63092 Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices

7 17 CFR 200.30–3(a)(12) (1994).

1 15 U.S.C. 78s(b)(1) (1988).

2Commission Note: The NASD’s use of the term

‘‘price improvement’’ in this proposal differs from

the use of the term in recent Commission releases.

Specifically, the Commission has used the term

when referring to the opportunity to receive a price

that is superior to best bid or offer. See, e.g., 17 CFR

11Ac1–3(a)(2); Securities Exchange Act Release No.

34902 (Oct. 27, 1994), 59 FR 55006 (Nov. 2, 1994)

at text accompanying n. 32. The NASD’s use of the

term in this proposal, on the other hand, refers to

the opportunity to receive a price that is better than

the best market maker quotation, which may not be

the best bid or offer to the extent NAqcess limit

orders are included. In its recent rule proposal

concerning the obligations of market makers

executing customer orders, the Commission asked

for comment on whether automated systems that

include the possibility of the interaction of market

orders with limit orders should be deemed to satisfy

the proposal’s requirement that market orders be

provided with an opportunity for price

improvement. Securities Exchange Act Release No.

36310 (Sept. 29, 1995), 60 FR 52792 (Oct. 10, 1995).

15 and should be submitted by

December 29, 1995.

For the Commission by the Division of

Market Regulation, pursuant to delegated

authority.7

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 95–29917 Filed 12–7–95; 8:45 am]

BILLING CODE 8010–01–M

[Release No. 34–36548; File No. SR–NASD–

95–42]

Self-Regulatory Organizations; Notice

of Filing of Proposed Rule Change by

National Association of Securities

Dealers, Inc. Relating to NAqcess

System and Accompanying Rules of

Fair Practice

December 1, 1995.

Pursuant to Section 19(b)(1) of the

Securities Exchange Act of 1934

(‘‘Act’’),1 notice is hereby given that on

November 9, 1995, the National

Association of Securities Dealers, Inc.

(‘‘NASD’’ or ‘‘Association’’) 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 the NASD. 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

Pursuant to Section 19(b)(1) of the

Act, attached as Exhibit A is the full text

of a series of proposed rule changes by

the NASD and The Nasdaq Stock

Market, Inc. (‘‘Nasdaq’’) regarding the

operation of The Nasdaq Stock Market’s

NAqcess system, a new system that

offers nationwide limit order protection

and price improvement 2 over the dealer

quotation of small-sized customer

orders. The ‘‘Rules of Operation and

Procedures for NAqcess’’ (‘‘NAqcess

Rules’’) will replace in its entirety the

‘‘Rules of Practice and Procedures for

the Small Order Execution System’’

(‘‘SOES Rules’’), which the NASD

proposes to withdraw simultaneously

with the new system becoming

operational. The NAqcess system rules

package attached in Exhibit A is new

and accordingly has not been italicized.

The NASD is also proposing several

new Interpretations and a new Rule in

its Rules of Fair Practice to afford

individual investors the opportunity to

determine whether their orders are to be

handled in NAqcess and to provide

customer limit orders held in NAqcess

or elsewhere with enhanced price

protection (Exhibit B). The NASD is also

proposing conforming modifications to

the NASD Manual, including the Rules

of Practice and Procedure for the

Automated Confirmation Transaction

Service (‘‘ACT Rules’’) and Schedule D

to the NASD By-Laws (and all other

places in the Manual that refer to SOES)

to delete references to SOES and/or the

SOES Rules and to replace those

references with NAqcess and/or the

NAqcess Rules, as appropriate. These

references may be found in the ACT

Rules, Section (c)(2); in Schedule D, Part

V, Section (1)(f), Section (7)(a), Section

(8)(c), and Section (9); and Schedule D,

Part XI, Section (2)(e)(1).

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. The NASD 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. Introduction

The NASD and The Nasdaq Stock

Market, Inc. are proposing rules of

operation and procedure and

companion rules for a new service that

provides investors market-wide price

protection of their limit orders, the

opportunity to obtain price

improvement over the dealer quotation

in buying and selling Nasdaq stocks,

and increased access to the Nasdaq

market. The new facility, to be named

NAqcess and operated by The Nasdaq

Stock Market, will permit significant

opportunity for investors in Nasdaq

securities to enter limit orders inside the

Nasdaq dealer quotation and enhance

the opportunity for such investors to

receive executions between the best

dealer bid and offer without such orders

interacting with market makers. The

limit orders at the top of the NAqcess

limit order file that are the same as or

better than the best dealer quotations

will be included in the inside market for

The Nasdaq Stock Market, thereby

providing new levels of transparency,

increased price efficiency, and greater

investor protection. Further, the

companion rule and Interpretations

accompanying the new system will

provide retail customers with enhanced

price protection of their limit orders, a

significant expansion over current limit

order protection afforded to customers

in the Nasdaq market. Finally, NAqcess

will provide customers that choose to

enter market orders into the system with

the opportunity to obtain price

improvement over the dealer quotation

through interaction with customer limit

orders in the NAqcess file and will

provide a prompt, cost-effective

execution at the best price available in

the market at any particular point in

time.

NAqcess and the accompanying new

Rules of Fair Practice provide multiple

benefits to retail investors that were

heretofore unavailable to such investors.

A key feature of NAqcess that is a

significant enhancement over current

practices in Nasdaq is the ability of

investors to have limit orders placed in

a central file where they can interact

directly with other customer limit

orders and market orders entered into

the system. Under a proposed new

Interpretation to Article III, Section 1 of

the Rules of Fair Practice, a customer

may instruct its broker-dealer to enter

the customer’s limit order or market

order into NAqcess. Moreover, NAqcess

will provide increased transparency of

the best priced limit orders in NAqcess

because Nasdaq will incorporate into

the Nasdaq inside market limit orders

that are priced the same as or better than

the best dealer bid and offer displayed

in Nasdaq, and their aggregate sizes in

a particular security. This increased

transparency will enhance the Nasdaq

price discovery process. NAqcess will

match incoming limit and market orders

against limit orders resident in the
Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices 63093

3 17 CFR 240.11Ac1–1 (1995).

4The NASD believes that significant queues in

excess of those currently experienced under SOES

today will not occur under the new proposal. First,

if the limit order file for a security has depth,

market orders will immediately execute against

limit orders without any delay. Because each order

when received is immediately distributed to the

next available market maker, the large majority of

orders will be executed within 20 seconds of

distribution. Even if an order is declined by a

market maker at one price level, an event that the

NASD believes will not be frequent, the declined

order will be automatically executed without the

possibility of rejection immediately upon

presentation at the next price level. All of these

techniques mean that it will be rare for an order not

to be executed within a 20 to 40-second period after

processing.

For example, assume that five market orders are

entered into NAqcess at one second apart from each

other and there are five market makers in the stock

at the inside. Each order when received will be

immediately distributed to the next market maker.

Thus, order one at second one is distributed

immediately to market maker one, while order two

at second two is sent to market maker two

immediately, and so on through order five. In most

circumstances, each market maker will not decline

the order within 20 seconds, and thus, each order

would be executed within 20 seconds of processing.

If any one of these orders were declined, the order

would wait for the next available market maker for

re-presentation. If that market maker remained at

the same price level as that when the order was

originally presented, the order would be subject to

a further 20-second reaction period. In the unlikely

event it was declined again, the order would be

presented again for execution. If that presentation

occurred at a new price level, it would be

immediately executed at the new price level.

If order entry firms enter more orders than there

are market makers at the inside, the queue for such

orders would be the same as today in SOES when

orders must be queued while waiting for a market

maker to update its quotation after a SOES

execution. Consequently, the NASD believes that

queuing under this proposal does not represent a

significant threat to prompt market order execution

much different from current queuing. It should be

noted as well, that market orders of eligible size

entered into NAqcess are guaranteed an execution.

Such execution may be effected against a customer

order or a dealer’s quote. Thus, in response to

concerns raised in some comment letters the NASD

received in response to Notice to Members 95–20

and 95–60, NAqcess will provide guaranteed

executions to investors entering eligible market

orders. Accordingly, the NASD believes that those

comment letters from individual investors that

allege that NAqcess will deprive them of an

automatic execution are mistaken. Of course, it

should be noted that not even in SOES is a market

order guaranteed an execution at the price observed

at the time the order was entered. Similarly, under

NAqcess no such guarantee is extended to an

investor.

5Securities Exchange Act Release Nos. 35751

(May 22, 1995), 60 FR 27997 (May 26, 1995) and

34279 (June 29, 1994), 59 FR 34883 (July 7, 1994).

6Securities Exchange Act Release No. 34277 (June

29, 1994), 59 FR 34885 (July 7, 1994).

NAqcess file so as to permit customer

orders to interact directly with each

other without the participation of a

market maker. The interaction of

customer orders offers such orders an

opportunity for price improvement over

the dealer quotation and increases the

likelihood that public limit orders will

be executed on a more timely basis.

The companion rules and

Interpretations regarding price

protection in Nasdaq will also

significantly enhance the protection of

customer limit orders whether they are

held in NAqcess or stored in a member

firm’s limit order file. Under a newly

proposed rule, NASD member firms,

whether acting as principal or agent,

will not be permitted to execute an

order at a price inferior to any limit

order(s) in the NAqcess limit order file

that the member firm is able to view,

without satisfying the viewable limit

order(s). An ‘‘inferior price’’ means an

execution price that is lower than a buy

limit order or higher than a sell limit

order. In addition, if a member firm

holds a customer limit order outside of

NAqcess, a new Interpretation to Article

III, Section 1 of the Rules of Fair

Practice would require the member firm

that holds the limit order to provide the

customer with price protection that is

equivalent to that which the limit order

would have received if it had been

entered into the NAqcess file. The

concept of equivalent price protection is

further explained below.

Aside from these major regulatory

enhancements that provide for major

changes in order handling and

protection in The Nasdaq Stock Market,

the NAqcess system itself represents a

significant improvement over the

current methodology for the handling of

small investor orders. NAqcess, as

noted, will permit interaction of small

customer limit and market orders within

the dealer spread and thus permit such

orders to obtain significant

opportunities for price improvement

over the dealer quotation.

This new order delivery and

execution system will replace SOES, the

NASD’s current system for the handling

of small customer orders. Because SOES

is an automated, quote-based execution

system, it does not offer the opportunity

for price improvement over the dealer

quotation of small customer orders.

Moreover, the proposed NAqcess system

addresses the queuing concerns that

were raised in connection with the

previously proposed N—Prove system.

NAqcess will distribute non-directed

market orders that can not be

immediately matched against NAqcess

limit orders to available market makers

at the inside market as the orders are

presented. A market maker will provide

such order an automated execution at

the inside if the market maker presented

with the order does not manually

decline the order within a 20-second

period because the market maker

(consistent with SEC Rule 11Ac1–1) 3

has already effected, or is in the process

of effecting an execution in the security

and is in the process of updating its

quotation. This approach eliminates the

single-threaded distribution mechanism

proposed in Notice To Members 95–20

and permits rapid distribution of orders

to market makers as the orders are

received.4

NAqcess and its companion rules

represent a significant enhancement to

the treatment of investor orders in The

Nasdaq Stock Market. The entire

proposal, when taken together with

other recent enhancements to the

Nasdaq trading environment, such as

the Limit Order Protection

Interpretation 5 and the Short Sale Rule,6

demonstrates the significant strides that

the NASD and The Nasdaq Stock Market

have taken to provide increased

protection of investors while continuing

to preserve the benefits that its

competitive dealer market structure

currently provides. Individual investors

seeking price improvement over the

dealer quotation will be afforded a

transparent mechanism to obtain greater

opportunities for price improvement

over the dealer quotation without

market maker interaction. Moreover,

through the accompanying rules,

NAqcess will provide such limit orders

with increased market-wide price

protection. Individual investors seeking

rapid execution of small market orders

at the best available price will continue

to be able to obtain executions

promptly, while Nasdaq market makers

will be permitted the opportunity to

interact with such orders in a manner

consistent with SEC rules and in a

manner similar to market order

handling in exchange markets. By

permitting market makers to continue

the operation of their own internal

execution systems, the NASD will

maintain the ability of dealers to

provide liquidity and competitive

mechanisms to handle customer orders.

