Document ID: SEC-2008-1023-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: New York Stock Exchange LLC
Posted Date: 2008-07-23T04:00Z

[Federal Register: July 23, 2008 (Volume 73, Number 142)]
[Notices]               
[Page 42853-42873]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr23jy08-86]                         

[[Page 42853]]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-58184; File No. SR-NYSE-2008-46]

 
Self-Regulatory Organizations; New York Stock Exchange, LLC; 
Notice of Filing of Proposed Rule Change, as Modified by Amendment No. 
1, To Create a New NYSE Market Model, With Certain Components To 
Operate as a One-Year Pilot That Will Provide Market Participants With 
Additional Abilities To Post Hidden Liquidity, Phase Out Specialists by 
Creating a Designated Market Maker, and Enhance the Speed of Execution 
Through Technological Enhancements

July 17, 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 12, 2008, the New York Stock Exchange, LLC (``NYSE'' or 
``Exchange'') 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 prepared by the Exchange. On July 
15, 2008, the Exchange filed Amendment No. 1 to the proposed rule 
change. The Commission is publishing this notice to solicit comments on 
the proposed rule change, as amended, from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes to establish a new market model (``New 
Model'') to: (i) Provide market participants with additional abilities 
to post hidden liquidity on Exchange systems; (ii) create a Designated 
Market Maker (``DMM''), and phase out the NYSE specialist; and (iii) 
enhance the speed of execution through technological enhancements and a 
reduction in message traffic between Exchange systems and its DMMs.

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

    In its filing with the Commission, NYSE included statements 
concerning the purpose of, and basis for, 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
    With this rule filing, the Exchange is proposing to transform its 
market structure and create the premier venue for price discovery, 
liquidity, competitive quotes and price improvement. The instant 
proposal is the core filing of a series of rule amendments \3\ 
submitted by the Exchange designed to move its market structure forward 
in a very dynamic and competitive marketplace. For example, in April 
2008, the Exchange expanded to all market participants the ability to 
enter both displayed and non-displayed (reserve) trading interest in 
NYSE's Display Book[supreg] (``Display Book''). Another important 
aspect of the New Model will be enhancements to technology that will 
greatly increase the speed of execution. The key elements of this 
filing are: (1) The Redefinition of the Role of the Specialist and (2) 
Priority and Parity.
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    \3\ See SR-NYSE-2008-45, filed with the Commission on June 11, 
2008 (proposal to amend NYSE Rule 98 to redefine Specialist 
Operations at the NYSE); see also e-mail from Deanna G.W. Logan, 
Associate General Counsel, NYSE to David Liu, Assistant Director, 
Division of Trading and Markets (``Division''), Commission, dated 
July 17, 2008 (making clarifying edits) (``July 17th e-mail'').
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    Historically, the specialist was responsible for execution of all 
orders coming into the Exchange, conducting auctions on the Floor, and 
for maintaining an orderly market in assigned securities. To assist in 
this function, the specialist had an order-by-order advance ``look'' at 
activity in the Display Book. When the Exchange implemented its NYSE 
HYBRID MARKET\SM\ (``Hybrid Market''),\4\ Exchange systems assumed the 
function of matching and executing orders entered electronically, 
although the specialist retained a first ``look'' at incoming orders. 
The proposed rules redesign the role of the specialist to reflect more 
accurately the market making function in the Hybrid Market environment 
by creating a new category of market participant, DMM, and to eliminate 
the ``specialist'' category.
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    \4\ See Securities Exchange Act Release No. 53539 (March 22, 
2006), 71 FR 16353 (March 31, 2006) (SR-NYSE-2004-05).
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    In the New Model, DMMs will no longer function (as the specialist 
did) as the ``broker-dealer of record'' for every order. The DMM will 
not ``hold'' orders. Like specialists today, DMMs will be able to 
generate orders through a DMM algorithm that interacts directly with 
the Display Book. However, in the New Model, DMMs will be able to 
commit additional liquidity in advance to fill incoming orders 
(``Capital Commitment Schedule'' or ``CCS''). The CCS will create a 
liquidity schedule at various price points where the DMM is willing to 
interact with interest and provide price improvement to orders in the 
Exchange's system.
    The DMM will have affirmative responsibilities to the Exchange's 
marketplace (including an obligation to provide quotes at the National 
Best Bid and Offer (``NBBO'')). Balancing that equation of increased 
market-making capabilities against affirmative responsibilities, the 
DMM will be given more freedom to manage trading risks associated with 
their responsibilities to the NYSE market.
    As part of the redesign of its market, the NYSE proposes to amend 
the logic related to share distribution among market participants 
having trading interest at a price point upon execution of incoming 
orders to create a model that rewards displayed orders that establish 
the NYSE's best bid or Exchange best offer (collectively ``Exchange 
BBO'' \5\). In the proposed New Model, orders or portions thereof that 
establish priority, as more fully described below, will retain that 
priority until the portion of the order that established priority is 
exhausted. Where no one order has established priority, shares will be 
distributed among all market participants on parity.
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    \5\ The term ``Exchange BBO'' refers to the best bid or the best 
offer on the NYSE. It should not be confused with the defined terms 
``national best bid'' and ``national best offer'' as defined in Rule 
600(b)(42) of Regulation NMS Rule 242.600(b)(42) under the Act.
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    In this filing, the Exchange first describes the market model as it 
currently exists and then describes the rules which implement the New 
Model and any other required conforming rule amendments.
    The NYSE intends to implement these changes in a phased approach 
during third and fourth quarters of 2008.

Current Exchange Market

(a) Overview and Background

    On March 22, 2006, the Commission approved amendments to Exchange 
rules to establish the Hybrid Market. The Hybrid Market integrates in 
one marketplace the best of both auction market and electronic trading. 
The goal of the Hybrid Market was to combine the benefits of specialist 
and Floor broker expertise with the speed,

[[Page 42854]]

certainty, and anonymity of electronic execution. It was designed to 
offer maximum choice to customers in how to execute orders, while 
preserving traditional trading procedures that historically served to 
provide stable, liquid, and less volatile markets.
    The Exchange continually reviews the operation of its market, 
changes in the behavior of market participants and the general 
environment of the securities markets in order to find ways to improve 
the quality and competitiveness of its market. As a result of this 
review, the Exchange introduced a number of enhancements to its Hybrid 
Market aimed at improving the trading experience for market 
participants.\6\
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    \6\ See generally Securities Exchange Act Release Nos. 56599 
(October 2, 2007), 72 FR 57622 (October 10, 2007) (SR-NYSE-2007-93) 
(amending NYSE Rules 70 and 104 to reduce the requirement that a 
Floor broker and specialist post 1,000 shares of displayed liquidity 
at the Exchange best bid or offer in order to use the reserve 
function); 56711 (October 26, 2007), 72 FR 62504 (November 5, 2007) 
(SR-NYSE-2007-83) (amendment to NYSE Rule 104.10 to extend the 
duration of the pilot program applicable to Conditional Transactions 
as defined in Rule 104.10 to March 31, 2008 and to remove the active 
securities limitation on Conditional Transactions); 56551 (September 
27, 2007), 72 FR 56415 (October 3, 2007) (SR-NYSE-2007-82) 
(amendments to NYSE Rule 124 to change the way in which the Exchange 
prices and executes odd-lot order); 56370 (September 6, 2007), 72 FR 
52188 (September 12, 2007) (SR-NYSE-2007-81) (amendment to NYSE Rule 
104 to remove required price parameters for a specialist to provide 
price improvement to an incoming order); 56209 (August 6, 2007), 72 
FR 45290 (August 13, 2007) (SR-NYSE-2007-65) (amendment to NYSE Rule 
79A.30 to remove the requirement to obtain Floor Official approval 
before trading more than one or two dollars away from the last 
sale); 56088 (July 18, 2007), 72 FR 40351 (SR-NYSE-2007-63) (July 
24, 2007) (amendment to NYSE Rule 92 to permit specialists to trade 
between the hours of 6 p.m. and 9:15 a.m. in any security in which 
the specialist is registered, notwithstanding any open customer 
orders on the Display Book); 55908 (June 14, 2007), 72 FR 34056 
(June 20, 2007) (SR-NYSE-2007-54) (amendments to NYSE Rules 54 and 
70 to allow member organizations to operate booth premises on the 
Exchange Floor similar to Upstairs offices); 54820 (November 27, 
2006), 71 FR 70824 (December 6, 2006) (SR-NYSE-2006-65) (amendment 
to clarify certain definitions and systematic processing of certain 
orders in the HybridMarket); and 54086 (June 30, 2006), 71 FR 38953 
(July 10, 2006) (SR-NYSE-2006-24) (amendment to NYSE Rule 104(d)(i) 
to conform the minimum display requirements for reserve interest for 
specialists and Floor brokers such that specialists, like Floor 
brokers, only be required to provide at least 1,000 shares displayed 
interest at the bid and offer in order to have reserve interest on 
that side of the quote).
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    Today on the Exchange, customers who want execution speed and 
certainty, with anonymity, can enter a variety of order types into 
Exchange systems that will result in immediate and automatic executions 
and/or price improvement for some or all of the order. Alternatively, 
customers who value Floor broker expertise in the handling of their 
orders can submit orders for execution in the traditional auction 
process and/or participate electronically in automatic executions 
through Floor broker agency interest files (``e-Quotes''). Specialists 
on the Floor, meanwhile, have been given tools with which to offer 
additional opportunities for price improvement; these tools include 
various targeted quoting or trading messages based on the state of the 
specialist's book and the market, including the ability to match better 
prices of away market centers. In this way, a customer sending his or 
her order to the Exchange today benefits from an expanded experience of 
execution opportunities.

(b) Exchange Systems

    All orders entered into Exchange systems are maintained in the 
Display Book. Autoquote is a part of the Display Book that immediately 
displays customer limit orders received on the Exchange.\7\ Autoquote 
immediately updates the Exchange BBO when a new order improves the 
Exchange quote.\8\ In addition, Autoquote updates the Exchange BBO when 
an execution occurs to reflect a new Exchange BBO based on the orders 
contained in the Display Book. Pursuant to Exchange Rule 60, Autoquote 
is suspended when: (1) The specialist manually reports a block size 
transaction that involves orders in the Display Book system; (2) the 
specialist gaps the quote; \9\ or (3) when a Liquidity Replenishment 
Point (``LRP'') is reached.\10\ When Autoquote is suspended due to a 
manual report of a block trade that involves orders in the Display 
Book,\11\ Autoquote resumes when the manual reporting is concluded.\12\ 
When Autoquote is suspended following a gap quote, Autoquote resumes 
upon the report of a manual transaction or the publication of a non-
gapped quotation.\13\ When Autoquote is suspended because an LRP has 
been reached, it resumes in no more than five seconds after the LRP is 
reached.\14\ If the order that triggers the LRP is capable of trading 
at a price beyond the LRP price, and would not create a locked or 
crossed market if quoted, then Autoquote resumes upon the report of a 
manual transaction or the publication of a new quote by the specialist, 
but in any event in no more than ten seconds.\15\ Finally, if the order 
is capable of trading at a price beyond the LRP price but would create 
a locked or crossed market if quoted, then Autoquote would resume upon 
a manual transaction or the publication of a new quote by the 
specialist.\16\
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    \7\ This system was developed to facilitate specialists' 
compliance with the Commission's Limit Order Display Rule. See 17 
CFR 242.604.
    \8\ See NYSE Rule 60(e).
    \9\ A specialist could cause a non-auto-executable quote by 
gapping the quotation due to an order imbalance in accordance with 
the policies and procedures of the Exchange. Gap quotes are used to 
signal an imbalance so as to attract contra-side liquidity in an 
attempt to mitigate volatility. The size of an imbalance suitable 
for gapped quoting is at least 10,000 shares or a quantity of stock 
having a value of $200,000 or more, although depending on the 
trading characteristics of the security, the appropriate conditions 
for gapped quoting could be higher. See NYSE Information Memo 04-27 
(June 9, 2004). When the quotation is gapped, automatic executions 
and Autoquote would be suspended, and the NYSE quote would be 
identified as non-firm. Incoming orders and cancellations update the 
Book electronically. Once a trade occurs or a non-gapped quote is 
published, Autoquote and automatic execution resume.
    \10\ LRPs are pre-determined price points that function as 
``speed bumps'' to moderate volatility in a particular security, 
improve price continuity, and foster market quality by temporarily 
converting the electronic market to an auction market and permitting 
new orders, the Crowd, or the specialist, to add liquidity. See also 
NYSE Rules 60(e)(i) and 1000(a)(iv).
    \11\ See NYSE Rule 1000(a)(v).
    \12\ See NYSE Rule 60(e)(ii)(B).
    \13\ See NYSE Rule 60(e)(ii)(A).
    \14\ See NYSE Rule 60(e)(ii)(C).
    \15\ See id.
    \16\ See id.
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    During the brief moment it takes a specialist to manually report a 
transaction in a security, Autoquoting of the highest bid/lowest offer 
is suspended in that stock.\17\ In addition, during that same period of 
time, automatic executions against the interest that is published in 
the NYSE quote at the Exchange BBO (``displayed'') are not 
available.\18\ After the specialist has completed the report of the 
transaction, Autoquote will resume immediately,\19\ and the NYSE 
quotation will similarly again be available for automatic 
executions.\20\
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    \17\ See NYSE Rule 60(e)(i)(B).
    \18\ See NYSE Rule 1000(a)(v).
    \19\ See NYSE Rule 60(e)(ii)(B).
    \20\ See NYSE Rule 1000(b).
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    Currently all orders, except orders entered in securities that the 
Exchange has designated as manually traded securities, entered into 
Exchange systems \21\ are eligible for automatic and immediate 
execution. The maximum order size eligible for automatic execution is 
one million shares.
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    \21\ There still remain certain securities traded on the 
Exchange that are not designated to participate in automatic 
execution pursuant to NYSE Rule.
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    The Display Book is the Exchange's order execution system for round 
lot orders \22\ entered on the Exchange by

[[Page 42855]]

participants. Display Book maintains a separate volume category for 
Floor broker's interest, Off-Floor participant's (``Off-Floor'') 
interest and specialist's interest.
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    \22\ Currently, odd-lot orders do not enter the Exchange's 
auction market but are executed systemically by Exchange systems 
designated solely for odd-lot orders (the ``odd-lot System''). The 
odd-lot System executes all odd-lot orders against the specialist as 
the contra party. See NYSE Rule 124.
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    Incoming marketable limit orders and market orders automatically 
execute to the extent possible at the NBBO and then, if there is 
insufficient liquidity available at the bid or offer, the remainder of 
the order will execute automatically against available liquidity at 
each price point (i.e., below the bid in the case of an order to sell 
or above the offer in the case of an order to buy) in one continuous 
transaction (``sweep''). The sweep ends when the order has reached its 
total cumulative quantity, its limit price or when it hits an 
intervening LRP. Posted liquidity, reserve liquidity, convert and 
parity (``CAP'') liquidity, and specialist liquidity at each price 
point are all liquidity available to execute against an order during a 
sweep.

(c) Market Participants

(1) Specialists
    A NYSE specialist is a market professional who manages the two-way 
auction market trading in the specific securities he or she has been 
assigned. He or she works for a specialist unit, which is an 
independent company in the business of trading listed securities. The 
specialist serves as the ``responsible broker or dealer'' on the 
Exchange as that term is defined in Rule 600 of Regulation National 
Market System (``Reg. NMS'').\23\ Pursuant to section (a)(2) of Rule 
602,\24\ when NYSE Rule 60 was adopted, the specialist responsible for 
each security available for quotation on the Exchange was designated as 
the responsible broker or dealer.\25\ The specialist as designated 
responsible broker or dealer is responsible, with respect to each 
reported security, to collect all bids and offers, determine the 
highest bid and lowest offer and quote and otherwise communicate to the 
quotation vendors the same along with the quotation size for each 
security.\26\
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    \23\ See 17 CFR 242.600(a)(65)(i), which states that responsible 
broker or dealer means, ``when used with respect to bid or offers 
communicated on a national securities exchange, any member on such 
national securities exchange who communicates to another member on 
such national securities exchange, at the location (or locations) or 
through the facility or facilities designated by such national 
securities exchange for trading in an NMS security a bid or offer 
for such NMS security, as either principal or agent; provided, 
however, that, in the event two or more members of a national 
securities exchange have communicated on or through such national 
securities exchange bid or offers for an NMS security at the same 
price, each such member shall be considered a responsible broker or 
dealer for that bid or offer, subject to the rules of priority and 
precedence then in effect on that national securities exchange; and 
further provided, that for a bid or offer which is transmitted from 
one member of a national securities exchange to another member who 
undertakes to represent such bid or offer on such national 
securities exchange as agent, only the last member who undertakes to 
represent such bid or offer as agent shall be considered the 
responsible broker or dealer for that bid or offer. * * *'' See also 
NYSE Rule 60.
    \24\ See 17 CFR 242.602(a)(2).
    \25\ See NYSE Rule 60(a)(2), which provides that the ``term 
`responsible broker or dealer' shall mean, with respect to any bid 
or offer for any reported security made available by the Exchange to 
quotation vendors, the specialist in such reported security, who 
shall be the responsible broker or dealer to the extent of the 
quotation size he specifies.''
    \26\ See NYSE Rule 60(c) and 17 CFR 242.602(b)(1). Today, these 
functions are done by the Exchange Autoquote system.
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    In addition to being the responsible broker dealer, NYSE Rule 104 
governs specialist dealings in the market. Specialists' transactions 
for their own account are subject to specific expectations of 
performance. These include a specialist's affirmative and negative 
obligations. Pursuant to these obligations, specialists have a duty to 
ensure that their principal transactions are designed to contribute to 
the maintenance of price continuity with reasonable depth.
    The affirmative obligation requires a registered specialist to 
maintain adequate minimum capital based on his or her registered 
securities and use said capital to engage in a course of dealings for 
his or her own account to assist in the maintenance, so far as 
practicable, of a fair and orderly market.\27\ Thus pursuant to the 
affirmative obligations, registered dealers on primary exchanges are 
required to commit the dealer's capital in their registered securities 
in order to maintain a fair and orderly market.
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    \27\ See 17 CFR 240.11b-1.
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    The negative obligation, which is part of NYSE Rule 104, requires 
that specialists allow public orders to be executed against each other 
without undue dealer intervention and that specialists not deal in a 
manner that is inconsistent with the overall objective of maintaining a 
fair and orderly market. Specifically, NYSE Rule 104(a) provides:

    No specialist shall effect on the Exchange purchases or sales of 
any security in which such specialist is registered, for any account 
in which he, his member organization or any other member, allied 
member, or approved person, (unless an exemption with respect to 
such approved person is in effect pursuant to Rule 98) in such 
organization or officer or employee thereof is directly or 
indirectly interested, unless such dealings are reasonably necessary 
to permit such specialist to maintain a fair and orderly market, or 
to act as an odd-lot dealer in such security.

