[Federal Register Volume 78, Number 57 (Monday, March 25, 2013)]
[Proposed Rules]
[Pages 18083-18186]
[FR Doc No: 2013-05888]

Vol. 78

Monday,

No. 57

March 25, 2013

Part III

Securities and Exchange Commission

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

17 CFR Parts 242 and 249

Regulation Systems Compliance and Integrity; Proposed Rule

Federal Register / Vol. 78 , No. 57 / Monday, March 25, 2013 /
Proposed Rules

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

SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 242 and 249

[Release No. 34-69077; File No. S7-01-13]
RIN 3235-AL43

Regulation Systems Compliance and Integrity

AGENCY: Securities and Exchange Commission.

ACTION: Proposed rule and form; proposed rule amendment.

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

SUMMARY: The Securities and Exchange Commission (``Commission'') is
proposing Regulation Systems Compliance and Integrity (``Regulation
SCI'') under the Securities Exchange Act of 1934 (``Exchange Act'') and
conforming amendments to Regulation ATS under the Exchange Act.
Proposed Regulation SCI would apply to certain self-regulatory
organizations (including registered clearing agencies), alternative
trading systems (``ATSs''), plan processors, and exempt clearing
agencies subject to the Commission's Automation Review Policy
(collectively, ``SCI entities''), and would require these SCI entities
to comply with requirements with respect to their automated systems
that support the performance of their regulated activities.

DATES: Comments should be submitted on or before May 24, 2013.

ADDRESSES: Interested persons should submit comments by any of the
following methods:

Electronic Comments

    [ssquf] Use the Commission's Internet comment form (http://www.sec.gov/rules/proposed.shtml); or
    [ssquf] Send an email to<EMAIL_ADDRESS>Please include File
Number S7-01-13 on the subject line; or
    [ssquf] Use the Federal eRulemaking Portal (http://www.regulations.gov). Follow the instructions for submitting comments.

Paper Comments

    [ssquf] Send paper comments in triplicate to Elizabeth M. Murphy,
Secretary, Securities and Exchange Commission, 100 F Street NE.,
Washington, DC 20549-1090.

All comment letters should refer to File No. S7-01-13. This file number
should be included on the subject line if email is used. To help us
process and review your comments more efficiently, please use only one
method. The Commission will post all comments on the Commission's
Internet Web site (http://www.sec.gov/rules/proposed.shtml). Comments
are also available for public inspection and copying in the
Commission's Public Reference Room, 100 F Street NE., Washington, DC
20549 on official business days between the hours of 10 a.m. and 3 p.m.
All comments received will be posted without change; we do not edit
personal information from submissions. You should submit only
information that you wish to make publicly available.

FOR FURTHER INFORMATION CONTACT: Heidi Pilpel, Special Counsel, Office
of Market Supervision, at<PHONE_NUMBER>, Sara Hawkins, Special
Counsel, Office of Market Supervision, at<PHONE_NUMBER>, Jonathan
Balcom, Special Counsel, Office of Market Supervision, at (202) 551-
5737, Yue Ding, Attorney, Office of Market Supervision, at (202) 551-
5842, Dhawal Sharma, Attorney, Office of Market Supervision, at (202)
551-5779, Elizabeth C. Badawy, Senior Accountant, Office of Market
Supervision, at<PHONE_NUMBER>, and Gordon Fuller, Senior Special
Counsel, Office of Market Operations, at<PHONE_NUMBER>, Division of
Trading and Markets, Securities and Exchange Commission, 100 F Street
NE., Washington, DC 20549-7010.

SUPPLEMENTARY INFORMATION: Proposed Regulation SCI would supersede and
replace the Commission's current Automation Review Policy (``ARP''),
established by the Commission's two policy statements, each titled
``Automated Systems of Self-Regulatory Organizations,'' issued in 1989
and 1991.\1\ Regulation SCI also would supersede and replace aspects of
those policy statements codified in Rule 301(b)(6) under the Exchange
Act,\2\ applicable to significant-volume ATSs.\3\ Proposed Regulation
SCI would require SCI entities to establish written policies and
procedures reasonably designed to ensure that their systems have levels
of capacity, integrity, resiliency, availability, and security adequate
to maintain their operational capability and promote the maintenance of
fair and orderly markets, and that they operate in the manner intended.
It would also require SCI entities to mandate participation by
designated members or participants in scheduled testing of the
operation of their business continuity and disaster recovery plans,
including backup systems, and to coordinate such testing on an
industry- or sector-wide basis with other SCI entities. In addition,
proposed Regulation SCI would require notices and reports to be
provided to the Commission on a new proposed Form SCI regarding, among
other things, SCI events and material systems changes, and would
require SCI entities to take corrective action upon any responsible SCI
personnel becoming aware of SCI events. SCI events would be defined to
include systems disruptions, systems compliance issues, and systems
intrusions. The proposed regulation would further require that
information regarding certain types of SCI events be disseminated to
members or participants of SCI entities. In addition, proposed
Regulation SCI would require SCI entities to conduct a review of their
systems by objective personnel at least annually, and would require SCI
entities to maintain certain books and records. The Commission also is
proposing to modify the volume thresholds in Regulation ATS \4\ for
significant-volume ATSs, apply them to SCI ATSs (as defined below), and
move this standard from Regulation ATS to proposed Regulation SCI.
---------------------------------------------------------------------------

    \1\ See Securities Exchange Act Release Nos. 27445 (November 16,
1989), 54 FR 48703 (November 24, 1989) (``ARP I Release'' or ``ARP
I'') and 29185 (May 9, 1991), 56 FR 22490 (May 15, 1991) (``ARP II
Release'' or ``ARP II'' and, together with ARP I, the ``ARP policy
statements'').
    \2\ See 17 CFR 242.301(b)(6). See also Securities Exchange Act
Release No. 40760 (December 8, 1998), 63 FR 70844 (December 22,
1998) (``ATS Release'').
    \3\ See infra note 26.
    \4\ 17 CFR 242.300-303 (``Regulation ATS'').
---------------------------------------------------------------------------

