[Federal Register Volume 80, Number 92 (Wednesday, May 13, 2015)]
[Notices]
[Pages 27354-27371]
[FR Doc No: 2015-11484]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-74898; File No. SR-CBOE-2015-039]

Self-Regulatory Organizations; Chicago Board Options Exchange,
Incorporated; Notice of Filing and Immediate Effectiveness of a
Proposed Rule Change Relating to the Nullification and Adjustment of
Options Transactions Including Obvious Errors

May 7, 2015.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(the ``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given
that on May 6, 2015, Chicago Board Options Exchange, Incorporated (the
``Exchange'' or ``CBOE'') filed with the Securities and Exchange
Commission (the ``Commission'') the proposed rule change as described
in Items I and II below, which Items have been prepared by the
Exchange. The Exchange filed the proposal as a ``non-controversial''
proposed rule change pursuant to Section 19(b)(3)(A)(iii) of the Act
\3\ and Rule 19b-4(f)(6) thereunder.\4\ The Commission is publishing
this notice to solicit comments on the proposed rule change from
interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ 15 U.S.C. 78s(b)(3)(A)(iii).
    \4\ 17 CFR 240.19b-4(f)(6).
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change

    The Exchange seeks to amend Exchange rules related to the
nullification and adjustment of options transactions including obvious
errors. The text of the proposed rule change is available on the
Exchange's Web site (http://www.cboe.com/AboutCBOE/CBOELegalRegulatoryHome.aspx), at the Exchange's Office of the
Secretary, and at the Commission's Public Reference Room.

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

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

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

1. Purpose
Background
    For several months the Exchange has been working with other options
exchanges to identify ways to improve the process related to the
adjustment and nullification of erroneous options transactions. The
goal of the process that the options exchanges have undertaken is to
adopt harmonized rules related to the adjustment and nullification of
erroneous options transactions as well as a specific provision related
to coordination in connection with large-scale events involving
erroneous options transactions. As described below, the Exchange
believes that the changes the options exchanges and the Exchange have
agreed to propose will provide transparency and finality with respect
to the adjustment and nullification of erroneous options transactions.
Particularly, the proposed changes seek to achieve consistent results
for participants across U.S. options exchanges while maintaining a fair
and orderly market, protecting investors and protecting the public
interest.
    The Proposed Rule is the culmination of this coordinated effort and
reflects discussions by the options exchanges to universally adopt: (1)
certain provisions already in place on one or more options exchanges;
and (2) new provisions that the options exchanges collectively believe
will improve the handling of erroneous options transactions. Thus,
although the Proposed Rule is in many ways similar to and based on the
Exchange's Current Rule, the Exchange is adopting various provisions to
conform with existing rules of one or more options exchanges and also
to adopt rules that are not currently in place on any options exchange.
As noted above, in order to adopt a rule that is similar in most
material respects to the rules adopted by other options exchanges, the
Exchange proposes to delete the Current Rule in its entirety and to
replace it with the Proposed Rule.
    The Exchange notes that it has proposed additional objective
standards in the Proposed Rule as compared to the Current Rule. The
Exchange also notes that the Proposed Rule will ensure that the
Exchange will have the same standards as all other options exchanges.
However, there are still areas under the Proposed Rule where subjective
determinations need to be made by Exchange personnel with respect to
the calculation of Theoretical Price. The Exchange notes that the
Exchange and all other options exchanges have been working to further
improve the review of potentially erroneous transactions as well as
their subsequent adjustment by creating an objective and universal way
to determine Theoretical Price in the event a reliable NBBO is not
available. For instance, the Exchange and all other options exchanges
may utilize an independent third party to calculate and disseminate or
make available Theoretical Price. However, this initiative requires
additional exchange and industry discussion as well as additional time
for development and implementation. The Exchange will continue to work
with other options exchanges and the options industry towards the goal
of additional objectivity and uniformity with respect to the
calculation of Theoretical Price.
    As additional background, the Exchange believes that the Proposed
Rule supports an approach consistent with long-standing principles in
the options industry under which the general policy is to adjust rather
than nullify transactions. The Exchange acknowledges that adjustment of
transactions is contrary to the operation of analogous rules applicable
to the equities markets, where erroneous transactions are typically
nullified rather than adjusted and where there is

no distinction between the types of market participants involved in a
transaction. For the reasons set forth below, the Exchange believes
that the distinctions in market structure between equities and options
markets continue to support these distinctions between the rules for
handling obvious errors in the equities and options markets. The
Exchange also believes that the Proposed Rule properly balances several
competing concerns based on the structure of the options markets.
    Various general structural differences between the options and
equities markets point toward the need for a different balancing of
risks for options market participants and are reflected in the Proposed
Rule. Option pricing is formulaic and is tied to the price of the
underlying stock, the volatility of the underlying security and other
factors. Because options market participants can generally create new
open interest in response to trading demand, as new open interest is
created, correlated trades in the underlying or related series are
generally also executed to hedge a market participant's risk. This
pairing of open interest with hedging interest differentiates the
options market specifically (and the derivatives markets broadly) from
the cash equities markets. In turn, the Exchange believes that the
hedging transactions engaged in by market participants necessitates
protection of transactions through adjustments rather than
nullifications when possible and otherwise appropriate.
    The options markets are also quote driven markets dependent on
liquidity providers to an even greater extent than equities markets. In
contrast to the approximately 7,000 different securities traded in the
U.S. equities markets each day, there are more than 500,000 unique,
regularly quoted option series. Given this breadth in options series
the options markets are more dependent on liquidity providers than
equities markets; such liquidity is provided most commonly by
registered market makers but also by other professional traders. With
the number of instruments in which registered market makers must quote
and the risk attendant with quoting so many products simultaneously,
the Exchange believes that those liquidity providers should be afforded
a greater level of protection. In particular, the Exchange believes
that liquidity providers should be allowed protection of their trades
given the fact that they typically engage in hedging activity to
protect them from significant financial risk to encourage continued
liquidity provision and maintenance of the quote-driven options
markets.
    In addition to the factors described above, there are other
fundamental differences between options and equities markets which lend
themselves to different treatment of different classes of participants
that are reflected in the Proposed Rule. For example, there is no trade
reporting facility in the options markets. Thus, all transactions must
occur on an options exchange. This leads to significantly greater
retail customer participation directly on exchanges than in the
equities markets, where a significant amount of retail customer
participation never reaches the Exchange but is instead executed in
off-exchange venues such as alternative trading systems, broker-dealer
market making desks and internalizers. In turn, because of such direct
retail customer participation, the exchanges have taken steps to afford
those retail customers--generally Priority Customers--more favorable
treatment in some circumstances.
Definitions
    The Exchange proposes to adopt various definitions that will be
used in the Proposed Rule, as described below.
    First, the Exchange proposes to adopt a definition of ``Customer,''
to make clear that this term would not include any broker-dealer,
Professional Customer, or Voluntary Professional Customer.\5\ Although
other portions of the Exchange's rules address the capacity of market
participants, including customers, the proposed definition is
consistent with such rules and the Exchange believes it is important
for all options exchanges to have the same definition of Customer in
the context of nullifying and adjusting trades in order to have
harmonized rules. As set forth in detail below, orders on behalf of a
Customer are in many cases treated differently than non-Customer orders
in light of the fact that Customers are not necessarily immersed in the
day-to-day trading of the markets, are less likely to be watching
trading activity in a particular option throughout the day, and may
have limited funds in their trading accounts.
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    \5\ A ``Professional'' is any person or entity that (i) is not a
broker or dealer in securities; and (ii) places more than 390 orders
in listed options per day on average during a calendar month for its
own beneficial account(s). See Rule 1.1 (ggg). A ``Voluntary
Professional'' is any person or entity that is not a broker or
dealer in securities that elects, in writing, to be treated in the
same manner as a broker or dealer in securities for purposes of
various CBOE rules. See Rule 1.1(fff).
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    Second, the Exchange proposes to adopt definitions for both an
``erroneous sell transaction'' and an ``erroneous buy transaction.'' As
proposed, an erroneous sell transaction is one in which the price
received by the person selling the option is erroneously low, and an
erroneous buy transaction is one in which the price paid by the person
purchasing the option is erroneously high. This provision helps to
reduce the possibility that a party can intentionally submit an order
hoping for the market to move in their favor while knowing that the
transaction will be nullified or adjusted if the market does not. For
instance, when a market participant who is buying options in a
particular series sees an aggressively priced sell order posted on the
Exchange, and the buyer believes that the price of the options is such
that it might qualify for obvious error, the option buyer can trade
with the aggressively priced order, then wait to see which direction
the market moves. If the market moves in their direction, the buyer
keeps the trade and if it moves against them, the buyer calls the
Exchange hoping to get the trade adjusted or busted.
    Third, the Exchange proposes to adopt a definition of ``Official,''
which would mean an Officer of the Exchange or such other employee
designee of the Exchange that is trained in the application of the
Proposed Rule.
    Fourth, the Exchange proposes to adopt a new term, a ``Size
Adjustment Modifier,'' which would apply to individual transactions and
would modify the applicable adjustment for orders under certain
circumstances, as discussed in further detail below. As proposed, the
Size Adjustment Modifier will be applied to individual transactions as
follows:

------------------------------------------------------------------------
     Number of contracts per execution        Adjustment--TP Plus/Minus
------------------------------------------------------------------------
1-50......................................  N/A.
51-250....................................  2 times adjustment amount.
251-1000..................................  2.5 times adjustment amount.
1001 or more..............................  3 times adjustment amount.
------------------------------------------------------------------------

    The Size Adjustment Modifier attempts to account for the additional
risk that the parties to the trade undertake for transactions that are
larger in scope. The Exchange believes that the Size Adjustment
Modifier creates additional incentives to prevent more impactful
Obvious Errors and it lessens the impact on the contra-party to an
adjusted trade. The Exchange notes that these contra-parties may have
preferred to only trade the size involved in the transaction at the
price at which such trade occurred, and in trading larger size has
committed a greater level of capital and bears a larger hedge risk.