    To assist specialists in meeting their obligations, they have the 
ability to manually and systematically place in a separate file 
(``specialist interest file'' or ``s-Quotes'') within the Display Book 
system their dealer interest at prices at or outside the Exchange 
BBO.\28\ Specialists further have the ability to maintain reserve 
interest on behalf of their dealer accounts at the Exchange BBO, 
provided that they display at least one round lot at that price on the 
same side of the market as the reserve.\29\ After an execution against 
a specialist's displayed bid (offer), if the specialist has reserve 
interest remaining at that bid (offer), the amount of displayed 
interest is automatically replenished from the specialist's reserve 
interest, if any, so that at least one round lot of specialist interest 
is displayed.\30\ Specialist interest at the Exchange BBO is included 
in the Exchange quote; displayable specialist interest away from the 
Exchange BBO is currently included in NYSE OpenBook[supreg] 
(``OpenBook'').\31\
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    \28\ See NYSE Rules 104(b)(i) and 104(c)(viii).
    \29\ See NYSE Rule 104(d)(i). When discussed herein, the term 
``displayable'' shall mean that portion of non-marketable interest 
that would be published as, or as part of, the Exchange BBO. The 
term ``displayed interest'' includes that part of an order that is 
published as, or as part of, the Exchange BBO.
    \30\ See NYSE Rule 104(d)(ii).
    \31\ OpenBook is a compilation of limit order data for all NYSE 
traded securities that the Exchange provides to market data vendors, 
broker-dealers, private network providers, and other entities 
through a data feed. See Securities Exchange Act Release No. 44138 
(December 7, 2001), 66 FR 64895 (December 14, 2001) (SR-NYSE-2001-
42). See also July 17th e-mail, supra note 3.
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    Further, in their capacity as dealer for their assigned securities, 
specialists maintain systems that use proprietary algorithms, based on 
predetermined parameters, to electronically participate in the Exchange 
electronic market (``Specialist Algorithm''). The Specialist Algorithm 
communicates with the Display Book system via an Exchange-owned 
external application programming interface (``API''). The Specialist 
Algorithm is intended to replicate electronically some of the 
activities specialists are permitted to engage in on the Floor in the 
auction market, and to facilitate specialists' ability to fulfill their 
obligations to maintain a fair and orderly market.
    The Specialist Algorithm receives information via the API, 
including information about orders entering NYSE systems, before that 
information is

[[Page 42856]]

available to other market participants.\32\ NYSE systems enforce the 
proper sequencing of incoming orders and algorithmically-generated 
messages.\33\ The Specialist Algorithm and the specialists on the Floor 
do not have the ability to affect the arrival of orders at the Display 
Book system, or the sequence in which orders and algorithmically-
generated messages are processed by the Display Book system.\34\ The 
Specialist Algorithm, however, is able to generate certain specified 
quoting and trading messages based on the information it receives 
through the API. Once an algorithmic message has been generated, it 
cannot be stopped, changed, or cancelled on its way to the Display Book 
system.
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    \32\ The Specialist Algorithm has access to the following 
information: (1) Specialist dealer position; (2) quotes; (3) 
information about orders in the Display Book system such as limit 
orders, percentage orders (``state of the book''); (4) any publicly 
available information the specialist firm chooses to supply to the 
algorithm, such as the Consolidated Quote stream; and (5) incoming 
orders as they are entering NYSE systems. The Specialist Algorithm 
does not have access to: (1) Information identifying the firms 
entering orders, customer information, or an order's clearing 
broker; (2) floor broker agency interest files or aggregate floor 
broker agency interest available at each price; or (3) order 
cancellations, except for cancel and replace orders. See NYSE Rule 
104(c)(ii).
    \33\ See NYSE Rule 104(b)(iii)(A).
    \34\ See NYSE Rule 104(b)(iii)(B).
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    The Display Book system does not accept algorithmically-generated 
messages from the Specialist Algorithm when automatic executions are 
unavailable, except in certain specified situations.\35\ Specifically, 
when automatic executions are suspended, but Autoquote is active, the 
Display Book system accepts algorithmically-generated messages from the 
Specialist Algorithm to generate a bid or offer that improves the 
Exchange BBO or supplements the size of the existing BBO.\36\
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    \35\ See NYSE Rule 104(c)(vi).
    \36\ See NYSE Rule 104(c)(vi)(i).
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    In addition, when Autoquote and automatic executions are suspended, 
the Display Book system: (1) Processes algorithmically-generated 
messages to layer specialist interest outside the published Exchange 
quotation; and (2) permits specialists to manually layer specialist 
interest at prices within a previously established locking or crossing 
quotation.\37\
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    \37\ See NYSE Rule 104(c)(vi)(ii).
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    Display Book does not process algorithmically-generated messages 
from the Specialist Algorithm during the time a block size transaction 
involving orders in the Display Book system is being manually 
reported.\38\ Algorithmically-generated messages are systemically 
blocked from creating a locked or crossed market \39\ and would have to 
comply with all Commission and NYSE rules, policies and procedures 
governing specialist proprietary trading.\40\
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    \38\ See NYSE Rule 104(c)(v).
    \39\ See NYSE Rule 104(c)(iv).
    \40\ See NYSE Rule 104(c)(iii).
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    In general, specialists can generate two categories of messages: 
quoting messages and trading messages. Quoting messages allow the 
Specialist Algorithm to: (1) Supplement the size of the existing 
Exchange BBO; (2) place within the Display Book system specialist 
reserve interest at the Exchange BBO; \41\ (3) layer within the Display 
Book system specialist interest at varying prices outside the Exchange 
BBO; (4) establish the Exchange BBO; and (5) withdraw previously 
established specialist interest at the Exchange BBO.\42\ Quoting 
messages do not interact with the order that preceded it. In addition, 
specialists are systemically blocked from generating a quoting message 
that moves their quote away from the inside market only until after the 
order it is reacting to is processed.
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    \41\ See NYSE Rule 104(d).
    \42\ See NYSE Rule 104(b)(i)(A)-(E).
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    Trading messages allow the specialist to: (1) Provide ``additional 
specialist volume'' to partially or completely fill an order at the 
Exchange BBO or at a sweep price; (2) match better bids and offers 
published by other market centers where automatic executions are 
immediately available; (3) provide price improvement to an order, 
subject to the conditions outlined below; and (4) trade with the 
Exchange published quotation--that is, ``hit bids'' or ``take offers.'' 
\43\ Trading messages generated in response to an incoming order do not 
guarantee that the specialist interacts with that order or that the 
specialist has priority in trading with that order.\44\ Specialist 
interest may not trade with the order identified by the algorithmic 
message because the specialist's message did not arrive at the Display 
Book in time or the specialist has to yield to off-Floor orders in 
Display Book which cancels the specialist interest.\45\ Moreover, even 
when the specialist sets the NBBO and no off-Floor interest is present, 
a specialist may still not receive priority because of an intervening 
Floor clearing event which causes the specialist to lose priority.\46\
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    \43\ See NYSE Rule 104(b)(i)(F)-(I).
    \44\ See NYSE Rule 104(c)(i)(C).
    \45\ See NYSE Rule 104(c)(i)(D).
    \46\ A Floor clearing event is any intervening transaction or an 
update of the NYSE quote.
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    The Specialist Algorithm further allows the specialists, on behalf 
of their dealer accounts, to electronically provide price improvement 
to all or part of a marketable incoming order provided the specialist 
is represented in a ``meaningful amount'' \47\ in the bid with respect 
to price improvement provided to an incoming sell order, or in the 
offer with respect to price improvement provided to an incoming buy 
order. Price improvement by the specialist benefits the incoming order 
and CAP-DI orders \48\ entered on the Exchange because marketable CAP-
DI orders are systemically converted to allow these orders to 
participate on parity with the specialist when the specialist is price 
improving an incoming order.\49\
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    \47\ See NYSE Rule 104(e)(ii) which provides that ``meaningful 
amount'' shall constitute at least ten round-lots for the 100 most 
active securities on the Exchange, based on average daily volume, 
and at least five round-lots for all other securities on the 
Exchange. A list of the 100 most active securities on the Exchange 
is disseminated quarterly, or more frequently, as determined by the 
Exchange. Specialists cannot provide price improvement to an 
incoming order that is not marketable (i.e., those orders that would 
establish a new best bid or best offer), and the specialist cannot 
trade with such an order until the new bid or offer is publicly 
disseminated.
    \48\ This type of CAP order provides that the elected or 
converted portion of the percentage order that is convertible on a 
destabilizing tick and designated immediate execution or cancel 
election. See NYSE Rules 13 and 123A.30(a).
    \49\ See NYSE Rule 123A.30(a)(iii).
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    Specialists' messages to trade with the Exchange published quote 
must include information that indicates the quote has been publicly 
disseminated.\50\ In addition, to ensure that a specialist's 
algorithmic message to trade with the Exchange published quotation does 
not possess any speed advantage in reaching the Display Book system, 
Exchange systems process such messages in a manner that gives 
specialists and other market participants a similar opportunity to 
trade with the Exchange's published quotation, by delaying the 
processing of this type of trading message from the Specialist 
Algorithm.\51\
---------------------------------------------------------------------------

    \50\ See NYSE Rule 104(c)(i)(A).
    \51\ See NYSE Rule 104(b)(iii)(B). Based upon the average 
transit time from the Common Message Switch (``CMS'') system to the 
Display Book system, the Exchange determines the appropriate amount 
of time to delay the processing of algorithmic messages to trade 
with the Exchange published quotation. The delay parameter is 
adjusted periodically to account for changes to the average transit 
time resulting from capacity and other upgrades to Exchange systems.
---------------------------------------------------------------------------

    In addition to systemic restraints on the specialist's ability to 
trade with the published bid and offer, the specialist is required 
pursuant to NYSE Rule 104 to re-enter liquidity on the opposite side of 
the market when he or she effects a transaction for their own account 
to

[[Page 42857]]

establish or increase a position and reaches across the market to trade 
as the contra-side to the Exchange published bid or offer 
(``Conditional Transaction'').
    Conditional Transactions may have additional re-entry obligations 
pursuant to the rule. Specifically, pursuant to NYSE Rule 
104.10(6)(iii), ``appropriate'' re-entry means ``re-entry on the 
opposite side of the market at or before the price participation point 
or the `PPP.' '' \52\ Depending on the type of Conditional Transaction, 
a specialist's obligation to re-enter may be immediate or subject to 
the same re-entry conditions of Non-Conditional Transactions. \53\
---------------------------------------------------------------------------

    \52\ NSYE Rule 104.10(6)(iii)(a) provides that the PPP 
identifies the price at or before which a specialist is expected to 
re-enter the market after effecting a Conditional Transaction. PPPs 
are only minimum guidelines and compliance with them does not 
guarantee that a specialist is meeting its obligations.
    \53\ NYSE Rule 104.10(6)(iii)(c) requires immediate re-entry 
following a Conditional Transaction that is:
    (I) A purchase that (1) reaches across the market to trade with 
an Exchange published offer that is above the last differently 
priced trade on the Exchange and above the last differently priced 
published offer on the Exchange, (2) is 10,000 shares or more or has 
a market value of $200,000 or more, and (3) exceeds 50% of the 
published offer size.
    (II) A sale that (1) reaches across the market to trade with an 
Exchange published bid that is below the last differently priced 
trade on the Exchange and below the last differently priced 
published bid on the Exchange, (2) is 10,000 shares or more or has a 
market value of $200,000 or more, and (3) exceeds 50% of the 
published bid size.
    (III) Each trade at a separate price in a Sweep is viewed as a 
transaction with the published bid or offer for the purpose of 
subparagraphs (6)(iii)(c)(I) and (6)(iii)(c)(II) above.
---------------------------------------------------------------------------

    Pursuant to current NYSE Rule 104.10(6)(iv) Conditional 
Transactions that involve:
    (a) A specialist's purchase from the Exchange published offer that 
is priced above the last differently-priced trade on the Exchange or 
above the last differently-priced published offer on the Exchange; and
    (b) A specialist's sale to the Exchange published bid that is 
priced below the last differently-priced trade on the Exchange or below 
the last differently-priced published bid on the Exchange.
    (c) Re-entry obligations following transactions defined in 
subparagraphs (6)(iv)(a) and (6)(iv)(b) above are the same as for Non-
Conditional Transactions pursuant to subparagraph (5)(i)(a)(II)(c) 
above.

    NYSE Rule 104.10 (5)(i)(a)(II)(c) provides:
    Re-entry Obligation Following Non-Conditional Transactions--The 
specialist's obligation to maintain a fair and orderly market may 
require re-entry on the opposite side of the market trend after 
effecting one or more Non-Conditional Transactions. Such re-entry 
transactions should be commensurate with the size of the Non-
Conditional Transactions and the immediate and anticipated needs of the 
market.
(2) Floor Brokers
    Floor brokers are individuals that execute orders to buy or sell 
securities on behalf of a customer pursuant to instructions provided by 
the customer. Sometimes a Floor broker may represent his or her firm's 
proprietary account.\54\
---------------------------------------------------------------------------

    \54\ NYSE Rule 112, entitled ``Orders initiated `Off the Floor' 
'' is one of the Exchange rules codifying the provisions of Section 
11(a) of the Act and Commission Rule 11a-1 promulgated thereunder. 
In substance, these rules provide that no member or member 
organization, while on ``the Floor'' of the Exchange, may initiate a 
transaction in any security admitted to trading on the Exchange for 
an account in which they have a beneficial interest or over which 
they are entitled to exercise discretion, unless subject to an 
exception. The purpose of this rule and the securities laws upon 
which it is based is to eliminate the advantage at the point of sale 
that member organizations traditionally have been deemed to have 
possessed by virtue of their presence on the trading floor and 
adjacent surroundings. See also Exchange Rules 90 and 108.
---------------------------------------------------------------------------

(A) Floor Broker Interest
    Floor brokers are permitted to represent electronically the orders 
they hold by including these orders in a separate file (``Floor broker 
agency interest file,'' also referred to as ``e-QuotesSM'') 
within the Display Book system at multiple price points on either side 
of the market.\55\ e-Quotes enable Floor brokers' customer interest to 
participate in automatic executions at the Exchange BBO and in sweeps. 
Floor brokers are permitted to place liquidity electronically at or 
outside the Exchange BBO. Floor brokers are not permitted to enter in 
the Floor broker agency interest files any interest that restricts the 
specialist's ability to trade on parity with the Floor broker agency 
interest file.\56\
---------------------------------------------------------------------------

    \55\ See NYSE Rule 70.20(a)(i).
    \56\ See NYSE Rule 70.20(a)(i) and NYSE Rule 108(a). Parity 
describes an equal allotment, so far as practicable, of shares among 
the participants eligible to participate in an execution.
---------------------------------------------------------------------------

    Floor broker agency interest placed in the Display Book becomes 
part of the quotation when the price point is at or becomes the 
Exchange BBO. All floor broker agency interest files in the Display 
Book system at the same price and on the same side of the market are on 
parity. However, an e-Quote that establishes the Exchange BBO is 
entitled to priority.\57\ No Floor broker agency interest placed within 
files in the Display Book system is entitled to precedence based on 
size.\58\ Floor broker agency interest within the Display Book can be 
automatically executed pursuant to Exchange Rules 1000-1004.\59\
---------------------------------------------------------------------------

