Document ID: SEC-2008-0954-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Financial Industry Regulatory Authority Inc.
Posted Date: 2008-07-10T04:00Z

[Federal Register: July 10, 2008 (Volume 73, Number 133)]
[Notices]               
[Page 39751-39753]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr10jy08-113]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-58095; File No. SR-FINRA-2008-028]

 
Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Notice of Filing of a Proposed Rule Change To Adopt 
FINRA Rule 2010 (Standards of Commercial Honor and Principles of 
Trade), FINRA Rule 2020 (Use of Manipulative, Deceptive or Other 
Fraudulent Devices), and FINRA Rule 5150 (Fairness Opinions) in the 
Consolidated FINRA Rulebook

July 3, 2008.
    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 June 13, 2008, Financial Industry Regulatory Authority, Inc. 
(``FINRA'') (f/k/a National Association of Securities Dealers, Inc. 
(``NASD'')) filed with the Securities and Exchange Commission 
(``Commission'') the proposed rule change as described in Items I, II, 
and III below, which Items have been substantially prepared by FINRA. 
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

    FINRA is proposing to adopt NASD Rules 2110 (Standards of 
Commercial Honor and Principles of Trade), 2120 (Use of Manipulative, 
Deceptive or Other Fraudulent Devices), and 2290 (Fairness Opinions) as 
FINRA rules in the consolidated FINRA rulebook without material change 
and to delete Incorporated NYSE Rule 401(a) (Business Conduct), 
Incorporated NYSE Rule 435 (Miscellaneous Prohibitions), with the 
exception of paragraph (5), and NYSE Rule Interpretations 401/01 and 
401/02. The text of the proposed rule change is available at FINRA, the 
Commission's Public Reference Room, and http://www.finra.org.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, FINRA 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. FINRA 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
    As part of the process of developing the new consolidated rulebook 
(``Consolidated FINRA Rulebook''),\3\ FINRA is proposing to adopt NASD 
Rules 2110, 2120, and 2290 as FINRA Rules 2010, 2020, and 5150, 
respectively, in the Consolidated FINRA Rulebook. The rules would be 
adopted without change, with the exception of renumbering the rules to 
reflect the new organizational structure of the Consolidated FINRA 
Rulebook.\4\ The proposed rule change would also delete Incorporated 
NYSE Rule 401(a) (including two accompanying Interpretations to the 
rule) and certain provisions of Incorporated NYSE Rule 435 from the 
Transitional Rulebook.
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    \3\ The current FINRA rulebook consists of two sets of rules: 
(1) NASD Rules and (2) rules incorporated from NYSE (``Incorporated 
NYSE Rules'') (together referred to as the ``Transitional 
Rulebook''). The Incorporated NYSE Rules apply only to those members 
of FINRA that are also members of the NYSE (``Dual Members''). Dual 
Members also must comply with NASD Rules. For more information about 
the rulebook consolidation process, see FINRA Information Notice, 
March 12, 2008 (Rulebook Consolidation Process).
    \4\ This proposal does not address the Interpretive Materials 
(``IMs'') to NASD Rule 2110, which FINRA advises will be considered 
in a later phase of the rulebook consolidation process. 
Consequently, the IMs would remain in the Transitional Rulebook. 
Telephone conference between Brant Brown, Associate General Counsel, 
FINRA, Mia Zur, Senior Special Counsel, and Linda Jeng-Braun, 
Attorney, Commission, on June 27, 2007.
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a. FINRA Rule 2010 (Standards of Commercial Honor and Principles of 
Trade)
    The proposed rule change would transfer NASD Rule 2110 into the 
Consolidated FINRA Rulebook as FINRA Rule 2010. Incorporated NYSE Rule 
401 (including two accompanying Interpretations to the rule) would be 
deleted from the Transitional Rulebook.
    Section 15A(b)(6) of the Act requires that FINRA design its rules 
to ``promote just and equitable principles of trade.''\5\ The Act's 
mandate is reflected in NASD Rule 2110, which requires that members, in 
the conduct of their business, observe high standards of commercial 
honor and just and equitable principles of trade. This general ethical 
standard articulated in NASD Rule 2110 is broader and provides more 
flexibility than prescriptive regulations and legal requirements. NASD 
Rule 2110 protects investors and the securities industry from dishonest 
practices that are unfair to investors or hinder the functioning of a 
free and open market, even though those practices may not be illegal or 
violate a specific rule or regulation. NASD Rule 2110 has proven 
effective through nearly 70 years of regulatory experience.
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    \5\ 15 U.S.C. 78o-3(b)(6).
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    The Incorporated NYSE Rules also include general ethical rules and 
associated rule interpretations that correspond to NASD Rule 2110 and 
other provisions in the FINRA rulebook. Specifically:
     Good Business Practice: Using somewhat different language 
than NASD Rule 2110, Incorporated NYSE Rule 401(a) requires members at 
all times to adhere to the principles of good business practice in the 
conduct of their business affairs.\6\ This overarching

