68334 Federal Register / Vol. 62, No. 250 / Wednesday, December 31, 1997 / Notices

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

2 17 CFR 240.19b–4.

3Amendment No. 2 states that the Equity

Allocation Committee (‘‘EAC’’) will consider

mitigating circumstances on a case-by-case basis.

The restrictions will apply in all cases in which the

specialist fails to meet the standards; any failure to

impose the restrictions should not be routine and

should only occur in exceptional circumstances

which demonstrate that imposing the restrictions is

not justified. For example, the EAC may consider

a systems problem to be a mitigating circumstance

in a particular case. See letter from Jeffrey S. Norris,

Manager, Regulatory Development, PCX, to Heather

Seidel, Attorney, Market Regulation, Commission,

dated December 4, 1997 (‘‘Amendment No. 2’’).

4Prior to the adoption of the pilot program, PCX

Rule 5.37(a) provided that the Exchange’s EAC

evaluate all registered specialists on a quarterly

through securities dealers. The primary

financing vehicle for its mortgage purchases

is the sale of Mortgage Passthrough

Certificates (PCs). These securities are

exempt from registration under the Securities

Act of 1933 and the Exchange Act of 1934.

In 1990, Freddie Mac redesigned its fixedrate PC structure and issued a new type of

PC, called Gold PC. Since the Gold PCs were

entirely new and a separate product, there

was limited initial liquidity in the Gold PC

market. As a result, dealers responded to the

initial lack of liquidity in the Gold PC

market, with its potential volatility, by

maintaining primary Fannie Mae security

positions, and by entering into synthetic

transactions in the swap market.

As a result of the above, Freddie Mac

launched this Initiative to encourage dealers

to purchase Gold PCs directly, rather than

through the swap market mechanism. The

Initiative includes offering dealers ‘‘credits’’

for trading directly on the interdealer cash

market, as opposed to the swap market.

Freddie Mac has developed procedures and

internal controls to calculate trading volume

credits monthly to the dealers and assure

proper administration of the program.

According to your letter, this Initiative is

intended to be temporary, and the value of

the credits were selected so as to provide a

nominal economic incentive over the

transaction costs on the swap market, while

not providing so much of an incentive as to

alter pricing of the securities in the open

market. More important, the credits awarded

under this Initiative may only be redeemed

through transactions with Freddie Mac.

Discussion

NASD Rule 2460 prohibits NASD members

from receiving payments or other

consideration from an issuer for publishing a

quotation or acting as a maker in a security,

or for submitting an application to make a

market in the issuer’s securities. The

definition of ‘‘consideration’’ specifically

includes offering securities products on

terms that are more favorable than those

granted or offered to the public. The Rule

was intended to prevent certain conflicts of

interest that may influence a broker-dealer’s

decision regarding whether to quote or make

a market in a security and prices that are

quoted and to prevent a misleading

appearance of market activity based on such

conflicts. Paragraph (b) of the Rule also

provides an exemption, among others, for

certain payment to members for ‘‘bona fide’’

services, including, but not limited to,

investment banking services.

Due to unique characteristics of the

Freddie Mac Initiative, you principally

present three arguments why the Rule was

not intended to cover your Initiative: (1) the

Initiative promotes Freddie Mac’s statutory

purpose; (2) the Initiative does not affect the

integrity of the marketplace; and (3) the

Initiative is intended to be temporary.

First, you represent that the Initiative

appears to promote Freddie Mac’s statutory

purpose, in that, Freddie Mac was created by

Congress to provide a conduit for ensuring a

continuous supply of funds from the capital

markets to the mortgage markets. Freddie

Mac purchases mortgages daily and finances

them primarily with the issuance of

mortgage-backed securities. The prices

Freddie Mac pays for its mortgage purchases

is based directly on the prices at which it

sells its PCs. It has been represented in your

letter that this Initiative was developed to

eliminate certain unnecessary costs in the

mortgage finance system by improving

interdealer PC liquidity through encouraging

dealers to purchase Gold PCs directly, as

opposed to entering into transactions in the

swap market.