    \57\ See NYSE Rule 70.20(b). Priority describes the entitlement 
to receive an allotment of shares before other executable interest 
at the price point for one trade because the bid (offer) established 
the Exchange BBO. A specialist bid or offer entitled to priority 
must yield to Off-Floor participant limit orders on the Display Book 
at the same price. In manual executions, an order may also be 
entitled to receive an allotment of shares when that order is for a 
number of shares greater than all other interest eligible to be 
executed at the price. In those instances, the order has precedence 
and may be executed before other executable interest at the price 
point. See NYSE Rule 72(d).
    \58\ Id.
    \59\ See NYSE Rule 70.20(c)(i).
---------------------------------------------------------------------------

    Floor brokers also maintain non-displayed interest (reserve) at the 
Exchange BBO provided that a minimum of one round lot \60\ of the Floor 
broker's agency interest is displayed at that price.\61\ If an 
execution at the Exchange BBO does not completely execute the Floor 
broker's interest at that price, the displayed interest is 
automatically replenished from the Floor broker's reserve interest, if 
any, so that at least one round lot is displayed.\62\ The Floor broker 
reserve interest is not included in the NYSE quote. Floor broker agency 
interest away from the BBO is not displayed in Open Book or other 
Exchange data distribution channels. In order for Floor brokers' 
reserve interest not to be visible to the specialists, a Floor broker 
must designate his or her reserve interest as ``Do Not Display'' 
(``DND'') interest.
---------------------------------------------------------------------------

    \60\ Generally, one round lot is 100 shares; however, there are 
securities on the Exchange that have units of trading of less than 
100 shares.
    \61\ See NYSE Rule 70.20(c)(ii).
    \62\ See NYSE Rule 70.20(c)(iii).
---------------------------------------------------------------------------

    An incoming automatically-executing order will trade first with the 
displayed bid (offer). Where there is insufficient displayed volume to 
fill the order, it will trade next with a Reserve Order and Floor 
broker reserve interest, if any, and then any specialist reserve 
interest as more fully discussed below.\63\
---------------------------------------------------------------------------

    \63\ See NYSE Rule 70.20(c)(iv).
---------------------------------------------------------------------------

    Floor broker agency interest participates in the opening and 
closing trades subject to Exchange rules.\64\ Specialists are able to 
see the aggregate number of shares of all Floor broker agency interest 
files at each price.\65\ A Floor broker may exclude all of his or her 
Floor broker agency interest from the aggregate information available 
to the specialist.\66\
---------------------------------------------------------------------------

    \64\ See NYSE Rule 70.20(j)(i) and (ii).
    \65\ See NYSE Rule 70.20(g).
    \66\ See id.
---------------------------------------------------------------------------

    Floor broker agency interest excluded from the aggregated Floor 
broker agency interest information available to the specialist 
participates in automatic and manual executions.\67\ Exchange systems

[[Page 42858]]

include such excluded interest in the aggregated agency interest 
displayed to the specialist only during the execution of a manual 
trade. This information is maintained in the template used by a 
specialist to execute trades in the Display Book. As such, aggregate 
Floor broker agency interest visible to the specialist will include 
agency interest designated to be excluded from the aggregate Floor 
broker agency interest file. Consequently, NYSE Rule 70.20 \68\ 
prohibits specialists, trading assistants and anyone acting on their 
behalf from using the Display Book to access information about Floor 
broker agency interest excluded from the aggregated agency interest 
other than in situations where there is a reasonable expectation on the 
part of such specialist, trading assistant or other person acting on 
their behalf that a transaction will take place imminently for which 
such agency interest information is necessary to effect such 
transaction.\69\
---------------------------------------------------------------------------

    \67\ See NYSE Rule 70.20(h).
    \68\ See NYSE Rule 70.20(h)(ii).
    \69\ A pattern and practice of specialists' accessing reserve 
order information without trading may constitute a violation of NYSE 
Rule 70.20.
---------------------------------------------------------------------------

    Floor brokers may also provide discretionary instructions for e-
Quotes related to price and size (i.e., the number of shares to which 
the discretionary price instructions apply) (``discretionary e-Quotes'' 
or ``d-Quotes''). The discretion is used, as necessary, to initiate or 
participate in a trade with an incoming order capable of trading at a 
price within the discretionary range.\70\
---------------------------------------------------------------------------

    \70\ See NYSE Rule 70.25(a)(i).
---------------------------------------------------------------------------

    Discretionary instructions are applicable only to automatic 
executions; they cannot be utilized in manual transactions and they are 
not applicable to opening and closing transactions.\71\ Discretionary 
instructions may be entered for all e-Quotes; however, these 
instructions are active only when the e-Quote is at or would establish 
the BBO.\72\ Discretionary instructions will be applied only if all d-
Quoting prerequisites are met. Otherwise, the d-Quote will be handled 
as a regular e-Quote, notwithstanding the fact that the Floor broker 
has designated the e-Quote as a d-Quote.\73\ Discretionary instructions 
apply to displayed and reserve size, including reserve interest that is 
excluded from the aggregate volume visible to the specialist on the 
Floor.\74\ The specialist on the Floor and the specialist system 
employing algorithms are both unable to access the discretionary 
instructions entered by Floor brokers with respect to their d-
Quotes.\75\
---------------------------------------------------------------------------

    \71\ See NYSE Rule 70.25(a)(iii).
    \72\ See NYSE Rule 70.25(a)(ii).
    \73\ See NYSE Rule 70.25 (a)(iv).
    \74\ See NYSE Rule 70.25(a)(vii).
    \75\ See NYSE Rule 70.25(a)(viii).
---------------------------------------------------------------------------

(B) Price Discretion
    Discretionary instructions as to price allow Floor brokers to set a 
price range \76\ within which the Floor broker is willing to initiate 
or participate in a trade. The price range must be included on any d-
Quote. Therefore, if the price discretion is set for only a portion of 
the d-Quote, the residual will be treated as an e-Quote.\77\ Executions 
of d-Quotes employing price discretion trade first from reserve volume, 
if any, and then from displayed volume.\78\
---------------------------------------------------------------------------

    \76\ See NYSE Rule 70.25(b)(i). The minimum price range for a d-
Quote is the minimum price variation set forth in NYSE Rule 62.
    \77\ See NYSE Rule 70.25(b)(iii).
    \78\ See NYSE Rule 70.25(b)(iv).
---------------------------------------------------------------------------

(C) Size Discretion
    Floor brokers may designate the amount of the e-Quote volume to 
which price discretion applies.\79\ For example, a Floor broker may 
specify that only 20,000 shares of a 50,000-share e-Quote employ price 
discretion. The remaining 30,000-shares are handled as a regular e-
Quote, i.e., one without discretionary price instructions. This allows 
for more specific order management.
---------------------------------------------------------------------------

    \79\ See NYSE Rule 70.25(c)(i).
---------------------------------------------------------------------------

    A Floor broker may set a minimum and/or maximum size limit with 
respect to the size of the contra-side interest with which it is 
willing to trade using price discretion.\80\ Exchange systems will 
review NYSE published or quoted contra-side volume only in considering 
whether the volume is within the d-Quote's discretionary volume range. 
This prevents the d-Quote from trading with opposite side interest that 
the Floor broker has judged to be too little or too great in the 
context of the order or orders he or she is managing. Reserve and other 
interest at the possible execution price is not considered by Exchange 
systems.\81\ Interest displayed by other market centers at the price at 
which a d-Quote may trade is not considered when determining whether 
the minimum volume range is met, unless the Floor broker electronically 
designates that such away volume should be included in the 
determination.\82\ An increase or reduction in the size associated with 
a particular price that brings the contra-side volume within a d-
Quote's minimum or maximum discretionary size parameter, will trigger 
an execution of that d-Quote.\83\ Once the total amount of a Floor 
broker's discretionary volume has been executed, the remainder of the 
e-Quote may not employ price discretion when trading.\84\
---------------------------------------------------------------------------

    \80\ See NYSE Rule 70.25(c)(ii).
    \81\ See NYSE Rule 70.25(c)(iii).
    \82\ See NYSE Rule 70.25(c)(iv).
    \83\ See NYSE Rule 70.25(c)(v).
    \84\ See NYSE Rule 70.25(c)(vi).
---------------------------------------------------------------------------

(D) Discretionary Executions
    The goal of discretionary instructions for e-Quotes is to secure 
the largest execution for the d-Quote, using the least amount of price 
discretion. Thus, d-Quotes may often improve the execution price of 
incoming orders. Conversely, if no discretion is necessary to 
accomplish a trade, none will be used.\85\ d-Quotes automatically 
execute against an incoming contra-side order if the order's price is 
within the discretionary price range and meets any size requirements 
that have been set for the d-Quote.\86\
---------------------------------------------------------------------------

    \85\ See NYSE Rule 70.25(d)(i).
    \86\ See NYSE Rule 70.25(d)(i)(A)(ii).
---------------------------------------------------------------------------

    All d-Quotes from different Floor brokers on the same side of the 
market with the same price instructions trade on parity after interest 
entitled to priority is executed.\87\ Multiple same-side d-Quotes from 
different Floor brokers compete for an execution with the most 
aggressive price range (e.g. three cents vs. two cents) establishing 
the execution price. If the incoming order remains unfilled at that 
price, executions within the less aggressive price range may occur.\88\ 
d-Quotes also compete with same-side specialist algorithmic trading 
messages targeting incoming orders. If the price of d-Quotes and 
specialist trading messages are the same, the d-Quotes and the 
specialist messages trade on parity.\89\
---------------------------------------------------------------------------

    \87\ See NYSE Rule 70.25(d)(i)(A)(iii).
    \88\ See NYSE Rule 70.25(d)(i)(A)(iv).
    \89\ See NYSE Rule 70.25(d)(i)(A)(v).
---------------------------------------------------------------------------

    d-Quotes from Floor brokers on opposite sides of the market may 
trade with each other. The d-Quote that arrives at the Display Book 
last will use the most discretion necessary to effect a trade, subject 
to NYSE rules and Rule 611 of Reg. NMS.\90\ d-Quotes may provide price 
improvement to and trade with an incoming contra-side specialist 
algorithmic trading message to ``hit bid/take offer,'' just as they can 
with any other marketable incoming interest.\91\
---------------------------------------------------------------------------

    \90\ See NYSE Rule 70.25(d)(i)(A)(vi) and 17 CFR 242.611.
    \91\ See NYSE Rule 70.25(d)(i)(A)(viii).
---------------------------------------------------------------------------

    d-Quotes may initiate sweeps in accordance with and to the extent 
provided by NYSE Rules, but only to the extent of their price and 
volume discretion.\92\ d-Quotes may participate

[[Page 42859]]

in sweeps initiated by other orders but, in such cases, their 
discretionary instructions are not active. d-Quotes will not trade at a 
price that would trigger an LRP. Thus a sweep involving a d-Quote will 
always stop at least one cent before an LRP price.\93\
---------------------------------------------------------------------------

    \92\ See NYSE Rules 1000-1004. See also NYSE Rule 
70.25(d)(i)(A)(ix).
    \93\ See NYSE Rule 70.25(d)(ix)(A).
---------------------------------------------------------------------------

    Floor brokers further possess a ``pegging function'' for e-Quotes 
and d-Quotes, which allows the Floor broker to keep his or her interest 
in the quote, even as the quote moves. Pegging is a separate type of 
discretionary instruction and may occur with e-Quotes and/or with d-
Quotes using discretionary price instructions. Pegging e-Quotes and d-
Quotes peg only to other non-pegging interest within the pegging range 
selected by the Floor broker. This functionality is only available when 
auto-quoting is on. Pegging functionality is reactive and does not 
establish a new BBO price. It will not generally serve as the BBO price 
when there is no other interest at that price. Pegging will occur only 
at prices within the pegging price range designated by the Floor 
broker.\94\ Pegging functionality allows the Floor broker interest to 
be included in the Exchange BBO as it is systemically updated subject 
to the price that the Floor broker designated as the lowest or highest 
price he or she is willing to trade. The Floor broker's interest will 
move with the Exchange BBO within the designated range and any 
discretionary instructions associated with that interest will continue 
to be applied as long as it is within the Floor broker's designated 
price range. Buy side e-Quotes will peg to the best bid, and sell side 
e-Quotes will peg to the best offer.
---------------------------------------------------------------------------

    \94\ See NYSE Rule 70.26(vii).
---------------------------------------------------------------------------

    A Floor broker using pegging e-Quotes and d-Quotes may set a 
minimum and/or maximum size of same-side volume to which his or her e-
Quote or d-Quote will peg. Pegging instructions apply to the entire e-
Quote/d-Quote volume. An e-Quote may have either or both discretionary 
trading and pegging instructions. Pegging and discretionary 
instructions are known only to the Floor broker. Specialists do not 
have access to a Floor broker's pegging and discretionary instructions.
(E) CAP-DI Order
    Pursuant to NYSE Rule 13, Floor brokers are permitted to submit CAP 
liquidity to the Display Book in order to have customer orders trade 
along with the market and with the specialist proprietary transactions. 
The type of CAP order used by the Floor broker is the CAP-DI order. 
NYSE Rule 123A.30(a) provides that a CAP-DI order is the elected or 
converted portion of a percentage order that is convertible on a 
destabilizing tick and designated immediate execution or cancel 
election. A CAP-DI order may be automatically executed and may 
participate in a sweep. Marketable CAP-DI orders are automatically 
converted and trade along with specialist proprietary executions. CAP-
DI orders participate in sweeps. Specifically, when an automatically 
executing order is sweeping the Display Book on the same side as the 
CAP-DI orders, such CAP-DI orders will be elected at each execution 
price that is part of the sweep. To the extent that the order sweeping 
the book has additional volume, the elected same-side CAP-DI orders 
will not participate in a transaction at the executing price; rather, 
Exchange Systems will automatically and systemically un-elect the CAP-
DI orders in accordance with its terms. If at the last execution price 
that is part of the sweep, the sweeping order is filled or unable to 
continue executing, and there is volume remaining on the Display Book 
or from contra-side elected CAP-DI orders, then the same-side CAP-DI 
orders may participate in the final transaction. CAP-DI orders on the 
contra-side of an automatically executing order sweeping the Display 
Book are also elected at each execution price that is part of the sweep 
and participate at each of the execution prices if there is volume 
available on the Display Book or from CAP-DI orders on the same side of 
the market as the sweeping order.
(3) Off-Floor Participants
    Off-Floor participants may submit any valid order type as defined 
in Exchange Rules. Orders entered on the Exchange by Off-Floor 
participants are maintained on the Display Book in a separate file from 
Floor broker agency interest, passively converted CAP orders and 
specialist interest. These orders are aggregated at each price point 
and sequenced in time priority of receipt. Off-Floor participants have 
the ability to submit Reserve Orders pursuant to NYSE Rule 13. Interest 
represented through Reserve Orders trade according to Exchange rules 
governing priority and parity.\95\ A Reserve Order must include the 
specific amount of shares that is designated for display when the order 
is eligible to be quoted (i.e., the ``displayable'' portion). A Reserve 
Order must display a minimum of one round lot. Reserve Orders have the 
ability to automatically replenish the displayable amount of interest 
at the Exchange BBO when trades reduce or exhaust such displayable 
interest. This provides Exchange customers the flexibility to replenish 
liquidity that is in keeping with the market need at the specific time 
and at that price point. When the displayable size of a Reserve Order 
is replenished from reserve, the replenished displayable quantity is 
assigned a time sequence based on the time it is replenished. The 
remaining original displayed quantity, if any, retains its original 
time sequence.
---------------------------------------------------------------------------

    \95\ Reserve Orders will also be subject to Federal securities 
regulations, including the order entry requirements of Section 11(a) 
of the Act.
---------------------------------------------------------------------------

    As with reserve interest in a Floor broker's agency interest file 
not designated DND, information on Reserve Orders entered directly into 
Exchange systems is made available to the specialist only in the 
aggregate at each price point for the express purpose of the specialist 
effecting a manual execution. The reserve interest is not distinguished 
from other interest available to be executed at a specific price point. 
Rather, Exchange systems display to the specialist the total number of 
shares available for execution at the price point and include reserve 
interest in the total number. In this manner such reserve interest is 
available for trades that take place on the Floor of the Exchange that 
will not be conducted automatically. Such trades take place at the 
opening and close of the Exchange, during the trading day in situations 
involving auction market transactions that are not automatic trades, 
and in certain specific trading situations, such as trades conducted 
when a LRP is reached after an automatic execution or in a ``gap'' 
quote situation.
    Off-Floor participants' interest that is not designated as reserve 
interest is included in the Exchange quote. Off-Floor participants' 
interest away from the Exchange BBO not designated as reserve interest 
is automatically disseminated via OpenBook and other Exchange data 
distribution channels.
(4) Execution of Bids and Offers
    Exchange executions are governed by its rules of priority, parity, 
and precedence.\96\ These rules dictate which order or quote is able to 
execute against an incoming order and the allotment of shares, if more 
than one order or quote is at the BBO. Generally, the first bid (offer) 
at the BBO has priority to execute against the next incoming order.\97\ 
Once