Table of Contents

I. Background
    A. History and Evolution of the Automation Review Policy
Inspection Program
    B. Evolution of the Markets Since the Inception of the ARP
Inspection Program
    C. Successes and Limitations of the Current ARP Inspection
Program
    D. Recent Events
II. Proposed Codification and Enhancement of ARP Inspection Program
III. Proposed Regulation SCI
    A. Overview
    B. Proposed Rule 1000(a): Definitions Establishing the Scope of
Regulation SCI
    1. SCI Entities
    2. Definition of SCI Systems and SCI Security Systems
    3. SCI Events
    a. Systems Disruption
    b. Systems Compliance Issue
    c. Systems Intrusion
    d. Dissemination SCI events
    4. Material Systems Changes
    C. Proposed Rule 1000(b): Obligations of SCI Entities
    1. Policies and Procedures to Safeguard Capacity, Integrity,
Resiliency, Availability, and Security
    a. Proposed Rule 1000(b)(1)(i)
    b. Proposed Rule 1000(b)(1)(ii)
    2. Systems Compliance
    3. SCI Events--Action required; Notification
    a. Corrective Action

    b. Commission Notification
    c. Dissemination of Information to Members or Participants
    4. Notification of Material Systems Changes
    5. Review of Systems
    6. Periodic Reports
    7. Proposed Rule 1000(b)(9): SCI Entity Business Continuity and
Disaster Recovery Plans Testing Requirements for Members or
Participants
    D. Proposed Rule 1000(c)-(f): Recordkeeping, Electronic Filing
on Form SCI, and Access
    1. Recordkeeping Requirements
    2. Electronic Submission of Reports, Notifications, and Other
Communications on Form SCI
    3. Access to the Systems of an SCI Entity
    E. New Proposed Form SCI
    1. Notice of SCI Events Pursuant to Proposed Rule 1000(b)(4)
    2. Notices of Material Changes Pursuant to Proposed Rule
1000(b)(6)
    3. Reports Submitted Pursuant to Rule 1000(b)(8)
    4. Notifications of Member or Participant Designation Standards
and List of Designees Pursuant to Proposed Rule 1000(b)(9)
    5. Other Information and Electronic Signature
    F. Request for Comment on Applying Proposed Regulation SCI to
Security-Based Swap Data Repositories and Security-Based Swap
Execution Facilities
    G. Solicitation of Comment Regarding Potential Inclusion of
Broker-Dealers, Other than SCI ATSs, and Other Types of Entities
    IV. Paperwork Reduction Act
    V. Economic Analysis
    A. Background
    B. Economic Baseline
    C. Consideration of Costs and Benefits, and the Effect on
Efficiency, Competition, and Capital Formation
    D. Request for Comment on Economic Analysis
VI. Consideration of Impact on the Economy
VII. Regulatory Flexibility Act Certification
VIII. Statutory Authority and Text of Proposed Amendments

I. Background

A. History and Evolution of the Automation Review Policy Inspection
Program

    Section 11A(a)(2) of the Exchange Act,\5\ enacted as part of the
Securities Acts Amendments of 1975 (``1975 Amendments''),\6\ directs
the Commission, having due regard for the public interest, the
protection of investors, and the maintenance of fair and orderly
markets, to use its authority under the Exchange Act to facilitate the
establishment of a national market system for securities in accordance
with the Congressional findings and objectives set forth in Section
11A(a)(1) of the Exchange Act.\7\ Among the findings and objectives in
Section 11A(a)(1) is that ``[n]ew data processing and communications
techniques create the opportunity for more efficient and effective
market operations'' \8\ and ``[i]t is in the public interest and
appropriate for the protection of investors and the maintenance of fair
and orderly markets to assure * * * the economically efficient
execution of securities transactions.'' \9\ In addition, Sections 6(b),
15A, and 17A(b)(3) of the Exchange Act impose obligations on national
securities exchanges, national securities associations, and clearing
agencies, respectively, to be ``so organized'' and ``[have] the
capacity to * * * carry out the purposes of [the Exchange Act].'' \10\
---------------------------------------------------------------------------

    \5\ 15 U.S.C. 78k-1(a)(2).
    \6\ Public Law 94-29, 89 Stat. 97 (1975).
    \7\ 15 U.S.C. 78k-1(a)(1).
    \8\ Section 11A(a)(1)(B) of the Exchange Act, 15 U.S.C. 78k-
1(a)(1)(B).
    \9\ Section 11A(a)(1)(C)(i) of the Exchange Act, 15 U.S.C. 78k-
1(a)(1)(C)(i). Further, the Senate Committee Report accompanying the
1975 Amendments states further that a paramount objective of a
national market system is ``the maintenance of stable and orderly
markets with maximum capacity for absorbing trading imbalances
without undue price movements.'' Senate Comm. On Banking, Housing
and Urban Affairs, Report to accompany S. 249, Sen. Rep. 94-75, 94th
Cong., 1st Sess. at 7 (1975).
    \10\ See Sections 6(b)(1), 15A(b)(2), and 17A(b)(3) of the
Exchange Act, 15 U.S.C. 78f(b)(1), 78o-3(b)(2), 78q-1(b)(3),
respectively. See also Section 2 of the Exchange Act, 15 U.S.C. 78b,
and Section 19 of the Exchange Act, 15 U.S.C. 78s.
---------------------------------------------------------------------------

