Document ID: SEC-2008-1750-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Financial Industry Regulatory Authority, Inc.
Posted Date: 2008-12-31T05:00Z

[Federal Register: December 31, 2008 (Volume 73, Number 251)]
[Notices]               
[Page 80482-80483]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr31de08-108]                         

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

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-59138; File No. SR-FINRA-2008-064]

 
Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Notice of Proposed Rule Change To Amend NASD 
Interpretive Material (IM) 2110-2 (Trading Ahead of Customer Limit 
Order)

December 22, 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 December 17, 2008, Financial Industry Regulatory Authority, Inc. 
(``FINRA'') (f/k/a National Association of Securities Dealers, Inc. 
(``NASD'')) filed with the Securities and Exchange Commission (``SEC'' 
or ``Commission'') the proposed rule change as described in Items I, 
II, and III below, which Items have been prepared by FINRA. 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

    FINRA is proposing to amend NASD Interpretive Material (IM) 2110-2 
(Trading Ahead of Customer Limit Order) to provide that, for the 
purpose of determining the minimum price improvement obligation where 
there is no published current inside spread, members may calculate a 
current inside spread by contacting and obtaining priced quotations 
from at least two unaffiliated dealers.
    The text of the proposed rule change is attached as Exhibit 5.\3\
---------------------------------------------------------------------------

    \3\ The Commission notes that Exhibit 5 is attached to the rule 
filing filed with the Commission but not to this release. The text 
of the proposed rule change is available at FINRA, on its Web site 
(http://www.finra.org), 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, 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
    NASD IM-2110-2 (commonly referred to as the ``Manning Rule'') 
generally prohibits a member from trading for its own account at prices 
that would satisfy a customer's limit order unless the member 
immediately thereafter executes the customer limit order at the price 
at which it traded for its own account or at a better price. The legal 
underpinnings for IM-2110-2 are a firm's basic fiduciary obligations 
under agency law and the requirement that it must, in the conduct of 
its business, ``observe high standards of commercial honor and just and 
equitable principles of trade.''
    On September 12, 2008, the SEC approved amendments to the minimum 
price-improvement standards in IM-2110-2 to provide tiered standards 
that vary according to the price of the customer limit order.\4\ The 
amendments became effective on November 11, 2008.\5\ Revised NASD IM-
2110-2 prescribes detailed minimum levels of price improvement that a 
member must provide in order to trade ahead of an unexecuted customer 
limit order without triggering the protections provided by the rule. In 
other words, the price-improvement standards in IM-2110-2 set forth the 
minimum amount by which a member must trade, in addition to the price 
of the customer buy limit order (or less than the price of a customer 
sell order), to avoid triggering the protections provided by IM-2110-2.
---------------------------------------------------------------------------

    \4\ See Securities Exchange Act Release No. 58532 (September 12, 
2008), 73 FR 54649 (September 22, 2008) (order approving SR-NASD-
2007-041).
    \5\ See Regulatory Notice 08-49 (September 2008).
---------------------------------------------------------------------------

    The minimum price improvement tiers are as follows:
    (1) For customer limit orders priced greater than or equal to 
$1.00, the minimum amount of price improvement required is $0.01 for 
NMS stocks and the lesser of $0.01 or one-half (\1/2\) of the current 
inside spread for OTC equity securities;
    (2) For customer limit orders priced greater than or equal to $.01 
and less than $1.00, the minimum amount of price improvement required 
is the lesser of $0.01 or one-half (\1/2\) of the current inside 
spread;
    (3) For customer limit orders priced less than $.01 but greater 
than or equal to $0.001, the minimum amount of price improvement 
required is the lesser of $0.001 or one-half (\1/2\) of the current 
inside spread;
    (4) For customer limit orders priced less than $.001 but greater 
than or equal to $0.0001, the minimum amount of price improvement 
required is the lesser of $0.0001 or one-half (\1/2\) of the current 
inside spread;
    (5) For customer limit orders priced less than $.0001 but greater 
than or equal to $0.00001, the minimum amount of price improvement 
required is the lesser of $0.00001 or one-half (\1/2\) of the current 
inside spread;
    (6) For customer limit orders priced less than $.00001, the minimum 
amount of price improvement required is the lesser of $0.000001 or one-
half (\1/2\) of the current inside spread; and
    (7) For customer limit orders priced outside the best inside 
market, the minimum amount of price improvement required must either 
meet the requirements set forth above or the member must trade at a 
price at or inside the best inside market for the security.
    Therefore, if a firm is holding a customer limit order to buy 
priced at $.75 and the applicable minimum price improvement standard is 
$.01, the firm would be permitted to buy at $.76 or

