[Federal Register Volume 85, Number 219 (Thursday, November 12, 2020)]
[Notices]
[Pages 71977-71979]
[FR Doc No: 2020-24964]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-90355; File No. SR-NASDAQ-2020-017]

Self-Regulatory Organizations; The Nasdaq Stock Market LLC; Order
Instituting Proceedings To Determine Whether To Approve or Disapprove a
Proposed Rule Change To Amend Nasdaq Rule 5704

November 5, 2020.
    On July 23, 2020, The Nasdaq Stock Market LLC (``Exchange'' or
``Nasdaq'') filed with the Securities and Exchange Commission
(``Commission''), pursuant to Section 19(b)(1) of the Securities
Exchange Act of 1934 (``Exchange Act'') \1\ and Rule 19b-4
thereunder,\2\ a proposed rule change to amend certain listing
requirements relating to maintaining a minimum number of beneficial
holders and minimum number of shares outstanding. The proposed rule
change was published for comment in the Federal Register on August 7,
2020.\3\
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Securities Exchange Act Release No. 89464 (August 4,
2020), 85 FR 48012 (``Notice'').
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    On September 10, 2020, pursuant to Section 19(b)(2) of the Exchange
Act,\4\ the Commission designated a longer period within which to
approve the proposed rule change, disapprove the proposed rule change,
or institute proceedings to determine whether to disapprove the
proposed rule change.\5\ The Commission has received no comments on the
proposed rule change. The Commission is issuing this order to institute
proceedings pursuant to Section 19(b)(2)(B) of the Exchange Act \6\ to
determine whether to approve or disapprove the proposed rule change.
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    \4\ 15 U.S.C. 78s(b)(2).
    \5\ See Securities Exchange Act Release No. 89823, 85 FR 57895
(September 16, 2020). The Commission designated November 5, 2020 as
the date by which the Commission shall approve or disapprove, or
institute proceedings to determine whether to disapprove, the
proposed rule change.
    \6\ 15 U.S.C. 78s(b)(2)(B).
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I. Description of the Proposal

    The Exchange proposes to amend Nasdaq Rule 5704 to: (1) Remove the
requirement that, twelve months after the commencement of trading on
the Exchange, a series of Exchange Traded Fund Shares must have 50 or
more beneficial holders; and (2) replace its existing minimum number of
shares requirement with a requirement that each series of Exchange
Traded Fund Shares have a sufficient number of shares outstanding at
the commencement of trading to facilitate the formation of at least one
creation unit.\7\
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    \7\ Currently, Nasdaq Rule 5704(b)(1)(A) provides that the
Exchange will establish a minimum number of Exchange Traded Fund
Shares required to be outstanding at the time of commencement of
trading on the Exchange.
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    The Exchange believes that the requirement that a series of
Exchange Traded Fund Shares listed on the Exchange must have at least
50 beneficial shareholders is no longer necessary. The Exchange
believes that the requirements of Rule 6c-11 under the Investment
Company Act of 1940 (``1940 Act''), coupled with the existing creation
and redemption process, mitigate the potential lack of liquidity that,
according to the Exchange, the shareholder requirement was intended to
address.\8\ The Exchange further believes that requiring at least one
creation unit to be outstanding at the commencement of trading,
together with the daily portfolio transparency and other enhanced
disclosure requirements of Rule 6c-11 under the 1940 Act,\9\ will
facilitate an effective arbitrage mechanism and provide market
participants and investors with sufficient transparency into the
holdings of the underlying portfolio, and ensure that the trading price
in the secondary market remains in line with the value per share of a
fund's portfolio.
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    \8\ In contrast, Nasdaq believes that the shareholder
requirement as it relates to common stock is a measure of liquidity
designed to help assure that there will be sufficient investor
interest and trading to support price discovery once a security is
listed. See id. at 48012, n.6.
    \9\ As an example, the Exchange notes that Rule 6c-11(c)(1)(vi)
requires additional disclosure if the premium or discount is in
excess of 2% for more than seven consecutive days, so that there
would be transparency to investors in the event that the trading
value and the underlying portfolio deviate for an extended period of
time, which could indicate an inefficient arbitrage mechanism.
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    Specifically with respect to arbitrage, the Exchange states that
the arbitrage mechanism relies on the fact that shares of the Fund can
be created and redeemed and that shares of the Fund are able to flow
into or out of the market when the price of the Fund is not aligned
with the net asset value per share of the portfolio. The resulting
buying and selling of the shares of the Fund, as well as the underlying
portfolio components, generally causes the market price and the net
asset value per share to converge. In addition, the Exchange states
that the proper functioning of the arbitrage mechanism is reliant on
the presence of authorized participants (``APs'') that are eligible to
facilitate creations and redemptions with the fund and support the
liquidity of the fund. As a result, the Exchange believes that the AP
is able to buy and sell Exchange Traded Fund Shares from both the fund
and investors. Because Exchange Traded Fund Shares can be created and
redeemed ``in-kind'' and do not have an upper limit of the number of
shares that can be outstanding, an AP can fulfill customer orders or
take advantage of arbitrage opportunities regardless of the number of
shares currently outstanding. Thus, the Exchange believes that, unlike
common stock, the liquidity of Exchange Traded Fund Shares is not
dependent on the number of shares currently outstanding or the number
of shareholders, but on the availability of APs to transact in the
Exchange Traded Fund Shares primary market.
    To support these contentions, the Exchange provides information,
during a two-month observation period, regarding how closely two
funds--the SPY and QQQ--tracked their respective underlying indexes, as
well as data regarding creation and redemption activity in those two
funds during the same observation period. The Exchange asserts that a
symbiotic relationship exists between the disclosure requirements of
Rule 6c-11 under the

