Document ID: SEC-2009-1034-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; NASDAQ OMX BX, Inc.; Notice of Filing and Immediate Effectiveness of Proposed Rule Change To Establish Procedures To Prevent Information Advantages Resulting From the Affiliation Between BOX and NOS
Posted Date: 2009-07-27T04:00Z

[Federal Register: July 27, 2009 (Volume 74, Number 142)]
[Notices]               
[Page 37071-37073]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr27jy09-88]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-60349; File No. SR-BX-2009-035]

 
Self-Regulatory Organizations; NASDAQ OMX BX, Inc.; Notice of 
Filing and Immediate Effectiveness of Proposed Rule Change To Establish 
Procedures To Prevent Information Advantages Resulting From the 
Affiliation Between BOX and NOS

July 20, 2009.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on July 17, 2009, NASDAQ OMX BX, Inc. (the ``Exchange'') filed with the 
Securities and Exchange Commission (``Commission'' or ``SEC'') the 
proposed rule change as described in Items I, II, and III below, which 
Items have been prepared by the Exchange. The Exchange has designated 
the proposed rule change as constituting a non-controversial rule 
change under Rule 19b-4(f)(6) under the Act,\3\ which renders the 
proposal 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\ 17 CFR 240.19b-4(f)(6).
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes a rule change to establish procedures 
designed to prevent potential informational advantages resulting from 
the affiliation between the Boston Options Exchange (``BOX''), a 
facility of the Exchange, and NASDAQ Options Services, LLC (``NOS''), a 
registered broker-dealer and a BOX market participant. The text of the 
proposed rule change is available from the principal office of the 
Exchange, at the Commission's Public Reference Room and also on the 
Exchange's Internet Web site at http://nasdaqomxbx.cchwallstreet.com/
NASDAQOMXBX/Filings/.

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 NASDAQ OMX Group, Inc. (``NASDAQ OMX'') acquired the Exchange 
in August 2008. Prior to the acquisition, the Exchange owned a 21.87% 
interest in Boston Options Exchange Group, LLC (``BOX LLC''), the 
operator of BOX, a facility of the Exchange. Boston Options Exchange 
Regulation, LLC (``BOXR'') is a wholly-owned subsidiary of the 
Exchange, to which the Exchange has delegated, pursuant to a delegation 
plan, certain self-regulatory responsibilities related to BOX.
    At the closing of the acquisition by NASDAQ OMX, the Exchange 
transferred its interest in BOX LLC to MX US, a wholly-owned subsidiary 
of the Montreal Exchange Inc. Although the Exchange no longer holds an 
ownership interest in BOX LLC, it continues to hold self-regulatory 
obligations with respect to BOX. The Exchange, together with BOXR, 
retains regulatory control over BOX and the Exchange, as the SRO, 
remains responsible for ensuring compliance with the federal securities 
laws and all applicable rules and regulations.
    NASDAQ OMX also currently indirectly owns NASDAQ Options Services, 
LLC (``NOS''), a registered broker-dealer and a BOX market participant. 
Thus, NOS is deemed an affiliate of the Exchange, BOX and BOXR.
    The Exchange is proposing that NOS be permitted to route certain 
orders from The NASDAQ Option Market (``NOM'') to BOX without checking 
the NOM book prior to routing. NOM is an options market operated by The 
NASDAQ Stock Market (the ``NASDAQ Exchange'') and NOS is the approved 
outbound routing facility of the NASDAQ Exchange for NOM. With the 
exception of Exchange Direct Orders, all routable orders for options 
that are trading on NOM check the NOM book prior to routing. In 
addition, NOS also routes orders in options that are not trading on NOM 
(referred to in the NOM Rules as ``Non-System Securities''). When 
routing orders in options that are not listed and open for trading on 
NOM, NOS is not regulated as a facility of the NASDAQ Exchange but 
rather as a broker-dealer regulated by its designated examining 
authority. As provided by Chapter IV, Section 5 of the NOM Rules, all 
orders routed by NOS under these circumstances are routed to away 
markets that are at the best price, and solely on an immediate-or-
cancel basis.
    Under NOM Rule Chapter VI, Section 11: (1) NOM routes orders in 
options via NOS, which serves as the sole ``routing facility'' of NOM; 
(2) the sole function of the routing facility is to route orders in 
options to away markets pursuant to NOM rules, solely on behalf of NOM; 
(3) NOS is a member of an unaffiliated self-regulatory organization, 
which is the designated examining authority for the broker-dealer; (4) 
the routing facility is subject to regulation as a facility of the 
NASDAQ Exchange, including the requirement to file proposed rule 
changes under Section 19 of the Act; (5) NOM must establish and 
maintain procedures and internal controls reasonably designed to 
adequately restrict the flow of confidential and proprietary 
information between the NASDAQ Exchange and its facilities (including 
the routing facility), and any other entity; and (6) the books, 
records, premises, officers, directors, agents, and employees of the 
routing facility, as a facility of the NASDAQ Exchange, shall be deemed 
to be the books, records, premises, officers, directors, agents, and 
employees of the NASDAQ Exchange for purposes of and subject to 
oversight pursuant to the Act, and the books and records of the routing 
facility, as a facility of the NASDAQ Exchange, shall be subject at all 
times to inspection and copying by the NASDAQ Exchange and the 
Commission.
    The Commission has approved NOS's affiliation with the Exchange 
subject to the conditions that: (1) NOS is a facility of the NASDAQ 
Exchange; (2) use of NOS's routing function by NASDAQ Exchange members 
is optional \4\ and (3)

