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[Federal Register Volume 62, Number 179 (Tuesday, September 16, 1997)]
[Notices]
[Pages 48691-48692]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-24543]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-39036; File No. SR-NYSE-97-10]

Self-Regulatory Organizations; Order Approving Proposed Rule 
Change by the New York Stock Exchange, Inc. Relating to Amendments to 
Rule 104.10(5) Relating to Specialists Establishing a Position in 
Specialty Stocks

September 9. 1997.

I. Introduction

    On March 25, 1997, the New York Stock Exchange, Inc. (``NYSE'' or 
``Exchange'') submitted to the Securities and Exchange Commission 
(``SEC'' or ``Commission''), pursuant to Section 19(b)(1) of the 
Securities Exchange Act of 1934 (``Act'') \1\, and Rule 19b-4 
thereunder,\2\ the proposed rule change to permit specialists to engage 
in certain types of transactions by removing existing restrictions that 
currently limit the ability of specialists to engage in such 
transactions when establishing or increasing a position in their 
specialty stocks.\3\ Notice of filing appeared in the Federal Register 
on May 12, 1997.\4\ No comment letters were received concerning the 
proposed rule change. This order approves the NYSE's proposal.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Securities Exchange Act Release No. 38574 (May 5, 1997).
    \4\ 62 FR 25984 (May 12, 1997).
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II. Description of the Proposal

    The NYSE, pursuant to Rule 19b-4 of the Act, proposes to amend NYSE 
Rule 104.10(5)(i) to remove certain restrictions on specialists' 
ability to establish or increase their positions in their specialty 
stocks.

Purpose

    NYSE Rule 104 governs specialists' dealings in their specialty 
stocks. In particular, NYSE Rule 104.10(5)(i) describes certain types 
of transactions to establish or increase a specialist's position which 
are not to be effected unless they are ``reasonably necessary to render 
the specialist's position adequate to'' the needs of the market. 
Additionally, these types of transactions require floor official 
approval unless they are conducted in ``less active markets'' where 
such transactions are an essential part of a proper course of dealings 
and where the amount of stock involved and the price change, if any, 
are normal in relation to the market.\5\ Currently, such restrictions 
apply equally to transactions that are beneficial to the market by 
being against the market trend. The Exchange is proposing to apply 
these restrictions only to those transactions that are disadvantageous 
to the market by being with the market trend.
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    \5\ See NYSE Rule 104.10(5)(i).
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    Specifically, the revision to NYSE Rule 104.10(5)(i)(B) would 
continue to prohibit a specialist from establishing or increasing his 
or her long position by purchasing more than 50% of the stock offered 
for sale in the market on a zero-plus tick (i.e., at a price equal to 
the last sale and above the previous different price sale).\6\ There 
would no longer, however, exist an express restriction on purchasing 
stock on a zero-minus tick to establish or increase a position. The 
NYSE believes that purchases on zero-minus ticks are against the market 
trend and are perceived as being beneficial to the market.\7\
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    \6\ A plus tick is a price above the price of the last preceding 
sale.
    \7\ A minus tick is a price below the price of the last 
preceding sale.
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    Paragraph (C) of NYSE Rule 104.10(5)(i) would be deleted to permit 
a specialist to establish or increase his or her short position by 
selling stock to the bid without restriction on a zero-plus tick. The 
NYSE believes that these transactions are beneficial to the market by 
being against the market trend in nature. Short sales on zero-minus 
ticks will continue to be prohibited pursuant to SEC Rule 10a-1 under 
the Act and Exchange Rule 440B.\8\
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    \8\ Long sales on zero-minus ticks would not be deemed ``to 
establish or increase a position.'' Rather, such sales are deemed 
liquidating transactions and are addressed by NYSE Rule 104.10(6). 
See Securities Exchange Act Release No. 31797 (January 29, 1993) 58 
FR 7277 (February 5, 1993) (approval order permitting specialists to 
``reliquify'' a dealer position by selling long on a zero-minus tick 
or by purchasing to cover a short position on a zero-plus tick 
without Floor Official approval).
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    The proposed amendments are intended to enhance the specialist's 
ability to deal for his or her own account to provide support to the 
market. Under the proposed rule change, specialists will, to a greater 
degree, be able to counter the market trend in a stock through 
effecting proprietary transactions that are against the market trend. 
The NYSE believes that in today's markets, characterized by increased 
volatility and institutional activity, the use of dealer capital in 
this fashion can add liquidity in a manner beneficial to the market.

