[Federal Register Volume 82, Number 205 (Wednesday, October 25, 2017)]
[Notices]
[Pages 49433-49447]
[FR Doc No: 2017-23122]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-81913; File No. SR-CHX-2017-04]

Self-Regulatory Organizations; Chicago Stock Exchange, Inc.;
Notice of Filing of Amendments No. 1 and No. 2 and Order Granting
Accelerated Approval of a Proposed Rule Change, as Modified by
Amendments No. 1 and No. 2, To Adopt the CHX Liquidity Enhancing Access
Delay on a Pilot Basis

October 19, 2017.

I. Introduction

    On February 10, 2017, the Chicago Stock Exchange, Inc. (``CHX'' or
``Exchange'') filed with the Securities and Exchange Commission
(``Commission''), pursuant to Section 19(b)(1) of the Securities
Exchange Act of 1934 (``Exchange Act'') \1\ and Rule 19b-4
thereunder,\2\ a proposed rule change to adopt the CHX Liquidity
Enhancing Access Delay (``LEAD''), which would require all new incoming
orders, cancel, and cancel/replace messages to be subject to a 350-
microsecond intentional access delay except for: (1) Orders that would
provide liquidity submitted by a LEAD Market Maker (``LEAD MM'' or
``LMM''), a new class of CHX market maker with heightened quoting and
trading obligations (referred to collectively as the ``minimum
performance standards''); and (2) cancel messages originating from a
LEAD MM's trading account. The proposed rule change was published for
comment in the Federal Register on February 21, 2017.\3\ On April 3,
2017, the Commission designated a longer period within which to approve
the proposed rule change, disapprove the proposed rule change, or
institute proceedings to determine whether the proposed rule change
should be disapproved.\4\ The Commission received eleven comment
letters on the proposed rule change, including a response from the
Exchange.\5\ On May 22, 2017, the Commission instituted proceedings
under Section 19(b)(2)(B) of the Exchange Act \6\ to determine whether
to approve or disapprove the proposed rule change.\7\ Thereafter, the
Commission received seven more comment letters, including a response
from the Exchange.\8\ On August 17, 2017, pursuant to Section 19(b)(2)
of the Exchange Act,\9\ the Commission designated a longer period for
Commission action on proceedings to determine whether to disapprove the
proposed rule change.\10\
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Securities Exchange Act Release No. 80041 (February 14,
2017), 82 FR 11252 (``Notice'').
    \4\ See Securities Exchange Act Release No. 80364, 82 FR 17065
(April 7, 2017).
    \5\ See letters from: Ryan Hitch, Head of Equities Trading, XR
Securities LLC, dated February 24, 2017 (``XR Securities Letter'');
Douglas A. Cifu, Chief Executive Officer, Virtu Financial LLC, dated
February 27, 2017 (``Virtu Letter''); Joanna Mallers, Secretary, FIA
Principal Traders Group, dated March 13, 2017 (``FIA PTG Letter'');
Adam Nunes, Head of Business Development, Hudson River Trading LLC,
dated March 13, 2017 (``Hudson River Trading Letter''); R.T.
Leuchtkafer, dated March 14, 2017 (``Leuchtkafer Letter''); Stephen
John Berger, Managing Director, Government & Regulatory Policy,
Citadel Securities, dated March 14, 2017 (``Citadel Letter''); Tyler
Gellasch, Executive Director, Healthy Markets Association, March 17,
2017 (``Healthy Markets Letter''); Elizabeth K. King, General
Counsel and Corporate Secretary, New York Stock Exchange, dated
March 20, 2017 (``NYSE Letter''); James G. Ongena, Executive Vice
President and General Counsel, CHX, dated March 24, 2017 (``CHX
Letter''); Steve Crutchfield, Head of Market Structure, CTC Trading
Group, LLC, dated April 4, 2017 (``CTC Trading Letter''); and
Theodore R. Lazo, Managing Director and Associate General Counsel,
Securities Industry and Financial Markets Association, dated May 17,
2017 (``SIFMA Letter''). All comments on the proposed rule change
are available at https://www.sec.gov/comments/sr-chx-2017-04/chx201704.htm.
    \6\ 15 U.S.C. 78s(b)(2)(B).
    \7\ See Securities Exchange Act Release No. 80740, 82 FR 24412
(May 26, 2017) (``OIP''). In the OIP, the Commission specifically
requested comment on thirteen questions. See id. at 24416.
    \8\ See letters from: R.T. Leuchtkafer, dated June 15, 2017
(``Leuchtkafer Letter 2''); Stephen Berger, Managing Director,
Government and Regulatory Policy, Citadel Securities, dated June 16,
2017 (``Citadel Letter 2''); Joanna Mallers, Secretary, FIA
Principal Traders Group, dated June 16, 2017 (``FIA PTG Letter 2'');
James G. Ongena, Executive Vice President, General Counsel, CHX,
dated June 30, 2017 (``CHX Letter 2''); R.T. Leuchtkafer, dated July
7, 2017 (``Leuchtkafer Letter 3''); R.T. Leuchtkafer, dated July 10,
2017 (``Leuchtkafer Letter 4''); and R.T. Leuchtkafer, dated October
7, 2017 (``Leuchtkafer Letter 5'').
    \9\ 15 U.S.C. 78s(b)(2).
    \10\ See Securities Exchange Act Release No. 81415, 82 FR 40051
(August 23, 2017).
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    On September 19, 2017, the Exchange filed Amendment No. 1 to the
proposed rule change. In Amendment No. 1, the Exchange proposed to
implement the proposed rule change as a 24-month pilot program, during
which time the Exchange would collect and publicly disclose (following
the sixth month of the pilot program) the following data: (1) Quote
quality statistics, designed to provide comparative data regarding the
effect of LEAD on market quality, for each security per trading day and
for each period of exceptional volatility (``PEV'') range (``PEV
Range''), for the six months immediately preceding the implementation
of the pilot program and for the duration of the pilot program; (2)
matched trade difference statistics, designed to compare the
reliability of CHX quotes with and without the LEAD, for each security
assigned to a LEAD MM (``LEAD MM Security'') per trading day and per
PEV Range, for the duration of the pilot program; (3) volume
statistics, designed to measure the impact of LEAD on execution volume
in LEAD MM Securities for the duration of the pilot program; (4)
variable processing delay statistics, designed to provide comparative
data regarding the variable delay \11\ between the initial receipt of
an order and the time that the order is eligible to be matched by CHX's
matching system for the duration of the pilot program; and (5)
effective spread statistics, designed to measure the impact of the LEAD
on CHX and national market system (``NMS'') effective spreads for the
duration of the pilot program.\12\ On October 18, 2017, the Exchange
filed Amendment No. 2 to the proposed rule change.\13\ This order
approves the proposed rule change, as

modified by Amendments No. 1 and No. 2, on an accelerated basis.
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    \11\ The variable delay does not include the 350-microsecond
intentional access delay. The variable delay will depend on factors
including, but not limited to, messaging volume and system
processing. See Amendment No. 1, infra note 12, at 28.
    \12\ In Amendment No. 1, the Exchange also supplemented its
rationale for the proposed rule change, provided additional
discussion related to the market quality enhancements that it
believes would be realized from the proposal, corrected certain
errors in the examples set forth in the proposal, and corrected a
misstatement by the Exchange in one of its comment letters.
Amendment No. 1 is available at https://www.sec.gov/comments/sr-chx-2017-04/chx201704-2583844-161106.pdf.
    \13\ In Amendment No. 2, the Exchange: (1) Amended the proposal
so that the LEAD would apply only during the regular trading
session; (2) revised the definition of ``Qualified Executions'' to
measure executions during the regular trading session only; (3)
modified its description of its review for compliance with the
minimum performance standards to provide that the Exchange would
review LEAD MM quoting and trading activity on a monthly basis, and
that trading days on which a LEAD MM was prohibited by CHX rules
from submitting orders from its trading account would be excluded
from such review; (4) modified its description of the data that will
be published on its Web site; (5) modified its description of the
PEV data that will be collected; and (6) clarified its description
of one of the order origin categories into which the variable
processing delay statistics will be divided and amended and added
delay ranges for which data will be collected. Amendment No. 2 is
available at https://www.sec.gov/comments/sr-chx-2017-04/chx201704-2643435-161294.pdf.
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II. Summary of the Proposal

    The Exchange proposes to adopt, on a pilot basis, the LEAD,\14\
which would subject all new incoming orders,\15\ cancel, and cancel/
replace messages to a 350-microsecond intentional access delay, except
for: (1) Orders that would provide liquidity submitted by a LEAD MM;
and (2) cancel messages originating from a LEAD MM's trading account.
New incoming orders, cancel, and cancel/replace messages would be
subject to a 350 microsecond delay after initial receipt by the
Exchange (``Fixed LEAD Period''), and would only be processed after the
Exchange's matching system \16\ has evaluated and processed, if
applicable, all messages received by the Exchange during the Fixed LEAD
Period. A delayed message would retain its original sequence number and
would be delayed only once. The LEAD would be applied to all securities
traded on the Exchange during the regular trading session.\17\
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    \14\ For more details regarding the proposal, please refer to
the Notice, Amendment No. 1, and Amendment No. 2, supra notes 3, 12,
and 13 respectively.
    \15\ New incoming orders are orders received by the matching
system for the first time. The LEAD would not apply to other
situations where existing orders or portions thereof are treated as
incoming orders, such as: (1) Resting orders that are price slid
into a new price point pursuant to the CHX only price sliding or
limit up-limit down price sliding processes; and (2) unexecuted
remainders of routed orders released into the matching system. See
Notice, supra note 3, 82 FR at 11252, n.3.
    \16\ The matching system is an automated order execution system.
    \17\ See Amendment No. 2, supra note 13, at 11.
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    The Exchange states that the LEAD is designed to address a lack of
resting liquidity in NMS securities on CHX by providing LEAD MMs with a
risk management tool that would incentivize LEAD MMs to display larger
orders at aggressive prices.\18\ To the extent the LEAD would
incentivize LEAD MMs to improve the price and size of the prevailing
National Best Bid and Offer (``NBBO''), the Exchange asserts that LEAD
could reduce transaction costs for retail investors, as wholesale
broker-dealers price the majority of the retail orders they handle
using the prevailing NBBO, and for institutional investors, as the
execution costs for their orders would be reduced if the average NBBO
spreads are narrowed.\19\
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    \18\ See Amendment No. 1, supra note 12, at 8.
    \19\ See CHX Letter 2, supra note 8, at 10. Originally, CHX
framed the LEAD as a countermeasure to ``latency arbitrage,''
defined by the Exchange as the practice of exploiting disparities in
the price of a security or related securities that are being traded
in different markets by taking advantage of the time it takes to
access and respond to public information. See Notice, supra note 3,
82 FR at 11252-53. CHX attributes latency arbitrage to a degradation
of the quality of its market it observed between January and July
2016. See id. at 11253.
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    A LEAD MM would be required to meet the proposed minimum
performance standards in return for undelayed access to submit
liquidity providing orders and to cancel its resting orders. The
proposed minimum performance standards require, in addition to the
obligations for market makers required by the Exchange's current
rules,\20\ that: (1) A LEAD MM disseminate throughout the Exchange's
regular trading session (except during auctions) a continuous two-sided
quote, with bids and offers being closer to the National Best Bid
(``NBB'') and National Best Offer (``NBO''), respectively, than the
quotes that market makers are required to post under CHX's existing
rules; (2) a LEAD MM maintain an average monthly NBBO quoting
percentage \21\ in each of its LEAD MM Securities of at least 10% over
the course of a calendar month; (3) a LEAD MM must execute at least 2%
of the transactions during the regular trading session, resulting from
single-sided orders (excluding auction executions), in each of its LEAD
MM Securities on an equally-weighted daily average over the course of a
calendar month; and (4) at least 80% of the LEAD MM's executions during
the regular trading session, resulting from single-sided orders
(excluding auction executions), in each of its LEAD MM Securities
result from its resting orders that originated from its corresponding
LEAD MM trading account over the course of a calendar month.\22\
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    \20\ See CHX Article 16, Rule 4(d).
    \21\ Proposed CHX Article 16, Rule 4(f)(2) provides that the
Exchange will determine: (1) The ``Daily NBB Quoting Percentage'' by
determining the percentage of time the LEAD MM has at least one
round lot of displayed interest in an Exchange bid at the NBB during
the open trading state of each trading day for a calendar month; (2)
the ``Daily NBO Quoting Percentage'' by determining the percentage
of time the LEAD MM has at least one round lot of displayed interest
in an Exchange offer at the NBO during the open trading state of
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; and (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.
    \22\ Prior to commencing LEAD market making activities in a
security, a LEAD MM must, among other things, establish at least one
separately designated LEAD MM trading account through which all and
only LEAD market making activities in LEAD MM Securities must
originate. See proposed CHX Article 16, Rule 4(f)(3)(B)(i).
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    CHX also proposes to establish a procedure to designate LEAD MMs in
a security. Only a market maker could apply to be a LEAD MM in one or
more securities, and market makers must receive written approval from
the Exchange to be assigned securities as a LEAD MM.\23\ LEAD MMs would
be selected by the Exchange based on factors including, but not limited
to, experience with making markets in securities, adequacy of capital,
willingness to promote the Exchange as a marketplace, issuer
preference, operational capacity, support personnel, and history of
adherence to Exchange rules and securities laws.\24\ Current Article
16, Rules 2(c)-(e) govern market maker withdrawal from assigned
securities, and would apply to LEAD MMs and LEAD MM Securities. The
Exchange could approve, at its discretion, more than one LEAD MM to be
assigned to any LEAD MM Security and limit the number of LEAD MMs
assigned to any security.\25\
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    \23\ See proposed CHX Article 16, Rule 4(f)(3)(A).
    \24\ See id.
    \25\ See proposed CHX Article 16, Rule 4(f)(3)(C).
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    Pursuant to proposed CHX Article 16, Rule 4(f)(3)(D), the Exchange
would review each LEAD MM's quoting and trading activity on a monthly
basis to determine whether the LEAD MM has met the minimum performance
standards for each of its LEAD MM Securities.\26\ A LEAD MM's failure
to meet the minimum performance standards during any given month would
result in the Exchange: (1) Suspending or terminating a LEAD MM's
registration as a market maker; or (2) suspending or terminating
assignment to a LEAD MM Security.\27\ These proposed provisions would
not limit any other power of the Exchange to discipline a LEAD MM
pursuant to other CHX rules.
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    \26\ See proposed CHX Article 16, Rule 4(f)(3)(D). The trading
days that a LEAD MM is prohibited by CHX rules from submitting
orders will be excluded from such review. See Amendment No. 2, supra
note 13, at 12.
    \27\ See proposed CHX Article 16, Rule 4(f)(3)(D).
---------------------------------------------------------------------------

