Document ID: SEC-2021-0484-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Cboe Exchange, Inc.
Posted Date: 2021-04-12T04:00Z

[Federal Register Volume 86, Number 68 (Monday, April 12, 2021)]
[Notices]
[Pages 19067-19077]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2021-07385]

-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-91482; File No. SR-CBOE-2021-020]

Self-Regulatory Organizations; Cboe Exchange, Inc.; Notice of 
Filing of a Proposed Rule Change Relating To Adopt Rule 6.10 To 
Introduce a Voluntary Compression Service for Market Makers

April 6, 2021.
    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 March 24, 2021, Cboe Exchange, Inc. (the ``Exchange'' or ``Cboe 
Options'') filed with the Securities and Exchange Commission (the 
``Commission'') the proposed rule change as described in Items I and II 
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.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------

I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    Cboe Exchange, Inc. (the ``Exchange'' or ``Cboe Options'') proposes 
to adopt Rule 6.10. The text of the proposed rule change is provided in 
Exhibit 5.
    The text of the proposed rule change is also available on the 
Exchange's website (http://www.cboe.com/AboutCBOE/CBOELegalRegulatoryHome.aspx), at the Exchange's Office of the 
Secretary, 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 adopt Rule 6.10 to provide Market-Makers 
with an additional voluntary compression tool that will permit them to 
more efficiently compress their index option portfolios in order to 
reduce the required capital attributable to their portfolios while 
maintaining their risk exposure. The Exchange understands that 
regulatory capital requirements have impeded liquidity providers' 
(market-makers, in particular) ability to provide liquidity to the 
market. In response, the Exchange has made certain tools available that 
Trading Permit Holders (``TPHs'') can use to compress the notional size 
of their portfolios to reduce the capital attributable to those 
portfolios. Pursuant to Rule 5.6(c), the Exchange may make compression 
orders available to TPHs, which orders enable TPHs (after submitting 
compression position lists to the Exchange) to execute orders in S&P 
500 Index (``SPX'') options without exposure to reduce the aggregate 
capital attributable to those positions (subject to certain 
requirements). Additionally, pursuant to Rule 6.8, TPHs may transfer 
positions in exchange-listed options off the Exchange if the transfer 
does not result in a change in ownership and reduces the risk-weighted 
assets (``RWA'') associated with those positions. The Exchange believes 
compression continues to be an important tool to enable Market-Makers 
to efficiently manage the size of their portfolios and the amount of 
capital that must be maintained by their Clearing TPHs (``CTPHs'') in 
connection with those portfolios. As a result, the Exchange regularly 
reviews its compression tools and evaluates potential enhancements to 
those tools. The Exchange believes that permitting TPHs to execute 
offsetting SPX options positions without exposure using compression 
orders and to effect off-floor RWA transfers of exchange-listed options 
has had a beneficial effect on the bank regulatory capital requirements 
of CTPHs' parent companies without adversely affecting the quality of 
the options market. The Exchange has determined that a combination of 
elements of these two tools would increase the efficiency of 
compression for Market-Makers. Specifically, the Exchange proposes, 
notwithstanding Rule 5.12,\3\ the Exchange may make available to 
Market-Makers a multilateral compression service for certain index 
options identified by the Exchange,\4\ pursuant to which a Market-Maker 
may close or open \5\ positions in options listed on the Exchange to 
reduce regulatory capital attributable to its portfolio.\6\
---------------------------------------------------------------------------

    \3\ Rule 5.12 generally requires transactions in listed options 
to occur on a national securities exchange, unless an exception 
applies. Transactions effected pursuant to proposed Rule 6.10 would 
be such an exception.
    \4\ The Exchange will announce which index options for which it 
will make the compression service available pursuant to Rule 1.5. 
Rule 1.5 provides that the Exchange announces to Trading Permit 
Holders all determinations it makes pursuant to the Rules via, among 
other communication methods, specifications, notices, or regulatory 
circulars with appropriate advanced notice, which are posted on the 
Exchange's website. The Exchange intends to initially make the 
compression service available for SPX options and then will phase in 
additional index options.
    \5\ The Exchange intends to phase in its availability of the 
compression service, and the initial version will be available only 
to close positions. The Exchange will announce the date on which it 
will make the compression service available for opening positions as 
well, pursuant to Rule 1.5.
    \6\ This is the same purpose as other currently available 
compression tools, such as compression orders. See Rule 5.6(c) 
(definition of compression orders). Rule 11.6 requires each Market-
Maker to maintain net capital sufficient to comply with the 
requirements of Securities and Exchange Act (the ``Act'') Rule 15c3-
1. 17 CFR 240.15c3-1. Additionally, Market-Makers must comply with 
capital requirements imposed by their CTPHs or the Options Clearing 
Corporation (``OCC'') (if the Market-Maker is also a CTPH).
---------------------------------------------------------------------------

    Rule 15c3-1 (Net Capital Requirements for Brokers or Dealers)

[[Page 19068]]

(``Net Capital Rules'') requires that every registered broker-dealer, 
including every Market-Maker, maintain certain specified minimum levels 
of capital. The Net Capital Rules are designed to protect securities 
customers, counterparties, and creditors by requiring that broker-
dealers always have sufficient liquid resources on hand to meet their 
financial obligations. Notably, hedged positions, including offsetting 
futures and options contract positions, result in certain net capital 
requirement reductions under the Net Capital Rules.\7\
---------------------------------------------------------------------------

    \7\ In addition, the Net Capital Rules permit various offsets 
under which a percentage of an option position's gain at any one 
valuation point is allowed to offset another position's loss at the 
same valuation point (e.g. vertical spreads).
---------------------------------------------------------------------------

    All OCC clearing members are subject to the Net Capital Rules. 
However, a subset of clearing members are subsidiaries of U.S. bank 
holding companies, which, due to their affiliations with their parent 
U.S. bank holding companies, must comply with additional bank 
regulatory capital requirements pursuant to rulemaking required under 
the Dodd-Frank Wall Street Reform and Consumer Protection Act.\8\ 
Pursuant to this mandate, the Board of Governors of the Federal Reserve 
System, the Office of the Comptroller of the Currency, and the Federal 
Deposit Insurance Corporation approved a comprehensive regulatory 
capital framework for subsidiaries of U.S. bank holding company 
clearing firms.\9\ Generally, these rules imposed higher minimum 
capital requirements, more restrictive capital eligibility standards, 
and higher asset risk weights than were previously mandated for 
clearing members that are subsidiaries of U.S. bank holding companies 
under the Net Capital Rules. Furthermore, these rules do not permit 
deductions for hedged securities or offsetting options positions.\10\ 
Rather, capital charges under these standards are based on the 
aggregate notional value of short positions regardless of offsets. As a 
result, CTPHs generally must hold substantially more bank regulatory 
capital than would otherwise be required under the Net Capital 
Rules.\11\ The impact of these regulatory capital rules is compounded 
in index options markets due to the large notional value of index 
option contracts and the potentially significant number of open index 
options positions.
---------------------------------------------------------------------------

    \8\ H.R. 4173 (amending section 3(a) of the Securities Exchange 
Act of 1934 (the ``Act'') (15 U.S.C. 78c(a))).
    \9\ 12 CFR 50; 79 FR 61440 (Liquidity Coverage Ratio: Liquidity 
Risk Measurement Standards).
    \10\ Many options strategies, including relatively simple 
strategies often used by retail customers and more sophisticated 
strategies used by market-makers and institutions, are risk-limited 
strategies or options spread strategies that employ offsets or 
hedges to achieve certain investment outcomes. Such strategies 
typically involve the purchase and sale of multiple options (and may 
be coupled with purchases or sales of the underlying assets), 
executed simultaneously as part of the same strategy. In many cases, 
the potential market exposure of these strategies is limited and 
defined. Whereas regulatory capital requirements have historically 
reflected the risk-limited nature of carrying offsetting positions, 
these positions may now be subject to large regulatory capital 
requirements. Various factors, including administration costs; 
transaction fees; and limited market demand or counterparty 
interest, however, discourage market participants from closing these 
positions even though many market participants likely would prefer 
to close the positions rather than carry them to expiration.
    \11\ See Letter from Cboe, New York Stock Exchange, and Nasdaq, 
Inc., to the Honorable Randal Quarles, Vice Chair for Supervision of 
the Board of Governors of the Federal Reserve System, March 18, 
2020.
---------------------------------------------------------------------------