    When setting the proposed size adjustment modifier thresholds the
Exchange has tried to correlate the size breakpoints with typical small
and larger ``block'' execution sizes of underlying stock. For instance,
SEC Rule 10b-18(a)(5)(ii) defines a ``block'' as a quantity of stock
that is at least 5,000 shares and a purchase price of at least $50,000,
among others.\6\ Similarly, NYSE Rule 72 defines a ``block'' as an
order to buy or sell ``at least 10,000 shares or a quantity of stock
having a market value of $200,000 or more, whichever is less.'' Thus,
executions of 51 to 100 option contracts, which are generally
equivalent to executions of 5,100 and 10,000 shares of underlying
stock, respectively, are proposed to be subject to the lowest size
adjustment modifier. An execution of over 1,000 contracts is roughly
equivalent to a block transaction of more than 100,000 shares of
underlying stock, and is proposed to be subject to the highest size
adjustment modifier. The Exchange has correlated the proposed size
adjustment modifier thresholds to smaller and larger scale blocks
because the Exchange believes that the execution cost associated with
transacting in block sizes scales according to the size of the block.
In other words, in the same way that executing a 100,000 share stock
order will have a proportionately larger market impact and will have a
higher overall execution cost than executing a 500, 1,000 or 5,000
share order in the same stock, all other market factors being equal,
executing a 1,000 option contract order will have a larger market
impact and higher overall execution cost than executing a 5, 10 or 50
contract option order.
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    \6\ See 17 CFR 240.10b-18(a)(5)(ii).
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Calculation of Theoretical Price
Theoretical Price in Normal Circumstances
    Under both the Current Rule and the Proposed Rule, when reviewing a
transaction as potentially erroneous, the Exchange needs to first
determine the ``Theoretical Price'' of the option, i.e., the Exchange's
estimate of the correct market price for the option. Pursuant to the
Proposed Rule, if the applicable option series is traded on at least
one other options exchange, then the Theoretical Price of an option
series is the last national best bid (``NBB'') just prior to the trade
in question with respect to an erroneous sell transaction or the last
national best offer (``NBO'') just prior to the trade in question with
respect to an erroneous buy transaction unless one of the exceptions
described below exists. Thus, the Exchange proposes that whenever the
Exchange has a reliable NBB or NBO, as applicable, just prior to the
transaction, then the Exchange will use this NBB or NBO as the
Theoretical Price.
    The Exchange also proposes to specify in the Proposed Rule that
when a single order received by the Exchange is executed at multiple
price levels, the last NBB and last NBO just prior to the trade in
question would be the last NBB and last NBO just prior to the
Exchange's receipt of the order.
    The Exchange also proposes to set forth in the Proposed Rule
various provisions governing specific situations where the NBB or NBO
is not available or may not be reliable. Specifically, the Exchange is
proposing additional detail specifying situations in which there are no
quotes or no valid quotes (as defined below), when the national best
bid or offer (``NBBO'') is determined to be too wide to be reliable,
and at the open of trading on each trading day.
No Valid Quotes
    As is true under the Current Rule, pursuant to the Proposed Rule
the Exchange will determine the Theoretical Price if there are no
quotes or no valid quotes for comparison purposes. As proposed, quotes
that are not valid are all quotes in the applicable option series
published at a time where the last NBB is higher than the last NBO in
such series (a ``crossed market''), quotes published by the Exchange
that were submitted by either party to the transaction in question, and
quotes published by another options exchange against which the Exchange
has declared self-help. Thus, in addition to scenarios where there are
literally no quotes to be used as Theoretical Price, the Exchange will
exclude quotes in certain circumstances if such quotes are not deemed
valid. The Proposed Rule is consistent with the Exchange's application
of the Current Rule but the descriptions of the various scenarios where
the Exchange considers quotes to be invalid represent additional detail
that is not included in the Current Rule.
    The Exchange notes that Exchange personnel currently are required
to determine Theoretical Price in certain circumstances. While the
Exchange continues to pursue alternative solutions that might further
enhance the objectivity and consistency of determining Theoretical
Price, the Exchange believes that the discretion currently afforded to
Exchange Officials is appropriate in the absence of a reliable NBBO
that can be used to set the Theoretical Price. Under the Current Rule,
Exchange personnel will generally consult and refer to data such as the
prices of related series, especially the closest strikes in the option
in question. Exchange personnel may also take into account the price of
the underlying security and the volatility characteristics of the
option as well as historical pricing of the option and/or similar
options.
Wide Quotes
    Similarly, pursuant to the Proposed Rule the Exchange will
determine the Theoretical Price if the bid/ask differential of the NBB
and NBO for the affected series just prior to the erroneous transaction
was equal to or greater than the Minimum Amount set forth below and
there was a bid/ask differential less than the Minimum Amount during
the 10 seconds prior to the transaction. If there was no bid/ask
differential less than the Minimum Amount during the 10 seconds prior
to the transaction then the Theoretical Price of an option series is
the last NBB or NBO just prior to the transaction in question. The
Exchange proposes to use the following chart to determine whether a
quote is too wide to be reliable:

------------------------------------------------------------------------
               Bid price at time of trade                 Minimum amount
------------------------------------------------------------------------
Below $2.00.............................................           $0.75
$2.00 to $5.00..........................................            1.25
Above $5.00 to $10.00...................................            1.50
Above $10.00 to $20.00..................................            2.50
Above $20.00 to $50.00..................................            3.00
Above $50.00 to $100.00.................................            4.50
Above $100.00...........................................            6.00
------------------------------------------------------------------------

    The Exchange notes that the values set forth above generally
represent a multiple of 3 times the bid/ask differential requirements
of other options exchanges, with certain rounding applied (e.g., $1.25
as proposed rather than $1.20).\7\ The Exchange believes that basing
the Wide Quote table on a multiple of the permissible bid/ask
differential rule provides a reasonable baseline for quotations that
are indeed so wide that they cannot be considered reliable for purposes
of determining Theoretical Price unless they have been consistently
wide. As described above, while the Exchange will determine Theoretical
Price when the bid/ask differential equals or exceeds the amount set
forth in the chart above and within the previous 10 seconds there was a
bid/ask differential smaller than such amount, if a quote has been
persistently wide for at least 10 seconds the Exchange will use such
quote for purposes of

Theoretical Price. The Exchange believes that there should be a greater
level of protection afforded to market participants that enter the
market when there are liquidity gaps and price fluctuations. The
Exchange does not believe that a similar level of protection is
warranted when market participants choose to enter a market that is
wide and has been consistently wide for some time. Given the largely
electronic nature of today's markets, the Exchange believes the
designated time frame is appropriate and is long enough for market
participants to receive, process, and account for and respond to new
market information. The table above bases the wide quote provision off
of bid price in order to provide a relatively straightforward beginning
point for the analysis.
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    \7\ See, e.g., NYSE Arca Options Rule 6.37(b)(1).
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    As an example, assume an option is quoted $3.00 by $6.00 with 50
contracts posted on each side of the market for an extended period of
time. If a market participant were to enter a market order to buy 20
contracts the Exchange believes that the buyer should have a reasonable
expectation of paying $6.00 for the contracts which they are buying.
This should be the case even if immediately after the purchase of those
options, the market conditions change and the same option is then
quoted at $3.75 by $4.25. Although the quote was wide according to the
table above at the time immediately prior to and the time of the
execution of the market order, it was also well established and well
known. The Exchange believes that an execution at the then prevailing
market price should not in and of itself constitute an erroneous trade.
Transactions at the Open
    The Exchange proposes to adopt a new definition of Theoretical
Price for transactions at the open while maintaining a portion of the
Current Rule for opening transactions unique to the Exchange. Except as
provided in (b)(1)(A) of the Proposed Rule, for a transaction occurring
as part of the Opening Process \8\ the Exchange will determine the
Theoretical Price where there is no NBB or NBO for the affected series
just prior to the erroneous transaction or if the bid/ask differential
of the NBBO just prior to the erroneous transaction is equal to or
greater than the Minimum Amount set forth in the chart proposed for the
wide quote provision described above. The Exchange believes that this
discretion is necessary because it is consistent with other scenarios
in which the Exchange will determine the Theoretical Price if there are
no quotes or no valid quotes for comparison purposes, including the
wide quote provision proposed by the Exchange as described above. If,
however, there are valid quotes and the bid/ask differential of the
NBBO is less than the Minimum Amount set forth in the chart proposed
for the wide quote provision described above, then the Exchange will
use the NBB or NBO just prior to the transaction as it would in any
other normal review scenario.
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    \8\ See Exchange Rules 6.2--Trading Rotations, 6.2A--Rapid
Opening System (``ROS''), and 6.2B--Hybrid Opening System (``HOSS'')
for a description of the Exchange's Opening Process.
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    As an example of an erroneous transaction for which the NBBO is
wide at the open, assume the NBBO at the time of the opening
transaction is $1.00 x $5.00 and the opening transaction takes place at
$1.25. The Exchange would be responsible for determining the
Theoretical Price because the NBBO was wider than the applicable
minimum amount set forth in the wide quote provision as described
above. The Exchange believes that it is necessary to determine
Theoretical Price at the open in the event of a wide quote at the open
for the same reason that the Exchange has proposed to determine
Theoretical Price during the remainder of the trading day pursuant to
the proposed wide quote provision, namely that a wide quote cannot be
reliably used to determine Theoretical Price because the Exchange does
not know which of the two quotes, the NBB or the NBO, is closer to the
real value of the option.
    Subparagraph (b)(1)(A) is a carryover from the Current Rule,\9\ and
as noted above, if the elements of (b)(1)(A) are met, it supersedes
paragraph (b)(1). With respect to HOSS rotations in index options
series being used to calculate the final settlement price of a
volatility index,\10\ the Exchange is proposing to carryover the
conditions from the Current Rule that the first quote after the
transaction(s) in question that does not reflect the erroneous
transaction(s) will be the Theoretical Price as long as the quote is
for at least the size of the HOSS opening transaction(s). If the size
of the quote is less than the size of the opening transaction(s), then
the Obvious Error and Catastrophic Error provisions shall not
apply.\11\
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    \9\ See Current Rule 6.25(a)(1)(iii) and Securities Exchange Act
Release No. 34-59981 (May 27, 2009), 74 FR 26447 (June 2, 2009) (SR-
CBOE-2009-024).
    \10\ CBOE's and the CBOE Futures Exchange, LLC's (a designated
contract market approved by the Commodity Futures Trading Commission
and a wholly-owned subsidiary of CBOE) rules provide for the listing
and trading of options and futures, as applicable, on various
volatility indexes. The Obvious Pricing Error provision would be
utilized only for those index options series used to calculate the
final settlement price of a volatility index and only on the final
settlement date of the options and futures contracts on the
applicable volatility index in each expiration month. Thus, for
example, the proposed obvious price error provision would be used
for the relevant Standard & Poor's 500 Stock Index (``SPX'') options
series on settlement days for CBOE Volatility Index (``VIX'')
options and futures contracts.
    \11\ For example, if the opening trade in Series XYZ is for a
total of 200 contracts and the bid or offer, as applicable, of the
first quote after the transaction(s) in question that does not
reflect the erroneous transaction(s) is for 500 contracts, then the
quote would be used to determine Theoretical Price and whether an
Obvious Pricing Error occurred. If the bid or offer, as applicable,
of the quote is for only 100 contracts, then the trade would not be
subject to nullification or adjustment under the Obvious Pricing
Error provision.
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Obvious Errors
    The Exchange proposes to adopt numerical thresholds that would
qualify transactions as ``Obvious Errors.'' These thresholds are
similar to those in place under the Current Rule.\12\ As proposed, a
transaction will qualify as an Obvious Error if the Exchange receives a
properly submitted filing and the execution price of a transaction is
higher or lower than the Theoretical Price for the series by an amount
equal to at least the amount shown below:
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    \12\ The Exchange notes that similar to the Current Rule certain
provisions of the Proposed Rule are not applicable to trades
executed in open outcry. The preamble of the Proposed Rule states
that that ``[u]nless otherwise stated, the provisions contained
within this Rule are applicable to electronic transactions only.''
See Current Rule 6.25 Preamble and Proposed Rule 6.25 Preamble.

------------------------------------------------------------------------
                    Theoretical price                     Minimum amount
------------------------------------------------------------------------
Below $2.00.............................................           $0.25
$2.00 to $5.00..........................................            0.40
Above $5.00 to $10.00...................................            0.50
Above $10.00 to $20.00..................................            0.80
Above $20.00 to $50.00..................................            1.00
Above $50.00 to $100.00.................................            1.50
Above $100.00...........................................            2.00
------------------------------------------------------------------------

Applying the Theoretical Price, as described above, to determine the
applicable threshold and comparing the Theoretical Price to the actual
execution price provides the Exchange with an objective methodology to
determine whether an Obvious Error occurred. The Exchange believes that
the proposed amounts are reasonable as they are generally consistent
with the standards of the Current Rule and reflect a significant
disparity from Theoretical Price. The Exchange notes that the Minimum
Amounts in the Proposed Rule and as set forth above are identical to
the Current Rule except for the last two categories, for options where
the Theoretical Price is above $50.00 to $100.00 and above $100.00. The
Exchange believes that this additional granularity is reasonable
because given

the proliferation of additional strikes that have been created in the
past several years there are many more high-priced options that are
trading with open interest for extended periods. The Exchange believes
that it is appropriate to account for these high-priced options with
additional Minimum Amount levels for options with Theoretical Prices
above $50.00.