Second, you represent that the Initiative

does not appear to affect the integrity of the

marketplace, since the nature and

characteristics of the agency mortgage passthrough securities market is unique and

appears outside of the intended scope of the

Rule. Since the dealers in this market trade

these securities as fungible products (i.e.,

PCs, Mortgage-backed securities, Ginnie

Maes) and trade on the interdealer broker

screens daily as a matter of course to meet

their customer’s demand, the concept of

market making a particular security has little

application in this marketplace.

In addition, you represent that the

incentives which lead a broker-dealer to

make a quotation on a PC differ from

traditional equity trading. Customer demand

in fixed-income securities is based primarily

on changes in interest rates, supply and

demand, and the quality of the credit backing

the security. In the agency mortgage-backed

securities market, the credit of the three

primary agencies (Freddie Mac, Fannie Mae

and Ginnie Mae) is considered comparable,

the supply of the securities is considered

plentiful, and a well-developed forward

trading market permits ready hedging of

positions. This market differs from the

characteristics of the traditional equity

market. Accordingly your letter represents

that, given the number of comparable

securities in the yield driven debt market, it

is unlikely that certain dealer credits to

purchase Gold PCs would mislead market

participants to purchase the Gold PCs versus

other comparable securities.

Lastly, you represent that this Initiative is

intended to be temporary. According to your

letter, it is expected that dealer behavior will

eventually become self-sustaining and no

further incentives will be required.

Based on the above information and the

representations presented by Freddie Mac,

and the importance of the role of Freddie

Mac in promoting liquidity of these

instruments under statutory mandate, it is

the staff’s opinion that the participation of

member firms in the Freddie Mac Initiative

as described in your letter would not be

deemed in violation of Rule 2460.

I hope this letter is responsive to your

inquiry. Please note that the opinions

expressed herein are staff opinions only and

have not been reviewed or endorsed by the

Board of Directors of NASD Regulation. This

letter responds only to the issues that you

have raised based on the facts as described,

and does not address any other rule or

interpretation of the Association, or all the

possible regulatory and legal issues involved.

Sincerely,

David A. Spotts,

Office of General Counsel, NASD Regulation,

Inc.

[FR Doc. 97–33994 Filed 12–30–97; 8:45 am]

BILLING CODE 8010–01–M

SECURITIES AND EXCHANGE

COMMISSION

[Release No. 34–39477; File No. SR–PCX–

97–43]

Self-Regulatory Organizations; Order

Granting Accelerated Approval of

Proposed Rule Change and Notice of

Filing and Order Granting Accelerated

Approval to Amendment No. 2 to

Proposed Rule Change by the Pacific

Exchange, Inc. Relating to Its

Specialist Evaluation Program

December 22, 1997.

On November 17, 1997, the Pacific

Exchange, Inc. (‘‘PCX’’ 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 a proposed rule change to

extend its pilot program regarding the

evaluation of its equity specialists until

January 1, 1999, and to implement

certain changes to the pilot program.

The proposed rule change was

published for comment in Securities

Exchange Act Release No. 39358

(November 25, 1997), 62 FR 64035

(December 3, 1997). No comments were

received on the proposal. The Exchange

filed Amendment No. 2 to the proposed

rule filing on December 5, 1997.3 This

order approves the proposed rule

change, as amended, on an accelerated

basis.

I. Description

On October 1, 1996, the Commission

approved a nine-month pilot program

for the evaluation of PCX equity

specialists.4 On June 3, 1997, the
Federal Register / Vol. 62, No. 250 / Wednesday, December 31, 1997 / Notices 68335

basis and that each specialist receive an overall

evaluation rating based on three criteria of

specialist performance: (1) Specialist Evaluation

Questionnaire Survey (‘‘Questionnaire’’) (45% of

overall score); (2) SCOREX Limit Order Acceptance

Performance (10%); and (3) National Market System

Quote Performance (45%). See PSE Rule 5.37 (July

1995).

