Self-Regulatory Organizations; Notice of Filing of a Proposed Rule Change and Amendment No. 1 by the Pacific Exchange, Inc. Relating to Options Trading Rules

Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (“Act”) and Rule 19b-4 thereunder, notice is hereby given that on October 1, 1999, the Pacific Exchange, Inc. (“PCX” or “Exchange”) the proposed rule change as described in Items I, II and III below, which Items have been prepared by the Exchange. On March 28, 2000, 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.

I. Self-Regulatory Organization's Statement of the Terms of Substance of the Proposed Rule Change

The PCX proposes to modify certain rules on options floor trading by clarifying existing provisions, eliminating superfluous provisions, and codifying current policies and procedures. The text of the proposed rule change is available at the Office of the Secretary, the PCX, and at the Commission.

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

In its filing with the Commission, the Exchange 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. 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

The Exchange is proposing to make the following changes to the text of the PCX rules on options trading.

A. Definition of Term “Options Issue”

The PCX proposes to adopt new Rule 6.1(b)(12) to define the term “option issue” as “the option contract overlying a particular underlying security.” The Exchange notes that the commonly-used term “issue” appears in several locations in the PCX rules. The Exchange believes that the term “issue” means the same as “option” or “option contract” when used, for example, as in PCX Rule 6.65(a), which states: “Trading on the Exchange in any option contract shall be halted or suspended whenever * * *.” However, the Exchange believes that the use of the terms “option” and “option contract” would often result in ambiguities that the use of “issue” would not create. While the term “class of options” is used in many PCX Rules to refer generally to options overlying a particular underlying security, the Exchange believes that the use of the term “class” can be ambiguous because it may refer either to a “put class” or a “call class.” Accordingly, the Exchange is proposing to formally adopt the definition of the term “option issue.”

B. General Rules Applicable to Options Trading

PCX Rule 6.1 sets forth a list of general PCX trading rules that are applicable, by cross-reference, to Exchange transactions in option contracts. Most of these rules relate primarily to the trading of equity securities on the Exchange. The Exchange is proposing to remove PCX Rules 5.2(a), 5.6(a)-(c), 5.8(d), 5.8(h), 5.12(a) and 5.13(a)-(b) from that list. Each of the cross-references to be removed is discussed below:

• PCX Rule 5.2(a)—“Types of Orders.” The Exchange believes that the first part of this rule—the part stating that all orders on the Exchange must be “day,” “immediate or cancel” or “good ‘till canceled”—applies to options trading, and accordingly, the Exchange is adopting PCX Rule 6.62, Commentary .01, to incorporate this part of the rule into the rules on options trading. However, the remainder of PCX Rule 5.2(a) either does not apply to options trading or is superfluous.

• PCX Rule 5.6(a)—“Bids—Offers—Quotations.” The Exchange believes that PCX Rule 6.74 adequately covers the meaning of bids and offers as applied to options trading. The Exchange notes that the part of PCX Rule 5.6 covering the display of bids and offers on other market centers is superfluous in light of PCX Rule 6.73, which provides the requirements for bids and offers to have standing on the Options Floor. Moreover, bids and offers are not displayed on the Options Floor for Intermarket Trading System (“ITS”) purposes.

• PCX Rule 5.6(b)—“Regular Way.” The Exchange believes that the current cross-reference to this equity trading rule is also superfluous because, unlike settlement of equity securities, settlement of option contracts is not based on a distinction between “regular way” and “non-regular way.”

• PCX Rule 5.6(c)—“All or None.” The Exchange believes that the cross-reference to this equity trading rule is erroneous and inconsistent with current practices. For example, assume that a floor broker who is holding an order to sell twenty option contracts enters a trading crowd and calls for a market. Next, assume that there are two responses: (1) a floor broker holding an “all or none” order for twenty contracts for a customer bids $3, and (2) a market maker bids $3. Under current practices and consistent with PCX Rule 6.75(a), if the broker were first to vocalize a bid, the broker would have first priority to execute the order. However, if PCX Rule 5.6(c) were applied, the market maker's bid would have priority, even if it were made second in sequence. The Exchange believes that PCX Rule 6.75 should prevail over PCX Rule 5.6(c), in accordance with current practices.