[[Page 42860]]

a trade occurs with the bid (offer) that has priority, other bids 
(offers) at that price (including any remaining interest from the bid 
(offer) that had priority) generally trade on parity, meaning they 
split evenly with the remainder of the incoming order, up to the size 
of their own order.\98\ A specialist must always yield priority to the 
Off-Floor participant orders entered on the Display Book.\99\ The 
allotment of shares is also dependent on whether execution is at the 
BBO or if it is outside the BBO.
---------------------------------------------------------------------------

    \96\ See NYSE Rules 72, 104, and 108.
    \97\ See NYSE Rule 72 I(a). A bid (offer) that establishes the 
Exchange BBO is entitled to priority at that price for one trade, 
except a specialist bid or offer entitled to priority must yield to 
limit orders on the Book at the same price.
    \98\ See NYSE Rule 72 III. When bid (offers) are on parity, 
Exchange rules dictate that in certain circumstances, a particular 
participant is guaranteed a portion of an order based on the size of 
its bid (offer), i.e., precedence based on size. See NYSE Rule 72 
I(c).
    \99\ See NYSE Rule 92.
---------------------------------------------------------------------------

    Under current Exchange rules, the first bid or offer made at a 
particular price is entitled to priority at that price.\100\ Once a 
trade occurs with a bid or offer that has priority, other bids or 
offers at that price representing Off-Floor Participant orders (DOT 
orders) and Floor broker agency interest files (i.e., e-Quotes and d-
Quotes) trade on parity. Specialist interest (s-Quotes) yields to DOT 
orders; once DOT orders are satisfied, s-Quotes trade on parity with e-
Quotes and d-Quotes.
---------------------------------------------------------------------------

    \100\ See NYSE Rule 72 I(a) through (g). While a priority bid or 
offer may be established it is usually broken by a ``Floor 
clearing'' event. ``Floor clearing'' events include a trade or an 
update of the NYSE quote. After such an event, all bid and offers at 
the price are on parity.
---------------------------------------------------------------------------

    For example, assume that immediately following a Floor clearing 
event, the bid on the Exchange is $20.05 for 1,000 shares, consisting 
of a DOT order of 300 shares, Floor broker agency interest file (e-
Quote) volume of 400 shares representing interest of two Floor brokers 
for 200 shares each, and specialist interest of 300 shares. This is all 
displayed interest, i.e., there is no reserve interest involved. There 
is no priority as all bids were reentered following the Floor clearing 
event. An incoming market order to sell 400 shares is executed against 
the DOT bid and the e-Quotes since the specialist interest (s-Quote) 
must yield to DOT interest. If the incoming order had been for 800 
shares, the DOT orders and Floor broker interest would be executed in 
full and the specialist would receive 100 shares.
    The displayable portion of the Reserve Order interest is executed 
first in accordance with the above rules governing priority and parity. 
Once all displayable interest, including DOT orders, e-Quotes, d-Quotes 
and s-Quotes that are quoted at the Exchange BBO has been traded, any 
remainder of an incoming order is executed against any reserve, i.e., 
non-displayable interest at the Exchange BBO. Such non-displayable 
interest trades on parity except that specialist reserve interest at 
the Exchange BBO yields to all Reserve Orders and CAP orders. Outside 
the Exchange BBO, e-Quotes and d-Quotes trades with all interest 
represented by DOT orders, including DOT Reserve Orders, both 
displayable (i.e., the interest that will be published if such interest 
becomes the Exchange best bid or offer) and non-displayable, on parity. 
Reserve interest represented by s-Quotes outside the Exchange BBO 
yields to reserve interest represented by Reserve Orders and CAP 
orders. Within DOT orders, interest that would be displayable is 
allocated on a time priority basis. After displayable DOT order 
interest is completely executed, any remaining shares are allocated to 
eligible non-displayable Reserve Order interest in time priority. 
Interest represented by a Floor broker is allocated equally among the 
Floor broker's customers without regard to whether that interest was 
displayable or non-displayable.
    To illustrate how this works for a trade at the quote, assume the 
same scenario as above, but in addition to the displayed interest of 
1,000 shares, there is reserve interest for the DOT order of 600 
shares, 400 for each Floor broker (total of 800 shares) and 700 shares 
for the specialist for a total of 2,100 shares in reserve. An incoming 
order to sell 2,500 shares would be executed as follows: 1,000 shares 
trade with the displayed bid and is allocated 300 shares to the DOT 
order, 200 shares to each Floor broker (400 shares total), and 300 
shares to the specialist, leaving 1,500 shares to be executed. The 
1,500 remaining shares execute against the reserve portion of the DOT 
Reserve Order (600 shares), and 400 shares of reserve interest for each 
of the Floor brokers and 100 shares for the specialist.
    When the amount of shares contained in an incoming order are 
greater than the shares at the Exchange BBO and trigger a sweep to 
execute the order, orders on the Display Book outside the Exchange BBO 
at each price point trade on parity at each successive price during the 
sweep. Specialist interest may participate in the sweep at each 
successive price point provided such interest participates after Off-
Floor participant limit orders on the Display Book are satisfied at 
each successive price point. Specialist interest participating in the 
sweep trades on parity with any remaining Floor broker agency interest 
at each successive price point.
    A trade outside the quote will occur when the displayed and reserve 
interest volume at the Exchange BBO is not sufficient to completely 
fill the incoming contra side order. Assume the bid on the Exchange is 
$20.05 for 1,000 shares, consisting of a DOT order of 300 shares, Floor 
broker agency interest file (e-Quote) volume of 400 shares representing 
interest of two Floor brokers for 200 shares each, and specialist 
interest of 300 shares. In addition to the displayed interest of 1,000 
shares, there is reserve interest for the DOT order of 600 shares, 400 
for each Floor broker (total of 800 shares) and 700 shares for the 
specialist for a total of 2,100 shares in reserve. The incoming order 
to sell is for 4,800 shares, thus out-sizing the displayed and non-
displayed interest at the bid by 1,700 shares. At the next bid price of 
20.03, there are 400 shares of a DOT Reserve Order, of which 100 shares 
are displayable, three Floor brokers using the reserve function bidding 
for 400 shares each, with 100 shares displayable and 300 shares in 
reserve and 1,000 shares of specialist interest, 100 shares displayable 
and 900 shares in reserve. After the execution at the bid price of 
20.05, the execution of the remaining 1,700 shares at 20.03 would be as 
follows: 400 shares each to the DOT Reserve Order and the Floor 
brokers, since they trade on parity with each other outside the 
Exchange best bid (offer) for a total of 1,600 shares; 100 shares to 
the specialist, since the DOT Reserve Order was executed in full.
    If there had been additional volume in the DOT Reserve Order of 100 
shares, the specialist would not have traded at all.

Proposed New Market Model

(a) Overview and Background

    The Exchange believes that in order to adapt to the current 
equities market environment, its trading model must be modified to 
allow all participants the ability to compete efficiently consistent 
with the participant's respective responsibilities to the market.
    As the Hybrid Market has evolved, the more electronic market has 
fundamentally altered the NYSE's traditional trading environment, in 
which price discovery took place largely and almost exclusively on the 
Floor of the Exchange in the form of face-to-face interactions among 
brokers and specialists. As these interactions have diminished, the 
perceived time and place advantage of the Floor has diminished as well. 
In particular, information that once was exclusive to the Floor--in 
particular, the most up-to-

[[Page 42861]]

date quotes, available interest and last sale prices--is now widely 
available off the Floor through electronic means. At the same time, 
increasingly fragmented trading in NYSE-listed securities--a byproduct 
of sophisticated algorithmic trading and Regulation NMS--has lessened 
the importance to traders of so-called ``market color'' from the Floor; 
in an era where no one trading venue can claim dominance of market 
share and mostly automated trading, specialists and Floor broker no 
longer glean a heightened sense of the market in a particular security 
based on the ``open outcry'' of participants at the point of sale on 
the Floor or based on the observation over the course of a day or days 
of the activity at the particular post where a security trades.
    Competition from other market centers and growth of alternative 
trading systems, coupled with increased internalization by broker-
dealers, has challenged the dominance of the trading post as the 
centralized locus of orders in a particular security. Among other 
things, the rapid dissemination of consolidated quote and trade 
information and real-time updates of the Exchange limit order book has 
increased exponentially the amount and accuracy of available 
information and the speed with which it is disseminated. The immense 
increase in electronic executions on the Exchange and the general 
explosion of the use of smart routing engines by market participants of 
all types, especially ``upstairs'' traders, also has had a huge impact 
on the perceived informational advantages once enjoyed by Floor brokers 
and specialists. Automatic executions and quote updates occur without 
audible notice and with such rapidity that even those present at the 
trading post are virtually unable to process the information manually. 
Indeed, it could be argued that the informational advantage has shifted 
``upstairs'' where orders are now first ``shopped'' within a firm and 
then to others before being sent to the Floor for execution and, even 
then, is likely to be sent in pieces to multiple markets. These trends 
have also been influenced by the reduction of displayed interest across 
equity market centers resulting from the reduction of quote increments 
to pennies and in some instances sub-pennies (for securities that trade 
below a dollar). Further compounding the trends is the ever increasing 
proliferation of competing electronic trading venues.
    In the face of these challenges, the NYSE is proposing to adopt its 
New Model, which will provide a more robust trading model on the Floor 
while preserving the existing framework for trading and some of the key 
responsibilities of its market participants that make the NYSE unique. 
In so doing, the Exchange seeks to strike a balance among market 
participants that retains a role for liquidity providers responsible 
for maintaining fair and orderly markets, agents on the Floor, and Off-
Floor participants. The Exchange believes that the proposed changes 
will improve market quality in the form of tighter spreads, greater 
liquidity and opportunities for price improvement.

(b) Changes to Exchange Systems

    One of the key changes in the New Model will be enhancing the 
Exchange's technology. Among other things, the Exchange proposes to 
enhance its Display Book to incorporate the majority of execution logic 
and to assume primary responsibility for tracking the liquidity 
available at each specified price point. In the New Model, incoming 
orders to buy and sell will continue to be available for automatic 
quoting and immediate and automatic execution. Unlike today, however, 
NYSE systems will also automatically review the liquidity available on 
the Display Book for execution and then access the necessary liquidity 
to consummate trades. To do this, the Exchange is proposing to replace 
its specialists with a new participant--the DMM--who will make 
available a pre-determined pool of liquidity that Exchange systems can 
access to execute orders. In so doing, the Exchange expects to increase 
the speed of automatic executions. It is also anticipated that 
modifications to the Exchange systems will further speed executions by 
reducing the number of trading messages, which should ultimately reduce 
latency within Exchange systems.

(c) Updating the Roles of the Various Exchange Market Participants

    As it updates its technology to reflect the New Model's mode of 
trading, the Exchange is also changing the roles of the various market 
participant groups who use that technology to reflect new patterns of 
trading and new obligations. The most significant change will be the 
phasing out of the NYSE's specialist system and the adoption of a 
designated market maker structure. But in addition, the Exchange is 
also making changes to the role of, and tools available to, the Floor 
broker, and is also giving new tools to Off-Floor participants that 
will enable them to participate in the market more directly. These 
changes are described in more detail below.
(1) Designated Market Makers
(A) Overview
    The Exchange believes that its new market model requires a new 
market maker \101\ with the ability (and affirmative obligation) to 
contribute liquidity in a security by trading competitively for its 
dealer account. The Exchange therefore proposes to phase out the 
existing specialist system and to establish in place of the specialists 
Designated Market Makers who will be employees of Designated Market 
Maker Units (``DMM Units'').\102\
---------------------------------------------------------------------------

    \101\ The term ``market maker'' shall have the same meaning as 
that term in section (3)(a)(38) of the Act. See e-mail from Deanna 
G. W. Logan, Associate General Counsel, NYSE to David Liu, Assistant 
Director, Division, Commission, dated July 16, 2008 (making 
clarifying edits) (``July 16th e-mail'').
    \102\ As of October 15, 2008, pursuant to proposed Rule 
104(f)(iv) DMMs will be designated as ``market makers'' on the 
Exchange for purposes of the Act. See July 16th e-mail, supra note 
101.
---------------------------------------------------------------------------

    Although the specialist system has served a central role in 
equities trading at the NYSE for well over a century, specialist 
trading is, by nature, well-suited to manual trading, and less suitable 
for electronic trading. As a result, although specialists were able to 
provide a strong stabilizing influence when all or most trading was 
manual, that influence has waned as the markets have evolved toward 
mostly or fully automatic trading. And while the Exchange continues to 
believe that there is value to having a designated person assigned to 
maintain an orderly market in its listed securities, the Exchange 
nevertheless recognizes that the existing scheme of rules and 
obligations governing specialists can unduly hamstring them in an 
electronic market and prevent them from easily fulfilling their 
appointed role.
    To address this new reality, DMM Units will be given tools and 
opportunities that are not available to specialists currently, but that 
are more commensurate with trading in electronic markets. At the same 
time, the Exchange will preserve several aspects of the specialist 
system that are beneficial to the market and the investing public. For 
example, like the specialist system, and in contrast to the competitive 
market maker structure, each NYSE-listed security will be assigned to a 
single DMM Unit, but unlike the specialist system, each DMM will have a 
minimum quoting requirement in its assigned securities, and DMM Units 
who do not meet the minimum quoting requirement will be ineligible to 
participate in the process to receive additional securities. Through 
this combination of carrot (exclusivity) and stick (minimum quoting

[[Page 42862]]

requirement), the Exchange believes that it can ensure greater depth 
and liquidity, and consequently, better prices for customers, in its 
listed securities.
    Current NYSE Rule 104 will be amended and renamed 104T as described 
further below and will be operative and effective until October 14, 
2008. Thereafter, the Exchange proposes a new Rule 104 that will be 
effective October 15, 2008.
(B) DMMs and DMM Units Approved by the Exchange
    The Exchange intends to require, in new Rule 103, that member 
organizations who want to operate a DMM Unit file an application in 
writing and be approved by the Exchange prior to operating a DMM Unit. 
Accordingly, the Exchange is proposing to amend NYSE Rule 2 to include 
definitions of ``Designated Market Maker'' (``DMM'') and ``Designated 
Market Maker Unit.'' The application and approval requirement would be 
waived for existing NYSE specialist firms that decide to create a DMM 
Unit.\103\
---------------------------------------------------------------------------

    \103\ See Proposed NYSE Rule 103(b)(ii).
---------------------------------------------------------------------------

    In deciding whether to approve an application, the Exchange will 
consider, among other things, the member organization's market making 
ability, the capital that the member is willing or able to make 
available for market making and such other factors as the Exchange 
deems appropriate.\104\
---------------------------------------------------------------------------

    \104\ See Proposed NYSE Rule 103(a).
---------------------------------------------------------------------------

    DMMs employed by DMM Units to work on the Floor of the Exchange 
will be required to be approved and registered with the Exchange. In 
order to obtain such approval, applicants will need to submit an 
application to NYSE Regulation, Inc., which will assess an applicant's 
regulatory fitness, and successfully complete a qualifications 
examination prescribed by the Exchange. Once approved and registered as 
a DMM, such individual may conduct business only on behalf of the DMM 
Unit in which he or she is employed.
    A DMM Unit may also employ individuals who may be called upon to 
act as a Relief DMM. A Relief DMM may be called upon to act as a DMM in 
one of its securities for an entire business day.\105\ In such 
instances the Relief DMM is required to have net liquid assets of 
$150,000.\106\ A Relief DMM that is called upon to act as a Relief DMM 
for less than the entire business day, usually for lunch periods, etc. 
has no such requirement; however, dealings effected by such Relief DMM 
while relieving the regular DMM must be made for the account of the 
regular DMM whom he or she is relieving.\107\
---------------------------------------------------------------------------

    \105\ See Proposed NYSE Rule 103(f).
    \106\ See Proposed NYSE Rules 104T.24 and 103.21.
    \107\ Id.
---------------------------------------------------------------------------

    As with existing specialist firms, individuals who are currently 
employed by specialist member organizations as specialists and relief 
specialists will be automatically approved and registered as DMMs and 
Relief DMMs.\108\
---------------------------------------------------------------------------

    \108\ See Proposed NYSE Rules 103(c)(ii) and (f)(iii).
---------------------------------------------------------------------------