The original pilot program modified Rule 5.37(a)

by adding three new criteria of performance and

eliminating one performance criterion. Prior to this

proposed rule change, the pilot contained the

following criteria: (1) Executions (50%) (itself

consisting of four criteria: (a) Turnaround Time

(15%); (b) Holding Orders Without Action (15%);

(c) Trading Between the Quote (10%); and (d)

Executions in Size Greater Than BBO (10%)); (2)

Book Display Time (15%); and (3) Post-1

p.m.Parameters (10%). The pilot also eliminated the

SCOREX Limit Order Acceptance Performance

criterion. Further, the pilot added more questions

to the Questionnaire, and reduces its weight from

45% to 15% of the overall score. Finally, the

National Market System Quote Performance

criterion (renamed Quote Performance under the

pilot) was amended to include within it an

additional submeasure for bettering the quote (each

of the two submeasures under this criterion is

accorded a weight of 5% of the overall score). For

a more detailed description of the performance

criteria utilized in the PCX’s pilot program, see

Securities Exchange Act Release No. 37770 (October

1, 1996), 61 FR 52820 (October 8, 1996) (File NO.

SR–PSE–96–28). See also generally PCX Rule 5.37

(description of the standards and procedures

applicable to the EAC’s evaluation of specialists).

5See Securities Exchange Act Release No. 38712

(June 3, 1997), 62 FR 17941 (July 8, 1997).

6According to the PCX, the regional exchanges

have agreed to the following definition for

marketable limit orders: A marketable limit order to

buy is priced at or above the NBBO offer, a

marketable limit order to sell is priced at or below

the NBBO bid.

7The PCX states that preopening market and limit

orders were excluded because all such orders are

entered prior to there being a market that is trading,

so there is no market to improve upon. Limit order

executions out of the limit book (i.e., booked orders)

were not included because they are filled as the

market moves toward them, not when they are

outside of the NBBO. Electronically entered limit

orders whose price falls in between the NBBO were

excluded because these are not executable at the

time they are entered, unless the specialist chooses

to fill them. Non-regular-way trades (i.e., cash, next

day and seller’s option) and negotiated trades are

not included because they are negotiated and the

price does not necessarily depend upon the NBBO.

Trades identified as crosses were excluded because

specialists do not participate in crosses, by

definition. Bonds and orders designated as possible

duplicates (POSS DUPE) were not included because

they are entered manually. Canceled orders were

excluded because orders cannot be improved upon

if they are not allowed to be executed. Odd-lot

market and odd-lot limit orders were not included

because they are executed automatically in the

background, and the specialist never has the

opportunity to improve upon them. Orders

designated as all or none (AON) and all tick

sensitive executions (i.e., buy minus, sell plus, sell

short, etc.) were excluded because they are

conditional orders. Market quotations under 200

shares were not included because they are usually

computer generated and the specialists generally

have no opportunity to improve them. Principal

orders were excluded because they cannot be sent

via PCOAST. Program trades were not included

because they involve a large portfolio of stocks and

derivative index products, which are not generally

routed to a regional exchange for execution.

Commission approved a six-month

extension of that pilot program.5 The

reason for the extension was to allow

the PCX more time to evaluate the

impact of the SEC’s new order handling

rules on the performance criteria and to

determine an appropriate overall

passing score and individual passing

scores for each criterion. The Exchange

now is proposing to extend the pilot

program until January 1, 1999. The PCX

has established an overall passing score

and individual passing scores for each

criterion and has determined when

specialists that do not attain the

minimum passing scores should meet

with the EAC. The Exchange is also

proposing to replace the ‘‘Bettering the

Quote’’ criterion with Price

Improvement and to lower the

weighting of the Specialist Evaluation

Questionnaire from 15% to 10% so that

Price Improvement can be given a

weight of 10%.

Price Improvement

‘‘Price Improvement’’ measures the

number of trades involving market and

marketable limit orders that improve the

national best bid or offer (‘‘NBBO’’) if

the NBBO quote spread at the time the

original order is received is greater than

or equal to two trading differentials, but

less than or equal to eight trading

differentials for that security. The

execution price for stopped market or

marketable limit orders will be

compared with the guaranteed price

(which is the NBBO at the time the

order was received).

Orders completely or partially

executed will be considered for price

improvement. All one-sided market or

marketable limit orders 6 with an NBBO

quote spread greater than 1⁄8 point are

eligible for price improvement. Only

agency orders entered or received by an

exchange are eligible for price

improvement. Orders with time-in-force

designations such as good until

canceled (GTC), good through day of

entry (DAY), immediate or cancel (IOC),

and good until executed will be eligible

for price improvement. In addition,

stocks, rights, warrants, preferred stock,

when issued, and when distributed

equity securities will be eligible for

price improvement.