    The Exchange believes these regulatory capital requirements have 
impeded efficient use of capital and undermine the critical liquidity 
role that Market-Makers play in the options market by limiting the 
amount of capital CTPHs can allocate to clearing member transactions. 
Specifically, the Exchange understands these rules have caused, and may 
continue to cause, CTPHs to impose stricter position limits on their 
clearing members. These stricter position limits may impact the 
liquidity Market-Makers (who participate on a significant portion of 
index option trades on the Exchange) might supply in the options 
market, which impact may be heightened when markets are volatile, and 
this impact may be compounded when a CTPH has multiple Market-Maker 
client accounts, each having largely risk-neutral portfolio 
holdings.\12\
---------------------------------------------------------------------------

    \12\ Several Market-Makers continue to express to the Exchange 
that these rules could hamper their ability to provide consistent 
liquidity in the index options markets, and have inquired about the 
ability engage in multilateral compression, as they are able to do 
for their futures positions.
---------------------------------------------------------------------------

    In November 2019, bank regulatory agencies approved a rulemaking 
requiring banks to replace the Current Exposure Method (``CEM'') with 
the Standardized Approach to Counterparty Credit Risk (``SA-CCR'') by 
January 1, 2022. The Exchange believes CEM's primary flaws arise from 
the methodology's insensitivity to actual risk. For example, CEM does 
not account for the delta (i.e., market sensitivity) of an option 
position or fully recognize the offsetting of positions with opposite 
economic exposures. The Exchange believes implementation of SA-CCR will 
help correct many of CEM's flaws by incorporating risk-sensitive 
principles, such as delta weighting options positions and more 
beneficial netting of derivative contracts that have economically 
meaningful relationships. This means that SA-CCR, when implemented, 
will be less punitive to CTPHs (and the market participants for which 
they clear options positions) than CEM as it relates to options 
positions. Some CTPHs have implemented SA-CCR, while others have not 
and continue to use CEM. However, the Exchange believes implementation 
by all CTPHs of SA-CCR will not eliminate the need for Market-Makers to 
manage their positions or be concerned about the accumulation of 
cleared positions (particularly in options with larger notional values) 
that ultimately contribute to their net capital requirements and those 
of their clearing firms and thus the capital ratios with which those 
firms need to comply. The Exchange notes there are few clearing banks, 
and even fewer that clear for options market-makers. Increased clearing 
of over-the-counter products, such as swaps, by these same clearing 
banks means there is a risk of less available clearing bandwidth for 
listed options, even with the adoption of SA-CCR. Additionally, market-
makers will continue to hold positions that are virtually riskless but 
have a significant capital impact that could be compressed in order to 
free up balance sheets to enable market-makers to continue to provide 
meaningful liquidity to the market. Therefore, even when all banks have 
implemented SA-CCR, the Exchange believes compression will continue to 
be a valuable tool for Market-Makers.\13\
---------------------------------------------------------------------------

    \13\ The Exchange notes at least one other market offers certain 
of its members a multilateral compression tool for competitive 
products. See Chicago Mercantile Exchange, Inc. (``CME'') Rule 857, 
the purpose of which is to provide market participants and their 
clearing members with capital relief in listed equities options 
without materially changing the risk exposure of a given 
participant's portfolio. See CME Equity Options Compression 
Overview, at https://www.cmegroup.com/trading/equity-index/cme-equity-options-compression-overview.html.
---------------------------------------------------------------------------

    As noted above, the Exchange currently offers its TPHs tools they 
may use to reduce the regulatory requirements attributable to their 
portfolios, which the Exchange believes has had a beneficial effect on 
the bank regulatory capital requirements of CTPHs' parent companies 
without adversely affecting the quality of the options market.\14\ The 
proposed rule change is a further enhancement to the set of compression 
tools the Exchange

[[Page 19069]]

currently offers, combining certain features of those tools. 
Specifically, pursuant to proposed Rule 6.10(a), in a manner and format 
and at times determines by the Exchange, of which the Exchange will 
provide reasonable and sufficient advanced notice, a Market-Maker 
(``compression participant'') may submit into an Exchange system a list 
of open index positions it would like to close and, if it chooses, 
index option positions it would like to open to replace any of those 
closing positions (``position lists''). A compression participant must 
include the amount of capital reduction associated with each closing 
position and the amount of capital increase associated with each 
opening position (with the amount of capital in a measurement unit of 
the compression participant's choosing) included on a position list 
submitted to the Exchange. Market participants measure capital using 
various industry standards, which provide them with the ability to 
select the most appropriate measurement unit for their organizations 
and risk management practices. Therefore, the Exchange believes it is 
reasonable to permit Market-Makers to provide capital amounts on their 
position lists using the measurement unit they generally use. The 
positions in the position list must in the aggregate reduce regulatory 
capital attributable to those positions (based on the capital amounts 
provided by compression participants) in accordance with the purpose of 
the proposed compression service.\15\ Additionally, a compression 
participant may define and input optional risk constraints on its 
position list that it wants applied to any compression proposal. For 
example, a compression participant may constrain the net cost of a 
compression portfolio compared to its specified values or constrain the 
net delta by expiration that would result from a compression proposal. 
Permitting compression participants to input these constraints will 
allow compression participants to effect compression of their 
portfolios in a manner consistent with their own risk management 
practices and achieve the goals they seek from the compression service.
---------------------------------------------------------------------------

    \14\ See, e.g., Rules 5.6(c) (definition of compression orders) 
and 5.32, 5.33, and 5.88 (describing how compression orders may 
execute), and 6.8 (describing permissible off-floor RWA transfers).
    \15\ This is consistent with compression orders. See Rule 5.6(c) 
(definition of compression orders, which provide that compression 
orders may be used to reduce required capital associated with open 
SPX positions, and may include open positions to replace closing 
positions to reduce capital associated with open positions).
---------------------------------------------------------------------------

    The Exchange intends to offer the compression service with 
sufficient frequency to permit Market-Makers to respond to intra-month 
reviews of regulatory capital necessary for their positions by clearing 
firms.\16\ The proposed flexibility will permit the Exchange to adjust 
the frequency (with sufficient notice) of availability of the 
compression service if the Exchange deems such frequency to be more 
appropriate, such as in response to market conditions. The proposed 
flexibility is also consistent with the currently flexibility regarding 
the availability of compression orders.\17\
---------------------------------------------------------------------------

    \16\ The Exchange intends to initially offer the compression 
service on a weekly basis.
    \17\ See Rule 5.6(c).
---------------------------------------------------------------------------

    The proposed process regarding the submission of position lists is 
similar to the current process for submitting compression position 
lists in connection with the submission of compression orders. 
Currently, prior to submitting compression orders, TPHs must submit 
lists of open SPX options positions they would like to close using 
compression orders (while TPHs may open positions using compression 
orders, but do not need to include those positions on compression 
position lists submitted in advance to the Exchange). The proposed 
compression service will similarly require Market-Makers to submit 
lists of open option positions they would like to close and also 
require them to submit option positions they would like to open using 
the compression service.\18\ The Exchange believes requiring inclusion 
of any positions to be opened (in addition to closed) in the positions 
list submitted to the compression service (as well as capital 
attributable to those positions) will provide the Exchange with 
additional information when determining whether the compression 
participants are using the compression service to reduce regulatory 
capital attributable to their positions. Therefore, the Exchange 
believes the proposed requirements for use of the compression service, 
particularly the requirement to include the amount of capital 
associated with each position and the requirement that the positions 
must in the aggregate reduce attributable regulatory capital (similar 
to compression orders are net position closing or neutral), are 
reasonable, as they will create additional controls to limit use of the 
compression service to legitimate compression purposes.
---------------------------------------------------------------------------

