Document ID: SEC-2018-1799-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Nasdaq PHLX, LLC
Posted Date: 2018-11-26T05:00Z

[Federal Register Volume 83, Number 227 (Monday, November 26, 2018)]
[Notices]
[Pages 60547-60550]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2018-25601]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-84624; File No. SR-Phlx-2018-72]

Self-Regulatory Organizations; Nasdaq PHLX LLC; Notice of Filing 
of Proposed Rule Change To Establish Rules Governing the Give Up of a 
Clearing Member by a Member Organization on Exchange Transactions

November 19, 2018.
    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 November 6, 2018, Nasdaq PHLX LLC (``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 establish rules governing the give up of a 
Clearing Member \3\ by a member organization on Exchange transactions.
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    \3\ Clearing Member means a member organization which has been 
admitted to membership in the Options Clearing Corporation pursuant 
to the provisions of the rules of the Options Clearing Corporation. 
See Rule 1000(b)(3).
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    The text of the proposed rule change is available on the Exchange's 
website at http://nasdaqphlx.cchwallstreet.com/, 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 Exchange proposes to amend Phlx Rule 1037, which is currently 
reserved, to establish requirements related to the give up of a 
Clearing Member by a member organization on Exchange transactions.
    By way of background, to enter transactions on the Exchange, a 
member organization must either be a Clearing Member or have a clearing 
arrangement with a Clearing Member.\4\ Rule 1052 currently provides 
that every Clearing Member shall be responsible for the clearance of 
the Exchange options transactions of such Clearing Member and of each 
member organization who gives up the name of such Clearing Member in an 
Exchange options transaction, provided the Clearing Member has 
authorized such member organization to give up its name with respect to 
Exchange options transactions.
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    \4\ See Rule 1046.
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    Recently, certain Clearing Members, in conjunction with the 
Securities Industry and Financial Markets Association (``SIFMA''), 
expressed concerns related to the process by which executing brokers on 
U.S. options exchanges (``Exchanges'') are allowed to designate or 
`give up' a clearing firm for purposes of clearing particular 
transactions. The SIFMA-affiliated Clearing Members have recently 
identified the current give up process as a significant source of risk 
for clearing firms, and subsequently requested that the Exchanges 
alleviate this risk by amending Exchange rules governing the give up 
process.\5\
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    \5\ NYSE Arca Inc. (``Arca'') recently filed to amend its give 
up procedures. Arca's proposal would allow a Designated Give Up to 
opt out of acting as the give up for certain OTP Holders and OTP 
Firms. See Securities Exchange Act Release No. 84284 (September 25, 
2018), 83 FR 49434 (October 1, 2018) (SR-NYSEArca-2018-68). The 
Exchange's proposal leads to the same result of providing its 
Clearing Members the ability to control risk, but it differs in 
process from Arca's proposal.

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[[Page 60548]]