The following types of orders will not

be considered under the category of

price improvement: all preopening

market and limit orders, limit order

executions out of the limit book (i.e.,

booked orders), electronically entered

limit orders whose price falls in

between the NBBO, non-regular-way

trades (i.e., cash, next day and seller’s

option), negotiated trades or trades

identified as crosses, bonds, orders

designated as possible duplicates (POSS

DUPE or try to stop (TTS), canceled

orders, odd-lot market and odd-lot limit

orders, orders designated as all or none

(AON), all tick sensitive executions (i.e.,

buy minus, sell plus, sell short, etc.),

market quotations under 200 shares, and

principal an program trade account

types.7

Specialists will be measured on the

percentage of trades that are price

improved. The following table gives the

parameters and corresponding point

values:

Percent of eligible trades improved Points

40+ .................................................... 10

36¥39.99 ......................................... 9

32¥35.99 ......................................... 8

28¥31.99 ......................................... 7

24¥27.99 ......................................... 6

20¥23.99 ......................................... 5

16¥19.99 ......................................... 4

12¥15.99 ......................................... 3

8¥11.99 ........................................ 2

4¥ 7.99 ...................................... 1

Below 4 ............................................. 0

Overall Passing Score

The PCX has established an overall

passing score of 60 as the minimum

standard that each specialist must attain

each quarter. A specialist will have to

obtain better than a passing score in

each individual criterion (see minimum

passing scores shown below) to obtain

a minimum passing score of 60. Any

specialist who falls below the minimum

passing score will have to appear before

the EAC and will be subject to the

following restrictions: no new

allocations and no trading in alternate

specialist stocks for the quarter

following the quarter that the specialist

was evaluated. Any specialist who does

not attain a passing score in any three

out of four quarters will also be subject

to other restrictions imposed by the

EAC, including reallocation of one or

more stocks. The EAC will evaluate the

effectiveness of the overall passing score

and will adjust it accordingly.

Individual Criterion Passing Scores

The PCX has established individual

passing scores for each individual

criterion based upon third quarter 1997

evaluation results. The third quarter of

1997 was the first evaluation period that

the Trading Between the Quote, Book

Display Time, and Quote Performance

calculations were based upon the NBBO

instead of the primary market. In

addition, the evaluation results in the

third quarter were based upon onesixteenth trading increments instead of

one-eighth increments. As a result of the

NBBO changes and the change to
68336 Federal Register / Vol. 62, No. 250 / Wednesday, December 31, 1997 / Notices

8Rule 11b–1, 17 CFR 240.11b–1; PSE Rule 5.29(f).

9For a description of the Commission’s rationale

for initially approving the PCX’s adoption of its

specialist evaluation pilot program, see Securities

Exchange Act Release No. 37770, supra note 4. The

discussion in the aforementioned order is

incorporated by reference into this order.

10See supra note 5.

11The Exchange’s use of the primary market

quote in these three measures did not allow for

such comparisons to be made in instances where

the primary market quote is not equal to the NBBO.

See Id. at n.16.

sixteenths, individual passing scores in

the affected criteria were lower than in

previous quarters. Previous quarter

scores were not used to determine

individual criterion passing scores

because of the aforementioned changes.

PCX states that the EAC will evaluate

the effectiveness of the individual

passing scores and will adjust them

accordingly. The individual passing

scores for each criterion are as follows:

Evaluation criterion Passing

score

Turnaround Time .......................... 12

Holding Orders Without Action ..... 7.5

Trading Between the Quote ......... 5

Executions in Size Greater Than

NBBO ........................................ 2

Specialist Evaluation Questionnaire Survey .............................. 5

Book Display Time ........................ 10.5

Equal or Better Quote Performance ........................................... 1

Post 1 P.M. Parameters ............... 3

Price Improvement ........................ 4

Any specialist who does not attain a

minimum passing score in a particular

criterion for two or more consecutive

quarters or more will be subject to the

following:

1. If a specialist does not attain a

passing score in any particular

individual criterion for 2 consecutive

quarters, the specialist will have to

appear before the EAC. The EAC will

meet with the specialist with the intent

of helping the specialist to improve the

score.