[[Page 39752]]

ethical requirement is subsumed under NASD Rule 2110.
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    \6\ In addition to the general good business practice 
requirement in Incorporated NYSE Rule 401(a), paragraph (b) of the 
rule requires that members maintain written policies and procedures, 
administered pursuant to the internal control requirements of 
Incorporated NYSE Rule 342.23, with respect to transmittals of funds 
or securities, customer changes of address, and customer changes of 
investment objectives. These provisions duplicate requirements under 
NASD Rule 3012(a)(2)(B), for which FINRA has requested comments on 
proposals to relocate them to the supervision rule in the 
Consolidated FINRA Rulebook. See Regulatory Notice 08-24 (May 2008) 
(Proposed Consolidated FINRA Rules Governing Supervision and 
Supervisory Controls) (``Supervision Notice'').
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     Firm/Personal Trading: Incorporated NYSE Rule 
Interpretation 401/01 addresses ethical considerations in connection 
with transactions by a member or its personnel shortly before or after 
the member issues a purchase or sale recommendation. These 
considerations are subsumed under NASD Rules 2110 and 2120.\7\
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    \7\ In addition, Incorporated NYSE Rule Interpretation 401/01 
includes an unrelated, obsolete template relating to the 
identification of counterfeit stock certificates and a cross-
reference provision reminding firms of the personal trading 
restrictions for research analysts under Incorporated NYSE Rule 
472(e).
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     Private Sales: Incorporated NYSE Rule Interpretation 401/
02 broadly addresses the obligation of members to monitor the 
activities of associated personnel with respect to their marketing of 
securities through private sales. These obligations are addressed by 
the requirements in NASD Rule 3040 and Incorporated NYSE Rules 407(b) 
and 407.11.\8\
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    \8\ FINRA has requested comment on a proposal for the provisions 
concerning private securities transactions in NASD Rule 3040 and 
Incorporated NYSE Rules 407(b) and 407.11 to be rewritten and 
relocated to the supervision rule in the Consolidated FINRA 
Rulebook. See Supervision Notice.
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    For the reasons discussed above, FINRA is proposing to transfer 
NASD Rule 2110 into the Consolidated FINRA Rulebook as FINRA Rule 2010 
with no changes. In addition, FINRA is proposing to delete from the 
Transitional Rulebook Incorporated NYSE Rule 401(a) and Incorporated 
NYSE Rule Interpretations 401/01 and 401/02.\9\
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    \9\ In addition to Incorporated Rule Interpretations 401/01 and 
401/02, discussed above, there are two other interpretations under 
Incorporated NYSE Rule 401. Incorporated NYSE Rule Interpretations 
401/03 and 401/04 address member notification requirements in the 
event of certain organizational or operational changes, such as 
mergers with or acquisitions of other broker-dealers, or certain 
conditions that a member organization reasonably believes could lead 
to capital, liquidity or similar problems. FINRA will be considering 
the requirements of these remaining two interpretations as part of a 
later phase of the rulebook consolidation process. Consequently, the 
proposed rule change would not delete these two interpretations from 
the Transitional Rulebook.
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b. FINRA Rule 2020 (Use of Manipulative, Deceptive or Other Fraudulent 
Devices)
    The proposed rule change would transfer NASD Rule 2120, which is 
FINRA's general antifraud provision, into the Consolidated FINRA 
Rulebook as FINRA Rule 2020 with no changes to the rule text. The 
proposed rule change would also delete Incorporated NYSE Rule 435 (with 
the exception of paragraph (5)) from the Transitional Rulebook.
    NASD Rule 2120, which has remained unchanged for nearly 70 years, 
states in its entirety that ``[n]o member shall effect any transaction 
in, or induce the purchase or sale of, any security by means of any 
manipulative, deceptive, or other fraudulent device or contrivance.'' 
FINRA has used this broad antifraud rule to address a wide variety of 
manipulative, deceptive, and fraudulent misconduct, including market 
manipulation,\10\ excessive trading,\11\ insider trading,\12\ and 
fraudulent misrepresentation.\13\ Given the rule's broad reach and 
substantial history, FINRA believes the rule should be transferred 
unchanged into the Consolidated FINRA Rulebook as FINRA Rule 2020.
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    \10\ See, e.g., Terrance Yoshikawa, Securities Exchange Act 
Release No. 53731 (April 26, 2006), 87 SEC Docket 2924 (finding that 
the Applicant, by engaging in a repeated and intentional pattern of 
market manipulation, had violated Section 10(b) of the Act and Rule 