2. NAqcess Operations

The proposed NAqcess system will

provide the following:

A. Scope of System. NAqcess will be

available for all Nasdaq issues. It will

completely replace SOES which will

operate until the effective date for

operation of NAqcess and will be

discontinued as of that date. NAqcess

participation will be mandatory for

market makers in all National Market

securities. NAqcess participation for

SmallCap market makers will be

voluntary, as is SOES participation

today for such market makers.

B. Order Entry Requirements. Agency

orders may be entered into NAqcess

only by member firms on behalf of

customers. ‘‘Customers’’ are defined to
63094 Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices

7The only exception to the proprietary order

prohibition is an order designated by a market

maker as a ‘‘marker order.’’ A marker order is a

principal order entered by a market maker in a

transaction that is functionally the equivalent of a

riskless principal transaction. The firm may place

a principal account limit order in the NAqcess file,

and if an execution is obtained, immediately pass

along the benefit of such execution to a retail

customer order it holds in its own file. Because the

order is part of a principal transaction for the

benefit of the retail customer, the NASD believes

that it is appropriate to permit this limited

exception to the prohibition of proprietary orders in

NAqcess. The NASD will require member firms

entering such orders to mark their order tickets

accordingly, and will examine a firm’s trading

activities carefully to determine that such

proprietary orders are being effected for the

purposes of engaging in a riskless principal-like

transaction. Marker orders, however, may not be

placed with respect to customer limit orders held

by the firm that exceed the permitted maximum

limit order size.

8Member firms will be permitted, however, to

enter so-called ‘‘takeout’’ orders for their own

account or on behalf of a customer. A takeout order

is an order that results in an immediate automatic

execution of a limit order or orders in the NAqcess

limit order file at the limit order price(s). There is

no size limitation on the takeout order. Thus, if the

NAqcess file displays limit orders at a price with

an aggregate size of 15,000 shares, a single takeout

order of 15,000 shares may be entered and

executed. Similarly, a firm may enter a takeout

order to immediately execute multiple limit orders

at multiple prices in the NAqcess file. When there

are multiple limit orders being taken out, each limit

order will execute at each limit order’s price.

9See infra Section II(A)3.A of this proposal.

10NASD Special Notice to Members 95–20 (Mar.

21, 1995).

11All SmallCap issues have a limit order size of

1,000 shares.

12NASD Special Notice to Members 95–20 (Mar.

21, 1995) and 95–60 (July 27, 1995).

13See letter from John Giesea, Chairman, and

John Watson, President, STA (Apr. 28, 1995).

14Under SOES Rules, the tier sizes of 1,000, 500

and 200 shares were determined by reference to the

average daily non-block volume of a security,

among other things. Thus, for example, if an issue

had an average daily non-block volume of 3,000 or

more shares, it could qualify for a tier size of 1,000

shares.

The same concept will apply with respect to

NAqcess maximum market order sizes, except that

the NASD has determined to use a slightly higher

average daily non-block volume of 6,000 shares.

The NASD has chosen this higher level because it

better reflects trading patterns consistent with the

increased overall volume in Nasdaq securities.

15The NASD will permit market makers to

establish minimum exposure limits that are equal

to the maximum market order size. In addition,

NAqcess will contain an automated update feature

that will automatically change the market maker’s

quotation by a minimum increment set by the

market maker after the market maker has executed

a trade at a price level and has exhausted its

minimum exposure limit through system

executions. The NASD believes that these aspects

of NAqcess are critical to an effective operation that

permits a market maker to manage its risk capital,

and is consistent with the SEC firm quote rule as

applied to all other registered markets. The

minimum exposure limit is set at the same size as

the minimum quote size in Nasdaq. Under the SEC

Firm Quote Rule (Rule 11Ac1–1(c)), a broker-dealer

is entitled to change its quotation within a

reasonable period of time after it has completed a

trade at its published price. Accordingly, the NASD

believes that these aspects of NAqcess are

consistent with SEC and NASD rules and provide

retail investors with the same access to dealer

quotations as are available in any other registered

marketplace.

exclude any broker, dealer, person

associated with a member, or a member

of the immediate family of a person

associated with a member. Because the

purpose of the system is to provide

small retail customers with access to

The Nasdaq Stock Market, member

firms, with one limited exception,7 are

not permitted to enter proprietary

orders.8 As explained in more detail

elow, customers may request that

appropriately sized limit and market

orders be entered into NAqcess, and if

so requested, member firms must honor

the customer’s request.9

Customers may request the entry of

limit orders up to 1,000 shares in

National Market and SmallCap issues,

except for the Nasdaq 100 issues, in

which case limit orders up to 3,000

shares may be entered. This represents

a difference from the original proposal 10

of 3,000 shares for all National Market

issues.11 The issue of size eligibility for

limit orders generated significant

comment in response to the two

Notices.12 Many commenters believed

that because NAqcess is intended to

provide small retail customers with

limit order protection, the initial

approach should reflect more closely

that the average retail order size is well

under 1,000 shares. For example, the

Security Traders Association (‘‘STA’’)

noted that the experience of STA

members was that the typical retail

customer order size averaged well-less

than 1,000.13 It was also noted by

commenters that it could reduce the

potential for investor confusion if

NAqcess established a standard for limit

orders that was consistent with market

order size, 1,000 shares. Commenters

also noted that NAqcess could

potentially significantly impact market

maker participation, particularly in less

active securities. As a result, they

suggested that the NAqcess order size

should be set at lower levels at least

until the NASD had thoroughly

evaluated the impact of the system on

market liquidity.

While the NASD believes that

NAqcess will have overall a positive

effect on market quality, we believe that

it is prudent in this start-up period to

commence NAqcess limit order size

eligibility at 1,000 shares for most

securities. However, limit orders up to

3,000 shares would be eligible for

NAqcess for those securities that

comprise the Nasdaq 100 Index. The

NASD believes that this higher

eligibility level is appropriate because

the securities comprising the Nasdaq

100 have high levels of volume, greater

market maker participation and

significant market liquidity and

therefore are less likely to be adversely

impacted by the proposal. Because of

the significant changes that NAqcess

may bring to The Nasdaq Stock Market,

the NASD believes that it is appropriate

to commence the operation of the

system with a smaller limit order size

than originally proposed to permit

market makers and investors to adjust to

the new trading environment. The

NASD proposes to monitor the limit

order size requirement carefully in the

initial eighteen months of NAqcess

operation and may choose to expand the

eligible size of limit orders, if

experience demonstrates such

expansion to have merit.

Market orders in National Market

issues may be 1,000, 500 or 200 shares

depending upon tier size determination

to be made in the same manner as done

in SOES today.14 Similarly, market

orders in SmallCap issues will be tiered

at 500 shares or less as done in SOES

today.15

Customers may choose to enter

‘‘marketable limit orders.’’ A marketable

limit order is a limit order that is priced

at the time of entry at the current inside

market or better on the opposite side of

the market, i.e., a marketable limit order

to buy is equal to or higher than the

current inside offer, while a marketable

limit order to sell is equal to or lower

than the inside bid. For example, if the

current inside market is 20 bid and 201⁄4

asked, the entry of limit orders to sell

priced at 20 or 197⁄8 would be

considered marketable limit orders.

Marketable limit orders will be treated

as market orders. Thus, if a firm enters

a customer limit order to sell at 20 at the

time the inside bid is 20, the limit order

will be passed over the limit order file

and if no match occurs, it will be treated

as a market order and executed as

discussed above in the market order

handling section. If such marketable

limit order, however, is greater than

1,000 shares in a Nasdaq 100 security,

the marketable limit order will be

returned to the order entry firm for

handling outside of NAqcess, without

matching against the inside market

whether the inside consists of a dealer

quote, limit order(s), or an aggregation

thereof.

Neither a limit order nor a market

order may be split up to meet the size

parameters of NAqcess. The NASD will

examine order handling practices of
Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices 63095

16 In this regard, the NASD notes that order entry

firms may enter agency orders only. The rules

continue in effect the definition of agency orders as

found in the current SOES Rules and the new rules

carry forward the existing principles regarding the

aggregation of orders based on a single investment

decision entered by an order entry firm. Orders

entered by an order entry firm within any five

minute period in accounts controlled by associated

person or public customers, acting alone or in

concert with other associated persons or public

customers are presumed to be based on a single

investment decision. In connection with this rule,

the NASD notes that it will examine carefully the

entry of computer-generated orders to determine

whether such orders are based upon a single

investment decision.

17This is a change from the approach originally

proposed in Special Notice To Members 95–20 and

95–60. In the original NAqcess approach to the

display of NAqcess limit orders, the NASD

proposed to provide two separate displays of prices:

the inside dealer quotation (i.e., the best-priced bids

and offers of Nasdaq market makers and UTP

exchanges displayed in the Nasdaq market) and the

top of the NAqcess limit order file (i.e., the bestpriced limit orders to buy and sell and their

aggregate sizes). Such displays would have been

separate and side-by-side. Under this new proposal,

the NASD will maintain a Top of the File display

on its Nasdaq Workstations, as well as include the

best priced limit orders to buy and sell in the

Nasdaq inside market display.

18Rules regarding calculation of the excess spread

will not include NAqcess limit orders for purposes

of determining compliance with those Rules. See

NASD Manual, Schedules to the By-Laws, Schedule

D, Part V, Sec. 2(d), CCH ¶ 1819.

19NASD Special Notice to Members 95–60 (July

27, 1995).

20One commenter specifically noted that a

consolidated display of the best priced limit orders

in the Nasdaq inside market was a better approach

than maintaining separate displays, especially since

member best execution obligations would be

determined by reference to the best prices displayed

by Nasdaq, whether such prices were dealer quotes

or limit orders in NAqcess. See Lehman Bros. (Sept.

12, 1995). In addition, several vendors expressed

technological concerns regarding separate displays.

See letters from ADP (Aug. 16, 1995) and Telekurs

(Aug. 14, 1995).

21NAqcess will match only round lots and round

lot portions of mixed lot orders. Odd lot limit

orders will not be matched. Odd lots are orders less

than 100 shares. Odd lot limit orders will not be

displayed in the inside quotation; however, odd lot

limit orders will be displayed in the full file

display. If an odd-lot order is executable i.e., if it

is a market order or an executable limit order, it

will be automatically executed at the applicable

inside dealer quotation. If it is a directed order, it

is executed against the directed market maker. If it

is a non-directed order, it will be executed

automatically without any decline capability

against the next available market maker at the

inside dealer quotation. If the odd-lot order is a

limit order that is not executable at time of entry,

it will remain in the file until the inside dealer

quotation moves to match the odd-lot price.

order entry firms to determine

compliance with this requirement.16

C. Display of Limit Orders. To

enhance the transparency of The Nasdaq

Stock Market and to assist in the price

discovery process, the NASD will

provide for the display of limit orders

entered into NAqcess. There will be two

separate approaches to the display: a

consolidated inside market display and

the Full File Display.

1. Inside Market Display. In a

significant revision to Nasdaq’s

methodology for calculating the inside

market for Nasdaq securities, The

Nasdaq Stock Market will include in the

Nasdaq inside market NAqcess limit

orders, and their aggregate sizes, that are

priced the same as or better than the

best dealer bid and offer.17 Thus, in

Nasdaq the inside market will consist of

a single display of the best priced quotes

or limit orders, as the case may be. The

inside market will be calculated in the

following manner. If the best limit

order(s) to buy (sell) in NAqcess is (are)

better than the best Nasdaq market

maker bid (offer) displayed in Nasdaq

and such limit order(s) is (are) 100

shares or more, it (they) will be

included in the Nasdaq inside market

and disseminated as the inside bid

(offer), together with the aggregate size

of such order(s) and a unique indicator

to denote that the inside market is

represented by a NAqcess limit order or

orders, rather than a quotation of a

Nasdaq market maker or UTP exchange

quotation. If there are multiple limit

orders at the best price, aggregate size

will be displayed and execution of such

orders will occur on a time priority

basis as explained below.

