[Federal Register Volume 65, Number 228 (Monday, November 27, 2000)]
[Notices]
[Pages 70749-70751]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 00-30135]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-43564; File No. SR-NASD-00-61]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change by the National Association of Securities Dealers, Inc. Relating 
to the Penalty for Market Makers That Voluntarily or Accidentally 
Withdraw Their Quotes or Fail To Refresh Their Quotes and the Time 
Period Market Makers Have To Apply To Reinstate Their Quotes

November 15, 2000.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Exchange Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby 
given that on October 18, 2000, the National Association of Securities 
Dealers, Inc. (``NASD'' or ``Association''), through its wholly-owned 
subsidiary, 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. 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.
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    Nasdaq is filing this proposed rule change to amend NASD Rules 4620 
and 4730 to reduce the penalty for market makers that voluntarily or 
accidentally withdraw their quotes or fail to refresh their quotes in a 
timely manner. The proposal would also increase the time period market 
makers have to apply to reinstate their quotes.
    The text of the proposed rule change follows. Proposed new rule 
language is in italics; proposed deletions are in brackets.

4620. Voluntary Termination of Registration

    (a) A market maker may voluntarily terminate its registration in 
a security by withdrawing its quotations from The Nasdaq Stock 
Market. A market maker that voluntarily terminates its registration 
in a security may not re-register as a market maker in that security 
for [twenty (20)] ten (10) business days. Withdrawal from SOES 
participation as a market maker in a Nasdaq National Market security 
shall constitute termination of registration as a market maker in 
that security for purposes of this Rule; provided, however, that a 
market maker that fails to maintain a clearing arrangement with a 
registered clearing agency or with a member of such an agency and is 
withdrawn from participation in the Automated Confirmation 
Transaction System and thereby terminates its registration as a 
market maker in Nasdaq National Market issues may register as a 
market maker at any time after a clearing arrangement has been 
reestablished and the market maker has complied with ACT participant 
requirements contained in Rule 6100.
    (b) Notwithstanding the above, a market maker that accidentally 
withdraws as a market maker may be reinstated if:
    (1) The market maker notified Market Operations of the 
accidental withdrawal as soon as practicable under the 
circumstances, but no later than 7:00 p.m. Eastern Time on the same 
day [within at least one hour] of such withdrawal, and immediately 
thereafter provided written notification of the withdrawal and 
reinstatement request;
* * * * *

4730. Participant Obligations in SOES

* * * * *
    (b) Market Makers
* * * * *
    (6) In the case of an NNM security, a Market Maker will be 
suspended from SOES if its bid or offer has been decremented to zero 
due to SOES executions and will be permitted a standard grace 
period, the duration of which will be established and published by 
the Association, within which to take action to restore a two-sided 
quotation in the security for at least one normal unit of trading. A 
Market Maker that fails to reenter a two-sided quotation in a NNM 
security within the allotted time will be deemed to have withdrawn 
as a Market Maker (``SOESed out of the Box''). Except as provided 
below in this subparagraph and in subparagraph (7), a Market Maker 
that withdraws in an NNM security may not reenter SOES as a Market 
Maker in the security for [twenty (20)] ten (10) business days.
    (A) Notwithstanding the above, a market maker can be reinstated 
if:
    (i) the market maker makes a request for reinstatement to Market 
Operations as soon as practicable under the circumstances, but no 
later than 7:00 p.m. Eastern Time on the same day [within at least 
one hour] of having been SOESed out of the Box, and immediately 
thereafter provides written notification of the reinstatement 
request;
* * * * *

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the commission, Nasdaq 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.

[[Page 70750]]