III. Commission Findings and Conclusions

    The Commission finds that the proposed rule change is consistent 
with the requirements of the Act and the rules and regulations 
thereunder applicable to a national securities exchange, and, in 
particular, with Section 6(b)(5) of the Act.\9\ The Commission believes 
the proposal is consistent with the Section 6(b)(5) requirements that 
the rules of an exchange be designed to promote just and equitable 
principals of trade, remove impediments to and perfect the mechanism of 
a free and open market, and, in general, protect investors and the 
public interest, promote efficiency, competition and capital 
formation.\10\ The Commission also believes that the proposal is 
consistent with Section 11(b) of the Act and Rule 11b-1 thereunder,\11\ 
which allow exchanges to promulgate rules relating to specialists in 
order to maintain fair and orderly markets.
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    \9\ 15 U.S.C. 78f.
    \10\ 15 U.S.C. 78(c).
    \11\ 15 U.S.C. 78k and 17 CFR 240.11b-1(a)(2).
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    Both the Act and NYSE Rules reflect the crucial role played by 
specialists in

[[Page 48692]]

providing stability, liquidity and continuity in the Exchange's auction 
market. Recognizing the importance of the specialist in the auction 
market, the Act and NYSE Rules impose stringent obligations upon 
specialists.\12\ Primary among these obligations are the requirements 
to maintain fair and orderly markets and to restrict specialist 
dealings to those that are ``reasonably necessary'' in order to 
maintain a fair and orderly market.\13\
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    \12\ Rule 11b-1 under the Act, 17 CFR 240.11b-1 and NYSE Rule 
104.
    \13\ 17 CFR 240.11b-1(a)(2).
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    The importance of specialist performance to the quality of markets 
was highlighted during the 1987 and 1989 market breaks. In The October 
1987 Market Break Report (``1987 Report''), the Division examined 
specialist performance on the NYSE on October 19 and 20, 1987.\14\ The 
Division found that, during periods of the greatest volatility in 1987, 
particularly on October 19, 1987, NYSE specialists had to act as the 
primary, or sometimes the only, buyers for many of the specialty stocks 
because of the lack of buying interest by upstairs firms.\15\ The 
increased volume of order flow, coupled with the lack of participation 
on the part of the upstairs firms, resulted in NYSE specialists having 
to take large dealer positions.\16\ Although many NYSE specialists 
appeared to perform well under the adverse conditions, specialist 
performance during this period varied widely.
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    \14\ See 1987 Report, February 1988 at xvii, 4-1.
    \15\ See 1987 Report, 4-23 to 4-24 and 4-26, to 4-27. Generally, 
``upstairs firms,'' or block trading desks of large broker dealers 
(as opposed to specialists and other traders on the NYSE Floor), 
can, at times, provide an additional source of liquidity for NYSE-
listed issues through their trading activities. During the 1987 
market break, however, particularly on October 19, 1987, very little 
buying was effected by upstairs firms, forcing specialists to be the 
contra-side to large blocks of stock.
    \16\ See 1987 Report at 4-58.
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    The Division also examined NYSE specialist performance during the 
volatile conditions of October 13 and 16, 1989. The Division found that 
specialist performance during that time was similar in many respects to 
specialist performance during the 1987 market break.\17\ Specifically, 
the Division found that, during these two periods of extreme market 
volatility, specialists were confronted with extraordinary order 
imbalances that required unprecedented capital commitments.\18\ As in 
October 1987, specialists as a whole on October 13, 1989 were 
substantial buyer in the face of heavy selling pressure, although 
performance varied among specialists.
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    \17\ See Market Analysis of October 13 and 16, 1989 (``1989 
Analysis'') at 3-4 and 33-44.
    \18\ See 1987 Report at 4-8 and 1989 Report at 23-26.
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    Both the 1987 Report and the 1989 Analysis reaffirmed the 
importance of specialist participation in countering market trends 
during periods of market volatility. At the same time, the reports 
emphasized the importance the Commission placed on the NYSE's ability 