1940 Act, the ability of the AP to create and redeem shares of a fund,
and the functioning of the arbitrage mechanism that helps to ensure
that the trading price in the secondary market is at fair value.
According to the Exchange, this renders the need for a shareholder
requirement as duplicative and unnecessary.
    The Exchange further believes that, in order for fund redemptions
to be executed in support of the arbitrage mechanism, it is appropriate
that, in lieu of the minimum number of shareholders requirement, the
fund have a sufficient number of shares outstanding in order to
facilitate the formation of at least one creation unit on an initial
and continued listing basis. The Exchange claims that the existence of
the creation and redemption process, daily portfolio transparency, as
well as a sufficient number of shares outstanding to allow for the
formation of at least one creation unit, ensures that market
participants are able to redeem shares and thereby support the proper
functioning of the arbitrage mechanism. According to the Exchange, of
the more than 350 funds currently listed on Nasdaq that would be
eligible to be listed under Nasdaq Rule 5704, only two had a single
creation unit outstanding. The remaining funds have, on average, shares
outstanding equal to approximately 300 creation units.
    In addition, the Exchange states that its surveillance program for,
and its ability to halt trading in, Exchange Traded Fund Shares provide
for additional investor protections by further mitigating any abnormal
trading that would affect the prices of Exchange Traded Fund Shares.

II. Proceedings To Determine Whether To Approve or Disapprove SR-
NASDAQ-2020-017 and Grounds for Disapproval Under Consideration

