Document ID: SEC-2009-1769-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: International Securities Exchange, LLC
Posted Date: 2009-12-18T05:00Z

[Federal Register: December 18, 2009 (Volume 74, Number 242)]
[Notices]               
[Page 67278-67281]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr18de09-107]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-61154; File No. SR-ISE-2009-105]

 
Self-Regulatory Organizations; International Securities Exchange, 
LLC; Notice of Filing and Immediate Effectiveness of Proposed Rule 
Change Relating to the Registered Representative Fee and an Options 
Regulatory Fee

December 11, 2009.
    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 December 9, 2009, the International Securities Exchange, LLC 
(the ``Exchange'' or ``ISE'') filed with the Securities and Exchange 
Commission the proposed rule change as described in Items I, II, and 
III below, which Items have been prepared by the self-regulatory 
organization. The Commission is publishing this notice to solicit 
comments on the proposed rule change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The ISE is proposing to amend its Schedule of Fees to eliminate 
registered representative fees and institute a new transaction-based 
``Options Regulatory Fee.'' The text of the proposed rule change is 
available on the Exchange's Web site (http://www.ise.com), at the 
Commission's Web site at (http://www.sec.gov) at the principal office 
of the Exchange, and at the Commission's Public Reference Room.

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

    In its filing with the Commission, the self-regulatory organization 
included statements concerning the purpose of, and basis for, the 
proposed rule change and discussed any comments it received

[[Page 67279]]

on the proposed rule change. The text of these statements may be 
examined at the places specified in Item IV below. The self-regulatory 
organization 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
    This proposed rule change is based on a filing previously submitted 
by the Chicago Board Options Exchange (``CBOE'') that was effective on 
filing.\3\ ISE proposes to amend its Schedule of Fees to eliminate 
registered representative fees and institute a new transaction-based 
``Options Regulatory Fee.'' ISE rules require that members who do 
business with the public qualify and register their options principals 
and representatives. Each ISE member that registers an options 
principal and/or representative is assessed a registered representative 
fee (``RR Fee'') based on the action associated with the registration. 
RR Fees as well as other regulatory fees collected by the Exchange are 
intended to cover a portion of the cost of the Exchange's regulatory 
programs. RR Fees have been in place since ISE's inception in 2000 and 
remained unchanged until 2007.\4\ There are annual fees as well as 
initial, transfer and termination fees. Today, all options exchanges, 
regardless of size, charge similar registered representative fees.
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    \3\ See Securities Exchange Act Release No. 58817 (October 20, 
2008), 73 FR 63744 (October 27, 2008) (SR-CBOE-2008-105).
    \4\ See Securities Exchange Act Release No. 55899 (June 12, 
2007), 72 FR 33794 (June 19, 2007) (SR-ISE-2007-30).
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    ISE believes the current RR Fee is not equitable. The options 
industry has evolved to a structure with many more Internet-based and 
discount brokerage firms. These firms have few registered 
representatives and thus pay very little in RR Fees compared to full 
service brokerage firms that have many registered representatives. More 
importantly, the regulatory effort the Exchange expends to review the 
transactions of each type of firm is not commensurate with the number 
of registered representatives that each firm employs.
    Further, due to the manner in which RR Fees are charged, it is 
possible for a member firm to restructure its business to avoid paying 
these fees altogether. A firm can avoid RR Fees by terminating its ISE 
membership and sending its business to the Exchange through another 
member firm, even an affiliated firm that has many fewer registered 
representatives. Indeed, some firms have done just this to avoid paying 
these fees. If firms terminated their memberships to avoid RR Fees, the 
Exchange would suffer the loss of a major source of funding for its 
regulatory programs. The Exchange notes that at least three firms have 
terminated their membership to avoid RR Fees. The Exchange believes 
other firms may do the same unless the Exchange addresses its 
regulatory fee structure.
    In order to address the inequity of the current regulatory fee 
structure and to curtail any further loss of memberships and by 
extension, loss of regulatory revenue, ISE proposes to eliminate the 
current RR Fee and adopt an Options Regulatory Fee (``ORF'') of $0.0035 
per contract, with a minimum one-cent charge per trade. This fee would 