    In addition, pursuant to proposed NYSE Rule104(j), a Floor Governor 
will have the ability to designate an individual to be a Temporary DMM. 
In the event of an emergency, such as the absence of the DMM, or when 
the volume of business in the particular stock or stocks is so great 
that it cannot be handled by the DMMs without assistance, a Floor 
Governor may authorize a member of the Exchange who is not registered 
as a DMM in such stock or stocks, to act as Temporary DMM for that day 
only.
    A Temporary DMM that substitutes for a DMM when no DMM is present, 
is expected to assume the obligations and responsibilities of a DMM for 
the maintenance of the market.
    A member who acts as a temporary DMM by such authority is required 
to file a report showing (a) the name of the stock or stocks in which 
he or she so acted, (b) the name of the regular DMM, (c) the time of 
day when he or she so acted, and (d) the name of the Floor Governor who 
authorized the arrangement with Division of Market Surveillance of NYSE 
Regulation, Inc., at the end of the day.
    Pursuant to proposed NYSE Rule 104(j), a Floor Governor will not 
give such authority for the purpose of permitting a member not 
registered as DMM habitually to relieve another DMM at lunch periods, 
etc.
(C) DMMs Not Responsible Broker-Dealer for All Orders
    The Exchange proposes to amend the provision in Exchange rules that 
makes specialists the ``responsible broker-dealer'' for purposes of 
Limit Order Display and other obligations under both the Act and 
regulations promulgated thereunder.
    Under NYSE Rule 60, specialists are currently solely responsible 
for quoting the highest bids and lowest offers on the Exchange for all 
reported securities. This rule is appropriate in a manual trading 
environment, where the specialist post was the primary locus for 
trading in securities and where the specialist oversaw the reporting of 
all executions.
    Because of automation, the rule makes less sense today. Among other 
things, market participants who are not specialists post their interest 
electronically in the form of DOT orders and/or e-Quotes (broker agency 
interest files), and Exchange systems process and publish that interest 
automatically. When there is an execution against the published quote, 
Exchange systems report the execution, and allocate the executed shares 
to the various participants automatically. In a manual market, the 
specialist was solely responsible for quoting the highest bids and 
lowest offers on the Exchange for all reported securities. The 
Exchange's quote today now includes the Floor broker's agency interest, 
specialist interest and electronically entered interest of off-Floor 
Participants. More importantly, all interest in Exchange systems and 
included in the quote is identifiable by the Exchange's systems.
    Given this change from how interest was processed in a manual 
environment, the notion that the specialist (or the new DMM) is the 
sole responsible broker-dealer is obsolete, but not harmlessly so. In 
particular, because various obligations either attach or do not attach 
based on whether a participant is designated as the responsible broker-
dealer, designating the specialist (or DMM) as the ``responsible broker 
dealer'' can lead to unintentionally placing an obligation on a nominal 
participant while relieving the logically responsible participant of 
that same obligation.
    To address these limitations, the NYSE is proposing to amend NYSE 
Rule 60 to reflect that the member or member organization entering a 
bid or offer in a security is the ``responsible broker-dealer'' to the 
extent of such bid or offer.\109\ The Exchange also proposes to 
eliminate the phrase ``on the Floor'' which refers to a ``responsible 
broker or dealer'' for the purposes of meeting obligations under Reg. 
NMS, since the Exchange believes all broker-dealer members and member 
organizations

[[Page 42863]]

bear these responsibilities. In addition, the Exchange proposes to 
amend the rule to reflect that the Exchange rather than the specialist 
or DMM disseminates quotations to vendors.
---------------------------------------------------------------------------

    \109\ See 17 CFR 240.11Ac1-1. For ease of reference, relevant 
text of Section 11A(c)(1) of the Act and Rule 11Ac1-1 thereunder was 
included as part of the rule text preceding NYSE Rule 60. Similarly, 
the text of Section 11(a)(1) of the Act and Rules 11a-1 through 
11a2-2 was also included as text preceding Exchange Rule 90. Insofar 
as it is not the general practice of the Exchange to include federal 
securities laws and rules in its rule book, the Exchange proposes to 
delete them from its rule book. Moreover, since the federal 
securities laws and rules are now readily available through any 
number of sources, the Exchange has determined that it is no longer 
necessary to include the aforementioned text as part of NYSE Rule 60 
and NYSE Rule 90.
---------------------------------------------------------------------------

    The Exchange also proposes to remove subsection (a)(iv) from 
Exchange Rule 1001, which provides that ``the specialist shall be the 
contra party to any automatic execution where interest reflected in the 
published quotation against which the automatically executing order was 
executed is no longer available.'' This rule was adopted to address an 
anomaly of the Exchange's systems that no longer exists. Specifically, 
at the time the rule was adopted, Exchange systems were programmed such 
that where the identity of the interest for an automatically executing 
order was unknown, the specialist would automatically be assigned as 
the contra party for that trade, even where interest from other market 
participants was reflected in the published quotation. Since the 
Exchange systems are now capable of accurately identifying each 
participant whose interest is reflected in the published quote and who 
should be held responsible to be the contra party for the automatically 
executing order, the Exchange believes it is no longer necessary that 
the market maker in the security shoulder the burden of being the 
contra party to un-reconciled executions. Similarly, NYSE Rule 
123B(b)(2)(B) is proposed for deletion reflecting the fact that reports 
of executions are handled by Exchange systems and are no longer sent by 
specialists, and will not be sent by DMMs.
(D) DMMs Retain the Specialists' Affirmative Obligation
    As noted above, although the Exchange does not intend to impose 
undue obligations on DMMs as responsible broker-dealers, the Exchange 
intends to preserve the requirement that a DMM has an affirmative 
obligation to the quality of the markets in securities assigned to it. 
The function of a member acting as a DMM on the Floor of the Exchange 
includes the maintenance, in so far as reasonably practicable, of a 
fair and orderly market on the Exchange in the stocks in which he or 
she is so acting.\110\ The maintenance of a fair and orderly market 
implies the maintenance of price continuity with reasonable depth, to 
the extent possible consistent with the ability of participants to use 
reserve orders, and the minimizing of the effects of temporary 
disparity between supply and demand.\111\ In connection with the 
maintenance of a fair and orderly market, it is commonly desirable that 
a member acting as DMM engage to a reasonable degree under existing 
circumstances in dealings for the DMM's own account when lack of price 
continuity, lack of depth, or disparity between supply and demand 
exists or is reasonably to be anticipated.\112\
---------------------------------------------------------------------------

    \110\ See Proposed NYSE Rule 104(f)(ii).
    \111\ Id.
    \112\ Id.
---------------------------------------------------------------------------

    In addition, DMM Units will be required to maintain adequate 
minimum capital \113\ based on its registered securities, and will be 
required to use their capital to engage in a course of dealings for 
their own accounts to assist in the maintenance, so far as practicable, 
of a fair and orderly market. Transactions on the Exchange by a DMM for 
the DMM Unit's account are to be effected in a reasonable and orderly 
manner in relation to the condition of the general market and the 
market in the particular stock.\114\ To support this requirement, the 
Exchange will continue to provide depth guidelines \115\ for each 
security.
---------------------------------------------------------------------------

    \113\ Capital requirements are identical to the current capital 
requirements computed in accordance with Rule 15c3-1 and current 
NYSE Rule 104. In this filing the Exchange seeks to move the 
placement of these requirements into proposed NYSE Rule 103.
    \114\ See Proposed NYSE Rule 104(g)(i).
    \115\ Currently, the Exchange provides each security with a 
daily depth guideline and depth sequence size that reflects its 
individual trading characteristics including intra-day price 
volatility. Depth sequence sizes over which depth is calculated and 
the depth guidelines against which the calculated depth movements 
are compared are dynamically updated each day for each symbol based 
on the symbol's recent trading characteristics. These 
characteristics include: Its previous NYSE closing price; its NYSE 
adjusted volume; and its intra-day consolidated high/low range. 
Systemic calculations of these values occur each day and are used in 
the creation of a formulaic individualized depth guideline and depth 
sequence size that is unique for each security. The Exchange 
proposes to provide DMMs with the same information pursuant to 
proposed NYSE Rule 104(f)(iii).
---------------------------------------------------------------------------

    DMMs will further be required to maintain displayed bids and offers 
at the NBBO for a certain percentage of the trading day in assigned 
securities. Specifically, with respect to maintaining a continuous two-
sided quote with reasonable size, DMMs must maintain a bid or offer at 
the National Best Bid and National Best Offer (``inside'') for 
securities in which the DMM is registered at a prescribed level based 
on the average daily volume of the security.\116\ Securities that have 
a consolidated average daily volume of less than one million shares per 
calendar month are defined as Less Active Securities and securities 
that have a consolidated average daily volume of equal to or greater 
than one million shares per calendar month are defined as More Active 
Securities.\117\
---------------------------------------------------------------------------

    \116\ The Exchange intends to formally file with the Commission 
a proposal to modify the method by which the Exchange allocates and 
reallocates securities to specialist units; see July 17th e-mail, 
supra note 3.
    \117\ See Proposed NYSE Rule 104(a)(1)(A).
---------------------------------------------------------------------------

    For Less Active Securities, a DMM Unit must maintain a bid or an 
offer at the NBBO for at least 10% of the trading day during a calendar 
month. For More Active Securities, a DMM Unit must maintain a bid or an 
offer at the NBBO for at least 5% or more of the trading day during a 
calendar month. DMM Units will be expected to satisfy the quoting 
requirement for both volume categories in their assigned securities.
    Time at the inside is calculated as the average of the percentage 
of time the DMM has a bid or offer at the inside. For example, if a DMM 
maintains a quote at the National Best Bid for 6% of the trading day 
and a quote at the National Best Offer for 4% of the trading day, then 
the average of these times is 5%. The Exchange will determine whether a 
DMM Unit has met its quoting requirements on a month-by-month basis by 
calculating:

    (1) The ``Daily NBB Quoting Percentage'' by determining the 
percentage of time a DMM Unit has at least one round lot of 
displayed interest in an Exchange bid at the National Best Bid 
during each Trading Day for a calendar month;
    (2) the ``Daily NBO Quoting Percentage'' by determining the 
percentage of time a DMM unit has at least one round lot of 
displayed interest in an Exchange offer at the National Best Offer 
during each Trading Day for a calendar month;
    (3) the ``Average Daily NBBO Quoting Percentage'' for each 
Trading Day by summing the ``Daily NBB Quoting Percentage'' and the 
``Daily NBO Quoting Percentage'' then dividing such sum by two;
    (4) the ``Monthly Average NBBO Quoting Percentage'' for each 
security by summing the security's ``Average Daily NBBO Quoting 
Percentages'' for each Trading Day in a calendar month then dividing 
the resulting sum by the total number of Trading Days in such 
calendar month; and
    (5) for the total Less Active Securities (More Active 
Securities) assigned to a DMM unit, the Exchange will determine the 
``Aggregate Monthly Average NBBO Quoting Percentage'' by summing the 
Monthly Average NBBO Quoting Percentages for each Less Active 
Security (More Active Security) assigned to a DMM unit, then 
dividing such sum by the total number of Less Active Securities 
(More Active Securities) assigned to such DMM Unit.

    Below is an example of a quoting requirement calculation. For 
purposes of this example, it is assumed that DMM Unit 1 has two 
assigned securities, A

[[Page 42864]]

and B, and that there were 5 trading days in the selected calendar 
month.
    The Average Daily NBBO for a DMM Unit is calculated for each 
security by summing the daily NBB and NBO of each security for that day 
and dividing that number by two:

----------------------------------------------------------------------------------------------------------------
                                                                 Calculation average daily NBBO    Average daily
         Trading days                NBB             NBO                 for DMM Unit 1                NBBO
----------------------------------------------------------------------------------------------------------------
                                                   Security A
----------------------------------------------------------------------------------------------------------------
T1...........................              4%              6%  4% + 6% = 10% divided by 2 = 5%..              5%
T2...........................              3%              5%  3% + 5% = 8% divided by 2 = 4%...              4%
T3...........................              4%              4%  4% + 4% = 8% divided by 2 = 4%...              4%
T4...........................              6%              8%  6% + 8% = 14% divided by 2 = 7%..              7%
T5...........................              5%              5%  5% + 5% = 10% divided by 2 = 5%..              5%
----------------------------------------------------------------------------------------------------------------
                                                   Security B
----------------------------------------------------------------------------------------------------------------
T1...........................              5%              7%  5% + 7% = 12% divided by 2 = 6%..              6%
T2...........................              4%              6%  4% + 6% = 10% divided by 2 = 5%..              5%
T3...........................              6%              8%  6% + 8% = 14% divided by 2 = 7%..              7%
T4...........................              7%              9%  7% + 9% = 16% divided by 2 = 8%..              8%
T5...........................              9%              9%  9% + 9% = 18% divided by 2 = 9%..              9%
----------------------------------------------------------------------------------------------------------------

    The monthly average NBBO quoting percentage for a DMM Unit for each 
security is then calculated by summing the security's average Daily 
NBBO Quoting Percentages for all the Trading Days of the calendar month 
and then dividing the resulting total by the number of Trading Days in 
the calendar month (in this instance 5).

----------------------------------------------------------------------------------------------------------------
                           Average daily NBBO                                Calculation monthly       Monthly
------------------------------------------------------------------------  average NBBO for DMM Unit    Average
         T1               T2           T3           T4           T5                   1                  NBBO
----------------------------------------------------------------------------------------------------------------
                                                   Security A
----------------------------------------------------------------------------------------------------------------
5%.................          4%           4%           7%           5%   5% + 4% + 4% + 7% + 5% =            5%
                                                                          25% divided by 5 = 5%.
----------------------------------------------------------------------------------------------------------------
                                                   Security B
----------------------------------------------------------------------------------------------------------------
6%.................          5%           7%           8%           9%   6% + 5% + 7% + 8% + 9% =            7%
                                                                          35% divided by 5 = 7%.
----------------------------------------------------------------------------------------------------------------

    The Aggregate Monthly Average NBBO Quoting Percentage for a DMM 
Unit is determined by summing the Monthly Average NBBO for each 
security and then dividing such sum by the total number of securities.

------------------------------------------------------------------------
             Aggregate Monthly Average for Specialist Unit 1
-------------------------------------------------------------------------
Monthly Average NBBO Security A + Monthly Average NBBO Security B
 divided by 2
        5% + 7% = 12% divided by 2 = 6% Aggregate Monthly Average
------------------------------------------------------------------------

    Reserve or other hidden orders entered by the DMM will not be 
included in the inside quote calculations.\118\
---------------------------------------------------------------------------

    \118\ See July 17th e-mail, supra note 3.
---------------------------------------------------------------------------

    The Exchange further proposes that DMMs retain the re-entry 
requirements currently imposed on specialists contained in NYSE 
Rule104. As such, DMMs effecting Neutral, Non-Conditional and 
Conditional transactions will still be required to re-enter liquidity 
on the opposite side of the market depending on the type of transaction 
executed by the DMM.\119\
---------------------------------------------------------------------------

    \119\ See supra notes 52 and 53. DMMs will be subject to the 
same requirements currently imposed on specialists pursuant to 
proposed NYSE Rule 104(g)(i)(A). Currently Conditional Transactions 
operate as a separate pilot, through this filing the Exchange seeks 
to incorporate those provisions into the New Model pilot through 
proposed NYSE Rule 104(g)(i)(A); see July 17th e-mail, supra note 3.
---------------------------------------------------------------------------

(E) DMMs Will Not See Public Customer Order Information Before Other 
Market Participants
    In a significant departure from the existing specialist system, 
DMMs will be required to meet all of the above requirements without the 
benefit of access to order by order information. The Exchange proposes 
to gradually decrease the orders provided to the DMM over time as the 
Exchange completes the required modifications to technology.\120\ Upon 
completion of the modifications to Exchange technology, the DMM will no 
longer receive any order by order information. The decrease in the flow 
of order information to the specialists will begin in July 2008, with 
the DMM no longer receiving order by order information by October 15, 
2008.
---------------------------------------------------------------------------

    \120\ The Exchange will propose in a separate filing to the 
Commission to reduce the order by order information sent to the DMM 
prior to the implementation of the changes sought herein. Pursuant 
to the proposal to be filed, the specialist's system employing 
algorithms will only have access to orders entering NYSE systems 
that are market orders or are limit orders that are priced at the 
current NYSE quote, in between the current NYSE quote or are at a 
price that goes through the opposite sid of the current NYSE quote.
---------------------------------------------------------------------------

    The DMM Unit's system employing algorithms will have access to 
information with respect to orders entered on the Exchange, Floor 
Broker agency interest files or reserve interest, to the extent such 
information is made publicly available. DMM unit algorithms will 
receive the same information with respect to orders

[[Page 42865]]

entered on the Exchange, Floor Broker agency interest files or reserve 
interest as is disseminated to the public by the Exchange and shall 
receive such information no sooner than it is available to other market 
participants.
    Although the DMM will no longer receive order by order information, 
there will continue to be certain times when human interaction is 
essential to market quality and maintaining a fair and orderly market. 
Specifically, the Exchange contemplates human interaction during 
opening and re-opening transactions, closing transactions, block 
transactions, gap quote situations and when trading reaches LRPs that 
would lock or cross the market, and thus requires a market maker.\121\ 
DMMs will be responsible for choosing the price \122\ and the 
executions of the orders at that price during those specific 
situations.
---------------------------------------------------------------------------