• PCX Rule 5.8(d)—“Simultaneous Bids and Offers.” The Exchange notes that simultaneous bids and offers are not recognized in the general rules on priority of bids and offers for options contracts. The Exchange believes that PCX Rule 6.75 and 6.76 are exhaustive and that the cross-reference to Rule 5.8(d) is erroneous.

• PCX Rule 5.8(h)—“Marking Stop loss Orders.” This rule covers the manual handling of stop loss orders. The Exchange believes that the procedure covered by this rule is unnecessary and that the responsibility of floor brokers to use due diligence in their handling of orders, as codified in the rules on option trading, is sufficient.

• PCX Rule 5.12(a)—“Seller Responsible for Recording.” The Exchange believes that the specific procedures currently set forth for reporting options transactions—Codified in PCX Rule 6.69 and OFPA G-12—adequately address this procedure and that the cross-reference to PCX Rule 5.12 is unhealthy and unnecessary.

• PCX Rule 5.13(a)-(b)—“Comparisons. The Exchange believes that PCX Options Rule 6.16 adequately covers the Exchange procedures for comparison of trade information and that the cross-reference to PCX Rules 5.13(a)-(b) is superfluous.

C. Trading Floor Badges

The Exchange proposes to eliminate superfluous and unnecessary provisions currently set forth in OFPA F-1 and F-6 for trading floor badges on the Options floor. The Exchange is also proposing to merge the remaining parts of those OFPAs into PCX Rule 6.2(d).

D. Visitors to the Options Floor

The Exchange is proposing to re-number OFPA F-2 as PCX Rule 6.2(e)(“Visitors on the Options Floor”). The Exchange is also proposing to eliminate subsection 6 of OFPA F-2, which limits the number of visitors and lengths of time during which visitors are permitted on the Options floor. The Exchange is also proposing to make technical changes to OFPA F-2 and to eliminate superfluous provisions, including a summary of the provisions of current PCX Rule 6.2(a). Finally, the Exchange proposes to add a new provision to PCX Rule 6.2(e), stating that a group of visitors comprising more than fifteen persons may not enter the Trading Floor without prior approval of the Chair or Vice Chair of the Options Floor Trading Committee.

E. Complaints from Floor Members

The PCX proposes to adopt PCX Rule 6.2(f) (replacing OFPA E-5 and OFPA E-6 ), which advises options floor members as to where they may direct complaints concerning situations arising on or relating to the Options Trading Floor. Specifically, the proposed rule states that Floor Members may direct complaints concerning situations arising on or relating to the Options Trading Floor to the Options Surveillance Department or to the Enforcement Department so that appropriate follow-up action may be taken.

F. Series of Options Open for Trading

The Exchange is proposing to update PCX Rule 6.4(a) so that it will conform with current practices by changing from three to four the number of different expiration months that will normally be opened at the commencement of trading a particular option issue. The Exchange also proposes to remove erroneous provisions on the specific expiration month that may be added at the commencement of trading of a particular issue and at the time a previous month's series expires. The rule currently states that three months will normally be opened, with the first expiration month being within approximately three months thereafter, the second month being approximately three months after the first and the third being approximately three months after the second. In addition, the rule states that additional series of the same class may be opened for trading on the Exchange at or about the time a prior series expires, and the expiration month of each such series shall normally be approximately nine months following the expiration of such series. However, the current industry practice is normally to add four expiration months, the first two being the two nearest months, and the third and fourth being the next two months of the quarterly cycle previously designated by the Exchange for that specific issue When a previous expiration month's series expire, a new expiration month is added to assure that there are always four expiration months.