    For over two decades, Commission staff has worked with SROs to
assess their automated systems under the Commission's ARP inspection
program (``ARP Inspection Program''), a voluntary information
technology review program created in response to the October 1987
market break.\11\ In 1989, the Commission published ARP I, its first
formal policy statement regarding steps that SROs should take in
connection with their automated systems.\12\ In ARP I, the Commission
discussed the development by SROs of automated execution, market
information, and trade comparison systems to accommodate increased
trading activity from the 1960s through the 1980s.\13\ The Commission
acknowledged improvements in efficiency during that time period, but
noted that the October 1987 market break had exposed that automated
systems remained vulnerable to operational problems during extreme high
volume periods. The Commission also expressed concern about the
potential for systems failures to negatively impact public investors,
broker-dealer risk exposure, and market efficiency.\14\ The Commission
further stated in ARP I that market movements should be ``the result of
market participants' changing expectations about the direction of the
market for a particular security, or group of securities, and not the
result of investor confusion or panic resulting from operational
failures or delays in SRO automated trading or market information
systems.'' \15\ The Commission issued ARP I as a result of these
concerns, and stated that SROs should ``establish comprehensive
planning and assessment programs to test systems capacity and
vulnerability.'' \16\ In particular, the Commission recommended that
each SRO should: (1) Establish current and future capacity estimates
for its automated order routing and execution, market information, and
trade comparison systems; (2) periodically conduct capacity stress
tests to determine the behavior of automated systems under a variety of
simulated conditions; and (3) contract with independent reviewers to
assess annually whether these systems could perform adequately at their
estimated current and future capacity levels and have adequate
protection against physical threat.\17\ In addition, ARP I

called for each SRO to have its automated systems reviewed annually by
an ``independent reviewer.'' \18\
---------------------------------------------------------------------------

    \11\ See ARP I, supra note 1, 54 FR 48706.
    \12\ See ARP I, supra note 1, 54 FR 48705-48706, stating that
SROs should ``take certain steps to ensure that their automated
systems have the capacity to accommodate current and reasonably
anticipated future trading volume levels and respond to localized
emergency conditions.'' In ARP I, the Commission also defined the
terms ``automated systems'' and ``automated trading systems'' to
refer ``collectively to computer systems for listed and OTC
equities, as well as options, that electronically route orders to
applicable market makers and systems that electronically route and
execute orders, including the data networks that feed the systems *
* * [and encompass] systems that disseminate transaction and
quotation information and conduct trade comparisons prior to
settlement, including the associated communication networks.'' See
id. at n. 21. See also id. at n. 26 (stating that the Commission may
suggest expansion of the ARP I policy statement to cover ``other SRO
computer-driven support systems for, among other things, clearance
and settlement, and market surveillance, if the Commission finds it
necessary to ensure the maintenance of fair and orderly markets'').
    \13\ See id. at 48705.
    \14\ See id. at 48705. The Commission noted that problems
encountered by trading systems during the October 1987 market break
included: (i) Inadequate computer capacity causing queues of
unprocessed orders to develop that, in turn, resulted in significant
delays in order execution; (ii) inadequate contingency plans to
accommodate increased order traffic; (iii) delays in the
transmission of transaction reports to both member firms and
markets; and (iv) delays in order processing.
    \15\ See id. at 48705.
    \16\ See id. at 48705-48706.
    \17\ See id. at 48706-48707. With respect to capacity estimates
and testing, the Commission urged SROs to institute procedures for
stress testing using ``standards generally set by the computer
industry,'' and report the results of stress testing to Commission
staff. The Commission also requested comment on whether it should
mandate specific standards for the SROs to follow, and if so, what
those standards should be. See id. With respect to vulnerability of
systems to external and internal threat, the Commission requested in
ARP I that SROs assess the susceptibility of automated systems to
computer viruses, unauthorized use, computer vandalism, and failures
as result of catastrophic events (such as fire, power outages, and
earthquakes), and promptly notify Commission staff of any instances
in which unauthorized persons gained or attempted to gain access to
SRO systems, and follow up with a written report of the problem, its
cause, and the steps taken to prevent a recurrence.
    \18\ See id.
---------------------------------------------------------------------------

    In 1991, the Commission published ARP II.\19\ In ARP II, the
Commission further articulated its views on how SROs should conduct
independent reviews.\20\ ARP II stated that such reviews and analysis
should: ``(1) Cover significant elements of the operations of the
automation process, including the capacity planning and testing
process, contingency planning, systems development methodology and
vulnerability assessment; (2) be performed on a cyclical basis by
competent and independent audit personnel following established audit
procedures and standards; and (3) result in the presentation of a
report to senior SRO management on the recommendations and conclusions
of the independent reviewer, which report should be made available to
Commission staff for its review and comment.'' \21\
---------------------------------------------------------------------------

    \19\ See ARP II Release, 56 FR 22490, supra note 1.
    \20\ See id.
    \21\ See id. at 22491. In ARP II the Commission also explained
that, in its view, ``a critical element to the success of the
capacity planning and testing, security assessment and contingency
planning processes for [automated] systems is obtaining an objective
review of those planning processes by persons independent of the
planning process to ensure that adequate controls and procedures
have been developed and implemented.'' Id.
---------------------------------------------------------------------------

    In addition, ARP II addressed how SROs should notify the Commission
of material systems changes and significant systems problems.
Specifically, ARP II stated that SROs should notify Commission staff of
significant additions, deletions, or other changes to their automated
systems on an annual and an as-needed basis, as well as provide real-
time notification of unusual events, such as significant outages
involving automated systems.\22\ Further, in ARP II, the Commission
again suggested development of standards to meet the ARP policy
statements, stating that ``the SROs, and other interested parties
should begin the process of exploring the establishment of (1)
standards for determining capacity levels for the SROs' automated
trading systems; (2) generally accepted computer security standards
that would be effective for SRO automated systems; and (3) additional
standards regarding audits of computer systems.'' \23\
---------------------------------------------------------------------------

    \22\ See id. at 22491.
    \23\ See id.
---------------------------------------------------------------------------

    The current ARP Inspection Program was developed by Commission
staff to implement the ARP policy statements,\24\ and has garnered
participation by all active registered clearing agencies, all
registered national securities exchanges, the Financial Industry
Regulatory Authority (``FINRA''), the only registered national
securities association, one exempt clearing agency, and one ATS.\25\ In
1998, the Commission adopted Regulation ATS which, among other things,
imposed by rule certain aspects of ARP I and ARP II on significant-
volume ATSs.\26\ Thereafter, administration of these aspects of
Regulation ATS was incorporated into the ARP Inspection Program.
---------------------------------------------------------------------------