    \18\ When the functionality to permit positions to be opened in 
the compression service is available, it will be within the 
discretion of a Market-Maker to open positions as part of the 
process; however, if a Market-Maker does want to open positions as 
part of compression, then it must include those opening positions on 
its position list.
---------------------------------------------------------------------------

    The Exchange believes permitting Market-Makers to open positions as 
part of the compression service (as they may currently do with 
compression orders) may provide additional opportunities to reduce more 
regulatory capital attributable to their portfolios than if they were 
restricted to only closing positions. The goal of compression is to 
alleviate bank regulatory capital requirements attributable to a market 
participant's portfolio. This can be achieved by closing positions, 
which ultimately reduces the regulatory capital associated with a 
Market-Maker's portfolio. However, regulatory capital reduction may be 
also achieved by ``swapping'' open positions with new positions for 
which there is lower regulatory capital associated. The Exchange 
understands Market-Makers may do this for risk management purposes. 
Specifically, Market-Makers retain certain options positions in their 
portfolios for hedging and risk exposure purposes. However, the 
calculation of regulatory capital associated with options positions 
involves a complex formula (and, as noted above, may be calculated 
using different methods), but it ultimately is calculating an amount 
based on the quantity of a position times the strike price (which is 
why the large notional value of index options has created issues for 
Market-Makers). Therefore, an option position with a lower strike price 
will likely have lower regulatory capital associated with that position 
than regulatory capital associated with a higher strike price. A 
Market-Maker may identify options with lower strikes that provide it 
with substantially similar risk exposure as some of its open positions 
while maintaining a hedge within its portfolio. Merely closing such 
higher-strike positions may reduce the required capital associated with 
the market participant's portfolio, but such closure may leave portions 
of that portfolio unhedged and thus subject to higher risk. By 
``swapping'' its current open positions in options with higher strikes 
with positions in options with lower strikes (often using box spreads 
and combos), a market participant may maintain the same risk exposure 
in its portfolio while replacing higher-strike positions with lower-
strike positions in order to swap related exposures.
    For example, suppose a Market-Maker has 100 contracts in an SPX box 
spread with October expiration and strike prices of 3500 and 3600. 
Suppose another Market-Maker has 100 contracts for the offsetting box 
spread, but also want to buy 100 contracts in an SPX box spread with 
October expiration and strike prices of 1500 and 1600. Each Market-
Maker in this transaction would

[[Page 19070]]

be opening positions in 400 contracts as well as closing positions in 
400 contracts. While each Market-Maker would have the same number of 
open positions after this transaction, the regulatory capital 
associated with each Market-Maker's portfolio would be significantly 
reduced given the newly opened positions have strike prices 2000 lower 
than the closed positions. Execution of this transaction would be 
riskless and would provide meaningful regulatory capital relief to the 
Market-Makers. Ultimately, transactions like this example are 
essentially riskless exchanges that carry no profit or loss for market 
participants, but rather are intended to provide a seamless method for 
market participants to reduce margin and capital requirements while 
maintaining the same risk exposure within their portfolios.
    Currently, compression orders are limited to SPX options, as such 
options have a large notional value and represent the most volume 
executed on the Exchange.\19\ Off-floor RWA transfers may occur in any 
exchange-listed option; however, transfers of multiply listed equity 
options are subject to the rules of all options exchanges that list 
those options, and thus would only be permissible if all other options 
exchanges permitted such off-floor transfers. The Exchange believes it 
is appropriate to offer the compression service for index options 
listed on the Exchange, as such index options may only be listed on the 
Exchange and its affiliated exchanges (and thus would not be 
constrained by the rules of other options exchanges to the extent they 
do not permit off-floor transfers for compression purposes).\20\ 
Additionally, the index value of nearly all index options the Exchange 
lists for trading is at least 100,\21\ making the notional value of an 
index option at least 10,000.\22\ Given the high notional value 
associated with index option contracts in general, the Exchange 
believes Market-Makers could benefit from compressing index options 
beyond SPX options within their portfolio. The following table lists 
the indexes on which the Exchange currently lists options, as well as 
the value of the index as of the close of trading on March 1, 2021:
---------------------------------------------------------------------------

    \19\ See Rules 5.6(c) (definition of compression order).
    \20\ Certain index options listed on the Exchange are also 
listed on its affiliated options exchanges, which intend to submit 
separate filing adopting the proposed multilateral compression 
process upon Commission approval of this proposed rule filing.
    \21\ The level of VIX is generally below 100.
    \22\ The Exchange may consider to further expand the compression 
service to equity options (like off-floor RWA transfers) and would 
submit a separate rule filing in the event it determined to do so. 
The Exchange notes the off-floor compression of equity options, 
which are multiply listed, would be subject to the rules of other 
options exchanges.

------------------------------------------------------------------------
                                                                Current
                    Index (option symbol)                        value
------------------------------------------------------------------------
S&P 500 Index (SPX)..........................................   3,901.82
Mini-S&P 500 Index (XSP).....................................     390.18
Russell 2000 Index (RUT).....................................   2,275.32
Mini-Russell 2000 Index (MRUT)...............................     227.53
Cboe Volatility Index (VIX)..................................      23.35
Dow Jones Industrial Average (DJX)...........................     315.36
S&P 100 Index (OEX and XEO)..................................   1,773.40
S&P 500 ESG Index (SPESG)....................................     330.51
S&P Materials Select Sector Index (SIXB).....................     796.03
S&P Industrials Select Sector Index (SIXI)...................     933.99
S&P Financial Select Sector Index (SIXM).....................     409.44
S&P Real Estate Select Sector Index (SIXRE)..................     182.02
S&P Utilities Select Sector Index (SIXU).....................     601.62
S&P Health Care Select Sector Index (SIXV)...................   1,150.89
MSCI EAFE Index (MXEA).......................................   2,198.61
MSCI Emerging Markets Index (MXEF)...........................   1,362.47
Russell 1000 Growth Index (RLG)..............................   2,469.71
Russell 1000 Value Index (RLV)...............................   1,444.77
Russell 1000 Index (RUI).....................................   2,211.99
------------------------------------------------------------------------

    The large notional size of most index options compounds the 
negative impact of Net Capital Rules, which apply to positions in all 
index options, and may impact all client clearing members of clearing 
firms affiliated with U.S.-bank holding companies. Clearing firms may 
request that Market-Makers reduce positions in listed options in 
addition to SPX, and the proposed rule change will provide Market-
Makers with an efficient mechanism to do so with respect to their index 
option positions.
    The proposed rule change also limits the compression service to 
Market-Makers. While compression orders and off-floor RWA transfers are 
currently available to all TPHs, a prior tool the Exchange offered for 
compression purposes was limited to Market-Makers.\23\ The Exchange 
believes this is appropriate given the important role Market-Makers 
play in the options market and, as discussed above, the 
disproportionate impact Net Capital Rules have had on Market-Makers. 
Market-Makers in all index options ultimately hold a significant amount 
of open interest in these high-valued options due to their serving as 
the primarily liquidity providers, which results in their participation 
on a significant number of trades that occur. Expanding compression to 
all index options will permit Market-Makers in all index options to 
more efficiently compress the size of their portfolios in terms of 
notional size while maintaining their risk portfolio, which will free 
up their balance sheets and permit them to continue to provide 
meaningful liquidity in more markets. This additional liquidity would 
ultimately benefit all market participants.
---------------------------------------------------------------------------

    \23\ See Securities Exchange Act Notice 84344 (October 2, 2018), 
83 FR 50721 (October 9, 2018) (SR-CBOE-2018-056) (which permitted 
on-floor RWA transfers).
---------------------------------------------------------------------------

