Document ID: SEC-2009-0511-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; NASDAQ OMX PHLX, Inc.; Notice of Filing of Proposed Rule Change Relating to the Exchange's Enhanced Electronic Trading Platform for Options, Phlx XL II
Posted Date: 2009-04-14T04:00Z

[Federal Register: April 14, 2009 (Volume 74, Number 70)]
[Notices]               
[Page 17245-17259]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr14ap09-119]                         

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SECURITIES AND EXCHANGE COMMISSION

Release No. 34-59721; File No. SR-Phlx-2009-32

 
Self-Regulatory Organizations; NASDAQ OMX PHLX, Inc.; Notice of 
Filing of Proposed Rule Change Relating to the Exchange's Enhanced 
Electronic Trading Platform for Options, Phlx XL II

April 7, 2009.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ and Rule 19b-4 \2\ thereunder, notice is hereby given 
that on April 3, 2009, NASDAQ OMX PHLX, Inc. (``Phlx'' or ``Exchange'') 
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 Exchange. The 
Commission is publishing this notice to solicit comments on the 
proposed rule change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes to implement several enhancements to its 
electronic options trading system, Phlx XL. The enhanced system will be 
known as Phlx XL II and will reflect enhancements to the opening, 
linkage and routing, quoting, and order management processes.
    The text of the proposed rule change is available on the Exchange's 
Web site at http://nasdaqomxphlx.cchwallstreet.com/NASDAQOMXPHLX/
Filings/, at the principal office of the Exchange, and at the 
Commission's Public Reference Room.

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 Exchange 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 Exchange 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. Purpose
    The purpose of the proposed rule change is to implement several 
enhancements to the Phlx electronic options trading platform, Phlx 
XL.\3\ The system that includes these enhancements will be referred to 
as Phlx XL II. These enhancements should improve the execution quality 
for its Phlx users by improving a number of processes, including the 
opening process, the order handling process and the execution of orders 
process. The changes to the opening process should provide better 
executions to users, more consistent prices on executions and a 
smoother transition from the opening to the regular trading day. The 
changes to the order handling process will improve routing to liquidity 
available at other exchanges while preventing non-exempt trade-throughs 
of other markets, and will provide users with increased flexibility and 
control in how their orders are handled. Execution of order processing 
will become more consistent, with greater continuity in prices as a 
result of these changes, because several of the changes are intended to 
introduce a price check to limit executions at far away prices (which 
are known as outliers). The Exchange believes that these changes 
benefit investors and users through better and more consistent system 
behavior and resulting prices. These modifications and enhancements are 
outlined below.\4\
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    \3\ See Securities Exchange Act Release No. 50100 (July 27, 
2004), 69 FR 44612 [sic] (August 3, 2004) (SR-Phlx-2003-59).
    \4\ The Exchange acknowledges that the proposed Options Order 
Protection and Locked/Crossed Market Plan may necessitate 
modifications.
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New Opening Process

    The Exchange proposes to improve its opening process for options in 
several ways. Currently, Exchange Rule 1017 provides that the system 
will open an option series for trading once certain conditions have 
been met. Specifically, Rule 1017(a) currently states that the system 
will automatically open a series in equity options when a quote or 
trade has been disseminated by the market for the underlying security, 
and there is a specialist quote or a defined number of Phlx XL 
participants \5\ quoting after a certain time period has elapsed. 
Provided there is no order imbalance,

[[Page 17246]]

the system will automatically open an option series under these 
conditions.
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    \5\ Phlx XL and Phlx XL II participants are specialists, 
Streaming Quote Traders (``SQTs'') and Remote Streaming Quote 
Traders (``RSQTs''), as defined in Phlx Rule 1014(b), assigned to an 
option.
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    As outlined in more detail below, Phlx proposes to introduce 
opening process enhancements under Phlx XL II that will: (1) Ensure 
that an option will open within a reasonable period of time after the 
underlying security is open and do so within an appropriate Phlx 
opening price range; (2) allow Phlx to now route,\6\ if necessary, to 
other same or better-priced markets contemporaneously with its opening 
of an option series so as to maximize the number of contracts executing 
at the open; and (3) allow quoting market participants to enter trading 
interest at multiple price levels.
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    \6\ Similar to the Exchange's current routing methodology under 
the Plan for the Purpose of Creating and Operating an Intermarket 
Option Linkage (the ``Linkage Plan''), the Exchange will only route 
customer, non-contingency orders.
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Beginning of Opening Process

    In order to ensure that there will be liquidity on the Exchange at 
the beginning of the trading day, the proposal will require the 
specialist assigned in a particular equity option to enter opening 
quotes not later than one minute following the dissemination of a quote 
or trade by the market for the underlying security or, in the case of 
index options, following the receipt of the opening price in the 
underlying index. The specialist assigned in a particular U.S. dollar-
settled Foreign Currency Option (``FCO'') must enter opening quotes not 
later than 30 seconds after the announced market opening.\7\
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    \7\ See Exchange Rule 1017(b)(ii) and proposed Rule 1017(k).
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    Under the proposal, the Phlx XL II system will begin the opening 
process only when certain conditions are present. Specifically, the 
automated opening process can only begin when either (A) the 
specialist's quote has been submitted; (B) the quotes of at least two 
Phlx XL II participants have been submitted within two minutes (or such 
shorter time established by the Exchange) \8\ of the opening trade or 
quote on the market for the underlying security in the case of equity 
options; \9\ or (C) if neither the specialist's quote \10\ nor the 
quotes of two Phlx XL II participants have been submitted within two 
minutes of the opening trade or quote on the market for the underlying 
security in the case of equity options, one Phlx XL II participant has 
submitted their quote. This is consistent with the current opening 
process on Phlx XL, which is described in Phlx Rule 1017.
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    \8\ Such time will be published in an Options Trader Alert, 
which will be available on the Exchange's Web site.
    \9\ In the case of index options, the quotes must be submitted 
within two minutes of the receipt of the opening price in the 
underlying index or within two minutes of market opening in the case 
of U.S. dollar-settled foreign currency options.
    \10\ The specialist is required under current Rule 1017(b), and 
would be required under proposed Rule 1017(k), to enter opening 
quotes not later than one minute following the dissemination of a 
quote or trade by the market for the underlying security or, in the 
case of index options, following the receipt of the opening price in 
the underlying index. There may be circumstances where the 
specialist is unable to disseminate an opening quote due to, for 
example, a system malfunction. In such a circumstance, these current 
and proposed rules provide for the Exchange to open upon the receipt 
of quotes from participants other than the specialist.
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    Furthermore, a Phlx XL II participant that submits a quote in any 
series when the specialist's quote has not been submitted will be 
required to submit continuous, two-sided quotes in such series until 
such time as the specialist submits his/her quote, after which the Phlx 
XL II participant that submitted such quote shall be obligated to 
submit quotations pursuant to Rule 1014(b)(ii)(D).

Opening Process

    Proposed Rule 1017(l)(i) would state that, if there are no opening 
quotes or orders that lock or cross each other, the system will open by 
disseminating the Exchange's best bid and offer among quotes and orders 
that exist in the Phlx XL II system at that time (because if no quotes 
or orders lock/cross each other, nothing matches and there is no 
trade).
    Under proposed Rule 1017(l)(ii), if there are opening quotes or 
orders that lock or cross each other, the Phlx XL II system will take 
the lowest bid and the highest offer among quotations received that 
have a bid/ask differential that is compliant with Rule 
1014(c)(i)(A)(1)(a) \11\ to determine the lowest quote bid and highest 
quote offer.\12\ To calculate the opening price, the Phlx XL II system 
will take into consideration all valid Phlx quotes, sweeps (as defined 
more fully below) \13\ and orders, together with other exchanges' 
markets for the series and identify the price at which the maximum 
number of contracts can trade. If that price is within the lowest quote 
bid and highest quote offer and leaves no imbalance,\14\ the Exchange 
will open at that price, executing marketable trading interest, as long 
as the opening price includes only Phlx interest. Proposed Rule 
1017(l)(ii)(A) provides that an ``imbalance'' occurs where there is 
unexecutable trading interest at a certain price.
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    \11\ Rule 1014(c)(i)(A)(1)(a) requires that quotes in equities 
and index options create differences of no more than $.25 between 
the bid and the offer for each option contract for which the 
prevailing bid is less than $2; no more than $.40 where the 
prevailing bid is $2 or more but less than $5; no more than $.50 
where the prevailing bid is $5 or more but less than $10; no more 
than $.80 where the prevailing bid is $10 or more but less than $20; 
and no more than $1 where the prevailing bid is $20 or more, 
provided that, in the case of equity options, the bid/ask 
differentials stated above shall not apply to in-the-money series 
where the market for the underlying security is wider than the 
differentials set forth above. For such series, the bid/ask 
differentials may be as wide as the quotation for the underlying 
security on the primary market, or its decimal equivalent rounded up 
to the nearest minimum increment. The Exchange may establish 
differences other than the above for one or more series or classes 
of options.
    \12\ The Phlx XL II system will not consider orders, nor will it 
consider quotations that do not comply with such bid/ask 
differential (quotations that are too ``wide''), in its calculation 
of the lowest quote bid and the highest quote offer.
    \13\ See proposed Rule 1017(l)(vi)(A).
    \14\ An ``imbalance'' occurs when there is unexecutable trading 
interest at a certain price. See proposed Rule 1017(l)(ii)(A).
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    Under proposed Rule 1017(l)(ii)(B), when two or more prices within 
the range of the lowest quote bid and highest quote offer for the 
affected series would satisfy the maximum quantity criterion, the Phlx 
XL II system takes the highest and lowest of those prices and takes the 
mid-point for the opening price; if such mid-point is not expressed as 
a permitted minimum price variation, it will be rounded to the minimum 
price variation that is closest to the closing price for the affected 
series from the immediately prior trading session to determine the 
opening price. If there is no closing price from the immediately prior 
trading session, the Phlx XL II system will round up to the minimum 
price variation to determine the opening price.