    \121\ See Proposed NYSE Rule 104(a)(2)-(5).
    \122\ In an opening and reopening trade, Display Book will 
verify that all interest that must be executed in the opening or 
reopening can be executed at the price chosen by the DMM. If all the 
interest that must be executed in the transaction cannot be executed 
at that price, the Display Book will block the execution. In 
addition, when executing blocks (10,000 shares or more or value of 
$200,000 or more), trading out of a gap quote situation or an LRP 
that locks or crossed the market, the Display Book may adjust the 
execution price if there is enough interest on the Display Book to 
complete the transaction at a better price.
---------------------------------------------------------------------------

(F) DMMs Will Not Retain the Specialists' Negative Obligation
    Given that after October 15, 2008, DMMs will not have access to 
information on an order by order basis the Exchange further proposes 
that DMMs not be subject to the negative obligation that currently 
applies to specialists. The U.S. equities markets have entered a 
uniquely competitive phase that involves many players--upstairs 
liquidity providers, multiple OTC dealers, crossing networks and 
Alternative Trading Systems, and even other national and regional 
exchanges, which compete through Unlisted Trading Privileges (``UTP'') 
and dual listings. Generally, the Exchange favors this kind of robust 
competition, which is exactly the type of competitive landscape that 
Congress envisioned when it overhauled financial market regulation in 
1975 and gave the Commission the flexibility to define dealer 
obligations.\123\ However, at the same time, the Exchange believes 
strongly that the changing market environment requires participants and 
regulators to re-examine and discard outmoded ways of thinking about 
trading and the markets. In particular, as the market has evolved, the 
Exchange has consistently argued that these changes in the marketplace 
warrant changes in the scope of the dealer obligation. The increased 
use of computer application and communication technology makes it 
difficult, if not impossible for any one market participant to have a 
time-and-place advantage over any other market participants. At the 
same time, the fragmentation of liquidity among multiple markets--and 
the algorithmic tools available to process and manage order flow across 
multiple markets--often means that the direction and extent of 
movements in Exchange-listed securities is influenced not by the market 
maker in the primary market, but by the increases in the average daily 
trading volume off the Floor, and by trading decisions made away from 
the Floor.
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    \123\ In 1975, Congress eliminated the negative obligation 
clause from Section 11(b) in connection with the 1975 amendments to 
the Act. See Securities Acts Amendments of 1975 (``1975 
Amendments''), Public Law No. 94-29, 89 Stat. 97. At that time 
Congress gave the Commission the flexibility to define dealer 
obligations for both exchange members and over-the-counter market 
makers. In making the changes, Congress noted that changes in the 
marketplace might warrant changes in the scope of the dealer 
obligation:
    It might well be that with active competition among market 
makers and the elimination of trading advantages specialists now 
enjoy, such a restriction on specialists' dealings would become 
unnecessary. Because trading patterns and market making behavior in 
the context of a national market system cannot now be predicted, it 
appears appropriate to expand the Commission's rulemaking authority 
in this area so that the Commission may define responsibilities and 
restrict activities of specialists in response to changing market 
conditions S. Rep. No. 94-75, at 100 (1975).
---------------------------------------------------------------------------

    The transformation of the equities markets in the United States 
have led the Exchange to conclude that the so-called negative 
obligation no longer makes sense, and should finally be eliminated 
entirely. It is an outmoded vestige of trading in a wholly different 
market environment and is unnecessary. Among other things, the negative 
obligation arose as a check on specialists, who were, as noted above, 
at the center of substantially all of the activity in a given security. 
In that environment, it made sense to require the specialist not to 
trade for his or her own account unless reasonably necessary to 
maintain depth of market or continuity of prices. By contrast, a 
hallmark of modern markets has been the increased dissemination of 
market information. The result has been a radical increase in market 
transparency, which gives all market participants, both on and off the 
Floor, a greater ability to see and react to market changes.
    Given the market environment and the elimination of the control of 
order information by the proposed DMM, the Exchange believes that the 
imposition of a negative obligation on DMMs is unnecessary. 
Accordingly, the Exchange is proposing that beginning October 15, 2008, 
DMMs no longer be deemed to be the agent for orders on the Display 
Book.
    Given that there would no longer be an agency function for the DMM, 
the Exchange is further proposing to rescind NYSE Rule 92(d)(6) 
(specialist after hours trading when there are unexecuted orders on the 
Display Book) as being inconsistent with the proposed responsibilities 
of the DMM. Moreover, the provisions of NYSE Rule 92 no longer apply to 
the DMM in general as DMMs will not be members that have knowledge of 
unexecuted customer orders.\124\
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    \124\ It is for this reason that the Exchange further proposes 
to delete NYSE Rule 104.10(5)(c)(II)(ii) and 104.10(5)(c)(II)(iii) 
that restrict the specialist's ability to effect principal purchases 
of a specialty security in another market center based on the 
concept of the specialist as a ``holder'' of orders. The Exchange 
further proposes to delete the last sentence of NYSE Rule 127(d)(3) 
because it too restricts trading based on the premise that the 
specialist is the ``holder'' of orders. DMMs will no longer serve 
this function and thus the Exchange proposes to delete the sentence 
from NYSE Rule 127(d)(3) that reads as follows:
    As provided in Rule 92, the specialist may not retain any stock 
for his or her own account obtained at a price at which he or she 
holds executable, but unfilled, orders.
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    The Exchange further proposes to rescind NYSE Rule 92.15 because 
DMM algorithms will no longer receive order by order information before 
the order is posted to the Display Book and therefore will be incapable 
of generating quoting or trading messages based on knowledge of an 
incoming order. As such this provision of NYSE Rule 92 is unnecessary 
as it relates to DMM trading. The Exchange notes that the DMM algorithm 
will receive ``Book State'' information, which is the same information 
that is available to other market participants that subscribe to NYSE 
market data feeds, and shows aggregated displayed interest at various 
price points.
    Notwithstanding that DMMs will not be agents for orders in Display 
Book, DMMs will continue to facilitate manual transactions on the 
Exchange. When DMMs are facilitating manual transactions, Exchange 
systems will provide DMMs the total volume of all orders eligible to 
participate (i.e., not including Non-displayed Reserve Orders and 
aggregated Floor broker agency interest designated DND) in the 
transaction. Those orders will be aggregated by the Exchange system and

[[Page 42866]]

shown to DMMs as available interest eligible to participate in the 
manual execution. With this tool, DMMs will have the necessary 
information to appropriately price the opening (re-opening) 
transaction, the closing transaction and trade out of GAP quote and LRP 
locking and crossing the market situations. DMMs will not have access 
to such information on an order by order basis as Exchange specialists 
do today.
(G) DMMs Interest for Quoting and Trading
    Although DMMs will no longer be restricted by a negative 
obligation, DMMs will be responsible to commit capital in order to add 
liquidity to the market when there is little or no liquidity, bridging 
the gap between supply/demand by purchasing when no one else is buying 
or selling when no one else is selling as part of their responsibility 
to maintain a fair and orderly market.
    To assist DMMs in meeting their market making responsibilities, 
DMMs will be permitted to maintain systems that employ algorithms to 
make trading and quoting decisions (``DMM Interest'') on behalf of each 
DMM.
    DMM Interest will be permitted to: (i) Supplement the size of the 
existing Exchange BBO; (ii) maintain displayed and non-displayed DMM 
Interest, as described more fully below; (iii) layer interest at 
varying prices outside the Exchange BBO; (iv) partially or completely 
fill an order at the Exchange BBO or at a sweep price; (v) trade at and 
through the Exchange BBO; (vi) trade in a sweep transaction; (vii) 
provide price improvement; and (viii) match better bids and offers 
published by other market centers where automatic executions are 
immediately available.
    Exchange systems will prevent DMM Interest from executing against 
itself, i.e., executing wash trades. The Display Book will ignore any 
DMM Interest on the opposite side of the arriving marketable DMM 
Interest and exclude such DMM Interest from the trade. Further, to 
prevent the excluded DMM Interest from rebidding through the last sale, 
Exchange systems will cancel the DMM Interest that was excluded in the 
execution.
    DMM Interest will be capable of trading at and through the Exchange 
BBO in a sweep trade. In those instances where arriving DMM Interest 
will be priced and sized such that it is able to trade at and then 
through the Exchange BBO and the only interest represented in the 
Exchange BBO is DMM Interest, the arriving DMM Interest is incapable of 
trading because that would constitute a wash sale. In those instances, 
Exchange systems will once again exclude the DMM Interest at the 
Exchange BBO and proceed to sweep the Display Book at prices through 
the excluded DMM Interest. Exchange systems will then cancel the DMM 
Interest that was excluded and re-quote the new best interest.
(H) DMMs Capital Commitment Schedule
    In addition to DMM Interest, DMMs will be permitted to transmit to 
the Display Book additional liquidity that the DMM is committed to 
provide at specific price points. This liquidity, known as the DMM 
Capital Commitment Schedule (``CCS''), will provide the Display Book 
with the amount of shares that the DMM is willing to trade at price 
points outside, at and inside the Exchange BBO. CCS is separate and 
distinct from the DMM Interest. DMM algorithms will be enabled to send 
the Exchange this schedule of additional non-displayed trading 
interest. The Exchange anticipates that this will create increased 
opportunities for price improvement on the Exchange.
    CCS interest can be accessed by the Exchange's systems in two ways, 
depending on whether an incoming order is between the spread, or at the 
NYSE BBO. When an order is entered, the Exchange's system will review 
all the liquidity available on the Display Book including CCS interest 
and will determine the price at which the full size of the order can be 
satisfied (the ``completion price''). Exchange systems determine the 
completion price by calculating the unfilled volume of the contra side 
order (i.e., the volume of the contra side order that exceeds the 
volume available to execute against it that is then present in the 
Exchange bid or offer) and reviewing the additional displayed and non-
displayed interest available in the Display Book, which may be at more 
than one price point, including the CCS interest submitted by the DMM 
unit that is available at the completion price if the CCS interest were 
to participate at the completion price, and any protected bids or 
offers on markets other than the Exchange (``away interest'') to 
determine the price at which the remaining volume of the contra side 
order can be executed in full.
    Exchange systems will then review the amount of liquidity offered 
by the CCS to determine if the number of shares provided via the DMM's 
CCS at the completion price is less than the number of CCS shares 
provided at the next different price that has interest that is one 
minimum price variation (``MPV'') (as that term is defined in Exchange 
Rule 62 \125\) or more higher (in the case of an order to sell) or at 
the next different price that has interest that is one MPV or more 
lower (in the case of an order to buy) (hereinafter collectively 
referred to as ``better price''). If the volume of CCS interest that 
would be accessed is the same at the completion price and the better 
price, the CCS interest will participate at the completion price with 
CCS interest yielding to any other interest in Exchange systems at the 
completion price.
---------------------------------------------------------------------------

    \125\ Pursuant to NYSE Rule 62, the minimum price variation is 
currently one cent ($0.01) except that with respect to equity 
securities trading on the Exchange at a price of $100,000 or 
greater, the minimum price variation shall be ten cents ($0.10).
---------------------------------------------------------------------------

    If the number of shares that would be allocated to the DMM CCS 
interest at the better price is more than the number of shares that 
would be allocated to the DMM's CCS interest at the completion price, 
then the order will be executed at the better price with CCS interest 
yielding to any other interest in Exchange systems at the better price. 
Any remaining balance of the incoming order will be executed at the 
completion price against displayable and non-displayable interest 
pursuant to NYSE Rule 72.
    A DMM's CCS interest may only participate once in the execution of 
an incoming order. As such, CCS interest that may exist at the 
completion price is ineligible to trade with any remaining balance of 
the incoming order if the DMM's CCS interest was included in the 
execution of any portion of such order at the better price.
    Any DMM interest included in the displayed quantity and non-
displayed quantity will be executed pursuant to NYSE Rule 72.
    For example, an order to sell 100,000 at the market is entered into 
Exchange systems. The bid price is $50.02. The Display Book has the 
following available interest:

[[Page 42867]]

----------------------------------------------------------------------------------------------------------------
                                                                    Displayable       Reserve
                              Price                                  interest     interest \126\        CCS
----------------------------------------------------------------------------------------------------------------
 $50.02.........................................................           5,000          10,000          10,000
 $50.01.........................................................           5,000          20,000          15,000
 $49.99.........................................................          10,000          10,000          25,000
 $49.98.........................................................           5,000          20,000          15,000
----------------------------------------------------------------------------------------------------------------

    The system has determined that the completion price based on the 
available liquidity \127\ will be $49.98. At the completion price of 
$49.98 the DMM's CCS interest is 15,000 shares; however, at the better 
price of $49.99 the DMM's CCS interest is 25,000 shares. Exchange 
systems will therefore, execute 15,000 shares of the sell order at the 
bid price of $50.02, representing the 5,000 shares available from 
displayable interest and 10,000 shares available from reserve interest. 
The displayable and reserve interest totaling 25,000 will be executed 
the price of $50.01. At the price of $49.99 Exchange systems will 
execute the 20,000 shares of the displayable and reserve interest and 
the 25,000 shares of CCS interest. The remaining 15,000 will be 
executed at the completion price of $49.98, representing 5,000 shares 
from the displayable interest and 10,000 shares from the reserve 
interest. In allowing CCS to participate in this manner, the incoming 
buy order receives price improvement on 25,000 shares of its order by 
executing that amount at the better price of $49.99.
---------------------------------------------------------------------------

    \126\ These quantities assume there is no DMM interest 
represented in the aggregate reserve quantity available on the 
Display Book. If there were such DMM interest, that interest would 
be able to trade irrespective of where the DMM's CCS interest 
trades. The example further assumes that there is no better priced 
interest at another market center. In the event there is interest 
available at other market centers that is a ``protected quotation'' 
as provided in Reg. NMS, Exchange systems will ship orders to 
satisfy the Exchange's obligations with respect to such protected 
quotations. See generally, Rule 611 of Reg. NMS.
    \127\ The available liquidity is determined by adding the sum of 
15,000 shares of displayed and non-displayed interest at the price 
point of $50.02, the sum of the 25,000 shares of displayed and non-
displayed interest at the price point of $50.01, the sum of the 
20,000 shares of displayed and non-displayed at the price point of 
$49.99 and the sum of the 25,000 shares of displayed and non-
displayed at the price point of $49.98 and the CCS interest at 
$49.98 for a total of 100,000 shares.
---------------------------------------------------------------------------

    In the event the number of shares to be allocated to the DMM's CCS 
Interest at the better price is less than the number of shares to be 
allocated to the DMM's CCS Interest at the completion price, then the 
DMM CCS Interest will participate at the completion price with CCS 
interest yielding to any other interest in Exchange systems at the 
completion price. For example, an order to sell 100,000 shares at the 
market is entered into Exchange systems. The bid price is $50.02. The 
available liquidity on the Display Book however, is now as follows:
---------------------------------------------------------------------------

    \128\ These quantities assume there is no DMM interest 
represented in the aggregate reserve quantity available on the 
Display Book. If there were such DMM interest, that interest would 
be able to trade irrespective of where the DMM's CCS interest 
trades.