    Pursuant to proposed paragraph (b), the Exchange will create a 
compression proposal by conducting an automated matching process to 
determine which positions among the compression participants can 
offset. Specifically, at a time after the market close of Regular 
Trading Hours (``RTH'') \24\ on days the Exchange accepts position 
lists pursuant to proposed paragraph (a), an Exchange automated process 
will match offsetting positions (in an anonymized manner) of 
compression participants that submitted position lists. This automated 
process matches offsetting positions on the position lists of 
compression participants to maximize the aggregate capital reduction 
among the compression participants. Because the process is automated, 
it does not consider the identities of the compression participants and 
instead objectively optimizes the aggregate compression when creating a 
compression proposal. The resulting group of offsetting position 
matches among the compression participants on an anonymous basis 
constitutes the ``compression proposal.'' Offsetting positions will be 
matched at the ``compression price.'' The Exchange will 
programmatically determine the ``compression price'' using generally 
accepted volatility and options pricing models and considering the 
national best bid or offer (``NBBO'') at the close of the trading day, 
the market prices at the daily market time, and the theoretical values 
provided by the compression participants in their position lists. The 
compression price may be in $0.01 increments. A compression proposal 
must be consistent with all risk constraints set by the compressional 
participants when submitting their position lists. In a manner and 
format and at times determined by the Exchange, of which the Exchange 
will provide reasonable and sufficient advanced notice, the Exchange 
will notify each compression participant of the compression proposal.
---------------------------------------------------------------------------

    \24\ Currently, the RTH trading session closes at 4:15 p.m. 
Eastern time for most index options. See Rule 5.1(b)(2).
---------------------------------------------------------------------------

    This proposed process is similar to the Exchange's provision of 
individual position files to TPHs with respect to compression orders. 
Because compression transactions effected through the compression 
service will be single leg, a compression proposal will

[[Page 19071]]

not consist of multi-leg positions as the current position files 
provided by the Exchange with respect to compression orders.\25\ 
Additionally, like the position files the Exchange provides to TPHs 
with respect to compression orders, the proposed compression service 
will identify for which positions from a compression participant's 
position list there is offsetting size from another compression 
participant.\26\ Unlike compression orders, a compression proposal will 
not identify the Market-Makers that will be the contra-parties to 
compression transactions. This information is currently provided for 
compression orders, as TPHs need to seek out contra-parties to submit 
compression orders. However, the compression service enhances this 
process by doing this on behalf of Market-Makers, thus reducing this 
burden on Market-Makers and eliminating the need to identify 
counterparties in the compression proposal.
---------------------------------------------------------------------------

    \25\ See rule 5.6(c).
    \26\ Id.
---------------------------------------------------------------------------

    The compression proposal will include a compression price for each 
position (which, like the compression price of compression orders, may 
be in $0.01 increments).\27\ The Exchange calculates this value using 
substantially similar pricing models that it understands other market 
participants use when pricing options. The Exchange currently 
disseminates indicative values for certain classes at the end of the 
trading day using the method, which the Exchange understands market 
participants currently use for various purposes including risk 
management purposes.\28\ The Exchange believes its programmatically 
determined compression price using generally accepted volatility and 
options pricing models and available pricing information will provide 
compression participants with a reasonable value at which to effect 
their compression transactions.
---------------------------------------------------------------------------

    \27\ TPHs submit compression orders with the price of execution 
(which is subject to certain pricing requirements). See id. 
Compression orders may also currently be executed in pennies. 
Because many series the Exchange expects Market-Makers will attempt 
to close will be out-of-the-money, and essentially worthless, 
Market-Makers may not otherwise close positions in these series if a 
higher minimum increment causes the price to be too much higher than 
the option's value. The Exchange believes it is reasonable to permit 
these orders to be entered and executed in penny increments to 
provide flexibility that will enable Market-Makers to encourage 
participation in the compression service and maximize the reduction 
in capital attributable to their positions.
    \28\ See Rule 4.17 (pursuant to which the Exchange currently 
disseminates indicates values for various options (including most 
index options the Exchange lists for trading)). The Exchange also 
uses similar values in certain circumstances when evaluating obvious 
errors that occur on the Exchange. See Rule 6.5, Interpretation and 
Policy .08.
---------------------------------------------------------------------------

    The Exchange believes the proposed matching process enhances the 
process currently available with respect to compression orders, as it 
calculates for Market-Makers the positions that may be offset by 
positions of multiple other Market-Makers that could maximize 
compression results. Today, if a Market-Maker receives a position file 
regarding other TPHs that have offsetting size, they must all then 
coordinate to submit various orders for unexposed execution to achieve 
the same results. The proposed process more efficiently identifies the 
different parties with contra-side interest against which a Market-
Maker may execute its positions for compression purposes. As a result, 
the proposed process reduces the burden on Market-Makers of finding 
other Market-Makers with offsetting size they are willing trade when 
they attempt to compress their portfolios. With respect to the 
compression service, the Exchange would be bringing together purchasers 
and sellers of index options for the purpose of compression, which is 
consistent with its role as an exchange under the Exchange Act.\29\ 
Those purchasers and sellers would continue to have ultimate discretion 
as to whether to effect the proposed compression transactions. The 
Exchange believes compression to be a valuable service to provide to 
Market-Makers, as compression enhances liquidity in the marketplace, 
which may lead to more liquidity and competition and tighter spreads, 
which ultimately benefits the entire market.
---------------------------------------------------------------------------

    \29\ See 15 U.S.C. 78c(a)(1) (which defines an ``exchange'' as 
an organization that constitutes, maintains, or provides a 
marketplace or facilities for bringing together purchases and 
sellers of securities).
---------------------------------------------------------------------------

    Like the current position match files the Exchange provides to TPHs 
in connection with compression orders, compression proposals generated 
by the Exchange pursuant to the proposed compression service are 
provided to Market-Makers for informational purposes only. A Market-
Maker can choose to take no action once it receives a compression 
proposal. Individual Market-Makers will continue to determine whether 
to submit position lists to the compression service and whether to 
accept or decline compression proposals (and thus whether to effect or 
not effect the compression transactions with the compression 
proposals). As further described below, whether a Market-Maker chooses 
to accept the compression proposal and effect the compression 
transactions described therein is solely within the discretion of the 
Market-Maker. The Exchange's provision of the compression proposal does 
not constitute advice, guidance, a commitment to trade, an execution, 
or a recommendation to trade, as is the case today for compression 
orders.
    Proposed paragraph (c) describes the conclusion of the compression 
process, including how compression transactions may be effected. 
Specifically, each compression participant for which a compression 
proposal includes at least one offsetting position match \30\ must 
notify the Exchange in the Exchange-designated form and manner no later 
than the Exchange-established deadline of whether the compression 
participant approves the compression proposal. If all compression 
participants affirmatively approve the compression proposal, then the 
Exchange effects the transactions comprising the compression proposal 
at the specified compression prices. If any compression participant for 
which a compression proposal includes at least one offsetting position 
match declines (or does not respond to the Exchange by the deadline), 
then no compression transactions are effected. In other words, whether 
a Market-Maker effects any compression transactions (at the specified 
compression prices) set forth in the compression proposal is solely 
within the discretion of the Market-Maker. If a Market-Maker evaluates 
a compression proposal and determines it is not in its interest to 
effect the transactions as set forth in the proposal, then no 
compression transactions are effected. Because the compression proposal 
only achieves its goals of maximized compression if all compression 
participants approve of the proposal, it requires unanimous approval. 
As is the case for any transaction effected on the Exchange, all 
counterparties must agree to the transaction.
---------------------------------------------------------------------------

    \30\ It is possible that the automated matching process 
described in proposed paragraph (b) will not find for a compression 
participant any offsetting positions of other compression 
participants. In that case, the compression participant with no 
offsetting position matches needs to take no action.
---------------------------------------------------------------------------

    Following any unanimous approval of a compression proposal, the 
Exchange (a) distributes the information regarding the completed 
package to the compression participants (which information will also be 
available to CTPHs) and to OCC for processing and (b) disseminates the 
information regarding each compression transaction