    The Commission is instituting proceedings pursuant to Section
19(b)(2)(B) of the Exchange Act \10\ to determine whether the proposed
rule change should be approved or disapproved. Institution of such
proceedings is appropriate at this time in view of the legal and policy
issues raised by the proposed rule change. Institution of proceedings
does not indicate that the Commission has reached any conclusions with
respect to any of the issues involved.
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    \10\ 15 U.S.C. 78s(b)(2)(B).
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    Pursuant to Section 19(b)(2)(B) of the Exchange Act,\11\ the
Commission is providing notice of the grounds for disapproval under
consideration. The Commission is instituting proceedings to allow for
additional analysis of and input concerning the proposed rule change's
consistency with the Exchange Act and, in particular, Section 6(b)(5)
of the Exchange Act, which requires, among other things, that the rules
of a national securities exchange be ``designed to prevent fraudulent
and manipulative acts and practices, to promote just and equitable
principles of trade, to remove impediments to and perfect the mechanism
of a free and open market and a national market system, and, in
general, to protect investors and the public interest; and are not
designed to permit unfair discrimination between customers, issuers,
brokers, or dealers.'' \12\
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    \11\ Id.
    \12\ 15 U.S.C. 78f(b)(5).
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    The Commission has consistently recognized the importance of the
minimum number of holders and other similar requirements in exchange
listing standards. Among other things, such listing standards help
ensure that exchange listed securities have sufficient public float,
investor base, and trading interest to provide the depth and liquidity
necessary to promote fair and orderly markets.\13\
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    \13\ See, e.g., Securities Exchange Act Release No. 57785 (May
6, 2008), 73 FR 27597 (May 13, 2008) (SR-NYSE-2008-17) (stating that
the distribution standards, which includes exchange holder
requirements ``. . . should help to ensure that the [Special Purpose
Acquisition Company's] securities have sufficient public float,
investor base, and liquidity to promote fair and orderly markets'');
Securities Exchange Act Release No. 86117 (June 14, 2019), 84 FR
28879 (June 20, 2018) (SR-NYSE-2018-46) (disapproving a proposal to
reduce the minimum number of public holders continued listing
requirement applicable to Special Purpose Acquisition Companies from
300 to 100).
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    As discussed above, the Exchange is proposing to: (1) Remove the
listing requirement that, following the initial twelve-month period
after commencement of trading of a series of Exchange Traded Fund
Shares on the Exchange, such series have at least 50 beneficial
holders, and (2) replace its existing minimum number of shares
requirement with a requirement that each series of Exchange Traded Fund
Shares have a sufficient number of shares outstanding at the
commencement of trading to facilitate the formation of at least one
creation unit.\14\ In support of its proposal, the Exchange asserts
that the minimum number of beneficial holders requirement is no longer
necessary because the requirements of Rule 6c-11 under the 1940 Act,
coupled with the existing creation and redemption process, mitigate the
potential lack of liquidity that Nasdaq believes the beneficial holders
requirement was intended to address. The Exchange, however, does not
explain in any detail the basis for this view, particularly if a series
of Exchange Traded Fund Shares is permitted to have a very small number
of beneficial holders. For example, while the Exchange provides data
with respect to two widely-held and highly liquid funds, it does not
address how the arbitrage mechanism will assure Exchange Traded Fund
Shares with very few holders or very few active APs will effectively
support fair and orderly markets. The Exchange also does not discuss
potential inefficiencies in the arbitrage mechanism that might occur
with illiquid Exchange Traded Fund Shares that have very few holders,
and the impact that would have on the ability of the arbitrage
mechanism to effectively mitigate the risks of manipulation. Further,
the Exchange does not address the impact of creation unit size on the
efficiency of the arbitrage mechanism across the spectrum of Exchange
Traded Fund Shares (e.g., illiquid Exchange Traded Fund Shares with
very few holders and a large creation unit size). The Exchange provides
no data or analysis to support its position, other than with respect to
the SPY and QQQ, two highly liquid and widely held Exchange Traded Fund
Shares, and the number and size of the creation units for existing
Exchange Traded Fund Shares.
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    \14\ In support of its proposal, Nasdaq states that it would
require that a sufficient number of shares to be outstanding at
``all times'' to facilitate the formation of at least one creation
unit. See Notice, supra note 3, 85 FR at 48012. However, proposed
Nasdaq Rule 5704(b)(1)(A) establishes that requirement ``at the time
of commencement of trading on Nasdaq,'' making it an initial and not
a continued listing standard.
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    The Exchange provides no specific arguments to support the proposed
elimination of its existing minimum number of shares requirement. While
the Exchange proposes to replace that requirement with a requirement
that each series of Exchange Traded Fund Shares have a sufficient
number of shares outstanding at the commencement of trading to
facilitate the formation of at least one creation unit, the Exchange
does not explain why this is an appropriate substitute for its existing
standards. Creation unit sizes could be highly variable, since they are
determined at the discretion of the issuer of Exchange Traded Fund
Shares. The Exchange has not articulated how this new standard would
effectively support fair and orderly markets, address the risks of
manipulation, and otherwise be consistent with Section 6(b)(5) and
other relevant provisions of the Exchange Act for Exchange Traded