Proposed Rule Change
    Based on the above, the Exchange now seeks to amend its rules 
regarding the current give up process in order to allow a Clearing 
Member to opt in, at The Options Clearing Corporation (``OCC'') 
clearing number level, to a feature that, if enabled by the Clearing 
Member, will allow the Clearing Member to specify which member 
organizations are authorized to give up that OCC clearing number. As 
proposed, Rule 1037, which is currently reserved, will be titled as 
``Authorization to Give Up'' and will provide that for each transaction 
in which a member organization participates, the member organization 
may indicate, at the time of the trade, with respect to floor trading 
only, or through post trade allocation, any OCC number of a Clearing 
Member through which a transaction will be cleared (``Give Up''), 
provided the Clearing Member has not elected to ``Opt In,'' as defined 
in paragraph (b) of the proposed Rule, and restrict one or more of its 
OCC number(s) (``Restricted OCC Number'').\6\ A member organization may 
Give Up a Restricted OCC Number provided the member organization has 
written authorization as described in paragraph (b)(ii) (``Authorized 
Member Organization'').
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    \6\ Today, electronic trades need a valid mnemonic, which is 
only set up if there is a clearing arrangement already in place 
through a Letter of Guarantee. As such, electronic trades 
automatically clear through the guarantor associated with the 
mnemonic at the time of the trade, so a member organization may only 
amend its Give Up post-trade. As proposed, the Exchange will also 
restrict the post-trade allocation portion of an electronic trade 
systematically. See note 13 below.
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    Proposed Rule 1037(b) provides that Clearing Members may request 
the Exchange restrict one or more of their OCC clearing numbers (``Opt 
In'') as described in subparagraph (b)(i) of Rule 1037. If a Clearing 
Member Opts In, the Exchange will require written authorization from 
the Clearing Member permitting a member organization to Give Up a 
Clearing Member's Restricted OCC Number. An Opt In would remain in 
effect until the Clearing Member terminates the Opt In as described in 
subparagraph (iii). If a Clearing Member does not Opt In, that Clearing 
Member's OCC number may be subject to Give Up by any member 
organization.
    Proposed Rule 1037(b)(i) will set forth the process by which a 
Clearing Member may Opt In. Specifically, a Clearing Member may Opt In 
by sending a completed ``Clearing Member Restriction Form'' listing all 
Restricted OCC Numbers and Authorized Member Organizations.\7\ A copy 
of the proposed form is attached in Exhibit 3 to the filing. A Clearing 
Member may elect to restrict one or more OCC clearing numbers that are 
registered in its name at OCC. The Clearing Member would be required to 
submit the Clearing Member Restriction Form to the Exchange's 
Membership Department as described on the form. Once submitted, the 
Exchange requires ninety days before a Restricted OCC Number is 
effective within the System. This time period is to provide adequate 
time for the member users of that Restricted OCC Number who are not 
initially specified by the Clearing Member as Authorized Member 
Organizations to obtain the required written authorization from the 
Clearing Member for that Restricted OCC Number. Such member users would 
still be able to Give Up that Restricted OCC Number during this ninety 
day period (i.e., until the number becomes restricted within the 
System).
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    \7\ This form will be available on the Exchange's website. The 
Exchange will also maintain, on its website, a list of the 
Restricted OCC Numbers, which will be updated on a regular basis, 
and the Clearing Member's contact information to assist member 
organizations (to the extent they are not already Authorized Member 
Organizations) with requesting authorization for a Restricted OCC 
Number. The Exchange may utilize additional means to inform its 
members of such updates on a periodic basis.
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    Proposed Rule 1037(b)(ii) will set forth the process for member 
organizations to Give Up a Clearing Member's Restricted OCC Number. 