2. If a specialist does not attain a

passing score in any particular

individual criterion for 3 out of 4

consecutive quarters, the specialist will

either not be permitted to trade any

alternate specialist stocks or not be able

to apply for any new stocks for one

quarter. The Equity Allocation

Committee will decide which restriction

will apply.

3. If a specialist does not attain a

passing score in any particular

individual criterion for 4 out of 5

consecutive quarters, 5 out of 6 quarters,

etc., the specialist will be subject to both

the alternate specialist and no new stock

restrictions for one quarter. The EAC

may also, at its discretion, impose other

restrictions, including reallocating one

or more of the specialist stocks.

The EAC will consider mitigating

circumstances on a case-by-case basis.

The restrictions will apply in all cases

in which the specialist fails to meet the

standards; any failure to impose the

restrictions should not be routine and

should only occur in exceptional

circumstances which demonstrates that

imposing the restrictions is not justified.

For example, the EAC may consider a

systems problem to be a mitigating

circumstance in a particular case.

II. Discussion

The Commission believes that

specialists play a crucial role in

providing stability, liquidity, and

continuity to the trading of stocks.

Among the obligations imposed upon

specialists by the Exchange, and by the

Act and the rules promulgated

thereunder, is the maintenance of fair

and orderly markets in their designated

securities.8 To ensure that specialists

fulfill these obligations, it is important

that the Exchange conduct effective

oversight of their performance. The

PCX’s specialist evaluation program is

critical to this oversight.

In its order initially approving the

specialist evaluation pilot program,9 the

Commission asked the Exchange to

monitor the effectiveness of the

amended program. Specifically, the

Commission requested information

about the number of specialists who fell

into the bottom 10% of all registered

specialists on their respective trading

floors in the overall program, whether

they subsequently appeared before the

EAC, and any restrictions placed upon,

or further action taken against, such

specialists. The Commission also

requested information as to the number

of specialists who appeared before the

EAC as a result of scoring in the bottom

10% in any two out of four consecutive

quarterly evaluations, whether any

restrictions were imposed on such

specialists, and the results of any formal

proceedings that were initiated against

them.

In May 1997, the PCX submitted to

the Commission its monitoring report

regarding its specialist evaluation pilot

program. The report described the PCX’s

experience with the pilot program

during the initial two quarters of its

operation (i.e., the fourth quarter of

1996 and the first quarter of 1997). In

terms of the overall scope of the

program, the Commission continues to

believe that the objective measures,

together with the floor broker

questionnaire, should generate

sufficiently detailed information to

enable the Exchange to make accurate

assessments of specialist performance.

In this regard, the increased emphasis

on objective criteria under the pilot has

been useful in identifying how well

specialists carry out certain aspects (i.e.,

timeliness of execution, price

improvement, and market making

quality) of their responsibilities as

specialists.

In June 1997, the Commission

approved an extension of the pilot to

January 1, 1997.10 Since that time, the

Exchange has begun (starting with the

third quarter of 1997) to utilize the

NBBO instead of the primary market

quote in Trading Between the Quote,

Book Display Time, and Quote

Performance criteria, and the PCX is

proposing to continue to utilize the

NBBO for these criteria during the pilot

extension. The Commission continues

to believe that the NBBO is a more

appropriate standard in this context in

that it will enable the Exchange to gauge

the performance of PCX specialists in

comparison with their competitors not

only in the primary market, but in the

national market system as a whole.11

Therefore, the Commission finds that

the PCX’s proposal is responsive to the

Commission’s request for such an

amendment.

The Commission believes that the

proposed overall passing score and the

individual criterion passing scores are

consistent with the Act. The

Commission believes that minimum

adequate performance thresholds are an

important part of any specialist

performance evaluation program

because they allow the Exchange to

identify specialists who are not

operating at an acceptable level of

performance, both overall and in

individual objective criterion. The

Commission has stated that an effective

evaluation program should subject

specialists who meet minimum

performance levels on the overall

program, but need help or guidance in

improving their performance in a

particular area, to review. While the

PCX’s current specialist evaluation

program subjects those specialists

falling into the bottom 10% of all

specialists on his or her trading floor to

review by the EAC, it did not set a

minimum performance level on the

overall program, or for the individual

criterion. The proposed rule change

rectifies this situation by imposing

overall and individual criterion passing

scores.