Fund Shares with only a single and relatively small creation unit
outstanding. The Exchange also has proposed to limit this requirement
to a single determination at the commencement of trading, and has not
explained the impact of fewer shares potentially being outstanding
thereafter. Further, the Exchange has proposed to require that there be
a sufficient number of shares outstanding to ``facilitate the formation
of'' at least one creation unit, and has not explained how this
standard differs from a requirement that the number of shares
outstanding at least equals one creation unit.
    Finally, the Exchange takes the position that its surveillance
procedures and trading halt authority would mitigate any abnormal
trading that would affect Exchange Traded Fund Shares prices in the
secondary market. The Exchange, however, does not explain in any detail
the basis for this view, or how specifically its existing procedures
would effectively mitigate the risks addressed by the minimum number of
beneficial holders and minimum number of shares requirements the
Exchange is proposing to eliminate.
    Under the Commission's Rules of Practice, the ``burden to
demonstrate that a proposed rule change is consistent with the Exchange
Act and the rules and regulations issued thereunder . . . is on the
self-regulatory organization [`SRO'] that proposed the rule change.''
\15\ The description of a proposed rule change, its purpose and
operation, its effect, and a legal analysis of its consistency with
applicable requirements must all be sufficiently detailed and specific
to support an affirmative Commission finding, and any failure of an SRO
to provide this information may result in the Commission not having a
sufficient basis to make an affirmative finding that a proposed rule
change is consistent with the Exchange Act and the applicable rules and
regulations.\16\
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    \15\ Rule 700(b)(3), Commission Rules of Practice, 17 CFR
201.700(b)(3).
    \16\ See id.
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    For these reasons, the Commission believes it is appropriate to
institute proceedings pursuant to Section 19(b)(2)(B) of the Exchange
Act to determine whether the proposal should be approved or
disapproved.

IV. Commission's Solicitation of Comments

    The Commission requests that interested persons provide written
submissions of their views, data, and arguments with respect to the
issues identified above, as well as any other concerns they may have
with the proposal. In particular, the Commission invites the written
views of interested persons concerning whether the proposal is
consistent with Section 6(b)(5) or any other provision of the Exchange
Act, or the rules and regulations thereunder. Although there do not
appear to be any issues relevant to approval or disapproval that would
be facilitated by an oral presentation of views, data, and arguments,
the Commission will consider, pursuant to Rule 19b-4, any request for
an opportunity to make an oral presentation.\17\
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    \17\ Section 19(b)(2) of the Exchange Act, as amended by the
Securities Act Amendments of 1975, Public Law 94-29 (June 4, 1975),
grants the Commission flexibility to determine what type of
proceeding--either oral or notice and opportunity for written
comments--is appropriate for consideration of a particular proposal
by a self-regulatory organization. See Securities Act Amendments of
1975, Senate Comm. on Banking, Housing & Urban Affairs, S. Rep. No.
75, 94th Cong., 1st Sess. 30 (1975).
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    Interested persons are invited to submit written data, views, and
arguments regarding whether the proposal should be approved or
disapproved by December 3, 2020. Any person who wishes to file a
rebuttal to any other person's submission must file that rebuttal by
December 17, 2020 The Commission asks that commenters address the
sufficiency of the Exchange's statements in support of the proposal,
which are set forth in the Notice,\18\ in addition to any other
comments they may wish to submit about the proposed rule change.
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    \18\ See supra note 3.
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    Comments may be submitted by any of the following methods:

Electronic Comments

     Use the Commission's internet comment form (http://www.sec.gov/rules/sro.shtml); or
     Send an email to<EMAIL_ADDRESS>Please include
File Number SR-NASDAQ-2020-017 on the subject line.

Paper Comments

     Send paper comments in triplicate to Secretary, Securities
and Exchange Commission, 100 F Street NE, Washington, DC 20549-1090.

All submissions should refer to File Number SR-NASDAQ-2020-017. This
file number should be included on the subject line if email is used. To
help the Commission process and review your comments more efficiently,
please use only one method. The Commission will post all comments on
the Commission's internet website (http://www.sec.gov/rules/sro.shtml).
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for website viewing and printing in
the Commission's Public Reference Room, 100 F Street NE, Washington, DC
20549 on official business days between the hours of 10:00 a.m. and
3:00 p.m. Copies of the filing also will be available for inspection
and copying at the principal office of the Exchange. All comments
received will be posted without change. Persons submitting comments are
cautioned that we do not redact or edit personal identifying
information from comment submissions. You should submit only
information that you wish to make available publicly. All submissions
should refer to File Number SR-NASDAQ-2020-017 and should be submitted
by December 3, 2020. Rebuttal comments should be submitted by December
17, 2020.
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    \19\ 17 CFR 200.30-3(a)(57).

    For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\19\
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020-24964 Filed 11-10-20; 8:45 am]
BILLING CODE 8011-01-P