----------------------------------------------------------------------------------------------------------------
                                                                    Displayable       Reserve
                              Price                                  interest     interest \128\        CCS
----------------------------------------------------------------------------------------------------------------
 $50.02.........................................................           5,000          10,000          10,000
 $50.01.........................................................           5,000          10,000          15,000
 $49.99.........................................................          10,000          10,000          15,000
 $49.98.........................................................           5,000          20,000          25,000
----------------------------------------------------------------------------------------------------------------

    In this example, the CCS Interest will be executed at the 
completion price of $49.98 because it is greater than the CCS interest 
available at $49.99. Exchange systems will execute 15,000 shares of the 
order at the bid price of $50.02 (5,000 shares displayable interest and 
10,000 shares reserve interest). An additional 15,000 shares will be 
executed at $50.01 (5,000 shares displayable interest and 10,000 shares 
reserve interest). The 20,000 shares of displayable and reserve 
interest will be executed at $49.99. The remaining portion of the sell 
order (50,000 shares) will be executed against the 50,000 shares (5,000 
shares displayable interest, 20,000 shares reserve interest and 25,000 
CCS interest) available at the price of $49.98. In this case, the CCS 
model allows the incoming sell order to be filled at the price of 
$49.98 through the available CCS interest at that price, whereas, 
without CCS interest, part of the order would have received a price 
inferior to $49.98.
    A DMM's CCS interest inside the Exchange BBO will be accessed by 
Exchange systems to provide price improvement to incoming orders and to 
match better-priced bids and offers if available on away market 
centers. DMMs will not be required to be represented in the bid or the 
offer in order to provide price improvement interest.
    Pursuant to proposed NYSE Rule 1000(e), CCS interest may trade 
inside the Exchange BBO with interest arriving in the Exchange market 
that: (i) Will be eligible to trade at or through the Exchange BBO; 
(ii) will be eligible to trade at the price of interest in Exchange 
systems representing non displayable reserve interest of Reserve Orders 
and Floor broker agency interest files reserve interest (``hidden 
interest''); or (iii) will be eligible to route to away market interest 
for execution if the total volume of CCS interest, plus d-Quote 
interest in Floor broker agency interest files, plus any interest 
represented by hidden interest would be sufficient to fully complete 
the arriving interest at a price inside the Exchange BBO. The Display 
Book will determine the price point inside the Exchange BBO at which 
the maximum volume of CCS interest will trade, taking into account the 
volume, if any, available from d-Quotes and hidden interest. The 
arriving interest will then be executed at that price, with all 
interest (CCS, d-Quote, non-displayed reserve interest) trading on 
parity.\129\ Any reserve interest of the DMM that is also eligible to 
trade at the price inside the Exchange BBO at which the CCS interest 
will participate will be aggregated with the DMM's CCS interest at that 
price when the trade execution is allocated.\130\ In this manner, an 
incoming order may be executed at

[[Page 42868]]

multiple price points in between the quote against d-quotes, Non-
Displayed Reserve interest of all participants and CCS interest. 
However, CCS interest may only participate once if more than one 
execution is required to fill the order.
---------------------------------------------------------------------------

    \129\ An explanation of how the parity allocation of executions 
will be accomplished is provided in the text of subsection (d)(2) of 
Proposed New Market Model Section.
    \130\ See July 16th e-mail, supra note 101.
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(2) Floor Brokers
    Along with rules addressed to DMMs, the Exchange is proposing 
changes to existing rules that apply to Floor brokers.
(A) Elimination of Percentage Orders
    The Exchange proposes to amend NYSE Rule 13 and to delete NYSE 
Rules 70.25(d)(i)(A), 123A.30 and 1000(d)(2)(D) to rescind percentage 
orders as an acceptable order type on the Exchange. As a result of 
these proposed amendments, Floor brokers will no longer be permitted to 
enter CAP-DI orders. In place of this order type, the Exchange intends 
to provide Floor brokers access to algorithmic technology that will 
replicate the trading strategy achieved by the use of CAP-DI orders 
through the Floor broker's handheld electronic device.
    The Exchange believes that this change is necessary to improve the 
efficiency of the Display Book. The current processing of CAP-DI orders 
impedes the efficiency of the Display Book for a number of reasons. 
Among other things, CAP-DI orders require the system to monitor and 
calculate many variables including when the CAP-DI order is eligible 
for conversion and execution; for each individual execution the system 
must calculate the number of shares the CAP-DI order is entitled to act 
dynamically update the remaining quantity of the order until the CAP-DI 
order is executed in full. Moreover, because CAP-DI orders are now 
executed in tandem with executions for the specialist account the 
system is also required to monitor and calculate this information for 
additional executions.
    In addition, system efficiency is affected by the fact that CAP-DI 
orders may be passively converted. The process of passively converting 
CAP-DI orders impedes the specialist's ability to function efficiently 
in an automated market because the specialist must manually complete 
the passive conversion. The increase in the speed of trading and the 
delay inherent in requiring the DMM to manually passively convert CAP-
DI orders is inconsistent with the Exchange's proposed more electronic 
model.
(B) d-Quote Trading with Non-Marketable IOC Orders and at the Open and 
Close
    The Exchange further proposes to amend NYSE Rule 70 to enhance the 
functionality of the Floor broker d-Quote to increase the liquidity 
available for executions on the Exchange. Specifically, the Exchange 
proposes to allow d-Quotes to partially or completely fill a non-
marketable immediate or cancel order (``IOC'') which includes NYSE IOC, 
Reg. NMS IOC and an Inter-market Sweep Order (``ISO'') \131\ that are 
within the d-Quotes discretionary range.\132\
---------------------------------------------------------------------------

    \131\ See NYSE Rule 13. By their definition, these order types 
are never quoted but must be automatically executed. Any remaining 
unfilled portion is immediately and automatically cancelled. Non-
marketable IOC orders are immediately and automatically cancelled.
    \132\ See Proposed NYSE Rule 70.25(d)(ix).
---------------------------------------------------------------------------

    In allowing the d-Quote to interact with a non-marketable IOC, the 
Exchange seeks to provide the IOC an opportunity to receive a partial 
or complete execution. In instances where the d-Quote only partially 
completes the order, the remaining portion of the non-marketable IOC 
will be automatically and immediately cancelled.
    To further increase the liquidity available at the opening and 
closing transaction, the Exchange additionally proposes to amend NYSE 
Rule 70.25(a)(ii) to allow d-Quotes to be active in the opening and 
closing transactions which will allow a d-Quote to execute up to its 
maximum amount of discretion.
(C) Floor Broker Interest Published to OpenBook
    The Exchange proposes to have Floor broker interest not designated 
DND published to OpenBook system at every price point. The displayable 
portions of Floor broker interest designated DND will only be included 
in OpenBook when such interest is at the Exchange BBO. Floor broker 
agency interest employing Non-Displayed Reserve functionality, as 
described further below, will not be included in OpenBook. The Exchange 
believes that including this interest in OpenBook will benefit 
customers by providing its customers with a fuller view of the 
liquidity available on the Exchange.

(d) Changes to NYSE Order Types and Order Processing

(1) Additional Undisplayed Liquidity
    Floor brokers, Off-Floor participants and DMMs will continue to 
have the ability to maintain reserve liquidity on the Exchange; 
however, the NYSE proposes to modify each participant's ability to 
provide reserve interest. As a threshold matter, the Exchange intends 
to amend NYSE Rule 13 to refer to all undisplayed Off-Floor interest as 
``Reserve Orders.'' Within that broad category, the Exchange proposes 
to create two types of reserve interest, ``Minimum Display'' and ``Non-
Displayed Reserve.'' \133\
---------------------------------------------------------------------------

    \133\ Through this filing, the Exchange proposes to make 
permanent NYSE Rule 13 governing Reserve Orders. The Exchange 
further proposes conforming amendments in proposed NYSE Rules 70(e) 
and 104 to provide Floor brokers and DMMs with equivalent 
functionality.
---------------------------------------------------------------------------

(A) Minimum Display Orders
    ``Minimum Display Order'' would require that a portion of the 
shares in the order, a minimum of one round lot, be designated for 
display and the Exchange would provide Floor brokers and DMMs with 
equivalent functionality (collectively ``Minimum Display Interest''). 
Each time a Minimum Display Reserve Order is replenished from reserve 
interest, a new time-stamp is created for the replenished portion of 
that Minimum Display Reserve Order, while the remaining reserve 
interest retains the time-stamp of its original entry.
    Minimum Display Interest will participate in manual executions. 
Exchange systems will include all Minimum Display interest in the 
aggregate order information available for execution at a price point 
when the DMM facilitates a manual transaction. The Minimum Display 
Interest will not be identifiable but will be included, where eligible, 
in any resulting execution.
    The Exchange further proposes that the aggregate interest of 
Minimum Display Interest be included in the aggregate interest 
available to be seen by the DMM in order to provide information about 
orders available in Exchange systems for response to a Floor broker's 
market probe request pursuant to NYSE Rule 115.
    Currently, during a manual execution, Floor broker DND reserve 
interest that has a displayed quantity and Reserve Orders pursuant to 
NYSE Rule 13 are included in the aggregated order information displayed 
to the specialist only during manual executions (e.g., the opening and 
closing trade on the Exchange, resuming trades after a LRP is reached, 
or during a gap quote situation). Pursuant to Exchange Rule 
70.20(h),\134\ access to the Display Book

[[Page 42869]]

system for information on reserve interest is only for the purpose of 
effecting transactions that are reasonably imminent. The Exchange 
proposes to amend NYSE Rules 13, 70.20 and 115 to include as eligible 
information a DMM may provide, all Minimum Display Order Interest in 
response to a Floor broker's market probe request. Specifically, the 
Exchange proposes to amend NYSE Rules 13 and 115 to specifically state 
that the aggregate interest of the proposed ``Minimum Display Order'' 
will be included in the information disseminated pursuant to NYSE Rule 
115.
---------------------------------------------------------------------------

    \134\ NYSE Rule 70.20(h)(ii) provides, ``Specialists, trading 
assistant and anyone acting on their behalf are prohibited from 
using the Display Book system to access information about Floor 
broker agency interest excluded from the aggregated agency interest 
other than for the purpose of effecting transactions that are 
reasonably imminent where such Floor broker agency interest 
information is necessary to effect such transaction.''
---------------------------------------------------------------------------

    Pursuant to NYSE Rule 115(iii) a specialist may provide information 
about orders contained in the Display Book, referred to also as a 
market probe, ``* * * to provide information about buying or selling 
interest in the market, including aggregated buying or selling interest 
contained in Floor broker agency interest files other than interest the 
broker has chosen to exclude from the aggregated buying and selling 
interest in response to an inquiry from a member conducting a market 
probe in the normal course of business.''
    The Exchange further proposes to amend NYSE Rule 70.20(h)(ii) to 
remove the prohibition against specialist's ability to provide 
information about Floor broker reserve interest. The Exchange proposes 
that all Floor broker interest not designated DND be included in the 
information eligible for dissemination pursuant to NYSE Rule 115.
(B) Non-Displayed Reserve Orders
    In addition to Minimum Display Interest, the Exchange further 
proposes to provide all market participants with the ability to 
maintain completely non-displayed interest. This proposed type of 
reserve interest for all market participants will not have any of the 
order designated for display. The Exchange proposes to create the 
``Non-Displayed Reserve Order'' for Off-Floor participants and provide 
Floor brokers and DMMs with equivalent functionality.
    Non-Displayed Reserve Orders will not be included in the 
information available to the DMM for manual execution.
    Floor brokers may also utilize Non-Display Reserve functionality to 
enter reserve interest. If the Floor broker uses this functionality, 
there is no interest displayed in the published quotation, but the 
interest will be eligible for manual executions because the DMM has the 
ability to view the Floor broker agency interest in the aggregate. 
Floor broker agency interest file reserve interest may also be 
designated as ``Do Not Display'' (``DND''), meaning such interest will 
not be available to the DMM for manual executions. As such, Non-
Displayed Reserve Order and Floor broker Non-Display functionality 
designated DND will not participate at the open or the close, during a 
gap quote situation or when a manual execution is required to trade out 
of an LRP that locks or crosses the market. Therefore, these types of 
interest may be executed at an inferior price, and will not be 
protected in any manual trade--at the choice of the customer.
    DMM interest employing Non-Displayed Reserve functionality will, 
however, be eligible to participate in a manual transaction.
    Off-Floor participants that want to have non-displayed liquidity 
participate in a manual transaction will be required to send a Minimum 
Display Order. Similarly, Floor brokers that choose to have non-
displayed liquidity participate in a manual transactions must not 
designate such interest DND.
(2) Execution of Bids and Offers
    The Exchange believes that the changes proposed herein create a 
market model where all participants have the ability to compete. As 
such, the Exchange proposes to amend NYSE Rule 72 to provide to all 
market participants the ability to receive executions on an equal basis 
(``parity'') with other interest available at that price.\135\ 
Individual Floor brokers and the DMM registered in the security shall 
each constitute a single market participant. All Off-Floor orders 
entered in Exchange systems at the Exchange BBO shall together 
constitute a single market participant (``Off-Floor Participant'') for 
the purpose of share allocation. Specifically, unlike the current 
specialists, who must yield to all off Floor interest, DMM Interest at 
any price point will no longer be restricted in its ability to receive 
shares during an execution and no longer would be required to yield to 
any Off-Floor interest.
---------------------------------------------------------------------------

    \135\ The amendments proposed herein apply only to round-lot 
executions. Odd-lot executions will continue to be executed in the 
Odd-lot system and priced pursuant NYSE Rule 124. The DMM will act 
as the contra to all odd-lot executions as specialists do currently. 
The Exchange also proposes to delete NYSE Rule 123A.22 as it is no 
longer applicable because odd-lot orders are automatically executed 
in the Odd-lot system. In addition, conforming amendments are 
proposed to NYSE Rule 70.20 (a) to remove text pertaining to 
restrictions on a specialist's ability to trade on parity. In 
addition, the Exchange proposes to remove text in NYSE Rule 70.20(b) 
that refers to precedence based on size. The Exchange also proposes 
conforming amendments to NYSE Rule 108 subparagraphs (a) and (b) to 
remove language that discusses restrictions to parity and precedence 
based on size.
---------------------------------------------------------------------------

(A) Priority and Parity for Setting Interest
    Proposed NYSE Rule 72 would modify the concept of priority to 
provide that where there is more than one bidder (offerer) 
participating in an execution and one of the bids (offers) was 
established as the first made at a particular price and such bid or 
offer is the only interest when such price is or becomes the best bid 
or offer published by the Exchange (the ``Setting Interest''), that the 
displayed portion of such Setting Interest is entitled to priority. In 
order to qualify as Setting Interest, it must have been the only \136\ 
interest quoted at a price. Only the quoted (i.e., displayed) portion 
of the Setting Interest is entitled to priority (``Priority 
Interest'').
---------------------------------------------------------------------------

    \136\ If, at the time of quoting, Non-Displayed Reserve Orders 
or Floor broker and DMM interest employing Non-Displayed Reserve 
Functionality exist at the price point along with a single order or 
quote that has a published quantity, the single order will be deemed 
to be a setting order even if the Hiden Reserve Orders and Floor 
broker and DMM interest employing Hiden Reserve Functionality 
arrived first. In addition, if prior to quoting, there are two 
orders at the price point and one of those orders cancels, the 
remaining order that is the only interest quoted at the price is 
conspired the Setting Interest. see Proposed Rule 72(a)(ii); see 
also July 17th e-mail, supra note 3.
---------------------------------------------------------------------------

    Exchange systems will be responsible for share allocation and thus 
will create interest files for each market participant.
    Exchange systems will allocate the first 15% of any execution (a 
minimum of one round lot) \137\ at that price to the Priority Interest. 
For the remainder of that execution, Setting Interest will receive 
executions on parity with other interest available at that price. 
Exchange systems will repeat the allocation logic for the Setting 
Interest until the Priority Interest is completely executed. Any 
remaining non Priority Interest of the Setting Interest will be 
executed on parity.
---------------------------------------------------------------------------

    \137\ All allocations will be done on a round lot basis. If 15% 
would result in the Priority Interest receiving a mixed lot, 
Exchange systems will round up to the nearest round lot.
---------------------------------------------------------------------------

    The Exchange proposes to have Priority Interest retain its standing 
even if the Exchange BBO moves away from the price point. For example, 
assume that the DMM is established as the Setting Interest at $30.05 
bid. A sell order is executed against the DMM's Priority Interest at 
$30.05 that does not completely execute the DMM's Priority

[[Page 42870]]

Interest. The Exchange best bid then moves to $30.07. If the Exchange 
best bid again becomes $30.05 on that day, the remaining portion of the 
DMM's Priority Interest will again receive the first 15% of any 
subsequent execution at the $30.05 bid until the DMM's Priority 
Interest is executed or cancelled, trading in the stock is halted or 
the trading session ends.
    Partial cancellations will count first against the non Priority 
interest of any Setting Interest. All allocations to the Setting 
Interest will be decremented from the Priority Interest first whether 
the allocation is based on priority or parity. Setting Interest may be 
executed on parity with no priority allocation if the quote moves to a 
better price point and thereafter an incoming order exceeds the shares 
available for execution at the newly established Exchange BBO. In those 
instances, the Setting Interest will be executed on parity and the 
Priority Interest will be decremented first. For, example, assume that 
Customer X is established as the Setting Interest at a bid of $30.05. A 
sell order is executed against Customer X's Priority Interest at $30.05 
that does not completely execute Customer X's Priority Interest. The 
Exchange best bid then moves to $30.07. A subsequent sell order is 
entered into Exchange systems to execute against the $30.07 bid that 
exceeds the number of shares available for execution at the $30.07 bid. 
There is bid interest at the price of $30.06. In order to complete the 
execution of the sell order, Exchange systems will execute the 
remainder of the order against all the available interest at the bid 
prices of $30.06 and $30.05. Customer X's Priority Interest will be 
executed with all other available interest at $30.05 on parity as if 
there was no Setting Interest.
    Where there is more than one bidder (offerer) participating in an 
execution and none of the bids (offers) was established as the Setting 
Interest at a particular price, the shares will be allocated on parity.
(B) Priority and Parity in the Absence of Setting Interest
    Where there is no Setting Interest, Exchange systems will divide 
the size of the executing order by the number of participants. The 
total number of shares to be allocated to each participant will be 
distributed equally among the participants where possible. Within the 
single Off-Floor Participant, shares executed will be allocated in 
order of time priority of receipt of Off-Floor Participant Interest 
into Exchange systems. Executions will be allocated in round-lots. In 
the event the number of shares to be executed at the price point is 
insufficient to allocate round lots to all the participants eligible to 
receive an execution at the price point, the Exchange systems will 
create an allocation wheel of the eligible participants at the price 
point and the available shares will be distributed to the participants 
in turn.
    On each trading day, the allocation wheel for each security is set 
to begin with the participant whose interest is entered or retained 
first on a time basis. Thereafter, participants are added to the wheel 
as their interest joins existing interest at a particular price point. 
If a participant cancels his, her or its interest and then rejoins, 
that participant joins as the last position on the wheel at that time.
    Thus, if Display Book has displayed two bids from Off-Floor 
Participants for a total volume of 200 shares, the DMM and three Floor 
brokers are bidding at the same time for 100 shares each, Exchange 
systems will divide an execution among the participants as explained 
below.