be assessed by the Exchange to each member for all options transactions 
executed or cleared by the member that are cleared by The Options 
Clearing Corporation (``OCC'') in the customer range, i.e., 
transactions that clear in the customer account of the member's 
clearing firm at OCC, regardless of the marketplace of execution. In 
other words, ISE would impose the ORF on all transactions executed by a 
member, even if the transactions do not take place on the Exchange.\5\ 
The ORF would also be charged for transactions that are not executed by 
an ISE member but are ultimately cleared by an ISE member. In the case 
where an ISE member executes a transaction and an ISE member clears the 
transaction, the ORF would be assessed to the member who executed the 
transaction. In the case where a non-ISE member executes a transaction 
and an ISE member clears the transaction, the ORF would be assessed to 
the ISE member who clears the transaction.
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    \5\ The ORF would apply to all customer orders executed by a 
member on the Exchange. Exchange rules require each member to submit 
trade information in order to allow the Exchange to properly 
prioritize and match orders and quotations and report resulting 
transactions to the OCC. See ISE Rule 712. The Exchange represents 
that it has surveillances in place to verify that members comply 
with the rule.
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    The ORF would not be charged for member options transactions 
because members incur the costs of owning memberships and through their 
memberships are charged transaction fees, dues and other fees that are 
not applicable to non-members.\6\ The dues and fees paid by members go 
into the general funds of the Exchange, a portion of which is used to 
help pay the costs of regulation. Based on the revenue model of the 
Exchange, member fees fund the bulk of the Exchange's operations and 
serve as the single-largest revenue source for the Exchange. Thus, the 
Exchange believes members are already paying their fair share of the 
costs of regulation.\7\
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    \6\ For example, most non-broker-dealer customers are not 
charged transaction fees to trade on the Exchange.
    \7\ If the Exchange changes its method of funding regulation or 
if circumstances otherwise change in the future, the Exchange may 
propose to impose the ORF or a separate regulatory fee on members if 
the Exchange deems it advisable.
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    As noted, the ORF would replace RR Fees, which relate to a member's 
customer business. Further, RR Fees constituted the single-largest fee 
assessed that is related to customer trading activity (in that the 
Exchange generally does not charge customer transaction fees), the 
Exchange believes it is appropriate to charge the ORF only to 
transactions that clear as customer at the OCC. The Exchange believes 
that its broad regulatory responsibilities with respect to its members' 
activities supports applying the ORF to transactions cleared but not 
executed by a member. The Exchange's regulatory responsibilities are 
the same regardless of whether a member executes a transaction or 
clears a transaction executed on its behalf. The Exchange regularly 
reviews all such activities, including performing surveillance for 
position limit violations, manipulation, frontrunning, contrary 
exercise advice violations and insider trading.\8\ These activities 
span across multiple exchanges.
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    \8\ The Exchange also participates in The Options Regulatory 
Surveillance Authority (``ORSA'') national market system plan and in 
doing so shares information and coordinates with other exchanges 
designed to detect the unlawful use of undisclosed material 
information in the trading of securities options. ORSA is a national 
market system comprised of several self-regulatory organizations 
whose functions and objectives include the joint development, 
administration, operation and maintenance of systems and facilities 
utilized in the regulation, surveillance, investigation and 
detection of the unlawful use of undisclosed material information in 
the trading of securities options. The Exchange compensates ORSA for 
the Exchange's portion of the cost to perform insider trading 
surveillance on behalf of the Exchange. The ORF will cover the costs 
associated with the Exchange's arrangement with ORSA.
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    The Exchange believes the initial level of the fee is reasonable 
because it relates to the recovery of the costs of supervising and 
regulating members. In addition, the projected amount of revenue that 
the ORF is intended to generate for the Exchange, on an annual basis, 
is correlated to the amount of revenue that the RR Fee was intended to 
generate at the time the RR Fee was first announced by the Exchange in

