro-rata portion of the 40% revenue calculation during the term of the

pilot.

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\6\ The NASD has chosen to establish the threshold for

qualification at 500 trades per day because it believes that such

number represents a clear example of a member's commitment to

operating in the Third Market and competing for order flow. It also

is being used as a rough, temporary measure to balance the credit

program incentives against Nasdaq's costs in operating facilities

that facilitate Third Market trading. The NASD plans to use the

pilot period to carefully evaluate the need for a qualification

threshold and, depending on its experience in the pilot, may change

or eliminate the threshold at a future date.

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A qualifying NASD member's transaction credit under the calculation

will be determined by taking its percentage of total Third Market

Transaction during the applicable calculation period and providing an

equivalent percentage from the appropriate Tape A or B calculation

pools. Thus, for each calendar quarter, commencing with the calendar

quarter that started on October 1, 1998, the NASD will measure a

qualified member's trade reported activity for that calendar quarter in

each of Tape A and B and create a credit for that member based upon

such activity. For example, should a qualifying NASD member's

transactions represent 10% of the NASD's Tape A transactions, that

member would receive a 10% share of the Tape A 40% calculation pool.

It must be noted that Nasdaq's transaction credit program is being

proposed on a pilot basis only. There can be no guarantee that

transaction credits will be available to qualifying NASD members beyond

the term of the pilot.\7\

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\7\ Nasdaq also reserves the right to terminate the transaction

credit pilot at any time. The NASD will file a proposed rule change

to terminate their pilot program.

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Nasdaq believes that the proposed rule change is consistent with

the

[[Page 14036]]

provisions of Section 15A(b)(6) \8\ of the Act in that the proposal is

designed to promote just and equitable principles of trade and to

remove impediments to and perfect the mechanism of a national market

system and, in general, to protect investors and the public interest.

Nasdaq believes its pilot is also consistent with Section 15A(b)(5) \9\

of the Act in that it provides for the equitable allocation of

reasonable dues, fees and other charges among members and issuers and

other persons using any facility or system which the association

operates or controls.

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\8\ 15 U.S.C. 78o-3(b)(6).

\9\ 15 U.S.C. 78o-3(b)(5).

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

Nasdaq does not believe that the proposed rule change will result

in any burden on competition that is not necessary or appropriate in

furtherance of the purposes of the Act.

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

Rule Change Received From Members, Participants, or Others

Written comments were neither solicited nor received.

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

for Commission Action

The foregoing rule change has become effective immediately pursuant

to Section 19(b)(3)(A)(ii) \10\ of the Act and subparagraph (f) of Rule

19b-4 thereunder \11\ in that it establishes or changes a due, fee or

other charge.

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\10\ 15 U.S.C. 78s(b)(3)(A)(ii).

\11\ 17 CFR 240.19b-4(f).

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At any time within 60 days of the filing of such proposed rule

change pursuant to Section 19(b)(3)(A) of the Act, the Commission may

summarily abrogate such rule change if it appears to the Commission

that such action is necessary or appropriate in the public interest,

for the protection of investors, or otherwise in furtherance of the

purposes of the Act.

IV. Solicitation of Comments

Interested persons are invited to submit written data, views, and

arguments concerning the foregoing, including whether the proposed rule

change is consistent with the Act. Persons making written submissions

should file six copies thereof with the Secretary, Securities and

Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 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 Room. Copies of such filing will also be

available for inspection and copying at the principal office of the

NASD. All submissions should refer to the file number in the caption

above and should be submitted by April 13, 1999.

For the Commission, by the Division of Market Regulation,

pursuant to delegated authority.\12\

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

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Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 99-6970 Filed 3-22-99; 8:45 am]

BILLING CODE 8010-01-M