[[Page 37072]]

NOS does not provide routing of orders in options from NOM to the 
Exchange or any trading facilities thereof, unless such orders first 
attempt to access any liquidity on the NOM book.\5\
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    \4\ Because only NASDAQ Exchange members who are Options 
Participants may enter orders into NOM, it also follows that routing 
by NOS is available only to NASDAQ Exchange members who are Options 
Participants. Pursuant to Chapter I, Section 1(a)(40) of the NOM 
Rules, the term ``Options Participant'' means a firm, or 
organization that is registered with the NASDAQ Exchange for 
purposes of participating in options trading on NOM as a ``Nasdaq 
Options Order Entry Firm'' or ``Nasdaq Options Market Maker''.
    \5\ See Securities Exchange Act Release No. 58324 (August 7, 
2008), 73 FR 46936 (August 12, 2008) (SR-BSE-2008-02; SR-BSE-2008-
23; SR-BSE-2008-25; SR-BSECC-2008-01).
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    The NASDAQ Exchange has filed a proposed rule change to modify the 
last of these conditions to permit NOS to route Exchange Direct Orders 
in NOM system securities to BOX without checking the NOM book prior to 
routing.\6\ Exchange Direct Orders are orders that route directly to 
other options markets on an immediate-or-cancel basis without first 
checking the NOM book for liquidity.\7\ In addition, the proposed rule 
change would permit the routing by NOS of orders (including Exchange 
Direct Orders) in NOM non-system securities from NOM to BOX.
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    \6\ SR-NASDAQ-2009-065.
    \7\ NOM Rule Chapter VI, Section (1)(e)(7).
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    The principles that govern the routing of orders to an exchange by 
an affiliated broker-dealer are well-established. The Exchange and 
other exchanges previously have adopted rules that permit exchanges to 
accept routing of inbound orders from affiliates, subject to certain 
limitations and conditions intended to address the Commission's 
concerns regarding affiliation.\8\ In the orders approving these rule 
changes, the Commission noted its concerns about potential 
informational advantages and conflicts of interest between an 
exchange's self-regulatory obligations and its commercial interest when 
the exchange is affiliated with one of its members, but determined that 
the limitations and conditions proposed in the rule changes were 
sufficient to mitigate its concerns.
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    \8\ See Securities Exchange Act Release Nos. 59154 (December 23, 
2008), 73 FR 80468 (December 31, 2008) (SR-BSE-2008-48); 59010 
(November 24, 2008), 73 FR 73373 (December 2, 2008) (SR-NYSEArca-
2008-130); 58681 (September 29, 2008), 73 FR 58285 (October 6, 2008) 
(SR-NYSEArca-2008-90); 58680 (September 29, 2008), 73 FR 58283 
(October 6, 2008) (SR-NYSE-2008-76); 58673 (September 29, 2008), 73 
FR 57707 (October 3, 2008) (SR-Amex-2008-62) (collectively, the 
``Affiliation Orders'').
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    To appropriately address the concerns raised by the Commission 
regarding the potential for conflicts of interest and informational 
advantages, the Exchange is proposing certain restrictions and 
undertakings. These commitments are consistent with the undertakings 
made by the NASDAQ Exchange and the Exchange in adopting rule changes 
to permit the Exchange's equity market to accept routing of inbound 
orders from NASDAQ Execution Services, Inc. in its operation as the 
routing facility of the NASDAQ Exchange.\9\
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    \9\ See Securities Exchange Act Release Nos. 59153 (December 23, 
2008), 73 FR 80485 (December 31, 2008) (SR-NASDAQ-2008-098); 59154 
(December 23, 2008), 73 FR 80468 (December 31, 2008) (SR-BSE-2008-
48).
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    In order to manage the concerns raised by the Commission regarding 
conflicts of interest in instances where a broker-dealer is affiliated 