    CHX Article 20, Rule 8(h) and proposed CHX Article 16, Rule 4(f)
(collectively, the ``LEAD Rules'') would be introduced as a pilot
program that would end 24 months following the implementation of the
LEAD.\28\ In connection with the pilot program, the Exchange would
collect the following data (collectively, the ``Pilot Data''): (1)
Quote quality statistics for each security

per trading day and per PEV Range,\29\ for the six months immediately
preceding the pilot program date of implementation, and for the
duration of the pilot program; (2) matched trade difference statistics,
which are designed to provide comparative data regarding how Qualified
Orders \30\ received by CHX would have been handled if LEAD had not
been in effect, for each LEAD MM Security per trading day and per PEV
Range, for the duration of the pilot program; (3) volume statistics for
each LEAD MM Security per trading day for the duration of the pilot
program; (4) comparative data regarding the variable delay between the
initial receipt of an order and the time at which the order is eligible
to be matched by CHX's matching system for each LEAD MM Security per
trading day for the duration of the pilot program; and (5) statistics
designed to measure the impact of LEAD on CHX and NMS effective
spreads, for each LEAD MM Security per trading day and per PEV Range,
for the duration of the pilot program. The Pilot Data is described in
more detail below:
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    \28\ To adopt the LEAD on a permanent basis, the Exchange would
have to file another proposed rule change, and the Commission would
have to approve it.
    \29\ A PEV means a one second interval during which a percentage
change in the NBBO midpoint for the security equaled or exceeded two
standard deviations (``[sigma]'') from the mean. Each trading day,
the Exchange would calculate a reference mean and standard deviation
from consecutive one second time intervals during the regular
trading session. Each daily reference mean and standard deviation
would be applied to measure PEV on the following trading day. Each
PEV would be categorized into one of five PEV Ranges, which are as
follows: 2 = PEV greater than or equal to 2[sigma] and less than
3[sigma]; 3 = PEV greater than or equal to 3[sigma] and less than
4[sigma]; 4 = PEV greater than or equal to 4[sigma] and less than
5[sigma]; and 5 = PEV greater than or equal to 5[sigma]. See
Amendment No. 2, supra note 13, at 8.
    \30\ Generally, ``Qualified Orders'' are new single-sided orders
received by the Exchange during the regular trading session that
were delayed.
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1. Daily Quote Quality Statistics
    The daily quote quality statistics are designed to show several
aspects of CHX and overall market quote quality both pre- and post-
implementation of the pilot program. First, the statistics will show
the width and the displayed size for both the NBBO and CHX's BBO during
different periods of market volatility. Second, the statistics will
display the contribution to the NBBO and CHX's BBO by the LEAD MM for
those different periods of volatility. Finally, the statistics will
show the contribution of CHX's BBO to the overall NBBO. Quote quality
statistics are designed to provide comparative data regarding the
effect of LEAD on market quality, and would include at a minimum the
following data fields (as applicable):

------------------------------------------------------------------------
          Field No.              Field name           Description
------------------------------------------------------------------------
1...........................  Symbol.........
1A..........................  Primary          C = Chicago (CH2).
                               Matching        N = New Jersey (NY4).
                               Location.
2...........................  TradeDate......
2A..........................  PEVRange.......  Blank = All regular
                                                session data,
                                               2 = PEV data greater than
                                                or equal to 2[sigma] and
                                                less than 3[sigma],
                                               3 = PEV data greater than
                                                or equal to 3[sigma] and
                                                less than 4[sigma],
                                               4 = PEV data greater than
                                                or equal to 4[sigma] and
                                                less than 5[sigma],
                                               5 = PEV data greater than
                                                or equal to 5[sigma].
3...........................  NLMMs..........  The number of LMMs
                                                assigned to this Symbol
                                                on this Trade Date.
4A..........................  TimeRegSessSche  The total scheduled time
                               duled.           of the regular trading
                                                session for this Symbol
                                                for this TradeDate.
4B..........................  TimeRegSessActu  The total actual time of
                               al.              the regular trading
                                                session for this Symbol
                                                for this TradeDate. Time
                                                during regulatory
                                                trading halts is not
                                                included in this total.
5...........................  TimeCHXBidPrese  The total time during the
                               nt.              regular trading session
                                                that CHX has a protected
                                                bid.
5L..........................  TimeCHXBidPrese  The total time during the
                               ntLMM.           regular trading session
                                                that CHX has a protected
                                                bid and one or more LMMs
                                                are included in the CHX
                                                protected bid price.
6...........................  TimeCHXBidMissi  The total time during the
                               ng.              regular trading session
                                                that CHX does not have a
                                                protected bid.
7...........................  TimeCHXBidOnNBB  The total time during the
                                                regular trading session
                                                that CHX has a protected
                                                bid equal to the NBB
                                                price.
7L..........................  TimeCHXBidOnNBB  The total time during the
                               LMM.             regular trading session
                                                that CHX has a protected
                                                bid equal to the NBB
                                                price and one or more
                                                LMMs are included in the
                                                NBB price.
8...........................  TimeCHXBidNamed  The total time during the
                                                regular trading session
                                                that CHX has a protected
                                                bid equal to the NBB
                                                price and CHX is shown
                                                as the NBB.
8L..........................  TimeCHXBidNamed  The total time during the
                                                regular trading session
                                                that CHX has a protected
                                                bid equal to the NBB
                                                price and CHX is shown
                                                as the NBB and one or
                                                more LMMs are included
                                                in the NBB price.
9...........................  TimeCHXBidAlone  The total time during the
                                                regular trading session
                                                that CHX has a protected
                                                bid that is the only bid
                                                at the NBB price.
9L..........................  TimeCHXBidAlone  The total time during the
                               LMM.             regular trading session
                                                that CHX has a protected
                                                bid that is the only
                                                protected bid at the NBB
                                                price and one or more
                                                LMMs are included in the
                                                NBB price.
10..........................  TimeCHXAskPrese  The total time during the
                               nt.              regular trading session
                                                that CHX has a protected
                                                offer.
10L.........................  TimeCHXAskPrese  The total time during the
                               ntLMM.           regular trading session
                                                that CHX has a protected
                                                offer and one or more
                                                LMMs are included in the
                                                CHX protected offer.
11..........................  TimeCHXAskMissi  The total time during the
                               ng.              regular trading session
                                                that CHX does not have a
                                                protected offer.
12..........................  TimeCHXAskOnNBO  The total time during the
                                                regular trading session
                                                that CHX has a protected
                                                offer equal to the NBO
                                                price.
12L.........................  TimeCHXAskOnNBO  The total time during the
                               LMM.             regular trading session
                                                that CHX has a protected
                                                offer equal to the NBO
                                                price and one or more
                                                LMMs are included in the
                                                NBO price.