    Under the Proposed Rule, a party that believes that it participated
in a transaction that was the result of an Obvious Error must notify
the Exchange's Help Desk in the manner specified from time to time by
the Exchange in a circular distributed to TPHs.
    The Exchange also proposes to adopt notification timeframes that
must be met in order for a transaction to qualify as an Obvious Error.
Specifically, as proposed a filing must be received by the Exchange
within thirty (30) minutes of the execution with respect to an
execution of a Customer order and within fifteen (15) minutes of the
execution for any other participant. The Exchange also proposes to
provide additional time for trades that are routed through other
options exchanges to the Exchange. Under the Proposed Rule, any other
options exchange will have a total of forty-five (45) minutes for
Customer orders and thirty (30) minutes for non-Customer orders,
measured from the time of execution on the Exchange, to file with the
Exchange for review of transactions routed to the Exchange from that
options exchange and executed on the Exchange (``linkage trades'').
This includes filings on behalf of another options exchange filed by a
third-party routing broker if such third-party broker identifies the
affected transactions as linkage trades. In order to facilitate timely
reviews of linkage trades the Exchange will accept filings from either
the other options exchange or, if applicable, the third-party routing
broker that routed the applicable order(s). The additional fifteen (15)
minutes provided with respect to linkage trades shall only apply to the
extent the options exchange that originally received and routed the
order to the Exchange itself received a timely filing from the entering
participant (i.e., within 30 minutes if a Customer order or 15 minutes
if a non-Customer order). The Exchange believes that additional time
for filings related to Customer orders is appropriate in light of the
fact that Customers are not necessarily immersed in the day-to-day
trading of the markets and are less likely to be watching trading
activity in a particular option throughout the day. The Exchange
believes that the additional time afforded to linkage trades is
appropriate given the interconnected nature of the markets today and
the practical difficulty that an end user may face in getting requests
for review filed in a timely fashion when the transaction originated at
a different exchange than where the error took place. Without this
additional time the Exchange believes it would be common for a market
participant to satisfy the filing deadline at the original exchange to
which an order was routed but that requests for review of executions
from orders routed to other options exchanges would not qualify for
review as potential Obvious Errors by the time filings were received by
such other options exchanges, in turn leading to potentially disparate
results under the applicable rules of options exchanges to which the
orders were routed.
    Pursuant to the Proposed Rule, an Official may review a transaction
believed to be erroneous on his/her own motion in the interest of
maintaining a fair and orderly market and for the protection of
investors. This proposed provision is designed to give an Official the
ability to provide parties relief in those situations where they have
failed to report an apparent error within the established notification
period. A transaction reviewed pursuant to the proposed provision may
be nullified or adjusted only if it is determined by the Official that
the transaction is erroneous in accordance with the provisions of the
Proposed Rule, provided that the time deadlines for filing a request
for review described above shall not apply. The Proposed Rule would
require the Official to act as soon as possible after becoming aware of
the transaction; action by the Official would ordinarily be expected on
the same day that the transaction occurred. However, because a
transaction under review may have occurred near the close of trading or
due to unusual circumstances, the Proposed Rule provides that the
Official shall act no later than 7:30 a.m. Central Time on the next
trading day following the date of the transaction in question.
    The Exchange also proposes to state that a party affected by a
determination to nullify or adjust a transaction after an Official's
review on his or her own motion may appeal such determination in
accordance with paragraph (m), which is described below, but may not
seek a review by an Obvious Error Panel under paragraph (k). The
Proposed Rule would make clear that a determination by an Official not
to review a transaction or determination not to nullify or adjust a
transaction for which a review was conducted on an Official's own
motion is not appealable and further that if a transaction is reviewed
and a determination is rendered pursuant to another provision of the
Proposed Rule, no additional relief may be granted by an Official.
    If it is determined that an Obvious Error has occurred based on the
objective numeric criteria and time deadlines described above, the
Exchange will adjust or nullify the transaction as described below and
promptly notify both parties to the trade electronically or via
telephone. The Exchange proposes different adjustment and nullification
criteria for Customers and non-Customers.
    As proposed, where neither party to the transaction is a Customer,
the execution price of the transaction will be adjusted by the Official
pursuant to the table below.

------------------------------------------------------------------------
                                    Buy transaction    Sell transaction
     Theoretical price  (TP)        adjustment--TP      adjustment--TP
                                         plus                minus
------------------------------------------------------------------------
Below $3.00.....................               $0.15               $0.15
At or above $3.00...............                0.30                0.30
------------------------------------------------------------------------

The Exchange believes that it is appropriate to adjust to prices a
specified amount away from Theoretical Price rather than to adjust to
Theoretical Price because even though the Exchange has determined a
given trade to be erroneous in nature, the parties in question should
have had some expectation of execution at the price or prices
submitted. Also, it is common that by the time it is determined that an
obvious error has occurred additional hedging and trading activity has
already occurred based on the executions that previously happened. The
Exchange is concerned that an adjustment to Theoretical Price in all
cases would not appropriately incentivize market

participants to maintain appropriate controls to avoid potential
errors.

    Further, as proposed any non-Customer Obvious Error exceeding 50
contracts will be subject to the Size Adjustment Modifier described
above. The Exchange believes that it is appropriate to apply the Size
Adjustment Modifier to non-Customer orders because the hedging cost
associated with trading larger sized options orders and the market
impact of larger blocks of underlying can be significant.
    As an example of the application of the Size Adjustment Modifier,
assume Exchange A has a quoted bid to buy 50 contracts at $2.50,
Exchange B has a quoted bid to buy 100 contracts at $2.05 and there is
no other options exchange quoting a bid priced higher than $2.00.
Assume that the NBBO is $2.50 by $3.00. Finally, assume that all orders
quoted and submitted to Exchange B in connection with this example are
non-Customer orders.
     Assume Exchange A's quoted bid at $2.50 is either executed
or cancelled.
     Assume Exchange B immediately thereafter receives an
incoming market order to sell 100 contracts.
     The incoming order would be executed against Exchange B's
resting bid at $2.05 for 100 contracts.
     Because the 100 contract execution of the incoming sell
order was priced at $2.05, which is $0.45 below the Theoretical Price
of $2.50, the 100 contract execution would qualify for adjustment as an
Obvious Error.
     The normal adjustment process would adjust the execution
of the 100 contracts to $2.35 per contract, which is the Theoretical
Price minus $0.15.
     However, because the execution would qualify for the Size
Adjustment Modifier of 2 times the adjustment price, the adjusted
transaction would instead be to $2.20 per contract, which is the
Theoretical Price minus $0.30.
    By reference to the example above, the Exchange reiterates that it
believes that a Size Adjustment Modifier is appropriate, as the buyer
in this example was originally willing to buy 100 contracts at $2.05
and ended up paying $2.20 per contract for such execution. Without the
Size Adjustment Modifier the buyer would have paid $2.35 per contract.
Such buyer may be advantaged by the trade if the Theoretical Price is
indeed closer to $2.50 per contract, however the buyer may not have
wanted to buy so many contracts at a higher price and does incur
increasing cost and risk due to the additional size of their quote.
Thus, the proposed rule is attempting to strike a balance between
various competing objectives, including recognition of cost and risk
incurred in quoting larger size and incentivizing market participants
to maintain appropriate controls to avoid errors.
    In contrast to non-Customer orders, where trades will be adjusted
if they qualify as Obvious Errors, pursuant the Proposed Rule a trade
that qualifies as an Obvious Error will be nullified where at least one
party to the Obvious Error is a Customer. The Exchange also proposes,
however, that if any TPH submits requests to the Exchange for review of
transactions pursuant to the Proposed Rule, and in aggregate that TPH
has 200 or more Customer transactions under review concurrently and the
orders resulting in such transactions were submitted during the course
of 2 minutes or less, where at least one party to the Obvious Error is
a non-Customer, the Exchange will apply the non-Customer adjustment
criteria described above to such transactions. The Exchange based its
proposal of 200 transactions on the fact that the proposed level is
reasonable as it is representative of an extremely large number of
orders submitted to the Exchange that are, in turn, possibly erroneous.
Similarly, the Exchange based its proposal of orders received in 2
minutes or less on the fact that this is a very short amount of time
under which one TPH could generate multiple erroneous transactions. In
order for a participant to have more than 200 transactions under review
concurrently when the orders triggering such transactions were received
in 2 minutes or less, the market participant will have far exceeded the
normal behavior of customers deserving protected status.\13\ While the
Exchange continues to believe that it is appropriate to nullify
transactions in such a circumstance if both participants to a
transaction are Customers, the Exchange does not believe it is
appropriate to place the overall risk of a significant number of trade
breaks on non-Customers that in the normal course of business may have
engaged in additional hedging activity or trading activity based on
such transactions. Thus, the Exchange believes it is necessary and
appropriate to protect non-Customers in such a circumstance by applying
the non-Customer adjustment criteria, and thus adjusting transactions
as set forth above, in the event a TPH has more than 200 transactions
under review concurrently.
---------------------------------------------------------------------------

    \13\ The Exchange notes that in the third quarter of this year
across all options exchanges the average number of valid Customer
orders received and executed was less than 38 valid orders every two
minutes. The number of obvious errors resulting from valid orders
is, of course, a very small fraction of such orders.
---------------------------------------------------------------------------

Catastrophic Errors
    Consistent with the Current Rule, the Exchange proposes to adopt
separate numerical thresholds for review of transactions for which the
Exchange does not receive a filing requesting review within the Obvious
Error timeframes set forth above. Based on this review these
transactions may qualify as ``Catastrophic Errors.'' As proposed, a
Catastrophic Error will be deemed to have occurred when the execution
price of a transaction is higher or lower than the Theoretical Price
for the series by an amount equal to at least the amount shown below:

------------------------------------------------------------------------
                    Theoretical price                     Minimum amount
------------------------------------------------------------------------
Below $2.00.............................................           $0.50
$2.00 to $5.00..........................................            1.00
Above $5.00 to $10.00...................................            1.50
Above $10.00 to $20.00..................................            2.00
Above $20.00 to $50.00..................................            2.50
Above $50.00 to $100.00.................................            3.00
Above $100.00...........................................            4.00
------------------------------------------------------------------------

    Based on industry feedback on the Catastrophic Error thresholds set
forth under the Current Rule, the thresholds proposed as set forth
above are more granular and lower (i.e., more likely to qualify) than
the thresholds under the Current Rule. As noted above, under the
Proposed Rule as well as the Current Rule, parties have additional time
to submit transactions for review as Catastrophic Errors. As proposed,
for transactions occurring during regular trading hours, notification
requesting review must be received by the Exchange's Help Desk by 7:30
a.m. Central Time on the first trading day following the execution. For
transactions occurring during extended trading hours, notification must
be received within 2 hours of the close of the extended trading hours
session. For transactions in an expiring options series that take place
on an expiration day, a party must notify the Exchange's Help Desk
within 45 minutes after the close of trading that same day. As is true
for requests for review under the Obvious Error provision of the
Proposed Rule, a party requesting review of a transaction as a
Catastrophic Error must notify the Exchange's Help Desk in the manner
specified from time to time by the Exchange in a circular distributed
to TPHs. By definition, any execution that qualifies as a Catastrophic
Error is also an Obvious Error. However, the Exchange believes it is
appropriate to maintain these two types of errors because the
Catastrophic Error

provisions provide market participants with a longer notification
period under which they may file a request for review with the Exchange
of a potential Catastrophic Error than a potential Obvious Error. This
provides an additional level of protection for transactions that are
severely erroneous even in the event a participant does not submit a
request for review in a timely fashion.
    The Proposed Rule would specify that relief under the catastrophic
error provision would not be granted under paragraph (d) if an Obvious
Error Panel has previously rendered a decision with respect to the
transaction(s) in question. In addition, if it is determined by an
Official that a Catastrophic Error has not occurred, the Trading Permit
Holder will be subject to a charge of $5,000. The Proposed Rule also
specifies the action to be taken by the Exchange if it is determined
that a Catastrophic Error has occurred, as described below, and would
require the Exchange to promptly notify both parties to the trade
electronically or via telephone. In the event of a Catastrophic Error,
the execution price of the transaction will be adjusted by the Official
pursuant to the table below.