with an exchange to which it is routing orders, the Exchange notes 
that, with respect to orders routed to BOX by NOS, NOS is subject to 
independent oversight and enforcement by FINRA, an unaffiliated SRO 
that is NOS's designated examining authority. In this capacity, FINRA 
is responsible for examining NOS with respect to its books and records 
and capital obligations and also has the responsibility for reviewing 
NOS's compliance with applicable trading rules. In addition, the 
Exchange has entered into a regulatory services agreement with FINRA 
under which FINRA staff will review NOS's compliance with BOX's rules 
through FINRA's examination program. FINRA and the Exchange will also 
monitor NOS for compliance with BOX's trading rules, subject, of 
course, to Commission oversight of the regulatory program of the 
Exchange and FINRA. The Exchange will, however, retain ultimate 
responsibility for enforcing its rules with respect to NOS except to 
the extent that they are covered by an agreement with FINRA pursuant to 
Rule 17d-2,\10\ in which case regulatory responsibility will be 
allocated to FINRA as provided in Rule 17d-2(d).
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    \10\ 17 CFR 240.17d-2.
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    Furthermore, in order to minimize the potential for conflicts of 
interest, the Exchange and FINRA will collect and maintain all alerts, 
complaints, investigations and enforcement actions in which NOS (in 
routing orders to BOX) is identified as a participant that has 
potentially violated applicable Commission or Exchange rules. The 
Exchange and FINRA will retain these records in an easily accessible 
manner in order to facilitate any potential review conducted by the 
Commission's Office of Compliance Inspections and Examinations. FINRA 
will then provide a report to BOXR's Chief Regulatory Officer, on at 
least a quarterly basis, which (i) quantifies all alerts (of which the 
Exchange and FINRA become aware) that identify NOS as a participant 
that has potentially violated an Exchange or Commission rule and (ii) 
quantifies the number of all investigations that identify NOS as a 
participant that has potentially violated an Exchange or Commission 
rule.\11\
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    \11\ The Exchange, FINRA and SEC staff may agree going forward 
to reduce the number of applicable or relevant surveillances that 
form the scope of the agreed upon report.
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    In order to address the Commission's concerns about potential for 
information advantages that could place an affiliated broker-dealer at 
a competitive advantage vis-[agrave]-vis other non-affiliated broker-
dealers, the Exchange is proposing to amend Chapter XXXIX, Section 2 of 
the Grandfathered Rules of the Exchange. New Chapter XXXIX, Section 
2(c) of the Grandfathered Rules as it applies to BOX will require the 
implementation of policies and procedures that are reasonably designed 
to prevent NOS from acting on non-public information regarding BOX's 
systems prior to the time that such information is made available 
generally to all market participants of such entity performing inbound 
routing functions. These policies and procedures would include systems 
development protocols to facilitate an audit of the efficacy of these 
policies and procedures.
    Specifically, Chapter XXXIX, Section 2(c) shall provide as follows:

    The NASDAQ OMX Group, Inc., which owns NASDAQ Options Services, 
LLC and is affiliated with BOX through its ownership of the 
Exchange, of which BOX is a facility, shall establish and maintain 
procedures and internal controls reasonably designed to ensure that 
NASDAQ Options Services, LLC does not develop or implement changes 
to its system on the basis of non-public information regarding 
planned changes to BOX systems, obtained as a result of its 
affiliation with BOX, until such information is available generally 
to similarly situated BOX participants in connection with the 
provision of inbound routing to BOX.