[[Page 67280]]

2007. Since that time, however, the number of registered 
representatives has continued to materially decline, year over year. 
Customer transaction volume, on the other hand, on the Exchange and in 
the options industry overall, has, during that same period since 2007, 
materially and continuously increased, year over year. As a result, the 
spread between the amount of revenue collected under the RR Fee and the 
Exchange's actual costs in administering its regulatory program has 
continued to widen. As discussed herein, the Exchange believes that the 
number of declining registered representatives is a result of firms 
restructuring their business so as to avoid paying the RR Fee, to the 
extent that the fee has caused a drop of nearly 25% in the number of 
registered representatives in 2008, and cumulatively more than 35% in 
2009. Accordingly, by correlating the amount of revenue to be generated 
under the ORF to the amount of revenue that was intended to be 
collected by the RR Fee at the time it was announced by the Exchange in 
2007, the Exchange believes the amount of the ORF is fair and 
reasonably allocated because it is a closer approximation to the 
Exchange's actual costs in administering its regulatory program.
    The ORF would be collected indirectly from members through their 
clearing firms by OCC on behalf of the Exchange. The Exchange expects 
that member firms will pass-through the ORF to their customers in the 
same manner that firms pass-through to their customers the fees charged 
by Self Regulatory Organizations (``SROs'') to help the SROs meet their 
obligations under Section 31 of the Exchange Act.
    The ORF is designed to recover a material portion of the costs to 
the Exchange of the supervision and regulation of its members, 
including performing routine surveillances, investigations, as well as 
policy, rulemaking, interpretive and enforcement activities. The 
Exchange believes that revenue generated from the ORF, when combined 
with all of the Exchange's other regulatory fees, will cover 
substantially all of the Exchange's regulatory costs. At present, the 
total amount of regulatory fees collected by the Exchange is less than 
the regulatory costs incurred by the Exchange on an annual basis. RR 
Fees make up the largest part of the Exchange's total regulatory fee 
revenue. The Exchange generally does not charge customer transaction 
fees. The Exchange notes that its regulatory responsibilities with 
respect to member compliance with options sales practice rules have 
been allocated to FINRA under a 17d-2 agreement. The ORF is not 
designed to cover the cost of options sales practice regulation.
    The Exchange would monitor the amount of revenue collected from the 
ORF to ensure that it, in combination with its other regulatory fees 
and fines, does not exceed regulatory costs. The Exchange expects to 
monitor regulatory costs and revenues at a minimum on an annual basis. 
If the Exchange determines regulatory revenues exceed regulatory costs, 
the Exchange would adjust the ORF by submitting a fee change filing to 
the Commission. The Exchange would notify members of adjustments to the 
ORF via a Regulatory Information Circular.
    The Exchange believes the proposed ORF is equitably allocated 
because it would be charged to all members on all their customer 
options business. The Exchange believes the proposed ORF is reasonable 
because it will raise revenue related to the amount of customer options 
business conducted by members, and thus the amount of Exchange 
regulatory services those members will require, instead of how many 
registered representative a particular member employs.\9\
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    \9\ The Exchange expects that implementation of the proposed ORF 
will result generally in many traditional brokerage firms playing 
less regulatory fees while Internet and discount brokerage firms 
will pay more.
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    As a fully-electronic exchange without a trading floor, the amount 
of resources required by ISE to surveil non-customer trading activity 
is significantly less than the amount of resources the Exchange must 
dedicate to surveil customer trading activity. This is because 
surveilling customer trading activity is much more labor-intensive and 
requires greater expenditure of human and technical resources than 
surveilling non-customer trading activity, which tends to be more 
automated and less labor-intensive. As a result, the costs associated 
with administering the customer component of the Exchange's overall 
regulatory program are materially higher than the costs associated with 
administering the non-customer component (e.g., market maker) of its 
regulatory program.
    The Exchange believes it is reasonable and appropriate for the 
Exchange to charge the ORF for options transactions regardless of the 
exchange on which the transactions occur. The Exchange has a statutory 
obligation to enforce compliance by its members and their associated 
persons with the Exchange Act and the rules of the Exchange and to 
surveil for other manipulative conduct by market participants 
(including non-members) trading on the Exchange. The Exchange cannot 
effectively surveil for such conduct without looking at and evaluating 
activity across all options markets. Many of the Exchange's market 
surveillance programs require the Exchange to look at and evaluate 
activity across all options markets, such as surveillance for position 
limit violations, manipulation, frontrunning and contrary exercise 
advice violations.\10\ Also, ISE and the other options exchanges are 
required to populate a consolidated options audit trail (``COATS'') 
system in order to surveil member activities across markets.\11\
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    \10\ The Exchange and other options SROs are parties to a 17d-2 
agreement allocating among the SROs regulatory responsibilities 
relating to compliance by the common members with rules for expiring 
exercise declarations, position limits, OCC trade adjustments, and 
Large Option Position Report reviews. See Securities Exchange Act 
Release No. 56941 (December 11, 2007).
    \11\ COATS effectively enhances intermarket options surveillance 
by enabling the options exchanges to reconstruct the market promptly 
to effectively surveil certain rules.
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    In addition to its own surveillance programs, the Exchange works 
with other SROs and exchanges on intermarket surveillance related 
issues. Through its participation in the Intermarket Surveillance Group 
(``ISG''),\12\ the Exchange shares information and coordinates 
inquiries and investigations with other exchanges designed to address 
potential intermarket manipulation and trading abuses. The Exchange's 
participation in ISG helps it to satisfy the Exchange Act requirement 
that it have coordinated surveillance with markets on which security 
futures are traded and markets on which any security underlying 
security futures are traded to detect manipulation and insider 
trading.\13\
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    \12\ ISG is an industry organization formed in 1983 to 
coordinate intermarket surveillance among the SROs by cooperatively 
sharing regulatory information pursuant to a written agreement 
between the parties. The goal of the ISG's information sharing is to 
coordinate regulatory efforts to address potential intermarket 
trading abuses and manipulations.
    \13\ See Exchange Act Section 6(h)(3)(I).
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    The Exchange believes that charging the ORF across markets will 
avoid having members direct their trades to other markets in order to 
avoid the fee and to thereby avoid paying for their fair share of 
regulation. If the ORF did not apply to activity across markets then 
members would send their orders to the least cost, least regulated 
exchange. Other exchanges could impose a similar fee on their member's 
activity, including the activity of those members on ISE.\14\
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    \14\ The Exchange notes that the Chicago Board Options Exchange 
(``CBOE'') currently assesses an options regulatory fee similar to 
the one proposed herein, which fee is also assessed on the trading 
activity of a CBOE member on ISE.