Specifically, a member organization desiring to Give Up a Restricted 
OCC Number must become an Authorized Member Organization.\8\ The 
Clearing Member will be required to authorize a member organization as 
described in subparagraph (i) or (iii) of Rule 1037(b) (i.e., through a 
Clearing Member Restriction Form), unless the Restricted OCC Number is 
already subject to a Letter of Guarantee that the member organization 
is a party to, as set forth in Rule 1037(d).
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    \8\ The Exchange will develop procedures for notifying member 
organizations that they are authorized or unauthorized by Clearing 
Members.
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    Pursuant to proposed Rule 1037(b)(iii), a Clearing Member may amend 
the list of its Authorized Member Organizations or Restricted OCC 
Numbers by submitting a new Clearing Member Restriction Form to the 
Exchange's Membership Department indicating the amendment as described 
on the form. Once a Restricted OCC Number is effective within the 
System pursuant to Rule 1037(b)(i), the Exchange may permit the 
Clearing Member to authorize, or remove authorization for, a member 
organization to Give Up the Restricted OCC Number intra-day only in 
unusual circumstances, and on the next business day in all regular 
circumstances. The Exchange will promptly notify the member 
organizations if they are no longer authorized to Give Up a Clearing 
Member's Restricted OCC Number. If a Clearing Member removes a 
Restricted OCC Number, any member organization may Give Up that OCC 
clearing number once the removal has become effective on or before the 
next business day.
    Proposed Rule 1037(c) will provide that the System will not allow 
an unauthorized member organization to Give Up a Restricted OCC 
Number.\9\ Specifically:
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    \9\ As described below, the Exchange's proposed process closely 
follows the current process.
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     For orders that are executed on the trading floor in open 
outcry using the Options Floor Based Management System (``FBMS''),\10\ 
the System will reject the clearing portion of the trade if an 
unauthorized Give Up with a Restricted OCC Number was entered. The 
member organization will receive notification of the rejected clearing 
information, and will be required to modify the clearing information by 
contacting the Exchange.\11\
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    \10\ See Phlx Rules 1063(e) and 1080(a)(i)(C).
    \11\ In this case, the FBMS order will be executed, provided the 
terms of the trade comply with the relevant Exchange rules, and the 
execution reported to the consolidated tape. The System will, 
however, reject the clearing portion, and the member organization 
will have to amend the clearing information by contacting the Nasdaq 
Correction Post once it receives the reject notification. The 
Exchange will then promptly process the requested change. This is 
how such orders are processed today if, for instance, a member 
organization enters an erroneous OCC clearing number (i.e., 
`keypunch errors').
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     For all other orders (i.e., orders that are submitted 
directly to the System through the Exchange's various protocols),\12\ 
the System will not allow an unauthorized Give Up with a Restricted OCC 
Number to be submitted at the firm mnemonic level at the point of order 
entry.\13\
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    \12\ See Phlx Rule 1080(a)(i).
    \13\ Specifically, the System will block the entry of the order 
from the outset. This is because a valid mnemonic will be required 
for any order to be submitted directly to the System, and a mnemonic 
will only be set up for a member organization if there is already a 
clearing arrangement in place for that firm either through a Letter 
of Guarantee (as is the case today) or in the case of a Restricted 
OCC Number, the member organization becoming an Authorized Member 
Organization. The System will also restrict any post-trade 
allocation changes if the member organization is not authorized to 
use a Restricted OCC Number.
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    Furthermore, the Exchange proposes to adopt paragraph (d) to Rule 
1037 to