Route Timer

    Generally, the automated opening process logic seeks to first route 
away all contracts executable at a better price than the Exchange's 
opening price, then executes all contracts available on the Exchange at 
the opening price and, lastly, routes away all contracts available at 
other exchanges at the Exchange's opening price. The foregoing 
processes occur contemporaneously.
    Specifically, under proposed Rules 1017(l)(ii)(C) and (D), if the 
opening price included interest other than solely Phlx interest, the 
system will initiate a ``Route Timer,'' \15\ not to exceed one 
second.\16\ If no new interest is received during the Route Timer, the 
Phlx XL II system will route to other markets disseminating prices 
better than Phlx's

[[Page 17247]]

opening price, execute marketable interest at the opening price on 
Phlx, and route to other markets disseminating prices equal to the Phlx 
opening price if necessary. Orders that are routed and executed may 
receive executions at multiple prices. Orders will be routed as 
Immediate or Cancel (``IOC'') orders with a limit price equal to the 
Exchange's opening price. If interest is received during the Route 
Timer, the Phlx XL II system will recalculate the opening price taking 
such new interest into account.\17\ Then, if there is no imbalance, the 
system will execute marketable interest at the opening price on the 
Phlx and route the remainder to other markets.
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    \15\ All references to a ``Route Timer'' in the Phlx XL II 
system and in the proposed rules mean a system pause for a brief 
period. Phlx XL II participants will not receive any notification 
that a Route Timer has been initiated.
    \16\ The duration of the Route Timer will be published in an 
Options Trader Alert, which will be available on the Exchange's Web 
site.
    \17\ The Phlx XL II system continuously recalculates the opening 
price during the opening process. At this point in the process, the 
opening price may be different from the original opening price 
calculated by the Phlx XL II system. A different opening price will 
not require the Phlx XL II system to repeat the entire opening 
process.
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Opening Quote Range

    Where there is an imbalance at the price at which the maximum 
number of contracts can trade that is also at or within the lowest 
quote bid and highest quote offer, the Phlx XL II system will calculate 
an Opening Quote Range (``OQR'') for a particular series.\18\ To 
determine the minimum value for the OQR, an amount, as defined in a 
table to be determined by the Exchange, will be subtracted from the 
lowest quote bid. To determine the maximum value for the OQR, an 
amount, as defined in a table to be determined by the Exchange,\19\ 
will be added to the highest quote offer.
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    \18\ See proposed Rule 1017(l)(iii).
    \19\ The initial table, and any subsequent modifications 
thereto, will be published in an Options Trader Alert, which will be 
available on the Exchange's Web site.
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    If there is sufficient size on the Exchange and on away markets on 
the opposite side of the market from the imbalance to execute all 
opening marketable interest at a price that is at or within the 
established OQR and the Away Best Bid/Offer (``ABBO'') without leaving 
an imbalance, the Phlx XL II system will open the affected series for 
trading at that price by executing opening marketable interest on the 
Phlx XL II system, as long as the system does not trade through the 
ABBO.\20\ If it would trade through the ABBO, the Phlx XL II system 
will initiate a ``Route Timer,'' not to exceed one second.\21\ If no 
new interest is received during the Route Timer, the Phlx XL II system 
will then route to other markets disseminating prices better than 
Phlx's opening price, execute marketable interest at the opening price 
on Phlx and, route to other markets disseminating prices equal to the 
Phlx opening price if necessary. If there is an imbalance, the Phlx XL 
II system will begin the imbalance process.
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    \20\ If the ABBO is crossed, it will not be taken into 
consideration by the system and the system will immediately execute.
    \21\ The duration of the Route Timer will be published in an 
Options Trader Alert, which will be available on the Exchange's Web 
site.
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Imbalance Process

    If all opening marketable size cannot be completely executed at or 
within the OQR without trading through the ABBO, the Phlx XL II system 
will automatically institute an imbalance process.\22\
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    \22\ See proposed Rule 1017(l)(iv).
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    Phlx XL II will broadcast an Imbalance Message \23\ to Phlx XL II 
participants,\24\ and begin an ``Imbalance Timer,'' not to exceed three 
seconds,\25\ as determined by the Exchange.\26\ Phlx XL II participants 
may enter opening quotes, Opening Sweeps and orders during the 
Imbalance Timer. If such opening quotes, Opening Sweeps (as defined 
below) and orders, or other changes to the ABBO, would allow the entire 
imbalance amount to trade at the Exchange at or within the OQR without 
trading through the ABBO, the Imbalance Timer will end and the Phlx XL 
II system will execute at the appropriate opening price.
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    \23\ The Imbalance Message will contain the option symbol, buy/
sell, size of matched contracts, the size of the imbalance, and 
price, such as ``ABC Jan 50 calls, match 0, 10 to buy at 2.40.''
    \24\ Phlx XL II participants may disclose the contents of the 
Imbalance Message to their customers.
    \25\ Currently, the Exchange intends to set the number of 
seconds system-wide, rather than option-by-option.
    \26\ The number of seconds will be published in an Options 
Trader Alert, which will be available on the Exchange's Web site.
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    If opening quotes, Opening Sweeps and orders submitted during the 
Imbalance Timer, or other changes to the ABBO, would not allow the 
entire imbalance amount to trade at the Exchange at or within the OQR 
without trading through the ABBO, the Phlx XL II system will send a new 
Imbalance Message to Phlx XL II participants, indicating that 
marketable trading interest may be routed to markets disseminating a 
price better than or equal to the Exchange opening price and the Phlx 
XL II system will initiate a Route Timer, not to exceed one second.\27\ 
If during the Route Timer, interest is received by the Phlx XL II 
system which would allow all interest to trade on the Phlx XL II system 
(i.e., there is no longer an imbalance) at the opening price without 
trading through other markets, the Phlx XL II system will trade and the 
Route Timer will end. The Phlx XL II system will monitor quotes 
received during the Route Timer period and make ongoing corresponding 
changes to the permitted OQR to reflect them.\28\
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    \27\ The duration of the Route Timer will be published in an 
Options Trader Alert, which will be available on the Exchange's Web 
site.
    \28\ See proposed Rules 1017(l)(v)(C)(1) and (2).
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    Under proposed Rule 1017(l)(iv)(C)(3), if the Route Timer expires, 
the End of Route Timer Process will ensue, as follows. The Phlx XL II 
system will determine if the total number of contracts displayed at 
better prices than the Exchange's potential opening price \29\ on away 
markets (``better priced away contracts'') would satisfy the number of 
marketable contracts available on the Exchange. If it does, the Phlx XL 
II system will route a number of contracts with a size equal to the 
size of the interest at other markets at prices better than interest on 
the Exchange, and determine an opening Phlx Best Bid/Offer (``PBBO'') 
that reflects the interest remaining on the Exchange. In this 
situation, the Phlx XL II system will price any contracts routed to 
other markets at the better away market price(s).
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    \29\ The Phlx XL II system will continually recalculate the 
opening price based on interest received during the Route Timer and 
changes to the ABBO.
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    Under proposed Rule 1017(l)(iv)(C)(4), if the total number of 
better priced away contracts would not satisfy the number of marketable 
contracts the Exchange has, the Phlx XL II system will determine how 
many contracts it has available at the Exchange opening price. If the 
total number of better priced away contracts plus the number of 
contracts available at the Exchange opening price would satisfy the 
number of marketable contracts the Exchange has, the Phlx XL II system 
will contemporaneously route a number of contracts that will satisfy 
interest at other markets at prices better than the Phlx opening price, 
and trade available contracts on the Exchange at the Exchange opening 
price.\30\ In this situation, the Phlx XL II system will price any 
contracts routed to other markets at the Exchange opening price.
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    \30\ See proposed Rule 1017(l)(v)(C)(5).
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    Under proposed Rule 1017(l)(iv)(C)(5), if the total number of 
better priced away contracts plus the number of contracts available at 
the Exchange opening price would not satisfy the number of marketable 
contracts the Exchange has, the Phlx XL II system will determine how 
many contracts are available at other markets at the Exchange opening 
price. If the

[[Page 17248]]

total number of better priced away contracts plus the number of 
contracts available on the Exchange at the Exchange opening price plus 
the contracts available at other markets at the Exchange opening price 
would satisfy the number of marketable contracts the Exchange has, the 
Phlx XL II system will contemporaneously route a number of contracts 
that will satisfy interest at other markets at prices better than the 
Phlx opening price, trade available contracts on the Exchange at the 
Exchange opening price, and route a number of contracts that will 
satisfy interest at other markets at prices equal to the Phlx opening 
price. In this situation, the Phlx XL II system will price any 
contracts routed to other markets at the Exchange opening price.
    This is illustrated in the following example:

Example I

Assume the Following Facts

    The initiating order is a market order to buy 150 contracts;
    The specialist submits a quote of 2.20 bid, 2.40 offer, with a size 
of 10x10;
    Market Maker 1 submits a quote of 2.15 bid, 2.45 offer, with a size 
of 10x10;
    Market Maker 2 submits a quote of 2.00 bid, 2.50 offer, with a size 
of 25x25. The Phlx XL II system will not consider this quote because it 
is wider than the permitted bid/ask differential set forth in Rule 
1014(c)(i)(A)(1)(a).
    The away market is 2.20 bid, 2.40 offer, with a size of 20x10.

The Following Events Will Occur Concurrently

    An Imbalance timer will be initiated;
    The Phlx XL II system will send an Imbalance Message, indicating 20 
matched contracts 130 contracts to buy at 2.45.

Assume During the Imbalance Timer

    Market Maker 1 sends two sweeps; sell 30 at 2.50 and sell 50 at 
3.00;
    The specialist sends two sweeps; sell 50 at 2.50 and sell 50 at 
2.60.

After the Imbalance Timer

    The Phlx XL II system will initiate a Route Timer and send a new 
Imbalance Message, match 150, 00 to buy at 2.60.

After the Route Timer

    The Phlx XL II system will open 140 contracts at 2.60. The 
initiating order buys 100 contracts from the Specialist and 40 from 
Market Maker 1, and will route 10 to the away market to buy at 2.60 
(the Phlx Opening Price). The away market should execute the 10 
contracts at its 2.40 offer.
    Under proposed Rule 1017(l)(iv)(C)(6), if the total number of 
better priced away contracts plus the number of contracts available at 
the Exchange opening price plus the contracts available at other 
markets at the Exchange opening price would not satisfy the number of 
marketable contracts the Exchange has, the Phlx XL II system will 
repeat the Imbalance Process. The Phlx XL II system may repeat the 
Imbalance Process up to three times (as established by the 
Exchange).\31\
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    \31\ The number of times will be published in an Options Trader 
Alert, which will be available on the Exchange's Web site.
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    Under proposed Rule 1017(l)(iv)(C)(7), if after that number of 
times, the Phlx XL II system still cannot route and/or trade the entire 
imbalance amount, the Phlx XL II system will conduct a Provisional 
Opening by routing to other markets at prices better than the Exchange 
opening price for their disseminated size, trading available contracts 
on the Exchange at the Exchange opening price, and routing contracts to 
other markets at prices equal to the Phlx opening price at their 
disseminated size. In this situation, the Phlx XL II system will price 
any contracts routed to other markets at the Exchange opening price. 
The Exchange opening price will always be equal to or better than the 
OQR.
    The opening process is now complete. Accordingly, unexecuted 
Opening Sweeps (as defined below) will be cancelled. Any unexecuted 
contracts from the imbalance not traded or routed will be displayed in 
the Exchange quote at the opening price for a period not to exceed ten 
seconds \32\ and subsequently cancelled back to the entering 
participant if they remain unexecuted and priced through the opening 
price. During this display time period, the Phlx XL II system will 
disseminate a bid and offer that is equal to the opening price, with a 
size of zero on the opposite side of the market from remaining 
unexecuted contracts.
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    \32\ The number of seconds will be published in an Options 
Trader Alert, which will be available on the Exchange's Web site.
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    Under proposed Rule 1017(l)(iv)(C)(8), the Phlx XL II system will 
execute orders at the opening price that have contingencies (such as, 
without limitation, All-or-None) and non-routable orders, such as ``Do 
Not Route'' or ``DNR'' Orders,\33\ to the extent possible. The Phlx XL 
II system will only route non-contingency customer orders.
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    \33\ See proposed Exchange Rule 1080(m).
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    The Phlx XL II system will: (i) Re-price Do Not Route orders (that 
would otherwise have to be routed to the exchange(s) disseminating the 
ABBO for an opening to occur) to a price that is one minimum trading 
increment inferior to the ABBO, and (ii) disseminate the re-priced DNR 
Order as part of the new PBBO.\34\
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    \34\ See proposed Rule 1017(l)(v)(D).
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    During the Opening Process, permitted responses to an Imbalance 
Message are quotes, Opening Sweeps (as defined more fully below), and 
orders. Specialists, Streaming Quote Traders (``SQTs''),\35\ Remote 
Streaming Quote Traders (``RSQTs''),\36\ may submit quotes, Opening 
Sweeps and orders in response to an Imbalance Message. Non-SQT ROTs 
\37\ may submit orders in response to an Imbalance Message.
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    \35\ An SQT is an Exchange Registered Options Trader (``ROT'') 
who has received permission from the Exchange to generate and submit 
option quotations electronically through AUTOM in eligible options 
to which such SQT is assigned. An SQT may only submit such 
quotations while such SQT is physically present on the floor of the 
Exchange. See Exchange Rule 1014(b)(ii)(A).
    \36\ An RSQT is an ROT that is a member or member organization 
with no physical trading floor presence who has received permission 
from the Exchange to generate and submit option quotations 
electronically through AUTOM in eligible options to which such RSQT 
has been assigned. An RSQT may only submit such quotations 
electronically from off the floor of the Exchange. See Exchange Rule 
1014(b)(ii)(B).
    \37\ A non-SQT ROT is an ROT who is neither an SQT nor an RSQT. 
See Exchange Rule 1014(b)(ii)(C).
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    An Opening Sweep is a one-sided electronic quotation submitted for 
execution against opening trading interest in the Phlx XL II 
system.\38\ A Phlx XL II participant assigned in a particular option 
may only submit an Opening Sweep if, at the time of entry of the 
Opening Sweep, they have already submitted and maintained a valid 
opening-width quote. All Opening Sweeps in the affected series entered 
by a Phlx XL II participant will be cancelled immediately if that Phlx 
XL II participant fails to maintain a continuous quote with a permitted 
opening bid/ask differential in the affected series.
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    \38\ See proposed Rule 1017(l)(v)(A).
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    Under proposed Rule 1017(l)(v)(B), Opening Sweeps may be entered at 
any price with a minimum price variation applicable to the affected 
series, on either side of the market, at single or multiple price 
level(s), and may be cancelled and re-entered. A single Phlx XL II 
participant may enter multiple Opening Sweeps, with each Opening Sweep 
at a different price level. If a Phlx XL II participant submits 
multiple Opening Sweeps, the Phlx XL II system will consider only the 
most recent Opening Sweep at each price level submitted by such Phlx XL 
II