[[Page 80483]]

higher without triggering the requirements of IM-2110-2.
    The proposed rule change is being filed to provide members with an 
alternative method of calculating the minimum price improvement in 
cases where a member receives a limit order priced to sell an OTC 
equity security below $1.00 and there is no quoted market. The minimum 
price-improvement standards are either a fixed amount or one-half (\1/
2\) of the current inside spread. However, where there is no current 
inside spread, the minimum price-improvement standard defaults to the 
fixed amount which, in certain circumstances, can equal the price of 
the customer limit order. For example, where a member receives a 
customer limit order priced at $.01 and there is no current published 
inside spread, the minimum price-improvement standard would still be 
equal to $.01, which would require the member to sell at 0 ($.01 minus 
$.01) to avoid triggering the customer limit order. Thus, under the 
current rule, the member is effectively prohibited from selling while 
the customer limit order is pending. FINRA believes that this result is 
overly restrictive.
    Thus FINRA is proposing to amend IM-2110-2 to provide that, for the 
purpose of determining the minimum price improvement obligation where 
there is no published current inside spread, member firms may calculate 
a current inside spread by contacting and obtaining priced quotations 
from at least two unaffiliated dealers. FINRA believes that obtaining 
priced quotations from a minimum of two unaffiliated dealers provides 
an adequate proxy for an inside spread typically displayed for an OTC 
equity security, but members are free to contact more than two 
unaffiliated dealers. Once the member has obtained bid and ask prices 
from at least two unaffiliated dealers, the highest bid and lowest 
offer obtained must be used as the basis for calculating the current 
inside spread for purposes of determining the member's minimum price 
improvement obligation.
    Additionally, where there is a one-sided quote, the proposed rule 
change would permit a member to determine the current inside spread by 
using the best price obtained from at least two unaffiliated dealers on 
the other side of the quote. Members must document (1) the name of each 
dealer contacted and (2) the quotations received that were used as the 
basis for determining the current inside spread. The proposed rule 
change would apply solely to minimum price-improvement calculations 
under IM-2110-2 and would not implicate other rules or requirements 
(e.g., Three Quote Rule).
    The proposed rule change would address the unintended effective 
prohibition on selling while certain customer limit orders are pending 
by providing members with an alternative means of determining the 
inside spread for use as the basis for calculating its minimum price-
improvement obligation.
2. Statutory Basis
    FINRA believes that the proposed rule change is consistent with the 
provisions of Section 15A(b)(6) of the Act,\6\ 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 will 
address an unintended consequence of the minimum price-improvement 
standards set forth in IM-2110-2 while continuing to promote investor 
protection and improving the treatment of customer limit orders.
---------------------------------------------------------------------------

    \6\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

B. Self-Regulatory Organization's Statement on Burden on Competition

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

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

    Written comments were neither solicited nor received.

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

    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-2008-064 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-2008-064. This 
file number should be included on the subject line if e-mail is used. 
To help the Commission process and review your comments more 
efficiently, please use only one method. The Commission will post all 
comments on the Commission's Internet Web site (http://www.sec.gov/
rules/sro.shtml). Copies of the submission, all subsequent amendments, 
all written statements with respect to the proposed rule change that 
are filed with the Commission, and all written communications relating 
to the proposed rule change between the Commission and any person, 
other than those that may be withheld from the public in accordance 
with the provisions of 5 U.S.C. 552, will be available for inspection 
and copying in the Commission's Public Reference Room, 100 F Street, 
NE., Washington, DC 20549, on official business days between the hours 
of 10 a.m. and 3 p.m. Copies of the filing also will be available for 
inspection and copying at the principal office of 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-2008-064 and should be 
submitted on or before January 21, 2009.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\7\
---------------------------------------------------------------------------

    \7\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

Florence E. Harmon,
Acting Secretary.
 [FR Doc. E8-31051 Filed 12-30-08; 8:45 am]

BILLING CODE 8011-01-P