    \24\ While participation in the ARP Inspection Program is
voluntary, the underpinnings of ARP I and ARP II are rooted in
Exchange Act requirements. See supra notes 5-10 and accompanying
text.
    \25\ See infra note 91 and accompanying text. One ATS currently
complies voluntarily with the ARP Inspection Program. However, ARP
staff has conducted ARP inspections of other ATSs over the course of
the history of the ARP Inspection Program. See also infra notes,
134-135 and accompanying text.
    \26\ See Rule 301(b)(6) of Regulation ATS, 17 CFR 242.301(b)(6).
With regard to systems that support order entry, order routing,
order execution, transaction reporting, and trade comparison,
Regulation ATS requires significant-volume ATSs to: establish
reasonable current and future capacity estimates; conduct periodic
capacity stress tests of critical systems to determine their ability
to accurately, timely and efficiently process transactions; develop
and implement reasonable procedures to review and keep current
system development and testing methodology; review system and data
center vulnerability to threats; establish adequate contingency and
disaster recovery plans; perform annual independent reviews of
systems to ensure compliance with the above listed requirements and
perform review by senior management of reports containing the
recommendations and conclusions of the independent review; and
promptly notify the Commission of material systems outages and
significant systems changes. See Rule 301(b)(6)(ii) of Regulation
ATS, 17 CFR 242.301(b)(6)(ii). Regulation ATS defines significant-
volume ATSs as ATSs that, during at least 4 of the preceding 6
calendar months, had: (i) with respect to any NMS stock, 20 percent
or more of the average daily volume reported by an effective
transaction reporting plan; (ii) with respect to equity securities
that are not NMS stocks and for which transactions are reported to a
self-regulatory organization, 20 percent or more of the average
daily volume as calculated by the self-regulatory organization to
which such transactions are reported; (iii) with respect to
municipal securities, 20 percent or more of the average daily volume
traded in the United States; or (iv) with respect to corporate debt
securities, 20 percent or more of the average daily volume traded in
the United States. See Rule 301(b)(6)(i) of Regulation ATS, 17 CFR
242.301(b)(6)(i).
---------------------------------------------------------------------------

    Under the ARP Inspection Program, staff in the Commission's
Division of Trading and Markets (``ARP staff'') conduct inspections of
ARP entity systems, attend periodic technology briefings presented by
ARP entity staff, monitor the progress of planned significant system
changes, and respond to reports of system failures, disruptions, and
other systems problems of ARP entities. An ARP inspection typically
includes ARP staff review of information technology documentation,
testing of selected controls, and interviews with information
technology staff and management of the ARP entity.\27\
---------------------------------------------------------------------------

    \27\ ARP inspections are typically conducted independently from
the inspections and examinations of SROs, ATSs, and broker-dealers
conducted by staff in the Commission's Office of Compliance
Inspections and Examinations (``OCIE'') for compliance with the
federal securities laws and rules thereunder.
---------------------------------------------------------------------------

    Just as markets have become increasingly automated and information
technology programs and practices at ARP entities have changed, ARP
inspections also have evolved considerably over the past 20 years.
Today, the ARP Inspection Program covers nine general inspection areas,
or information technology ``domains:'' application controls; capacity
planning; computer operations and production environment controls;
contingency planning; information security and networking; audit;
outsourcing; physical security; and systems development
methodology.\28\ The goal of an ARP inspection is to evaluate whether
an ARP entity's controls over its information technology resources in
each domain are consistent with ARP and industry guidelines,\29\ as
identified by ARP staff from a variety of information technology
publications that ARP staff believes reflect industry standards for
securities market participants.
---------------------------------------------------------------------------

    \28\ Each domain itself contains subcategories. For example,
``contingency planning'' includes business continuity, disaster
recovery, and pandemic planning, among other things.
    \29\ The domains covered during an ARP inspection depend in part
upon whether the inspection is a regular inspection or a ``for-
cause'' inspection. Typically, however, to make the most efficient
use of resources, a single ARP inspection will cover fewer than nine
domains.
---------------------------------------------------------------------------

    Most recently, these publications have included, among others,
publications issued by the Federal Financial Institutions Examination
Council (``FFIEC'') and the National Institute of

Standards and Technology (``NIST'').\30\ ARP staff has also relied on
the 2003 Interagency White Paper on Sound Practices to Strengthen the
Resiliency of the U.S. Financial System \31\ and the 2003 Policy
Statement on Business Continuity Planning for Trading Markets.\32\
Since 2003, however, the Commission has not issued formal guidance on
which publications establish the most appropriate guidelines for ARP
entities. At the conclusion of an ARP inspection, ARP staff typically
issues a report to the ARP entity with an assessment of its information
technology program with respect to its critical systems, including any
recommendations for improvement.
---------------------------------------------------------------------------

    \30\ Other examples of publications that ARP staff has referred
to include those issued by the Center for Internet Security (http://benchmarks.cisecurity.org/en-us/?route=downloads.benchmarks);
Information Systems Audit and Control Association (Control
Objections for Information Technology Framework, available at:
http://www.isaca.org/Knowledge-Center/cobit/Pages/COBIT-Online.aspx); Defense Information Systems Agency, Security Technical
Implementation Guides (available at http://iase.disa.mil/stigs/index.html); and Government Accountability Office (Federal
Information System Controls Audit Manual (February 2009), available
at: http://www.gao.gov/assets/80/77142.pdf).
    \31\ See Securities Exchange Act Release No. 47638 (April 7,
2003), 68 FR 17809 (April 11, 2003) (Interagency Paper on Sound
Practices to Strengthen the Resilience of the U.S. Financial
Systems) (``2003 Interagency White Paper'').
    \32\ See Securities Exchange Act Release No. 48545 (September
25, 2003), 68 FR 56656 (October 1, 2003) (Policy Statement: Business
Continuity Planning for Trading Markets) (``2003 Policy Statement on
Business Continuity Planning for Trading Markets'').
---------------------------------------------------------------------------

