Document ID: SEC-2006-1465-0001
Agency: sec
Document Type: Notice
Title: Self-regulatory organizations; proposed rule changes: NASDAQ Stock Market LLC
Posted Date: 2006-11-15T05:00Z

[Federal Register: November 15, 2006 (Volume 71, Number 220)]
[Notices]               
[Page 66571-66574]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr15no06-110]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-54706; File No. SR-NASDAQ-2006-036]

 
Self-Regulatory Organizations; The NASDAQ Stock Market LLC; 
Notice of Filing and Immediate Effectiveness of Proposed Rule Change To 
Exempt Certain Cross Transactions From NASDAQ Rule 3350(a)

November 3, 2006.
    Pursuant to Section 19(b)(1) under the Securities Exchange Act of 
1934 (``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given 
that on September 25, 2006, The NASDAQ Stock Market LLC (``Nasdaq''), 
filed with the Securities and Exchange Commission (``Commission'' or 
``SEC'') the proposed rule change as described in Items I and II below, 
which Items have been prepared by Nasdaq. On October 31, 2006, Nasdaq 
filed Amendment No. 1 to the proposed rule change.\3\ Nasdaq has 
designated the proposed rule change, as amended, as constituting a non-
controversial rule change under Rule 19b-4(f)(6) under the Act,\4\ 
which renders the proposal, as amended, effective upon filing with the 
Commission. 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.
    \3\ Amendment No. 1 was a partial amendment in which Nasdaq made 
certain technical changes following discussions with Commission 
staff.
    \4\ 17 CFR 240.19b-4(f)(6).
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    Nasdaq proposes to exempt all transactions executed in the Nasdaq 
Crossing Network pursuant to NASDAQ Rule 4770 from the price test set 
forth in NASDAQ Rule 3350(a). Nasdaq plans to implement the proposed 
rule change, as amended, on November 6, 2006.
    The text of the proposed rule change is below. Proposed new 
language is underlined; proposed deletions are in brackets.\5\
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    \5\ Changes are marked to the rule text that appears in the 
electronic NASDAQ Manual found at http://www.nasdaqtrader.com.

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* * * * *
3350 Short Sale Rule
    (a)-(b) No Change.
    (c)(1)-(10) No Change.
    (11) Short sales of securities in the Nasdaq Crossing Network 
pursuant to NASDAQ Rule 4770 provided that:
    (a) Such short sales involve securities that comprise the S&P 500 
Index;
    (b) Such short sales involve securities that qualify as ``actively-
traded securities'' under Regulation M; or
    (c) Such short sales are part of a basket transaction of 20 or more 
securities in which the subject security does not comprise more than 
five percent of the value of the basket traded.
    (d)-(l) No Change.

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

    In its filing with the Commission, Nasdaq included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. Nasdaq has prepared summaries, set forth in Sections A, 
B, and C below, of the most significant aspects of such statements.

[[Page 66572]]