[[Page 60549]]

provide, as is the case today, that a clearing arrangement subject to a 
Letter of Guarantee would immediately permit the Give Up of a 
Restricted OCC Number by the member organization that is party to the 
arrangement. Since there is an OCC clearing arrangement already 
established in this case, no further action is needed on the part of 
the Clearing Member or the member organization.
    The Exchange also proposes to adopt paragraph (e) to Rule 1037 to 
provide that an intentional misuse of this Rule is impermissible, and 
may be treated as a violation of Rule 707, titled ``Conduct 
Inconsistent with Just and Equitable Principles of Trade,'' or Rule 
708, titled ``Acts Detrimental to the Interest or Welfare of the 
Exchange.'' This language will make clear that the Exchange will 
regulate an intentional misuse of this Rule (e.g., sending orders to a 
Clearing Member's OCC account without the Clearing Member's consent), 
and that such behavior would be a violation of Exchange rules.
    Finally, the Exchange proposes to amend Rule 1052, which addresses 
the financial responsibility of Exchange options transactions clearing 
through Clearing Members, to clarify that this Rule will apply to all 
Clearing Members, regardless of whether or not they elect to Opt In 
pursuant to proposed Rule 1037. Specifically, the Exchange proposes to 
add that Rule 1052 will apply to all Clearing Members who either (i) 
have Restricted OCC Numbers with Authorized Member Organizations 
pursuant to Rule 1037, or (ii) have non-Restricted OCC Numbers.
Implementation
    The Exchange proposes to implement the proposed rule change no 
later than by the end of Q1 2019. The Exchange will announce the 
implementation date to its member organizations in an Options Trader 
Alert.
2. Statutory Basis
    The Exchange believes that its proposal is consistent with Section 
6(b) of the Act,\14\ in general, and furthers the objectives of Section 
6(b)(5) of the Act,\15\ in particular, in that it is designed to 
promote just and equitable principles of trade, to foster cooperation 
and coordination with persons engaged in 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.
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    \14\ 15 U.S.C. 78f(b).
    \15\ 15 U.S.C. 78f(b)(5).
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    Particularly, as discussed above, several clearing firms affiliated 
with SIFMA have recently expressed concerns relating to the current 
give up process, which permits member organizations to identify any 
Clearing Member as a designated give up for purposes of clearing 
particular transactions, and have identified the current give up 
process (i.e., a process that lacks authorization) as a significant 
source of risk for clearing firms.
    The Exchange believes that the proposed changes to Rule 1037 help 
alleviate this risk by enabling Clearing Members to `Opt In' to 
restrict one or more of its OCC clearing numbers (i.e., Restricted OCC 
Numbers), and to specify which Authorized Member Organizations may Give 
Up those Restricted OCC Numbers. As described above, all other member 
organizations would be required to receive written authorization from 
the Clearing Member before they can Give Up that Clearing Member's 
Restricted OCC Number. The Exchange believes that this authorization 
provides proper safeguards and protections for Clearing Members as it 
provides controls for Clearing Members to restrict access to their OCC 
clearing numbers, allowing access only to those Authorized Member 
Organizations upon their request. The Exchange also believes that its 
proposed Clearing Member Restriction Form allows the Exchange to 
receive in a uniform fashion, written and transparent authorization 
from Clearing Members, which ensures seamless administration of the 
Rule.
    The Exchange believes that the proposed Opt In process strikes the 
right balance between the various views and interests across the 
industry. For example, although the proposed rule would require member 
organizations (other than Authorized Member Organizations) to seek 
authorization from Clearing Members in order to have the ability to 
give them up, each member organization will still have the ability to 
Give Up a Restricted OCC Number that is subject to a Letter of 
Guarantee without obtaining any further authorization if that member 
organization is party to that arrangement. The Exchange also notes that 
to the extent the executing member organization has a clearing 
arrangement with a Clearing Member (i.e., through a Letter of 
Guarantee), a trade can be assigned to the executing member 
organization's guarantor.\16\ Accordingly, the Exchange believes that 
the proposed rule change is reasonable and continues to provide 
certainty that a Clearing Member would be responsible for a trade, 
which protects investors and the public interest. Finally, the Exchange 
believes that adopting paragraph (e) of Rule 1037 will make clear that 
an intentional misuse of this Rule (e.g., sending orders to a Clearing 
Member's OCC account without the Clearing Member's consent) will be a 
violation of the Exchange's rules, and that such behavior would subject 
a member organization to disciplinary action.
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    \16\ See Rule 1046 (providing that a member organization 
conducting an options business must be a Clearing Member or have a 
clearing arrangement with a Clearing Member).
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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. The Exchange does not believe 
that the proposed rule change will impose an unnecessary burden on 
intramarket competition because it would apply equally to all similarly 
situated Members. The Exchange also notes that, should the proposed 
changes make Phlx more attractive for trading, market participants 
trading on other exchanges can always elect to become Members on Phlx 
to take advantage of the trading opportunities.
    Furthermore, the proposed rule change does not address any 
competitive issues and ultimately, the target of the Exchange's 
proposal is to reduce risk for Clearing Members under the current give 
up model. Clearing firms make financial decisions based on risk and 
reward, and while it is generally in their beneficial interest to clear 
transactions for market participants in order to generate profit, it is 
the Exchange's understanding from SIFMA and clearing firms that the 
current process can create significant risk when the clearing firm can 
be given up on any market participant's transaction, even where there 
is no prior customer relationship or authorization for that designated 
transaction.
    In the absence of a mechanism that governs a market participant's 
use of a Clearing Member's services, the Exchange's proposal may 
indirectly facilitate the ability of a Clearing Member to manage their 
existing customer relationships while continuing to allow market 
participant choice in broker execution services. While Clearing Members 
may compete with executing brokers for order flow, the Exchange does 
not believe this proposal

[[Page 60550]]

imposes an undue burden on competition. Rather, the Exchange believes 
that the proposed rule change balances the need for Clearing Members to 
manage risks and allows them to address outlier behavior from executing 
brokers while still allowing freedom of choice to select an executing 
broker.

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 45 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 
or disapprove 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 email to [email protected]. Please include 
File Number SR-Phlx-2018-72 on the subject line.

Paper Comments

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

All submissions should refer to File Number SR-Phlx-2018-72. 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 we 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 website 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 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. Persons submitting comments are 
cautioned that we do not redact or edit personal identifying 
information from comment submissions. You should submit only 
information that you wish to make available publicly. All submissions 
should refer to File Number SR-Phlx-2018-72 and should be submitted on 
or before December 17, 2018.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\17\
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    \17\ 17 CFR 200.30-3(a)(12).
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Eduardo A. Aleman,
Assistant Secretary.
[FR Doc. 2018-25601 Filed 11-23-18; 8:45 am]
 BILLING CODE 8011-01-P