------------------------------------------------------------------------
                                       Buy transaction  Sell transaction
       Theoretical price (TP)          adjustment--TP    adjustment--TP
                                            plus              minus
------------------------------------------------------------------------
Below $2.00.........................             $0.50             $0.50
$2.00 to $5.00......................              1.00              1.00
Above $5.00 to $10.00...............              1.50              1.50
Above $10.00 to $20.00..............              2.00              2.00
Above $20.00 to $50.00..............              2.50              2.50
Above $50.00 to $100.00.............              3.00              3.00
Above $100.00.......................              4.00              4.00
------------------------------------------------------------------------

Although Customer orders would be adjusted in the same manner as non-
Customer orders, any Customer order that qualifies as a Catastrophic
Error will be nullified if the adjustment would result in an execution
price higher (for buy transactions) or lower (for sell transactions)
than the Customer's limit price. Based on industry feedback, the levels
proposed above with respect to adjustment amounts are the same levels
as the thresholds at which a transaction may be deemed a Catastrophic
Error pursuant to the chart set forth above.

    As is true for Obvious Errors as described above, the Exchange
believes that it is appropriate to adjust to prices a specified amount
away from Theoretical Price rather than to adjust to Theoretical Price
because even though the Exchange has determined a given trade to be
erroneous in nature, the parties in question should have had some
expectation of execution at the price or prices submitted. Also, it is
common that by the time it is determined that a Catastrophic Error has
occurred additional hedging and trading activity has already occurred
based on the executions that previously happened. The Exchange is
concerned that an adjustment to Theoretical Price in all cases would
not appropriately incentivize market participants to maintain
appropriate controls to avoid potential errors. Further, the Exchange
believes it is appropriate to maintain a higher adjustment level for
Catastrophic Errors than Obvious Errors given the significant
additional time that can potentially pass before an adjustment is
requested and applied and the amount of hedging and trading activity
that can occur based on the executions at issue during such time. For
the same reasons, other than honoring the limit prices established for
Customer orders, the Exchange has proposed to treat all market
participants the same in the context of the Catastrophic Error
provision. Specifically, the Exchange believes that treating market
participants the same in this context will provide additional certainty
to market participants with respect to their potential exposure and
hedging activities, including comfort that even if a transaction is
later adjusted (i.e., past the standard time limit for filing under the
Obvious Error provision), such transaction will not be fully nullified.
However, as noted above, under the Proposed Rule where at least one
party to the transaction is a Customer, the trade will be nullified if
the adjustment would result in an execution price higher (for buy
transactions) or lower (for sell transactions) than the Customer's
limit price. The Exchange has retained the protection of a Customer's
limit price in order to avoid a situation where the adjustment could be
to a price that the Customer could not afford, which is less likely to
be an issue for a market professional.
Significant Market Events
    In order to improve consistency for market participants in the case
of a widespread market event and in light of the interconnected nature
of the options exchanges, the Exchange proposes to adopt a new
provision that calls for coordination between the options exchanges in
certain circumstances and provides limited flexibility in the
application of other provisions of the Proposed Rule in order to
promptly respond to a widespread market event.\14\ The Exchange
proposes to describe such an event as a Significant Market Event, and
to set forth certain objective criteria that will determine whether
such an event has occurred. The Exchange developed these objective
criteria in consultation with the other options exchanges by reference
to historical patterns and events with a goal of setting thresholds
that very rarely will be triggered so as to limit the application of
the provision to truly significant market events. As proposed, a
Significant Market Event will be deemed to have occurred when proposed
criterion (A) below is met or exceeded or the sum of all applicable
event statistics, where each is expressed as a percentage of the
relevant threshold in criteria (A) through (D) below, is greater than
or equal to 150% and 75% or more of at least one category is reached,
provided that no single category can contribute more than 100% to the
sum. All criteria set forth below will be measured in aggregate across
all exchanges.
---------------------------------------------------------------------------

    \14\ Although the Exchange has proposed a specific provision
related to coordination amongst options exchanges in the context of
a widespread event, the Exchange does not believe that the
Significant Market Event provision or any other provision of the
proposed rule alters the Exchange's ability to coordinate with other
options exchanges in the normal course of business with respect to
market events or activity. The Exchange does already coordinate with
other options exchanges to the extent possible if such coordination
is necessary to maintain a fair and orderly market and/or to fulfill
the Exchange's duties as a self-regulatory organization.
---------------------------------------------------------------------------

    The proposed criteria for determining a Significant Market Event
are as follows:

    (A) Transactions that are potentially erroneous would result in a
total Worst-Case Adjustment Penalty of $30,000,000, where the Worst-
Case Adjustment Penalty is computed as the sum, across all potentially
erroneous trades, of: (i) $0.30 (i.e., the largest Transaction
Adjustment value listed in sub-paragraph (e)(3)(A) below); times; (ii)
the contract multiplier for each traded contract; times (iii) the
number of contracts for each trade; times (iv) the appropriate Size
Adjustment Modifier for each trade, if any, as defined in sub-paragraph
(e)(3)(A) below;
    (B) Transactions involving 500,000 options contracts are
potentially erroneous;
    (C) Transactions with a notional value (i.e., number of contracts
traded multiplied by the option premium multiplied by the contract
multiplier) of $100,000,000 are potentially erroneous;
    (D) 10,000 transactions are potentially erroneous.
    As described above, the Exchange proposes to adopt a the Worst Case
Adjustment Penalty, proposed as criterion (A), which is the only
criterion that can on its own result in an event being designated as a
significant market event. The Worst Case Adjustment Penalty is intended
to develop an objective criterion that can be quickly determined by the
Exchange in consultation with other options exchanges that approximates
the total overall exposure to market participants on the negatively
impacted side of each transaction that occurs during an event. If the
Worst Case Adjustment criterion is equal to or exceeds $30,000,000,
then an event is a Significant Market Event. As an example of the Worst
Case Adjustment Penalty, assume that a single potentially erroneous
transaction in an event is as follows: sale of 100 contracts of a
standard option (i.e., an option with a 100 share multiplier). The
highest potential adjustment penalty for this single transaction would
be $6,000, which would be calculated as $0.30 times 100 (contract
multiplier) times 100 (number of contracts) times 2 (applicable Size
Adjustment Modifier). The Exchange would calculate the highest
potential adjustment penalty for each of the potentially erroneous
transactions in the event and the Worst Case Adjustment Penalty would
be the sum of such penalties on the Exchange and all other options
exchanges with affected transactions.
    As described above, under the Proposed Rule if the Worst Case
Adjustment Penalty does not equal or exceed $30,000,000, then a
Significant Market Event has occurred if the sum of all applicable
event statistics (expressed as a percentage of the relevant
thresholds), is greater than or equal to 150% and 75% or more of at
least one category is reached. The Proposed Rule further provides that
no single category can contribute more than 100% to the sum. As an
example of the application of this provision, assume that in a given
event across all options exchanges that: (A) The Worst Case Adjustment
Penalty is $12,000,000 (40% of $30,000,000), (B) 300,000 options
contracts are potentially erroneous (60% of 500,000), (C) the notional
value of potentially erroneous transactions is $30,000,000 (30% of
$100,000,000), and (D) 12,000 transactions are potentially erroneous
(120% of 10,000). This event would qualify as a Significant Market
Event because the sum of all applicable event statistics would be 230%,
far exceeding the 150% threshold. The 230% sum is reached by adding
40%, 60%, 30% and last, 100% (i.e., rounded down from 120%) for the
number of transactions. The Exchange notes that no single category can
contribute more than 100% to the sum and any category contributing more
than 100% will be rounded down to 100%.
    As an alternative example, assume a large-scale event occurs
involving low-priced options with a small number of contracts in each
execution. Assume in this event across all options exchanges that: (A)
The Worst Case Adjustment Penalty is $600,000 (2% of $30,000,000), (B)
20,000 options contracts are potentially erroneous (4% of 500,000), (C)
the notional value of potentially erroneous transactions is $20,000,000
(20% of $100,000,000), and (D) 20,000 transactions are potentially
erroneous (200% of 10,000, but rounded down to 100%). This event would
not qualify as a Significant Market Event because the sum of all
applicable event statistics would be 126%, below the 150% threshold.
The Exchange reiterates that as proposed, even when a single category
other than criterion (A) is fully met, that does not necessarily
qualify an event as a Significant Market Event.
    The Exchange believes that the breadth and scope of the obvious
error rules are appropriate and sufficient for handling of typical and
common obvious errors. Coordination between and among the exchanges
should generally not be necessary even when a TPH has an error that
results in executions on more than one exchange. In setting the
thresholds above the Exchange believes that the requirements will be
met only when truly widespread and significant errors happen and the
benefits of coordination and information sharing far outweigh the costs
of the logistics of additional intra-exchange coordination. The
Exchange notes that in addition to its belief that the proposed
thresholds are sufficiently high, the Exchange has proposed the
requirement that either criterion (A) is met or the sum of applicable
event statistics for proposed (A) through (D) equals or exceeds 150% in
order to ensure that an event is sufficiently large but also to avoid
situations where an event is extremely large but just misses potential
qualifying thresholds. For instance, the proposal is designed to help
avoid a situation where the Worst Case Adjustment Penalty is
$15,000,000, so the event does not qualify based on criterion (A)
alone, but there are transactions in 490,000 options contracts that are
potentially erroneous (missing criterion (B) by 10,000 contracts),
there transactions with a notional value of $99,000,000 (missing
criterion (C) by $1,000,000), and there are 9,000 potentially erroneous
transactions overall (missing criterion (D) by 1,000 transactions). The
Exchange believes that the proposed formula, while slightly more
complicated than simply requiring a certain threshold to be met in each
category, may help to avoid inapplicability of the proposed provisions
in the context of an event that would be deemed significant by most
subjective measures but that barely misses each of the objective
criteria proposed by the Exchange.
    To ensure consistent application across options exchanges, in the
event of a suspected Significant Market Event, the Exchange shall
initiate a coordinated review of potentially erroneous transactions
with all other affected options exchanges to determine the full scope
of the event. Under the Proposed Rule, the Exchange will promptly
coordinate with the other options exchanges to determine the
appropriate review period as well as select one or more specific points
in time prior to the transactions in question and use one or more
specific points in time to determine Theoretical Price. Other than the
selected points in time, if applicable, the Exchange will determine
Theoretical Price as described above. For example, around the start of
a SME that is triggered by a large and aggressively priced buy order,
three exchanges have multiple orders on the offer side of the market:
Exchange A has offers priced at $2.20, $2.25, $2.30 and several other
price levels to $3.00, Exchange B has offers at $2.45, $2.30 and
several other price levels to $3.00, Exchange C has offers at price
levels between $2.50 and $3.00. Assume an

event occurs starting at 9:05:25 a.m. CT and in this particular series
the executions begin on Exchange A and subsequently begin to occur on
Exchanges B and C. Without coordination and information sharing between
the exchanges, Exchange B and Exchange C cannot know with certainty
that whether or not the execution at Exchange A that happened at $2.20
immediately prior to their executions at $2.45 and $2.50 is part of the
same erroneous event or not. With proper coordination, the exchanges
can determine that in this series, the proper point in time from which
the event should be analyzed is 9:05:25 a.m. CT, and thus, the NBO of
$2.20 should be used as the Theoretical Price for purposes of all buy
transactions in such options series that occurred during the event.
    If it is determined that a Significant Market Event has occurred
then, using the parameters agreed with respect to the times from which
Theoretical Price will be calculated, if applicable, an Official will
determine whether any or all transactions under review qualify as
Obvious Errors. The Proposed Rule would require the Exchange to use the
criteria in Proposed Rule 6.25(c), as described above, to determine
whether an Obvious Error has occurred for each transaction that was
part of the Significant Market Event. Upon taking any final action, the
Exchange would be required to promptly notify both parties to the trade
electronically or via telephone.
    The execution price of each affected transaction will be adjusted
by an Official to the price provided below, unless both parties agree
to adjust the transaction to a different price or agree to bust the
trade.