13..........................  TimeCHXAskNamed  The total time during the
                                                regular trading session
                                                that CHX has a protected
                                                offer equal to the NBO
                                                price and CHX is shown
                                                as the NBO.
13L.........................  TimeCHXAskNamed  The total time during the
                               LMM.             regular trading session
                                                that CHX has a protected
                                                offer equal to the NBO
                                                price and CHX is shown
                                                as the NBO and one or
                                                more LMMs are included
                                                in the NBO price.
14..........................  TimeCHXAskAlone  The total time during the
                                                regular trading session
                                                that CHX has a protected
                                                offer that is the only
                                                protected offer at the
                                                NBO price.
14L.........................  TimeCHXAskAlone  The total time during the
                               LMM.             regular trading session
                                                that CHX has a protected
                                                offer that is the only
                                                protected offer at the
                                                NBO price and one or
                                                more LMMs are included
                                                in the NBO price.
15..........................  TimeCHXNoQuote.  The total time during the
                                                regular trading session
                                                that CHX has neither a
                                                protected bid nor a
                                                protected offer.
16..........................  TimeCHXTwoSided  The total time during the
                                                regular trading session
                                                that CHX has both a
                                                protected bid and a
                                                protected offer.
17..........................  TimeNBBOUncross  The total time during the
                               ed.              regular trading session
                                                that the NBBO is not
                                                crossed.
18..........................  Time-            The time-weighted average
                               weightedCHXBid   difference between the
                               Differential.    CHX protected bid price
                                                and the NBB price when a
                                                CHX protected bid is
                                                present during the
                                                regular trading session.
19..........................  Time-            The time-weighted average
                               weightedCHXBid   CHX protected bid size
                               SizeOnNBB.       when the CHX protected
                                                bid price equals the NBB
                                                price during the regular
                                                trading session.
19L.........................  Time-            The time-weighted average
                               weightedCHXBid   LMM percentage of the
                               SizeOnNBBLMM.    CHX protected bid size
                                                when the CHX protected
                                                bid price equals the NBB
                                                price during the regular
                                                trading session.
20..........................  Time-            The time-weighted average
                               weightedCHXBid   CHX protected bid size
                               SizeWhenNamed.   when the CHX protected
                                                bid price equals the NBB
                                                price during the regular
                                                trading session.
20L.........................  Time-            The time-weighted average
                               weightedCHXBid   LMM percentage of CHX
                               SizeWhenNamed.   protected bid size when
                                                the CHX protected bid
                                                price equals the NBB
                                                price during the regular
                                                trading session.
21..........................  Time-            The time-weighted average
                               weightedCHXBid   LMM percentage of CHX
                               SizeWhenAlone.   protected bid size when
                                                the CHX protected bid is
                                                the only protected bid
                                                at the NBB price during
                                                the regular trading
                                                session.
21L.........................  Time-            The time-weighted average
                               weightedCHXBid   CHX protected bid size
                               SizeWhenAloneL   when the CHX protected
                               MM.              bid is the only
                                                protected bid at the NBB
                                                price during the regular
                                                trading session.
22..........................  Time-            The time-weighted average
                               weightedCHXPct   percentage of all
                               OfBid            protected quotations at
                               SizeWhenOnNBB.   the NBB price when the
                                                CHX protected bid price
                                                equals the NBB price.
23..........................  Time-            The time-weighted average
                               weightedCHXAsk   difference between the
                               Differential.    CHX protected offer
                                                price and the NBO price
                                                when a CHX protected
                                                offer is present during
                                                the regular trading
                                                session.
24..........................  Time-            The time-weighted average
                               weightedCHXAsk   CHX protected offer size
                               SizeOnNBO.       when the CHX protected
                                                offer price equals the
                                                NBO price during the
                                                regular trading session.
24L.........................  Time-            The time-weighted average
                               weightedCHXAsk   LMM percentage of CHX
                               SizeOnNBOLMM.    protected offer size
                                                when the CHX protected
                                                offer price equals the
                                                NBO price during the
                                                regular trading session.
25..........................  Time-            The time-weighted average
                               weightedCHXAsk   CHX protected offer size
                               SizeWhenNamed.   when the CHX protected
                                                offer price equals the
                                                NBO price during the
                                                regular trading session.
25L.........................  Time-            The time-weighted average
                               weightedCHXAsk   LMM percentage of CHX
                               SizeWhenNamedL   protected offer size
                               MM.              when the CHX protected
                                                offer price equals the
                                                NBO price during the
                                                regular trading session.
26..........................  Time-            The time-weighted average
                               weightedCHXAsk   CHX protected offer size
                               SizeWhenAlone.   when the CHX protected
                                                offer is the only
                                                protected offer at the
                                                NBO price during the
                                                regular trading session.
26L.........................  Time-            The time-weighted average
                               weightedCHXAsk   LMM percentage of CHX
                               SizeWhenAloneL   protected offer size
                               MM.              when the CHX protected
                                                offer is the only
                                                protected offer at the
                                                NBO price during the
                                                regular trading session.
27..........................  Time-            The time-weighted average
                               weightedCHXPct   percentage of all
                               OfAsk            protected quotation size
                               SizeWhenOnNBO.   at the NBO price when
                                                CHX protected offer
                                                price equals the NBO
                                                price.
28..........................  Time-            The time-weighted average
                               weightedCHX      difference between the
                               BBOSpread.       CHX protected bid price
                                                and the CHX protected
                                                offer price when CHX is
                                                displaying a two-sided
                                                protected quotation.
29..........................  Time-            The time-weighted average
                               WeightedNBBOSp   difference between the
                               read.            NBB price and the NBO
                                                price when a two-sided
                                                NBBO exists.
------------------------------------------------------------------------

2. Matched Trade Difference Statistics
    The matched trade difference statistics are designed to show how
many shares were executed with the LEAD MM proposal implemented and
also, hypothetically, how many shares would have been executed had the
LEAD MM proposal not been implemented, which would be accomplished by
assuming non-LEAD MM orders were executed immediately. In addition,
these metrics are aggregated by specific PEV Range so that one can
analyze how these executions vary during different periods of
volatility. Each Qualified Order would be categorized into one of the
following four groups: (1) Group 1: Orders with at least a partial
execution upon initial processing by CHX's matching system

that would have had the same number of shares executed with or without
LEAD; (2) Group 2: Orders with at least a partial execution upon
initial processing by the matching system that had fewer executed
shares with LEAD than it would have had without LEAD; (3) Group 3:
Orders with at least a partial execution upon initial processing by the
matching system that had more executed shares with LEAD than it would
have had without LEAD; and (4) Group 4: Orders with no executed shares
upon initial processing by the matching system with LEAD.\31\
---------------------------------------------------------------------------

    \31\ See proposed CHX Article 20, Rule 8(h)(5)(A).
---------------------------------------------------------------------------

    Match trade difference statistics would include, at a minimum, the
following data fields, as applicable:

------------------------------------------------------------------------
          Field No.              Field name           Description
------------------------------------------------------------------------
1...........................  Symbol.........
1A..........................  Primary          C = Chicago (CH2).
                               Matching        N = New Jersey (NY4).
                               Location.
2...........................  TradeDate......
2A..........................  PEVRange.......  Blank = All regular
                                                session data.
                                               2 = PEV data greater than
                                                or equal to 2[sigma] and
                                                less than 3[sigma].
                                               3 = PEV data greater than
                                                or equal to 3[sigma] and
                                                less than 4[sigma].
                                               4= PEV data greater than
                                                or equal to 4[sigma] and
                                                less than 5[sigma].
                                               5 = PEV data greater than
                                                or equal to 5[sigma].
3...........................  InboundTradingA  The Trading Account of
                               ccount.          the inbound order.
3A..........................  NLMMs..........  The number of LMMs
                                                assigned to this Symbol
                                                on this Trade Date.
4...........................  CapacityCode...  This field would include
                                                the following codes:
                                               Code Meaning
                                               A Agency.
                                               L LEAD Market Maker.
                                               M Market Maker (not
                                                LEAD).
                                               P Principal.
                                               R Riskless Principal.
4A..........................  ExchangeCode...  Code Meaning
                                               N Not from an exchange.
                                               Y From an exchange.
5...........................  ISOCode........  Code Meaning
                                               N Not an ISO order.
                                               Y An ISO order.
6...........................  TimeInForceCode  Code Meaning
                                               0 DAY or equivalent.
                                               3 IOC.
                                               4 FOK.
                                               9 Other (includes
                                                auction).
7...........................  GROUP1_NO......  The number of orders
                                                (``NO'') in Group 1.
8...........................  GROUP1_NTS.....  The total number of
                                                shares on all orders
                                                (``NTS'') in Group 1.
9 \32\......................  GROUP1_NSE =     The total number of
                               GROUP1_NSEW.     shares immediately
                                                executed upon initial
                                                processing by the
                                                Matching System on all
                                                orders (``NSE'') in
                                                Group 1, which would
                                                always be equal to the
                                                total number of shares
                                                that would have been
                                                immediately executed
                                                upon initial processing
                                                by the Matching System
                                                had LEAD not been in
                                                effect (``NSEW'').
10..........................  GROUP2_NO......  NO in Group 2.
11..........................  GROUP2_NTS.....  NTS in Group 2.
12..........................  GROUP2_NSE.....  NSE in Group 2.
13..........................  GROUP2_NSEW....  NSEW on all orders in
                                                Group 2.
14..........................  GROUP3_NO......  NO in Group 3.
15..........................  GROUP3_NTS.....  NTS in Group 3.
16..........................  GROUP3_NSE.....  NSE in Group 3.
17..........................  GROUP3_NSEW....  NSEW on all orders in
                                                Group 3.
18..........................  GROUP4_NO......  NO in Group 4.
19..........................  GROUP4_NTS.....  NTS in Group 4.
                              GROUP4_NSE.....  This value would always
                                                be zero and not
                                                included.
20..........................  GROUP4_NSEW....  NSEW on all orders in
                                                Group 4.
21..........................  LMMProvideOrder  Frequency at which an LMM
                               ExecutedAheadO   provider order ranked on
                               fDelayedNonLMM   the CHX book executes
                               ProvideOrder.    ahead of a precedent non-
                                                LMM order (with the same
                                                side and price as the
                                                LMM order) that would
                                                have been immediately
                                                ranked on the CHX book
                                                if it had originated
                                                from a LEAD MM Trading
                                                Account, but was
                                                delayed.
------------------------------------------------------------------------

---------------------------------------------------------------------------

    \32\ NSE and NSEW exclude executions that resulted or would have
resulted after initial processing by the matching system, such as
when the orders are executed after being ranked on the CHX book. See
Amendment No. 1, supra note 12, at 27.
---------------------------------------------------------------------------

3. Volume Statistics
    The volume statistics are designed to show how the adoption of the
LEAD by market makers changes over time as well as how much volume
these new market makers execute over time. Generally, this data will
concisely indicate CHX's ability to attract new market makers to the
LEAD MM program. For each LEAD MM Security, the Exchange would collect
the following: (1) Daily number of LEAD MMs assigned; (2) total single-
sided volume on CHX; (3) total market wide

single-sided volume; \33\ (4) total single-sided volume on CHX
attributed to LEAD MMs as providers; and (5) the primary matching
location for the security.
---------------------------------------------------------------------------

    \33\ In calculating total market wide volume, the Exchange will
exclude volume attributed to certain non-standard trades. See
Amendment No. 1, supra note 12, at 27.
---------------------------------------------------------------------------

4. Variable Processing Delay Statistics
    The variable processing delay statistics are designed to indicate
how variable delays are distributed between orders from LEAD MMs and
other market participants. All exchanges experience delays to some
degree during periods of high order volume. These statistics will
highlight discrepancies in delays experienced by orders from LEAD MMs
and other market participants. These statistics would be divided into
three order origin categories: (1) Orders from CHX participants that
are not LEAD MMs; (2) liquidity taking orders from LEAD MMs; and (3)
undelayed liquidity providing orders from LEAD MMs. For each order
origin category, the Exchange would collect the following: (1) The
number of orders with a variable delay less than 50 microseconds, and
the average delay time; (2) the number of orders with a variable delay
equal to or greater than 50 microseconds but less than 150
microseconds, and the average delay time; (3) the number of orders with
a variable delay equal to or greater than 150 microseconds but less
than 250 microseconds, and the average delay time; (4) the number of
orders with a variable delay equal to or greater than 250 microseconds
but less than 350 microseconds, and the average delay time; and (5) the
number of orders with a variable delay equal to or greater than 350
microseconds, and the average delay time.\34\
---------------------------------------------------------------------------

    \34\ See Amendment No. 2, supra note 13, at 10.
    \35\ Generally, ``Eligible Trades'' are executions attributed to
single-sided orders received during the regular trading session when
a two-sided and uncrossed NBBO disseminated by the relevant
Securities Information Processor (``SIP NBBO'') was present. See
proposed CHX Article 20, Rule 8(h)(8).
---------------------------------------------------------------------------

5. Effective Spread Statistics
    The effective spread statistics are designed to track both the CHX
and overall market effective spreads per security for different PEV
Ranges prior to and after the implementation of the pilot program. This
data should highlight changes in market quality that occur during the
pilot program. The effective spread statistics would include, at least,
the following data fields, as applicable:

------------------------------------------------------------------------
          Field No.               Field name           Description
------------------------------------------------------------------------
1............................  Symbol.........
1A...........................  Primary          C = Chicago (CH2).
                                Matching        N = New Jersey (NY4).
                                Location.
2............................  Date...........
2A...........................  PEVRange.......  Blank = All regular
                                                 session data.
                                                2 = PEV data greater
                                                 than or equal to
                                                 2[sigma] and less than
                                                 3[sigma].
                                                3 = PEV data greater
                                                 than or equal to
                                                 3[sigma] and less than
                                                 4[sigma].
                                                4 = PEV data greater
                                                 than or equal to
                                                 4[sigma] and less than
                                                 5[sigma].
                                                5 = PEV data greater
                                                 than or equal to
                                                 5[sigma].
3............................  NLMMs..........  Number of LMMs assigned
                                                 to symbol.
4............................  TradeSizeBracke     1 = 1-499.
                                t.              2 = 500-1999.
                                                3 = 2000-4999.
                                                4 = 5000-9999.
                                                5 = 10,000 or more.
5............................  CHXNTrades.....  For Eligible Trades \35\
                                                 reported by CHX in
                                                 TradeSizeBracket, the
                                                 number of Eligible
                                                 Trades reported.
6............................  CHXNShares.....  For Eligible Trades
                                                 reported by CHX in
                                                 TradeSizeBracket,
                                                 number of shares
                                                 attributed to Eligible
                                                 Trades reported.
7............................  SW_CHX_Effectiv  For Eligible Trades
                                eSpread.         reported by CHX in
                                                 TradeSizeBracket: Share-
                                                 Weighted (2 *
                                                 [verbar]Trade Price--
                                                 SIP NBBO
                                                 Midpoint[verbar]).
8............................  SW_CHX_Effectiv  For qualified trades
                                eSpreadIndex.    reported by CHX in
                                                 TradeSizeBracket: CHX
                                                 Effective Spread
                                                 divided by the SIP NBBO
                                                 at Participant Trade
                                                 Report Time.
9............................  NMSNTrades.....  For Eligible Trades
                                                 reported by SIP, the
                                                 number of trades
                                                 reported.
10...........................  NMSNShares.....  For Eligible Trades
                                                 reported by SIP in
                                                 TradeSizeBracket, the
                                                 number of shares
                                                 reported.
11...........................  SW_NMS_Effectiv  For Eligible Trades
                                eSpread.         reported by SIP in
                                                 TradeSizeBracket: Share-
                                                 Weighted (2 *
                                                 [verbar]Trade Price--
                                                 SIP NBBO
                                                 Midpoint[verbar]).
12...........................  SW_NMS_Effectiv  For Eligible Trades
                                eSpreadIndex.    reported by SIP in
                                                 TradeSizeBracket: NMS
                                                 Effective Spread
                                                 divided by the SIP NBBO
                                                 at Participant Trade
                                                 Report Time.
------------------------------------------------------------------------

6. Timeline To Produce Pilot Data
    By no later than the end of the second month of the pilot program,
the Exchange would provide the Commission with the Pilot Data for the
first month of the pilot program.\36\ By the end of each month
thereafter, the Exchange would provide the Commission with the Pilot
Data from the previous month.\37\ By no later than the end of the sixth
month of the pilot program, the Exchange would publish on its Web site
an anonymized version of the Pilot Data and, by the end of each month
thereafter, the Exchange would publish on its Web site an anonymized
version of the Pilot Data, for each prior month of the pilot
program.\38\ On the first day of the pilot program, the Exchange would
publish on the CHX Web site each LEAD MM Security and the number of
LEAD MMs assigned to each security, which would be updated daily during
the duration of the pilot program.\39\ By no later than the end of the
eighteenth month of the pilot program, the Exchange would provide the
Commission with an analysis of the Pilot Data, which would be made
publicly available.\40\
---------------------------------------------------------------------------

    \36\ See proposed CHX Article 20, Rule 8(h)(3)(B).
    \37\ See id.
    \38\ See proposed CHX Article 20, Rule 8(h)(3)(C).
    \39\ See id.
    \40\ See proposed CHX Article 20, Rule 8(h)(3)(A).

---------------------------------------------------------------------------

III. Discussion and Commission Findings

    The Commission has carefully reviewed the proposal and finds that
approval of the proposed rule change, as modified by Amendments No. 1
and No. 2, is consistent with the requirements of the Exchange Act and
the rules and regulations thereunder applicable to a national
securities exchange.\41\ In particular, as discussed below, the
Commission finds that the proposal is consistent with: (1) Section
6(b)(5) of the Exchange Act,\42\ which requires that the rules of a
national securities exchange, among other things, be designed to
prevent fraudulent and manipulative acts and practices, 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 not
be designed to permit unfair discrimination between customers, issuers,
brokers, or dealers; (2) Section 6(b)(8) of the Exchange Act,\43\ which
requires that the rules of a national securities exchange not impose
any burden on competition not necessary or appropriate in furtherance
of the purposes of the Exchange Act; and (3) Section 11A of the
Exchange Act, which articulates Congress' finding that, among other
things, it is in the public interest and appropriate for the protection
of investors and the maintenance of fair and orderly markets to assure:
Economically efficient execution of securities transactions; fair
competition among brokers and dealers, among exchange markets, and
between exchange markets; the availability to brokers, dealers, and
investors of information with respect to quotations for and
transactions in securities; the practicability of brokers executing
investors' orders in the best market; and an opportunity, consistent
with the economically efficient execution of securities transactions
and the practicability of brokers executing investors' orders in the
best market, for investors' orders to be executed without the
participation of a dealer.\44\
---------------------------------------------------------------------------

    \41\ In approving the proposed rule change, as modified by
Amendments No. 1 and No. 2, the Commission has considered its impact
on efficiency, competition, and capital formation. 15 U.S.C. 78c(f).
See infra Section III.A.
    \42\ 15 U.S.C. 78f(b)(5).
    \43\ 15 U.S.C. 78f(b)(8).
    \44\ 15 U.S.C. 78k-1(a)(1)(C).
---------------------------------------------------------------------------

    The Commission received sixteen comment letters from ten commenters
on the proposal and two response letters from the Exchange.\45\ Two
commenters express support for the proposal,\46\ and eight commenters
express opposition to, or concern regarding, the proposal.\47\
---------------------------------------------------------------------------

    \45\ See supra notes 5 and 8.
    \46\ See Virtu Letter, supra note 5; and CTC Trading Group
Letter, supra note 5.
    \47\ See XR Securities Letter, supra note 5; FIA PTG Letter,
supra note 5; Hudson River Trading Letter, supra note 5; Leuchtkafer
Letter, supra note 5; Citadel Letter, supra note 5; Healthy Markets
Letter, supra note 5; NYSE Letter, supra note 5; and SIFMA Letter,
supra note 5.
---------------------------------------------------------------------------

A. Section 6 of the Exchange Act

    Section 6(b)(5) of the Exchange Act requires that the rules of a
national securities exchange must be, among other things, not designed
to permit unfair discrimination between customers, issuers, brokers, or
dealers.\48\ Certain commenters argue that the proposed rule change
would provide an unfair advantage to LEAD MMs over other CHX
participants.\49\ In particular, commenters argue that by not
subjecting LEAD MMs' liquidity providing orders and related cancels to
the LEAD, the proposal would unfairly discriminate in favor of the LEAD
MMs.\50\ Two commenters state that the LEAD would unfairly discriminate
against market participants that are primarily liquidity takers, such
as retail investors or institutions.\51\ A commenter argues that the
discriminatory nature of the LEAD would harm market participants when
they seek to access liquidity provided by a LEAD MM as the LEAD MM may
alter its price while incoming orders are being delayed.\52\ Another
commenter expresses concern that the LEAD would frustrate strategies
that involve taking prices across multiple venues by giving extra time
to LEAD MMs to pull their quotes in the middle of a multi-venue
order.\53\
---------------------------------------------------------------------------

    \48\ 15 U.S.C. 78f(b)(5).
    \49\ See FIA PTG Letter, supra note 5, at 3; XR Securities
Letter, supra note 5, at 1; SIFMA Letter, supra note 5, at 2;
Leuchtkafer Letter, supra note 5, at 4 (asserting that the LEAD
would only benefit market participants who become LEAD MMs and
subscribe to the Chicago Mercantile Exchange's (``CME'') data
feeds); Hudson River Trading Letter, supra note 5, at 2; and Citadel
Letter, supra note 5, at 3.
    \50\ See FIA PTG Letter, supra note 5, at 2-3; Leuchtkafer
Letter, supra note 5, at 4-5; Citadel Letter, supra note 5, at 3-4;
Hudson River Trading Letter, supra note 5, at 5-6. See also XR
Securities Letter, supra note 5, at 2 (stating that the LEAD would
give LEAD MMs an ``unfair advantage''); Healthy Markets Letter,
supra note 5, at 4 (stating that the proposal would ``venture into
unchartered discriminatory waters, and offers little explanation or
justification''); and SIFMA Letter, supra note 5, at 5 (asserting
that any intentional delay should be universally applied to all
market participants in a non-discriminatory manner).
    \51\ See Citadel Letter, supra note 5, at 5-6; Leuchtkafer
Letter, supra note 5, at 4.
    \52\ See Hudson River Trading Letter, supra note 5, at 2.
    \53\ See FIA PTG Letter, supra note 5, at 3.
---------------------------------------------------------------------------

    In addition, certain commenters express concern regarding the
discriminatory effects of the LEAD on non-LEAD MM liquidity
providers.\54\ For example, one commenter asserts that the LEAD would
benefit LEAD MMs by making it easier to quote better prices in larger
size but would in turn make it more difficult for non-LEAD MM liquidity
providers to quote better prices at larger size.\55\ Similarly, another
commenter argues that the LEAD will prevent non-LEAD MM liquidity
providers, who the commenter characterize as being not being
informationally advantaged by the speed bump, from providing the best
possible market they otherwise could.\56\
---------------------------------------------------------------------------

    \54\ See Hudson River Trading Letter, supra note 5, at 1-2; XR
Securities Letter, supra note 5, at 3; Citadel Letter, supra note 5,
at 3; Leuchtkafer Letter 2, supra note 5, at 8.
    \55\ See Hudson River Trading Letter, supra note 5, at 1-2.
    \56\ See XR Securities Letter, supra note 5, at 3.
---------------------------------------------------------------------------

    Two commenters believe that the proposal will incentivize LEAD MMs
to enhance displayed liquidity by entering larger orders at better
prices.\57\ Another commenter states that it believes that this will
benefit institutional investors.\58\ One commenter states that it
believes that the proposal would benefit the public interest and
protect investors by encouraging superior displayed liquidity from
qualified market makers.\59\ In addition, these commenters believe that
the proposed minimum performance standards are appropriate given the
benefits that LEAD MMs would be afforded.\60\ One of those commenters
states its belief that market maker incentives should be consistent
with the risk inherent with truly affirmative quoting and trading
obligations, and asserts that the minimum performance standards meet
such standard.\61\ That commenter believes that the proposal would
appropriately link heightened quoting and trading requirements with the
ability to adequately manage the heightened risks of such
requirements.\62\ Another commenter agrees with CHX that the minimum
performance standards are substantial and proportionate to the
advantages that LEAD MMs will receive.\63\ The commenter states that
historically, other national securities exchanges have balanced market
maker benefits with

responsibilities, and asserts that requiring market makers to comply
with substantial quoting requirements and benefits that are
proportionate to their obligations, which it believes the LEAD would
provide for, is consistent with the Exchange Act.\64\ In addition, that
commenter states its views that the LEAD would reduce unfair
discrimination by providing an appropriate trade-off between the
benefits and responsibilities of LEAD MMs.\65\ Other commenters express
concern that the minimum performance standards may not be adequate to
justify the benefits that LEAD MMs would receive under the
proposal.\66\ In addition, one commenter suggests that LEAD MMs should
have specific responsibilities around the open, close, and in volatile
markets.\67\
---------------------------------------------------------------------------

    \57\ See Virtu Letter, supra note 5, at 2; and CTC Trading
Letter, supra note 5, at 3.
    \58\ See Virtu Letter, supra note 5, at 2.
    \59\ See CTC Trading Letter, supra note 5, at 5.
    \60\ See Virtu Letter, supra note 5, at 2; and CTC Trading
Letter, supra note 5, at 4.
    \61\ See Virtu Letter, supra note 5, at 2.
    \62\ See id.
    \63\ See CTC Trading Letter, supra note 5, at 4.
    \64\ See id.
    \65\ See id. at 3.
    \66\ See Leuchtkafer Letter, supra note 5, at 4-5; NYSE Letter,
supra note 5, at 4-5 (stating that the benefit is
``disproportionate'' to the proposed standards); Citadel Letter,
supra note 5, at 2 (asserting that the minimum performance standards
appear to be ``largely immaterial in substance'' and the benefits of
the LEAD would be ``entirely disproportionate'' to these
obligations). Two commenters suggest that CHX should provide data
regarding the materiality of the minimum performance standards, how
they will improve market quality, and whether CHX market makers
already satisfy these criteria. See Citadel Letter, supra note 5, at
3; and Healthy Markets Letter, supra note 5, at 4. Two other
commenters express concern that the proposal would be unfairly
discriminatory because only firms selected by CHX as LEAD MMs would
be given the speed advantage. See XR Securities Letter, supra note
5, at 1; and FIA PTG Letter, supra note 5, at 2. In addition, one
commenter raises concern that LEAD MMs would be named based on
subjective criteria. See Citadel Letter, supra note 5, at 4.
    \67\ See Leuchtkafer Letter, supra note 5, at 5.
---------------------------------------------------------------------------