    In addition, existing NOM Rule Chapter VI, Section 11(e) requires 
NOS to establish and maintain procedures and internal controls 
reasonably designed to adequately restrict the flow of confidential and 
proprietary information between the NASDAQ Exchange and its facilities 
(including NOS) and any other entity.
    The Exchange believes these measures will effectively address the 
concerns identified by the Commission regarding the potential for 
informational advantages favoring NOS vis-[agrave]-vis other BOX 
participants.
b. Pilot Period
    The Exchange is proposing that NOS route Exchange Direct Orders and 
orders in NOM non-system securities inbound to the Exchange from NOM 
for a pilot period of 12 months from the operative date of this filing. 
The Exchange

[[Page 37073]]

believes that this pilot period is of sufficient length to permit both 
the Exchange and the Commission to assess the impact of the rule change 
described herein.
2. Statutory Basis
    The Exchange believes that the proposed rule change is consistent 
with the provisions of Section 6 of the Act,\12\ in general, and with 
Section 6(b)(5) of the Act,\13\ in particular, in that the proposal 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 regulating, clearing, 
settling, processing information with respect to, and facilitating 
transactions in securities, to remove impediments to and perfect the 
mechanism of a free and open market and a national market system, and, 
in general, to protect investors and the public interest. The proposed 
rule change would permit inbound routing of orders from NOM to BOX 
through NOS while minimizing the potential for conflicts of interest 
and informational advantages involved where a broker-dealer is 
affiliated with an exchange facility to which it is routing orders.
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    \12\ 15 U.S.C. 78f.
    \13\ 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 
result in any burden on competition that is not necessary or 
appropriate in furtherance of the purposes of the Act, as amended.

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

    Written comments were neither solicited nor received.

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

    The foregoing rule change has become effective pursuant to Section 
19(b)(3)(A) of the Act \14\ and Rule 19b-4(f)(6) \15\ thereunder in 
that it effects a change that: (i) Does not significantly affect the 
protection of investors or the public interest; (ii) does not impose 
any significant burden on competition; and (iii) by its terms, does not 
become operative for 30 days after the date of the filing, or such 
shorter time as the Commission may designate if consistent with the 
protection of investors and the public interest.
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    \14\ 15 U.S.C. 78s(b)(3)(A).
    \15\ 17 CFR 240.19b-4(f)(6).
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    In its recent guidance on the proposed rules of Self-Regulatory 
Organizations (``SROs''),\16\ the Commission concluded that filings 
based on the rules of another SRO already approved by the Commission 
are eligible for immediate effectiveness under Rule 19b-4(f)(6). The 
Commission noted that ``a proposed rule change appropriately may be 
filed as an immediately effective rule so long as it is based on and 
similar to another SRO's rule and each policy issue raised by the 
proposed rule (i) has been considered previously by the Commission when 
the Commission approved another exchange's rule (that was subject to 
notice and comment), and (ii) the rule change resolves such policy 
issue in a manner consistent with such prior approval.'' \17\ The 
Exchange believes the proposed rule change is ``based on and similar 
to'' the rule changes recently approved in the Affiliation Orders and 
furthers efforts to effectively address the concerns previously 
identified by the Commission regarding the potential for conflicts of 
interest and informational advantages when an exchange is affiliated 
with one of its market participants.\18\ This rule proposal, which is 
effective upon filing with the Commission, shall become operative 30 
days after the date of the filing.
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    \16\ Securities Exchange Act Release No. 58092 (July 3, 2008), 
73 FR 40144 (July 11, 2008).
    \17\ Id. at 40149.
    \18\ See the Affiliation Orders, supra note 8.
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    At any time within 60 days of the filing of the proposed rule 
change, the Commission may summarily abrogate 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 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-BX-2009-035 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-BX-2009-035. 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-BX-2009-035 and should be 
submitted on or before August 17, 2009.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\19\
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    \19\ 17 CFR 200.30-3(a)(12).
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Florence E. Harmon,
Deputy Secretary.
[FR Doc. E9-17765 Filed 7-24-09; 8:45 am]

BILLING CODE 8010-01-P