------------------------------------------------------------------------
                                       Buy transaction  Sell transaction
       Theoretical price (TP)          adjustment--TP    adjustment--TP
                                            plus              minus
------------------------------------------------------------------------
Below $3.00.........................             $0.15             $0.15
At or above $3.00...................              0.30              0.30
------------------------------------------------------------------------

Thus, the proposed adjustment criteria for Significant Market Events
are identical to the proposed adjustment levels for Obvious Errors
generally. In addition, in the context of a Significant Market Event,
any error exceeding 50 contracts will be subject to the Size Adjustment
Modifier described above. Also, the adjustment criteria would apply
equally to all market participants (i.e., Customers and non-Customers)
in a Significant Market Event. However, as is true for the proposal
with respect to Catastrophic Errors, under the Proposed Rule where at
least one party to the transaction is a Customer, the trade will be
nullified if the adjustment would result in an execution price higher
(for buy transactions) or lower (for sell transactions) than the
Customer's limit price. The Exchange has retained the protection of a
Customer's limit price in order to avoid a situation where the
adjustment could be to a price that the Customer could not afford,
which is less likely to be an issue for a market professional. The
Exchange has otherwise proposed to treat all market participants the
same in the context of a Significant Market Event to provide additional
certainty to market participants with respect to their potential
exposure as soon as an event has occurred.

    Another significant distinction between the proposed Obvious Error
provision and the proposed Significant Market Event provision is that
if the Exchange, in consultation with other options exchanges,
determines that timely adjustment is not feasible due to the
extraordinary nature of the situation, then the Exchange will nullify
some or all transactions arising out of the Significant Market Event
during the review period selected by the Exchange and other options
exchanges. To the extent the Exchange, in consultation with other
options exchanges, determines to nullify less than all transactions
arising out of the Significant Market Event, those transactions subject
to nullification will be selected based upon objective criteria with a
view toward maintaining a fair and orderly market and the protection of
investors and the public interest. For example, assume a Significant
Market Event causes 25,000 potentially erroneous transactions and
impacts 51 options classes. Of the 25,000 transactions, 24,000 of them
are concentrated in a single options class. The exchanges may decide
the most appropriate solution because it will provide the most
certainty to participants and allow for the prompt resumption of
regular trading is to bust all trades in the most heavily affected
class between two specific points in time, while the other 1,000 trades
across the other 50 classes are reviewed and adjusted as appropriate. A
similar situation might arise directionally where a Customer submits
both erroneous buy and sell orders and the number of errors that
happened that were erroneously low priced (i.e., erroneous sell orders)
were 50,000 in number but the number of errors that were erroneously
high (i.e., erroneous buy orders) were only 500 in number. The most
effective and efficient approach that provides the most certainty to
the marketplace in a reasonable amount of time while most closely
following the generally prescribed obvious error rules could be to bust
all of the erroneous sell transactions but to adjust the erroneous buy
transactions.
    With respect to rulings made pursuant to the proposed Significant
Market Event provision the Exchange believes that the number of
affected transactions is such that immediate finality is necessary to
maintain a fair and orderly market and to protect investors and the
public interest. Accordingly, rulings by the Exchange pursuant to the
Significant Market Event provision would be non-appealable pursuant to
the Proposed Rule.
Additional Provisions
Mutual Agreement
    In addition to the objective criteria described above, the Proposed
Rule also proposes to make clear that the determination as to whether a
trade was executed at an erroneous price may be made by mutual
agreement of the affected parties to a particular transaction. The
Proposed Rule would state that an electronic or open outcry trade may
be nullified or adjusted on the terms that all parties to a particular
transaction agree, provided, however, that such agreement to nullify or
adjust must be conveyed to the Exchange in a manner prescribed by the
Exchange prior to 7:30 a.m. Central Time on the first trading day
following the execution.
    The Exchange also proposes to explicitly state that it is
considered conduct inconsistent with just and equitable principles of
trade for any TPH to use the mutual adjustment process to circumvent
any applicable Exchange rule, the Act or any of the rules and
regulations thereunder. Thus,

for instance, a TPH is precluded from seeking to avoid applicable
trade-through rules by executing a transaction and then adjusting such
transaction to a price at which the Exchange would not have allowed it
to execute at the time of the execution because it traded through the
quotation of another options exchange. The Exchange notes that in
connection with its obligations as a self-regulatory organization, the
Exchange's Regulatory Department reviews adjustments to transactions to
detect potential violations of Exchange rules or the Act and the rules
and regulations thereunder.
Trading Halts
    Exchange Rule 6.3 describes the Exchange's authority to declare
trading halts in one or more options traded on the Exchange. The
Exchange proposes to make clear in the Proposed Rule that it will
nullify any transaction that occurs during a trading halt in the
affected option on the Exchange pursuant to Rule 6.3. If any trades
occur notwithstanding a trading halt then the Exchange believes it
appropriate to nullify such transactions. While the Exchange may halt
options trading for various reasons, such a scenario almost certainly
is due to extraordinary circumstances and is potentially the result of
market-wide coordination to halt options trading or trading generally.
Accordingly, the Exchange does not believe it is appropriate to allow
trades to stand if such trades should not have occurred in the first
place.
    The Exchange proposes to add Interpretation and Policy .07 to Rule
6.3. The interpretation and Policy will state that the Exchange shall
nullify any transaction that occurs: (a) during a trading halt in the
affected option on the Exchange; or (b) with respect to equity options
(including options overlying ETFs), during a regulatory halt as
declared by the primary listing market for the underlying security.
Erroneous Print and Quotes in Underlying Security
    Market participants on the Exchange likely base the pricing of
their orders submitted to the Exchange on the price of the underlying
security for the option. Thus, the Exchange believes it is appropriate
to adopt provisions that allow adjustment or nullification of
transactions based on erroneous prints or erroneous quotes in the
underlying security.
    The Exchange proposes to adopt language in the Proposed Rule
stating that a trade resulting from an erroneous print(s) disseminated
by the underlying market that is later nullified by that underlying
market shall be adjusted or busted as set forth in the Obvious Error
provisions of the Proposed Rule, provided a party notifies the
Exchange's Help Desk in a timely manner, as further described below.
The Exchange proposes to define a trade resulting from an erroneous
print(s) as any options trade executed during a period of time for
which one or more executions in the underlying security are nullified
and for one second thereafter. The Exchange believes that one second is
an appropriate amount of time in which an options trade would be
directly based on executions in the underlying equity security. The
Exchange also proposes to require that if a party believes that it
participated in an erroneous transaction resulting from an erroneous
print(s) pursuant to the proposed erroneous print provision it must
notify the Exchange's Help Desk within the timeframes set forth in the
Obvious Error provision described above. The Exchange has also proposed
to state that the allowed notification timeframe commences at the time
of notification by the underlying market(s) of nullification of
transactions in the underlying security. Further, the Exchange proposes
that if multiple underlying markets nullify trades in the underlying
security, the allowed notification timeframe will commence at the time
of the first market's notification.
    As an example of a situation in which a trade results from an
erroneous print disseminated by the underlying market that is later
nullified by the underlying market, assume that a given underlying is
trading in the $49.00-$50.00 price range then has an erroneous print at
$5.00. Given that there is the potential perception that the underlying
has gone through a dramatic price revaluation, numerous options trades
could promptly trigger based off of this new price. However, because
the price that triggered them was not a valid price it would be
appropriate to review said option trades when the underlying print that
triggered them is removed.
    The Exchange also proposes to add a provision stating that a trade
resulting from an erroneous quote(s) in the underlying security shall
be adjusted or busted as set forth in the Obvious Error provisions of
the Proposed Rule, provided a party notifies the Exchange's Help Desk
in a timely manner, as further described below. Pursuant to the
Proposed Rule, an erroneous quote occurs when the underlying security
has a width of at least $1.00 and has a width at least five times
greater than the average quote width for such underlying security
during the time period encompassing two minutes before and after the
dissemination of such quote. For purposes of the Proposed Rule, the
average quote width will be determined by adding the quote widths of
sample quotations at regular 15-second intervals during the four-minute
time period referenced above (excluding the quote(s) in question) and
dividing by the number of quotes during such time period (excluding the
quote(s) in question).\15\ Similar to the proposal with respect to
erroneous prints described above, if a party believes that it
participated in an erroneous transaction resulting from an erroneous
quote(s) it must notify the Exchange's Help Desk in accordance with the
notification provisions of the Obvious Error provision described above.
The Proposed Rule, therefore, puts the onus on each TPH to notify the
Exchange if such TPH believes that a trade should be reviewed pursuant
to either of the proposed provisions, as the Exchange is not in
position to determine the impact of erroneous prints or quotes on
individual TPHs. The Exchange notes that it does not believe that
additional time is necessary with respect to a trade based on an
erroneous quote because a TPH has all information necessary to detect
the error at the time of an option transaction that was triggered by an
erroneous quote, which is in contrast to the proposed erroneous print
provision that includes a dependency on an action by the market where
the underlying security traded.
---------------------------------------------------------------------------

    \15\ The Exchange has proposed the price and time parameters for
quote width and average quote width used to determine whether an
erroneous quote has occurred based on established rules of options
exchanges that currently apply such parameters. See, e.g., CBOE Rule
6.25(a)(5); NYSE Arca Rule 6.87(a)(5). Based on discussions with
these exchanges, the Exchange believes that the parameters are a
reasonable approach to determine whether an erroneous quote has
occurred for purposes of the proposed rule.
---------------------------------------------------------------------------

    As an example of a situation in which a trade results from an
erroneous quote in the underlying security, assume again that a given
underlying is quoting and trading in the $49.00-$50.00 price range then
a liquidity gap occurs, with bidders not representing quotes in the
market place and an offer quoted at $5.00. Quoting may quickly return
to normal, again in the $49.00-$50.00 price range, but due to the
potential perception that the underlying has gone through a dramatic
price revaluation, numerous options trades could trigger based off of
this new quoted price in the interim. Because the price that triggered
such trades was not a valid price it would be appropriate to review
said option trades.
    Additionally, consistent with the Current Rule, the Exchange
proposes to designate and announce the

``underlying'' and underlying markets for the purposes of paragraphs
6.25(g) and (h) via Regulatory Circular.\16\
---------------------------------------------------------------------------

    \16\ The Exchange notes that the Proposed Rule eliminates
``related instruments'' from the Current Rule. The Exchange believes
the change is necessary to conform with the text of the Proposed
Rule; however, the Exchange believes `related instruments' are
included within the concept of an `underlying' in the Proposed Rule.
See Current Rule 6.25(a)(4) and (5).
---------------------------------------------------------------------------

Stop (and Stop-Limit) Order Trades Triggered by Erroneous Trades
    The Exchange notes that certain market participants and their
customers enter stop or stop limit orders that are triggered based on
executions in the marketplace. As proposed, transactions resulting from
the triggering of a stop or stop-limit order by an erroneous trade in
an option contract shall be nullified by the Exchange, provided a party
notifies the Exchange's Help Desk in a timely manner as set forth
below. The Exchange believes it is appropriate to nullify executions of
stop or stop-limit orders that were wrongly triggered because such
transactions should not have occurred. If a party believes that it
participated in an erroneous transaction pursuant to the Proposed Rule
it must notify the Exchange's Help Desk within the timeframes set forth
in the Obvious Error Rule above, with the allowed notification
timeframe commencing at the time of notification of the nullification
of transaction(s) that triggered the stop or stop-limit order.
Linkage Trades
    The Exchange also proposes to adopt language that clearly provides
the Exchange with authority to take necessary actions when another
options exchange nullifies or adjusts a transaction pursuant to its
respective rules and the transaction resulted from an order that has
passed through the Exchange and been routed on to another options
exchange on behalf of the Exchange. Specifically, if the Exchange
routes an order pursuant to the Intermarket Options Linkage Plan \17\
that results in a transaction on another options exchange (a ``Linkage
Trade'') and such options exchange subsequently nullifies or adjusts
the Linkage Trade pursuant to its rules, the Exchange will perform all
actions necessary to complete the nullification or adjustment of the
Linkage Trade. Although the Exchange is not utilizing its own authority
to nullify or adjust a transaction related to an action taken on a
Linkage Trade by another options exchange, the Exchange does have to
assist in the processing of the adjustment or nullification of the
order, such as notification to the TPH and the OCC of the adjustment or
nullification. Thus, the Exchange believes that the proposed provision
adds additional transparency to the Proposed Rule.
---------------------------------------------------------------------------

    \17\ See Securities Exchange Act Release No. 34-54551 (September
29, 2006), 71 FR 59148 (October 6, 2006).
---------------------------------------------------------------------------