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

1. Purpose
    Nasdaq is proposing to amend Rule 3350(c) to create an exemption 
from the short sale rule for transactions executed in the Nasdaq 
Crossing Network pursuant to NASDAQ Rule 4770. Nasdaq states that Rule 
3350, voluntarily adopted by the NASD in 1994, is modeled closely on 
SEC Rule 10a-1.\6\ Nasdaq notes that in its January 13, 2006 order 
approving Nasdaq's registration as a national securities exchange, the 
Commission granted Nasdaq an exemption from Rule 10a-1 to permit the 
continued application of Rule 3350 to the trading of Nasdaq-listed 
securities on Nasdaq.\7\ Nasdaq notes, however, that Rule 10a-1 
continues to apply to Nasdaq's trading of securities listed on other 
national securities exchanges.
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    \6\ Securities Exchange Act Release No. 34277 (June 29, 1994), 
59 FR 34885 (July 7, 1994).
    \7\ Securities Exchange Act Release No. 53128 (January 13, 
2006), 71 FR 3550 (January 23, 2006). Nasdaq Rule 3350 will continue 
to apply to Nasdaq Global Market securities and not to Nasdaq 
Capital Market securities.
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    Background. Nasdaq states that the Nasdaq Crossing Network will 
consist of a series of trading day and after hours Reference Price 
Crosses. Nasdaq states that Reference Price Crosses involve the 
execution of trades at an externally derived price and in accordance 
with a predetermined algorithm. Nasdaq asserts that the purpose of the 
Nasdaq Crossing Network is to provide market participants and investors 
with an accurate single trading price at specific times during and 
after the trading day, resulting in an enhanced ability to execute 
block trades quickly and anonymously, while minimizing market impact 
and associated price movements. Nasdaq states that it expects to launch 
the Nasdaq Crossing Network on November 6, 2006.
    Nasdaq explains that during the regular trading hours session (i.e. 
9:30 a.m. to 4 p.m.), a series of Nasdaq Reference Price Crosses would 
allow market participants to place orders that will be executed at the 
midpoint of the national best bid and offer (``NBBO'') during a 
designated trading window. An additional cross would be scheduled to 
take place after the close of the trading day and eligible orders would 
be executed at either the Nasdaq official closing price (``NOCP'') for 
Nasdaq-listed securities or the official closing price of the primary 
market (``Primary Market Close'') for non-Nasdaq securities. Nasdaq 
states that eligible orders can be either market or limit orders and 
must be designated for one or more Nasdaq Reference Price Crosses with 
time-in-force indicators.\8\ Nasdaq notes that eligible orders will not 
be displayed.
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    \8\ Orders may be submitted as existing market or limit order 
types and would be designated by the firm upon entry with a time-in-
force indicator as follows: (i) participate in the next scheduled 
regular hours cross with unexecuted shares being immediately 
canceled back to the user after that cross (NXT), (ii) participate 
in all of the regular hours crosses (i.e., 10:45 a.m., 12:45 p.m. or 
2:45 p.m. ET) with unexecuted shares being immediately canceled back 
to the user following the last regular hours cross (REG) or (iii) 
participate in all crosses for the current day (i.e., 10:45 a.m., 
12:45 p.m., 2:45 p.m. and 4:30 p.m. ET) with unexecuted shares 
immediately canceled back to the user following the after hours 
cross (AHX).
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    Nasdaq states that it will execute the cross through an automated 
and random matching mechanism at a randomly designated time during a 
predetermined one minute trading window. Nasdaq notes that initially, 
the Nasdaq Reference Price Crosses will commence during the trading day 
at 10:45 a.m., 12:45 p.m. and 2:45 p.m. ET. In addition, an after hours 
cross would take place at 4:30 p.m. ET.\9\
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    \9\ In the event that Nasdaq wishes to institute further 
Reference Price Crosses or alter the timing of the crosses, it will 
submit a rule change to the Commission.
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    Nasdaq states that orders would be required to be entered in round 