    Another significant aspect of the ARP Inspection Program relates to
the monitoring of planned significant systems changes and reports of
systems problems at ARP entities. As noted above, ARP II stated that
SROs should notify Commission staff of significant additions,
deletions, or other changes to their automated systems on an annual and
an as-needed basis, as well as provide real-time notification of
unusual events, such as significant outages involving automated
systems.\33\ Likewise, Regulation ATS requires significant-volume ATSs
to promptly notify the Commission of material systems outages and
significant systems changes.\34\
---------------------------------------------------------------------------

    \33\ See supra note 22 and accompanying text.
    \34\ See 17 CFR 242.301(b)(6)(ii)(G). See also supra note 26.
---------------------------------------------------------------------------

    In addition to the Commission's ARP policy statements and Rule
301(b)(6) of Regulation ATS, Commission staff has provided guidance to
ARP entities on how the staff believes they should report planned
systems changes and systems issues to the Commission. For example, in
2001, Commission staff sent a letter to the SROs and other participants
in the ARP Inspection Program to clarify what should be considered a
``significant system change'' and a ``significant system outage'' for
purposes of reporting systems changes and problems to Commission
staff.\35\ Further, in 2009, Commission staff sent a letter to the
national securities exchanges and FINRA expressing the staff's view
that SROs are obligated to ensure that their systems' operations comply
with the federal securities laws and rules and the SRO's rules, and
that failure to satisfy this obligation could lead to sanctions under
Section 19(h)(1) of the Exchange Act.\36\ Unlike ARP I, ARP II, and
Rule 301(b)(6) of Regulation ATS, the 2001 Staff ARP Interpretive
Letter and 2009 Staff Systems Compliance Letter were not issued by the
Commission and constitute only staff guidance. Proposed Regulation SCI,
if adopted, would consolidate and supersede all such staff guidance, as
well as the Commission's ARP policy statements and Rule 301(b)(6) of
Regulation ATS.
---------------------------------------------------------------------------

    \35\ In June 2001, staff from the Division of Market Regulation
sent a letter to the SROs and other participants in the ARP
Inspection Program regarding Guidance for Systems Outage and System
Change Notifications (``2001 Staff ARP Interpretive Letter''),
advising them that the staff considers a significant system change
to include: (i) Major systems architectural changes; (ii)
reconfiguration of systems that cause a variance greater than five
percent in throughput or storage; (iii) introduction of new business
functions or services; (iv) material changes in systems; (v) changes
to external interfaces; (vi) changes that could increase
susceptibility to major outages; (vii) changes that could increase
risks to data security; (viii) a change that was, or will be,
reported or referred to the entity's board of directors or senior
management; or (ix) changes that may require allocation or use of
significant resources. The 2001 Staff ARP Interpretive Letter also
advised that Commission staff considers a ``significant system
outage'' to include an outage that results in: (i) Failure to
maintain service level agreements or constraints; (ii) disruption of
normal operations, including switchover to back-up equipment with no
possibility of near-term recovery of primary hardware; (iii) loss of
use of any system; (iv) loss of transactions; (v) excessive back-ups
or delays in processing; (vi) loss of ability to disseminate vital
information; (vii) communication of an outage situation to other
external entities; (viii) a report or referral of an event to the
entity's board of directors or senior management; (ix) a serious
threat to systems operations even though systems operations are not
disrupted; or (x) a queuing of data between system components or
queuing of messages to or from customers of such duration that a
customer's normal service delivery is affected. The 2001 Staff ARP
Interpretive Letter is available at http://www.sec.gov/divisions/marketreg/sroautomation.shtml.
    \36\ In December 2009, staff from the Division of Trading and
Markets and Office of Compliance Inspections and Examinations sent a
letter (``2009 Staff Systems Compliance Letter'') to each national
securities exchange and FINRA reminding each of its obligation to
ensure that its systems' operations are consistent with the federal
securities laws and rules and the SRO's rules, and clarifying the
staff's expectations regarding SRO systems compliance. The 2009
Staff Systems Compliance Letter also expressed the staff's view that
SROs and other participants in the ARP Inspection Program should
have effective written policies and procedures for systems
development and maintenance that provide for adequate regulatory
oversight, including testing of system changes, controls over system
changes, and independent audits. The 2009 Staff Systems Compliance
Letter also expressed the staff's expectation that, if an SRO
becomes aware of a system function that could lead or has led to a
failure to comply with the federal securities laws or rules, or the
SRO's rules, the SRO should immediately take appropriate corrective
action including, at a minimum, devoting adequate resources to
remedy the issue as soon as possible, and notifying Commission staff
and (if appropriate) the public of the compliance issue and efforts
to rectify it. The 2009 Staff Systems Compliance Letter was sent to
BATS, BATS-Y, CBOE, C2, CHX, EDGA, EDGX, FINRA, ISE, Nasdaq, Nasdaq
OMX BX, Nasdaq OMX Phlx, NSX, NYSE, NYSE MKT (f/k/a NYSE Amex), NYSE
Arca. See infra notes 47 and 51.
---------------------------------------------------------------------------

    In addition, OCIE conducts inspections of SROs, as part of the
Commission's oversight of them. Unlike ARP inspections, however, which
focus on information technology controls, OCIE primarily conducts risk-
based examinations of securities exchanges, FINRA, and other SROs to
evaluate whether they and their member firms are complying with the
Exchange Act and the rules thereunder, as well as SRO rules. Examples
of OCIE risk-based examination areas include: governance, regulatory
funding, trading regulation, member firm examination programs,
disciplinary programs for member firms, and exchange programs for
listing compliance. In 2011, OCIE conducted baseline assessments of all
of the national securities exchanges then operating. These assessments
included these areas, among others, but did not include examinations of
the exchanges' systems, as systems inspections are conducted under the
ARP Inspection Program.\37\ As part of the Commission's oversight of
the SROs, OCIE also reviews systems compliance issues reported to
Commission staff. The information gained from OCIE's review of reported
systems compliance issues helps to inform its examination risk-
assessments for SROs.
---------------------------------------------------------------------------