If the best-priced NAqcess limit

order(s) is (are) equal to the inside

dealer quotation, the limit order size

will be reflected in the aggregate size of

the quotation. That is, if there is a limit

order to buy 500 shares at the same

price as a 1,000 share dealer bid

quotation, and both are the best bids

reflected in Nasdaq, the aggregated size

displayed as the best Nasdaq bid will

reflect a size of 1,500 shares with a

special indicator to denote that such

size is an aggregation of a dealer quote

and any limit order(s) at that price.

Priority for execution will depend upon

the general limit order priority rules,

i.e., if the limit order is received prior

to the market maker quotation, it will be

entitled to priority for execution

purposes.18

The inclusion of NAqcess limit orders

in the Nasdaq inside market represents

a significant enhancement to The

Nasdaq Stock Market. Consolidation of

NAqcess orders into the Nasdaq inside

quotation is the best means to

communicate clearly to all investors in

Nasdaq the true market for such

securities at any particular point in

time. The consolidation of best-priced

limit orders with the best dealer bid and

offer in Nasdaq provides the best level

of transparency and aids in the price

discovery process.

Although this represents a change

from the original NAqcess proposal,19

the NASD believes that the display of

this consolidated information maintains

the advantages of a competing dealer

market while permitting an expansion

in information available to investors.20

The new inside quotation display will

clearly identify when aggregated

customer limit orders are represented in

the inside market display. Accordingly,

market participants will be able to

ascertain when the inside quotation

represents a customer limit order and

when it represents a market maker

whose quotation may signify that it is

available to effect a significantly larger

sized transaction. In this way, the NASD

believes that transparency of customer

orders may be enhanced while the

integrity of the dealer quotation is

preserved.

2. Full File Display. The full file

display for a particular security will be

made available on a query basis over

Nasdaq Workstations only to Nasdaq

market makers in that security. The

NASD believes that, as with other U.S.

market centers, display of the entire

limit order file should be reserved to

market makers in a particular security to

assist in price discovery and to provide

the market maker with an incentive to

provide liquidity by risking its capital.

In fact, no U.S. exchange registered with

the SEC publicly disseminates any

display (full or partial) of a limit order

book maintained by an exchange

specialist. Because of the accompanying

rules described below that the NASD

has proposed, customer limit orders in

the file will be protected to a large

extent, from inferior executions.

D. Order Processing. The NAqcess

system will provide significant

improvements over the current SOES

system in the way that customer limit

orders and market orders will be

handled. NAqcess will attempt to match

all incoming orders, limit or market,

directed or non-directed, against limit

orders already resident in NAqcess on a

price and time priority basis.21 If a

match is found, the orders will be

automatically executed against each

other without the participation of a

market maker. For example, assume the

current inside market for a security is

20–201⁄2 and customers enter into

NAqcess a 1,000 share limit order to buy

at 201⁄8 and a 1,000 share limit order to

sell at 203⁄8. The new inside market will

become 201⁄8–203⁄8. If a customer

thereafter enters a 1,000 share limit

order to sell at 201⁄8, the incoming limit

order to sell will match against the

1,000 share limit order to buy on the

NAqcess file at 201⁄8 and will be

executed against that order. If a
63096 Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices

22While the total time period between order entry

and Nasdaq receipt of the decline is 20 seconds, the

system has been designed to provide market makers

with a full 15-second period in which to react to

an order. The rule itself references a 15-second

period in which the market maker must react. Five

seconds of the 20-second period is designed to

accommodate communications between Nasdaq

systems and the market maker. Thus, the NASD has

purposefully designed a 5-second period to

accommodate the transmission of messages between

the NASD host computer and member firm

presentation devices. This five-second period

addresses the potential delays of 3.75 seconds that

may occur in broadcasting a message from the host

to a workstation, and the .775 seconds that could

occur in transmitting a decline message from the

presentation device to the host. (It should be noted

that such time periods arise in the context of the

current configuration of the proposed system.

Development of alternative methods of processing

could increase the total time delays.) In examining

the potential length of time that a message could

consume in transmission from the host to the

presentation device and back again, the NASD

determined that market makers would be at a

significant time disadvantage in that a market

maker could lose up to 33% of its already limited

reaction period. In this context, then, the NASD

believes that it is appropriate to recognize the

inherent delays of computer-to-computer data

exchange, and provide additional time to account

for such delays.

23See Securities Exchange Act Release No. 35275

(Jan. 25, 1995), 60 FR 6327 (Feb. 1, 1995).

24Orders entered from 9:28 a.m. to 9:30 a.m. will

be stored and handled after the opening in line with

ordinary matching and handling procedures

described above.

customer next sends in a market order

to buy in NAqcess, the market order will

match against the limit order to sell at

203⁄8, rather than the dealer offer of

201⁄2, and thus, the market order will be

automatically executed immediately at

203⁄8. In both cases, the orders received

price improvement over the dealer

quotation and immediate execution

without the participation of a market

maker.

If, in the scenario set forth above, the

second limit order to sell is priced at 20

instead of 201⁄8, the execution price

would be 201⁄8, the price of the limit

order to buy because such order was

entered into the system earlier than the

second limit order to sell.

The system will only execute such

matches when the execution prices

would be equal to or better than the

inside market. Nevertheless, limit orders

priced away from the inside market, i.e.,

limit orders to sell priced higher than

the inside offer and limit orders to buy

priced lower than the inside bid, will be

stored in the NAqcess file. When the

inside market moves to a price so that

the limit order is equal to or better than

the inside dealer quotation, such limit

orders will be consolidated into the

Nasdaq inside market and the limit

order will become eligible for matching

as described in this section.

When a limit order in the NAqcess

file is priced the same as the inside

market, the time priority of the limit

order compared with the best dealer

quotation will govern which price

interacts first with incoming orders in

NAqcess. The NASD believes that this

approach is a well-understood and

reasonable means for determining the

interaction of such orders and provides

a further incentive to market makers to

provide liquidity and narrow spreads.

If no limit orders reside in the

NAqcess file, market orders will be

immediately assigned and distributed to

market makers at the inside market.

This rapid distribution should minimize

the potential for queues that the original

proposal found in Notice To Members

95–20 could have caused. After an order

is distributed to a market maker, the

market maker will be permitted a 20-

second period within which it may

decline a non-directed order if such

action is consistent with the exceptions

to the SEC’s firm quote rule, Rule

11Ac1–1.22 In other words, the market

maker is permitted to decline the

NAqcess order if the market maker,

immediately before the presentation of

the NAqcess order: (a) effected or was in

the process of effecting a trade, and (b)

was in the process of updating its

quotation to reflect that previous

transaction. When a NAqcess order is

declined by a market maker, the

declined order is presented to the next

available market maker. If that market

maker is at the same price as the market

maker that originally declined the order,

the second market maker also has a 20-

second period to react to the order. If

the second time the order would be

presented, the inside market has moved

to a different price level, it is

automatically executed without any

decline capability. For example, four

market makers are at the inside bid of

20. Three market orders to sell are

entered into NAqcess when there are no

limit orders to buy at 20 or better. Each

market order is immediately distributed

to one of the three market makers.

Because the first market maker had

completed a trade by telephone and was

about to change its quotation, the first

market order is declined by the first

market maker. That order is

redistributed to the fourth market maker

still quoting a price of 20. The fourth

market maker has 20 seconds to interact

with the order. If, however, there were

only three market makers at 20, and all

market makers had updated their

quotations to reflect a price of 197⁄8, the

declined order would be immediately

executed at 197⁄8 against the first

available market maker without any

decline capability.

The NASD is developing an

automated surveillance capability to

monitor on a real-time basis whether an

order was properly declined. The NASD

believes that this capability is crucial to

engendering investor confidence in the

firmness of Nasdaq market maker

quotations and should alleviate any

concerns regarding ‘‘backing away’’

questions. The NASD notes that the 15-

second decline feature was criticized in

the context of the N•Prove proposal.23

The NASD believes that this proposal to

develop a real-time automated

surveillance capability should alleviate

any concerns about the ‘‘decline’’

capability. The NASD will undertake

strong disciplinary measures against any

firm that displays a pattern and practice

of improper order declines.

Order entry firms have two

alternatives in entering NAqcess

orders—they may direct the order to a

particular market maker with whom

they have established a direct order

arrangement, or they may enter a nondirected order. In either circumstance,

market orders and marketable limit

orders will first pass over the limit order

file to obtain a match before execution

against a market maker. If an order is

directed pursuant to a valid agreement

between the order entry firm and the

market maker, the market maker may

not decline the order.

E. Opening Procedures. NAqcess will

have special opening procedures that

are consistent with the opportunities for

order matching and price improvement

over the dealer quotation provided

intra-day by NAqcess.

NAqcess’s operating hours are from

9:30 a.m. to 4:00 p.m. (EST). However,

limit orders may be entered and stored

in NAqcess from 4:00 p.m. to 6:00 p.m.

and limit and market orders may be

entered from 8:30 a.m. to 9:28 a.m. At

9:28 a.m., no further orders for opening

purposes will be accepted.24 At 9:30

a.m., Nasdaq will rank all limit orders

stored as of 9:28 a.m. according to price

and time of entry. To the extent orders

are available, the system will then

match the best-priced sell limit orders

against the best-priced buy limit orders

in the file that are within the best dealer

bid and offer as determined at 9:30 a.m.

When all available limit order matches

are effected, any remaining limit orders

within the inside dealer quote at 9:30

a.m. will be matched against market

orders stored as of 9:28 a.m. and will be

executed at such limit order prices. Any

remaining orders will be subject to the

normal intra-day, order distribution and

execution procedures. It should be

noted that this opening procedure will

not create a single, unitary price for all

orders in NAqcess. The individual
Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices 63097

25 It should be noted that placement of a customer

limit order in the NAqcess file does not relieve a

member firm of its obligation under the Limit Order

Protection Interpretation of Article III, Section 1 of

the Rules of Fair Practice that prohibits a member

firm from trading ahead of a customer limit order

it has been entrusted with. Under the so-called

‘‘Manning’’ Interpretation, if a member firm holding

a customer limit order, whether from its own

customer or as a result of a member-to-member

order, places that order into NAqcess, the member

firm is nevertheless prohibited from trading at the

same price or at an inferior price to the customer

order. Thus, while the newly proposed price

protection rules speak in terms of protecting

NAqcess orders from inferior priced transactions, if

the NAqcess order is the firm’s customer’s order or

a member-to-member order it placed in NAqcess,

the firm may not trade at the same price without

protecting that order.

26 In today’s environment, market makers are

involved in approximately 83% of all Nasdaq

trades. Consequently, it is likely that in a large

majority of trades when NAqcess is operational, a

market maker will be involved, and thus, orders

away from the top of the file typically will be

protected as well as the top of the file.

27The NASD will interpret the price protection

rule to not apply to member firms that operate

passively-priced crossing systems, such as POSIT

and Instinet’s Crossing Network. Generally

speaking, such systems execute prices at the dealer

quotation spread midpoint and would not likely

trade through a NAqcess order. Members that

believe that they operate systems that could qualify

for this exemption should submit a request for

exemption to the NASD.

The proposed rule would apply, however, to

ordinary broker-dealer trading systems such as

Instinet’s regular trading session. Because many

such trades could occur at prices that could be

inferior to limit orders in NAqcess, the NASD

believes it appropriate that such NASD member

firms should protect NAqcess customer limit orders

as would any other registered broker-dealer member

firm. Orders placed in SelectNet that trade through

NAqcess are also subject to the price protection

rule.

28See NASD Special Notices To Members 95–43

(July 27, 1995) and 95–67 (Mar. 21, 1995) for a more

detailed discussion of the proper means for

protecting customer limit orders when firms are

dealing at net prices. The same concepts apply in

the context of protecting system limit orders.

prices of each match will be reported.

