Self-Regulatory Organizations; Order Approving a Proposed Rule Change by the Pacific Exchange, Inc. To Increase Lead Market Maker Concentration Levels From 10% of 15% of the Issues Traded on the Exchange's Options Floor

I. Introduction

On September 15, 1999, the Pacific Exchange, Inc. (“PCX” or “Exchange”), filed with the Securities and Exchange Commission (“Commission” or “SEC”) a proposed rule change pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (“Act”) and Rule 19b-4 thereunder to amend PCX Rule 6.82(e)(3) to increase the percentage of issues that the PCX's Options Allocation Committee (“Committee”) may allocate to a Lead Market Maker (“LMM”) from 10% of the number of issues traded on the PCX's options floor to 15% of the number of issues traded on the PCX's options floor.

Notice of the proposed rule change was published for comment in the Federal Register on November 1, 1999. No comments were received regarding the proposal. This order approves the proposed rule change.

II. Description of the Proposal

Currently, PCX Rule 6.82(e)(3) states that in the absence of extraordinary circumstances, as determined by the Committee, no LMM may be allocated more than 10% of the number of issues traded on the PCX's options floor. The Exchange proposes to amend PCX Rule 6.82(e)(3) to increase the percentage of issues that the Committee may allocate to an LMM from 10% of the number of issues traded on the PCX's options floor to 15% of the number of issues traded on the PCX's options floor.

The Exchange proposes to amend PCX Rule 6.82(e)(3) for several reasons. First, the Exchange anticipates that the Continued Listing Fee, which the PCX implemented in September 1999, will reduce the total number of issues traded on the PCX's options floor. The Exchange believes that the Continued Listing Fee will result in the delisting of a significant number of options issues, thus lowering the total number of issues that an LMM may hold.

Second, the Exchange believes that it is necessary for competitive reasons to permit the allocation of additional issues to LLMs. The Exchange believes that the proposal will place the PCX's LMMs on a more equal footing with specialists on the American Stock Exchange (“Amex”) and Designated Primary Market Makers (“DPMs”) on the Chicago Board Options Exchange (“CBOE”) with respect to the number of issues that may be allocated to them. The Exchange believes that the current 10% cap is unnecessarily low and that an increase in concentration levels is consistent with rules and guidelines of other options exchanges.

III. Discussion

The Commission finds that the proposed rule change is consistent with the Act and the rules and regulations thereunder applicable to a national securities exchange and, in particular, with Section 6(b)(5) of the Act, in that the proposal is designed to promote just and equitable principals of trade, to remove impediments to and perfect the mechanism of a free and open market and a national market system, and to protect investors and the public interest. Specifically, the Commission believes that the proposal will allow the PCX to revise PCX Rule 6.82(e)(3) to provide a limit on options allocations that is comparable to the policies of other options exchanges, thereby helping the PCX to compete more effectively with other options exchanges.

For example, the Commission notes that under the CBOE's policy, the CBOE's Modified Trading System Appointments Committee will review a DPM's concentration level if an event or proposal would cause a DPM to meet any two of the following three criteria: (1) The number of classes allocated to a DPM (and any affiliated DPMs) is 25% or more of the total number of classes traded on the CBOE (excluding DJX, NDX, OEX, and SPX); (2) the volume in the classes allocated to a DPM (and any affiliated DPMs) is 25% or more of the total volume of the CBOE (excluding DJX, NDX, OEX, and SPX); or (3) the number of DPM appointments held by a DPM (and any affiliated DPMs) is 25% or more of the total number of DPMs effective on the CBOE. Similarly, the Amex has no rule limiting the number of options products that may be allocated to a specialist unit, although the Amex considers several factors, including capitalization and the number of persons in a specialist unit, in making allocation decisions. In addition, the Amex will review a proposal merger of specialist units if the proposed merger would result in the concentration in the unit of 25% or more of the trading volume on the Amex or 25% or more of the number of products traded on the Amex.

By increasing the number of issues that may be allocated to an LLM from 10% of the issues traded on the PCX's options floor to 15% of the issues traded on the PCX's options floor, the proposal will help to make PCX Rule 6.82(e)(3) more comparable to the policies of the CBOE and the Amex. Although the proposal increases the percentage of issues that may be allocated to an LMM, the Commission does not believe that the proposal will result in an undue concentration of issues in an LMM. In this regard, the Commission believes that the proposal to limit the number of issues that may be allocated to an LMM to 15% of the number of issues traded on the PCX should address concerns regarding potential adverse effects on the maintenance of a fair and orderly market that could arise from an LMM's insolvency or similar event. In addition, the Commission notes that the PCX's proposal rule is more restrictive than the allocation policies of the CBOE and Amex, which do not impose a specified mandatory limit on the number of options that may be allocated to specialists or DPMs.

IV. Conclusion

For the reasons discussed above, the Commission finds that the proposed rule change is consistent with the Act (specifically, Section 6(b)(5) of the Act) and the rules and regulations thereunder applicable to a national securities exchange.

It is therefore ordered, pursuant to Section 19(b)(2) of the Act, that the proposed rule change (SR-PCX-99-35) is approved.