    \37\ See text accompanying notes 24-29.
---------------------------------------------------------------------------

B. Evolution of the Markets Since the Inception of the ARP Inspection
Program

    Since the inception of the ARP Inspection Program more than two
decades ago, the securities markets have experienced sweeping changes,
evolving from a collection of relatively few, mostly manual markets, to
a larger number and broader variety of trading centers that are almost
completely automated, and dependent upon sophisticated technology and
extremely

fast and interconnected systems. Regulatory developments, such as
Regulation NMS,\38\ decimalization,\39\ Regulation ATS,\40\ and the
Order Handling Rules,\41\ also have impacted the structure of the
markets by, among other things, mandating and providing incentives that
encourage automation and speed. Although some markets today retain
trading floors and accommodate some degree of manual interaction, these
markets also have implemented electronic trading for their products. In
stock markets, for example, in almost all cases, the volume of
electronic trading dominates any residual manual activity.\42\ In
addition, in recent years, the new trading systems developed by
existing or new exchanges and ATSs rely almost exclusively on fully-
electronic, automated technology to execute trades.\43\ As a result,
the overwhelming majority of securities transactions today are executed
on such automated systems.\44\ A primary driver and catalyst of this
transformation has been the continual evolution of technologies for
generating, routing, and executing orders. These technologies have
dramatically improved the speed, capacity, and sophistication of the
trading functions that are available to market participants.\45\ The
increased speed and capacity of automated systems in the current market
structure has contributed to surging message traffic.\46\
---------------------------------------------------------------------------

    \38\ 17 CFR 242.600-612. See also Securities Exchange Act
Release No. 51808 (June 9, 2005), 70 FR 37496 (June 29, 2005).
    \39\ See Securities Exchange Act Release No. 42360 (January 28,
2000), 65 FR 5003 (February 2, 2000).
    \40\ 17 CFR 242.300-303. See also ATS Release, supra note 2.
    \41\ Securities Exchange Act Release No. (September 6, 1996), 61
FR 48290 (September 12, 1996). See also Concept Release on Equity
Market Structure, supra note 42, at 3594.
    \42\ See, e.g., Securities Exchange Act Release No. 61358
(January 14, 2010), 75 FR 3594, 3594-95 (January 21, 2010) (Concept
Release on Equity Market Structure). See also Securities Exchange
Act Release No. 58845 (October 24, 2008), 73 FR 64379 (October 29,
2008) (SR-NYSE-2008-46) (order approving NYSE's New Market Model, an
electronic trading system with floor-based components).
    \43\ See, e.g., Securities Exchange Act Release Nos. 62716
(August 13, 2010), 75 FR 51295 (August 19, 2010) (order approving
the exchange registration application of BATS-Y Exchange, Inc.);
61698 (March 12, 2010), 75 FR 13151 (March 18, 2010) (order
approving the exchange registration applications of EDGA Exchange
Inc. and EDGX Exchange Inc.); 57478 (March 12, 2008), 73 FR 14521
(March 18, 2008) (order approving a proposed rule change, as
amended, by the NASDAQ Stock Market LLC to establish rules governing
the trading of options on the NASDAQ Options Market).
    \44\ For example, less than 30 percent of stock trading takes
place on listing exchanges as orders are dispersed to more than 50
competing venues, almost all of which are fully electronic. See,
e.g., http://www.batstrading.com/market_summary. See also Concept
Release on Equity Market Structure, supra note 42, for a more
detailed discussion of equity market structure.
    \45\ For example, the speed of trading has increased to the
point that the fastest traders now measure their latencies in
microseconds. See Concept Release on Equity Market Structure, supra
note 42, at 3598.
    \46\ See, e.g., ``Climbing Mount Message: How Exchanges are
Managing Peaks,'' Markets Media (posted on June 29, 2012), available
at: http://marketsmedia.com/climbing-mount-message-exchanges-managing-peaks/ (noting that message volumes across U.S. exchanges
hit a daily peak of 4.47 million messages per second).
---------------------------------------------------------------------------

    In addition to these changes, there has been an increase in the
number of trading venues, particularly for equities. No longer is
trading in equities dominated by one or two trading venues. Today, 13
national securities exchanges trade equities, with no single stock
exchange having an overall market share of greater than twenty percent
of consolidated volume for all NMS stocks,\47\ but each with a
protected quotation \48\ that may not be traded through by other
markets.\49\ ATSs, including electronic communications networks
(``ECNs'') and dark pools, as well as broker-dealer internalizers, also
execute substantial volumes of securities transactions.\50\ Each of
these trading venues is connected with the others through a vast web of
linkages, including those that provide connectivity, routing services,
and market data. The number of venues trading options has likewise
grown, with 11 national securities exchanges currently trading options,
up from five as recently as 2004.\51\
---------------------------------------------------------------------------