Thus, assuming the dealer quotation is

20–201⁄2, if the file contains two limit

orders to buy at 201⁄8, each for 1,000

shares, and there are also three 1,000

share limit orders to sell at 201⁄8, two

1,000 share limit orders to sell at 201⁄4,

and 4,000 shares to buy at the market,

the system will execute as follows: the

first two in time priority of the three

1,000 shares sell limit orders at 201⁄8

will be matched against the two 201⁄8

1,000 share buy limit orders. The first

3,000 shares to buy at the market will

be matched against the remaining limit

orders to sell, with the first market order

in time receiving an execution of 201⁄8

and two 1,000 share market orders next

in time receiving executions of 201⁄4.

The remaining 1,000 share market order

will be executed against the dealer

quote according to the normal postopening execution algorithm.

3. Rules of Fair Practice

The NASD is also proposing in

conjunction with NAqcess three major

changes to the Rules of Fair Practice.

Under the proposed new rule and

Interpretations, the treatment of limit

orders will be significantly changed to

promote price protection of such orders

throughout The Nasdaq Stock Market.

These proposed rule changes provide

greatly enhanced limit order treatment

over current practices. Together with

existing limit order protections already

in place (i.e., the so-called ‘‘Manning’’

rule), the new proposals provide

investors placing limit orders with

significantly enhanced protections

against limit order trade-throughs

throughout The Nasdaq Stock Market.

A. Customer Order Handling. The

NASD is proposing a new Interpretation

under Article III, Section 1 of the Rules

of Fair Practice. Under the proposal, if

a customer requests that his or her order

be entered into NAqcess, the member

firm must do so. While the

Interpretation permits a firm to charge

for such services and to recommend the

use of its own execution system, the

member is not permitted to discriminate

against customers that choose NAqcess

over an internal system by imposing

unfair commissions or charges. The

proposed Interpretation covers both

market and limit orders.

B. Price Protection. The NASD is also

proposing a new rule in the Rules of

Fair Practice that would prohibit a

member firm, whether acting as a

principal or as an agent, from executing

any order at a price inferior to any limit

orders that the firm is able to see in the

NAqcess limit order file.25 An inferior

price means an execution price that is

lower than a buy limit order or higher

than a sell limit order that a member

firm is able to see in the NAqcess limit

order file. This prohibition means that

limit orders in the NAqcess file will not

be traded through elsewhere in Nasdaq

in most circumstances. A member firm’s

activity with respect to protecting

NAqcess limit orders must be consistent

with its best execution obligations to its

own customers. When a firm acts as

principal in filling a NAqcess limit

order when it is in possession of an

executable customer market order on

the other side of the market, it should

pass on the benefit of the NAqcess trade

to the customer order. If the firm in

receipt of the market order is acting as

agent for its own customer’s order, its

best execution obligation would mean

that it should select the appropriate

market for execution, which could be

NAqcess.

The price protection obligation is

related to the ability of the firm to view

the orders in the limit order file. Thus,

under the proposal’s current

configuration, limit orders at the top of

the file and included in the inside

market calculation must be protected by

all member firms. Under NAqcess

system rules, limit orders ranked below

the top of the file are viewable only by

market makers in the particular security.

Accordingly, market makers in a

particular security would be obligated to

protect all limit orders in that security

in the NAqcess file from inferior

executions that they may engage in.26

Thus, if a market maker in a security

sought to execute a 1,000 share trade at

20, when the NAqcess file displayed

limit orders to buy at 201⁄8 and 201⁄4, the

market maker would be required to

either execute the limit orders first or

contemporaneously, depending on the

size of the limit orders in NAqcess.27

The NASD believes it important to

explain for the purposes of the price

protection rule and the Interpretation

regarding equivalent price protection for

limit orders held outside of NAqcess,

that the protectible price that generates

a firm’s obligation to provide price

protection is the price reported for last

sale reporting purposes. Some confusion

has occurred regarding limit orders

trading at an ‘‘inferior price,’’ especially

in the context of internal sales credits.

If the execution price reported via ACT

for Schedule D transaction reporting

purposes includes an internal sales

credit that will be provided to a sales

representative at the firm, the price that

triggers the member firm’s obligation to

protect a limit order is the reported

price. The internal sales credit included

in the reported price has no effect on the

obligation to protect the NAqcess limit

order.28

C. Equivalent Price Protection. As

noted earlier, the NASD, to encourage

competition and to enhance the

liquidity of The Nasdaq Stock Market,

has determined that market makers

should continue to be permitted to

operate their own internal execution

systems and to handle limit orders

outside of NAqcess. However, the NASD

also believes it is important to provide

limit orders held outside of NAqcess

with price protection substantially

equivalent to that which NAqcess orders

would have. Accordingly, the NASD has

proposed an Interpretation to Article III,

Section 1 of the Rules of Fair Practice
63098 Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices

29The equivalent price protection Interpretation

would not apply to continuous trading systems,

such as that operated by Instinet, because such

customers are generally sophisticated and have

deliberately opted to trade in an alternative trading

system. Such customers are institutions and brokerdealers that seek other advantages in trading in

these alternative systems. Because of their

sophistication, these customers believe they do not

need the broker-dealer operating the system to

provide equivalent price protection. Accordingly,

the NASD will provide an exemption from the

Interpretation to brokers operating such systems if

they seek an exemption.

30A ‘‘protectible’’ order is a customer order of a

size that would be eligible for entry into NAqcess.

Accordingly, the Interpretation requirements do not

extend to customer limit orders that are larger than

1,000 shares (or larger than 3,000 shares for Nasdaq

100 securities).

31A member’s obligation to provide print

protection will not be triggered by a trade report

that has a special modifier, such as .SLD or

otherwise, appended to it. Because such modifiers

indicate the trade being reported is out of sequence

or was executed under special conditions, such

trade reports should not require an execution of a

limit order. The NASD will closely monitor

member’s usage of special trade reporting modifiers

to ensure that firms to not use such modifiers as a

vehicle to avoid print protection obligations under

the new rule.

that provides substance to the term

equivalent price protection.29

First, a member firm holding a

protectible customer limit order 30

outside of NAqcess must provide such

order with print protection, if any

transaction at a price inferior to the

customer limit order occurs.31 Thus, any

firm holding a protectible customer

limit order is required to

contemporaneously execute, up to the

size of the reported transaction, the

customer limit order at the limit order

price if an inferior-priced execution is

reported in that security.

‘‘Contemporaneously’’ means within

approximately 60 seconds of the trade

report. For example, firms A and B each

hold 1,000 share customer limit orders

to buy priced at 201⁄8. A 1,000 share

trade is reported at 20. Both firms A and

B are obligated to execute their limit

orders at 201⁄8 within 60 seconds of the

trade report. If the triggering trade report

had been 500 shares at 20, each firm

owed its customers executions of at

least 500 shares at 201⁄8.

Next, if the firm holds a protectible

customer limit order at a price that

would match a limit order in the

NAqcess file, the firm must either

execute its limit order or send its limit

order to NAqcess for matching.

‘‘Matching’’ means that the NAqcess

limit order is the same price or lower

than the firm’s customer’s limit order to

buy or higher than the limit order to

sell.

The same matching would be required

if the firm holds offsetting limit orders

within its own file. If the firm holds a

limit order to sell at 201⁄4 and accepts

a limit order to buy at 201⁄4 or higher,

the firm must execute the two orders

against each other. Finally, if the firm

holds a limit order that is priced equal

to or better than the inside market in

Nasdaq, and if the firm accepts a

customer market order for automated

execution at the inside market, the firm

must first match the market order

against the limit order before it can

execute the market order for its own

account.

4. NAqcess Proposal—Consistent With

Securities Exchange Act

The proposed NAqcess system and

the accompanying proposed rule

changes in the Rules of Fair Practice

propose significant structural changes in

The Nasdaq Stock Market that greatly

benefit investors in their handling of

limit orders, price improvement over

the dealer quotation, and rapid

execution of orders. It is important to

note that no previous proposal for a

Nasdaq order handling and execution

system has been so interrelated with

such significant changes to rules that

provide price protection across the

Nasdaq market. The two

developments—a new system with

advanced order matching features and

greater transparency along with the

dramatic changes to price protection of

orders in and outside the system—must

be considered as a part of a fully

integrated approach to the handling of

retail customer orders. Together, they

permit retail investors greater

opportunity to participate directly in the

market through the use of limit orders

and substantially increase their ability

to receive executions between the best

dealer bid and offer. Further, the NASD

believes that the approach to changes in

The Nasdaq Stock Market proposed in

this rule filing helps to guarantee

investor protection and fairness to all

market participants, while still allowing

the market makers to operate in a

competitive dealer market. The

enhanced price discovery features, the

transparency of limit orders, and the

interaction of limit orders and market

orders should add to the liquidity,

efficiency and immediacy of Nasdaq’s

competing dealer market structure.

Accordingly, the NASD believes that

the proposed rule change is consistent

with Sections 15A(b)(6), 15A(b)(9),

15A(b)(11) and 11A(a)(1)(C) of the Act.

Section 15A(b)(6) requires that the rules

of a national securities association be

designed to prevent fraudulent and

manipulative acts and practices, to

promote just and equitable principles 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. Section 15A(b)(9)

requires that rules of an Association not

impose any burden on competition not

necessary or appropriate in furtherance

of the purposes of the Act. Section

15A(b)(11) requires the NASD to

formulate rules governing the quality of

fair and informative quotations. Section

11A(a)(1)(C) finds that it is in the public

interest to, among other things, assure

economically efficient execution of

securities transactions. The fundamental

purpose of NAqcess is to assist investors

in achieving prompt, efficient

executions of their small orders and to

provide an opportunity for price

improvement over the dealer quotation

within an automated execution

environment. The integrity and

efficiency of Nasdaq for public investors

and market-making participants is

critical and the NASD believes that

NAqcess will provide benefits to both

constituencies. The design of NAqcess

is not anti-competitive as it treats all

non-directed orders uniformly; to the

extent that directed orders are

distinguished, by entering into such

arrangements with known customers,

market makers effectively waive the

protections offered by the system.

The new proposals are also fully

consistent with the significant national

market system objectives contained in

Section 11A of the Act. The NAqcess

national limit order facility would

advance these objectives by offering

efficient execution of investors’ small

orders, by maintaining market maker

participation through the automated

delivery of orders with the ability to

reject those orders if trades have already

occurred, and by offering the

opportunity for price improvement over

the dealer quotation to orders both

inside and outside of the NAqcess

system. The system’s functionality will

more accurately reflect market makers’

affirmative obligations to provide

liquidity to the market, without

depriving market makers of legitimate

exceptions from the firmness

requirements contained in Rule 11Ac1–

1. In sum, the NASD believes that the

entire proposal set forth herein

significantly advances the goals of

investor protection and greater access to

The Nasdaq Stock Market.

(B) Self-Regulatory Organization’s

Statement on Burden on Competition

The NASD does not believe that the

proposed rule change will result in any
Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices 63099

32Securities Exchange Act Release No. 36310

(Sept. 29, 1995), 60 FR 52791 (Oct. 10, 1995).

33 Division of Market Regulation, SEC, The

October 1987 Market Break 9–19 (1988).

burden on competition that is not

necessary or appropriate in furtherance

of the purposes of the Act, as amended.

(C) Self-Regulatory Organization’s

Statement on Comments on the

Proposed Rule Change Received from

Members, Participants, or Others

Written comments are discussed

above.

III. Date of Effectiveness of the

Proposed Rule Change and Timing for

Commission Action

Within 35 days of the date of

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 the self-regulatory

organization consents, the Commission

will:

A. By order approve such 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. In

particular, the Commission requests

general comments concerning the

NASD’s proposal and whether it is

consistent with the Act. In addition, the

Commission invites interested persons

to address the following specific issues:

(1) The Commission recently

proposed rules concerning order

execution obligations.32 Among other

things, the Commission’s proposal

generally would: (a) require Nasdaq

market makers to display in their

quotations (1) customer limit orders

priced better than the market maker’s

current quotation, or (2) the size of a

customer limit order that equals the

current inside bid or offer; and (b)

require that market makers offer market

orders for certain securities an

opportunity for price improvement over

the current national best bid or offer.