    The Exchange argues that the proposed rule change is not designed
to permit unfair discrimination. While the Exchange acknowledges that
the LEAD is discriminatory by design,\68\ the Exchange asserts that the
proposed discrimination is fair because the advantage afforded to LEAD
MMs is conditioned upon LEAD MMs satisfying the proposed minimum
performance standards,\69\ which, according to the Exchange, are
substantial and proportionate to the benefits that the LEAD would
confer on LEAD MMs.\70\ The Exchange notes that it has little to no
resting liquidity in the vast majority of NMS securities traded at CHX,
which has resulted in immaterial trading volume in all but a handful of
securities.\71\ The Exchange states that the LEAD Rules would address
this lack of resting liquidity in NMS securities on CHX by providing
LEAD MMs with a risk management tool that would incentivize them to
display larger orders at aggressive prices.\72\ To the extent the LEAD
would incentivize LEAD MMs to improve the price and size of the
prevailing NBBO, the Exchange argues that LEAD could reduce transaction
costs for retail investors, as wholesale broker-dealers price the
majority of the retail orders they handle off the prevailing NBBO, and
for institutional investors, as the execution costs for their orders
would be reduced if the average NBBO spreads are narrowed.\73\ The
Exchange, therefore, contends that the LEAD would result in meaningful
enhancements to market quality in securities that are actively traded
at CHX and new aggressive markets in securities that are currently not
actively traded at CHX.\74\
---------------------------------------------------------------------------

    \68\ See, e.g., CHX Letter, supra note 5, at 10-11.
    \69\ See Notice, supra note 3, 82 FR at 11269.
    \70\ See CHX Letter, supra note 5, at 6.
    \71\ See Amendment No. 1, supra note 12, at 8.
    \72\ See id.
    \73\ See CHX Letter 2, supra note 8, at 9-10.
    \74\ See Amendment No. 1, supra note 12, at 8.
---------------------------------------------------------------------------

    Further, the Exchange states that the minimum performance standards
are appropriate given the requirements imposed upon and benefits
incurred by market makers on other exchanges.\75\ Specifically, the
Exchange compares the proposed obligations of its LEAD MMs to those of
the New York Stock Exchange, LLC (``NYSE'') Designated Market Makers
(``DMMs''), which receive execution parity rights in return for minimum
performance standards that CHX states are similar to CHX's proposed
minimum performance standards.\76\ The Exchange asserts that, while DMM
parity merely encourages DMMs to join the NBBO, the LEAD would
incentivize LEAD MMs to improve the price and size of the NBBO by:
Minimizing the risk that LEAD MMs' quotes would be ``picked off'' by
latency arbitrageurs; and providing, through CHX's existing market data
revenue rebates program, rebates for quotes that remain on the CHX book
for at least one second.\77\
---------------------------------------------------------------------------

    \75\ See CHX Letter, supra note 5, at 6.
    \76\ See CHX Letter 2, supra note 8, at 6-7.
    \77\ See id.
---------------------------------------------------------------------------

    In response to the comments requesting data showing that the
minimum performance standards are appropriate,\78\ the Exchange
presents data \79\ that it believes demonstrates that the minimum
performance standards would be substantial relative to historical CHX
data. The Exchange states that the data shows that the majority of CHX
participants would not have passed the proposed minimum performance
standards in January 2016 or February 2017 for the securities that
trade on CHX,\80\ and that the most active SPDR S&P 500 trust exchange-
traded fund (``SPY'') liquidity providers in January 2016 would not
have met the standards as of February 2017.\81\ In addition, CHX
believes that the LEAD MM selection criteria, which would allow CHX to
consider various factors in assessing the ability of an applicant to
meaningfully contribute to market quality as a LEAD MM,\82\ are
designed to forecast how well an applicant would perform as a LEAD
MM.\83\ CHX notes that the criteria are virtually identical to the
criteria under Bats BZX's rules for its lead market maker program.\84\
---------------------------------------------------------------------------

    \78\ See supra note 66.
    \79\ See CHX Letter 2, supra note 8, at 7-9.
    \80\ See id.
    \81\ See id. at 9.
    \82\ The factors the Exchange may consider in selecting a LEAD
MM include, but are not limited to, experience with making markets
in securities, adequacy of capital, willingness to promote the
Exchange as a marketplace, issuer preference, operational capacity,
support personnel, and history of adherence to Exchange rules and
securities laws. See proposed CHX Article 16, Rule 4(f)(3)(A).
    \83\ See CHX Letter, supra note 5, at 11-12.
    \84\ See id.
---------------------------------------------------------------------------

    With regard to a commenter's concern that the LEAD would frustrate
strategies that involve taking prices across multiple venues, the
Exchange asserts that a market participant who currently utilizes
sophisticated order routing logic to successfully execute multi-venue
orders could modify its logic to account for the 350-microsecond
intentional delay at CHX and thereby eliminate any incremental
information leakage.\85\ In addition, the Exchange believes that 350
microseconds is long enough to minimize the effectiveness of latency
arbitrage strategies, yet short enough as to not provide liquidity
providers with an unfair advantage, and asserts that the 350
microsecond delay is appropriate both for New York and Chicago data
centers.\86\
---------------------------------------------------------------------------

    \85\ See id. at 11.
    \86\ See CHX Letter 2, supra note 8, at 13-14.
---------------------------------------------------------------------------

    For the reasons discussed below, the Commission believes that the
proposal to implement the LEAD and the minimum performance standards is
not designed to permit unfair discrimination under Section 6(b)(5) of
the Exchange Act. Liquidity providers that display limit orders are the
primary source of public price discovery.\87\ The Commission emphasizes
the importance of displayed limit orders as they typically set quoted
spreads, supply liquidity, and in general establish the public
``market'' for a stock.\88\ To establish the public market for a stock,

displayed limit orders make the first move by being displayed rather
than executed and therefore provide a ``free option'' for other market
participants to trade a stock by submitting marketable orders and
taking the liquidity supplied by the displayd limit orders.\89\ The
Commission notes that the quality of execution for marketable orders,
which, in turn, trade with displayed liquidity, depends to a great
extent on the quality of markets established by displayed limit orders
(i.e., the narrowness of quoted spreads and the available liquidity at
various price levels).\90\ Accordingly, the quality of execution for
marketable orders is directly affected by the willingness of liquidity
providers to take the execution risk associated with providing
displayed liquidity. To the extent liquidity providers can be
incentivized to display better prices or larger size, the market
quality for liquidity taking orders should improve.
---------------------------------------------------------------------------

    \87\ Securities Exchange Act Release No. 51808 (June 9, 2005),
70 FR 37496, 37526 (June 29, 2005) (``Regulation NMS Adopting
Release'').
    \88\ See id.
    \89\ See id. at 37526-37527.
    \90\ See id. at 37526.
---------------------------------------------------------------------------

    National securities exchanges have historically discriminated among
their members by, among other things, providing various advantages to
members that register as market makers and thereby commit to certain
undertakings designed to enhance market quality.\91\ CHX's proposal
discriminates in favor of LEAD MMs, by not subjecting LEAD MM liquidity
providing orders and related cancels to the LEAD, to provide LEAD MMs
with a risk management tool that should incentivize LEAD MMs to post
larger size and more aggressively-priced quotes on CHX. The proposal
also imposes heightened quoting and new transaction obligations on the
LEAD MMs to obtain this benefit.\92\ LEAD MMs therefore have committed
to provide a specific level of liquidity on the Exchange on an ongoing
basis, unlike other liquidity providers or other CHX participants.
These obligations will require LEAD MMs to take on greater risk, and
they in turn will be provided a tool--the LEAD--to help them more
effectively manage that risk. In this way, the difference in benefits
is designed to reflect the different obligations of the parties. The
Commission therefore believes that these minimum performance standards,
particularly the quoting and transaction thresholds, are meaningful
obligations that are proportionate to and balanced with the advantages
conferred upon LEAD MMs.
---------------------------------------------------------------------------

    \91\ See, e.g., NYSE Rule 104 (Dealings and Responsibilities of
DMMs).
    \92\ Presently, liquidity providers on CHX are not obligated to
quote or transact at levels consistent with the minimum performance
standards as each LEAD MM would be under the proposal.
---------------------------------------------------------------------------

    The Commission also notes that: (1) The minimum performance
standards are quantitive standards that the Exchange can objectively
measure to determine whether LEAD MMs are in compliance, which will
allow the Exchange to apply them consistently to ensure that similarly
situated parties are treated equally; and (2) the LEAD MM selection
process is substantially similar to the market maker selection
processes previously approved by the Commission and implemented on
other national securities exchanges.\93\
---------------------------------------------------------------------------

    \93\ Compare proposed CHX Article 16, Rule 4(f)(2) with Bats BZX
Rule 11.8(e)(2); NYSE Arca Rule 7.22-E; CBOE Rule 8.83.
---------------------------------------------------------------------------

    With respect to one commenter's concern that the LEAD would
frustrate strategies that involve taking prices across multiple
venues,\94\ the Commission believes that a market participant could
modify its routing strategies to address the 350-microsecond LEAD and
eliminate any added risk of information leakage. The Commission notes
that, in its second comment letter,\95\ the commenter did not refute
CHX's rebuttal.\96\
---------------------------------------------------------------------------

    \94\ See supra note 53 and accompanying text.
    \95\ See FIA PTG Letter 2, supra note 8.
    \96\ See supra note 85 and accompanying text.
---------------------------------------------------------------------------

    For these reasons, the Commission finds that the proposed rule
change, as modified by Amendments No. 1 and No. 2, is consistent with
the requirement of Section 6(b)(5) of the Exchange Act that the rules
of a national securities exchange be not designed to permit unfair
discrimination between customers, issuers, brokers, or dealers.
    Section 6(b)(8) of the Exchange Act requires that the rules of a
national securities exchange not impose any burden on competition not
necessary or appropriate in furtherance of the purposes of the Exchange
Act. One commenter asserts that the LEAD would unduly burden
competition between liquidty providers and firms that access displayed
prices on CHX.\97\ This commenter states its view that benefits
provided to market makers create a disparity that harms competition
among market participants and leads to greater intermediation as the
benefits are available only to certain intermediaries.\98\ This
commenter believes that the LEAD may make it easier for LEAD MMs to
quote better prices in larger size, but would make it more difficult
for non-LEAD MMs to do so.\99\ Another commenter expresses concern that
the LEAD would alter the competitive balance in the market by
benefitting only LEAD MMs, as LEAD MMs would effectively be given extra
time to determine whether to remain firm or cancel/modify a displayed
quotation in order to avoid unfavorable executions.\100\
---------------------------------------------------------------------------

    \97\ See Hudson River Trading Letter, supra note 5, at 8.
    \98\ See id. at 1. As discussed above, the Commission believes
that the discriminatory aspect of the LEAD is fair for the reasons
discussed above. See supra Section III.A.
    \99\ See Hudson River Trading Letter, supra note 5, at 1.
    \100\ See Citadel Letter, supra note 5, at 4.
---------------------------------------------------------------------------

    The Exchange believes that the LEAD would result in increased
competition with liquidity providers of other markets, which furthers a
primary goal of Regulation NMS, as such liquidity providers would have
to provide enhanced liquidity or risk losing market share to LEAD
MMs.\101\ The Exchange also responds that the LEAD would not create a
new competitive balance as much as it would correct a competitive
imbalance that serves to discourage displayed liquidity and is in
itself an undue burden on competition.\102\
---------------------------------------------------------------------------