G. Verification of Compared Trades

The PCX proposes to reduce the amount of time during which members or their representatives are required to remain available on the trading floor after the Trade Processing Department closes. The reduction will be based on the number of transactions processed per trading day. Specifically, the Exchange proposes to require that members of their representatives be available after Trade Processing closes for 30 to 60 minutes, depending on the number of transactions involved. Currently, members or their representatives are required by PCX Rule 6.17, Commentary .01 to remain available after the close as follows: when fewer than 8,000 transactions on the Exchange have occurred, 45 minutes; but when more than 8,000 trades have occurred, one hour and 15 minutes. Under the proposal, these times will be modified as follows: 0-8,000 transactions, 30 minutes; 8,000-12,000 transactions, 45 minutes; and over 12,000 transactions, 60 minutes. The Exchange believes that the new requirements are more reasonable and better reflect the Exchange's needs.

H. Resolution of Uncompared Trades

The PCX proposes to modify PCX Rule 6.21 by changing the basis for establishing a loss as the result of an uncompared trade so that it will be the opening price on the business day following the trade date. Currently, the basis is the lesser of either the opening price on the business day following the trade date or the price at which the uncompared trade was closed. After careful consideration and review of this proposal by Exchange members and member firms, the Exchange proposes this change in an effort to simplify and make uniform the administration of pricing uncompared trades. The Exchange is also proposing to require that notice of uncompared trades must be provided no later than the scheduled commencement of trading (unless a floor official directs otherwise). The Exchange believes that the current time requirement—15 minutes from the scheduled commencement of trading—is overly flexible.

I. Reports of Open Exercise Positions

The Exchange is proposing to clarify and simplify PCX Rule 62.7, which currently requires member organizations to file certain reports on open positions with the Exchange. The Exchange is proposing to restate the text of Commentary .01 in the text of PCX Rule 6.27 and to eliminate Commentaries .02 and .03. As amended, PCX Rule 6.27 will provide that the Exchange may require each member organization to file with the Exchange a report, as of the 15th of each month, of all open positions resulting from the exercise of options contracts in accounts carried by a member organization. It will then incorporate current Commentary .01 into the rule by adding that such reports, when required, must be filed no later than the second business day following the day as of which the report is made.

J. Fast Markets

The PCX proposes changes to PCX Rule 6.28 by merging the Text of OFPA G-9 into PCX Rule 6.28. Currently, OFPA G-9 lists procedures that will become effective in a fast market situation. The Exchange proposes this change to simplify and consolidate rules relating to fast market and unusual market conditions. In addition, the rule will add a cross-reference to the current requirement of market makers to trade a minimum of one contract based on quoted markets, pursuant to PCX Rule 6.37(f), during fast markets. The rule change will specify that regular trading procedures will be resumed when two floor officials determine that the conditions supporting the fast market no longer exist. Finally, it will remove, as unnecessary, the current provision allowing floor officials to assign brokerage responsibilities for particular series to specific floor brokers in the trading crowd during fast markets.

2. Statutory Basis

The Exchange believes that the proposal, as amended, is consistent with Section 6(b)(5) of the Act because it is designed to promote just and equitable principles of trade, to foster cooperation and coordination with persons engaged in regulating, clearing, settling, processing information with respect to, and facilitating transactions in securities, and in general, to protect investors and the public interest.

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

The Exchange believes that the proposed rule change will impose no 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 not solicited or received with respect to the proposed rule change.

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 within such longer period (i) as the Commission may designate up to 90 days of such date if it finds such longer period to be appropriate and publishes its reasons for so finding or (ii) as to which the self-regulatory organization consents, the Commission will:

A. by order approve the 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, as amended, is consistent with the Act. Persons making written submissions should file six copies thereof with the Secretary, Securities and Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549-0609. 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 at the Commission's Public Reference Room. Copies of such filing will also be available for inspection and copying at the principal office of the Exchange. All submissions should refer to File No. SR-PCX-99-36 and should be submitted by April 25, 2000.

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