10b-5 thereunder, as well as NASD Rule 2120).
    \11\ See, e.g., Michael T. Studer and Castle Securities Corp., 
84 S.E.C. 911 (2004) (affirming NASD's decision that the Applicants 
violated NASD Rules 2510, 2120, and 2110 by churning a customer's 
account).
    \12\ See, e.g., Sidney C. Eng, 67 S.E.C. 2175 (1998) (finding 
that a preponderance of the record evidence established that, as 
found by the NASD, the Applicant purchased stock on the basis of 
material, non-public information and, thus, violated Article III, 
Sections 1 and 18 (which have been renumbered as NASD Rules 2110 and 
2120)).
    \13\ See, e.g., Dane S. Faber, 82 S.E.C. 530 (2004) (affirming 
NASD's finding that the Applicant violated Section 10(b) of the Act 
and Rule 10b-5 thereunder, and NASD Rules 2110 and 2120 by making 
misrepresentations and omitting material facts).
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    Although there is no identical NYSE rule equivalent to NASD Rule 
2120, Incorporated NYSE Rule 435 includes three provisions that 
prohibit specific manipulative and fraudulent misconduct that would 
generally also violate NASD Rules 2110 or 2120. In addition, these 
provisions of Incorporated NYSE Rule 435 are duplicative of provisions 
in NASD Rule 5120.\14\
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    \14\ See NASD Rule 5120(a), (c), and (d). FINRA has proposed 
transferring NASD Rule 5120 into the Consolidated FINRA Rulebook as 
FINRA Rule 6140. See SR-FINRA-2008-021. Paragraph (5) of 
Incorporated NYSE Rule 435 concerning the circulation of rumors has 
no precise equivalent in NASD Rule 5120; however, NASD Rule 5120(e) 
is similar in nature. The proposed rule change does not address 
Incorporated NYSE Rule 435(5) or its related Interpretation, which 
FINRA advises will be considered during a later phase of the 
rulebook consolidation process.
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     Incorporated NYSE Rule 435(1) prohibits excessive trading 
by a member for accounts in which the member is directly or indirectly 
interested if the trading is ``excessive in view of his or its 
financial resources or in view of the market for such security.''
     Incorporated NYSE Rule 435(3) \15\ prohibits buying or 
selling a security at successively higher or lower prices, 
respectively, for the purpose of improperly influencing the market 
price of the security or ``making a price which does not reflect the 
true state of the market in such security.''
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    \15\ NYSE deleted paragraph (2) of NYSE Rule 435 in 1968 and 
left the paragraph reserved; thus, there is no rule text for 
Incorporated NYSE Rule 435(2).
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     Incorporated NYSE Rule 435(4) prohibits: (1) Direct or 
indirect participation in a manipulative operation, (2) having any 
interest in the profits of a manipulative operation, and (3) managing 
or financing a manipulative operation.
    Because these three provisions are duplicative of existing NASD 
rules that FINRA is proposing to transfer into the Consolidated FINRA 
Rulebook, the proposed rule change would delete these three provisions 
from the Transitional Rulebook.\16\
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    \16\ Incorporated NYSE Rule 435 also includes two other 
miscellaneous provisions directed at specific issues: (1) A 
provision in paragraph (6) preventing the reopening of certain 
contracts for improper purposes, and (2) a provision in paragraph 
(7) preventing certain types of loans. FINRA believes that these two 
provisions are obsolete, and the proposed rule change would also 
delete these provisions from the Transitional Rulebook. The 
provisions of the Federal Reserve Board's Regulation T, which 
governs credit by broker-dealers, would continue to apply to broker-
dealers.
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    For the reasons discussed above, FINRA is proposing to transfer 
NASD Rule 2120 into the Consolidated FINRA Rulebook as FINRA Rule 2020 
with no changes. In addition, FINRA is proposing to delete Incorporated 
NYSE Rule 435 (with the exception of paragraph (5) and its related 
Interpretation) from the Transitional Rulebook.
c. FINRA Rule 5150 (Fairness Opinions)
    The proposed rule change would transfer NASD Rule 2290 into the 
Consolidated FINRA Rulebook as FINRA Rule 5150 with no changes to the 
rule text.
    NASD Rule 2290 requires specific disclosures and procedures 
addressing the conflicts of interest that arise when a broker-dealer 
provides a fairness opinion in a change of control transaction, such as 
a merger or sale or purchase of assets. The disclosures required by the 
rule are aimed at informing investor shareholders of potential 
conflicts, such as whether a member has acted as a financial advisor to 
any party to the transaction that is the subject of the fairness 
opinion, and if so, whether it will receive compensation contingent on 
the successful completion