    \101\ See CHX Letter 2, supra note 8, at 15.
    \102\ See id. at 17.
---------------------------------------------------------------------------

    The Commission finds that the LEAD Rules are consistent with
Section 6(b)(8) of the Exchange Act because they do not impose any
burden on competition not necessary or appropriate in furtherance of
the purposes of the Exchange Act. The Commission believes that, while
the proposal will provide a benefit to LEAD MMs by not subjecting their
liquidity providing orders and related cancels to the LEAD, such
benefit is appropriate in exchange for their commitment to provide
meaningful liquidity on the Exchange as required by the minimum
performance standards. By providing a mechanism for LEAD MMs to update
their displayed quotations without delay, the LEAD is designed to
incentivize LEAD MMs to improve the price and size of their quotes on
CHX thereby improving market quality to the ultimate benefit of
liquidity takers. The Commission notes that improvements to CHX's
quotations would benefit non-CHX market participants to the extent such
quotations result in tightening the NBBO spread, as a number of
execution venues price transactions off the NBBO. For these reasons,
the Commission believes that the balance between the benefit to LEAD
MMs afforded by the LEAD and their obligations under the minimum
performance standards appropriately furthers the purposes of the
Exchange Act.
    One commenter believes that, to assess the proposed rule change's
impact on competition, the Exchange

should also collect and disclose order book queue metrics.\103\ That
commenter also asserts that to assess the ``anti-competitive effect''
of shifting latency arbitrage costs to non-LEAD MM participants, CHX
should collect and disclose: (1) The number of times a non-LEAD MM's
resting order was executed within 350 microseconds of any LEAD MM's
order cancellation at the same price or better, and (2) the number of
times any LEAD MM's order was cancelled while any marketable contra sat
in the LEAD queue.\104\ While the Exchange will not be collecting the
statistitics that the commenter suggests, the Exchange will be
collecting other data that are designed to allow the Exchange and the
Commission to assess the impact of the proposal on competition.
Specifically, the Exchange will collect and publish matched trade
difference statistics. These metrics will measure the volume executed
hypothetically without LEAD and the volume executed in reality with
LEAD, and will be grouped by different PEV Range values such that
analysis can be conducted to determine how much, if at all, this cost
increases during periods of excessive volatility. This data will allow
the Exchange and the Commission to examine the effect on competition
that the commenter suggests by determining the difference between the
hypothetical and actual executed volume, and focusing specifically on
periods of higher volatility. This difference, combined with type of
market participant who provided liquidity, should shed light on how
competition has been affected. Also, analysis of this data will allow
the Commission to assess and weigh the degree to which latency
arbitrage costs are being borne by non-LEAD liquidity providers and if
those costs outweigh any of the displayed benefits. With respect to the
commenter's suggestion that the Exchange also provide order book queue
statistics,\105\ it is not sufficiently clear what benefit such
statistics would provide.\106\
---------------------------------------------------------------------------

    \103\ See Leuchtkafer Letter 5, supra note 8, at 1.
    \104\ See id. at 2.
    \105\ See supra note 103 and accompanying text.
    \106\ Under CHX's execution rules, a non-LEAD MM order that was
received by the Exchange before a LEAD MM order would have time
priority over the LEAD MM order once it is ranked in the Exchange's
order book notwithstanding the delay imposed by the LEAD to reach
the Exchange's order book. See CHX Article 20, Rule 8(b). See also
Amendment No. 1, supra note 12, at 7-8.
---------------------------------------------------------------------------

    The Commission's views of the proposal's consistency with Sections
6(b)(5) and 6(b)(8) of the Exchange Act are informed by its views that
the proposal is appropriately designed to enhance market quality by
striking a balance between the new obligations for LEAD MMs and the
accompanying benefits. Several commenters discuss the potential impact
of the proposal on displayed liquidity and price discovery as well as
market quality in general.\107\ Two commenters assert that the LEAD
would enable liquidity providers to improve displayed liquidity.\108\
One commenter states that LEAD MMs will be more inclined to post larger
orders at better prices in assigned securities on CHX with confidence
that their orders will not be ``picked off'' by speed arbitrageurs. The
commenter believes this will improve displayed liquidity available to
institutional investors, and all investors, without limiting the
ability of retail and institutional investors to access liquidity.\109\
Another commenter states its views that the LEAD will reduce adverse
selection risk and incentivize market makers to provide more liquidity,
leading to deeper quotes and tighter bid-ask spreads,\110\ which would
reduce the costs of investors.\111\
---------------------------------------------------------------------------

    \107\ See Virtu Letter, supra note 5, at 2; CTC Trading Letter,
supra note 5, at 3; Healthy Markets Letter, supra note 5, at 4-5; XR
Securities Letter, supra note 5, at 2; FIA PTG Letter, supra note 5,
at 4; SIFMA Letter, supra note 5, at 6; Citadel Letter, supra note
5, at 3; and Hudson River Trading Letter supra note 5, at 6.
    \108\ See Virtu Letter, supra note 5, at 2; and CTC Trading
Letter, supra note 5, at 3.
    \109\ See Virtu Letter, supra note 5, at 2.
    \110\ See CTC Trading Letter, supra note 5, at 3.
    \111\ See id. at 6.
---------------------------------------------------------------------------

    Six other commenters express concern that the LEAD could
deteriorate the accessibility of quotes and overall market
quality.\112\ Two commenters predict that, while overall spreads and
liquidity may improve, the increased liquidity would be more
conditional and less accessible.\113\ In addition, one commenter
predicts that spreads made by ``real'' liquidity providers--as
distinguished from ``fleeting'' quotes submitted by LEAD MMs--would
widen.\114\ Several commenters express concern about the potential
transaction costs that the LEAD could impose on investors.\115\
---------------------------------------------------------------------------

    \112\ See Healthy Markets Letter, supra note 5, at 4-5; XR
Securities Letter, supra note 5, at 2; FIA PTG Letter, supra note 5,
at 4; SIFMA Letter, supra note 5, at 6; Citadel Letter, supra note
5, at 3; and Hudson River Trading Letter supra note 5, at 6. In
addition, as CHX is the only exchange to share quote revenue with
its members, three commenters assert that the LEAD would result in
unfair allocation of consolidated market data revenue by generating
an increase in quoting, but not necessarily trading, on the
Exchange. See Hudson River Trading Letter, supra note 5, at 7;
Citadel Letter, supra note 5, at 6; and SIFMA Letter, supra note 5,
at 7. The Securities Information Processors (``SIPs'') collect fees
from subscribers for trade and quote tape data received from trading
centers and reporting facilities (collectively ``SIP Participants'')
and, after deducting the cost of operating each tape, the SIPs
allocate profits among the SIP Participants (including CHX) on a
quarterly basis. CHX shares with its members a portion of the
revenue it receives that is attributed to members' quote activity.
See Securities Exchange Act Release No. 70546 (September 27, 2013),
78 FR 61413 (October 3, 2013) (SR-CHX-2013-18). The Exchange
responds that the LEAD would not encourage non-bona fide quote
activity for the purpose of earning rebates because quotes cancelled
within the 350-microsecond LEAD would not be eligible for market
data revenue rebates, and cancellation of such quotes could result
in the CHX participant being assessed an order cancellation fee. See
CHX Letter, supra note 5, at 10.
    \113\ See Hudson River Trading Letter, supra note 5, at 6; and
Citadel Letter, supra note 5, at 3. Another commenter similarly
predicted that the LEAD would result in complex trickle-down impacts
on the NBBO including CHX quotes that would not be accessible. See
FIA PTG Letter, supra note 5 at 3.
    \114\ See XR Securities Letter, supra note 5, at 2. See also FIA
PTG Letter, supra note 5, at 4 (expressing concern that non-LEAD MMs
would be forced to widen their bid/ask spreads across the
marketplace).
    \115\ See FIA PTG Letter, supra note 5, at 4 (stating that LEAD
MMs may be forced to widen their bid/ask spreads, which would be
costly to investors); Leuchtkafer Letter 2, supra note 8, at 8
(asserting that the LEAD would result to increased transaction costs
for retail and institutional investors, who would be exposed to
adverse selection); XR Securities Letter, supra note 5, at 1
(asserting that the LEAD is likely to result in higher trading costs
for the investing public); Hudson River Trading Letter, supra note
5, at 6 (asserting that providing LEAD MMs the ability to back away
from quoted prices and sizes would increase the cost of finding
liquidity); SIFMA Letter, supra note 5, at 8 (stating that the
proposal could result in increased market complexity and costs); and
Citadel Letter 2, supra note 5, at 3 (asserting that the LEAD would
expose liquidity providers (other than LEAD MMs) to adverse
selection, which would raise costs for providing liquidity).
---------------------------------------------------------------------------

    In addition, one commenter believes that the LEAD could result in
institutional migration to dark venues, which could reduce market
quality over time.\116\ The commenter also asserts that the LEAD could
result in volatility during stressed trading conditions.\117\ In the
OIP, the Commission asked about how the proposal would affect price
volatility on the Exchange.\118\ In response, the Exchange states that,
although LEAD MM quotes would likely widen during stressed trading
conditions, LEAD MMs would be subject to the minimum performance
standards, which may have a mitigating effect on price volatility.\119\
---------------------------------------------------------------------------

    \116\ See Leuchtkafer Letter 2, supra note 8, at 9.
    \117\ See id. at 7-8.
    \118\ See OIP, supra note 7, 82 FR at 24416.
    \119\ See CHX Letter 2, supra note 8, at 9. The Exchange also
asserts that current circuit breakers, include Limit Up-Limit Down,
provide an adequate market-wide remedy for extraordinary market
volatility. See id.
---------------------------------------------------------------------------

    The Exchange asserts that the proposal would provide LEAD MMs with
a risk management tool that would encourage LEAD MMs to display larger
orders at aggressive prices, which should provide meaningful

enhancements to market quality.\120\ The Exchange explains that,
currently, it has less than one-percent market share in NMS securities
and little to no resting liquidity in the vast majority of NMS
securities.\121\ The Exchange believes that the proposal would enhance
market quality across all securities traded on CHX.\122\ In particular,
CHX believes that the LEAD Rules would significantly enhance market
quality for securities that are actively traded on CHX and attract
robust markets in securities that are currently not actively traded at
CHX.\123\ In addition, the Exchange asserts that the LEAD would reduce
the cost of LEAD MMs providing liquidity, which the Exchange believes
would result in more efficient price discovery for retail and
institutional investors.\124\
---------------------------------------------------------------------------

    \120\ See Amendment No. 1, supra note 12, at 8.
    \121\ See id.
    \122\ See id.
    \123\ See id.
    \124\ See CHX Letter, supra note 5, at 4. With respect to retail
customers, the Exchange states that wholesalers base execution price
on the NBBO and that a slight narrowing of the average NBBO, which
the Exchange predicts will occur because of the LEAD, will favorably
affect the pricing that wholesalers provide for retail orders, at
the expense of the wholesalers' bottom line. See CHX Letter 2, supra
note 8, at 10. The Exchange predicts that, because wholesalers
prefer to trade at or inside the NBBO, when the NBBO is narrowed,
wholesalers would either have to choose among matching the better
price, improving the better price, or routing the customer order to
the better price, and the Exchange asserts that any of these
outcomes will benefit retail customers. See id. at 15. The Exchange
states that institutional order flow is not directed to wholesalers,
and some institutional orders are executed during opening and
closing auctions. See id. at 10. The LEAD would not impact the cost
of those transactions, according to the Exchange. But the Exchange
also states that: (1) Most institutional orders are broken down into
much smaller ``child orders,'' which are executed in the marketplace
using a variety of algorithms; (2) in general, execution costs for
such child orders would be reduced when average NBBO spreads are
narrowed; and therefore (3) to the extent that the LEAD increases
competition among orders and narrows the average NBBO spread,
institutional order flow would also experience lower execution
costs. See id. With respect to an institutional investor's
experience taking liquidity, CHX states that institutional investors
would have the same experience as any other liquidity taker and that
the LEAD would not have a materially negative effect on liquidity
takers not engaged in latency arbitrage strategies. See id. at 11.
---------------------------------------------------------------------------