[[Page 17249]]

participant in determining the opening price. The Phlx XL II system 
will aggregate the size of all Opening Sweeps (i.e., for all Phlx XL II 
participants) at a particular price level for trade allocation 
purposes. The Phlx XL II system will not cancel Opening Sweeps until 
the end of the opening process. Unexecuted Opening Sweeps will be 
cancelled once the affected series is open.
    Under proposed Rule 1017(l)(vi), the Phlx XL II system will give 
priority to market orders first in time priority (including limit 
orders that are treated as market orders), then to resting limit orders 
at the opening price.
    Under proposed Rule 1017(l)(vii), inbound orders, Opening Sweeps 
and quotes will not be included in the calculation of the opening price 
for a brief period established by the Phlx XL II system while the Phlx 
XL II system is in the process of completing the opening trade. After 
such brief period, inbound orders, Opening Sweeps and quotes received 
during the period will be entered into the Phlx XL II system in order 
of their arrival.\39\
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    \39\ This brief period will not exceed .25 of one second. The 
duration of the brief period will be published in an Options Trader 
Alert, which will be available on the Exchange's Web site. This 
brief period is similar to the current brief period during the 
opening. See Exchange Rule 1017(c)(iv).
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Amendments to the Exchange's Firm Quote Rule

    The Exchange also proposes to adopt amendments to its Rule 1082, 
Firm Quotations, that would reflect system improvements that should 
enhance the ability for Phlx XL II participants (i.e., specialists, 
SQTs and RSQTs) to refresh, and potentially improve, their quotations 
when their option quotation size is exhausted at a particular price 
level, and that would reflect the Exchange's ability to refresh its 
disseminated market following the exhaustion of the Exchange's 
disseminated size.
    Current Rule 1082(a)(ii)(B)(1) generally provides that if an SQT or 
RSQT's (other than a Directed SQT or RSQT) \40\ quotation size in a 
particular series in a Streaming Quote Option \41\ is exhausted or 
removed by the Risk Monitor Mechanism,\42\ such SQT or RSQT's quotation 
is deleted from the Exchange's disseminated quotation until the time 
the SQT or RSQT revises his/her quotation.
---------------------------------------------------------------------------

    \40\ See Rule 1080(l).
    \41\ As a technical matter, the Exchange proposes to delete 
references to ``Streaming Quote Options,'' because all options 
traded on the Exchange are now ``Streaming Quote Options'' and 
therefore it is not necessary to distinguish them from other options 
traded on the Exchange.
    \42\ See Exchange Rule 1093.
---------------------------------------------------------------------------

    Rule 1082(a)(ii)(B)(2) currently states that, if the Exchange's 
disseminated size in a particular series is exhausted at that 
particular price level, and no specialist, SQT or RSQT has revised 
their quotation immediately following the exhaustion of the Exchange's 
disseminated size at such price level, the Exchange shall automatically 
provide two-sided quotes that comply with the Exchange's rules 
concerning quote spread parameters on behalf of the specialist until 
such time as the specialist revises the quotation, with a size of one 
contract.
    The instant proposed rule change to Rule 1082 is intended to 
reflect Phlx XL system improvements that should enhance the ability of 
Phlx XL II participants and the Exchange to refresh exhausted quotes 
while offering the maximum opportunity for better prices when remaining 
contracts from quotes or orders that exhaust the Exchange disseminated 
market are marketable and due for execution. The enhancements, 
discussed in detail below, are referred to as ``Quote Exhaust'' and 
``Market Exhaust,'' respectively.

IOC Orders

    Proposed Rule 1066(c)(8) defines an Immediate-or-Cancel (``IOC'') 
order as a limit order that is to be executed in whole or in part upon 
receipt. Any portion not so executed shall be cancelled. IOC Orders are 
not routable and will not be subject to any routing process or timer 
described in the Exchange's rules. If not executed immediately, an IOC 
Order will be cancelled by the Phlx XL II system. Contracts remaining 
in an IOC Order following a partial execution will be cancelled. IOC 
Orders will not be subject to any Route Timer and will not be included 
in the Quote Exhaust and Market Exhaust processes described below.

Quote Exhaust

    The Exchange proposes to adopt Rule 1082(a)(ii)(B)(3) to codify the 
Quote Exhaust feature of the Phlx XL II system. Quote Exhaust occurs 
when the Exchange's disseminated market at a particular price level 
includes a quote, and such market is exhausted by an inbound contra-
side quote or order (``initiating quote or order''), and following such 
exhaustion, contracts remain to be executed from the initiating quote 
or order through the initial execution price. For purposes of the 
proposed rule change and the proposed rule text, the initial execution 
price that gives rise to Quote Exhaust will be known as the ``reference 
price.''
    Rather than immediately executing at the next available price, the 
system will employ a timer not to exceed one second \43\ in order to 
allow market participants to refresh their quotes.
---------------------------------------------------------------------------

    \43\ The duration of the timer will be published in an Options 
Trader Alert, which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

Quote Exhaust Timer

    Proposed Rules 1082(a)(ii)(B)(3)(a) and (b) describe the Quote 
Exhaust Timer. When a Quote Exhaust occurs, the Phlx XL II system will 
initiate a ``Quote Exhaust Timer'' that will apply to all options 
traded on the Phlx XL II system, not to exceed one second \44\ during 
which any Phlx XL II participant (including any participant(s) whose 
size was exhausted) may submit quotes, sweeps or orders at any price 
level. This gives the Phlx XL II participant who initially attracted 
the initiating quote or order to the Exchange, together with other Phlx 
XL II participants who wish to join, the ability to refresh his/her 
quote and thus provide an opportunity for better prices to be submitted 
on the Exchange before trading at the next available price or routing 
the order to an away market.\45\
---------------------------------------------------------------------------

    \44\ The duration of the Quote Exhaust Timer will be published 
in an Options Trader Alert, which will be available on the 
Exchange's Web site.
    \45\ In keeping with the Exchange's current practice, Phlx XL II 
will not route non-customer and contingency orders.
---------------------------------------------------------------------------

    During the Quote Exhaust Timer, the Exchange will disseminate the 
reference price, provided that such price does not lock an away market, 
in which case, the Exchange will disseminate a bid and offer that is 
one Minimum Price Variation (``MPV'') from the away market price, with 
a size of zero on the opposite side of the market from remaining 
unexecuted contracts.
    If the remaining contracts in the initiating quote or order are 
either traded or cancelled during the Quote Exhaust Timer, the Quote 
Exhaust Timer will be terminated and normal trading will resume.

New Interest on the Opposite Side of the Market

    Proposed Rule 1082(a)(ii)(B)(3)(c) describes what happens in the 
Phlx XL II system when interest is received on the opposite side of the 
market from the initiating quote or order during the Quote Exhaust 
Timer. If the Exchange receives an order, quote or sweep on the 
opposite side of the market from the initiating quote or order during 
the Quote Exhaust Timer that locks or crosses the reference price at 
any time

[[Page 17250]]

during the Quote Exhaust Timer, it will execute immediately against the 
initiating quote or order at the reference price. If the initiating 
quote or order that caused the Quote Exhaust is exhausted, the Quote 
Exhaust Timer will be terminated.
    With respect to any order, quote or sweep received on the opposite 
side of the market from the initiating quote or order during the Quote 
Exhaust Timer that is inferior to the reference price, the system will 
place any non-IOC order onto the book and cancel all non-marketable 
sweeps and IOC orders. IOC Orders will be cancelled immediately if not 
executed and will not participate in the Quote Exhaust process.

New Interest on the Same Side of the Market

    Proposed Rule 1082(a)(ii)(B)(3)(d) describes what happens in the 
Phlx XL II system when interest is received on the same side of the 
market as the initiating quote or order during the Quote Exhaust Timer. 
If the Exchange receives an order, quote or sweep on the same side of 
the market as the initiating quote or order during the Quote Exhaust 
Timer, the Phlx XL II system will cancel any sweep or IOC order. If 
such new quote or order, other than an IOC order, is a market or 
marketable limit order or marketable quote (i.e., priced at or through 
the reference price) the Phlx XL II system will display it at the 
reference price, with a disseminated size that is the sum of such order 
and/or quote plus the remaining contracts in the initiating order or 
quote. The purpose of this provision is to enhance liquidity on the 
Exchange by adding all available liquidity received during the Quote 
Exhaust Timer to the PBBO at the reference price.

End of the Quote Exhaust Timer

    Proposed Rule 1082(a)(ii)(B)(3)(e) describes what happens in the 
Phlx XL II system at the end of the Quote Exhaust Timer. If there are 
still unexecuted contracts remaining in the initiating quote or order 
or any new interest on the same side of the market, the Phlx XL II 
system will calculate a new PBBO.\46\ The Phlx XL II system will 
conduct an Acceptable Range price ``test'' to determine whether there 
is a valid next available price at which the Phlx XL II system may 
execute the remaining unexecuted contracts. Passing the test is 
required to establish a valid price and proceed to execution 
processing. The Exchange believes that executions should not occur at 
prices outside of the Acceptable Range. The Quote Exhaust feature 
provides an opportunity for additional price discovery both on the 
Exchange and at away markets to which the remaining contracts could be 
routed.

Acceptable Range Test

    Proposed Rule 1082(a)(ii)(B)(3)(f) describes the Phlx XL II 
system's ``Acceptable Range Test.'' The Acceptable Range Test 
determines if such next available price is within an Acceptable Range. 
The Acceptable Range for the next available price will be calculated by 
the Phlx XL II system by taking the reference price, plus or minus a 
value to be determined by the Exchange (i.e., the reference price-(x) 
for sell orders and the reference price + (x) for buy orders).