A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. Purpose
(a) Penalty for Withdrawing Quotes
    NASD Rule 4620 permits a market maker to voluntarily terminate its 
registration in a security by withdrawing its quote from the market or 
by withdrawing from the Small Order Execution System (``SOES''). A 
market maker that voluntarily terminates its registration in an issue 
may not reregister as a market maker in that security for twenty 
business days (``20 days penalty'').
    Under NASD Rule 4730, the 20 day penalty also applies to market 
makers in Nasdaq National Market (``NNM'') securities that fail to 
update their quotes in a timely manner after their displayed size is 
reduced to zero. Presently, all market makers in NNM securities must be 
registered as SOES market makers. For NNM securities, SOES 
automatically executes unpreferenced orders in rotation against those 
market makers who are at the best quoted bid or offer on Nasdaq at the 
time the order is entered. If a market maker's displayed size in an NNM 
security is reduced to zero, the quote is placed in a ``closed quote'' 
status and re-ranked at the bottom of the quotes displayed in the 
Nasdaq montage. If the market maker does not update its quote size or 
price in a NNM security within five minutes, the quote is placed in a 
SOES suspended state (i.e., the market maker has been ``SOESed-out-of-
the-Box''). Market Makers that are SOESed-out-of-the-Box for a security 
may not reenter SOES as a market maker in that security for twenty 
business days.\3\
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    \3\ NASD Rule 4730(b)(6).
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    The purpose of the twenty day period is to prevent market makers 
from withdrawing from the market without consequence.\4\ A market maker 
that is prohibited from making a market for a security is penalized 
economically by the lost transaction revenue, and also sustains damage 
to its reputation, which can lead to future economic losses. The NASD 
believes, however, that a ten day penalty will now achieve the same 
deterrent effect as the 20 day penalty. The penalty was set twenty days 
in 1988, when the daily average share volume was approximately 122.5 
million shares a day. As of September 7, 2000, the daily average share 
volume for this year is approximately 1.63 billion shares a day. With 
the increase in trading on Nasdaq, the 20 day period is a much greater 
penalty now than in 1988. Therefore, the NASD proposes to reduce the 
penalty period to ten business days.
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    \4\ See Securities Exchange Act Release No. 27591 (June 9, 
1988), 53 FR 22594 (June 16, 1988).
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    Under the proposal, a market maker that voluntarily or accidentally 
withdraws its quotes (in either a NMS or SmallCap security), or is 
SOESed-out-of-the-Box for a NNM security, may reregister (or reenter in 
the case of SOES-out) as a market maker after ten business days.\5\
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    \5\ This proposal does not address the situation when a market 
maker is SOESed-out-of-the-Box for a SmallCap security. To encourage 
market makers to participate in SOES for SmallCap securities, the 
NASD filed with the Commission a proposal to completely eliminate 
the 20 day penalty when a market maker is SOESed-out-of-the-Box for 
a SmallCap security. See SR-NASD-99-73 (filed December 16, 1999).
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(b) Applying to Reinstate Quotes
    To avoid the 20 day penalty, market makers that accidentally 
withdraw their quotes or are SOESed-out-of-the-Box can apply to be 
reinstated within one hour from the time their quote lapse.\6\ A Nasdaq 
officer (or staff when the withdrawal is accidental) can grant the 
reinstatement if he or she determines that the SOES-out or accidental 
withdrawal was not an attempt by the market maker to avoid its 
obligation to make a continuous, two-sided market.\7\ In making his or 
her decision, the Nasdaq officer or staff will consider, among other 
things, whether the market conditions in the issue or other issues in 
which the market maker makes a market included unusual volatility or 
other unusual activity.\8\ The Nasdaq officer (or staff) also will 
consider the number of accidental withdrawals or the frequency with 
which the firm has been SOESed-out-of-the-Box.\9\ There are limits, 
however, to the number of reinstatements a firm can receive within a 
calendar year. The number varies based on the number of markets made by 
the firm the previous year.\10\ A decision by a Nasdaq officer or staff 
to not reinstate a market maker can be appealed by the firm to the 
Market Operations Review Committee (``Committee'').\11\
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    \6\ See NASD Rules 4620 and 4730.
    \7\ Id.
    \8\ Id.
    \9\ Id.
    \10\ Id.
    \11\ Id.
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    As discussed earlier, trading volumes on Nasdaq have increased 
enormously. One result of the increase in trading volumes is that 
market makers must actively manage their quotes and trading in many 
securities, which increases the chances a market maker may fail to 
comply with the one hour deadline, especially when the quotes lapse in 
less actively traded securities. Nasdaq cannot consider a reinstatement 
application that is untimely filed. Therefore, a market maker that 
otherwise would be reinstated (because it was not trying to avoid its 
market making obligations) cannot be reinstated because of its failure 
to comply with a procedural requirement of the rule. In this situation, 
the market maker is subject to the 20 day penalty. As such, the 
liquidity in these less actively traded securities can be decreased 
even further because there is one less market maker during the penalty 
period. For these reasons, the NASD is requesting to permit market 
makers until 7:00 p.m. Eastern Time on the day they accidentally 
withdrew their quotes or were SOESed-out-of-the-Box to apply for 
reinstatement.
2. Statutory Basis
    Nasdaq believes that the proposed rule change is consistent with 
the provisions of Section 15A(b)(6) and Section 11A of the Exchange 
Act. \12\ Section 15A(b)(6) requires that the rules of a registered 
national securities association be designed to prevent fraudulent and 
manipulative acts and practices; to promote just and equitable 
principals of trade; to foster cooperation and coordination with 
persons engaged in regulating, clearing, settling, processing 
information with respect to, and facilitating transactions in 
securities; 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. In addition, the rules must 
not be designed to permit unfair discrimination between customers, 
issuers, brokers, or dealers.
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    \12\ 15 U.S.C. 78o-3(b)(6) and 15 U.S.C. 78k-1.
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    Section 11A(a)(1)(C) of the Exchange Act \13\ states that it is the 
public interest and appropriate for the protection of investors and the 
maintenance of fair and orderly markets to assure (1) economically 
efficient executions of securities transactions; (2) fair competition 
among brokers and dealers; (3) the availability to brokers, dealers and 
investors of information with respect to quotations and transactions in 
securities; (4) the practicability of brokers executing investors' 
orders in the best market; and (5) an opportunity for investors' orders 
to be executed without the participation of a dealer.
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    \13\ 15 U.S.C. 78k-1(1)(1)(C).
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    The NASD believes establishing a 10 day penalty period for market 
makers that voluntarily or accidentally