[[Page 19072]]

effected.\31\ The Exchange believes it is appropriate to share the 
results of any compression transactions with the Clearing Trading 
Permit Holders of the compression participants, as the impacted 
positions will ultimately be held within the clearing accounts of these 
CTPHs. Additionally, CTPHs have an interest in the open interest of the 
Market-Makers for which they perform clearing services, because CTPHs 
impose capital restrictions on these Market-Makers based on their open 
interest.\32\ In addition, the Exchange believes it will benefit the 
market to disseminate information for compression trades as it does for 
all other transactions so that all market participants have knowledge 
of compression transactions that occur and have knowledge of any 
changes to open interest in the applicable products. Compression 
transactions are effected within the accounts of the compression 
participants and occur in accordance with OCC Rules (as is the case 
with other off-floor transfers). Compression transactions may be 
subject to applicable laws, rules, and regulations, including rules of 
other self-regulatory organizations.\33\
---------------------------------------------------------------------------

    \31\ The Exchange will be disseminating compression transaction 
information to OPRA. The Exchange is working with OPRA to have an 
indicator applied to compression transaction information 
disseminated through OPRA but does not expect that indicator to be 
available upon implementation of the compression service.
    \32\ It is for similar reasons that CTPHs may currently submit 
compression-position lists to the Exchange in connection with the 
submission of compression orders. See Rule 5.6(c).
    \33\ Post-trade positions are held in accounts at the OCC. 
Therefore, any post-trade activity that occurs would be effected 
within those accounts. The Exchange has held multiple discussions 
with the OCC regarding the compression service, and the OCC has 
indicated its ability to accommodate any effected compression 
transactions. Any compression transactions will be subject to all 
applicable recordkeeping requirements applicable to Market-Makers 
under the Act and the rules and regulations thereunder, such as Rule 
17a-3 and 17a-4.
---------------------------------------------------------------------------

    The primary difference between the compression service and 
compression orders is that the compression transactions Market-Makers 
decide to effect will occur off-floor after trading hours. Effecting 
compression transactions after the close of trading will provide 
Market-Makers with several benefits, including certainty regarding 
positions they may want to compress (as positions may change regularly 
throughout the trading day) and not having to interrupt their provision 
of liquidity during the trading day to engage in risk management. 
Additionally, this will permit Market-Makers to not divert resources 
during the trading day from providing liquidity to the market to 
effecting transactions for risk management purposes. Currently, 
compression orders may be effected without exposure on the Exchange, 
which is similar to the proposed compression transactions. The proposed 
compression service eliminates the step of needing to bring orders that 
will not be exposed to the Exchange. As the primary purpose of the 
proposed compression transactions is to compress the notional size of 
Market-Makers' portfolios so that they may provide additional liquidity 
into the market (rather than, for example, obtain price improvement), 
the Exchange believes the benefits of exposure and execution on an 
exchange are not applicable to compression transactions. Additionally, 
because the Exchange will disseminate compression transaction 
information, the compression service will provide transparency to the 
market regarding compression transactions. The Exchange currently 
permits transfers of SPX option positions (which may net against each 
other) to occur off the Exchange for similar reasons.\34\
---------------------------------------------------------------------------

    \34\ See Rule 6.8.
---------------------------------------------------------------------------

    To demonstrate how the Exchange will conduct its multilateral 
compression service, suppose three Market-Makers submit to the Exchange 
the following position lists:

----------------------------------------------------------------------------------------------------------------
                 Class                      Expiry          Strike              Put/call             Quantity
----------------------------------------------------------------------------------------------------------------
                                                       MM1
----------------------------------------------------------------------------------------------------------------
SPX...................................      2020-12-24            3700  C                                    300
SPX...................................      2020-12-24            3700  P                                   -100
SPX...................................      2020-12-24            3800  C                                   -100
SPX...................................      2020-12-24            3800  P                                    -50
----------------------------------------------------------------------------------------------------------------
                                                       MM2
----------------------------------------------------------------------------------------------------------------
SPX...................................      2020-12-24            3700  C                                    -50
SPX...................................      2020-12-24            3700  P                                     50
SPX...................................      2020-12-24            3800  C                                     50
SPX...................................      2020-12-24            3800  P                                    750
----------------------------------------------------------------------------------------------------------------
                                                       MM3
----------------------------------------------------------------------------------------------------------------
SPX...................................      2020-12-24            3700  C                                    -25
SPX...................................      2020-12-24            3700  P                                     50
SPX...................................      2020-12-24            3800  C                                      0
SPX...................................      2020-12-24            3800  P                                    -25
----------------------------------------------------------------------------------------------------------------

    In total, across the four series, MM1 submitted 550 contracts for 
compression, MM2 submitted 900 contracts for compression, and MM3 
submitted 100 contracts for compression. For purposes of this example, 
no Market-Maker included additional parameters to be considered in the 
compression matching process. The Exchange's automated matching process 
evaluates these positions (on an anonymized basis) to maximize the 
number of positions among the three Market-Makers that can be 
compressed, which results in the following trade matches:

[[Page 19073]]

--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                                            Compression
                   Class                         Expiry          Strike        Put/call           Trade quantity              Contra           price
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                           MM1
--------------------------------------------------------------------------------------------------------------------------------------------------------
SPX........................................      2020-12-24            3700            C  -50                                        MM2            1.00
SPX........................................      2020-12-24            3700            C  -25                                        MM3            1.00
SPX........................................      2020-12-24            3700            P  50                                         MM2            1.00
SPX........................................      2020-12-24            3700            P  50                                         MM3            1.00
SPX........................................      2020-12-24            3800            C  50                                         MM2            0.50
SPX........................................      2020-12-24            3800            P  50                                         MM2            1.50
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                           MM2
--------------------------------------------------------------------------------------------------------------------------------------------------------
SPX........................................      2020-12-24            3700            C  50                                         MM1            1.00
SPX........................................      2020-12-24            3700            P  -50                                        MM1            1.00
SPX........................................      2020-12-24            3800            C  -50                                        MM1            0.50
SPX........................................      2020-12-24            3800            P  -50                                        MM1            1.50
SPX........................................      2020-12-24            3800            P  -25                                        MM3            1.50
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                           MM3
--------------------------------------------------------------------------------------------------------------------------------------------------------
SPX........................................      2020-12-24            3700            C  25                                         MM1            1.00
SPX........................................      2020-12-24            3700            P  -50                                        MM1            1.00
SPX........................................      2020-12-24            3800            P  25                                         MM2            1.50
--------------------------------------------------------------------------------------------------------------------------------------------------------

    In total, if all three Market-Makers approved of this compression 
proposal, MM1 would compress 275 contracts, MM2 would compress 225 
contracts, and MM3 would compress 100 contracts, for a total of 600 
contracts among all three Market-Makers, representing nearly 40% of the 
1,550 total contracts submitted by the three Market-Makers. With a 
notional value of nearly $400,000 per SPX contract, this compression 
would permit these Market-Makers to eliminate positions from their 
accounts that equate to a significant reduction in necessary capital to 
be maintained in those accounts, which the Market-Makers could instead 
put back into the market.\35\
---------------------------------------------------------------------------

    \35\ The Exchange notes each Market-Maker would retain any 
uncompressed positions. Each Market-Maker would have the option to 
resubmit these uncompressed positions on a new position list at the 
times permitted by the Exchange to potentially be part of a 
different compression proposal. Additionally, if any of the Market-
Makers declined this compression proposal, the Market-Makers could 
similarly resubmit new position lists if they so choose.
---------------------------------------------------------------------------

