Self-Regulatory Organizations; Pacific Exchange, Inc.; Order Approving Proposed Rule Change To Rescind Rules 5.43-5.49, and Modify Rule 5.5(b), Relating to the Exchange's Off-Board Trading Restrictions

I. Introduction

On March 26, 2000, the Pacific Exchange, Inc. (“PCX” or “Exchange”) filed with the Securities and Exchange Commission (“SEC” or “Commission”), pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (“Act”) and Rule 19b-4 thereunder, a proposed rule change to rescind Rules 5.43-5.49, the Exchange's off-board trading rules, and to make a conforming change to Rule 5.5(b). The proposed rule change was published for comment in the Federal Register on April 19, 2000. Similar proposed rule changes filed by the American Stock Exchange, Chicago Stock Exchange, the Philadelphia Stock Exchange, and the Boston Stock Exchange had already been published for public comment. The Commission received no comments on any of these proposals. Today, in separate orders, the Commission is approving the proposed rule changes to rescind off-board trading rules filed by the exchanges noted above.

II. Description of the Proposal

Exchange Rules 5.43-5.49 restrict a member's ability to effect transactions in Exchange-listed securities off a national securities exchange. In the proposing release, the Exchange stated that “once the Commission approves the NYSE's proposal to rescind its off-board trading restrictions, the Exchange's off-board trading restrictions will no longer be necessary or appropriate.” Therefore, the Exchange proposed to rescind Rules 5.43-5.49, and to make a conforming change to Rule 5.5(b).

III. Discussion

The Commission finds that the proposed rule change is consistent with the requirements of the Act and the rules and regulations thereunder applicable to a national securities exchange. In particular, the Commission finds the proposed rule change is consistent with Section 6(b)(5) of the Act which requires, among other things, that the rules of an exchange be 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, and Section 6(b)(8), which requires that the rules of an exchange not impose any burden on competition not necessary or appropriate in furtherance of the Act. The rescission of the Exchange's off-board trading restrictions is also consistent with Section 11A of the Act which sets forth the findings and objectives that are to guide the Commission in its oversight of the national market system. Specifically, rescinding the off-board trading restrictions will help further the national market system objective in Section 11A(a)(1)(C)(i) to assure the economically efficient execution of securities transactions, and in Section 11A(a)(1)(C)(ii) to assure fair competition between exchange markets and markets other than exchange markets.

As discussed more fully in the NYSE Approval order, the existence of off-board trading restrictions can no longer be justified in an age when advancing technology and expanding trading volume are introducing new competitive challenges for the U.S. securities markets, both at home and abroad. Off-board trading rules such as Rules 5.43-5.49 directly restrict a certain type of market center competition—competition between exchange markets and markets other than exchange markets. Their rescission today eliminates an inappropriate regulatory burden on competition that runs contrary to the objectives set forth in the Act.

Off-board trading restrictions have been justified on the basis that they promote the interaction of investors' orders without participation by a dealer—indeed an objective set forth in the Act. The Commission believes, however, that whatever beneficial effect off-board trading restrictions such as Rules 5.43-5.49 may have in enhancing the interaction of investor orders can no longer justify their anticompetitive nature. To the extent off-board trading rules enhance order interaction, they do so in an undesirable way—by attempting a direct restriction on competition. Such attempts are never wholly successful and typically only distort, rather than eliminate, competition and introduce unnecessary costs ultimately borne by investors.

The outcome of competition between market centers should depend on which market centers are most able to serve investor interests by providing the highest quality trading services at the lowest possible prices; the Commission's regulatory task is removing unwarranted regulatory barriers to competition between market centers. As stated in the NYSE Approval Order, the rescission of off-board trading rules is “intended solely to free the forces of competition and allow investor interests to control the success or failure of individual market centers.” The same nationale and motivation support the Commission's action today.

IV. Conclusion

It is therefore ordered, pursuant to Section 19(b)(2) of the Act, that the proposed rule change (SR-PCX-00-11) is approved.

For the Commission, by the Division of Market Regulation, pursuant to delegated authority.