Document ID: SEC-2012-0947-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: BATS Exchange, Inc.
Posted Date: 2012-06-14T04:00Z

[Federal Register Volume 77, Number 115 (Thursday, June 14, 2012)]
[Notices]
[Pages 35719-35723]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2012-14530]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-67165; File No. SR-BATS-2012-021]

Self-Regulatory Organizations; BATS Exchange, Inc.; Notice of 
Filing and Immediate Effectiveness of Proposed Rule Change To Adopt 
Rules Related to Risk Management Functionality for BATS Options

June 8, 2012.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(the ``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given 
that on June 1, 2012, BATS Exchange, Inc. (the ``Exchange'' or 
``BATS'') filed with the Securities and Exchange Commission 
(``Commission'') the proposed rule change as described in Items I and 
II below, which Items have been prepared by the Exchange. The Exchange 
has designated this proposal as a ``non-controversial'' proposed rule 
change pursuant to Section 19(b)(3)(A) of the Act \3\ and Rule 19b-
4(f)(6)(iii) thereunder,\4\ which renders it effective upon filing with 
the Commission. 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.
    \3\ 15 U.S.C. 78s(b)(3)(A).
    \4\ 17 CFR 240.19b-4(f)(6)(iii).
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes to adopt Rule 21.16, entitled ``Risk Monitor 
Mechanism'', to codify the risk monitoring functionality offered to all 
Users \5\ of the BATS equity options trading platform (``BATS 
Options'').
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    \5\ As defined in Exchange Rule 16.1(a)(63), a User is any 
Exchange member or sponsored participant authorized to obtain access 
to the Exchange.
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    The text of the proposed rule change is available at the Exchange's 
Web site at http://www.batstrading.com, at the principal office of the 
Exchange, and at the Commission's Public Reference Room.

[[Page 35720]]