The Commission notes that the

Exchange must apply certain

restrictions on any specialist who fails

the overall passing score and the
Federal Register / Vol. 62, No. 250 / Wednesday, December 31, 1997 / Notices 68337

12See Amendment No. 2, supra note 3.

13The NBBO quote spread at the time of the

original order is received must be greater than or

equal to two trading differentials, but less than or

equal to eight trading differentials for that security.

The execution price for stopped market or

marketable limit orders will be compared with the

guaranteed price (which is the NBBO at the time the

order was received).

14 In this regard, all specialists falling within the

bottom 10% of specialists on their respective floors

in any review period are required to meet with the

EAC. See also PCX Rule 5.37 (standards applicable

to specialists falling into the bottom 10% in any

two out of four review periods, including those

pertaining to the initiation of formal reallocation

proceedings). Moreover, PCX Rule 5.36(d),

Commentary .03 requires that all specialists falling

into the bottom 10% in a review period must be

precluded from acting as alternate specialists until

their ranking rises above the bottom 10%, unless

the EAC determines otherwise. In addition, PCX

Rule 5.37(b), Commentary .01 requires that all such

specialists shall not be eligible for new allocations

until their ranking rises above the bottom 10%.

Consequently, the Commission expects that

appropriate action in accordance with PCX rules

will be taken with regard to those specialists falling

into the bottom 10%. The Commission notes that

the PCX stated its intention to file a rule change to

PCX Rule 5.37 to reflect all of the aforementioned

changes to its Specialist Evaluation Pilot Program.

15 15 U.S.C. 78f(b) and 78k.

16 In approving this rule change, the Commission

has considered the proposed rule’s impact on

efficiency, competition, and capital formation. 15

U.S.C. 78c(f).

17 15 U.S.C. 78k(b).

individual criterion passing scores for

certain specified time periods. In

addition, the Commission notes that the

Exchange has represented that the EAC

will evaluate the effectiveness of the

overall and individual criterion passing

scores and will adjust them as

necessary. Finally, the Commission

emphasizes that the EAC will consider

mitigating circumstances only on a caseby-case basis and that the restrictions

will apply in all cases in which the

specialist fails to meet the standards,

unless exceptional circumstances

demonstrate that imposing the

restrictions is not justified. The

Commission expects that any failure to

impose the restrictions should not be

routine and should only occur when the

exceptional circumstances, such as a

systems problem in a particular case,

justify not imposing the restrictions.12

The Commission believes that

replacing the ‘‘Bettering the Quote’’

criterion with Price Improvement, and

lowering the Specialist Evaluation

Questionnaire weighting to 10% and

according Price Improvement a 10%

weighting, is reasonable under the Act.

The Commission notes that price

improvement will measure the number

of trades involving market and

marketable limit orders that improve the

NBBO; 13 Bettering the Quote was

originally measured against the primary

market and is now measured against the

NBBO. The Commission also notes that

there is still a category for ‘‘Equal or

Better Quote Performance.’’ Finally, the

Commission notes that Price

Improvement provides an additional

objective criterion to measure specialist

performance.

The Commission believes that it is

appropriate to extend the current pilot

program for an additional year, until

January 1, 1999. This period will allow

the Exchange to respond to evaluate the

effectiveness of the overall passing score

and the individual criterion passing

scores, and the specialist performance

program as a whole. Moreover, the

Commission expects the Exchange to

conduct an ongoing examination of the

parameter ranges and corresponding

points allotted under each criterion to

ensure that they continue to be set at

appropriate levels.

The Commission therefore requests

that the PCX submit by October 30, 1998

a proposed rule change pursuant to Rule

19b–4 to include any proposal by the

PCX to extend the pilot beyond January

1, 1999.