The Commission seeks comment on

whether the NASD’s proposal is

consistent with the Commission’s

proposal and with the goals set forth in

the Commission’s release;

(2) The NASD’s proposal would

eliminate SOES and does not include

the immediate automatic execution

feature for market orders currently

available in SOES. In light of historical

concern about the accessibility of

market maker quotations,33 the

Commission seeks comment on the

possible effects this change could have

on the Nasdaq market and retail

investors;

(3) The SOES Rules provide a market

maker a five-minute period within

which to update its quotation or

reestablish its exposure limit after its

exposure limit has been exhausted.

Further, the current operation of SOES

allows for a market maker to elect to use

an automated quotation update feature

which, generally, changes, by a

prespecified increment, the market

maker’s quotation after its SOES

exposure limit is exhausted. The

NASD’s NAqcess proposal would

continue both of these features. In light

of the automated quotation update

feature and the lack of immediate

automatic execution that would occur

under NAqcess, the Commission seeks

comment on whether there is a

continuing need for the five-minute

grace period;

(4) The NASD proposes to modify the

methodology for calculating the inside

Nasdaq market to include both dealer

quotations and NAqcess limit orders. If

a NAqcess limit order equals or

improves the best market maker

quotation, it will be included in the

Nasdaq inside market and disseminated

as the inside quotation, including the

aggregate size of all orders at that price.

Further, the NASD proposes to use a

unique indicator to denote when the

inside market is represented by a

NAqcess limit order, rather than a

dealer or UTP exchange quotation. The

Commission requests comment on

whether using an indicator for a

NAqcess limit order is appropriate;

(5) As discussed above in the NASD’s

proposal, priority of NAqcess

executions when the best bid or offer

consists of both a market maker

quotation and a NAqcess limit order

would be based on time priority. For

example, if the inside bid consists of

two market makers’ bids and a NAqcess

limit order, and the market makers’ bids

were received before the NAqcess limit

order, the first two incoming market

orders would be delivered to the market

makers and subject to potential rejection

within 20 seconds, rather than delivered

to the limit order for immediate

automatic execution. The Commission

seeks comment on whether limit orders

priced equal to the inside dealer quote

should be given priority over market

maker quotations, the implications of

such a rule, and the relative costs and

benefits of such a rule, particularly

given that orders against market makers

are delayed for 20 seconds but are

executed immediately if matched with

NAqcess limit orders;

(6) The proposal would limit the

maximum order size for market orders

to 1,000 shares (depending on certain

trading characteristics of the security).

For limit orders, the maximum order

size would be 1,000 shares for all

securities, except for limit orders in

Nasdaq 100 securities for which the

maximum limit order size would be

3,000 shares. The Commission seeks

comment on the appropriate maximum

order size for NAqcess limit orders, and

whether different thresholds should be

established for different Nasdaq

securities. Further, the Commission

notes that the Commission’s recent

proposal concerning order execution

obligations generally would require

display of limit orders of 10,000 shares

or less; the Commission requests

comment on the interaction between

this aspect of the Commission’s

proposal and the NASD’s proposal;

(7) The proposed NAqcess rules

would limit access to the system to

agency orders entered by member firms

on behalf of public customers.

Generally, the proposal would exclude:

(a) accounts of persons associated with

any member firm, and (b) the immediate

family of any person associated with a

member. The Commission is interested

in commenters’ views on the

appropriateness of these exclusions.

Specifically, the Commission requests

comment on: (a) whether proprietary

market and limit orders should be

allowed or, alternatively, whether only

proprietary limit orders should be

allowed; (b) whether orders from the

immediate family of members should be

permitted; and (c) whether orders from

non-member broker-dealers (e.g.,

options market makers and UTP

specialists) to member broker-dealers

should be permitted;

(8) Under the proposal, any firm

holding a protectible customer limit

order would be required to execute

contemporaneously (i.e., within 60

seconds of the trade report), up to the

size of the reported transaction, the

customer limit order at the limit order

price if an inferior-priced execution is

reported in that security. The

Commission requests comment on the

appropriateness of this time period;

(9) The NASD’s proposal includes

Rules of Fair Practice that generally

would prohibit a member from trading

at a price inferior to a viewable NAqcess

limit order and require that orders held

outside of NAqcess be provided price

protection substantially equivalent to

that which NAqcess orders would have.
63100 Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices

34 17 CFR 200.30–3(a)(12).

Under the proposal, for each security,

only market makers in that security will

be able to see the full limit order file;

all other members are limited to viewing

the top of the file. The Commission

requests comment on whether there

should be an exception to the NASD’s

price protection rule for block trades. In

addition, the Commission requests

comment on whether full file display of

the NAqcess limit order file should be

broadened and, if so, to what extent;

and

(10) The Commission requests

comment on whether the NASD’s

proposal, and in particular the

amendments to the Rules of Fair

Practice, would result in any burdens on

competition, and if so, the extent of

such burdens and whether they are

necessary and appropriate in

furtherance of 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 the filing will also be

available for inspection and copying at

the principal office of the NASD. All

submissions should refer to the file

number SR-NASD–95–42 and should be

submitted by January 16, 1996.

For the Commission, by the Division of

Market Regulation, pursuant to delegated

authority.34

Margaret H. McFarland,

Secretary.

Exhibit A—Rules of Operation and

Procedures for the NAqcess System

I. Definitions

The terms used in this Section shall

have the same meaning as those defined

in the Association’s By-Laws and Rules

of Fair Practice, unless otherwise

specified.

A. The term ‘‘NAqcess’’ shall mean

the limit order and market order

delivery and execution system owned

and operated by The Nasdaq Stock

Market, Inc. (a wholly owned subsidiary

of the National Association of Securities

Dealers, Inc.).

B. The term ‘‘NAqcess participant’’

shall mean either a market maker or

order entry firm registered for

participation in NAqcess.

C. The term ‘‘NAqcess eligible

security’’ shall mean any Nasdaq

National Market or Nasdaq SmallCap

equity security.

D. The term ‘‘open quote’’ shall mean

a market maker’s quotation price and

size (up to its designated exposure limit)

in an eligible security against which

orders may be executed through the

NAqcess system during normal market

hours, as specified by the NASD. For the

purposes of these Rules, a market maker

has a ‘‘closed quote’’ when its exposure

limit in NAqcess has been exhausted or

it has been deemed ‘‘closed’’ pursuant

to Section IV. A. 9 below.

E. The term ‘‘NAqcess market maker’’

shall mean a member of the Association

that is registered as a Nasdaq market

maker pursuant to the requirements of

Schedule D to the NASD By-Laws and

as a market maker in one or more

NAqcess eligible securities.

F. The term ‘‘NAqcess order entry

firm’’ shall mean a member of the

Association that is registered as an order

entry firm for participating in NAqcess

which permits the firm to enter agency

orders of limited size for delivery to and

execution against NAqcess market

makers and customer limit orders in

NAqcess that are included in the inside

market.

G. The term ‘‘agency order’’ shall

mean an order from a public customer

that is entered by the NAqcess order

entry firm or NAqcess market maker on

an agency basis.

An order will not be considered an

agency order if it is for any account of

a person associated with any member

firm or any account controlled by such

an associated person. An order will not

be considered an agency order if it is for

any account of a member of the

‘‘immediate family’’ (as that term is

defined in the NASD Free-Riding and

Withholding Interpretation, Article III,

Section 1 of the Rules of Fair Practice)

of an associated person who has

physical access to a terminal capable of

entering orders into NAqcess.

H. The term ‘‘directed order’’ shall

mean an order entered into NAqcess

and directed to a particular NAqcess

market maker or an order entered by a

NAqcess market maker that is selfdirected. Each market maker has the

ability to select order entry firms from

which it will accept directed orders.

I. The term ‘‘non-directed order’’ shall

mean an order entered into NAqcess

and not directed to any particular

market maker, or a directed order that

has been directed to a market maker that

has not identified the order entry firm

as one from which it will accept

directed orders, or a directed order sent

to a firm that is not registered as a

market maker in that security.

J. The term ‘‘limit order’’ shall mean

an order entered into NAqcess that is a

priced order.

K. The term ‘‘marketable limit order’’

shall mean a limit order that, at the time

it is entered into NAqcess, if it is a limit

order to buy, is priced at the current

inside offer or higher, or if it is a limit

order to sell, is priced at the inside bid

or lower.

L. The term ‘‘executable limit order’’

shall mean a limit order that, at the time

a limit order, market order, or

marketable limit order on the opposite

side of the market is entered, is either

included in the inside market or is equal

in price to the inside market and has

time priority over other limit orders or

dealer quotations included in the inside

market.

M. The term ‘‘marker order’’ shall

mean a limit order for a market maker’s

principal account that is a part of a

contemporaneously executed

transaction that the firm is engaged in

for the benefit of one or more customers.

N. The term ‘‘takeout order’’ shall

mean an order entered by an NASD

member firm, acting as principal or as

agent, that executes against NAqcess

limit orders viewable by that firm.

O. The term ‘‘inside market’’ shall

mean the best dealer bid, UTP exchange

bid, or NAqcess limit order(s) to buy

and the best dealer offer, UTP exchange

offer or NAqcess limit order(s) to sell, as

the case may be, displayed by Nasdaq.

P. The term ‘‘UTP exchange’’ shall

mean any registered national securities

exchange that has unlisted trading

privileges in Nasdaq securities.

Q. The term ‘‘matched or crossed file’’

shall mean the entry of: (1) a bid

quotation by a market maker equal to or

greater than a limit order to sell resident

in the NAqcess file in the same security;

or (2) an offer quotation by a market

maker equal to or less than a limit order

to buy resident in the NAqcess file in

the same security.

R. The term ‘‘maximum market order

size’’ shall mean the maximum size of

individual market orders for a NAqcess

eligible security that may be entered

into or executed through NAqcess. The

maximum market order size for each

security shall be advertised in the

system and published from time to time

by the Association. In establishing the

maximum market order size for each

Nasdaq National Market security, the

Association generally will give
Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices 63101

1The applicable maximum market order size for

each Nasdaq National Market security is

determined generally by the following criteria:

(i) a 1,000 share maximum market order size shall

apply to Nasdaq National Market securities with an

average daily non-block volume of 6,000 shares or

more a day, a bid price of less than or equal to $100,

and three or more market makers;

(ii) a 500 share maximum market order size shall

apply to Nasdaq National Market securities with an

average daily non-block volume of 2,000 shares or

more a day, a bid price of less than or equal to $150,

and two or more market makers; and

(iii) a 200 share maximum market order size shall

apply to Nasdaq National Market securities with an

average daily non-block volume of less than 2,000

shares a day, a bid price of less than or equal to

$250, and that have two or more market makers.

2The Nasdaq 100 Index is an index comprised of

many of the largest capitalized issues quoted in the

Nasdaq National Market. The securities that make

up the Nasdaq 100 are changed from time to time

and The Nasdaq Stock Market publishes notice of

such changes as they occur.

consideration to the average daily nonblock volume, bid price, and number of

market makers for each security.

Maximum market order size for Nasdaq

National Market securities shall be 200,

500 or 1,000 shares, depending upon the

trading characteristics of the securities.1

These sizes may be adjusted on an issue

by issue basis, depending upon trading

characteristics of the issue and other

relevant factors as determined by the

Association. Maximum market order

size for Nasdaq SmallCap securities

shall be 500 shares.

S. The term ‘‘maximum limit order

size’’ shall mean the maximum size of

a limit order for a security that may be

entered into or matched through

NAqcess. The maximum limit order size

for Nasdaq National Market securities

shall be 1,000 shares for each tier of

Nasdaq National Market securities,

except for the securities that comprise

the Nasdaq 100 Index,2 which shall

have a maximum limit order size of

3,000 shares. Maximum limit order size

for Nasdaq SmallCap securities shall be

1,000 shares.

T. The term ‘‘exposure limit’’ shall

mean the number of shares of a NAqcess

eligible security specified by a NAqcess

market maker that it is willing to have

executed for its account by orders

entered into NAqcess on either side of

the market.