lots with a minimum of one round lot and may designate a minimum 
acceptable quantity for execution. In addition, Nasdaq notes that 
orders may not be canceled or replaced during the time of the cross, 
but may at any other time, including periods when trading in the 
applicable security is halted. Nasdaq states that Reference Price Cross 
orders would be required to be available for automatic execution. All 
market participants would be able to enter automatically executable 
orders into the Nasdaq Market Center to participate in the Reference 
Price Cross. Orders that are not automatically executable would not be 
accommodated by the Reference Price Cross. Further, Nasdaq states that 
Reference Price Crosses would have no order delivery capability and no 
special orders would be accommodated.
    Nasdaq states that upon initiation of a cross, available shares 
would be treated as if they were the same price and would be allocated 
on a pro-rata basis to eligible orders. Such shares would be allocated 
based on the original size of the order, not on the size of the 
remaining unexecuted portion of the order. If additional shares remain 
after the initial pro-rata allocation, those shares would continue to 
be allocated pro-rata to eligible orders until a number of round lots 
remain that is less than the number of eligible orders. Any remaining 
shares would be allocated to the oldest eligible order.
    Nasdaq states that the executions would be reported to the market 
participants via Nasdaq Market Center execution reports as a single 
trade reflecting the aggregate shares executed. In addition, Nasdaq 
notes that in order to reduce information leakage that could lead to 
adverse price movements, executions would be reported as anonymous 
trades, without identifying a contra party. Nasdaq also states that 
each execution would be reported to the Nasdaq Market Center trade 
reporting service for trade reporting, clearance and settlement.
    Rationale for Proposed Exemption. Nasdaq believes that exempting 
the Reference Price Cross transactions from Rule 3350 is consistent 
with the goals of short sale regulation. Nasdaq states that 
Congressional and Commission objectives included allowing relatively 
unrestricted short selling in an advancing market, preventing short 
selling at successively lower prices; and preventing short sellers from 
accelerating a declining market by exhausting all remaining bids at one 
price level. Nasdaq asserts that given the algorithmic nature of the 
Nasdaq crosses, the proposed exemption poses little risk to investors.
    Nasdaq states that in proposing Regulation SHO, the Commission 
noted that, due to the passive nature of pricing and the lack of price 
discovery, passive pricing systems ``generally do not appear to involve 
the types of abuses that Exchange Act Rule 10a-1 was designed to 
prevent.'' \10\ Nasdaq states that the Commission also noted that one 
of the reasons for its proposed bid test was to ``better accommodate 
the recent growth of matching systems that execute trades at an 
independently derived price above the consolidated best bid.'' \11\ In 
addition, Nasdaq states that in connection with the representations 
made by other parties requesting relief for similar matching systems, 
the Commission took the view that these trades would not appear to 
involve the types of abuses that Rule 10a-1 was designed to 
address.\12\
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    \10\ See Securities Exchange Act Release No. 48709 (October 28, 
2003), 68 Fed. Reg. 62972, 62982 (November 6, 2003).
    \11\ Id. Although the Commission decided to defer consideration 
on adopting a uniform bid test until the conclusion of the Pilot 
Program established under Rule 202T of Regulation SHO, this decision 
does not appear to be related to the Commission's views on passive 
pricing systems.
    \12\ See e.g., Letter from James A. Brigagliano, Assistant 
Director, SEC, to Anitra T. Cassas, Wilmer, Cutler & Pickering, LLP 
(April 22, 2005) (granting ITG an extension of modified exemptive 
relief from Rule 10a-1 for certain transactions executed through 
ITG's Portfolio System for Institutional Trading; see also Letter 
from James A. Brigagliano, Acting Associate Director, SEC, to Alan 
G. Reed, Instinet Group, LLC (June 15, 2006) (granting Instinet an 
extension of exemptive relief from Rule 10a-1 for transactions 
executed through Instinet's Intraday Crossing System).