Obvious Error Panel
    The Exchange proposes to maintain its current appeals process in
connection with obvious errors. Specifically, if a party affected by a
determination made under paragraph (c) so requests within the time
permitted in paragraph (k)(3) below, an Obvious Error Panel will review
decisions made under this Rule, including whether an obvious error
occurred, whether the correct Theoretical Price was used, and whether
the correct adjustment was made at the correct price. A party may also
request that the Obvious Error Panel provide relief as required in this
Rule in cases where the party failed to provide the notification
required in paragraph (c)(2) and an extension was not granted, but
unusual circumstances must merit special consideration. A party cannot
request review by an Obvious Error Panel of determinations by a CBOE
Official made pursuant to paragraph (c)(3) of this Rule.
    The Obvious Error Panel will be comprised of at least one (1)
member of the Exchange's staff designated to perform Obvious Error
Panel functions and four (4) Trading Permit Holders. Fifty percent of
the number of Trading Permit Holders on the Obvious Error Panel must be
directly engaged in market making activity and fifty percent of the
number of Trading Permit Holders on the Obvious Error Panel must act in
the capacity of a non-DPM floor broker.
    Under Proposed Rule (k)(3) a request for review must be made in
writing within thirty (30) minutes after a party receives notification
of the determination being appealed, except that if notification is
made after 2:30 p.m. Central Time (``CT''), either party has until 8:30
a.m. CT the next trading day to request review. The Obvious Error Panel
shall review the facts and render a decision on the day of the
transaction, or the next trade day in the case where a request is
properly made the next trade day.
    The Obvious Error Panel may overturn or modify an action taken
under this Rule upon agreement by a majority of the Panel
representatives. All determinations by the Obvious Error Panel may be
appealed in accordance with paragraph (m) of this Rule.
Catastrophic Error Panel
    The Exchange proposes to modify the procedure and function of the
Catastrophic Error Panel in the Current Rule to conform the appeals
process for catastrophic errors to the appeals process for obvious
errors. Under the Current Rule, the Catastrophic Error Panel does not
review initial determinations regarding catastrophic errors; rather,
the Catastrophic Error Panel makes initial determinations with regards
to whether a catastrophic error has occurred. In order to conform to
the Proposed Rule, which provides that initial determinations regarding
potential catastrophic errors are made by CBOE Officials, the Exchange
is proposing to adopt procedures similar to the Obvious Error Panel for
the proposed Catastrophic Error Panel. Specifically, if a party
affected by a determination made under paragraph (d) so requests within
the time permitted in paragraph (l)(3), a Catastrophic Error Panel will
review decisions made under this Rule, including whether a catastrophic
error occurred, whether the correct Theoretical Price was used, and
whether the correct adjustment was made at the correct price. The
composition of the Catastrophic Error Panel will be the same as the
Obvious Error Panel.
    Additionally, under paragraph (l)(3), a request for review must be
made in writing within thirty (30) minutes after a party receives
notification of a determination under paragraph (d), except that if
notification is made after 2:30 p.m. Central Time (``CT''), either
party has until 8:30 a.m. CT the next trading day to request review.
The Catastrophic Error Panel shall review the facts and render a
decision on the day of the transaction, or the next trade day in the
case where a request is properly made the next trade day.
    Finally, as with the Obvious Error Panel, the Catastrophic Error
Panel may overturn or modify an action taken under this Rule upon
agreement by a majority of the Panel representatives. All
determinations by the Catastrophic Error Panel may be appealed in
accordance with paragraph (m) of this Rule.
Review
    Determinations made by an Obvious Error Panel or Catastrophic Error
Panel can be appealed in accordance with paragraph (m) of the Proposed
Rule. Paragraph (m) provides that, subject to the limitations contained
in (c)(3),\18\ a

Trading Permit Holder affected by a determination made under this Rule
may appeal such determination, in accordance with Chapter XIX of the
Exchange's rules. For purposes of this Rule, a Trading Permit Holder
must be aggrieved as described in Rule 19.1. Notwithstanding any
provision in Rule 19.2 to the contrary, a request for review must be
made in writing (in a form and manner prescribed by the Exchange) no
later than the close of trading on the next trade date after the
Trading Permit Holder receives notification of such determination from
the Exchange.
---------------------------------------------------------------------------

    \18\ Consistent with the Current Rule, transactions adjusted or
nullified under (c)(3) cannot be reviewed by an Obvious Error Panel
under paragraph (k) but can be appealed in accordance with paragraph
(m).
---------------------------------------------------------------------------

Limit Up-Limit Down Plan
    The Exchange is proposing to adopt Interpretation and Policy .01 to
the Proposed Rule to provide for how the Exchange will treat Obvious
and Catastrophic Errors in response to the Regulation NMS Plan to
Address Extraordinary Market Volatility Pursuant to Rule 608 of
Regulation NMS under the Act (the ``Limit Up-Limit Down Plan'' or the
``Plan),\19\ which is applicable to all NMS stocks, as defined in
Regulation NMS Rule 600(b)(47).\20\ Under the Proposed Rule, during a
pilot period to coincide with the pilot period for the Plan, including
any extensions to the pilot period for the Plan, an execution will not
be subject to review as an Obvious Error or Catastrophic Error pursuant
to paragraph (c) or (d) of the Proposed Rule if it occurred while the
underlying security was in a ``Limit State'' or ``Straddle State,'' as
defined in the Plan. The Exchange, however, proposes to retain
authority to review transactions on an Official's own motion pursuant
to sub-paragraph (c)(3) of the Proposed Rule and to bust or adjust
transactions pursuant to the proposed Significant Market Event
provision, the proposed trading halts provision, the proposed
provisions with respect to erroneous prints and quotes in the
underlying security, the proposed provision related to stop and stop
limit orders that have been triggered by an erroneous execution, or the
proposed provision related to verifiable disruptions or malfunctions of
Exchange systems. The Exchange believes that these safeguards will
provide the Exchange with the flexibility to act when necessary and
appropriate to nullify or adjust a transaction, while also providing
market participants with certainty that, under normal circumstances,
the trades they affect with quotes and/or orders having limit prices
will stand irrespective of subsequent moves in the underlying security.
---------------------------------------------------------------------------

    \19\ Securities Exchange Act Release No. 67091 (May 31, 2012),
77 FR 33498 (June 6, 2012) (order approving the Plan on a pilot
basis).
    \20\ 17 CFR 242.600(b)(47).
---------------------------------------------------------------------------

    During a Limit or Straddle State, options prices may deviate
substantially from those available immediately prior to or following
such States. Thus, determining a Theoretical Price in such situations
would often be very subjective, creating unnecessary uncertainty and
confusion for investors. Because of this uncertainty, and consistent
with the Current Rule, the Exchange proposes to provide that the
Exchange will not review transactions as Obvious Errors or Catastrophic
Errors when the underlying security is in a Limit or Straddle State.
    The Exchange represents that it will conduct its own analysis
concerning the elimination of the Obvious Error and Catastrophic Error
provisions during Limit and Straddle States and agrees to provide the
Commission with relevant data to assess the impact of this proposed
rule change. As part of its analysis, the Exchange will evaluate (1)
the options market quality during Limit and Straddle States, (2) assess
the character of incoming order flow and transactions during Limit and
Straddle States, and (3) review any complaints from TPHs and their
customers concerning executions during Limit and Straddle States. The
Exchange also agrees to provide to the Commission data requested to
evaluate the impact of the inapplicability of the Obvious Error and
Catastrophic Error provisions, including data relevant to assessing the
various analyses noted above.
    In connection with this proposal, the Exchange will provide to the
Commission and the public a dataset containing the data for each
Straddle State and Limit State in NMS Stocks underlying options traded
on the Exchange beginning in the month during which the proposal is
approved, limited to those option classes that have at least one (1)
trade on the Exchange during a Straddle State or Limit State. For each
of those option classes affected, each data record will contain the
following information:
     Stock symbol, option symbol, time at the start of the
Straddle or Limit State, an indicator for whether it is a Straddle or
Limit State.
     For activity on the Exchange:
    [cir] Executed volume, time-weighted quoted bid-ask spread, time-
weighted average quoted depth at the bid, time-weighted average quoted
depth at the offer;
    [cir] high execution price, low execution price;
    [cir] number of trades for which a request for review for error was
received during Straddle and Limit States;
    [cir] an indicator variable for whether those options outlined
above have a price change exceeding 30% during the underlying stock's
Limit or Straddle State compared to the last available option price as
reported by OPRA before the start of the Limit or Straddle State (1 if
observe 30% and 0 otherwise). Another indicator variable for whether
the option price within five minutes of the underlying stock leaving
the Limit or Straddle state (or halt if applicable) is 30% away from
the price before the start of the Limit or Straddle State.
    In addition, by May 29, 2015, the Exchange shall provide to the
Commission and the public assessments relating to the impact of the
operation of the Obvious Error rules during Limit and Straddle States
as follows: (1) Evaluate the statistical and economic impact of Limit
and Straddle States on liquidity and market quality in the options
markets; and (2) Assess whether the lack of Obvious Error rules in
effect during the Straddle and Limit States are problematic. The timing
of this submission would coordinate with Participants' proposed time
frame to submit to the Commission assessments as required under
Appendix B of the Plan. The Exchange notes that the pilot program is
intended to run concurrent with the pilot period of the Plan, which has
been extended to October 23, 2015. The Exchange proposes to reflect
this date in the Proposed Rule.
No Adjustments to a Worse Price
    The Exchange also proposes to include Interpretation and Policy .02
to the Proposed Rule, which would make clear that to the extent the
provisions of the proposed Rule would result in the Exchange applying
an adjustment of an erroneous sell transaction to a price lower than
the execution price or an erroneous buy transaction to a price higher
than the execution price, the Exchange will not adjust or nullify the
transaction, but rather, the execution price will stand.
Opening Trades in Restricted Series
    The Exchange also proposes to adopt Interpretation and Policy .03
to the Proposed Rule, which will permit the nullification of opening
transactions in ``restricted series'' that do not satisfy the
requirements of Rule 5.4.\21\ Consistent

with the Current Rule,\22\ when the Exchange makes a determination that
trading in a series is restricted pursuant to Rule 5.4, the Exchange
notifies the membership of that determination through issuance of a
regulatory circular. In addition, the Exchange's systems are programmed
to automatically restrict the entry of electronic opening transactions.
However, opening market-maker activity is still permitted under certain
scenarios. As a result, it is possible that an opening transaction that
does not satisfy the requirements of Rule 5.4 may occur inadvertently.
In order to address these scenarios, the Exchange is proposing to
permit the nullification of opening transactions that do not satisfy
Rule 5.4.
---------------------------------------------------------------------------

    \21\ In relevant part, Rule 5.4 provides that, whenever the
Exchange determines that an underlying security previously approved
for Exchange option transactions does not meet the then current
requirements for continuance of such approval or for any other
reason should no longer be approved, the Exchange will not open for
trading any additional series of options of the class covering that
underlying security and therefore two floor officials, in
consultation with a designated senior executive officer of the
Exchange, may prohibit any opening purchase transactions in series
of options of that class previously opened (except that (i) opening
transactions by Market-Makers executed to accommodate closing
transactions of other market participants and (ii) opening
transactions by CBOE member organizations to facilitate the closing
transactions of public customers executed as crosses pursuant to and
in accordance with paragraph (b) or (d) of Rule 6.74, Crossing
Orders, may be permitted), to the extent it deems such action
necessary or appropriate (such series are referred as ``restricted
series''); provided, however, that where exceptional circumstances
have caused an underlying security not to comply with the Exchange's
current approval maintenance requirements, regarding number of
publicly held shares or publicly held principal amount, number of
shareholders, trading volume or market price the Exchange, in the
interest of maintaining a fair and orderly market or for the
protection of investors, may determine to continue to open
additional series of option contracts of the class covering that
underlying security.
    \22\ See Current Rule 6.25(a)(6).
---------------------------------------------------------------------------