to ensure that all specialists comply with their affirmative and 
negative market making obligations during such periods.\19\
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    \19\ A specialist's dealer responsibilities consist of 
``affirmative'' and ``negative'' obligations. In accordance with 
their affirmative obligations, specialists are obligated to trade 
for their own accounts to minimize order disparities and contribute 
to continuity and deputy in the market. Conversely, pursuant to 
their negative obligations, specialists are precluded from trading 
for their own accounts unless such dealing is necessary for the 
maintenance of a fair and orderly market. In view of these 
obligations, the price trend in a security should be determined not 
by specialist trading but by the movements of the incoming orders 
that initiate these trades.
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    The Commission recognizes that market conditions may exist at times 
where it is necessary or desirable to provide specialists with 
additional flexibility in establishing or increasing a position in 
order to facilitate their ability to maintain fair and orderly markets, 
particularly during unusual market conditions. Accordingly, the 
Commission believes that it is appropriate for the NYSE to remove those 
provisions of Rule 104.10(5)(i) that require floor official approval 
for certain specialist purchases on zero-minus ticks and specialist 
sales on zero-plus ticks.\20\ The proposed changes may allow 
specialists, during periods of market volatility, to keep any general 
price movements orderly, thereby furthering the maintenance of fair and 
orderly markets consistent with Sections 6 and 11 of the Act. The 
Commission emphasizes, however, that the expanded flexibility afforded 
to specialists by the proposal merely obviates the current required 
floor official approval for the affected transactions and does not 
reflect that all specialist purchases on zero-minus ticks and sales on 
zero-plus ticks are appropriate. Notably, specialists remain subject to 
their ``negative obligations,'' specifically, the requirement that 
specialists are precluded from trading for their own account unless 
such dealing is necessary for the maintenance of a fair and orderly 
market.\21\
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    \20\ The Commission notes that Rule 104.10(5)(i) currently only 
requires floor official approval for purchases or sales at a price 
equal to the last sale price when all or substantially all the stock 
offered/bid on the limit order book represents all or substantially 
all the stock offered/bid in the market. Moreover, the rule 
currently does not require floor official approval of such 
transactions if they are effected in ``less active markets'' where 
they are an essential part of a proper course of dealings and where 
the amount of stock involved and the price change, if any, are 
normal in relation to the market.
    \21\ In addition, NYSE Rule 104.10(5)(i) clearly requires that 
covered transactions must be reasonably necessary to render the 
specialist's position adequate to such needs.
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    Finally, the Commission believes that the NYSE's established 
surveillance procedures and criteria should allow the Exchange to 
monitor specialist compliance with NYSE Rule 104.10(5)(i). More 
specifically, the Commission expects the NYSE to monitor carefully 
compliance with the procedures of NYSE Rule 104 as required under 
Section 19(g) of the Act.\22\
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    \22\ Section 19(g) of the Act requires every self-regulatory 
organization to comply with, and enforce compliance with, the Act, 
the rules thereunder and its own rules.
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    For the foregoing reasons, the Commission finds that the NYSE's 
proposal to permit specialists to engage in certain types of 
transactions by removing existing restrictions that currently limit 
specialists when establishing or increasing a position in their 
specialty stocks is consistent with the requirements of the Act and the 
rules and regulations thereunder.
    It is therefore ordered, pursuant to Section 19(b)(2) of the Act, 
that the proposed rule change (SR-NYSE-10), as amended, is approved.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\23\
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    \23\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-24543 Filed 9-15-97; 8:45 am]
BILLING CODE 8010-01-M
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