[[Page 70751]]

withdraw their quotes or are SOESed-out-of-the-Box is consistent with 
Sections 15A(b)(6 and 11A of the Exchange Act because the 10 day period 
will continue to penalize market makers that fail to keep quotes in the 
market. Reducing the period to 10 days will not diminish the deterrent 
effect of the penalty because market makers will continue to be 
penalized economically through the lost trade revenue and will continue 
to suffer harm to their reputation. In addition, because of the 
enormous increase in trading on Nasdaq since the 20 day penalty was 
established, the NASD believes that a 10 day penalty period today may 
be more severe than the 20 day penalty was in 1988.
    Based on the daily average share volume in 1988, which was 122.5 
million shares per day, the average share volume on a single day on 
Nasdaq is equal to approximately 13 days average share volume in 1988. 
While the daily average share volume is not a direct measure of the 
amount of business any one particular market maker may lose during a 
penalty period, the number does not demonstrate the extraordinary 
increase in trading on Nasdaq. Therefore, the NASD believes that a 10 
day penalty period will continue to serve as a significant deterrent. 
As such, the NASD believes the proposed penalty will continue to 
promote just and equitable principles of trade, prevent fraudulent and 
manipulative acts and practices, protect investors and the public 
interest, and promote the maintenance of fair and orderly markets.
    The NASD also believes that allowing market makers until 7:00 p.m. 
Eastern Time on the day in which they accidentally withdrew their 
quotes or were SOESed-out-of-the-Box to apply for reinstatement is 
consistent with Sections 15A(b)(6) and 11A of the Exchange Act. As 
discussed earlier, the volume of trading on Nasdaq has increased 
significantly over the past few years. This surge in volume requires 
market makers to actively manage their quotes and trading in many 
securities. Due to these increased demands, it is likely that a market 
maker cannot file a request for reinstatement within one hour from the 
time its quotes lapse, especially when the quotes lapse in a less 
actively traded security.
    The direct benefit of extending the deadline is that market makers 
would have more of an opportunity to have their requests considered on 
the substantive merits. Furthermore, this proposal does not diminish 
the standards that an applicant must meet to be reinstated. 
Applications that comply with the new filing deadline will continue to 
be reviewed in accordance with the standards codified in NASD Rules 
4620 and 4730.
    Another potential benefit would be to maintain liquidity in some 
less actively traded stocks by reducing the potential that a market 
maker will be subject to the penalty period for procedural reasons 
only, and, thus, be prohibited from making a market in a stock. For 
these reasons, the NASD believes that the proposal will promote just 
and equitable principles of trade, prevent fraudulent and manipulative 
acts and practices, protect investors and the public interest, and 
promote the maintenance of fair and orderly markets.

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

    Nasdaq 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.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received from Members, Participants, or Others

    Nasdaq neither solicited nor received written comments.

III. Date of Effectiveness of the Proposed Rule Change and timing 
for Commission Act

    Within 35 days of the 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 Nasdaq 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, including whether the proposal is 
consistent with the Exchange 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-
0609. 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 will also be 
available for inspection and copying at the principal office of the 
NASD. All submissions should refer to File No. SR-NASD-00-61 and should 
be submitted by December 18, 2000.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\14\
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    \14\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 00-30135 Filed 11-24-00; 8:45 am]
BILLING CODE 8010-01-M