Binary Options
    Additionally, consistent with the Current Rule,\23\ the Exchange
also proposes to adopt Interpretation and Policy .04 to the Proposed
Rule, which provides that for purposes of the obvious error provisions
in paragraph (c) of this Rule, the adjusted price (including any
applicable adjustment under (c)(4)(A) for non-customer transactions)
shall not exceed the applicable exercise settlement amount for the
binary option. As defined in CBOE Rule 22.1(e), the term ``exercise
settlement amount'' as when used in reference to a binary option means
the amount of cash that a holder will receive upon exercise of the
contract.\24\
---------------------------------------------------------------------------

    \23\ See Current Rule 6.25.04.
    \24\ This proposed limitation on obvious pricing error
adjustments for binary options is similar to an existing limitation
on obvious pricing error adjustments for Credit Options. See Rule
29.15, Nullification and Adjustments for Credit Option Transactions.
---------------------------------------------------------------------------

Verifiable Disruption or Malfunction of Exchange Systems
    Additionally, consistent with the Current Rule,\25\ the Exchange
proposes to adopt Interpretation and Policy .05, which provides that
electronic or open outcry transactions arising out of a ``verifiable
disruption or malfunction'' in the use or operation of any Exchange
automated quotation, dissemination, execution, or communication system
will either be nullified or adjusted by an Official. Transactions that
qualify for price adjustment will be adjusted to Theoretical Price, as
defined in paragraph (b).
---------------------------------------------------------------------------

    \25\ See Current Rule 6.25(a)(3) and Securities Exchange Act
Release No. 34-48827 (November 24, 2003), 68 FR 67498 (December 2,
2003) (SR-CBOE-2001-04).
---------------------------------------------------------------------------

Arbitration
    Additionally, the Exchange proposes to adopt Interpretation and
Policy .06, which provides that any determination made by an Official,
an Obvious Error Panel, or a Catastrophic Error Panel under Proposed
Rule shall be rendered without prejudice as to the rights of the
parties to the transaction to submit a dispute to arbitration.
Credit Options
    Finally, the Exchange proposes to make conforming changes to
Current Rule 29.15, which governs the nullification and adjustment of
credit options transactions.\26\ Current Rule 29.15 states that 6.25(a)
has no applicability to Credit Options. Current Rule 6.25(a) has
provisions related to an obvious error table, a catastrophic error
table, a definition of theoretical price, whether a transaction is
adjusted or nullified, no-bid series, verifiable disruption or
malfunction of Exchange system, erroneous print or quote in an
underlying, opening trades in restricted series. Current Rule 6.25(d),
by implication, is also inapplicable to Current Rule 29.15 because
(d)(1) applies to catastrophic errors pursuant to paragraph (a)(1),
which is excluded from Rule 29.15.\27\ Therefore, paragraphs 6.25(b),
(c), and (e) are the provisions of Current Rule 6.25 that apply to
Current Rule 29.15. In addition, where Current Rule 29.15 only excludes
paragraph (a) of Rule 6.25, the format of the harmonized rule requires
a list of paragraphs from Proposed Rule 6.25 to be excluded from
Proposed Rule 29.15 in order to make the conforming changes (i.e.,
paragraphs (b), (c)(1), (c)(4), (d), (e) (g), (h), (l), and
Interpretation and Policy .05 are to be excluded and inapplicable to
Proposed Rule 29.15).
---------------------------------------------------------------------------

    \26\ Although CBOE does not currently offer credit options, they
are excluded from current Rule 6.25(a) because the value of a credit
option is either $0 or $100. Therefore, provisions in the Current
Rule 6.25 related to the obvious error table, catastrophic error
tables, definition of theoretical price, etc., are not applicable to
credit options. Rule 24.19 sets forth the theoretical price for a
credit option as well as when there is an obvious error. The only
provisions of Current Rule 6.25 that are applicable to credit
options are the procedural requirements found in Rule 6.25(b). The
conforming changes to Proposed Rule 29.15 will act in the same
manner.
    \27\ See Rule 6.25(d)(1).
---------------------------------------------------------------------------

Implementation Date
    In order to ensure that other options exchanges are able to adopt
rules consistent with this proposal and to coordinate the effectiveness
of such harmonized rules, the Exchange proposes to delay the operative
date of this proposal to May 8, 2015.
 2. Statutory Basis
    The Exchange believes that its proposal is consistent with the
requirements of the Act and the rules and regulations thereunder that
are applicable to a national securities exchange, and, in particular,
with the requirements of Section 6(b) of the Act.\28\ Specifically, the
proposal is consistent with Section 6(b)(5) of the Act \29\ because it
would promote just and equitable principles of trade, remove
impediments to, and perfect the mechanism of, a free and open market
and a national market system, and, in general, protect investors and
the public interest.
---------------------------------------------------------------------------

    \28\ 15 U.S.C. 78f(b).
    \29\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------

    As described above, the Exchange and other options exchanges are
seeking to adopt harmonized rules related to the adjustment and
nullification of erroneous options transactions. The Exchange believes
that the Proposed Rule will provide greater transparency and clarity
with respect to the adjustment and nullification of erroneous options
transactions. Particularly, the proposed changes seek to achieve
consistent results for participants across U.S. options exchanges while
maintaining a fair and orderly market, protecting investors and
protecting the public interest. Based on the foregoing, the Exchange
believes that the proposal is consistent with Section 6(b)(5) of the
Act \30\ in that the Proposed Rule will foster cooperation and
coordination with persons engaged in regulating and facilitating
transactions.
---------------------------------------------------------------------------

    \30\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------

    The Exchange believes the various provisions allowing or dictating

adjustment rather than nullification of a trade are necessary given the
benefits of adjusting a trade price rather than nullifying the trade
completely. Because options trades are used to hedge, or are hedged by,
transactions in other markets, including securities and futures, many
TPHs, and their customers, would rather adjust prices of executions
rather than nullify the transactions and, thus, lose a hedge
altogether. As such, the Exchange believes it is in the best interest
of investors to allow for price adjustments as well as nullifications.
The Exchange further discusses specific aspects of the Proposed Rule
below.
    The Exchange does not believe that the proposal is unfairly
discriminatory, even though it differentiates in many places between
Customers and non-Customers. The rules of the options exchanges,
including the Exchange's existing Obvious Error provision, often treat
Customers differently, often affording them preferential treatment.
This treatment is appropriate in light of the fact that Customers are
not necessarily immersed in the day-to-day trading of the markets, are
less likely to be watching trading activity in a particular option
throughout the day, and may have limited funds in their trading
accounts. At the same time, the Exchange reiterates that in the U.S.
options markets generally there is significant retail customer
participation that occurs directly on (and only on) options exchanges
such as the Exchange. Accordingly, differentiating among market
participants with respect to the adjustment and nullification of
erroneous options transactions is not unfairly discriminatory because
it is reasonable and fair to provide Customers with additional
protections as compared to non-Customers.
    The Exchange believes that its proposal with respect to the
allowance of mutual agreed upon adjustments or nullifications is
appropriate and consistent with the Act, as such proposal removes
impediments to and perfects the mechanism of a free and open market and
a national market system, allowing participants to mutually agree to
correct an erroneous transactions without the Exchange mandating the
outcome. The Exchange also believes that its proposal with respect to
mutual adjustments is consistent with the Act because it is designed to
prevent fraudulent and manipulative acts and practices by explicitly
stating that it is considered conduct inconsistent with just and
equitable principles of trade for any TPH to use the mutual adjustment
process to circumvent any applicable Exchange rule, the Act or any of
the rules and regulations thereunder.
    The Exchange believes its proposal to provide within the Proposed
Rule definitions of Customer, erroneous sell transaction and erroneous
buy transaction, and Official is consistent with Section 6(b)(5) of the
Act because such terms will provide more certainty to market
participants as to the meaning of the Proposed Rule and reduce the
possibility that a party can intentionally submit an order hoping for
the market to move in their favor in reliance on the Rule as a safety
mechanism, thereby promoting just and fair principles of trade.
Similarly, the Exchange believes that proposed Interpretation and
Policy .02 is consistent with the Act as it would make clear that the
Exchange will not adjust or nullify a transaction, but rather, the
execution price will stand when the applicable adjustment criteria
would actually adjust the price of the transaction to a worse price
(i.e., higher for an erroneous buy or lower for an erroneous sell
order).
    As set forth below, the Exchange believes it is consistent with
Section 6(b)(5) of the Act for the Exchange to determine Theoretical
Price when the NBBO cannot reasonably be relied upon because the
alternative could result in transactions that cannot be adjusted or
nullified even when they are otherwise clearly at a price that is
significantly away from the appropriate market for the option.
Similarly, reliance on an NBBO that is not reliable could result in
adjustment to prices that are still significantly away from the
appropriate market for the option.
    The Exchange believes that its proposal with respect to determining
Theoretical Price is consistent with the Act in that it has retained
the standard of the current rule, which is to rely on the NBBO to
determine Theoretical Price if such NBBO can reasonably be relied upon.
Because, however, there is not always an NBBO that can or should be
used in order to administer the rule, the Exchange has proposed various
provisions that provide the Exchange with the authority to determine a
Theoretical Price. The Exchange believes that the Proposed Rule is
transparent with respect to the circumstances under which the Exchange
will determine Theoretical Price, and has sought to limit such
circumstances as much as possible. The Exchange notes that Exchange
personnel currently are required to determine Theoretical Price in
certain circumstances. While the Exchange continues to pursue
alternative solutions that might further enhance the objectivity and
consistency of determining Theoretical Price, the Exchange believes
that the discretion currently afforded to Exchange Officials is
appropriate in the absence of a reliable NBBO that can be used to set
the Theoretical Price.
    With respect to the specific proposed provisions for determining
Theoretical Price for transactions that occur as part of the Exchange's
Opening Process and in situations where there is a wide quote, the
Exchange believes both provisions are consistent with the Act because
they provide objective criteria that will determine Theoretical Price
with limited exceptions for situations where the Exchange does not
believe the NBBO is a reasonable benchmark or there is no NBBO. The
Exchange notes in particular with respect to the wide quote provision
that the Proposed Rule will result in the Exchange determining
Theoretical Price less frequently than it would pursuant to wide quote
provisions that have previously been approved. The Exchange believes
that it is appropriate and consistent with the Act to afford
protections to market participants by not relying on the NBBO to
determine Theoretical Price when the quote is extremely wide but had
been, in the prior 10 seconds, at much more reasonable width. The
Exchange also believes it is appropriate and consistent with the Act to
use the NBBO to determine Theoretical Price when the quote has been
wider than the applicable amount for more than 10 seconds, as the
Exchange does not believe it is necessary to apply any other criteria
in such a circumstance. The Exchange believes that market participants
can easily use or adopt safeguards to prevent errors when such market
conditions exist. When entering an order into a market with a
persistently wide quote, the Exchange does not believe that the
entering party should reasonably expect anything other than the quoted
price of an option.
    The Exchange believes that its proposal to adopt clear but
disparate standards with respect to the deadline for submitting a
request for review of Customer and non-Customer transactions is
consistent with the Act, particularly in that it creates a greater
level of protection for Customers. As noted above, the Exchange
believes that this is appropriate and not unfairly discriminatory in
light of the fact that Customers are not necessarily immersed in the
day-to-day trading of the markets and are less likely to be watching
trading activity in a particular option throughout the day. Thus, TPHs
representing Customer orders reasonably may need additional time to
submit a request for review. The