    The Exchange believes the proposed compression service will provide 
Market-Makers with an additional tool to reduce regulatory capital 
attributable to their portfolios in accordance with their businesses 
and risk management practices. The Exchange understands from customers, 
and Market-Makers in particular, there continues to be a significant 
need to reduce regulatory capital attributable to their open interest 
based on then-current market conditions. The need for compression is 
particularly true during times of extreme volatility, such as the 
recent historic levels of market volatility, which can make providing 
liquidity in index options immensely more challenging when market 
participants need liquidity the most. The Exchange believes the ability 
of Market-Makers to compress their portfolios helps reduce the risk of 
market dislocation, especially during periods of increased volume and 
volatility, as they can continue providing liquidity during such times 
(which may increase the regulatory capital attributed to their 
portfolios) because they will know that they can subsequently reduce 
their open positions (and concomitant regulatory capital).
    As noted above, because some CTPHs carrying these are bank-owned 
broker/dealers, those CTPHs are subject to further bank regulatory 
capital requirements, which result in these additional punitive capital 
requirements being passed on to their market-maker clients.\36\ The 
Exchange believes implementation of SA-CCR by all CTPHs will not 
eliminate the need for Market-Makers to engage in the compression of 
their portfolios. Market-Makers regularly avail themselves of 
compression orders, in which they use the information provided in the 
Exchange-provided position lists to identify potential counterparties 
that similarly need to close index option open interest. Additionally, 
certain TPHs avail themselves of off-floor RWA transfers across their 
own accounts to similarly achieve this purpose. The proposed 
compression transactions will be able to occur in numerous options as 
part of multilateral transactions effected at a single time, which will 
permit Market-Makers' to compress their portfolios more efficiently 
than they can using current compression tools. The proposed compression 
service streamlines current compression tools, which the Exchange 
believes will permit Market-Makers to reduce more efficiently any 
potential negative impact on the market-making community that has 
resulted from bank regulatory capital requirements. The Exchange 
expects the proposed compression service will provide Market-Makers 
with an additional avenue to free up much needed capital, which will 
benefit the entire market and all investors.
---------------------------------------------------------------------------

    \36\ See Letter from Cboe, New York Stock Exchange, and Nasdaq, 
Inc., to the Honorable Randal Quarles, Vice Chair for Supervision of 
the Board of Governors of the Federal Reserve System, March 18, 
2020.
---------------------------------------------------------------------------

2. Statutory Basis
    The Exchange believes the proposed rule change is consistent with 
the Securities Exchange Act of 1934 (the ``Act'') and the rules and 
regulations thereunder applicable to the Exchange and, in particular, 
the requirements of Section 6(b) of the Act.\37\ Specifically, the 
Exchange believes the proposed rule change is consistent with the 
Section 6(b)(5) \38\ requirements that the rules of an exchange be 
designed to prevent fraudulent and manipulative acts and practices, to 
promote just and equitable principles of trade, to foster cooperation 
and coordination with persons engaged in regulating, clearing, 
settling, processing information with respect to, and facilitating 
transactions in securities, to remove impediments to and perfect the 
mechanism of a free and

[[Page 19074]]

open market and a national market system, and, in general, to protect 
investors and the public interest. Additionally, the Exchange believes 
the proposed rule change is consistent with the Section 6(b)(5) \39\ 
requirement that the rules of an exchange not be designed to permit 
unfair discrimination between customers, issuers, brokers, or dealers.
---------------------------------------------------------------------------

    \37\ 15 U.S.C. 78f(b).
    \38\ 15 U.S.C. 78f(b)(5).
    \39\ Id.
---------------------------------------------------------------------------

    In particular, the Exchange believes the proposed rule change will 
remove impediments to and perfect the mechanism of a free and open 
market and a national market system, and, in general, protect investors 
and the public interest because it seeks to further mitigate the 
potentially negative effects of net capital requirements on liquidity 
in the index options markets. As described above, current regulatory 
capital requirements impede efficient use of capital and undermine the 
critical liquidity role that Market-Makers play in the index options 
market by limiting the amount of capital CTPHs allocate to clearing 
member transactions. Specifically, the rules have caused CTPHs to 
impose stricter position limits on their clearing members. In turn, 
this could force Market-Makers to reduce the size of their quotes and 
result in reduced liquidity in the market. The Exchange believes that 
providing Market-Makers with a more efficient mechanism to reduce 
regulatory capital attributable to their portfolios will permit Market-
Makers to contribute to the availability of liquidity in the index 
options market and help ensure that these markets retain their 
competitive balance. The Exchange believes that the proposed rule would 
serve to protect investors by helping maintain a consistent continued 
depth of liquidity, particularly in volatile market conditions when 
liquidity is needed the most by investors.
    The proposed rule change will provide liquidity providers with the 
ability to reduce regulatory capital more efficiently attributable to 
their open interest in index options as part of a multilateral matching 
process. Current compression tools require Market-Makers to identify 
counterparties against which to execute compression volume as part of 
multiple transactions or limit how positions may be transferred off-
exchange. The proposed compression process is a streamlined version of 
the process used for compression orders, with three main differences 
(some of which incorporate elements of off-floor RWA transfers). First, 
the compression service would eliminate the burden on Market-Makers to 
identify potentially multiple counterparties to effect compression 
transactions that would achieve the compression goals of all 
compression transaction parties. The Exchange understands that TPHs 
generally submit compression-list positions with the goal of 
identifying other TPHs with offsetting positions that will enable them 
to submit compression orders. While the Exchange provides TPHs that 
submit compression-list positions with a list of positions for which 
there is offsetting size and the identities of the TPHs with that 
offsetting size, TPHs must still seek each other out to determine how 
to offset as much as possible among each other to achieve their 
compression goals, and then submit various crossing orders to do so. 
The proposed compression service eliminates this step, as the 
Exchange's automated process will match offsetting size among multiple 
compression participants as a single step. With respect to the proposed 
compression service, the Exchange would be bringing together purchases 
and sellers of index options for the purpose of compression who 
ultimately decide into which transactions they will or will not enter, 
which is consistent with its role as an exchange under the Exchange 
Act.\40\
---------------------------------------------------------------------------

    \40\ See 15 U.S.C. 78c(a)(1) (which defines an ``exchange'' as 
an organization that constitutes, maintains, or provides a 
marketplace or facilities for bringing together purchases and 
sellers of securities).
---------------------------------------------------------------------------

    Second, unlike compression orders, compression transactions 
effected through the proposed compression service would occur off-
exchange and outside of regular trading hours. Compression orders are 
executed on the Exchange, but are not exposed before execution. The 
Exchange recognizes the numerous benefits of executing options 
transactions occur on an exchange, including price transparency, 
potential price improvement, and a clearing guarantee. However, the 
Exchange believes exposure and execution of compression transactions on 
the Exchange would have minimal benefits.\41\ When TPHs previously 
exposed compression orders to the trading floor, the Exchange observed 
that market participants generally deferred their allocations to permit 
a clean cross. Because orders that were executed in compression forums 
on the trading floor were generally not broken up, and because the 
purpose of these trades is unrelated to profits and losses (making the 
price at which the transaction is executed relatively unimportant like 
competitive trades), the Exchange believes it is appropriate to not 
require exposure of these orders in an electronic or open outcry 
setting. Compression orders are currently not exposed on the Exchange 
for the same purpose.\42\ The Exchange believes that TPHs understand 
the benefits that compression may bring to liquidity on the Exchange to 
the benefit of all market participants, which benefit the Exchange 
believes is greater than the benefit of exposing compression 
transactions prior to execution.
---------------------------------------------------------------------------

    \41\ Because compression transactions will be effected within 
clearing accounts at the OCC, any compression transactions will 
continue have a clearing guarantee.
    \42\ See Rules 5.32, 5.33, and 5.88.
---------------------------------------------------------------------------

    The Exchange believes the benefits of permitting compression 
transactions to occur off the exchange exceed any benefits that may 
result from executing these orders on the Exchange. The Exchange notes 
that the benefits of requiring a broker to expose an order on the 
trading floor generally flow to that order, which include the potential 
of price improvement for the order and to locate liquidity against 
which to execute the order. The compression service, however, will have 
located the necessary liquidity to offset the positions a Market-Maker 
is seeking to close (or open) as part of compression, as that is 
necessary given the nature of these transactions. Additionally, the 
Compression transactions have a narrow scope and are intended to 
achieve a limited purpose. The compression service is not intended to 
be a competitive trading tool. There is no need for price discovery or 
improvement, as the purpose of the transfer is to reduce capital 
requirements attributable to a market participants' positions. Unlike 
trades on an exchange, the price at which a compression transaction 
occurs is a secondary concern for the participants--the resulting 
reduction in capital attributable a Market-Maker's portfolio is the 
critical part of compression. Additionally, the Exchange intends to 
disseminate transaction information for all effected compression 
transactions to OPRA,\43\ so there will be transparency to the public 
regarding the prices and sizes of compression transactions. Because 
compression transactions will be effected off-exchange and not during 
the trading day, they will not be subject to an NBBO or customer 
priority like compression orders. However, the prices of these 
transactions must be executed at a programmatically determined price 
that incorporates