[[Page 39753]]

of the transaction. The rule also requires disclosure by a member of 
other significant contingent payments; material relationships with any 
parties to the transaction; whether information used by the member has 
been independently verified; whether the opinion expresses an opinion 
about the fairness of the compensation to officers, directors or 
employees, relating to that received by public shareholders; and 
whether the opinion was approved or issued by a fairness committee.
    Additionally, NASD Rule 2290 requires that any member issuing a 
fairness opinion must have written procedures for approval of a 
fairness opinion. The procedures must address the types of transactions 
and the circumstances in which the firm will use a fairness committee 
to approve or issue a fairness opinion, and in those transactions in 
which it uses a fairness committee: (1) The process for selecting 
personnel to be on the fairness committee; (2) the necessary 
qualifications of persons serving on the fairness committee; and (3) 
the process to promote a balanced review by the fairness committee, 
which shall include the review and approval by persons who do not serve 
on the deal team to the transaction. Members are also required to have 
a process to determine whether the valuation analyses used in the 
fairness opinion are appropriate.
    NASD Rule 2290 was approved by the Commission in October 2007, and 
was the product of extensive notice and comment rulemaking over a 
period of several years.\17\ FINRA solicited comment on proposed NASD 
Rule 2290 in a Notice to Members issued in 2004.\18\ FINRA modified the 
proposed rule based upon the comments received, and the Commission 
published the proposal for comment in the Federal Register in 2006.\19\ 
The final rule reflects additional changes based upon the comments 
received by the Commission.\20\ Consequently, the proposed rule filing 
would transfer NASD Rule 2290 into the Consolidated FINRA Rulebook as 
FINRA Rule 5150.
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    \17\ See Securities Exchange Act Release No. 56645 (October 11, 
2007), 72 FR 59317 (October 19, 2007) (SR-NASD-2005-080).
    \18\ See NASD Notice to Members 04-83 (November 2004).
    \19\ See Securities Exchange Act Release No. 53598 (April 4, 
2006), 71 FR 18395 (April 11, 2006) (SR-NASD-2005-080).
    \20\ See Securities Exchange Act Release No. 56645 (October 11, 
2007), 72 FR 59317 (October 19, 2007) (SR-NASD-2005-080).
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2. Statutory Basis
    FINRA believes that the proposed rule change is consistent with the 
provisions of Section 15A(b)(6) of the Act,\21\ which requires, among 
other things, that FINRA rules must be designed to prevent fraudulent 
and manipulative acts and practices, to promote just and equitable 
principles of trade, and, in general, to protect investors and the 
public interest. FINRA believes that the proposed rule change to 
transfer the rule requiring adherence to just and equitable principles 
of trade and the rule prohibiting fraudulent and manipulative acts and 
practices is necessary so that FINRA can continue to enforce these 
overarching provisions that express FINRA's core regulatory objectives 
and allow FINRA to effectively protect investors and the public 
interest. FINRA also believes that the provisions of NASD Rule 2290 
benefit investors and the public interest by requiring the disclosure 
of conflicts of interest in connection with fairness opinions and 
procedures designed to mitigate those conflicts.
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    \21\ 15 U.S.C. 78o-3(b)(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition

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

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

    Written comments on the proposed rule change were neither solicited 
nor received.

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

    Within 35 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) By order approve such proposed rule change; or
    (B) Institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change is consistent with the Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://
www.sec.gov/rules/sro.shtml); or
     Send an e-mail to rule-comments@sec.gov. Please include 
File Number SR-FINRA-2008-028 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-FINRA-2008-028. This 
file number should be included on the subject line if e-mail is used. 
To help the Commission process and review your comments more 
efficiently, please use only one method. The Commission will post all 
comments on the Commission's Internet Web site (http://www.sec.gov/
rules/sro.shtml). Copies of the submission, all subsequent amendments, 
all written statements with respect to the proposed rule change that 
are filed with the Commission, and all written communications relating 
to the proposed rule change between the Commission and any person, 
other than those that may be withheld from the public in accordance 
with the provisions of 5 U.S.C. 552, will be available for inspection 
and copying in the Commission's Public Reference Room, 100 F Street, 
NE., Washington, DC 20549, on official business days between the hours 
of 10 a.m. and 3 p.m. Copies of such filing also will be available for 
inspection and copying at the principal office of FINRA. All comments 
received will be posted without change; the Commission does not edit 
personal identifying information from submissions. You should submit 
only information that you wish to make available publicly. All 
submissions should refer to File Number SR-FINRA-2008-028 and should be 
submitted on or before July 31, 2008.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\22\
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    \22\ 17 CFR 200.30-3(a)(12).
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Florence E. Harmon,
Acting Secretary.
[FR Doc. E8-15696 Filed 7-9-08; 8:45 am]

BILLING CODE 8010-01-P