U. The term ‘‘minimum exposure

limit’’ for a security shall mean an

exposure limit equal to the maximum

market order size for that security.

V. The term ‘‘automated quotation

update facility’’ shall mean the facility

in the NAqcess system that allows the

system to automatically refresh a market

maker’s quotation in any security that

the market maker designates when the

market maker’s exposure limit has been

exhausted. The facility will update: (1)

either the bid or the offer side of the

quote using a quotation interval

designated by the market maker,

depending upon the side of the market

on which the execution has occurred

and refresh the market maker’s exposure

limit; or (2) close the market maker’s

quote for five minutes, within which

time the market maker shall update its

quote or be placed in a suspended state

for 20 days.

W. The term ‘‘Automated

Confirmation Transaction service’’

(‘‘ACT’’), for purposes of the NAqcess

rules, shall mean the automated system

owned and operated by The Nasdaq

Stock Market, Inc. which accommodates

trade reporting of transactions executed

through NAqcess and submits locked-in

trades to clearing.

II. NAqcess Participant Registration

A. All members participating in

NAqcess shall register and be

authorized as NAqcess market makers

and/or order entry firms. Registration as

a NAqcess participant shall be

conditioned upon the member’s initial

and continuing compliance with the

following requirements: (1) membership

in a clearing agency registered with the

Securities and Exchange Commission

which maintains facilities through

which NAqcess compared trades may be

settled; or entry into a correspondent

clearing arrangement with another

member that clears trades through such

clearing agency; (2) registration as a

market maker (if applicable) in Nasdaq

pursuant to Schedule D of the NASD

By-Laws and compliance with all

applicable rules and operating

procedures of the Association and the

Securities and Exchange Commission;

(3) maintenance of the physical security

of the equipment located on the

premises of the member to prevent the

unauthorized entry of orders or other

data into NAqcess or Nasdaq; and (4)

acceptance and settlement of each trade

for which it is responsible that is

executed through the facilities of the

NAqcess service, or if settlement is to be

made through another clearing member,

guarantee of the acceptance and

settlement of such identified NAqcess

trades by the clearing member on the

regularly scheduled settlement date.

B. Upon effectiveness of the member’s

registration to participate in NAqcess,

participants may commence activity

within NAqcess for entry and/or

execution of orders, as applicable, and

their obligations as established in this

rule will commence.

C. Pursuant to Schedule D to the

NASD By-Laws, participation as a

NAqcess market maker is required for

any Nasdaq market maker registered to

make a market in a Nasdaq National

Market security. A market maker in a

Nasdaq SmallCap security may

withdraw from and reenter NAqcess at

any time, and without limitations,

during the operating hours of the

service.

D. Each NAqcess participant shall be

under a continuing obligation to inform

the Association of noncompliance with

any of the registration requirements set

forth above.

III. Operating Hours of NAqcess

The operating hours of NAqcess will

be the normal market hours specified for

The Nasdaq Stock Market.

IV. Participant Obligations in NAqcess

A. Market Makers

1. A NAqcess market maker shall

commence participation in NAqcess by

initially contacting the Market

Operation Center to obtain authorization

for market making in particular Nasdaq

securities and identifying those

terminals on which the NAqcess trade

information is to be displayed.

Thereafter, on-line registration on a

security-by-security basis is permissible,

consistent with the requirements of

Schedule D to the NASD By-Laws.

2. Participation as a NAqcess market

maker obligates the firm, upon

presentation of a market order or

marketable limit order through the

service, to execute such order as

provided in Section V. A. 5. below.

NAqcess market makers are not

permitted to decline orders directed to

the firm pursuant to a directed order

arrangement acknowledged by the

market maker. The system will transmit

to the market maker on the Nasdaq

Workstation screen and printer, if

requested, or through a computer

interface, as applicable, an execution

report generated following each

execution.

3. For each NAqcess eligible security

in which a market maker is registered,

the market maker shall enter into

NAqcess its exposure limit. For a

Nasdaq National Market security, that

limit shall be any amount equal to or

larger than the minimum exposure limit

for the particular security. If no

exposure limit is entered for a Nasdaq

National Market security, the firm’s

exposure limit will be either the default

size selected by the particular market

maker or the minimum exposure limit.

‘‘Default size’’ shall mean an exposure

limit greater than the minimum

exposure limit that may be selected by

a market maker for individual securities

or for all securities in which it makes a

market.

4. A NAqcess market maker may elect

to use the automated quotation update
63102 Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices

facility in one or more securities in

which it is registered. The facility will

update the market maker’s quotation

automatically by a quotation interval

designated by the market maker, once

its exposure limit in the security has

been exhausted. The facility will update

the market maker’s quotation in either

the bid or the offer side of the market

by the interval designated and will

reestablish the market maker’s

displayed size and either the default

size or the minimum exposure limit; or

the facility will close the market maker

quote for five minutes.

5. Matched or crossed file. If a market

maker’s quotation change matches or

crosses a limit order residing in the

NAqcess limit order file, the system will

automatically provide a notification to

the market maker that informs the

market maker of its obligation to protect

all limit orders residing in the NAqcess

file that would be affected by the

quotation change. If the market maker

enters the matching or crossing

quotation change after this notification,

limit orders in the file for the particular

security will be automatically executed

against the matching or crossing market

maker, provided however, that if the

number of shares in the limit order file

that would be matched or crossed is

greater than five times the maximum

market order size for that particular

security, or if the quotation change

matches and crosses multiple price

levels, the quotation change will be

rejected. To effect such quotation

change, the market maker first must

manually enter a takeout order for the

affected orders in the file prior to reentering its quotation update.

6. The market maker may terminate

its obligation by keyboard withdrawal

from NAqcess at any time. However, the

market maker has the specific obligation

to monitor its status in NAqcess to

assure that a withdrawal has in fact

occurred. Except as otherwise permitted

by Section 70 of the Uniform Practice

Code regarding the Association’s

authority to declare clearly erroneous

transactions void, (‘‘UPC Section 70’’),

any transaction occurring prior to the

effectiveness of the withdrawal may

remain the responsibility of the market

maker. In the case of a Nasdaq SmallCap

security, a market maker whose

exposure limit is exhausted will be

deemed to have withdrawn from

NAqcess and may reenter at any time.

In the case of a Nasdaq National Market

security, a market maker whose

exposure limit is exhausted will have a

closed quote in Nasdaq and NAqcess

and will be permitted a standard grace

period of five minutes within which to

take action to restore its exposure limit,

if the market maker has not authorized

use of the automated quotation update

facility. A market maker that fails to

renew its exposure limit in a Nasdaq

National Market security within the

allotted time will be deemed to have

withdrawn as a market maker. Except as

provided in subsection 7 below, a

market maker that withdraws from a

Nasdaq National Market security may

not re-register in NAqcess as a market

maker in that security for twenty (20)

business days.

7. Notwithstanding the provisions of

subsection 6 above, (i) a market maker

that obtains an excused withdrawal

pursuant to Part V of Schedule D to the

NASD By-Laws prior to withdrawing

from NAqcess may reenter NAqcess

according to the conditions of its

withdrawal; and (ii) 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

thereby withdrawn from participation in

ACT and NAqcess for Nasdaq National

Market securities, may reenter NAqcess

after a clearing arrangement has been

reestablished and the market maker has

complied with ACT participant

requirements, provided however, that if

the Association finds that the ACT

market maker’s failure to maintain a

clearing arrangement is voluntary, the

withdrawal of quotations will be

considered voluntary and unexcused

pursuant to Schedule D and these rules.

8. In the event that a malfunction in

the market maker’s equipment occurs

rendering on-line communications with

the NAqcess service inoperable, the

NAqcess market maker is obligated to

immediately contact the Market

Operations Center by telephone to

request a closed quote status from

NAqcess. For Nasdaq securities, such

request must be made pursuant to the

requirements of Part V, Schedule D to

the NASD By-Laws. If the closed quote

status is granted, Market Operations

personnel will enter such status

notification into NAqcess from a

supervisory terminal. Such manual

intervention, however, will take a

certain period of time for completion

and, unless otherwise permitted by the

Association pursuant to its authority

under UPC Section 70, the NAqcess

market maker may continue to be

obligated for any transaction executed

prior to the effectiveness of its closed

quote.

B. Order Entry

1. Only market and limit agency

orders may be entered in NAqcess by

the NAqcess order entry firm through

either its Nasdaq Workstation or

computer interface. The system will

transmit to the order entry firm on the

Nasdaq Workstation screen and printer,

if requested, or through a computer

interface, as applicable, an execution

report generated following each

execution. NAqcess market makers may

enter limit agency orders in NAqcess for

any NAqcess eligible security, but may

not enter agency market orders or

marketable limit orders in securities in

which they make markets, unless such

orders are self-directed. As a limited

exception to the prohibition of the entry

of proprietary orders into NAqcess,

NAqcess market makers may place

marker orders into NAqcess. The benefit

of any such marker order execution

must be passed immediately to one or

more customer limit orders held by the

firm placing the marker order. Marker

orders may not be placed with respect

to customer limit orders held by the

firm that exceed the maximum limit

order size permitted by these rules.

2. NAqcess will accept both market

and limit agency orders of appropriate

size for execution. Agency orders may

be directed to a specific NAqcess market

maker, self-directed by the NAqcess

market maker, or may be non-directed,

thereby resulting in execution against

the next available NAqcess market

maker. If an order is directed to a market

maker by an order entry firm from

which it has not agreed to accept direct

orders, the order will be executed on a

non-directed basis.

3. Only agency orders no larger than

the maximum market and limit order

sizes may be entered by a NAqcess order

entry firm into NAqcess for execution

against an NAqcess market maker or

against an executable limit order. Orders

in excess of the maximum order sizes

may not be divided into smaller parts

for purposes of meeting the size

requirements for orders entered into

NAqcess. All orders based on a single

investment decision that are entered by

a NAqcess order entry firm for accounts

under the control of associated persons

or public customers, whether acting

alone or in concert with other associated

persons or public customers, shall be

deemed to constitute a single order and

shall be aggregated for determining

compliance with the maximum order

size limits. Orders entered by the

NAqcess order entry firm within any

five-minute period in accounts

controlled by associated persons or

public customers, acting alone or in

concert with other associated persons or

public customers, shall be presumed to

be based on a single investment

decision. An associated person or

customer shall be deemed to control an

account if the account is his or her

personal account or an account in
Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices 63103

which he or she has a beneficial

interest; the person exercises discretion

over the account; the person has been

granted a power of attorney over the

account; or the account is the account

of an immediate family member as that

term is defined in the Board of

Governors Interpretation on Free-Riding

and Withholding, Article III, Section 1

of the NASD Rules of Fair Practice.

4. No order will be considered an

agency order from a public customer if

it is for any account of a person

associated with any member firm or any

account controlled by such an

associated person. No order will be

considered an agency order from a

public customer if it is for any account

of a member of the ‘‘immediate family’’

(as that term is defined in the NASD

Free-Riding and Withholding

Interpretation, Article III, Section 1 of

the Rules of Fair Practice) of an

associated person who has physical

access to a terminal capable of entering

orders into NAqcess.

5. No member or person associated

with a member shall utilize NAqcess for

the execution of agency orders in a

SmallCap security in which the member

is a Nasdaq market maker but is not a

NAqcess market maker.

6. NAqcess will accept the following

types of agency orders during normal

market hours: (a) day orders; (b) goodtill-canceled (‘‘GTC’’); and (c) good till

date (‘‘GTD’’).

V. Execution of NAqcess Orders

A. General Execution Procedures:

Orders in Nasdaq equity securities

entered into NAqcess may be directed or

non-directed. Non-directed market

orders and non-directed marketable

limit orders will be processed according

to the procedures established below.

Non-directed odd-lot orders that are

market orders or marketable limit orders

will be automatically executed in

NAqcess against the next available

market maker at the inside market and

execution reports will be delivered to

the order entry firm and the market

maker.