[[Page 19075]]

available pricing information and uses generally accepted volatility 
and options pricing models, which the Exchange believes will result in 
compression transactions being executed at reasonable market 
prices.\44\ The Exchange notes other off-floor transfers effected for 
compression purposes are not required to occur at prices at or within 
the then-prevailing NBBO or better than any resting Priority Customer 
orders.\45\ The proposed rule change is narrow in scope, as it is 
limited to Market-Makers and index options and to transactions executed 
for the purpose of reducing required regulatory capital, which the 
Exchange believes makes permitting compression transactions to occur 
off the floor appropriate and important to support the provision of 
liquidity in the listed options market.
---------------------------------------------------------------------------

    \43\ As discussed above, the Exchange is working with OPRA to 
have an indicator applied to compression transaction information 
disseminated through OPRA but does not expect that indicator to be 
available upon implementation of the compression service.
    \44\ Additionally, the Exchange believes the fact that 
compression transactions will occur at a programmatically determined 
price (and thus not permitting compression participants to determine 
their own compression prices) will provide an additional control to 
limit the use of the compression service to legitimate compression 
purposes.
    \45\ See Rule 6.8.
---------------------------------------------------------------------------

    Third, the proposed compression service will be limited to Market-
Makers, unlike compression orders, which are available to all TPHs.\46\ 
Although the Exchange is seeking to limit participation in the 
compression service to Market-Makers, the Exchange believes the 
proposal is not designed to permit discrimination between customers, 
issuers, brokers, or dealers. The Exchange believes it is appropriate 
to restrict the compression service to Market-Makers given the critical 
role Market-Makers play in the options markets. The proposed rule 
change seeks to alleviate the negative impact of bank capital 
requirements on the primary liquidity providers in the listed options 
market (i.e., Market-Makers), who have been and continue to be 
disproportionately impacted by Net Capital Requirements governing bank-
affiliated clearing firms.\47\ As discussed above, the proposed rule 
change would reduce the burden on Market-Makers to compress the size of 
their portfolios compared to currently available compression tools. 
Additionally, given that the proposed compression transactions may only 
occur if all parties agree to a compression proposal, the Exchange 
wants to ensure that compression participants are those willing to put 
the resources into creating position lists and engage in the 
compression transactions in order to encourage participation.\48\ The 
vast majority of market participants that have made use of the 
Exchange's other compression tools are Market-Makers, so the Exchange 
believes limiting the proposed compression service will not unduly 
burden other TPHs.\49\ Market-Makers are subject to quoting 
obligations, which generally result in them taking on significant 
amounts of positions that ultimately become subject to capital 
requirements, which may ultimately restrict the liquidity these Market-
Makers can provide to the market. The Exchange believes the proposed 
rule change will still benefit all market participants, as the 
resulting compression transactions will result in the ability of 
Market-Makers to provide additional liquidity to the index options 
market. The Exchange believes the ability for Market-Makers to 
efficiently and effectively compress their portfolios in one step off 
the Exchange will reduce the risk of market dislocation and not 
interfere with Market-Maker's continuous provision of liquidity, 
especially during periods of increased volume and volatility. Market-
Makers will be able to continue providing liquidity during such times 
(increasing the capital attributed to their portfolios) because they 
will know that they can subsequently reduce their open positions across 
numerous options at one time.
---------------------------------------------------------------------------

    \46\ The Exchange notes a previously available compression tool 
was limited to Market-Makers for a similar purpose. See Securities 
Exchange Act Notice 84344 (October 2, 2018), 83 FR 50721 (October 9, 
2018) (SR-CBOE-2018-056) (which permitted on-floor RWA transfers).
    \47\ See Letter from Cboe, New York Stock Exchange, and Nasdaq, 
Inc., to the Honorable Randal Quarles, Vice Chair for Supervision of 
the Board of Governors of the Federal Reserve System, March 18, 
2020.
    \48\ CME currently limits participants in its compression 
service to those that satisfy certain eligibility criteria.
    \49\ The Exchange notes that current compressions tools will 
continue to remain available to all TPHs. See Rules 5.6(c) and 6.8.
---------------------------------------------------------------------------

    The Exchange also believes it is reasonable to limit the proposed 
compression service to index options. Currently, compression orders are 
limited to SPX options, as such options have a large notional value and 
represent the most volume executed on the Exchange.\50\ Off-floor RWA 
transfers may occur in any exchange-listed option; however, transfers 
of multiply listed equity options are subject to the rules of all 
options exchanges that list those options, and thus would only be 
permissible if all other options exchanges permitted such off-floor 
transfers. The Exchange believes it is appropriate to offer the 
compression service for index options listed on the Exchange, as such 
index options may only be listed on the Exchange and its affiliated 
exchanges (and thus would not be constrained by the rules of other 
options exchanges to the extent they do not permit off-floor transfers 
for compression purposes).\51\ Additionally, the index value of nearly 
all index options the Exchange lists for trading is at least 100,\52\ 
making the notional value of an index option at least 10,000.\53\ Given 
the high notional value associated with index option contracts in 
general, the Exchange believes Market-Makers could benefit from 
compressing index options beyond SPX options within their portfolio. 
The large notional size of most index options compounds the negative 
impact of Net Capital Rules, which apply to positions in all index 
options, and may impact all client clearing members of clearing firms 
affiliated with U.S.-bank holding companies. Clearing firms may request 
that Market-Makers reduce positions in listed options in addition to 
SPX, and the proposed rule change will provide Market-Makers with an 
efficient mechanism to do so with respect to their index option 
positions.
---------------------------------------------------------------------------

    \50\ See Rules 5.6(c) (definition of compression order).
    \51\ Certain index options listed on the Exchange are also 
listed on its affiliated options exchanges, which intend to submit 
separate filing adopting the proposed multilateral compression 
process upon Commission approval of this proposed rule filing.
    \52\ The level of VIX is generally below 100.
    \53\ The Exchange may consider to further expand the compression 
service to equity options (like off-floor RWA transfers) and would 
submit a separate rule filing in the event it determined to do so. 
The Exchange notes the off-floor compression of equity options, 
which are multiply listed, would be subject to the rules of other 
options exchanges.
---------------------------------------------------------------------------

    The proposed flexibility with respect to when the Exchange will 
accept and make available lists of positions Market-Makers would like 
to compress will permit the Exchange to react to market conditions and 
facilitate Market-Makers' reduction of index option open interest in 
response to volatility as necessary.\54\ The Exchange intends to make 
the compression service available with sufficient frequency to permit 
Market-Makers to effect compression transactions in accordance with 
their own needs (as long as they previously submitted the applicable 
positions to the Exchange in advance), as well as to address intra-
month position reviews by their CTPHs. The Exchange believes this 
enhanced compression process will allow Market-Makers to more 
efficiently reduce the necessary regulatory capital associated with 
their options positions and permit them to provide more liquidity in 
the market. This additional

[[Page 19076]]

liquidity may result in tighter spreads and more execution 
opportunities, which benefits all investors, particularly in volatile 
markets.
---------------------------------------------------------------------------

    \54\ This flexibility is consistent with the Exchange's current 
flexibility regarding the availability of compression orders.
---------------------------------------------------------------------------