                                                 Example Table *
----------------------------------------------------------------------------------------------------------------
                                                                                                Acceptable Bid/
                                                                           Acceptable Bid/Ask  Ask Differential--
                                                                           Differential--less   9 Months or more
                 Bid price = or > than                   Bid price < than   than 9 months to       expiration
                                                                               expiration          multiplier

----------------------------------------------------------------------------------------------------------------
$0.00.................................................              $2.00               $0.40                  X
$2.00.................................................               5.00                0.80                 2X
$5.00.................................................              10.00                1.00                 2X
$10.00................................................              20.00                1.60                 2X
$20.00................................................                n/a                2.00                 2X
----------------------------------------------------------------------------------------------------------------
* Note: The table presented here is for example purposes only. The Exchange may modify the Bid Price ranges, the
  Differential values and the Multipliers and will announce such changes on its Web site.\47\

    The  purpose of this provision is to ensure that remaining 
contracts from the initiating quote or order do not execute at a price 
that is outside the Acceptable Range due to the potential for wide 
markets at the next price level.
---------------------------------------------------------------------------

    \46\ The PBBO will include the remaining unexecuted portion of 
the initiating quote or order plus any new interest received on the 
same side of the market at the reference price, or if locking or 
crossing the ABBO, at one minimum trading increment away from the 
ABBO, for the full available size. The other side of the PBBO will 
be the actual Exchange interest at the best price.
    \47\ The initial table, and any subsequent modifications 
thereto, will be published in an Options Trader Alert, which will be 
available on the Exchange's Web site.
---------------------------------------------------------------------------

Quote Exhaust Resolution

    Proposed Rule 1082(a)(ii)(B)(3)(g) describes Quote Exhaust 
Resolution. The Phlx XL II system will first determine whether to trade 
at the next available Phlx price by comparing it to the Acceptable 
Range price \48\ and the ABBO price \49\ to establish a Best Price. The 
Phlx XL II system then considers whether the price of the initiating 
quote or order locks or crosses the Best Price, which, in turn, 
determines whether the initiating quote or order trades, is routed or 
is posted. This occurs as follows:
---------------------------------------------------------------------------

    \48\ The Acceptable Range price is, with respect to an 
initiating buy order, the highest price of the Acceptable Range, 
and, with respect to an initiating sell order, the lowest price of 
the Acceptable Range.
    \49\ Similarly to the Acceptable Range price, because the ABBO 
consists of a bid and an offer price, the ABBO price is, with 
respect to an initiating buy order, the away best offer, and, with 
respect to an initiating sell order, the away best bid.
---------------------------------------------------------------------------

    First, under proposed Rule 1082(a)(ii)(B)(3)(g)(i), the Phlx XL II 
system establishes the Best Price as the best of: The next available 
Phlx price, the Acceptable Range price and the ABBO price. The best of 
these three prices (``Best Price'') is, with respect to an initiating 
buy order, the lowest price of: (A) The next available Phlx offer; (B) 
the ABBO offer; or (C) the Acceptable Range price on the offer side of 
the market; and, with respect to an initiating sell order, the highest 
price of: (A) The next available Phlx bid; (B) the ABBO bid; or (C) the 
Acceptable Range price on the bid side of the market. Once the Best 
Price is established, the Phlx XL II system will consider whether the 
price of the initiating quote or order locks or crosses the Best Price. 
Under proposed Rule 1082(a)(ii)(B)(3)(g)(ii), if the price of the 
initiating quote or order (if a limit order) does not lock or cross the 
Best Price, the Phlx XL II system will post the remaining portion of 
the initiating quote or order at its limit price and normal trading 
will resume.

[[Page 17251]]

Initiating Quote or Order Locks Best Price

    Proposed Rule 1082(a)(ii)(B)(3)(g)(iii) describes what happens in 
the Phlx XL II system when the initiating quote or order locks the Best 
Price. If the initiating quote or order locks the Best Price, the 
system will execute, route if a routable order, and/or post the 
initiating quote or order as described below:
    If the Best Price is the next Phlx price, the system will execute a 
trade up to its disseminated size. If this Best Price (next Phlx price) 
is equal to the ABBO price, any remaining unexecuted routable order 
volume from the execution on the Phlx will be routed away. After such 
routing, any remaining unexecuted contracts will be posted on the 
Exchange at the ABBO price. If this Best Price (next Phlx price) is 
equal to the Acceptable Range price, any remaining unexecuted routable 
order volume from the execution on the Phlx will be posted on the 
Exchange at the Acceptable Range price. Lastly, if this Best Price 
(next Phlx price) is equivalent to both the ABBO and the Acceptable 
Range price, any remainder order volume from the execution on the Phlx 
will be routed away, and if after routing there still remains open 
contracts, the remainder will be posted on the Phlx at the Acceptable 
Range price.
    If the Best Price is the ABBO, where the ABBO is not equal to the 
next Phlx price, the initiating order will be routed away up to the 
size of the ABBO and, after routing, any remaining unexecuted contracts 
from the initiating order will be posted on the Exchange at the ABBO 
price. If the Best Price (ABBO is not equal to the next Phlx price) 
equals the Acceptable Range price, the initiating order will be routed 
away and after such routing, any remaining unexecuted contracts will be 
posted on the Exchange at the ABBO price.
    If the Best Price is the Acceptable Range Price, where the 
Acceptable Range Price is not equal to either the next Phlx price or 
the ABBO, the initiating order or quote will be posted at the 
Acceptable Range Price.

Initiating Quote or Order Crosses Best Price

    Proposed Rule 1082(a)(ii)(B)(3)(g)(iv) describes what happens in 
the Phlx XL II system when the initiating quote or order crosses the 
Best Price. If the initiating quote or order crosses the Best Price, 
the Phlx XL II system will execute, route, and/or post the initiating 
quote or order as described below:
    If the Best Price is the next Phlx price, the Phlx XL II system 
will execute a trade at the Exchange's next available price up to the 
Exchange's disseminated size. If this Best Price (next Phlx price) is 
equal to the ABBO price, any remaining order volume from the execution 
on the Exchange will be routed away and, after such routing, any 
remainder volume will be posted on the Exchange at the ABBO price. If 
this Best Price (next Phlx price) is equal to the Acceptable Range 
price, any remaining volume from the execution on the Phlx will be 
posted at the Acceptable Range Price for a period not to exceed ten 
seconds \50\ and cancelled after this time has elapsed. During this 
period, the Phlx XL system will disseminate a bid and offer that is one 
minimum variation from the away market price with a size of zero on the 
opposite side of the market from remaining unexecuted contracts.
---------------------------------------------------------------------------

    \50\ The posting time will be published in an Options Trader 
Alert, which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    Lastly, if this Best Price (next Phlx price) is equal to both the 
ABBO and the Acceptable Range price, any remainder order volume from 
the execution on the Phlx will be routed away, and if after routing 
there still remain unexecuted contracts, the remainder will be posted 
on the Phlx at the Acceptable Range price for a period not to exceed 
ten seconds,\51\ and cancelled after this time has elapsed. During this 
period, the Phlx XL system will disseminate a bid and offer at the 
Acceptable Range price, with a size of zero on the opposite side of the 
market from remaining unexecuted contracts.
---------------------------------------------------------------------------

    \51\ The posting time will be published in an Options Trader 
Alert, which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    The purpose of the posting period is to expose the initiating quote 
or order at the Exchange-determined Acceptable Range price so that 
interested participants have the opportunity to trade against such 
initiating quote or order. The purpose of the cancellation following 
the posting period is to return any unexecuted portion of the 
initiating quote or order to the sender so that the sender may 
determine how they want the remainder handled (e.g., re-price the 
initiating quote or order, trade at the next available price on the 
Exchange, or route to another market center).
    If the Best Price is the ABBO, where the ABBO is not equal to the 
next Phlx price, the initiating order will be routed away and if after 
routing there remain unexecuted contracts, the remainder of the 
initiating order will be posted on the Phlx at the ABBO price. If this 
Best Price (ABBO is not equal to the next Phlx price) equals the 
Acceptable Range price, the initiating order will be routed away and if 
after routing there remain unexecuted contracts, the remainder of the 
order will be posted on the Phlx at the ABBO price for a period not to 
exceed ten seconds,\52\ and cancelled after this time has elapsed. 
During this period, the Phlx XL II system will disseminate a bid and 
offer at the Acceptable Range price, with a size of zero on the 
opposite side of the market from remaining unexecuted contracts.
---------------------------------------------------------------------------

    \52\ The posting time will be published in an Options Trader 
Alert, which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    If the Best Price is the Acceptable Range price, where the 
Acceptable Range price is not equal to either the next Phlx price or 
the ABBO, the initiating quote or order will be posted on the Exchange 
at the Acceptable Range price for a period not to exceed ten 
seconds,\53\ and cancelled after this time has elapsed. During this 
period, the Phlx XL II system will disseminate a bid and offer at the 
Acceptable Range price, with a size of zero on the opposite side of the 
market from remaining unexecuted contracts.
---------------------------------------------------------------------------

    \53\ The posting time will be published in an Options Trader 
Alert, which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    Under proposed Rule 1082(a)(ii)(B)(3)(g)(v), if the initiating 
order is non-routable, when the order would otherwise route according 
to the process described above, the order will be posted on the Phlx at 
a price one minimum trading increment inferior to the Best Price so as 
not to lock an away market.
    Under proposed Rule 1082(a)(ii)(B)(3)(g)(vi), if, after trading at 
the Phlx and/or routing, the remainder of the initiating order is still 
marketable, the entire process of evaluating the best Phlx price and 
the ABBO will continue until: (A) The order size is exhausted, (B) the 
order reaches its limit price, or (C) the order is posted at the 
original Acceptable Range price.
    These order handling processes are illustrated in the chart below:

[[Page 17252]]

----------------------------------------------------------------------------------------------------------------
         Identify the best of                                Test Initiating order or quote
----------------------------------------------------------------------------------------------------------------
(1) Next Phlx price or (2) Acceptable   Does not lock or cross
        range (AR) or (3) ABBO                 the best              Locks the best          Crosses the best
----------------------------------------------------------------------------------------------------------------
Next Phlx price......................  Post at limit price....  Trade..................  Trade.
Next Phlx price = ABBO...............  Post at limit price....  Trade, will route if     Trade, will route if
                                                                 Phlx exhausted.          Phlx exhausted.
Next Phlx price = Acceptable Range...  Post at limit price....  Trade and post any       Trade, post any
                                                                 remainder balance.       remainder balance at
                                                                                          AR price, cancel after
                                                                                          timer.
Next Phlx price = Acceptable Range =   Post at limit price....  Trade, will route if     Trade, will route if
 ABBO.                                                           Phlx exhausted, post     Phlx exhausted, post
                                                                 any remainder balance.   any remainder balance
                                                                                          at AR price, cancel
                                                                                          after timer.
ABBO.................................  Post at limit price....  Route and post any       Route and/or post.
                                                                 remainder balance.
ABBO = Acceptable Range..............  Post at limit price....  Route and/or post......  Route and/or post
                                                                                          cancel after timer.
Acceptable Range.....................  Post at limit price....  Post at Acceptable       Post at Acceptable
                                                                 Range.                   Range, cancel after
                                                                                          timer.
----------------------------------------------------------------------------------------------------------------
* Non-routable orders will be handled according to the above table unless routing would occur. At such point,
  the non-routable order will be posted at one minimum trading increment away from the established Best Price.
** After routing, any unexecuted portions of routed order will be posted on the Phlx in accordance with current
  Phlx rules.

    The purpose of Quote Exhaust is to enhance the process for 
refreshing a participant's quote that has been fully exhausted by an 
incoming quote or order that has, after exhausting the Phlx quote at a 
particular price level, remaining size to be executed at a price 
through the reference price. In addition, Quote Exhaust is intended to 
provide an opportunity for such quote or order to receive a price for 
that order better than the next available price. This process is 
illustrated in the example below.