    \47\ See, e.g., market volume statistics reported by BATS
Exchange, Inc., available at: http://www.batstrading.com/market_summary (no single national securities exchange executed more than
20 percent of volume in NMS stocks during the 5-day period ending
February 7, 2013). The following national securities exchanges have
equities trading platforms: (1) BATS Exchange, Inc. (``BATS''); (2)
BATS Y-Exchange, Inc. (``BATS-Y''); (3) Chicago Board Options
Exchange, Incorporated (``CBOE''); (4) Chicago Stock Exchange, Inc.
(``CHX''); (5) EDGA Exchange, Inc. (``EDGA''); (6) EDGX Exchange,
Inc. (``EDGX''); (7) NASDAQ OMX BX, Inc. (``Nasdaq OMX BX''); (8)
NASDAQ OMX PHLX LLC (``Nasdaq OMX Phlx''); (9) NASDAQ Stock Market
LLC (``Nasdaq''); (10) National Stock Exchange, Inc. (``NSX''); (11)
New York Stock Exchange LLC (``NYSE''); (12) NYSE MKT LLC (``NYSE
MKT''); and (13) NYSE Arca, Inc. (``NYSE Arca'').
    \48\ A ``protected quotation'' is defined by Regulation NMS as a
quotation in an NMS stock that (i) is displayed by an automated
trading center; (ii) is disseminated pursuant to an effective
national market system plan; and (iii) is an automated quotation
that is the best bid or best offer of a national securities
exchange, the best bid or best offer of The Nasdaq Stock Market,
Inc., or the best bid or best offer of a national securities
association other than the best bid or best offer of The Nasdaq
Stock Market, Inc. See Rule 600(b)(57)-(58) of Regulation NMS, 17
CFR 242.600(b)(57)-(58).
    \49\ See Rule 611(a)(1) of Regulation NMS, 17 CFR 242.601(a)(1).
    \50\ See Concept Release on Equity Market Structure, supra note
42.
    \51\ The following venues trade options today: (1) BATS Exchange
Options Market; (2) Boston Options Exchange LLC (``BOX''); (3) C2
Options Exchange, Incorporated (``C2''); (4) CBOE; (5) International
Securities Exchange, LLC (``ISE''); (6) Miami International
Securities Exchange, LLC (``MIAX''); (7) NASDAQ Options Market; (8)
NASDAQ OMX BX Options; (9) Nasdaq OMX Phlx; (10) NYSE Amex Options;
and (11) NYSE Arca.
---------------------------------------------------------------------------

    The increased number of trading venues, dispersal of trading
volume, and the resulting reliance on a variety of automated systems
and intermarket linkages have increased competition and thus investor
choice, but have also increased the complexity of the markets and the
challenges for market participants seeking to manage their information
technology programs and to ensure compliance with Commission rules.\52\
These changes have also substantially heightened the potential for
systems problems originating from any number of sources to broadly
affect the market. Given the increased interconnectedness of the
markets, a trading venue may not always recognize the true impact and
cost of a problem that originates with one of its systems.
---------------------------------------------------------------------------

    \52\ For example, one important type of linkage in the current
market structure was created to comply with legal obligations to
protect against trade-throughs as required by Rule 611 of Regulation
NMS under the Exchange Act, 17 CFR 242.611. A trade-through is the
execution of a trade at a price inferior to a protected quotation
for an NMS stock. Importantly, Rule 611 applies to all trading
centers, not just those that display protected quotations. Trading
center is defined broadly in Rule 600(b)(78) of Regulation NMS to
include, among others, all exchanges, all ATSs (including ECNs and
dark pools), all OTC market makers, and any other broker-dealer that
executes orders internally, whether as agent or principal. See
Concept Release on Equity Market Structure, supra note 42, at 3601.
---------------------------------------------------------------------------

C. Successes and Limitations of the Current ARP Inspection Program

    While the Commission generally considers the ARP Inspection Program
to have been successful in improving the automated systems of the SROs
and other entities participating in the program over the past 20 years,
the Commission is mindful of its limitations. For example, because the
ARP Inspection Program is established pursuant to Commission policy
statements, rather than Commission rules,\53\ the Commission's ability
to assure compliance with ARP standards with certainty or adequate
thoroughness is limited. In particular, the Commission may not be able
to fully address major or systemic market problems at all entities that
would meet the proposed definition of SCI entity. Further, the
Government Accountability Office

(``GAO'') has identified the voluntary nature of the ARP Inspection
Program as a limitation of the program and recommended that the
Commission make compliance with ARP guidelines mandatory.\54\
---------------------------------------------------------------------------

    \53\ As discussed in infra Section III.B.1, no ATS currently
meets the volume thresholds in Rule 301(b)(6) of Regulation ATS.
    \54\ See GAO, Financial Market Preparedness: Improvements Made,
but More Action Needed to Prepare for Wide-Scale Disasters, Report
No. GAO-04-984 (September 27, 2004). GAO cited instances in which
the GAO believed that entities participating in the ARP Inspection
Program failed to adequately address or implement ARP staff
recommendations as the reasoning behind its recommendation to make
compliance with ARP guidelines mandatory. As noted in supra Section
I.A, the obligations underlying the policy statements are
statutorily mandated.
---------------------------------------------------------------------------

    The Commission believes that the continuing evolution of the
securities markets to the current state, where they have become almost
entirely electronic and highly dependent on sophisticated trading and
other technology (including complex regulatory and surveillance
systems, as well as systems relating to the provision of market data,
intermarket routing and connectivity, and a variety of other member and
issuer services), has posed challenges for the ARP Inspection Program.
Accordingly, the Commission believes that the guidance in the ARP
policy statements should be updated and formalized, and that clarity
with respect to a variety of important matters, including regarding
appropriate industry practices, notice to the Commission of all SCI
events and to members or participants of SCI entities of certain
systems problems, Commission access to systems, and procedures designed
to better ensure that SRO systems comply with the SRO's own rules,
would improve the Commission's oversight capabilities. Furthermore,
given the importance of ensuring that an SRO's trading and other
systems are operated in accordance with its rules, the Commission
believes that improvements in SRO procedures could help to ensure that
such systems are operating in compliance with relevant rules, and to
promptly identify and address any instances of non-compliance.\55\
---------------------------------------------------------------------------

    \55\ Section 19(b)(1) of the Exchange Act requires each SRO to
file with the Commission any proposed rule or any proposed change
in, addition to, or deletion from the rules of such SRO (a
``proposed rule change''), accompanied by a concise general
statement of the basis and purpose of such proposed rule change, and
provides that no proposed rule change shall take effect unless
approved by the Commission or otherwise permitted in accordance with
the provisions of this section. See 15 U.S.C. 78s(b)(1). An SRO's
failure to file a proposed rule change when required would be a
violation of Section 19(b)(1).
---------------------------------------------------------------------------