    The Exchange also asserts that there is no evidence that the
proposal would result in CHX quotes being less accessible to retail or
institutional buyers and sellers,\125\ and, in fact, the heightened
quoting and trading obligations for LEAD MMs would ensure that CHX
quotes remain reliable and accessible.\126\ The Exchange also states
its view that: (1) A market participant that places an order to take
liquidity posted on any national securities exchange today may find
that the liquidity is not be present by the time the order reaches the
exchange's limit order book; (2) this has nothing to do with the
presence of intentional delays; and therefore (3) the LEAD would not
render CHX quotes any more ``fleeting'' than they are today.\127\
---------------------------------------------------------------------------

    \125\ See CHX Letter, supra note 5, at 4-5.
    \126\ See Amendment No. 1, supra note 12, at 12.
    \127\ See CHX Letter 2, supra note 8, at 12. In the OIP, the
Commission raised several questions about the impact that the LEAD
would have on market quality. In particular, the Commission raised
questions about volatility during stressed trading conditions,
whether the proposed rule change would increase displayed liquidity
on the Exchange, and whether liquidity provided by LEAD MMs would be
``fleeting'' and how significant such ``fleeting'' liquidity would
be. See OIP, supra note 7, 82 FR at 24416.
---------------------------------------------------------------------------

    As discussed above, the Commission believes that the LEAD Rules are
reasonably designed to incentivize LEAD MMs to post larger size and
more aggressively-priced quotes on CHX, which in turn could lead to
broader enhancements to market quality by improving the NBBO and
increasing quote competition. The extremely short access delay will
allow LEAD MMs to adjust their quotations in response to changing
market conditions and thereby reduce their exposure to losses from
professional traders with micro-second speed advantages. As a result,
LEAD MMs should be more inclined to post larger displayed orders at
better prices on CHX with greater confidence that they will have an
opportunity to update their quotes and therefore avoid an execution at
a stale price or size. The reduction in risk in these limited
conditions should allow LEAD MMs to provide more liquidity and narrower
spreads throughout much of the trading day.
    The Commission recognizes that commenters also were concerned that
a 350 microsecond delay could reduce access to CHX quotations and
thereby detract from market quality in a variety of contexts. The
Commission believes, however, that the LEAD is reasonably designed to
impact access only to CHX quotations by market participants racing to
respond to symmetric information about market conditions, while the
potential benefits generated by LEAD MMs posting larger sized and more
aggressive quotations should inure throughout most of the trading day.
Accordingly, the Commission believes that the LEAD Rules are reasonably
designed to improvet market quality, particularly for investors who are
unlikely to have speed advantages over professional traders.
    However, because the Exchange proposes to implement the LEAD Rules
on a pilot basis, the Exchange and the Commission will be able to
assess the actual impact of the proposal.\128\ During the pilot period,
CHX will collect and analyze the Pilot Data, which will measure the
impact, if any, of the LEAD Rules on market quality, including quote
accessibility and quoted and effective spreads, and should allow CHX to
quantify any effects on the market. Among other things, the Exchange
will collect and publicly disseminate data designed to measure the
impact of the LEAD, including whether it: (1) Increases the amount and
competitiveness of liquidity displayed on CHX; and (2) impacts the
accessibility of liquidity posted on CHX.\129\ Specifically, the
Exchange will collect, distribute, and analyze data measuring quote and
execution quality both on CHX and more broadly, separated by levels of
volatility. This data should allow the Exchange and Commissoin to
assess not only changes in overall market quality but also changes
during the most volatile periods on both the Exchange and the overall
market. The Exchange also will collect matched trade difference
statistics, which will indicate the number of shares that would have
been executed, hypothetically, without the LEAD and the number of
shares executed with the LEAD. This data will be aggregated by
different levels of volatility. The Commission believes that analyzing
the matched trade difference statistics will be insightful in
determining if, and to what degree, the LEAD changed the accessibility
of CHX quotes during different periods of volatility. Accordingly, the
Pilot Data is intended to help CHX and the Commission assess whether
the proposal is having the intended impact on improving market quality.
---------------------------------------------------------------------------

    \128\ See proposed CHX Article 20, Rule 8(h)(2).
    \129\ See proposed CHX Article 20, Rules 8(h)(4), 8(h)(5), and
8(h)(6).
---------------------------------------------------------------------------

    The Exchange will also collect and provide to the Commission and
the public data regarding variable delays experienced by both LEAD MMs
and non-LEAD MMs.\130\ One commenter asserts that a fixed delay
implemented with software could result in variable delays that could be
excessive and/or unevenly distributed between market participants, with
non-LEAD MMs bearing the bulk of the variable delays.\131\ The
commenter suggests a variety of different approaches to

measure these variable delays.\132\ Although CHX asserts that variable
delays occur on other markets without intentional access delays,\133\
the Exchange will be collecting variable delay statistics to measure
this type of delay. The Commission believes that these statistics will
provide the necessary information on whether different types of market
participants experience differing variable processing delays. Analysis
of this data will allow the Exchange to implement any necessary changes
to correct for a discrepancy. The Commission emphasizes that CHX would
have to file another proposed rule change to continue LEAD after the
pilot period. The Commission would consider, among other things, the
Pilot Data and analyses of that data if, in the future, the Exchange
proposed to make permanent the LEAD Rules.
---------------------------------------------------------------------------

    \130\ See proposed CHX Article 20, Rule 8(h)(7) (requiring CHX
to collect variable processing delay statistics).
    \131\ See Leuchtkafer Letter, supra note 5, at 2-4; Leuchtkafer
Letter 2, supra note 8, at 6; and Leuchtkafer Letter 4, supra note
8, at 1.
    \132\ See Leuchtkafer Letter 5, supra note 8, at 1(asserting
that, for every message and for the length of the pilot program, CHX
should timestamp every transaction on receipt, on LEAD queue entry
and exit (if applicable), and on matching engine processing start to
finish). That commenter believes that every message should also be
clearly labeled if it was received immediately before, during, or
immediately after a PEV and the PEV Range value itself. See
Leuchtkafer Letter 5, supra note 8, at 1.
    \133\ See CHX Letter, supra note 5, at 9.
---------------------------------------------------------------------------

    Some commenters assert that the LEAD would impinge upon price
discovery across the national market system.\134\ Some commenters cite
studies showing that an asymmetric delay on TSX Alpha, a Canadian
exchange, degraded overall market quality, harmed institutional order
routers, and increased effective spreads.\135\ In response, the
Exchange asserts that the TSX Alpha delay is materially different from
LEAD because it is randomized and, unlike CHX, TSX Alpha utilizes a
taker-maker model.\136\ The Exchange also observes that TSX Alpha does
not require its liquidity providers to meet heightened requirements
designed to enhance market quality.\137\
---------------------------------------------------------------------------

    \134\ See XR Securities Letter, supra note 5, at 3; FIA PTG
Letter, supra note 5 at 3-4; and Hudson River Trading Letter supra
note 5, at 5.
    \135\ See Hudson River Trading Letter, supra note 5, at 2. See
also Healthy Markets Letter, supra note 5, at 5; and SIFMA Letter,
supra note 5, at 6. These commenters cite a recent study regarding
TSX Alpha: See Chen, Haoming, Foley, Sean, Goldstein, Michael, and
Ruf, Thomas, ``The Value of a Millisecond: Harnessing Information in
Fast, Fragmented Markets,'' available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2860359. One commenter notes that, while
quoted depth increased on TSX Alpha, the exchange did not
demonstrate tighter spreads, and the accessibility of quotes
significantly degraded. See Hudson River Trading Letter, supra note
5, at 2. In addition, a commenter asserts that the only
counterbalance to the negative impact on market quality caused by an
asymmetric delay (such as that exhibited due to TSX Alpha) would be
coupling it with ``robust and rigorous'' affirmative obligations for
those benefitting from the delay. See Healthy Markets Letter, supra
note 5, at 5. The commenter urges the Commission to proceed
cautiously, using data-driven analyses, and not within the context
of the instant proposal. See id. As discussed, the Commission will
review the Pilot Data and analyses of that data.
    \136\ See CHX Letter, supra note 5, at 8.
    \137\ See id. at 8-9.
---------------------------------------------------------------------------

    The Commission notes that the LEAD proposal differs from TSX Alpha.
The delay on TSX Alpha is a longer, randomized delay of 1-3
milliseconds that occurs in a different market with a different pricing
structure and regulatory environment. A randomized delay on an exchange
will not allow a smart order router to send child orders to different
exchanges such that the orders arrive simultaneously, preventing the
sweeping of volume displayed on the NBBO without information leakage.
To adjust for the potential of information leakage, a smart order
router could be adjusted to avoid the TSX Alpha exchange when sweeping
NBBO volume. The possible increase of informed volume on exchanges
other than TSX Alpha, could have been a factor in the degradation of
market quality on those exchanges. Also, given TSX Alpha's taker-maker
pricing structure, market makers on this exchange could attract order
flow by only matching the now degraded NBBO. Therefore, given this
combination of factors, the effects of TSX Alpha may not be relevant in
assessing the potential results of the LEAD on market quality. The
Exchange will collect, analyze, and publicly disclose data that should
show how the LEAD affects market quality, including the statistics
disclosing width, displayed size, and effective spreads during
different periods of market volatility.
    Section 6(b)(5) of the Exchange Act requires that the rules of a
national securities exchange be designed to prevent fraudulent and
manipulative activity. A number of commenters question whether the
length and means of implementing the delay is consistent with the
requirement in Section 6(b)(5) of the Exchange Act that the rules of
the exchange be designed to prevent fraudulent and manipulative acts
and practices.\138\ One commenter states that CHX does not support its
conclusion \139\ that the Fixed LEAD Period would be too short to
introduce any incremental risk of manipulative activity.\140\ Another
commenter asks CHX to state how long a delay would have to be to permit
manipulative practices and what it will do to ensure that its software
does not result in delays that would permit such practices.\141\
---------------------------------------------------------------------------

    \138\ See Healthy Markets Letter, supra note 5, at 5;
Leuchtkafer Letter 2, supra note 5, at 6; and FIA PTG Letter, supra
note 5, at 2-3.
    \139\ See infra note 143 and accompanying text.
    \140\ See FIA PTG Letter, supra note 5, at 2-3.
    \141\ See Leuchtkafer Letter, supra note 5, at 4.
---------------------------------------------------------------------------

    The Exchange asserts that the LEAD would not introduce incremental
risk of manipulative activity.\142\ The Exchange believes that the
Fixed LEAD Period is too short to provide any actionable advantage to a
LEAD MM reacting to information already in its possession or to
introduce incremental risk of manipulative activity.\143\
---------------------------------------------------------------------------

    \142\ See Notice, supra note 3, 82 FR at 11269.
    \143\ See CHX Letter, supra note 5, at 11.
---------------------------------------------------------------------------

    The Commission finds that the proposed rule change, as modified by
Amendments No. 1 and No. 2, is consistent with the requirement of
Section 6(b)(5) of the Exchange Act that the rules of a national
securities exchange be designed to prevent fraudulent and manipulative
activity. The Commission previously stated that it does not expect that
any de minimis delay will alter the potential for manipulative activity
or make it harder to detect and prosecute.\144\ The Fixed LEAD Period
will be a de minimis delay (as discussed below),\145\ and the
Commission continues to believe that such a delay will neither increase
the potential for manipulative activity nor make it more difficult to
detect and prosecute.\146\ In addition, the Pilot Data will allow the
Exchange and the Commission to assess in a timely fashion whether the
LEAD presents any increased risks of manipulation.\147\

Collection of the Pilot Data will also assist the Exchange in
discharging its ongoing responsibility to surveil for manipulative
activity.
---------------------------------------------------------------------------