Example II

Assume the Following Facts

    The initiating order is a market order to buy 40 contracts;
    The specialist submits a quote of 2.20 bid, 2.40 offer, with a size 
of 10x10;
    Market Maker 1 submits a quote of 2.20 bid, 2.70 offer, with a size 
of 25x25;
    The Away Market is 2.20 bid, 2.65 offer, with a size of 20x10;
    The PBBO is 2.20 bid, 2.40 offer, with a size of 35x10.

The Following Events Will Occur Concurrently

    The initiating order buys 10 contracts from the specialist at 2.40, 
exhausting the 2.40 quote;
    The Phlx XL II system will start the Quote Exhaust Timer;
    The Phlx XL II system will disseminate a PBBO of 2.40 bid, 2.40 
offer, with a size of 30x0.

After the Quote Exhaust Timer

    The initiating order buys 20 contracts from Market Maker 1 at 2.70 
and the Phlx XL II system will contemporaneously route the unexecuted 
balance of the initiating order to the away market, 10 to buy at 2.70. 
This should result in a buy of 10 contracts at 2.65 on the away market.
    The disseminated PBBO is 2.20 bid, 2.70 offer, with a size of 20x5.
    The Exchange believes that Quote Exhaust provides the best 
opportunity for remaining portions of incoming quotes or orders to be 
executed on the Exchange at prices that are better than away markets by 
allowing Phlx XL II participants to refresh their quotes before routing 
away, thus potentially providing better prices at which to execute such 
remaining portions.

Exchange-Generated Quote

    In Phlx XL II, if the Exchange's disseminated size in a particular 
series is exhausted at that particular price level, and no specialist, 
SQT or RSQT has revised their quotation immediately following the 
exhaustion of the Exchange's disseminated size at such price level, in 
Phlx XL II, the Exchange will not, as it currently does in Phlx XL 
under Rule 1082(a)(ii)(B)(2), automatically provide two-sided quotes 
that comply with the Exchange's rules concerning quote spread 
parameters on behalf of the specialist with a size of one contract. 
Instead, the Exchange will disseminate a bid of zero and an offer of 
$200,000, each for a size of one contract.\54\ This system generated 
quote will indicate that the Exchange has no better priced interest and 
will typically be generated only in Market Exhaust scenarios (see 
below). The Exchange believes that this quote is preferable to a 0 X 0 
quote, because an offer of 0 could be misinterpreted by a system as the 
best offer.
---------------------------------------------------------------------------

    \54\ See proposed Rule 1082(a)(ii)(B)(4)(a). This would replace 
the Exchange's current practice of automatically providing two-sided 
quotes that comply with the Exchange's rules concerning quote spread 
parameters on behalf of the specialist until such time as the 
specialist revises the quotation, with a size of one contract. The 
Exchange represents that it will, as it does today, surveil for 
compliance on the part of specialists (and SQTs and RSQTs) with the 
Exchange's continuous quoting requirements. See Exchange Rule 
1014(b)(ii)(D).
---------------------------------------------------------------------------

Market Exhaust

    Proposed Rule 1082(a)(ii)(B)(4) describes the Phlx XL II system's 
Market Exhaust feature. Market Exhaust occurs when there are no Phlx XL 
II participant (specialist, SQT or RSQT) quotations in the Exchange's 
disseminated market for a particular series and an initiating order in 
the series is received.\55\ In such a circumstance, the Phlx XL II 
system, using Market Exhaust, will initiate a Market Exhaust Auction 
for the initiating order.
---------------------------------------------------------------------------

    \55\ Market Exhaust can only be triggered by an initiating 
order.
---------------------------------------------------------------------------

Market Exhaust Auction

    Proposed Rule 1082(a)(ii)(B)(4)(b) describes the Market Exhaust 
Auction. When an initiating order is received when there are no 
quotations in the Exchange market, the Phlx XL II system will 
immediately broadcast a notification (an ``Auction Notification'') to 
Phlx XL II participants; the purpose of the auction is to seek 
participation and determine the best price at which the contracts in 
the initiating order may be executed (the ``Auction Price''). The 
Auction Notification will include the series, size and side of the 
market of the initiating order. The Auction Notification will not 
include a price.

[[Page 17253]]

The Auction will be for a period of time not to exceed three seconds 
\56\ (the ``Auction Period''). The Market Exhaust Auction is used to 
determine the best price at which the contracts in the initiating order 
may be executed (the ``Auction Price'').
---------------------------------------------------------------------------

    \56\ The duration of the Auction Period will be published in an 
Options Trader Alert, which will be available on the Exchange's Web 
site.
---------------------------------------------------------------------------

During the Auction Period

    Proposed Rule 1082(a)(ii)(B)(4)(c) describes the responses that 
Phlx XL II participants may submit during the Auction Period. Phlx XL 
II participants may submit bids and offers in response to the Auction 
Notification into the system until the end of the Auction Period. Such 
responsive bids and offers may be submitted to the system for the 
auction in three ways. First, Phlx XL II participants may submit a two-
sided quote in response to the Auction Notification. Secondly, Phlx XL 
II participants may submit a single-sided, single-priced quotation for 
the auction to be known as ``Auction Sweep'' \57\ that will be 
effective only for the Auction Period and cancelled at the end of that 
period if not executed.\58\ Auction sweeps may be entered at any price 
consistent with the minimum price variation applicable to the affected 
series, at single or multiple price level(s), and may be cancelled and 
re-entered. Finally, they may submit limit orders. IOC Orders will be 
cancelled immediately if not executed and will not participate in the 
Market Exhaust process. Any quote, Auction Sweep or order can be 
cancelled and/or replaced during the Auction Period. In addition, 
incoming orders from non-Phlx XL II participants and existing orders on 
the book will be eligible to participate at the end of the Auction 
Period, together with responses to the Auction Notification.
---------------------------------------------------------------------------

    \57\ See proposed Rule 1082(a)(ii)(B)(4)(c)(i).
    \58\ A single Phlx XL II participant may enter multiple Auction 
Sweeps, with each Auction Sweep at a different price level. If a 
Phlx XL II participant submits multiple Auction Sweeps, the Phlx XL 
II system will consider only the most recent Auction Sweep at each 
price level submitted by such Phlx XL II participant in determining 
the Auction Price. The Phlx XL II system will aggregate the size of 
all Auction Sweeps (i.e., for all Phlx XL II participants) at a 
particular price level for trade allocation purposes.
---------------------------------------------------------------------------

End of the Auction Period

    Proposed Rule 1082(a)(ii)(B)(4)(d) describes what happens at the 
end of the Auction Period. If at the end of the Auction Period there 
are no quotes in the Exchange market that have a bid/ask differential 
that complies with the following table (a ``valid-width auction 
quote''), the initiating order, plus all other Auction Sweeps and 
orders received during the Auction Period will be cancelled.\59\ Quotes 
that are not valid-width auction quotes will remain and a new PBBO will 
be calculated and disseminated.
---------------------------------------------------------------------------

    \59\ Inbound marketable orders received during the Auction 
Period would also be cancelled in this situation at the end of the 
Auction Period, because, since there are still no valid-width quotes 
at the end of the Auction Period, the Phlx XL II system has no basis 
on which to determine what is an acceptable range within which to 
trade.

                                                 Example Table*
                                         Valid width auction quote table
----------------------------------------------------------------------------------------------------------------
                                                                                             Acceptable bid/ask
                                                                        Acceptable bid/ask  differential--months
               Bid price = or > than                  Bid price < than  differential--less       or more to
                                                                         than 9 months to        expiration
                                                                            expiration           multiplier
----------------------------------------------------------------------------------------------------------------
$0.00..............................................              $2.00               $0.40                   2X
2.00...............................................               5.00                0.80                   2X
5.00...............................................              10.00                1.00                   2X
10.00..............................................              20.00                1.60                   2X
20.00..............................................                n/a                2.00                   2X
----------------------------------------------------------------------------------------------------------------
*NOTE: The table presented here is for example purposes only. The Exchange may modify the Bid Price ranges, the
  Differential values and the Multipliers and will announce such changes on its Web site.\60\

    If at the end of the Auction Period there are valid-width auction 
quotes, the Phlx XL II system will determine the allowable executable 
price range from the lowest valid-width auction quote bid and the 
highest valid-width auction quote ask; this is the Auction Quote Range 
(``AQR'').
---------------------------------------------------------------------------

    \60\ The initial table and any modifications thereto will be 
published in an Options Trader Alert, which will be available on the 
Exchange's Web site.
---------------------------------------------------------------------------

    If the initiating order can be completely executed at or within the 
AQR and the ABBO, using contracts available from all available quotes, 
Auction Sweeps or orders priced at or within the AQR, a trade will be 
executed at the Exchange at the Auction Price.
    If quotes, Auction Sweeps and orders submitted during the Auction 
Period would not allow the entire initiating order to trade at a price 
within the AQR without trading through the ABBO, the Phlx XL II system 
will determine if the total number of contracts displayed at the ABBO 
price on away markets would satisfy the number of marketable contracts 
available on the Exchange. If it does, the Phlx XL II system will route 
a number of contracts that will satisfy interest at other markets at 
the ABBO price, and determine a PBBO that reflects the remaining Phlx 
interest without locking the away market. In this situation, the Phlx 
XL II system will price any contracts routed to other markets at the 
ABBO price.
    If the total number of contracts priced at the ABBO would not 
satisfy the number of marketable contracts the Exchange has, the Phlx 
XL II system will determine how many contracts it has available on the 
Exchange at a price equal to the ABBO. If the total number of ABBO 
contracts plus the number of contracts available on the Exchange at the 
ABBO price would satisfy the number of marketable contracts the 
Exchange has, the ABBO price becomes the Exchange Auction Price and the 
Phlx XL II system will trade available contracts on the Exchange at the 
Exchange Auction Price and contemporaneously route a number of 
contracts that will satisfy interest at other markets at prices better 
than the Exchange Auction Price. In this situation, the Phlx XL II 
system will price any contracts routed to other markets at the away 
market price. The Exchange Auction Price will always be at or within 
the AQR.
    If the total number of ABBO contracts plus the number of contracts 
available on the Exchange at the ABBO price would not satisfy the 
number of marketable contracts the Exchange has, the Phlx XL II system 
will determine

[[Page 17254]]

how many contracts are available on the Exchange at a price that is one 
Minimum Price Variation (``MPV'') through the ABBO price. If the total 
number of ABBO contracts plus the number of contracts available on the 
Exchange at the ABBO price plus the number of contracts available on 
the Exchange at a price that is one MPV through the ABBO price would 
satisfy the number of marketable contracts the Exchange has, the price 
that is one MPV through the ABBO becomes the Exchange Auction Price. 
The system will contemporaneously route a number of contracts that will 
satisfy interest at the ABBO and trade a number of contracts that will 
satisfy interest on the Exchange at the Exchange Auction Price.\61\ In 
this situation, the Phlx XL II system will price any contracts routed 
to other markets at the Exchange Auction Price.
---------------------------------------------------------------------------

    \61\ The Phlx XL II system will route contracts to the ABBO when 
the next Phlx price is greater than one MPV through the ABBO.
---------------------------------------------------------------------------

    If the total number of ABBO contracts plus the number of contracts 
available on the Exchange at the ABBO price plus the number of 
contracts available on the Exchange at a price that is one MPV through 
the ABBO price would not satisfy the number of marketable contracts the 
Exchange has, the system may repeat the auction process.
    The Phlx XL II system may repeat this process up to three 
times.\62\ If after that number of times, the Phlx XL II system still 
cannot either route and/or trade the entire initiating order, the Phlx 
XL II system will conduct a Provisional Auction by routing to markets 
at the ABBO for their disseminated size, and trading as many contracts 
as possible on the Exchange at the ABBO price and at a price that is 
one MPV through the ABBO price. In this situation, the Phlx XL II 
system will price any contracts routed to other markets at the ABBO 
price. The Auction is now complete. Accordingly, unexecuted Auction 
Sweeps will be cancelled by the Phlx XL II system.
---------------------------------------------------------------------------