1. Entry of Limit Orders: Limit orders

may be entered into NAqcess by order

entry firms and by market makers up to

the maximum limit order size allowed

for a particular security. Limit orders

priced away from the Nasdaq inside bid

or offer (as the case may be) as well as

limit orders consolidated in the inside

market will be stored in the NAqcess

limit order file. Limit orders in

securities priced at $10 or more shall be

priced in increments of an eighth or

more; limit orders in securities that are

priced at under $10 may be placed in

increments of a sixteenth or less

depending upon the dealer quotation

increments permitted.

2. Display of NAqcess Limit Orders:

(a) Consolidated Display of Limit Orders

In Inside Market: If a NAqcess limit

order to buy or sell for 100 shares or

more is better than the best dealer bid

or offer, the limit order to buy or sell

will be displayed in the Nasdaq inside

market. Such display will contain the

limit order price, size (which shall be

aggregated if two or more limit orders

are at the same best price) and an

indicator to note that the inside market

consists of a limit order rather than a

market maker or UTP exchange

quotation. If a NAqcess limit order of

100 shares or more is at the same price

as the best dealer bid or offer, the size

displayed in the inside market will be

an aggregation of any same-priced limit

orders and a single dealer quote at the

best price.

(b) Full Limit Order File Display: All

Nasdaq market makers in a particular

security may request via Nasdaq

Workstations a display of all limit

orders in such security entered in the

NAqcess limit order file. Such displays

will be available on a query basis only

to a registered market maker in a

particular security.

3. Execution of Limit Orders: A limit

order that matches or crosses a limit

order on the opposite side of the market

will be automatically executed against

the matching or crossing order when

such orders are at the inside market or

better, and have priority over the dealer

quotation. The priority rules for limit

order interaction shall be that orders

that are best in price shall be executed

against each other first. If two or more

orders are at the same price on the same

side of the market, then the order that

was received first in time shall be

accorded priority over other orders at

the same price. Limit orders that cross

each other in price shall be executed at

the price of the order that entered the

file first. A limit order matches a limit

order on the file when: the limit orders

are consolidated in the inside market on

Nasdaq; are on opposite sides of the

market; and are equal in price. A limit

order crosses a limit order on the file

when: both limit orders are either

consolidated in the inside market or

better than the inside market; are on

opposite sides of the market from each

other; and the subsequent limit order is

at a superior price to the existing limit

order (i.e., the sell (buy) limit order is

priced below (above) a limit order to

buy (sell)). Execution of limit orders

will occur up to the size of the initial

limit order or the subsequent limit

order, whichever is smaller, and

without the participation of a market

maker. The unexecuted balance of a

limit order is entered into the NAqcess

file for subsequent matching, unless

such balance is less than 100 shares, in

which case the balance is automatically

executed against the next available

market maker, if equal to the inside

quotation. If there is a limit order at the

same price as the best dealer quotation

(i.e., if a limit order to buy is the same

as the best dealer bid, or a limit order

to sell is the same as the best dealer

offer), the order or quote that has time

priority shall be matched against the

incoming limit order.

4. Takeouts of Limit Orders: Any

NASD member firm, acting as principal

or as agent, may enter into NAqcess an

order or orders that execute(s) any limit

order(s) consolidated in the inside

market or otherwise displayed in the

NAqcess limit order file. Such orders

shall be known as ‘‘takeout’’ orders. A

takeout order may be for any size up to

the aggregate amount of shares

displayed in the NAqcess limit order

file at a particular price. Takeout orders

must be executed against limit orders on

the opposite side of the market in order

of price and time. A firm entering a

takeout order for limit orders at multiple

prices may enter a single takeout order

at a price either at or above or below the

NAqcess limit orders, as the case may

be, and each limit order will be

executed at each such price. Takeout

orders do not reduce a firm’s exposure

limit.

5. Entry and Execution of Market

Orders: (a) Market orders up to the

maximum market order size for

NAqcess eligible security may be

entered into NAqcess. If at the time a

market order is entered into NAqcess

there is a limit order on the opposite

side of the market that resides in the

NAqcess limit order file and is reflected

in the inside market as the best bid or

offer, the incoming market order will be

automatically executed against the limit

order at the limit order price without

the participation of a market maker. If

a market order is not fully executed

against the limit order file, the balance

of such market order will be treated as

any other market order as set forth in

subparagraph (b) below, provided that if

the balance of the market order is oddlot size, the balance will be

automatically executed against the next

available market maker at the inside

quotation. If there is a limit order

consolidated in the inside market at the

same price as a dealer bid or offer (i.e.,

if a limit order to buy is the same as the

best dealer bid, or a limit order to sell

is the same as the best dealer offer), the

order or quote that has time priority
63104 Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices

shall be matched against the incoming

market order.

(b) If there is no limit order residing

in NAqcess that has been consolidated

in the inside market on the opposite

side of the market from the market

order, each market order will be

assigned to a market maker at the inside

market and will be executed against the

next available market maker at the

current inside market after a display

period of 15-seconds. The market maker

to which a market order is displayed

may decline the market order within the

15-second period if the market maker

has contemporaneously executed

another transaction and is in the process

of updating its quotation pursuant to

SEC Rule 11Ac1–1. If a market order or

a marketable limit order is declined by

a market maker, the order is returned to

the system for distribution to the next

available market maker. If that market

maker is at the same price level as the

first market maker who declined the

order, the second market maker has 15

seconds to react to the order. If the

originally declined order is re-presented

to a market maker at a price level

different from its original

presentation(s), the order is

automatically executed at that price

level without any market maker ability

to decline.

(c) If the NAqcess limit order file does

not have any executable limit orders at

the time a directed market order is

entered, directed market orders will be

automatically executed against the

directed order market maker without a

15-second decline capability. Directed

limit orders that are not matched by

incoming limit or market orders will be

automatically executed against the

directed order market maker when the

inside market is changed to match the

directed limit order price. Directed oddlot orders (orders of less than 100

shares) that are market orders or

marketable limit orders also will be

automatically executed against the

directed order market maker. Nondirected odd-lot orders that are market

orders or marketable limit orders will be

automatically executed against the next

available market maker at the current

inside market. An odd-lot limit orders

that is not executable at time of entry

will be stored and executed against the

best dealer bid or offer, as the case may

be, when such quotation reaches the

limit order price.

6. Entry and Execution of A

Marketable Limit Order: Marketable

limit orders that meet the maximum

market order size requirements will be

accepted and treated as market orders.

Marketable limit orders greater than the

maximum market order size will be

returned to the order entry firm for

handling outside of NAqcess.

7. NAqcess Opening Procedures:

NAqcess will permit the entry of limit

orders and market orders outside of

normal market hours, except that market

orders will not be accepted between

4:00 and 6:00 p.m. Orders entered at

such times will not be executed but will

be stored for matching and execution at

the next market opening. NAqcess

permits the entry of such orders

between 4:01 p.m. to 6:00 p.m. and 8:00

a.m. to 9:28 a.m. (Orders entered from

9:28 to 9:30 will be stored and handled

according to normal market procedures

after the opening procedures are

concluded.)

Matching and execution at the

NAqcess opening will occur according

to the following procedures:

At 9:28 a.m., NAqcess will stop

accepting orders for execution in the

NAqcess file for opening purposes. At

9:30 a.m., NAqcess will commence

execution procedures for opening orders

in NAqcess by first ranking and

matching limit orders in NAqcess in

sequence of the highest price buy order

against the lowest price sell order.

When all available limit orders are

matched and executed, market orders on

a time priority basis will be matched

and executed against any remaining

limit orders in the NAqcess file within

the inside quotation at the limit order

price(s). Any remaining market limit

orders will be stored in the NAqcess

file. Any remaining orders will be

subject to normal order execution

processes.

VI. Clearance and Settlement

All transactions executed in NAqcess

shall be transmitted to the National

Securities Clearing Corporation to be

cleared and settled through a registered

clearing agency using a continuous net

settlement system.

VII. Obligation to Honor System Trades

If a trade reported by a NAqcess

participant, or clearing member acting

on its behalf, is reported by NAqcess to

clearing at the close of any trading day,

or shown by the activity reports

generated by NAqcess as constituting a

side of a NAqcess trade, such NAqcess

participant, or clearing member acting

on its behalf, shall honor such trade on

the scheduled settlement date.

VIII. Compliance With Procedures and

Rules

Failure of a NAqcess participant or

person associated with a NAqcess

participant to comply with any of the

rules or requirements of NAqcess may

be considered conduct inconsistent with

high standards of commercial honor and

just and equitable principles of trade, in

violation of Article III, Section 1 of the

Rules of Fair Practice. No member shall

effect a NAqcess transaction for the

account of a customer, or for its own

account, indirectly or through the

offices of a third party, for the purpose

of avoiding the application of these

rules. Members are precluded from

doing indirectly what is directly

prohibited by these rules. All entries in

NAqcess shall be made in accordance

with the procedures and requirements

set forth in the NAqcess User Guide.

Failure by a NAqcess participant to

comply with any of the rules or

requirements applicable to NAqcess

shall subject such NAqcess participant

to censure, fine, suspension or

revocation of its registration as a

NAqcess market maker and/or order

entry firm or any other fitting penalty

under the Rules of Fair Practice of the

Association.

IX. Termination of NAqcess Service

The Association may, upon notice,

terminate NAqcess service to a

participant in the event that a

participant fails to abide by any of the

rules or operating procedures of the

NAqcess service or the Association, or

fails to pay promptly for services

rendered.

Exhibit B—Interpretations Related to

Member Firm Responsibilities

Regarding Orders in NAqcess

In its efforts to maximize the

protection of investors and to enhance

the quality of the marketplace, the

NASD and The Nasdaq Stock Market,

Inc. have developed a nationwide limit

order protection, price improvement,

and market order handling facility of

The Nasdaq Stock Market. This

nationwide facility is herein referred to

as ‘‘NAqcess’’.

The NASD Board of Governors is

issuing these Interpretations to the

Rules of Fair Practice to provide: (1)

Customers the right to have their orders

entered and protected in NAqcess; and

(2) member firm provision of equivalent

protection for limit orders held in a

member firm’s proprietary limit order

system. These Interpretations are based

upon a member firm’s obligation to

provide best execution to customer

orders under Article III, Section 1 of the

Rules of Fair Practice and a member

firm’s obligations in dealing with

customers as principal or agent to buy

and sell at fair prices and charge

reasonable commissions or service

charges under Article III, Section 4 of

the Rules of Fair Practice. Accordingly,

it shall be deemed a violation of Article
Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices 63105

III, Section 1 of the Rules of Fair

Practice for a member or a person

associated with a member to violate the

following provisions:

1. Member Firm Obligation Regarding

Investors’ Directions on Order

Handling

NAqcess will provide individual

investors with significant opportunities

to achieve limit order protection and

price improvement. The NASD

recognizes that member firms operating

as market makers also operate trading

systems which offer significant

protection and execution opportunities

for customer limit orders. Accordingly,

nothing herein is intended to limit a

member’s ability to recommend use of

its own or another member firm’s

proprietary system for handling limit

and market orders where equivalent

protection is afforded. In light of the

significant benefits offered to customers

by the NAqcess system, however,

members must abide by the directions of

its customers who request that the firm

enter their orders in NAqcess.

Further, nothing in this Interpretation

requires a member firm to accept any or

all customer limit orders. Member firms

accepting limit orders that are placed in

NAqcess or otherwise may charge fair

and reasonable commissions,

commission equivalents, or service

charges for such handling, provided that

such commissions, commission

equivalents, or service charges do not

violate Article III, Section 4 of the Rules

of Fair Practice. In no event, however,

shall a member impose any fee or charge

that effectively operates as a

disincentive to the entry of orders in the

nationwide facility and thereby

interferes with the investor’s ability to

choose order handling alternatives.