    \144\ See Regulation NMS Interpretation, infra note 162, at
40792.
    \145\ See infra Section III.B.
    \146\ One commenter asserts that LEAD MMs would make trading
decisions with more information than any of their potential
counterparties. See XR Securities Letter, supra note 5, at 1.
Another commenter asserts that CHX should require LEAD MMs to
establish information barriers to prevent such firms from using
their advantage on CHX in their other proprietary trading. See
Leuchtkafer Letter, supra note 5, at 5. The Commission believes that
the operation of the LEAD Rules would not provide LEAD MMs with any
unique information and therefore, the Commission believes that it is
unnecessary to require LEAD MMs to adopt information barriers.
    \147\ CHX will start providing the Pilot Data to the Commission
by no later than the end of the second month of the pilot program.
The Commission believes this timeline is appropriate because it will
allow the Exchange sufficient time to properly collect and organize
the Pilot Data while still making such data available to the
Commission close in time to the start of the pilot program. A
commenter asserts that the LEAD could result in delays that are
longer than 350 microseconds, and that with the variable delay, the
total delay could be long enough to increase risk of manipulative
practices. See Leuchtkafer Letter, supra note 5, at 3-4; and
Leuchtkafer Letter 2, supra note 5, at 5-6. The Commission believes
that the variable processing delay statistics should allow the
Exchange to monitor for persistent delays and implement any
necessary changes to remove such delays.
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B. Section 11A of the Exchange Act

    Section 11A(a)(1) of the Exchange Act articulates Congress' finding
that, among other things, it is in the public interest and appropriate
for the protection of investors and the maintenance of fair and orderly
markets to assure: Economically efficient execution of securities
transactions; fair competition among brokers and dealers, among
exchange markets, and between exchange markets; the availability to
brokers, dealers, and investors of information with respect to
quotations for and transactions in securities; the practicability of
brokers executing investors' orders in the best market; and an
opportunity, consistent with the economically efficient execution of
securities transactions and the practicability of brokers executing
investors' orders in the best market, for investors' orders to be
executed without the participation of a dealer.\148\
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    \148\ 15 U.S.C. 78k-1(a)(1)(C).
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    As discussed below, certain commenters questioned whether the
proposed rule change is consistent with Rule 611 of Regulation NMS
(``Order Protection Rule'') \149\ and Rule 602 of Regulation NMS
(``Quote Rule''),\150\ both of which were adopted pursuant to Section
11A of the Exchange Act.
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    \149\ 17 CFR 242.611.
    \150\ 17 CFR 242.602.
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    The Order Protection Rule, among other things, requires trading
centers to establish, maintain, and enforce written policies and
procedures reasonably designed to prevent the execution of trades at
prices inferior to protected quotations displayed by other trading
centers.\151\ To be protected, a quotation must, among other things, be
immediately and automatically accessible and be the best bid or best
offer of a national securities exchange.\152\ Certain commenters argue
that the proposal, which would allow LEAD MMs to post and reprice
displayed orders without delay, could hinder the ability of investors
to access such displayed quotations on CHX.\153\ Several commenters
assert that the LEAD would be inconsistent with CHX's protected
quotation status under Regulation NMS.\154\ These commenters argue
that, if CHX implemented the LEAD, CHX's displayed quotations would not
be immediately accessible and would be inconsistent with the definition
of ``automated quotation'' under Rule 600(b)(3) and, therefore, the
LEAD would prevent CHX's displayed quotations from being considered
``protected'' under Regulation NMS.\155\ More specifically, some
commenters assert that by providing LEAD MMs with a structural
advantage, the LEAD would frustrate the purposes the Order Protection
Rule by impairing fair and efficient access to an exchange's
quotations.\156\ One commenter distinguishes the LEAD from the delay on
the Investors Exchange, LLC (``IEX''), noting that IEX's delay only
affected access to non-displayed orders.\157\ Another commenter
expresses concern that, unlike other examples of permitted
discrimination, the LEAD would affect the regulatory mechanics of
trading because, in some cases, traders would be required to route
orders to the Exchange pursuant to the Order Protection Rule.\158\
Similarly, one commenter expresses concern that the regulatory
requirement to interact with a LEAD MM's protected quote could prevent
investors from achieving optimal executions because the LEAD MMs would
have the benefit of making their trading decisions with more
information than any of their potential counterparties.\159\
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    \151\ See Regulation NMS Adopting Release, supra note 87, 70 FR
at 37501.
    \152\ See id. at 37496.
    \153\ See Citadel Letter, supra note 5, at 5-6; Hudson River
Trading Letter, supra note 5, at 6.
    \154\ See Hudson River Trading Letter, supra note 5, at 3;
Citadel Letter, supra note 5, at 6-7; NYSE Letter, supra note 5, at
3-4; and XR Securities Letter, supra note 5, at 1. See also SIFMA
Letter, supra note 5, at 3 (suggesting that the Commission should
``carefully consider the implications'' of market participants
routing orders to CHX to access a protected quote when the
accessibility of such quote is ``questionable'').
    \155\ See Hudson River Trading Letter, supra note 5, at 3;
Citadel Letter, supra note 5, at 6-7; NYSE Letter, supra note 5, at
3-4; and XR Securities Letter, supra note 5, at 1.
    \156\ See FIA PTG Letter, supra note 5, at 2; Hudson River
Trading Letter, supra note 5, at 7; Citadel Letter, supra note 5, at
6; NYSE Letter, supra note 5, at 4; XR Securities Letter, supra note
5, at 1; and SIFMA Letter, supra note 5, at 6 (questioning the
effect of an access delay coupled with existing geographic or
technological latencies on the fair and efficient access to an
exchange's protected quotations).
    \157\ See XR Securities Letter, supra note 5, at 3.
    \158\ See FIA PTG Letter, supra note 5, at 4.
    \159\ See XR Securities Letter, supra note 5, at 3.
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    In response, the Exchange asserts that the LEAD is consistent with
the Order Protection Rule.\160\ CHX notes that Rule 600(b)(3) of
Regulation NMS requires that a trading center displaying an automated
quotation permit, among other things, an incoming immediate-or-cancel
order to immediately and automatically execute against the automated
quotation up to its full size; and immediately and automatically cancel
any unexecuted portion of the immediate-or-cancel order without routing
the order elsewhere.\161\ CHX highlights that the Commission recently
issued a final interpretation with respect to the definition of
automated quotation under Rule 600(b)(3) of Regulation NMS, which, CHX
notes, did not interpret the term ``immediate'' used in Rule 600(b)(3)
by itself to prohibit a trading center from implementing an intentional
access delay that is de minimis (i.e., a delay so short as to not
frustrate the purposes of the Order Protection Rule by impairing fair
and efficient access to an exchange's quotations).\162\ CHX concludes
that the Commission's revised interpretation provides that the term
``immediate'' precludes any coding of automated systems or other type
of intentional device that would delay the action taken with respect to
a quotation unless such delay is de minimis.\163\ CHX believes that the
LEAD would be a de minimis delay so short as not to frustrate the
purposes of the Order Protection Rule by impairing fair and efficient
access to the Exchange's quotations.\164\
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    \160\ See CHX Letter, supra note 5, at 13.
    \161\ See id. See also 17 CFR 242.600(b)(3).
    \162\ See CHX Letter, supra note 5, at 13. See also Commission
Interpretation Regarding Automated Quotations Under Regulation NMS,
Securities Exchange Act Release No. 78102 (June 17, 2016), 81 FR
40785 (June 23, 2016) (``Regulation NMS Interpretation'').
    \163\ See CHX Letter, supra note 5, at 14.
    \164\ See id.
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    The Order Protection Rule provides intermarket protection against
trade-throughs for ``automated'' (as opposed to ``manual'') quotations
of NMS stocks. Under Regulation NMS, an ``automated'' quotation is one
that, among other things, can be executed ``immediately and
automatically'' against an incoming immediate-or-cancel order. This
formulation was intended to distinguish and exclude from protection
quotations manual markets that produced delays measured in seconds in
responding to an incoming order, because delays of that magnitude would
impair fair and efficient access to an exchange's quotations.\165\
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    \165\ See Regulation NMS Interpretation, supra note 162, 81 FR
at 40785-86.
---------------------------------------------------------------------------

    As CHX notes, the Commission, in connection with its approval of
IEX's exchange application, interpreted ``immediate'' in the context of
Regulation NMS as not precluding a de minimis intentional delay--i.e.,
a delay so short as to not frustrate the purposes of the Order
Protection Rule by impairing fair and efficient access to an

exchange's quotations.\166\ Specifically, while acknowledging that even
a de minimis access delay may increase the overall latency in accessing
a particular protected quotation, the Commission reasoned that, just as
the geographic and technological delays do not impair fair and
efficient access to an exchange's quotations or otherwise frustrate the
objectives of Rule 611, the addition of a de minimis intentional access
delay is consistent with the immediacy requirement of Rule
600(b)(3).\167\ In its related interpretative guidance, the
Commission's staff found that ``delays of less than a millisecond are
at a de minimis level that would not impair fair and efficient access
to a quotation, consistent with the goals of Rule 611.'' \168\
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    \166\ See id. at 40792.
    \167\ See id. at 40789, text accompanying n.50.
    \168\ See Staff Guidance on Automated Quotations under
Regulation NMS, Securities and Exchange Commission, June 17, 2016,
available at https://www.sec.gov/divisions/marketreg/automated-quotations-under-regulation-nms.htm (``Regulation NMS Staff
Guidance''). One commenter questions whether 350 microseconds is an
appropriate duration for the delay. See Healthy Markets Letter,
supra note 5, at 5 (stating that CHX, unlike IEX, failed to explain
why it is proposing a delay of 350 microseconds). See also
Leuchtkafer Letter, supra note 5, at 2 (stating that the length of
the LEAD is based on IEX and the speed arms race, which it describes
as ``a relative and constantly changing issue,'' and questioning
whether CHX will change the length of the LEAD if IEX changes its
delay or if LEAD MMs speed up or other firms slow down or exit the
market). As discussed below, the Fixed LEAD period will be a de
minimis delay.
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    The Commission believes that the LEAD is consistent with the Order
Protection Rule. The Commission notes that its recent interpretation
with respect to the definition of automated quotation under Rule
600(b)(3) of Regulation NMS, and the corresponding staff guidance, does
not distinguish between intentional delays designed to benefit non-
displayed liquidity, as was the case with the IEX delay, or displayed
liquidity, as is the case with the LEAD. The Commission's staff found
that ``delays of less than a millisecond are at a de minimis level that
would not impair fair and efficient access to a quotation, consistent
with the goals of Rule 611.'' \169\ Accordingly, because the 350
microsecond delay imposed by the LEAD is less than a millisecond, it is
de minimis. The Commission's interpretation recognized ``that a de
minimis access delay, even if it involves an `intentional device' that
delays access to an exchange's quotation, is compatible with the
exchange having an `automated quotation' under Rule 600(b)(3) and thus
a `protected quotation' under Rule 611.'' \170\ Accordingly, the LEAD
will not change CHX's protected quotation status.
---------------------------------------------------------------------------

    \169\ See Regulation NMS Staff Guidance, supra note 168.
    \170\ See Regulation NMS Interpretation, supra note 162, at
40792.
---------------------------------------------------------------------------

    Under the firm quote provisions of the Quote Rule, a responsible
broker-dealer must execute any order to buy or sell a subject security
(other than an odd-lot order) presented to it by another broker-dealer
at a price at least as favorable to such buyer or seller as the
responsible broker-dealer's published bid or published offer in any
amount up to its published quotation size unless an exception
applies.\171\ One commenter states its view that the LEAD would be
consistent with the Quote Rule because the Exchange is not proposing to
notify a LEAD MM that an inbound order that has been delayed may
imminently execute, and therefore, should a LEAD MM revise its quote
prior to the end of the delay, the inbound order would not have been
presented to the LEAD MM.\172\ Some commenters assert that the LEAD may
be inconsistent with the firm quote provisions of the Quote Rule or the
intent behind the Quote Rule because, in their view, it would allow
liquidity providers to ``back away'' from their quotes.\173\ These
commenters are concerned that the LEAD would allow LEAD MMs to update
their quotes to potentially inferior prices while orders to execute
against their quotes are being held in the LEAD queue.\174\ The