    \62\ The number of times it will be repeated will be published 
in an Options Trader Alert, which will be available on the 
Exchange's Web site.
---------------------------------------------------------------------------

    Any unexecuted contracts from the initiating order will be 
displayed in the Exchange quote at the Auction Price for a brief period 
not to exceed ten seconds \63\ and subsequently cancelled back to the 
entering participant if they remain unexecuted and priced through the 
Auction Price. During the brief period, the Phlx XL II system will 
disseminate a bid and offer that is equal to the Auction Price, with a 
size of zero on the opposite side of the market from remaining 
unexecuted contracts. The purpose of the posting period is to expose 
the initiating order at the Auction Price so that interested 
participants have the opportunity to trade against such initiating 
order. The purpose of the cancellation following the posting period is 
to return any unexecuted portion of the initiating order to the sender 
so that the sender may determine how they want the remainder handled 
(e.g., re-price the initiating order, trade at the next available price 
on the Exchange, or route to another market center).
---------------------------------------------------------------------------

    \63\ The duration of the brief period will be published in an 
Options Trader Alert, which will be available on the Exchange's Web 
site.
---------------------------------------------------------------------------

    This process is illustrated in the following example:

Example III

Assume the Following Facts

    There is an order (``Order 1'') on the book to sell 20 contracts at 
8.00;
    The Phlx XL II system receives another order (``Order 2'') to buy 
100 contracts at the market;
    The specialist's quote in the affected series has been purged;
    There are no Market Maker quotes in the affected series;
    The away market is disseminating a market of 2.20 bid, 2.65 offer, 
with a size of 20x10;
    The Phlx XL II system will disseminate a PBBO of 0.00 bid, 8.00 
offer, with a size of 1x20;
    The number of times the process will repeat is set to zero.

The Phlx XL II System Sends an Auction Notification

    Assume, in response to the Auction Notification during the Auction 
Period:
    The specialist submits a quote of 2.20 bid, 2.50 offer, with a size 
of 10x10;
    Market Maker 1 submits a quote of 2.25 bid, 2.90 offer, with a size 
of 20x20;
    The Phlx XL II system receives a market order (``Order 3'') to sell 
50 contracts in the affected series;
    The specialist submits an Auction Sweep to sell 30 contracts at 
2.70;
    The specialist submits another Auction Sweep to sell 60 contracts 
at 3.00.

At the End of the Auction Period

    Order 2 buys 50 from Order 3 at 2.70;
    Order 2 buys 40 from the specialist at 2.70;
    The Phlx XL II system will route the balance of Order 2 (10 
contracts) to the away market, to buy at 2.70. This should result in a 
buy of 10 contracts on the away market at 2.65;
    The Exchange will disseminate a PBBO of 2.25 bid, 2.90 offer, with 
a size of 20x20.
    In summary, the automated auction process logic seeks to first 
route away all contracts executable at a better price than the 
Exchange's Auction Price, then executes all contracts available on the 
Exchange at the Auction Price or one MPV through the NBBO and, lastly, 
routes away all contracts available at other exchanges at the 
Exchange's Auction Price. The foregoing processes occur 
contemporaneously.
    The Exchange will execute orders at the Auction Price that have 
contingencies (such as All-or-None) and non-routable orders (such as a 
``Do Not Route'' or ``DNR'' Orders), to the extent possible. Consistent 
with its routing approach, the Exchange will only route non-contingency 
customer orders. Thus, in a Provisional Auction, even orders priced at 
or through the Auction Price may not be executed because of 
insufficient size.
    If a Market Exhaust Auction is in progress at (1) the close of the 
trading day or 2) at the time of a trading halt, the Auction will be 
immediately terminated and no trades would occur.

Priority at the End of the Auction

    Just as provided in current Exchange Rule 1017(c)(i), the system 
will give priority to market orders first (including limit orders that 
are treated as market orders), then to resting limit orders at the 
Auction Price.\64\ In order to preserve an orderly auction on the 
Exchange, inbound orders and quotes will not be included in the 
calculation of the Auction Price for a brief period established by the 
Phlx XL II system \65\ while the Phlx XL II system is in the process of 
completing the auction trade. During this period, inbound orders and 
quotes will be queued on the Phlx XL II system in the order in which 
they are received. After this period once the auction is complete, such 
inbound orders, sweeps and quotes will be processed by the Phlx XL II 
system in order of their arrival.
---------------------------------------------------------------------------

    \64\ See proposed Rule 1082(a)(ii)(B)(4)(d)(v).
    \65\ This brief period will not exceed .25 of one second. This 
brief period is similar to the brief period during the opening. See 
Exchange Rule 1017(c)(iv).
---------------------------------------------------------------------------

Permitted Responses to Auction Notification

    Permitted responses to an Auction Notification include quotes, 
Auction Sweeps (as defined more fully below), and orders.
    An Auction Sweep is a proposed new method for entering electronic 
quotations by specialists, SQTs and RSQTs assigned to a particular 
option. An Auction Sweep is an electronic quotation submitted for 
execution

[[Page 17255]]

against trading interest in the system. Auction Sweeps may be entered 
at any price, at single or multiple price level(s), and may be 
cancelled and re-entered. A single Phlx XL II participant may enter 
multiple Auction Sweeps, with each Auction Sweep at a different price 
level. If a Phlx XL II participant submits multiple Auction Sweeps at 
different price levels, the Phlx XL II system will consider only the 
most recent Auction Sweep at each price level submitted by such Phlx XL 
II participant in determining the Exchange Auction Price. The Phlx XL 
II system will aggregate the size of all Auction Sweeps (i.e., for all 
Phlx XL II participants) at a particular price level for trade 
allocation purposes. Contracts will be allocated pursuant to Exchange 
rules concerning trade allocation.\66\ Unexecuted Auction Sweeps will 
be cancelled once the auction is complete.
---------------------------------------------------------------------------

    \66\ See Exchange Rules 1014(g)(vii) and (g)(viii).
---------------------------------------------------------------------------

Order Routing

    The Phlx XL II system will route only customer FIND and SRCH Orders 
(as defined below) with no other contingencies. Under proposed Rule 
1080(m), customer FIND and SRCH Orders will first be checked by the 
Phlx XL II system for available contracts for potential execution. 
After checking the Phlx XL II system for available contracts, orders 
are sent to other available market centers for potential execution. 
When checking the book, the Phlx XL II system will seek to execute at 
the price at which it would send the order to a destination market 
center. In situations where the Exchange's disseminated bid or offer is 
one MPV inferior to the NBBO price, the Phlx XL II system will 
contemporaneously route to the away market(s) disseminating the NBBO at 
such away market's size, and execute remaining contracts at the 
Exchange's disseminated bid or offer up to its disseminated size.
    If contracts remain unexecuted after routing, they are posted on 
the book. Once on the book, should the order subsequently be locked or 
crossed by another market center, the Phlx XL II system will not route 
the order to the locking or crossing market center, except as specified 
below.
    Proposed Rule 1080(m)(i) provides that orders sent to other markets 
do not retain time priority with respect to other orders in the Phlx XL 
II system and the Phlx XL II system will continue to execute other 
orders while routed orders are away at another market center. Once 
routed by the Phlx XL II system, an order becomes subject to the rules 
and procedures of the destination market including, but not limited to, 
order cancellation. If a routed order is subsequently returned, in 
whole or in part, that order, or its remainder, shall receive a new 
time stamp reflecting the time of its return to the Phlx XL II system.
    Proposed Rule 1080(m)(ii) provides that entering member 
organizations whose orders are routed to away markets shall be 
obligated to honor such trades that are executed on away markets to the 
same extent they would be obligated to honor a trade executed on the 
Exchange.
    The Exchange proposes to adopt proposed Rule 1080(m)(iii)(A) to 
establish Nasdaq Options Services LLC (``NOS'') as the Exchange's 
exclusive order router. NOS is a member of an SRO unaffiliated with the 
Exchange that is its designated examining authority. NOS will serve as 
the Routing Facility of the Exchange (the ``Routing Facility''). The 
sole use of the Routing Facility by the Phlx XL II system will be to 
route orders in options listed and open for trading on the Phlx XL II 
system to away markets pursuant to Exchange rules on behalf of the 
Exchange.
    Proposed Rule 1080(m)(iii)(B) would provide that the use of NOS to 
route orders to other market centers is optional. Parties that do not 
desire to use NOS must designate orders as not available for routing 
(i.e., a Do Not Route Order, as described in proposed Rule 
1080(m)(iv)(A)).
    Proposed Rule 1080(m)(iii)(C) would provide that the Exchange will 
establish and maintain procedures and internal controls reasonably 
designed to adequately restrict the flow of confidential and 
proprietary information between the Exchange and the Routing Facility, 
and any other entity, including any affiliate of the Routing Facility, 
and, if the Routing Facility or any of its affiliates engages in any 
other business activities other than providing routing services to the 
Exchange, between the segment of the Routing Facility or affiliate that 
provides the other business activities and the routing services.
    Finally, proposed Rule 1080(m)(iii)(D) would state that the books, 
records, premises, officers, directors, agents, and employees of the 
Routing Facility, as a facility of the Exchange, will be deemed to be 
the books, records, premises, officers, directors, agents, and 
employees of the Exchange for purposes of and subject to oversight 
pursuant to the Act. The books and records of the Routing Facility, as 
a facility of the Exchange, will be subject at all times to inspection 
and copying by the Exchange and the Commission.

Phlx Affiliation With NOS

    Exchange Rule 985(b) generally prohibits the Phlx or an entity with 
which it is affiliated from acquiring or maintaining an ownership 
interest in, or engaging in a business venture \67\ with a Phlx member 
or an affiliate of a Phlx member in the absence of an effective filing 
with the Commission under Section 19(b) of the Act. However, Rule 
985(b) also states Phlx or an entity affiliated with Phlx could acquire 
or maintain an ownership interest in, or engage in a business venture 
with, an affiliate of a Phlx member without the need for the Exchange 
to file such affiliation under Section 19(b) of the Act, if there were 
information barriers between the member and Phlx and its facilities.
---------------------------------------------------------------------------

    \67\ Rule 985(b)(i)(B) defines a The term ``business venture'' 
as an arrangement under which (A) the Exchange or an entity with 
which it is affiliated, and (B) an Exchange member or an affiliate 
of an Exchange member, engage in joint activities with an 
expectation of shared profit and a risk of shared loss from common 
entrepreneurial efforts.
---------------------------------------------------------------------------

    NOS is a member of Phlx. In July, 2008, the Commission approved NOS 
as an affiliate of Phlx for the limited purpose of providing routing 
services for NASDAQ Exchange for orders that first attempt to access 
liquidity on NASDAQ Exchange's systems before routing to Phlx.\68\
---------------------------------------------------------------------------

    \68\ See Securities Exchange Act Release No. 58179 (July 17, 
2008), 73 FR 42874 (July 23, 2008) (SR-Phlx-2008-31).
---------------------------------------------------------------------------

    The Exchange requests that the Commission provide a further 
exemption from the restrictions on affiliation by allowing Phlx to use 
NOS to provide routing services for orders that first attempt to access 
liquidity on the Phlx's systems before routing to other exchanges.