------------------------------------------------------------------------
  Order 1 100 shares & Order
         2 100 shares                   Book participant
------------------------------------------------------------------------
DMM 100 shares.........................  Participant A.
Floor Broker 1 100 shares..............  Participant B.
Floor Broker 2 100 shares..............  Participant C.
Floor Broker 3 100 shares..............  Participant D.
------------------------------------------------------------------------

    In instances where the shares to be executed are insufficient to 
split among Participants, the distribution of shares will be executed 
serially. For example, a market order for 300 shares to sell entered in 
Exchange systems will allocate 100 shares to Book Participant Order 
1, Participant A and Participant B. Subsequently, another 
order to sell 300 shares at the same price is received by Exchange 
systems. Those shares will be allocated to Participant C, Participant 
D, and Order 2 Book Participant.
    Non-Displayed Interest at price points between the Exchange BBO 
will also trade on parity. Thus non-marketable orders that are priced 
in between the Exchange BBO will be eligible to be executed against all 
non-displayed interest in Exchange systems at those price points. The 
total number of shares to be allocated will be distributed based on 
parity.
    The Exchange further proposes to change its overall allocation 
logic to require that for all executions, at the Exchange BBO or 
outside the Exchange BBO, the displayable bids (offers) shall trade 
first with orders to sell (buy). In the event that all displayable 
interest is completely executed at the price point and there is non-
displayable interest available for execution at that price point, the 
remainder of the incoming order will be executed against the non-
displayable bids (offers) at the price point. The non-displayable bids 
(offers) will trade on parity with the orders to sell (buy) at the 
price point.

(e) Additional Amendments

    In addition to the substantive amendments discussed above, the 
Exchange proposes to make certain conforming amendments. Where 
applicable, the word ``specialist'' is proposed to be changed to 
``DMM,'' ``specialty stock'' changed to ``registered security'' and 
related conforming changes throughout the NYSE Rulebook.
    The Exchange further proposes to amend NYSE Rule 7 to delete the 
term ``Exchange Ticket'' and define the Exchange BBO as the best bid 
and offer disseminated by the Exchange to the Consolidated Quotation 
System.
    Conforming amendments are proposed to NYSE Rule 35 in order to 
remove rule text that refers to ``tickets'' for entrance on the Floor 
and clarify that such entrance is subject to Exchange approval.
    In NYSE Rule 46A ``Executive Floor Governors'' the Exchange 
proposes to change the word ``consist'' to ``comprise'' in order to 
provide greater clarity in the rule. The Exchange further proposes to 
amend the rule to allow supervising DMMs to serve in the capacity of an 
Executive Floor Governor.
    Conforming amendments are proposed for NYSE Rule 52 in order to 
clarify that pre-opening indications are disseminated pursuant to NYSE 
Rule 15 (``Pre-Opening Indications'').
    The Exchange proposes to amend NYSE Rule 60 (``Dissemination of 
Quotations'') to include the appropriate names for the divisions of the 
Exchange, include modified vocabulary, remove language relating to 
``liquidity bid'' and ``liquidity ``offer'' from paragraphs (d) and 
(e), and reflect the accurate citations for the federal securities laws 
referenced therein. For example, the Exchange proposes to amend 
references to ``reported security'' to use the term ``NMS security.'' 
In addition, references to Rule 11Ac1-1 will be amended to refer to 
Rule 602 under Reg. NMS. A reference to the Exchange's Market 
Surveillance Division is proposed to be amended to refer to NYSE 
Regulation, Inc.\138\ In addition, the Exchange proposes to make clear 
the role of Initiating Officials in the review of market conditions 
when a security is in

[[Page 42871]]

``non-firm mode.''\139\ Further, NYSE Rule 60 clarifies the role of 
Initiating Officials when the Exchange quotation is not available for 
automatic execution.
---------------------------------------------------------------------------

    \138\ The Exchange has proposed similar conforming amendments to 
NYSE Rules 36 and 460.
    \139\ See July 17th e-mail, supra note 3.
---------------------------------------------------------------------------

    NYSE Rule 79A.15(6) is proposed for deletion as ``all or none'' 
orders are no longer valid order types on the Exchange. Similarly, NYSE 
Rule 104A.20 (Specialists exchanging names) and 104A.30 (Specialists 
``stopping'' stock on book) are proposed for deletion. These provisions 
relate to practices that were utilized when the Exchange had a system 
of competing specialists. Neither of these practices currently occurs 
on the Exchange.
    The Exchange further proposes to amend NYSE Rules 61, 118.30, 122, 
123B, 123C, 902, 904 and 906 to reflect that orders are entered on the 
Exchange or transmitted to the Display Book rather than presented to 
the specialist.
    NYSE Rule 63.10 will be amended to remove the phrase ``in the hands 
of the specialist and odd-lot dealers,'' as that phrase no longer 
accurately reflects the Exchanges current more electronic trading 
environment. Similarly, NYSE Rule 79A.15 (``Miscellaneous Requirements 
on Stock Market Procedures'') will be amended to substitute the phrase 
``Exchange BBO'' for ``specialist's bid or offer'' and to make 
conforming changes. The Exchange further proposes to delete the 
procedures described in NYSE Rule 79A.20, as the procedure described is 
no longer used. The Exchange proposes to amend current NYSE Rule 70 
(``Bids and Offers'') to have the title more accurately reflect the 
subject matter of the rule. As such, it is proposed that NYSE Rule 70 
be titled ``Execution of Floor Broker Interest.'' The Exchange further 
proposed to move the first two paragraphs of NYSE Rule 70 and Rule 
70.10 to NYSE Rule 71 (``Precedence of Highest Bid and Lowest Offer'') 
as the Exchange believes the subject matter in those paragraphs 
(establishing bids and offers) is more properly addressed in that rule.
    NYSE Rule 85 ``Cabinet Securities'' is proposed for deletion as the 
Exchange no longer has securities dealings by means of cabinets.
    Conforming changes are proposed to NYSE Rule 123A.71 to change the 
word ``specialist'' to ``members.'' NYSE Rule 123A.72 is proposed for 
deletion because that rule served only to make NYSE Rule 123A.71 
applicable to Floor brokers and the proposed amendment to NYSE Rule 
123A.71 makes it unnecessary.
    The Exchange further proposes to delete Supplementary Material .22 
of NYSE Rule 123A as there are no longer odd-lot brokers operating on 
the Exchange. NYSE Rule 123A.25 (``Standard Machine Order Forms'') is 
also proposed for deletion as it is no longer applicable in the current 
automated trading environment. Moreover, NYSE Rules 123D subparagraph 
(1) and 299A subparagraph (2) are also proposed for deletion because 
DMMs will, similar to current specialists, not be allowed to ``stop'' 
stock.\140\
---------------------------------------------------------------------------

    \140\ See July 16th e-mail, supra note 101.
---------------------------------------------------------------------------

    The Exchange further proposes to amend NYSE Rule 91 (``Taking or 
Supplying Securities Named In Order'') to delete Supplementary Material 
.20, because the Exchange will no longer have specialists. NYSE Rule 
91.20 under Supplementary Material provides for the executions as 
principal of orders for accounts carried or serviced by specialist 
organizations. The Exchange does not propose to allow DMM units to 
carry or service customer accounts and therefore this portion of the 
rule is proposed for deletion.
    In addition to designating current Rule 104 as Rule 104T and making 
conforming changes, the Exchange proposes a number of clarifications to 
describe changes to the text of the Rule. In Rule 104(b)(iii)(B), the 
exchange proposes to replace ``published best bid or offer'' with the 
defined term ``BBO,'' when referring to the Exchange published best bid 
or offer. Similarly, the Exchange proposes to replace ``best bid and 
offer'' with ``BBO'' in Rule 104(c)(viii). In NYSE Rule 104T (b)(i) and 
(d)(i), the Exchange proposes to clarify that DMMs may have reserve 
interest at the Exchange best bid or offer by substituting the word 
``or'' for ``and'' in the phrase ``Exchange best bid and offer.''
    Conforming amendments to sections (9) (a) and (b) of Rule 440G 
(Transactions in Stocks and Warrants for the Accounts of Members, 
Allied Members and Member Organizations) are proposed.
    Conforming amendments are proposed to NYSE Rule 1000 in order to 
reflect that the order size eligibility, on the Exchange is up to a 
maximum of 6,500,000 shares.

(f) Implementation Schedule

    The proposed amendments herein require the Exchange to make 
significant modifications to Exchange systems. Such modifications must 
be done over time. The Exchange therefore proposes that amendments 
approved herein be implemented over time pursuant to the schedule 
outlined below.
(1) Non-Pilot Rules
    The Exchange proposes that upon Commission approval of the instant 
filing, that the amendments to NYSE Rules 13 be permanent rules of the 
Exchange. Specifically, the establishment of Reserve Order types on the 
Exchange and the rescission of CAP orders as viable order types on the 
Exchange would be approved established as permanent changes to the NYSE 
rulebook. Similarly, all conforming changes to other Exchange rules to 
all Floor brokers and DMMs to use equivalent reserve order 
functionality are established as permanent changes to the NYSE 
rulebook.
    In addition, the Exchange proposes that amendments to NYSE Rules 2 
and 103 establishing the DMMs and DMM units be also approved as 
permanent changes to the NYSE rulebook.
    The Exchange further proposes that upon Commission approval of the 
instant filing that amendments to NYSE Rule 70 that: (i) Allow for the 
publication of Floor broker interest to Open Book; (ii) provide for the 
availability for additional liquidity on the Exchange by allowing d-
Quote instructions to be active during the open and close; and (iii) 
offer additional opportunities for price improvement by allowing d-
Quotes to trade with non-marketable IOC orders be approved as a 
permanent change to the NYSE rulebook.
(2) Pilot Rules
    The Exchange further proposes to commence the New Model Pilot, 
subject to Commission approval, at which time, proposed NYSE Rule 72 
and proposed NYSE Rule 104T will become effective.\141\ The New Model 
Pilot will operate for a period of approximately one year and will be 
scheduled to end on September 1, 2009 or such earlier time as the 
Commission may determine to make the New Model Pilot rules permanent.
---------------------------------------------------------------------------

    \141\ Proposed NYSE Rule 104T will operate until October 14, 
2008.
---------------------------------------------------------------------------

    During the operation of the New Model Pilot, all market 
participants will have the ability to receive executions on an equal 
basis (``parity'')\142\ with other interest available at that price. It 
is anticipated that until October 14, 2008, DMMs will still receive 
order information about orders that are at or between the Exchange 
quote. DMMs must abide by their affirmative

[[Page 42872]]

obligations, meeting his or her requirements to maintain displayed bids 
and offers at the NBBO and re-enter liquidity pursuant to NYSE Rule 
104T. Beginning October 15, 2008, DMMs will no longer be subject to a 
negative obligation.
---------------------------------------------------------------------------

    \142\ ``Parity'' refers to the allocation of shares in an 
execution on an equal basis among all participants to a transaction. 
A fuller description of parity is included in subsection (d)(2) of 
Proposed New Market Model.
---------------------------------------------------------------------------

    Commencing on October 15, 2008, NYSE Rule 104T will cease operation 
and new NYSE Rule 104 will supersede it. As of October 15, 2008 the DMM 
will no longer receive any order by order information. DMMs will then 
be permitted to transmit CCS interest to the Display Book to trade at 
price points outside, at, and inside the Exchange BBO. The new Rule 104 
and the portions of Rule 1000 relating to CCS interest of DMMs are 
subject to the Pilot that is scheduled to run until September 1, 2009.
    During the operation of the New Model Pilot, the Exchange is 
committed to providing the Commission's Division of Trading and Markets 
and the Office of Economic Analysis with statistics related to market 
quality, trading activity, and sample statistics as requested by the 
Commission.

(g) Conclusion

    The Exchange believes that the New Model will allow the Exchange to 
further enhance the speed of execution currently enjoyed by Exchange 
customers in the current more electronic trading environment on the 
Floor while providing the additional anonymity of execution sought by 
market participants.
    The Exchange believes that the proposed modifications will provide 
a trading environment where market participants are competing on more 
equal footing relative to their responsibilities to the market. In 
providing certain functionality to one market participant and not 
another the Exchange acknowledges the reality that a level playing 
field is not created by treating unlike participants the same. DMMs, 
Floor brokers and Off-Floor participants do not have the same 
responsibilities to the market.
    A DMM's ability to trade is constrained by his or her 
responsibility to cushion market volatility and to replenish liquidity 
when the DMM trades for his or her own account to establish or increase 
a position by reaching across the market to trade with the Exchange's 
published bid or offer. Similarly the Floor broker is constrained in 
his or her ability to trade for his or her account at the point of sale 
pursuant SEC Rule 11(a) described above. None of these responsibilities 
is imposed on the Off-Floor participant. Off-Floor participants are 
therefore able to trade unfettered by the constraints of market 
responsibilities.
    However, DMMs, Floor brokers and Off-Floor participants have access 
to the same market information, although in certain instances Off-Floor 
participants may be privy to information available about an order that 
is being ``shopped'' off the Floor. Moreover, armed with equal 
information, in certain instances more than DMMs and Floor brokers, the 
Off-Floor participant uses a computer program for entering orders that 
employs an algorithm to decide the venue, timing, price, or even the 
final quantity of the orders to be sent to the market center for 
execution. In this manner, Off-Floor participants are able to break up 
a large trade into several smaller trades to manage their risk by 
having little to no market impact. The Exchange submits that a 
significant portion of executions on equities markets are the result of 
the use of algorithms.
    The Exchange further submits that the proposed New Model will allow 
the Exchange to continue to provide a quality market that maintains a 
competitive market maker responsible for providing liquidity to the 
market when there is a recognized need for additional liquidity. DMMs 
will bridge the gap between supply/demand by purchasing when no one 
else is buying or selling when no one else is selling and by overall 
maintaining a fair and orderly market.
    The New Model will allow the Exchange to maintain the element of 
human judgment that is particularly valuable in less liquid securities, 
at openings (re-openings), closings, and in order to trade out of Gap 
quote and LRP situations that would lock and cross the market. The 
Exchange further believes that the New Model will allow the Exchange to 
continue to make quality markets in securities during times of 
uncertainty, such as when an earnings surprise, news, or an outside 
event leads to market volatility and/or instability. In these 
situations, DMMs will act as a liquidity provider to reduce volatility, 
thus stabilizing prices, and maintaining a fair and orderly market that 
is the hallmark of the NYSE.
2. Statutory Basis
    NYSE believes that the proposed rule change is consistent with 
Section 6(b) of the Act \143\ in general, and the requirement in 
Section 6(b)(5) of the Act,\144\ in particular, that the rules of an 
exchange be, among other things, designed to promote just and equitable 
principles of trade, to remove impediments to and perfect the mechanism 
of a free and open market and a national market system, and, in 
general, to protect investors and the public interest. The Exchange 
believes the proposed rule change is consistent with these principles 
in that it seeks to assure economically efficient execution of 
securities transactions, make it practicable for brokers to execute 
investors' orders in the best market and provide an opportunity for 
investors' orders to be executed without the participation of a dealer. 
The Exchange further believes that the proposed New Model will increase 
the speed and efficiency of automatic execution on the NYSE and create 
a trading environment where market participants compete more equally.
---------------------------------------------------------------------------

    \143\ 15 U.S.C 78f(b).
    \144\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------

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.

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

    The proposed amendments reflect significant changes to the 
structure of the Exchange's market. As such, there have been numerous 
valuable discussions with Exchange customers, members, and member 
organizations concerning the concepts underlying these proposals. 
Specifically, there have been discussions concerning the structure and 
functioning of the new market model received from various 
constituencies of the Exchange. For example, current specialists and 
specialist member organizations commented on the nature of the duties 
and responsibilities of the DMM in the new model through a review of 
the current duties and responsibilities of today's specialists. This 
resulted in several suggestions that were made part of proposed Rules 
104 with respect to duties and obligations of DMMs, Rule 72 with 
respect to parity allocation of executions and amendments to Rule 1000 
with respect to the functioning of the Capital Commitment Schedule 
interest to be entered by DMMs. Customers of the Exchange provided 
input on the proposed revisions to the Reserve Orders (Rule 13) and 
parity allocation of executions. In certain instances, member 
organizations have provided written comment to draft rule text. Where 
necessary, those comments

[[Page 42873]]

have been addressed in modifications to the original proposal.

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 NYSE 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-NYSE-2008-46 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-NYSE-2008-46. 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 offices 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 Number SR-NYSE-2008-46 and should be 
submitted on or before August 13, 2008.
---------------------------------------------------------------------------

    \145\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\145\
Florence E. Harmon,
Acting Secretary.
 [FR Doc. E8-16823 Filed 7-22-08; 8:45 am]

BILLING CODE 8010-01-P