    It is critical that Market-Makers be able to efficiently manage 
capital and margin requirements so that they continuously have 
sufficient capital available to provide to the markets, which benefits 
all market participants. Many Market-Makers clear through CTPHs that 
have been impacted by bank regulatory capital requirements, and 
therefore the Exchange believes all market participants understand and 
respect the need of Market-Makers to reduce capital attributable to 
their positions in accordance with capital reviews performed by CTPHs 
as efficiently as possible, including through the use of compression. 
Market-Makers regularly avail themselves of compression orders, in 
which they use the information provided in the Exchange-provided 
position lists to identify potential counterparties that similarly need 
to close index option open interest. Additionally, certain TPHs avail 
themselves of off-floor RWA transfers across their own accounts to 
similarly achieve this purpose. The Exchange believes the proposed rule 
change is narrowly tailored for the specific purpose of facilitating 
the ability of Market-Makers to alleviate the negative effects of 
current bank regulatory capital requirements on index options that 
generally have large notional values. The proposed compression process 
will permit multilateral transactions in numerous options to be 
effected at a single time, which will permit Market-Makers' to compress 
their portfolios more efficiently than they can using current 
compression tools. The proposed compression service streamlines current 
compression tools, which the Exchange believes will permit Market-
Makers to reduce more efficiently any potential negative impact on the 
market-making community that has resulted from bank regulatory capital 
requirements. The Exchange expects the proposed compression service 
will provide Market-Makers with an additional avenue to free up much 
needed capital, which will benefit the entire market and all investors. 
The Exchange believes the proposed rule change will protect investors 
by providing a more seamless execution of compression transactions and 
thus facilitate a more efficient way for liquidity providers to meet 
their capital requirements, which will protect investors as a result of 
the continued depth of liquidity in the index options market. 
Continuous increased liquidity in the options market may provide more 
trading opportunities and tighter spreads, providing for robust markets 
for all market participants.

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 that is not necessary or appropriate 
in furtherance of the purposes of the Act. The purpose of the proposed 
rule change is to alleviate the negative impact of bank capital 
requirements on options market liquidity providers. The proposed 
compression service is not intended to be a competitive trading tool.
    The Exchange does not believe the proposed rule change will impose 
any burden on intramarket competition, as the compression service will 
be available to all Market-Makers and to all index options, which 
generally carry a higher notional value (as noted above). Use of the 
compression service is completely voluntary and within the discretion 
of a Market-Maker. The Exchange believes it is appropriate to restrict 
the compression service to Market-Makers given the critical role 
Market-Makers play in the options markets.\55\ As discussed above, the 
proposed rule change would reduce the burden on Market-Makers to 
compress the size of their portfolios compared to currently available 
compression tools. Additionally, given that the proposed compression 
transactions may only occur if all parties agree to a compression 
proposal, the Exchange wants to ensure that compression participants 
are those willing to put the resources into creating position lists and 
engage in the compression transactions in order to encourage 
participation.\56\ The vast majority of market participants that used 
the Exchange's other compression tools are Market-Makers, so the 
Exchange believes limiting the proposed compression service will not 
unduly burden other TPHs. Market-Makers are subject to quoting 
obligations, which generally result in them taking on significant 
amounts of positions that ultimately become subject to capital 
requirements, which may ultimately restrict the liquidity these Market-
Makers can provide to the market. The Exchange believes the proposed 
rule change will still benefit all market participants, as the 
resulting compression transactions will result in the ability of 
Market-Makers to provide additional liquidity to the index options 
market. The Exchange notes that all TPHs continue to have the 
opportunity to compress positions using the other compression tools the 
Exchange makes available.
---------------------------------------------------------------------------

    \55\ See Letter from Cboe, New York Stock Exchange, and Nasdaq, 
Inc., to the Honorable Randal Quarles, Vice Chair for Supervision of 
the Board of Governors of the Federal Reserve System, March 18, 
2020.
    \56\ CME currently limits participants in its compression 
service to those that satisfy certain eligibility criteria.
---------------------------------------------------------------------------

    The Exchange also believes it is reasonable to limit the proposed 
compression service to index options. Currently, compression orders are 
limited to SPX options, as such options have a large notional value and 
represent the most volume executed on the Exchange.\57\ Off-floor RWA 
transfers may occur in any exchange-listed option; however, transfers 
of multiply listed equity options are subject to the rules of all 
options exchanges that list those options, and thus would only be 
permissible if all other options exchanges permitted such off-floor 
transfers. The Exchange believes it is appropriate to offer the 
compression service for index options listed on the Exchange, as such 
index options may only be listed on the Exchange and its affiliated 
exchanges (and thus would not be constrained by the rules of other 
options exchanges to the extent they do not permit off-floor transfers 
for compression purposes).\58\ Additionally, the index value of nearly 
all index options the Exchange lists for trading is at least 100,\59\ 
making the notional value of an index option at least 10,000.\60\ Given 
the high notional value associated with index option contracts in 
general, the Exchange believes Market-Makers could benefit from 
compressing index options beyond SPX options within their portfolio. 
The large notional size of most index options compounds the negative 
impact of Net Capital Rules, which apply to positions in all index 
options, and may impact all client clearing members of clearing firms 
affiliated with U.S.-bank holding companies. Clearing firms may request 
that Market-Makers reduce positions in listed options in addition to 
SPX, and the proposed rule change will provide Market-Makers with an 
efficient

[[Page 19077]]

mechanism to do so with respect to their index option positions.
---------------------------------------------------------------------------

    \57\ See Rules 5.6(c) (definition of compression order).
    \58\ Certain index options listed on the Exchange are also 
listed on its affiliated options exchanges, which intend to submit 
separate filing adopting the proposed multilateral compression 
process upon Commission approval of this proposed rule filing.
    \59\ The level of VIX is generally below 100.
    \60\ The Exchange may consider to further expand the compression 
service to equity options (like off-floor RWA transfers) and would 
submit a separate rule filing in the event it determined to do so. 
The Exchange notes the off-floor compression of equity options, 
which are multiply listed, would be subject to the rules of other 
options exchanges.
---------------------------------------------------------------------------

    The Exchange does not believe the proposed rule change will impose 
any burden on intermarket competition, as it will apply only to index 
options that are currently listed for trading only on the Exchange (and 
its affiliated options exchanges).\61\ The proposed rule change is 
intended create a more efficient effective mechanism for market 
participants to reduce regulatory capital attributable to all index 
options in their portfolios. The proposal is broader than compression 
orders, which are limited to SPX options, and the Exchange believes 
making the compression service available to all index options will 
provide Market-Makers with additional compression opportunities, which 
will free up their balance sheets to provide more liquidity in all 
index options, not just SPX.\62\ When attempting to compress positions, 
Market-Makers are not seeking price improvement but rather looking to 
free up capital that will permit them to continue to provide liquidity 
to the market in their appointed classes, and thus is not intended to 
have a competitive impact. Because compression transaction information 
will be disseminated, all market participants will have access to the 
same information regarding compression transactions as they do to all 
other transaction information that occurs on the Exchange. The 
compression service is intended to have a limited purpose, which is to 
relieve the burden on liquidity providers in the options market by 
reducing the capital requirements attributable to their open positions. 
As a result, Market-Makers may be able to increase liquidity they 
provide to the market, which liquidity benefits all market 
participants.
---------------------------------------------------------------------------

    \61\ If the Commission approves the proposed rule change, the 
Exchange's affiliated options exchanges intend to submit copycat 
rule filings.
    \62\ As discussed above, the Exchange may consider to further 
expand the compression service to equity options (like off-floor RWA 
transfers) and would submit a separate rule filing in the event it 
determined to do so. The Exchange notes the off-floor compression of 
equity options, which are multiply listed, would be subject to the 
rules of other options exchanges.
---------------------------------------------------------------------------

    Additionally, as noted above, the proposed multilateral compression 
service is substantially similar to one CME offers for the compression 
of futures positions.\63\
---------------------------------------------------------------------------

    \63\ See CME Rule 857.
---------------------------------------------------------------------------

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

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

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 up to 90 days (i) as the 
Commission may designate if it finds such longer period to be 
appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) By order approve or disapprove the 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 rule-comments@sec.gov. Please include 
File Number SR-CBOE-2021-020 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-CBOE-2021-020. 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 website (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-CBOE-2021-020 and should be submitted on 
or before May 3, 2021.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\64\
---------------------------------------------------------------------------

    \64\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2021-07385 Filed 4-9-21; 8:45 am]
BILLING CODE 8011-01-P