Expanded Order Types

    DNR Order. Proposed Rule 1080(m)(iv)(A) describes a Do Not Route 
(``DNR'') Order. A DNR order will never be routed outside of Phlx 
regardless of the prices displayed by away markets. A DNR order may 
execute on the Exchange at a price equal to or better than, but not 
inferior to, the best away market price but, if that best away market 
remains, the DNR order will remain in the Phlx book and be displayed at 
a price one minimum price variation inferior to that away best bid/
offer. Any incoming order interacting with such a resting DNR order 
will receive the best away market price. Should the best away market 
change its price, or move to an inferior price level, the DNR order 
will automatically re-

[[Page 17256]]

price from its one minimum price variation inferior to the original 
away best bid/offer price to one minimum trading increment away from 
the new away best bid/offer price or its original limit price. Once 
priced at its original limit price, it will remain at that price until 
executed or cancelled. Should the best away market improve its price 
such that it locks or crosses the DNR order limit price, the Exchange 
will execute the resulting incoming order that is routed from the away 
market that locked or crossed the DNR order limit price.
    FIND Order. Proposed Rule 1080(m)(v)(B) describes a FIND Order. A 
FIND order is an order that is routable upon receipt, or any time the 
option goes through an opening process. A FIND order on the Phlx XL II 
book during an opening, whether it is received prior to the opening or 
it is a good til cancelled (``GTC'') FIND order from a prior day, may 
be routed as part of the Opening Process. Once the Opening Process is 
complete, the FIND order is either eligible to trade at the Phlx price 
or placed on the Phlx book either at its limit price or at a price that 
is one Minimum Price Variation (``MPV'') from the ABBO price if it 
would otherwise lock or cross the ABBO. A FIND order will not be 
eligible for routing until the next time the option series is subject 
to a new Opening Process.
    A FIND order received during open trading that is not marketable 
against the PBBO or the ABBO will be entered into the Phlx XL II book 
at its limit price. The FIND order will not be eligible for routing 
until the next time the option series is subject to a new Opening 
Process.
    A FIND order received during open trading that is marketable 
against the PBBO when the ABBO is inferior to the PBBO will be traded 
at the Exchange at the PBBO price. If the FIND order has size remaining 
after exhausting the PBBO, it may (1) trade at the next PBBO price (or 
prices) if the order price is locking or crossing that price (or 
prices) up to and including the ABBO price, or (2) be entered into the 
Phlx XL II book at its limit price, or entered into the Phlx XL II book 
at one MPV away from the ABBO if locking or crossing the ABBO. The FIND 
order will not be eligible for routing until the next time the option 
series is subject to a new Opening Process.
    A FIND order received during open trading that is marketable 
against the PBBO when the ABBO is equal to the PBBO will be traded at 
the Exchange at the PBBO. If the FIND order has size remaining after 
exhausting the PBBO, it will initiate a Route Timer not to exceed one 
second \69\ in order to allow Phlx XL II participants and other market 
participants an opportunity to interact with the remainder of the FIND 
order. During the Route Timer, the FIND order will be included in the 
PBBO at a price one MPV away from the ABBO. If, during the Route Timer, 
any new interest arrives opposite the FIND order that is equal to or 
better than the ABBO price, the FIND order will trade against such new 
interest at the ABBO price.
---------------------------------------------------------------------------

    \69\ The duration of the Route Timer and all timers relating to 
FIND and SRCH orders will be published in an Options Trader Alert, 
which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    What happens to a FIND order after the Route Timer expires depends 
on the ABBO price at that time. If, at the end of the Route Timer, the 
ABBO is still at the same or a better price, the FIND order will route 
to the away market up to a size equal to the lesser of either: (a) The 
away market's size, or (b) the remaining size of the FIND order. If the 
FIND order still has remaining size after routing, it will be entered 
into the Phlx XL II book and posted at the same price at which it was 
routed. The FIND order will not be eligible for routing until the next 
time the option series is subject to a new Opening Process.
    A FIND order received during open trading that is marketable 
against the ABBO when the ABBO is better than the PBBO will initiate a 
Route Timer not to exceed one second \70\ in order to allow Phlx XL II 
participants and other market participants an opportunity to interact 
with the FIND order. During the Route Timer, the FIND order will be 
included in the PBBO at a price one MPV away from the ABBO. If, during 
the Route Timer, any new interest arrives opposite the FIND order that 
is equal to or better than the ABBO price, the FIND order will trade 
against such new interest at the ABBO price.
---------------------------------------------------------------------------

    \70\ The duration of the Route Timer and all timers relating to 
FIND and SRCH orders will be published in an Options Trader Alert, 
which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    What happens to a FIND order after the Route Timer expires depends 
on the ABBO price at that time. If, at the end of the Route Timer, the 
ABBO is still the best price, the FIND order will route to the away 
market up to a size equal to the lesser of either (a) the away market's 
size, or (b) the remaining size of the FIND order. If the FIND order 
still has remaining size, it will (i) trade at the next PBBO price up 
to one MPV through the ABBO price, subject to the order's limit price; 
\71\ or (ii) be entered into the Phlx XL II book and posted at: (A) its 
limit price, or (B) one MPV inferior to the ABBO price if its limit 
price is equal to or through the ABBO price. The Phlx XL II system will 
route and execute contracts contemporaneously at the end of the Route 
Timer. The FIND order will not be eligible for routing until the next 
time the option series is subject to a new Opening Process.
---------------------------------------------------------------------------

    \71\ This is consistent with the provisions contained in the 
current Linkage Plan (``Plan'') and Phlx Rule 1083(t), reflecting 
that the definition of a ``trade-through'' does not include an order 
executed at a price that is one MPV inferior to the NBBO if a 
Linkage Order is transmitted to the Participant Exchange(s) that are 
disseminating the NBBO to satisfy all interest at the NBBO price 
(``trade and ship'').
---------------------------------------------------------------------------

    SRCH Order. Proposed Rule 1080(m)(v)(C) describes a SRCH Order. A 
SRCH order is an order that is routable at any time.
    A SRCH order on the Phlx XL II book during an opening, whether it 
is received prior to the opening or it is a GTC SRCH order from a prior 
day, may be routed as part of the Opening Process. Once the Opening 
Process is complete, a SRCH order is eligible either to: (1) Trade at 
the Phlx price, if that price is equal to or better than the ABBO or, 
if the ABBO is better than the Phlx price, orders have been routed to 
the ABBO markets for their full size; or (2) be routed to the ABBO if 
the ABBO price is the best price, and/or (3) be placed on the Phlx XL 
II book at its limit price if not participating in the Phlx opening at 
the opening price and not locking or crossing the ABBO. Once on the 
book, the SRCH order is eligible for routing if it is locked or crossed 
by an away market (see below).
    A SRCH order received during open trading that is not marketable 
against the PBBO or the ABBO will be entered into the Phlx XL II book. 
Once on the book, the SRCH order is eligible for routing if it is 
locked or crossed by an away market.
    A SRCH order received during open trading that is marketable 
against the PBBO when the ABBO is inferior to the PBBO will be traded 
at the Exchange at the PBBO price. If the SRCH order has size remaining 
after exhausting the PBBO, it may (1) trade at the next PBBO price (or 
prices) if the order price is locking or crossing that price (or 
prices) up to and including the price equal to the ABBO price, and/or 
(2) be routed, subject to a Route Timer not to exceed one second,\72\ 
to the ABBO markets if all Phlx interest at better or equal prices has 
been exhausted, and/or (3) be entered into the Phlx XL II book at its 
limit price if not locking or crossing the Phlx price or the ABBO. Once 
on the book, the SRCH order is eligible for

[[Page 17257]]

routing if it is locked or crossed by an away market.
---------------------------------------------------------------------------

    \72\ The duration of the Route Timer and all timers relating to 
FIND and SRCH orders will be published in an Options Trader Alert, 
which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    A SRCH order received during open trading that is marketable 
against the PBBO when the ABBO is equal to the PBBO will be traded at 
the Exchange at the PBBO. If the SRCH order has size remaining after 
exhausting the PBBO, it will initiate a Route Timer not to exceed one 
second \73\ in order to allow Phlx XL II participants and other market 
participants an opportunity to interact with the SRCH order. During the 
Route Timer, the SRCH order will be included in the PBBO at a price one 
MPV away from the ABBO. If, during the Route Timer, any new interest 
arrives opposite the SRCH order that is equal to or better than the 
ABBO price, the SRCH order will trade against such new interest at the 
ABBO price.
---------------------------------------------------------------------------

    \73\ The duration of the Route Timer and all timers relating to 
FIND and SRCH orders will be published in an Options Trader Alert, 
which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    What happens to a SRCH order after the Route Timer expires depends 
on the ABBO price at that time. If, at the end of the Route Timer, the 
ABBO is still the best price, the SRCH order will route to the away 
market up to a size equal to the lesser of either (a) the away market's 
size, or (b) the remaining size of the SRCH order. If the SRCH order 
still has remaining size after routing, it may: (1) Trade at the next 
PBBO price (or prices) if the order price is locking or crossing that 
price (or prices) up to one MPV through the ABBO price, and/or (2) be 
routed, subject to a Route Timer not to exceed one second,\74\ to the 
ABBO markets if all Phlx interest at better or equal prices has been 
exhausted, and/or (3) be entered into the Phlx XL II book at its limit 
price if not locking or crossing the Phlx price or the ABBO. The Phlx 
XL II system will route and execute contracts contemporaneously at the 
end of the Route Timer. Once on the book, the SRCH order is eligible 
for routing if it is locked or crossed by an away market.
---------------------------------------------------------------------------

    \74\ The duration of the Route Timer and all timers relating to 
FIND and SRCH orders will be published in an Options Trader Alert, 
which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    A SRCH order received during open trading that is marketable 
against the ABBO when the ABBO is better than the PBBO will initiate a 
Route Timer not to exceed one second \75\ in order to allow Phlx XL II 
participants and other market participants an opportunity to interact 
with the remainder of the SRCH order. During the Route Timer, the SRCH 
order will be included in the PBBO at a price one MPV inferior to the 
ABBO. If, during the Route Timer, any new interest arrives opposite the 
SRCH order that is equal to or better than the ABBO price, the SRCH 
order will trade against such new interest at the ABBO price.
---------------------------------------------------------------------------

    \75\ The duration of the Route Timer and all timers relating to 
FIND and SRCH orders will be published in an Options Trader Alert, 
which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    What happens to a SRCH order after the Route Timer expires depends 
on the ABBO price at that time. If, at the end of the Route Timer, the 
ABBO is still the best price, the SRCH order will route to the away 
market up to a size equal to the lesser of either: (a) The away 
market's size or (b) the remaining size of the SRCH order. If the SRCH 
order still has remaining size, it may: (1) Trade at the next PBBO 
price (or prices) if the order price is locking or crossing that price 
(or prices) up to one MPV through the ABBO price, and/or (2) be routed, 
subject to a Route Timer not to exceed one second,\76\ to the ABBO 
markets if all Phlx interest at better or equal prices has been 
exhausted, and/or (3) be entered into the Phlx XL II book at its limit 
price if not locking or crossing the Phlx price or the ABBO. Once on 
the book, the SRCH order is eligible for routing if it is locked or 
crossed by an away market.
---------------------------------------------------------------------------

    \76\ The duration of the Route Timer and all timers relating to 
FIND and SRCH orders will be published in an Options Trader Alert, 
which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    A SRCH order on the Phlx XL II book may be routed to an away market 
if it is locked or crossed by an away market. If an ABBO locks or 
crosses the PBBO which includes a SRCH order, the Phlx XL II system 
will initiate a Route Timer not to exceed one second \77\ in order to 
allow Phlx users an opportunity to interact with the SRCH order. During 
the Route Timer, the SRCH order remains in the PBBO at its posted 
price. If, during the Route Timer, any new interest arrives opposite 
the SRCH order that is equal to or better than the ABBO price, the SRCH 
order will trade against such new interest at the ABBO price.
---------------------------------------------------------------------------

    \77\ The duration of the Route Timer and all timers relating to 
FIND and SRCH orders will be published in an Options Trader Alert, 
which will be available on the Exchange's Web site.
---------------------------------------------------------------------------

    What happens to a SRCH order after the Route Timer expires depends 
on the ABBO price at that time. If, at the end of the Route Timer, the 
ABBO is still the best price, the SRCH order will route to the away 
market up to a size equal to the lesser of either: (a) The away 
market's size, or (b) the remaining size of the SRCH order. If the SRCH 
order still has remaining size, that size will remain on the book.