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[[Page 67281]]

    The Exchange notes that there is established precedent for an SRO 
charging a fee across markets, namely, FINRA's Trading Activity Fee 
\15\ and the CBOE's ORF.\16\ While the Exchange does not have all the 
same regulatory responsibilities as FINRA, the Exchange believes that, 
like the CBOE, its broad regulatory responsibilities with respect to 
its members' activities, irrespective of where their transactions take 
place, supports a regulatory fee applicable to transactions on other 
markets. Unlike FINRA's Trading Activity Fee, the ORF would apply only 
to a member's customer options transactions.
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    \15\ See Securities Exchange Act Release No. 47946 (May 30, 
2003), 68 FR 34021 (June 6, 2003).
    \16\ See supra Note 1 [sic].
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    The Exchange has designated this proposal to be operative on 
January 1, 2010.
2. Statutory Basis
    The basis under the Securities Exchange Act of 1934 (the ``Exchange 
Act'') for this proposed rule change is the requirement under Section 
6(b)(4) that an exchange have an equitable allocation of reasonable 
dues, fees and other charges among its members and other persons using 
its facilities. The Exchange believes the ORF is objectively allocated 
to ISE members because it would be charged to all members on all their 
transactions that clear as customer at the OCC. Moreover, the Exchange 
believes the ORF ensures fairness by assessing higher fees to those 
member firms that require more Exchange regulatory services based on 
the amount of customer options business they conduct.
    The Commission has addressed the funding of an SRO's regulatory 
operations in the Concept Release Concerning Self-Regulation \17\ and 
the release on the Fair Administration and Governance of Self-
Regulatory Organizations.\18\ In the Concept Release, the Commission 
states that: ``Given the inherent tension between an SRO's role as a 
business and a regulator, there undoubtedly is a temptation for an SRO 
to fund the business side of its operations at the expense of 
regulation.'' \19\ In order to address this potential conflict, the 
Commission proposed in the Governance Release rules that would require 
an SRO to direct monies collected from regulatory fees, fines, or 
penalties exclusively to fund the regulatory operations and other 
programs of the SRO related to its regulatory responsibilities.\20\ The 
Exchange has designed the ORF to generate revenues that, when combined 
with all of the Exchange's other regulatory fees, will approximately be 
equal to the Exchange's regulatory costs, which is consistent with the 
Commission's view that regulatory fees be used for regulatory purposes 
and not to support the Exchange's business side.
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    \17\ See Securities Exchange Act Release No. 50700 (November 18, 
2004), 69 FR 71256 (December 8, 2004) (``Concept Release'').
    \18\ See Securities Exchange Act Release No. 50699 (November 18, 
2004), 69 FR 71126 (December 8, 2004) (``Governance Release'').
    \19\ Concept Release at 71268.
    \20\ Governance Release at 71142.
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The proposed rule change does not impose any burden on competition 
that is 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

    The Exchange has not solicited, and does not intend to solicit, 
comments on this proposed rule change. The Exchange has not received 
any unsolicited written comments from members or other interested 
parties.

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

    The foregoing rule change has become effective pursuant to Section 
19(b)(3)(A)(ii) of the Act \21\ and paragraph (f)(2) of Rule 19b-4 \22\ 
thereunder. At any time within 60 days of the filing of the proposed 
rule change, the Commission may summarily abrogate such rule change if 
it appears to the Commission that such action is necessary or 
appropriate in the public interest, for the protection of investors, or 
otherwise in furtherance of the purposes of the Act.
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    \21\ 15 U.S.C. 78s(b)(3)(A)(ii).
    \22\ 17 CFR 240.19b-4(f)(2).
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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-ISE-2009-105 on the subject line.

Paper Comments

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

All submissions should refer to File Number SR-ISE-2009-105. 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 the Exchange. All 
comments received will be posted without change; the Commission does 
not edit personal identifying information from submissions. You should 
submit only information that you wish to make available publicly. All 
submissions should refer to File No. SR-ISE-2009-105 and should be 
submitted on or before January 8, 2010.
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    \23\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\23\
Florence E. Harmon,
Deputy Secretary.
[FR Doc. E9-30083 Filed 12-17-09; 8:45 am]

BILLING CODE 8011-01-P