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[[Page 66573]]

    Nasdaq believes that, consistent with the Commission's articulated 
belief regarding passive pricing systems and its view with respect to 
similar matching systems, trades executed in the Nasdaq Crossing 
Network are not the types of abuses that Rule 3350 was designed to 
address. Nasdaq states that the purpose of the Reference Price Cross is 
to provide an accurate single trading price at specific times of the 
day, resulting in an enhanced ability to execute block trades quickly 
and anonymously, thereby minimizing market impact and associated price 
movements.
    Nasdaq notes that the Reference Price Crosses are designed to occur 
at an externally derived price and in accordance with a predetermined 
algorithm. There would be no price discovery, as orders would not be 
displayed and prices of orders are not specified, providing minimal 
information to persons interested in engaging in abusive short sale 
practices. Nasdaq also states that because a customer cannot predict in 
advance the final execution price of the cross, which during the 
trading day will be the mid-point of the NBBO and, for post-close cross 
executions, the NOCP for Nasdaq-listed securities or the Primary Market 
Close for non-Nasdaq-listed securities, the cross transactions will not 
exert downward pressure on a subject stock's price. In addition, Nasdaq 
notes that all short sale orders will be marked in accordance with Rule 
200(g) of Regulation SHO.
    Furthermore, Nasdaq states that each Reference Price Cross will 
occur through an automated and random matching mechanism at a randomly 
selected time during a predetermined one minute trading window so no 
participant will know precisely when a match will occur, and no 
participant will be assured of receiving a match. During each one-
minute trading window of cross, there will not be solicitation of 
orders from customers, nor will there be any communication to customers 
that the match has not yet occurred.
    Nasdaq notes that the exemption for the Crossing Network would 
apply to short sale transactions involving securities that comprise the 
S&P 500 Index or that qualify as ``actively-traded securities'' under 
Regulation M.\13\ If the Reported Security is not an S&P 500 Index 
security or an ``actively-traded security,'' the exemption would apply 
only if the transaction is part of a basket transaction of 20 or more 
securities in which the subject security does not comprise more than 
five percent of the value of the basket traded.
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    \13\ 17 CFR 242.101(c)(1). Under Rule 101(c)(1) of Regulation M, 
actively-traded securities have an average daily trading volume 
(ADTV) value of at least $1 million and are issued by an issuer with 
a public float value of at least $150 million. For purposes of this 
letter, the ADTV would be calculated in reference to the date on 
which the proposed Nasdaq Reference Price Cross is to take place.
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    Nasdaq states that it is working with NASD to develop procedures to 
monitor for signs of manipulation and suspicious activity, which 
systems will be in place by the launch date of the Crossing 
Network.\14\ Nasdaq states that in connection with these procedures, 
Nasdaq will advise persons relying on this exemption to participate in 
the Crossing Network that they may not be represented in the primary 
market offer or otherwise influence the NBBO at the time of the 
transaction. Furthermore, Nasdaq states that it will advise such 
persons that transactions effected on the Crossing Network shall not be 
made for the purpose of creating actual, or apparent, active trading in 
or depressing, or otherwise manipulating, the price of any security.
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    \14\ The surveillance systems specifically designed for the 
Reference Price Crosses will be in place for the launch of the 
Reference Price Crosses, currently scheduled for November 6, 2006.
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    Nasdaq states that the proposed exemption will also remove the 
disparity in short sale regulation that Nasdaq believes currently 
exists between markets. Nasdaq asserts that as opposed to Nasdaq, which 
has voluntarily adopted a short sale rule for Nasdaq securities, 
several exchanges that trade Nasdaq securities do so with no short sale 
regulation, encouraging market participants to route short sale orders 
to their markets to avoid any regulatory restriction. As a result, 
Nasdaq believes that the level of regulatory protection an investor 
receives depends almost entirely on the market to which the investor's 
order is routed. Nasdaq states that this disparity harms customers on 
all markets by forcing traders to choose between bypassing limit orders 
posted on Nasdaq, delaying executing those orders, or declining to 
execute. Nasdaq states that the proposed exemption is designed to help 
to alleviate these issues.
2. Statutory Basis
    Nasdaq believes that the proposed rule change, as amended, is 
consistent with the provisions of Section 6 of the Act,\15\ in general, 
and with Section 6(b)(5) of the Act,\16\ in particular, in that it is 
designed to prevent fraudulent and manipulative acts and practices, to 
promote just and equitable principles of trade, remove impediments to a 
free and open market and a national market system, and, in general, to 
protect investors and the public interest.
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    \15\ 15 U.S.C. 78f.
    \16\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

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

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

    Written comments were neither solicited nor received.

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

    (a) This proposed rule change, as amended, is filed pursuant to 
paragraph (A) of section 19(b)(3) of the Act.
    (b) Because the foregoing rule change does not: (i) Significantly 
affect the protection of investors or the public interest; (ii) impose 
any significant burden on competition; and (iii) become operative for 
30 days from the date on which it was filed, or such shorter time as 
the Commission may designate, it has become effective pursuant to 
Section 19(b)(3)(A) of the Act \17\ and Rule 19b-4(f)(6) 
thereunder.\18\
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    \17\ 15 U.S.C. 78s(b)(3)(A).
    \18\ 17 CFR 240.19b-4(f)(6).
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    At any time within 60 days of the filing of a rule change pursuant 
to Section 19(b)(3)(A) of the Act, the Commission may summarily 
abrogate the rule change if it appears to the Commission that such 
action is necessary or appropriate in the public interest, for the 
protection of investors, or otherwise in furtherance of the purposes of 
the Act.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change, as amended, is consistent with

[[Page 66574]]

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-NASDAQ-2006-036 on the subject line.

Paper Comments

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

All submissions should refer to File Number SR-NASDAQ-2006-036. 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 Section, 100 F Street, 
NE., Washington, DC 20549. Copies of such filing also will be available 
for inspection and copying at the principal office of the NASD. 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-NASDAQ-2006-036 and should 
be submitted on or before December 6, 2006.
    For the Commission, by the Division of Market Regulation, pursuant 
to delegated authority.\19\
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    \19\ 17 CFR 200.30-3(a)(12).\

Nancy M. Morris,
Secretary.
[FR Doc. E6-19206 Filed 11-14-06; 8:45 am]

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