2. Equivalent Protection for Orders

Held Outside of NAqcess

As a further adjunct to a member

firm’s best execution obligations, the

NASD Board of Governors has

interpreted Article III, Section 1 of the

Rules of Fair Practice to require member

firms that do not enter customer limit

orders into NAqcess, but hold such

protectible orders in their own

proprietary system, to provide such

orders with price protection at least

equivalent in substance to that which

the order would have received had the

order been entered into NAqcess. For

the purposes of this Interpretation, a

‘‘protectible limit order’’ shall mean a

limit order that meets the maximum

limit-order size criteria as set forth in

the Rules of Operation and Procedure

for NAqcess at Section I.S. For the

purposes of this Interpretation,

equivalent price protection shall mean:

A. Print Protection

If a transaction in a Nasdaq security

is reported via the Automated

Confirmation Transaction Service

(‘‘ACT’’) at a price inferior to the price

of customer limit order(s) that the firm

is holding (i.e., if the reported price is

a price lower than a buy limit order or

higher than a sell limit order being held

by the firm), the firm holding the limit

order(s) is required on a

contemporaneous basis to execute the

limit order(s) at the limit price(s) up to

the size of the reported transaction.

B. Matching Limit Orders

If the firm holds a customer buy (sell)

limit order in its proprietary limit order

file and that limit order matches a sell

(buy) limit order in NAqcess, the firm

holding the limit order must either

provide its customer with an immediate

execution at the limit order price or

must immediately direct the order to

NAqcess. A limit order held by a firm

would match a limit order in NAqcess

when the limit order in NAqcess is at

the same price or is priced lower than

the firm’s customer’s limit order to buy

or higher than the firm’s customer limit

order to sell (‘‘offsetting limit orders’’).

C. Matching Limit Order Interaction

Within A Firm’s File

If the firm holds two or more

offsetting customer limit orders within

its own proprietary file, the firm must

execute the offsetting limit orders.

D. Interaction Between Limit and Market

Orders Held Within A Firm’s File

While holding a customer limit order

that is priced equal to or better than the

best bid or offer in the security

disseminated in Nasdaq, if a firm

accepts customer market orders for

automated execution against the best

bid or offer in the security disseminated

in Nasdaq, the firm, pursuant to its

obligation set forth in the Interpretation

to the Rules of Fair Practice, Article III,

Section 1, (the so-called ‘‘Manning

Interpretation’’), must first permit the

market orders to execute against any

applicable limit orders it holds before

the firm may execute the market orders

for its own account.

E. Examples of Equivalent Protection

The NASD Board of Governors has

provided the following examples to

further explain a member firm’s

equivalent protection obligation for

orders held outside of NAqcess:

Print Protection The best dealer bid

and offer in Nasdaq (‘‘the inside price’’)

is 20 bid–201⁄4 offer. Firm ABCD holds

a customer limit order of 1,000 shares to

buy at 201⁄8 in its own proprietary file.

Firm MNOP reports a transaction in the

subject security via ACT, disseminating

a price of 201⁄16 for 500 shares.

Contemporaneous with the

dissemination of the trade report, firm

ABCD is required to provide an

execution of its customer limit order for

at least 500 shares at 201⁄8.

Matching Limit Orders The inside

price is 20 bid–201⁄4 offer. NAqcess is

displaying a 1,000 share customer limit

order to buy at 201⁄8 for customer X.

Firm ABCD thereafter receives from

customer Y a 1,000 share limit order to

sell at 201⁄8 that the firm ABCD retains

for handling outside of NAqcess. Upon

receipt of the limit order, firm ABCD

must execute customer Y’s limit order

for 1,000 shares at 201⁄8.

Matching Limit Order Interaction

Within A Firm’s File. The inside price

is the same as above. Firm ABCD holds

a customer limit order to buy 1,000

shares at 201⁄8. Firm ABCD thereafter

receives a customer limit order to sell

1,000 shares at 201⁄8. Firm ABCD must

match the orders and execute the trade.

Interaction Between Limit and Market

Orders Held Within A Firm’s File. The

inside price is the same as above. Firm

ABCD holds a customer limit order to

buy 1,000 shares at 201⁄8. Firm ABCD

thereafter receives a customer market

order to sell 1,000 shares. Firm ABCD

must match the two orders and execute

the trade at 201⁄8. Similarly, if the limit

order to buy were priced at 20, the firm

would have to execute the market order

against the limit order at 20.

Price Protection for NAqcess Limit

Orders, Rules of Fair Practice, Article

III, Section [XX]

No member firm shall execute an

order as principal or as agent at a price

inferior to any limit order(s) viewable in

NAqcess to the member firm, provided

however, that a member firm executing

a transaction that is larger than the limit

order(s) viewable in NAqcess at an

inferior price must contemporaneously

satisfy the limit order(s) viewable in

NAqcess. An ‘‘inferior price’’ means an

execution price that is lower than a buy

limit order or higher than a sell limit

order that is viewable in NAqcess. The

term ‘‘limit orders viewable in

NAqcess’’ shall mean those orders that

the member firm is able to view either

as consolidated in the Nasdaq inside

market or as reflected in the Full Limit

Order File Display as the firm is
63106 Federal Register / Vol. 60, No. 236 / Friday, December 8, 1995 / Notices

1The numbers in brackets denote the number of

portfolios which are currently available under the

Contracts.

2ASAP II, the Alliance Navigator and the

Stagecoach Contracts will not be subject to the

proposed substitutions.

authorized to view under the Rules of

Operation and Procedure.

[FR Doc. 95–29950 Filed 12–7–95; 8:45 am]

BILLING CODE 8010–01–P

[Rel. No. IC–21561; File No. 812–9588]

American Skandia Life Assurance

Corporation, et al.

December 1, 1995.

AGENCY: U.S. Securities and Exchange

Commission (‘‘SEC’’ or ‘‘Commission’’).

ACTION: Notice of Application for

Exemption Under the Investment

Company Act of 1940 (the ‘‘1940 Act’’).

APPLICANTS: American Skandia Life

Assurance Corporation (‘‘ASLAC’’),

American Skandia Life Assurance

Corporation Variable Account B (Class

1) (‘‘Account B—Class 1’’), American

Skandia Life Assurance Corporation

Variable Account B (Class 2) (‘‘Account

B—Class 2’’), and American Skandia

Marketing, Inc. (‘‘ASM’’).

RELEVANT 1940 ACT SECTIONS: Sections

6(c), 17(a), 17(b), 17(d) and 26(b) of the

1940 Act and Rule 17d–1 thereunder.

SUMMARY OF APPLICATION: Applicants

seek an order of approval under Section

26(b) of the 1940 Act and exemptions

from Sections 6(c), 17(a), 17(b), 17(d) of

the 1940 Act and Rule 17d–1

thereunder. The requested order would

exempt Applicants from those Sections

of the 1940 Act and the Rule set out

above to the extent necessary to permit

certain underlying mutual funds of the

separate account to be substituted for

certain other underlying mutual funds.

FILING DATE: The application was filed

on May 2, 1995 and amended on

November 17, 1995.

HEARING OR NOTIFICATION OF HEARING: An

order granting the application will be

issued unless the SEC orders a hearing.

Interested persons may request a

hearing by writing to the Secretary of

the SEC and serving Applicants with a

copy of the request, personally or by

mail. Hearing requests should be

received by the SEC by 5:30 p.m. on

December 26, 1995, and should be

accompanied by proof of service on

Applicants in the form of an affidavit or,

for lawyers, a certificate of service.

Hearing requests should state the nature

of the writer’s interest, the reason for the

request, and the issues contested.

Persons who wish to be notified of a

hearing may request notification by

writing to the Secretary of the SEC.

ADDRESSES: SEC, Secretary, 450 Fifth

Street, NW., Washington, DC 20549.

Applicants: John T. Buckley, Esq.,

Werner & Kennedy 1633 Broadway,

New York, New York 10019 and

American Skandia Life Assurance

Corporation, c/o Jeffrey M. Ulness, Esq.,

One Corporate Drive, Shelton, CT

06484.

FOR FURTHER INFORMATION CONTACT:

Edward P. Macdonald, Staff Attorney, or

Brenda D. Sneed, Chief (Office of

Insurance Products), Division of

Investment Management, at (202) 942–

0670.

SUPPLEMENTARY INFORMATION: The

following is a summary of the

application. The complete application

may be obtained for a fee from the

Public Reference Branch of the SEC.

Applicants’ Representations

1. ASLAC, the depositor of both

Account B—Class 1 and Account B—

Class 2 (collectively, the ‘‘Separate

Account’’), is a stock life insurance

company organized under the laws of

the State of Connecticut and whollyowned by American Skandia Investment

Holding Corporation (‘‘ASIHC’’), which

is an indirect wholly-owned subsidiary

of Skandia Insurance Company Ltd., a

corporation organized under the laws of

the Kingdom of Sweden.

2. ASM, the underwriter of variable

annuity contracts issued through the

Separate Account and offered by

ASLAC, is registered with the SEC and

is a member of the NASD. ASM is 100%

owned by ASIHC.

3. The Separate Account is a separate

account of ASLAC, and is registered

under the 1940 Act as a unit investment

trust. ASLAC established the Separate

Account to the purpose of funding

certain flexible purchase payment

deferred variable annuity contracts (the

‘‘Contracts’’). Account B—Class 1

subaccounts each invest exclusively in

one of the corresponding portfolios of

six open-end management investment

companies. The following five Contracts

are funded, through the sub-accounts of

Account B—Class 1: American Skandia

Advisors Plan (‘‘ASAP’’) [32]; 1 ASAP II

[21]; 2 the LifeVest Personal Security

Annuity (‘‘PSA’’) [32]; the Alliance

Capital Navigator Annuity (‘‘Alliance

Navigator’’) [15]; and the StageCoach

Variable Annuity (‘‘StageCoach’’) [8]

(collectively, the ‘‘Class 1 Contracts’’).

Account B—Class 2 sub-accounts

each invest exclusively in one of the

corresponding portfolios of six openend management investment

companies. ASLAC currently offers two

Contracts that invest in Account B—

Class 2: the Wrap Fee Contracts (‘‘Wrap

Fee’’) [42].

4. Under the Contracts affected by the

proposed substitutions, six open-end

management investment companies

currently offer shares of several of their

portfolios to the Separate Account: The

Alger American Fund (‘‘Alger Fund’’);

Alliance Variable Products Series Fund,

Inc. (‘‘AVP’’); Neuberger & Berman

Advisers Management Trust (‘‘AMT’’);

American Skandia Trust (‘‘AST’’); and

Scudder Variable Life Investment Fund

(‘‘Scudder’’). In addition, six portfolios

of the Janus Aspen Series (‘‘Janus’’) are

offered to Account B—Class 2 but not

Account B—Class 1. All such

investment companies in which the

Separate Account invest are collectively

referred to as ‘‘Underlying Funds.’’

5. The proposed substitutions would

result in a reduction in variable

investment options and corresponding

portfolios available as follows. ASAP

and PSA would be reduced to 21 (a

reduction of 11 each) and Wrap Fee

would be reduced to 21 (a reduction of

21). Applicants state that funding such

varied products through a consolidated

fund structure will aid in the growth of

the Underlying Funds resulting in lower

operating costs through economies of

scale. Applicants further state that

regardless of whether one Contract

achieves more popularity or appeal, or

is no longer marketed by ASLAC, the

interests of Contract owners will be

protected by like underlying portfolios

of all ASLAC nonproprietary variable

annuities.

6. Of the Underlying Funds, only AST

is affiliated with ASLAC or the Separate

Account. None of the Underlying

Funds, their investment managers, or

underwriters are affiliated with ASLAC,

the Separate Account or AST through

any corporate ownership.

7. Applicants state that in the

registration statements filed by the

Separate Account, ASLAC expressly

reserved the right both on its own behalf

and on behalf of the Separate Account

to eliminate sub-accounts, combine two

or more sub-accounts, or substitute one

or more Underlying Funds for others in

which its sub-accounts are invested.

8. ASLAC, on its own behalf and on

behalf of the Separate Account,

proposes to effect the following

substitutions of shares of the following

portfolios (the ‘‘Transferee Portfolios’’)

for shares of other portfolios (the

‘‘Transferor Portfolios’’) (collectively,

the ‘‘Substitution(s)’’): (i) the AST

Phoenix Balanced Asset Portfolio will

be substituted for the Alger Balanced,

Alliance Total Return, AMT Balanced,

Scudder Balanced, and Janus Aspen