In addition, the Commission requests

that the PCX submit a report to the

Commission, by October 30, 1998,

describing its continuing experience

with the pilot. At a minimum, this

report should contain data, for the first,

second and third quarters of 1998, on (1)

the number of specialists who, as a

result of failing the overall passing score

in any one quarterly evaluation,

appeared before the EAC, and the type

of restrictions that were imposed on

such specialists (i.e., restriction on new

allocations or acting as an alternate

specialist), or any further action that

was taken against such specialists; (2)

the number of specialists who, as a

result of failing the overall passing score

in any three out of four quarters,

appeared before the EAC, and the type

of restrictions that were imposed on

such specialists (i.e., reallocation of new

stocks), or any further action that was

taken against such specialists; (3) the

number of specialists who, as a result of

failing any individual criterion passing

score for two consecutive quarters, or

three out of four consecutive quarters,

four out of five consecutive quarters,

and so on, appeared before the EAC, and

the type of restrictions that were

imposed on such specialists; (4) the

number of specialists for whom formal

proceedings were initiated, the results

of such proceedings, including a list of

any stocks reallocated from a particular

unit; (5) the number of registered

specialists who scored in the bottom

10% of all registered specialists on his

or her trading floor in the overall

program; (6) the number of specialists

who, as a result of scoring in the bottom

10% in any one quarterly evaluation,

appeared before the EAC, and the type

of restrictions that were imposed on

such specialists (i.e., restrictions on new

allocations or acting as an alternate

specialist), or any further action that

was taken against such specialists; (7)

the number of specialists who, as a

result of scoring in the bottom 10% in

any two out of four consecutive

quarterly evaluations, appeared before

the EAC, whether any restrictions were

imposed on such specialists, and

whether formal proceedings were

initiated against such specialists; and (8)

any situation in which the restrictions

were not imposed due to mitigating

circumstances, what those

circumstances where, and the reasoning

as to why the restrictions were not

imposed.

The Commission notes that the

Exchange’s pilot program only modifies

the performance criteria of PCX Rule

5.37(a). Consequently, the Commission

expects the EAC to continue to evaluate

the performance of specialists during

the pilot period in accordance with the

standards and procedures found in the

PCX rules.14

For the reasons discussed above, the

Commission finds that the PCX’s

proposal to extend its pilot program is

consistent with the requirements of

Sections 6(b) and 11 of the Act 15 and

the rules and regulations thereunder

applicable to a national securities

exchange. Specifically, the Commission

finds that the proposed rule change is

consistent with the Section 6(b)(5)

requirement that the rules of an

exchange be designed to promote just

and equitable principles of trade, to

remove impediments to and perfect the

mechanism of a free and open market

and a national market system, and, in

general, to protect investors and the

public interest.16

Further, the Commission finds that

the proposal is consistent with Section

11(b) of the Act 17 and Rule 11b–1

thereunder which allow securities

exchanges to promulgate rules relating

to specialists in order to maintain fair

and orderly markets and to remove

impediments to and perfect the

mechanism of a national market system.

The Commission finds good cause for

approving the proposed rule change

prior to the thirtieth day after the date

of publication of notice thereof in the

Federal Register. This will permit the

pilot program to continue both on an

uninterrupted basis and with the use of

overall and individual criterion passing

scores, and a new measure, Price

Improvement. In addition, the rule
68338 Federal Register / Vol. 62, No. 250 / Wednesday, December 31, 1997 / Notices

18See Securities Exchange Act Release 37770,

supra note 4.

19 19 U.S.C. 78s(b)(2).

20 17 CFR 200.30–3(a)(12).

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

2 17 CFR 240.19b–4.

3Securities Exchange Act Release No. 39178

(October 1, 1997), 62 FR 52804.

4The PHLX has represented that it currently

interprets the term ‘‘employees’’ in Rule 761 to

include persons such as partners, directors, officers

and branch managers. The PHLX has also

represented that the proposed commentary will not

change the existing interpretation of the term

‘‘employee’’ except to expand the universe of

persons defined as employees. Letter from Michele

R. Weisbaum, Vice President and Associate General

Counsel, PHLX, to Kevin Ehrlich, Attorney,

Division of Market Regulation, dated December 18,

1997.

5 15 U.S.C. 78f(b)(5).

6See Chicago Stock Exchange Rule 5 and

Interpretation .02; Cincinnati Stock Exchange Rule

5.1; Pacific Exchange Rule 2.6(e) and Commentary

.03; Chicago Board Options Exchange Rule 4.18 and

Commentary .02; Boston Stock Exchange Rule 37(a)

and Commentary .03.

change that implemented the pilot

program initially was published in the

Federal Register for the full comment

period, and no comments were

received.18 The Commission also finds

good cause for approving Amendment

No. 2 prior to the thirtieth day after the

date of publication of notice in the

Federal Register. Amendment No. 2

strengthened the proposed rule change

by clarifying that the EAC will consider

mitigating circumstances only an a caseby-case basis, and will only apply them

in exceptional circumstances which

demonstrate that imposing the

restrictions is not justified. Accordingly,

the Commission believes good cause

exists, consistent with the Act, to

accelerate approval of the proposed rule

change and of Amendment No. 2.