New Sweeps

    In addition to the Opening Sweep described above, the Phlx will 
also introduce other new sweep capabilities. The Market Sweep \78\ in 
Phlx XL II will replace the Phlx XL's current Book Sweep \79\ order 
processing, and allow a Phlx user the ability to automatically execute 
multiple order price levels and a single quote price level. A Market 
Sweep will execute against both quotes and orders, but when a quote 
level is exhausted, the system will cancel the balance of the Market 
Sweep back to the entering party to allow quotes to be updated. Market 
Sweeps are processed on an immediate-or-cancel basis, may not be 
routed, may be entered only at a single price, and may not trade 
through the ABBO.
---------------------------------------------------------------------------

    \78\ See proposed Rule 1080(c)(iii)(B).
    \79\ A Book Sweep is a one-sided single-priced quote that may 
only trade with an order on the book. See Exchange Rule 1080(c).
---------------------------------------------------------------------------

    The Auction Sweep described above may be entered only during the 
auction process and will remain in effect only until the auction is 
completed. A single Phlx XL II participant may enter multiple Auction 
Sweeps, with each Auction Sweep at a different price level. If a Phlx 
XL II participant submits multiple Auction Sweeps at different price 
levels, the Phlx XL II system will consider only the most recent 
Auction Sweep at each price level submitted by such Phlx XL II 
participant in determining the Auction Price. The Phlx XL II system 
will aggregate the size of all Auction Sweeps (i.e., for all Phlx XL II 
participants) at a particular price level for trade allocation 
purposes.
    Sweeps of any type may only be entered by entities permitted to 
enter quotes in the class and series being swept. Unlike other types of 
sweeps, all Opening Sweeps in a series will be cancelled immediately if 
that Phlx XL II participant fails to maintain a continuous quote with a 
permitted opening bid/ask differential in the affected series.

Complex Order Live Auction Order Cancellation

    Phlx also proposes to remove the prohibition in Rule 
1080.08(e)(iii) on order cancellation in Complex Order Live Auction 
(``COLA'') and now allow the cancellation of any order in such auction 
including the original order that caused the auction to commence.\80\ 
This is to allow customers greater flexibility to manage their orders 
during a COLA.
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    \80\ See Exchange Rule 1080.08(e)(iii).
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    In addition, the Phlx XL II system will also execute the individual 
components of a Complex Order against sweeps that are executable.\81\ 
This provision would

[[Page 17258]]

allow additional opportunity for Phlx XL II participants to trade with 
existing liquidity on the Exchange.
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    \81\ The Phlx XL Complex Order system currently executes only 
quotes and orders on the limit order book against the individual 
components of a Complex Order. See Exchange Rule 1080.08(f)(iii)(A).
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Miscellaneous Rule Changes

    The Exchange proposes to make various updates to Rule 1080 to 
delete obsolete provisions and generally update the rule. For example, 
the Exchange proposes to add the terms ``Phlx XL'' and ``Phlx XL II'' 
to the rule to more clearly identify the new features and to expressly 
begin replacing the outdated term ``AUTOM.'' \82\ The Exchange also 
proposes to delete the requirement in Rule 1080.05 that off-floor 
broker-dealer limit orders delivered through the system must be 
represented on the Exchange floor by a floor member, as this provision 
is outdated. The Exchange believes that other forms of communication, 
such as telephone, are sufficient. The Exchange proposes to delete Rule 
1080.03, which refers to a technology arrangement no longer in place. 
Similarly, the Exchange proposes to delete certain options floor 
procedure advices, such as Advice G-2, which duplicate existing rules 
\83\ and do not impose any fines under the minor rule violation 
enforcement and reporting plan. In Rules 1014, 1080(k) and (l) and 
1082, the Exchange proposes to delete the outdated term ``Streaming 
Quote Options.'' The Exchange also proposes to place a cross-reference 
to Rule 1017 in Rule 1080 to make clear that Rule 1080(a) applies to 
openings. The Exchange proposes to amend Rule 1047 to add new text 
stating that the Phlx XL II system will automatically halt trading in 
an equity option when the underlying security is subject to a 
regulatory halt on the primary market for such underlying security.
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    \82\ See Exchange Rule 1080.
    \83\ See Exchange Rule 1047A.
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    In addition, the Exchange proposes to replace numerous references 
to the Options Committee and the Foreign Currency Options Committee, 
and their respective Chairs, with ``the Exchange'' to reflect that the 
Exchange will have direct responsibility over these matters, consistent 
with a separate proposed rule change to make similar changes throughout 
the Exchange's rules.\84\
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    \84\ See Securities Exchange Act Release No. 59697 (April 2, 
2009) (SR-Phlx-2009-23).
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    Finally, the Exchange proposes the following specific miscellaneous 
rule changes:
     Rule 1014(b)(ii)(E) would be amended to delete obsolete 
portions of the rule concerning expired dates of effectiveness for a 
90-day effective period following commencement of the original Phlx XL 
system, and a one-year effective period for a requirement that non-SQT 
ROTs quote electronically in options in which they trade a certain 
percentage electronically;
     Rules 1017(b)-(f) would be amended to reflect that the 
rules will continue to apply to options traded on the original Phlx XL 
system, and to reflect that notification to membership of various time 
periods will be made on the Exchange's Web site. Any quantified term 
determined by the Exchange will be disseminated as an Options Trader 
Alert on the Exchange's Web site and will be retained on the Web site 
indefinitely so that persons may review such determinations as 
necessary
     Rules 1017(g)-(i) would be amended to reflect the 
applicability of each paragraph to options traded exclusively on the 
original Phlx XL system, and to options traded on the original Phlx XL 
system and the Phlx XL II system;
     Commentaries .01-.03 to Rule 1017 would be amended to 
state that Commentaries apply to the original Phlx XL system;
     Rule 1080(b) would be amended to reflect that DNR, SRCH 
and FIND orders are eligible for entry into the Phlx XL II system as 
agency orders and as orders for the proprietary accounts of SQTs, 
RSQTs, non-SQT ROTs, specialists, and off-floor broker-dealers;
     Rule 1080(c)(iv) would be amended to (i) reflect that 
orders in options traded on the original Phlx XL system will be handled 
manually by the specialist in certain situations, and (ii) to add new 
sub-paragraph (G) to the Rule stating that, respecting options traded 
on the Phlx XL II system, no orders will be executed manually;
     Rule 1080(c)(v) would be amended to reflect that it will 
apply to options traded on the Phlx XL system;
     Rule 1080, Commentary .06 would be amended to delete 
obsolete references to the deployment schedule for the Options Floor 
Broker Management System, which was completed in November 2003;
     Options Floor Procedure Advice (``OFPA'') A-12 would be 
amended to delete redundant references to the opening price acceptable 
range for options traded on the original Phlx XL system which are 
already included in Rule 1017;
     OFPA A-14, which has a fine schedule, would be amended to 
reflect that, respecting openings on the Phlx XL II system, the price 
of an opening transaction in an option series may only be arranged at a 
price that is within an acceptable OQR (as determined by the Exchange 
and announced to the membership on the Exchange's Web site), and to 
include identical language to proposed Rule 1017(l)(iii) concerning the 
calculation of the OQR;
     OFPA G-2, which has no fine schedule and which duplicates 
existing Exchange Rule 1047A, would be deleted.

Rollout and Deployment

    The Exchange expects to roll out the Phlx XL II system over a 
period of 12 weeks following Commission approval of this proposal (the 
``rollout period''), beginning with one single option traded on the 
Phlx XL II system, while other options traded on the Exchange will 
continue to trade on the original Phlx XL system (the ``legacy 
system'') during the rollout period. The Exchange will continue to 
delete options from the legacy system and place such options on the 
Phlx XL II system during the rollout period, while other options 
continue to trade on the legacy system. Eventually all options traded 
on the Exchange will be traded on the Phlx XL II system, and no options 
will be traded on the legacy system. Accordingly, the Exchange proposes 
to distinguish the proposed rules applicable to options traded on the 
Phlx XL II system from existing Exchange rules applicable to options 
traded on the legacy system.
    Within 90 days following the completion of the rollout of the Phlx 
XL II system, the Exchange will offer a data feed to all market 
participants, which will include disseminated Exchange top-of-market 
data (including orders, quotes and trades). The new data feed will also 
include all information that is included in the Exchange's Specialized 
Order Feed (``SOF''), which provides information concerning simple 
orders, complex orders and complex strategies to Exchange quoting 
members. With respect to the speed with which users will receive this 
information, SOF users will receive this information no sooner than 
users of the new data feed.

Conclusion

    All of the above proposals are designed to improve the speed, 
efficiency and quality of Exchange options executions and to provide 
greater flexibility for Exchange users in how they quote and trade, 
while also enhancing overall market quality by expanded protection of 
better displayed prices in the market.
2. Statutory Basis
    The Exchange believes that its proposal is consistent with Section 
6(b)

[[Page 17259]]

of the Act \85\ in general, and furthers the objectives of Section 
6(b)(5) of the Act \86\ in particular, in that it is designed to 
promote just and equitable principles of trade, to remove impediments 
to and perfect the mechanism of a free and open market and a national 
market system, and, in general to protect investors and the public 
interest. In particular, the Exchange believes that the proposals will 
improve the speed, efficiency and quality of Exchange options 
executions and to provide greater flexibility for Exchange users in how 
they quote and trade, while also enhancing overall market quality by 
expanded protection of better displayed prices in the market.
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    \85\ 15 U.S.C. 78f(b).
    \86\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange does not believe that the proposed rule change will 
impose any burden on competition not necessary or appropriate in 
furtherance of the purposes of the Act.

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

    No written comments were either solicited or received.

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 Exchange consents, the Commission shall: (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, including whether the proposed rule 
change is consistent with the Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://
www.sec.gov/rules/sro.shtml); or
     Send an e-mail to rule-comments@sec.gov. Please include 
File Number SR-Phlx-2009-32 on the subject line.

Paper Comments

     Send paper comments in triplicate to Elizabeth M. Murphy, 
Secretary, Securities and Exchange Commission, 100 F Street, NE., 
Washington, DC 20549-1090.

All submissions should refer to File Number SR-Phlx-2009-32. This file 
number should be included on the subject line if e-mail is used. To 
help the Commission process and review your comments more efficiently, 
please use only one method. The Commission will post all comments on 
the Commission's Internet Web site (http://www.sec.gov/rules/
sro.shtml). 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, 100 F Street, NE., 
Washington, DC 20549, on official business days between the hours of 10 
a.m. and 3 p.m. Copies of the filing also will be available for 
inspection and copying at the principal office of the Exchange. All 
comments received will be posted without change; the Commission does 
not edit personal identifying information from submissions. You should 
submit only information that you wish to make available publicly.
    All submissions should refer to File Number SR-Phlx-2009-32 and 
should be submitted on or before May 5, 2009.
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    \87\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\87\
Florence E. Harmon,
Deputy Secretary.
[FR Doc. E9-8422 Filed 4-13-09; 8:45 am]

BILLING CODE 8010-01-P