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 parts 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 reflect in the 
Exchange's rules that Users are able to establish certain risk control 
parameters. Specifically, the Exchange proposes to adopt new Rule 
21.16, Risk Monitor Mechanism, which is similar to NASDAQ Options 
Market (``NOM'') Chapter VI, Section 19 and the rules of other options 
exchanges (as explained in detail below). The Risk Monitor Mechanism 
provides protection from the risk of multiple executions across 
multiple series of an option or across multiple options. The risk to 
Users is not limited to a single series in an option or even to all 
series of an option; Users that quote in multiple series of multiple 
options have significant exposure, requiring them to offset or hedge 
their overall positions.
    In particular, the Risk Monitor Mechanism will be useful for market 
makers on BATS Options (``Market Makers''), who are required to 
continuously quote in assigned options. Quoting across many series in 
an option creates the possibility of ``rapid fire'' executions that can 
create large, unintended principal positions that expose the Market 
Maker to unnecessary market risk. The Risk Monitor Mechanism is 
intended to assist such Users in managing their market risk.
    Though the Risk Monitor Mechanism will be most useful to Market 
Makers, the Exchange proposes to offer the functionality to all 
participant types. There are other firms that trade on a proprietary 
basis and provide liquidity to the Exchange; these firms could 
potentially benefit, similarly to Market Makers, from the Risk Monitor 
Mechanism. The Exchange believes that the Risk Monitor Mechanism should 
help liquidity providers generally, market makers and other 
participants alike, in managing risk and providing deep and liquid 
markets to investors.
    Pursuant to new Rule 21.16, the Risk Monitor Mechanism operates by 
the System maintaining a counting program for each User. As proposed, a 
single User may configure a single counting program or multiple 
counting programs to govern its trading activity (i.e., on a per port 
basis). The counting program will count executions of contracts traded 
by each User and in specific Option Categories (as defined below) by 
each User. The counting program counts executions, contract volume and 
notional value, within a specified time period established by each User 
(the ``specified time period'') and on an absolute basis for the 
trading day (``absolute limits''). The specified time period will 
commence for an option when a transaction occurs in any series in such 
option. The counting program will count executions in the following 
``Options Categories'': front-month puts, front-month calls, back-month 
puts, and back-month calls (each an ``Option Category''). The counting 
program will also count a User's executions, contract volume and 
notional value across all options which a User trades (``Firm 
Category''). For the purposes of new Rule 21.16, a front-month put or 
call is an option that expires within the next two calendar months, 
including weeklies and other non-standard expirations, and a back-month 
put or call is an option that expires in any month more than two 
calendar months away from the current month.
    The System will engage the Risk Monitor Mechanism in a particular 
option when the counting program has determined that a User's trading 
has reached a Specified Engagement Trigger (as defined below) 
established by such User during the specified time period or on an 
absolute basis. When a Specified Engagement Trigger is reached in an 
Options Category, the Risk Monitor Mechanism will automatically remove 
such User's orders in all series of the particular option and reject 
any additional orders from a User in such option until the counting 
program has been reset in accordance with paragraph (d) of new Rule 
21.16. Similarly, when a Specified Engagement Trigger is reached in the 
Firm Category, the Risk Monitor Mechanism will automatically remove 
such User's orders in all series of all options and reject any 
additional orders from a User until the counting program has been reset 
in accordance with paragraph (d) of new Rule 21.16. The Risk Monitor 
Mechanism will also attempt to cancel any orders that have been routed 
away to other options exchanges on behalf of the User.
    As provided in proposed subparagraph (b)(ii), each User can, 
optionally, establish Specified Engagement Triggers in each Options 
Category, per option, or in the Firm Category. Specified Engagement 
Triggers can be set as follows: (A) A contract volume trigger, measured 
against the number of contracts executed (the ``volume trigger''); (B) 
A notional value trigger, measured against the notional value of 
executions \6\ (``notional trigger''); and (C) An execution count 
trigger, measured against the number of executions (``count trigger''). 
Each of these triggers can be established in isolation (e.g., a User 
may choose only to implement a volume trigger) or a User can establish 
multiple separate triggers with different parameters. Also, as 
described above, the triggers can be implemented either as absolute 
limits or over a specified period of time.
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    \6\ Notional value is calculated as the sum of all premiums paid 
times the number of contracts executed. For example, an option 
executed with a premium of $3.00 for 5 contracts would count as 
$15.00 notional value.
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    For example, assume a User is quoting orders in several series of a 
particular option issue, and sets Specified Engagement Triggers in an 
Options Category as follows: (i) A volume trigger at 500 contracts per 
second, (ii) a count trigger at 100 executions per minute, and (iii) an 
absolute notional value trigger of $30,000. In this example, there are 
three Specified Engagement Triggers for the option issue, any one of 
which, if reached, would result in cancellations of any additional 
orders of the User in the specified option issue, rejection of 
additional orders by the User in that issue and attempted cancellation 
of any orders in the option issue already routed to an away options 
exchange on behalf of the User. The following examples illustrate the 
operation of each of the User's Specified Engagement Triggers:
Volume Specified Engagement Trigger in an Options Category
    If within one second, executions against the User's quotations in 
any series of front-month calls of the option issue equaled or exceeded 
500 contracts, the Risk Monitor Mechanism would be engaged. To 
illustrate this example, assume the following quotations and executions 
within the current second in front-month calls of the specified option 
issue:

[[Page 35721]]

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                                                                                  Number of         Number of
                                           Series 1 quoted   Series 2 quoted      contracts         contracts
               Price level                      size              size        executed  Series  executed  Series
                                                                                      1                 2
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Level 1.................................               100                50               100                50
Level 2.................................               100                50               100                50
Level 3.................................               150                50               150                 0
Level 4.................................               150               200                 0                 0
Level 5.................................               150               200                 0                 0
                                         -----------------------------------------------------------------------
    Total...............................               650               600               350               100
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    At this moment in time, the User has executed 450 contracts within 
the applicable second (350 contracts of Series 1 and 100 contracts of 
Series 2), which is less than the User's limit of 500 contracts per 
second. As such, the User's established volume trigger in an Options 
Category has not yet been reached. If, however, prior to the completion 
of the applicable second, an order executed against the User's Level 3 
quotation in Series 2, the number of contracts executed in front-month 
calls of the option issue would be 500. The Risk Monitor would be 
engaged, and the User's remaining orders in all series of the option 
issue would be cancelled, additional orders by the User in that issue 
would be rejected, and the Exchange would attempt to cancel any orders 
in the option issue that had already been routed to an away options 
exchange on behalf of the User.
Execution Count Specified Engagement Trigger in an Options Category
    If within one minute, executions against the User's quotations in 
any series of front-month puts of the option issue equaled or exceeded 
100 executions per minute, the Risk Monitor Mechanism would be engaged. 
To illustrate this example, assume the following quotations and 
executions within the current minute in front-month puts of the 
specified option issue:

------------------------------------------------------------------------
                                          Number of         Number of
             Price level                 executions        executions
                                          Series 1          Series 2
------------------------------------------------------------------------
Level 1.............................                40                20
Level 2.............................                20                15
Level 3.............................                 0                 0
                                     -----------------------------------
    Total...........................                60                35
------------------------------------------------------------------------

    At this moment in time, the User has received 95 total executions 
within the applicable minute (60 executions in Series 1 options and 35 
executions in Series 2 options), which is less than the User's limit of 
100 executions per minute. As such, the User's established count 
trigger in an Options Category has not yet been reached. If, however, 
prior to the completion of the applicable minute, the User executed 5 
more orders in either series, the number of executions in front-month 
puts of the option issue would be 100. The Risk Monitor would be 
engaged, and the User's remaining orders in all series of the option 
issue would be cancelled, additional orders by the User in that issue 
would be rejected, and the Exchange would attempt to cancel any orders 
in the option issue that had already been routed to an away options 
exchange on behalf of the User.
Notional Value Specified Engagement Trigger in an Options Category
    If, as of any time during the trading day, executions against the 
User's quotations in any series of front-month calls of the option 
issue equaled or exceeded a notional value of $30,000, the Risk Monitor 
Mechanism would be engaged. To illustrate this example, assume the 
current notional value of all front-month calls in the option issue was 
$29,900 as of 1:30 p.m. Eastern Time and the following executions 
occurred:

----------------------------------------------------------------------------------------------------------------
                                                                Number of
            Execution number                    Price           contracts          Series        Notional value
----------------------------------------------------------------------------------------------------------------
1.......................................             $5.00                 5          Series 1            $25.00
2.......................................              3.00                15          Series 2             45.00
3.......................................              5.00                 6          Series 1             30.00
                                         -----------------------------------------------------------------------
    Total...............................  ................  ................  ................            100.00
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    At this moment in time, execution number 3 has raised the total 
notional value of all front-month calls to $30,000 for the trading day. 
The Risk Monitor would be engaged, and the User's remaining orders in 
all series of the option issue would be cancelled, additional orders by 
the User in that issue would be rejected, and the Exchange would 
attempt to cancel any orders in the option issue that had already been 
routed to an away options exchange on behalf of the User.
    As noted above, in addition to counting programs established across 
Options Categories, any of the available Specified Engagement Triggers 
are

[[Page 35722]]

configurable on a Firm Category level as well (either as absolute 
limits or over a specified time period). When a Firm Category risk 
limit is triggered, then all options orders of a User are cancelled, 
additional orders by the User are rejected and the Exchange will 
attempt to cancel any orders already routed to an away options exchange 
on behalf of the User.
    While the Risk Monitor Mechanism is a useful feature that serves an 
important risk management purpose, it operates consistent with the firm 
quote obligations of a broker-dealer pursuant to Rule 602 of Regulation 
NMS. Specifically, proposed paragraph (c) provides that any marketable 
orders or quotes that are executable against a User's quotation that 
are received prior to the time the Risk Monitor Mechanism is engaged 
will be automatically executed at the price up to the User's size, 
regardless of whether such an execution results in executions in excess 
of the User's Specified Engagement Trigger. Accordingly, the Risk 
Monitor Mechanism cannot be used to circumvent a User's firm quote 
obligation.
    If a User is quoting in two series of a particular option, at 
several price levels in each, and sets an Options Category volume 
trigger at 400 contracts, one contra side order can result in 
executions in excess of the Specified Engagement Trigger. Specifically, 
if a market order to sell 500 contracts is received in Series 1, the 
order will execute against the first four levels that the User is 
quoting, as follows:

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                                                                                  Number of         Number of
                                                                                  contracts         contracts
               Price level                  Series 1 size     Series 2 size   executed  Series  executed  Series
                                                                                      1                 2
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Level 1.................................               100                50               100                 0
Level 2.................................               100                50               100                 0
Level 3.................................               150               100               150                 0
Level 4.................................               150               200               150                 0
Level 5.................................               150               200                 0                 0
                                         -----------------------------------------------------------------------
    Total...............................               650               600               500                 0
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    Although the User set a volume trigger at 400 contracts, the contra 
side order executes in its entirety and the Risk Protection Mechanism 
is engaged after the resulting executions have surpassed the Specified 
Engagement Trigger. The remaining quoted contracts in Series 1 and all 
quoted contracts in Series 2 would then be cancelled.
    Proposed Rule 21.16(d) further provides that the system will reset 
the counting period for absolute limits when a User refreshes its risk 
limit thresholds. In addition, proposed Rule 21.16(d) provides that the 
System will reset the counting program and commence a new specified 
time period when: (i) A previous counting period has expired and a 
transaction occurs in any series in such option; or (ii) A User 
refreshes its risk limit thresholds prior to the expiration of the 
specified time period. For example, assume that a User has set Options 
Category limits for a particular option as follows: Volume triggers at 
500 contracts per second and 20,000 contracts per minute, a count 
trigger at 20 executions per second, and an absolute notional value 
trigger of $30,000. Assume that at a particular point in time, 400 
front-month calls have executed in the current second, 19,000 front-
month calls have executed in the current minute, 10 executions of 
front-month calls have occurred in the current second and a total of 
$25,000 notional has been executed in front-month calls over the course 
of the trading day. Next, an incoming order from another User of BATS 
Options is received that results in another 1,000 front-month call 
contracts executing within the current minute, thus triggering the 
volume trigger of 20,000 contracts per minute. If the User reset the 
risk limit threshold, all values, including the absolute notional 
calculation for the trading day, would be reset to zero.
2. Statutory Basis
    The rule change proposed in this submission is consistent with the 
requirements of the Act and the rules and regulations thereunder that 
are applicable to a national securities exchange, and, in particular, 
with the requirements of Section 6(b) of the Act.\7\ Specifically, the 
proposed change is consistent with Section 6(b)(5) of the Act,\8\ 
because it is designed to prevent fraudulent and manipulative acts and 
practices, to promote just and equitable principles of trade, to foster 
cooperation and coordination with persons engaged in facilitating 
transactions in securities, and to remove impediments to, and perfect 
the mechanism of, a free and open market and a national market system. 
The Exchange believes that the proposal is appropriate and reasonable, 
because it offers functionality for Users to manage their risk. 
Offering of a Risk Monitor Mechanism will allow Market Makers and other 
Users to quote aggressively which removes impediments to a free and 
open market and benefits all Users of BATS Options. The Exchange notes 
that a similar functionality is offered by NOM and other options 
exchanges.\9\
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    \7\ 15 U.S.C. 78f(b).
    \8\ 15 U.S.C. 78f(b)(5).
    \9\ See NOM Chapter VI, Section 19; see also NASDAQ OMX PHLX 
Rule 1093; CBOE Rule 8.18; NYSE AMEX Options Rule 928; NYSE ARCA 
Options Rule 6.40.
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(B) Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange does not believe that the proposed rule change imposes 
any burden on competition.

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

    The Exchange has neither solicited nor received written comments on 
the proposed rule change.

III. Date of Effectiveness of the Proposed Rule Changes and Timing for 
Commission Action

    Because the foregoing proposed rule change does not: (i) 
Significantly affect the protection of investors or the public 
interest; (ii) impose any significant burden on competition; and (iii) 
become operative for 30 days from the date on which it was filed, or 
such shorter time as the Commission may designate, it has become 
effective pursuant to Section 19(b)(3)(A) of the Act \10\ and Rule 19b-
4(f)(6)(iii) thereunder.\11\ In addition, the Exchange provided the 
Commission with written notice of its intent to file the proposed rule 
change, along with a brief description and text of the

[[Page 35723]]

proposed rule change, at least five business days prior to the date of 
filing, or such shorter time as designated by the Commission.\12\
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    \10\ 15 U.S.C. 78s(b)(3)(A).
    \11\ 17 CFR 240.19b-4(f)(6)(iii).
    \12\ Id.
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    At any time within 60 days of the filing of the proposed rule 
change, the Commission summarily may temporarily suspend such rule 
change if it appears to the Commission that such action is necessary or 
appropriate in the public interest, for the protection of investors, or 
otherwise in furtherance of the purposes of the Act.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the foregoing, including whether the proposal is 
consistent with the 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 email to rule-comments@sec.gov. Please include 
File No. SR-BATS-2012-021 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 No. SR-BATS-2012-021. This file 
number should be included on the subject line if email 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 changes 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 Web site viewing and 
printing in the Commission's Public Reference Room, 100 F Street NE., 
Washington, DC 20549, on official business days between the hours of 
10:00 a.m. and 3:00 p.m. Copies of such filing will also 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 No. SR-BATS-2012-021 and should be 
submitted on or before July 5, 2012.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\13\
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    \13\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2012-14530 Filed 6-13-12; 8:45 am]
BILLING CODE 8011-01-P