Exchange also believes that its proposal to provide additional time for
submission of requests for review of linkage trades is reasonable and
consistent with the protection of investors and the public interest due
to the time that it might take an options exchange or third-party
routing broker to file a request for review with the Exchange if the
initial notification of an error is received by the originating options
exchange near the end of such options exchange's filing deadline.
Without this additional time, there could be disparate results based
purely on the existence of intermediaries and an interconnected market
structure.
    In relation to the aspect of the proposal giving Officials the
ability to review transactions for obvious errors on their own motion,
the Exchange notes that an Official can adjust or nullify a transaction
under the authority granted by this provision only if the transaction
meets the specific and objective criteria for an Obvious Error under
the Proposed Rule. As noted above, this is designed to give an Official
the ability to provide parties relief in those situations where they
have failed to report an apparent error within the established
notification period. However, the Exchange will only grant relief if
the transaction meets the requirements for an Obvious Error as
described in the Proposed Rule.
    The Exchange believes that its proposal to adjust non-Customer
transactions and to nullify Customer transactions that qualify as
Obvious Errors is appropriate for reasons consistent with those
described above. In particular, Customers are not necessarily immersed
in the day-to-day trading of the markets, are less likely to be
watching trading activity in a particular option throughout the day,
and may have limited funds in their trading accounts.
    The Exchange acknowledges that the proposal contains some
uncertainty regarding whether a trade will be adjusted or nullified,
depending on whether one of the parties is a Customer, because a party
may not know whether the other party to a transaction was a Customer at
the time of entering into the transaction. However, the Exchange
believes that the proposal nevertheless promotes just and equitable
principles of trade and protects investors as well as the public
interest because it eliminates the possibility that a Customer's order
will be adjusted to a significantly different price. As noted above,
the Exchange believes it is consistent with the Act to afford Customers
greater protections under the Proposed Rule than are afforded to non-
Customers. Thus, the Exchange believes that its proposal is consistent
with the Act in that it protects investors and the public interest by
providing additional protections to those that are less informed and
potentially less able to afford an adjustment of a transaction that was
executed in error. Customers are also less likely to have engaged in
significant hedging or other trading activity based on earlier
transactions, and thus, are less in need of maintaining a position at
an adjusted price than non-Customers.
    If any TPH submits requests to the Exchange for review of
transactions pursuant to the Proposed Rule, and in aggregate that TPH
has 200 or more Customer transactions under review concurrently and the
orders resulting in such transactions were submitted during the course
of 2 minutes or less, the Exchange believes it is appropriate for the
Exchange apply the non-Customer adjustment criteria described above to
such transactions. The Exchange believes that the proposed aggregation
is reasonable as it is representative of an extremely large number of
orders submitted to the Exchange over a relatively short period of time
that are, in turn, possibly erroneous (and within a time frame
significantly less than an entire day), and thus is most likely to
occur because of a systems issue experienced by a TPH representing
Customer orders or a systems issue coupled with the erroneous marking
of orders. The Exchange does not believe it is possible at a level of
200 Customer orders over a 2 minute period that are under review at one
time that multiple, separate Customers were responsible for the errors
in the ordinary course of trading. In the event of a large-scale issue
caused by a TPH that has submitted orders over a 2 minute period marked
as Customer that resulted in more than 200 transactions under review,
the Exchange does not believe it is appropriate to nullify all such
transactions because of the negative impact that nullification could
have on the market participants on the contra-side of such
transactions, who might have engaged in hedging and trading activity
following such transactions. In order for a participant to have more
than 200 transactions under review concurrently when the orders
triggering such transactions were received in 2 minutes or less, the
Exchange believes that a market participant will have far exceeded the
normal behavior of customers deserving protected status. While the
Exchange continues to believe that it is appropriate to nullify
transactions in such a circumstance if both participants to a
transaction are Customers, the Exchange does not believe it is
appropriate to place the overall risk of a significant number of trade
breaks on non-Customers that in the normal course of business may have
engaged in additional hedging activity or trading activity based on
such transactions. Thus, the Exchange believes it is necessary and
appropriate to protect non-Customers in such a circumstance by applying
the non-Customer adjustment criteria, and thus adjusting transactions
as set forth above, in the event a TPH has more than 200 transactions
under review concurrently. In summary, due to the extreme level at
which the proposal is set, the Exchange believes that the proposal is
consistent with Section 6(b)(5) of the Act in that it promotes just and
equitable principles of trade by encouraging market participants to
retain appropriate controls over their systems to avoid submitting a
large number of erroneous orders in a short period of time.
    Similarly, the Exchange believes that the proposed Size Adjustment
Modifier, which would increase the adjustment amount for non-Customer
transactions, is appropriate because it attempts to account for the
additional risk that the parties to the trade undertake for
transactions that are larger in scope. The Exchange believes that the
Size Adjustment Modifier creates additional incentives to prevent more
impactful Obvious Errors and it lessens the impact on the contra-party
to an adjusted trade. The Exchange notes that these contra-parties may
have preferred to only trade the size involved in the transaction at
the price at which such trade occurred, and in trading larger size has
committed a greater level of capital and bears a larger hedge risk.
    The Exchange similarly believes that its Proposed Rule with respect
to Catastrophic Errors is consistent with the Act as it affords
additional time for market participants to file for review of erroneous
transactions that were further away from the Theoretical Price. At the
same time, the Exchange believes that the Proposed Rule is consistent
with the Act in that it generally would adjust transactions, including
Customer transactions, because this will protect against hedge risk,
particularly for transactions that may have occurred several hours
earlier and thus, which all parties to the transaction might presume
are protected from further modification. Similarly, by providing larger
adjustment amounts away from Theoretical Price than are set forth under
the Obvious Error provision, the

Catastrophic Error provision also takes into account the possibility
that the party that was advantaged by the erroneous transaction has
already taken actions based on the assumption that the transaction
would stand. The Exchange believes it is reasonable to specifically
protect Customers from adjustments through their limit prices for the
reasons stated above, including that Customers are less likely to be
watching trading throughout the day and that they may have less capital
to afford an adjustment price. The Exchange believes that the proposal
provides a fair process that will ensure that Customers are not forced
to accept a trade that was executed in violation of their limit order
price. In contrast, market professionals are more likely to have
engaged in hedging or other trading activity based on earlier trading
activity, and thus, are more likely to be willing to accept an
adjustment rather than a nullification to preserve their positions even
if such adjustment is to a price through their limit price.
    The Exchange believes that proposed rule change to adopt the
Significant Market Event provision is consistent with Section 6(b)(5)
of the Act in that it will foster cooperation and coordination with
persons engaged in regulating the options markets. In particular, the
Exchange believes it is important for options exchanges to coordinate
when there is a widespread and significant event, as commonly, multiple
options exchanges are impacted in such an event. Further, while the
Exchange recognizes that the Proposed Rule will not guarantee a
consistent result for all market participants on every market, the
Exchange does believe that it will assist in that outcome. For
instance, if options exchanges are able to agree as to the time from
which Theoretical Price should be determined and the period of time
that should be reviewed, the likely disparity between the Theoretical
Prices used by such exchanges should be very slight and, in turn, with
otherwise consistent rules, the results should be similar. The Exchange
also believes that the Proposed Rule is consistent with the Act in that
it generally would adjust transactions, including Customer
transactions, because this will protect against hedge risk,
particularly for liquidity providers that might have been quoting in
thousands or tens of thousands of different series and might have
affected executions throughout such quoted series. The Exchange
believes that when weighing the competing interests between preferring
a nullification for a Customer transaction and an adjustment for a
transaction of a market professional, while nullification is
appropriate in a typical one-off situation that it is necessary to
protect liquidity providers in a widespread market event because,
presumably, they will be the most affected by such an event (in
contrast to a Customer who, by virtue of their status as such, likely
would not have more than a small number of affected transactions). The
Exchange believes that the protection of liquidity providers by
favoring adjustments in the context of Significant Market Events can
also benefit Customers indirectly by better enabling liquidity
providers, which provides a cumulative benefit to the market. Also, as
stated above with respect to Catastrophic Errors, the Exchange believes
it is reasonable to specifically protect Customers from adjustments
through their limit prices for the reasons stated above, including that
Customers are less likely to be watching trading throughout the day and
that they may have less capital to afford an adjustment price. The
Exchange believes that the proposal provides a fair process that will
ensure that Customers are not forced to accept a trade that was
executed in violation of their limit order price. In contrast, market
professionals are more likely to have engaged in hedging or other
trading activity based on earlier trading activity, and thus, are more
likely to be willing to accept an adjustment rather than a
nullification to preserve their positions even if such adjustment is to
a price through their limit price. In addition, the Exchange believes
it is important to have the ability to nullify some or all transactions
arising out of a Significant Market Event in the event timely
adjustment is not feasible due to the extraordinary nature of the
situation. In particular, although the Exchange has worked to limit the
circumstances in which it has to determine Theoretical Price, in a
widespread event it is possible that hundreds if not thousands of
series would require an Exchange determination of Theoretical Price. In
turn, if there are hundreds or thousands of trades in such series, it
may not be practicable for the Exchange to determine the adjustment
levels for all non-Customer transactions in a timely fashion, and in
turn, it would be in the public interest to instead more promptly
deliver a simple, consistent result of nullification.
    The Exchange believes that proposed rule change related to review,
nullification and/or adjustment of erroneous transactions during a
trading halt, an erroneous print in the underlying security, an
erroneous quote in the underlying security, or an erroneous transaction
in the option with respect to stop and stop limit orders is likewise
consistent with Section 6(b)(5) of the Act because the proposal
provides for the adjustment or nullification of trades executed at
erroneous prices through no fault on the part of the trading
participants. Allowing for Exchange review in such situations will
promote just and fair principles of trade by protecting investors from
harm that is not of their own making. Specifically with respect to the
proposed provisions governing erroneous prints and quotes in the
underlying security, the Exchange notes that market participants on the
Exchange base the value of their quotes and orders on the price of the
underlying security. The provisions regarding errors in prints and
quotes in the underlying security cover instances where the information
market participants use to price options is erroneous through no fault
of their own. In these instances, market participants have little, if
any, chance of pricing options accurately. Thus, these provisions are
designed to provide relief to market participants harmed by such errors
in the prints or quotes of the underlying security.
    The Exchange believes that the proposed provision related to
Linkage Trades is consistent with the Act because it adds additional
transparency to the Proposed Rule and makes clear that when a Linkage
Trade is adjusted or nullified by another options exchange, the
Exchange will take necessary actions to complete the nullification or
adjustment of the Linkage Trade.
    The Exchange believes that retaining the same appeals process for
obvious errors as the Exchange maintains under the Current Rule is
consistent with the Act because such process provides TPHs with due
process in connection with decisions made by Exchange Officials under
the Proposed Rule. The Exchange believes that this process provides
fair representation of TPHs by ensuring multiple TPHs are members of
any Obvious Error Review Panel, which is consistent with Sections
6(b)(3) and 6(b)(7) of the Act. The Exchange believes adopting a
similar appeals process for catastrophic errors is consistent with the
Act for the same reasons noted above.
    With regard to the portion of the Exchange's proposal related to
the applicability of the Obvious Error Rule when the underlying
security is in a Limit or Straddle State, the Exchange believes that
the proposed rule change is consistent with Section 6(b)(5) of the Act
because it will provide certainty

about how errors involving options orders and trades will be handled
during periods of extraordinary volatility in the underlying security.
Further, the Exchange believes that it is necessary and appropriate in
the interest of promoting fair and orderly markets to exclude from Rule
6.25 those transactions executed during a Limit or Straddle State.
    The Exchange believes the application of the Proposed Rule without
the proposed provision would be impracticable given the lack of
reliable NBBO in the options market during Limit and Straddle States,
and that the resulting actions (i.e., nullified trades or adjusted
prices) may not be appropriate given market conditions. The Proposed
Rule change would ensure that limit orders that are filled during a
Limit State or Straddle State would have certainty of execution in a
manner that promotes just and equitable principles of trade, removes
impediments to, and perfects the mechanism of a free and open market
and a national market system.
    Moreover, given the fact that options prices during brief Limit or
Straddle States may deviate substantially from those available shortly
following the Limit or Straddle State, the Exchange believes giving
market participants time to re-evaluate a transaction would create an
unreasonable adverse selection opportunity that would discourage
participants from providing liquidity during Limit or Straddle States.
In this respect, the Exchange notes that only those orders with a limit
price will be executed during a Limit or Straddle State. Therefore, on
balance, the Exchange believes that removing the potential inequity of
nullifying or adjusting executions occurring during Limit or Straddle
States outweighs any potential benefits from applying certain
provisions during such unusual market conditions. Additionally, as
discussed above, there are additional pre-trade protections in place
outside of the Obvious and Catastrophic Error Rule that will continue