Interested persons are invited to

submit written data, views, and

arguments concerning Amendment No.

2 to the rule proposal. 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 at

the Commission’s Public Reference

Room. Copies of such filing also will be

available for inspection and copying at

the principal office of the Exchange. All

submissions should refer to File No.

SR–PCX–97–43 and should be

submitted by January 21, 1998.

III. Conclusion

It is therefore ordered, pursuant to

Section 19(b)(2) 19 that the proposed

rule change, as amended, is hereby

approved on an accelerated basis.

For the Commission, by the Division of

Market Regulation, pursuant to delegated

authority.20

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 97–33995 Filed 12–30–97; 8:45 am]

BILLING CODE 8010–01–M

SECURITIES AND EXCHANGE

COMMISSION

[Release No. 34–39468; File No. SR–PHLX–

97–39]

Self-Regulatory Organizations;

Philadelphia Stock Exchange, Inc.;

Order Granting Approval to Proposed

Rule Change Relating to Changes in

Insider Trading and Securities Fraud

Enforcement Act Rules

December 18, 1997.

I. Introduction

On August 18, 1997, the Philadelphia

Stock Exchange, Inc. (‘‘PHLX’’ 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 a proposed rule change to

include PHLX member organizations

within the scope of Insider Trading and

Securities Fraud Act (‘‘ITSFEA’’)

coverage and clarify the definition of

‘‘employee’’ to include indirectly

compensated persons such as

independent contractors.

The proposed rule change was

published for comment in the Federal

Register on October 9, 1997.3 No

comments were received on the

proposal. This order approves the

proposal.

II. Description of the Proposal

Presently, PHLX is the designated

examining authority (‘‘DEA’’) for

approximately eighteen firms that do

not have a floor presence. Because

PHLX Rule 761 and Floor Procedure

Advice F–13 (collectively, ‘‘PHLX

ITSFEA rules’’) which implement

ITSEFA-related written supervisory

procedures currently only cover PHLX

floor units, members without a floor

unit are exempt from the application of

these rules. The Exchange is removing

this exception. Accordingly, all PHLX

members will be covered by the PHLX

ITSFEA rules.

Additionally, the PHLX ITSFEA rules

currently impose certain regulatory

requirements upon ‘‘employees’’ of

members. The rule, however, does not

contain a definition of such term. PHLX

proposes to add a commentary to these

rules in order to interpret the term

‘‘employee’’ to include ‘‘every person

who is compensated directly or

indirectly by the member organization

for the solicitation or handling of

business in securities, including those

trading securities from the account of

the member organization, whether such

securities are those dealt in on the

Exchange or those dealt over-thecounter.’’ This change will now include

persons as ‘‘employees’’ who might

have previously been excluded based on

the nature of their compensation

arrangements.4

III. Discussion

After careful review, 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. The Commission

believes the proposal is consistent with

the requirements of Section 6 of the Act

in general and, in particular, with

Section 6(b)(5) in that it is designed to

promote just and equitable principles of

trade and prevent fraudulent and

manipulative acts and practices.5

The Commission finds that the

proposal will further the goals of

ITSFEA by extending to all PHLX

members the requirements to maintain

written supervisory procedures

designed to prevent the misuse of

material, non-public information by

employees. The rules of other selfregulatory organizations currently

extend ITSFEA-related requirements to

all members.6

The Commission believes that the

proposal will also further the goals of

ITSFEA by defining the term

‘‘employees’’ to include ‘‘every person

compensated directly or indirectly by

the member organization for the

solicitation or handling of business in

securities, including those trading

securities from the account of the

member organization, whether such

securities are those dealt in on the

Exchange or those dealt over-thecounter.’’ In particular, this proposed

change appropriately expands coverage

of Rule 761 and Floor Procedure Advice

F–13 to include as employees those