D. Recent Events

    In the Commission's view, recent events further highlight why
rulemaking in this area may be warranted. On May 6, 2010, according to
a report by the staffs of the Commission and the Commodity Futures
Trading Commission (``CFTC''), the prices of many U.S.-based equity
products experienced an extraordinarily rapid decline and recovery,
with major equity indices in both the futures and securities markets,
each already down over four percent from their prior day close,
suddenly plummeting a further five to six percent in a matter of
minutes before rebounding almost as quickly.\56\ According to the May 6
Staff Report, many individual equity securities and exchange traded
funds suffered similar price declines and reversals within a short
period of time, falling 5, 10, or even 15 percent before recovering
most, if not all, of their losses.\57\ The May 6 Staff Report stated
that some equities experienced even more severe price moves, both up
and down, with over 20,000 trades in more than 300 securities executed
at prices more than 60 percent away from their values just moments
before.\58\
---------------------------------------------------------------------------

    \56\ See Findings Regarding The Market Events Of May 6, 2010,
Report Of The Staffs Of The CFTC And SEC To The Joint Advisory
Committee On Emerging Regulatory Issues, September 30, 2010 (``May 6
Staff Report'').
    \57\ See id.
    \58\ These trades subsequently were broken by the exchanges and
FINRA. See id.
---------------------------------------------------------------------------

    Among the key findings in the May 6 Staff Report was that the
interaction between automated execution programs and algorithmic
trading strategies can quickly erode liquidity and result in disorderly
markets, and that concerns about data integrity, especially those that
involve the publication of trades and quotes to the consolidated tape,
can contribute to pauses or halts in many automated trading systems and
in turn lead to a reduction in general market liquidity.\59\ According
to the May 6 Staff Report, the events of May 6, 2010 clearly
demonstrate the importance of data in today's world of fully automated
trading strategies and systems, and that fair and orderly markets
require the maintenance of high standards for robust, accessible, and
timely market data.\60\
---------------------------------------------------------------------------

    \59\ See id. at 78.
    \60\ See id. at 8.
---------------------------------------------------------------------------

    Both before and after the May 6, 2010 incident, individual markets
have also experienced other systems-related issues. In February 2011,
NASDAQ OMX Group, Inc. revealed that hackers had penetrated certain of
its computer networks, though Nasdaq reported that at no point did this
intrusion compromise Nasdaq's trading systems.\61\ In October 2011, the
Commission sanctioned EDGX and EDGA, two national securities exchanges,
and their affiliated broker, Direct Edge ECN LLC, for violations of
federal securities laws arising from systems incidents.\62\ In the
Direct Edge Order, the Commission noted that the ``violations occurred
against the backdrop of weaknesses in Respondents' systems, processes,
and controls.'' \63\
---------------------------------------------------------------------------

    \61\ See announcement by Nasdaq OMX (February 5, 2011),
available at: http://www.nasdaq.com/includes/announcement-2-5-11.aspx (accessed May 20, 2011). See also Devlin Barrett, ``Hackers
Penetrate NASDAQ Computers,'' Wall St. J., February 5, 2011, at A1;
Devlin Barrett et al., ``NASDAQ Confirms Breach in Network,'' Wall
St. J., February 7, 2011, at C1.
    \62\ See Securities Exchange Act Release No. 65556, In the
Matter of EDGX Exchange, Inc., EDGA Exchange, Inc. and Direct Edge
ECN LLC (settled action: October 13, 2011), available at: http://www.sec.gov/litigation/admin/2011/34-65556.pdf (``Direct Edge
Order''); see also Commission News Release, 2011-208, ``SEC
Sanctions Direct Edge Electronic Exchanges and Orders Remedial
Measures to Strengthen Systems and Controls'' (October 13, 2011).
EDGX, EDGA, and their affiliated routing broker, Direct Edge ECN LLC
(dba DE Route), consented to an Order Instituting Administrative and
Cease-and-Desist Proceedings Pursuant to Sections 19(h) and 21C of
the Securities Exchange Act of 1934, Making Findings, and Imposing
Remedial Sanctions and a Cease-and-Desist Order.
    \63\ See Direct Edge Order, supra note 62, at 3.
---------------------------------------------------------------------------

    More recently, in 2012, systems issues hampered the initial public
offerings of BATS Global Markets, Inc. and Facebook, Inc.\64\ On March
23, 2012, BATS announced that a ``software bug'' caused BATS to shut
down the IPO of its own stock, BATS Global Markets, Inc.\65\ On May 18,
2012, issues with Nasdaq's trading systems delayed the start of trading
in the high-profile IPO of Facebook, Inc. and some market participants
experienced delays in notifications over whether orders had been
filled.\66\
---------------------------------------------------------------------------

    \64\ See also infra note 334 and accompanying text.
    \65\ See ``BATS BZX Exchange Post-Mortem'' by BATS, March 23,
2012, available at: www.batstrading.com/alerts (accessed July 2,
2012).
    \66\ See ``Post-Mortem for NASDAQ issues related to the Facebook
Inc. (FB) IPO Cross on Friday, May 18, 2012'' by NASDAQ, May 18,
2012, available at: http://www.nasdaqtrader.com/TraderNews.aspx?id=ETA2012-20 (accessed July 2, 2012).
---------------------------------------------------------------------------

    While these are illustrative high-profile examples, they are not
the only instances of disruptions and other systems problems
experienced by SROs and ATSs.\67\ Moreover, the risks

associated with cybersecurity, and how to protect against systems
intrusions, are increasingly of concern to all types of entities,
including public companies.\68\
---------------------------------------------------------------------------

    \67\ The Commission notes that outages have occurred on foreign
markets recently as well. See, e.g., Kana Inagaki and Kosaku
Narioka, ``Tokyo Tackles Trading Glitch,'' Wall St. J., February 2,
2012; and Neil Shah and Carrick Mellenkamp, ``London Exchange
Paralyzed by Glitch,'' Wall St. J., September 9, 2008, Europe
Business News. See also discussion in infra Section III.C.1.b
regarding business continuity planning during October 2012 due to
Superstorm Sandy.
    \68\ See, e.g., CF Disclosure Guidance: Topic No. 2,
Cybersecurity (October 13, 2011), available at: http://www.sec.gov/divisions/corpfin/guidance/cfguidance-topic2.htm (providing the
Division of Corporation Finance's views regarding disclosure
obligations relating to cybersecurity risks and cyber incidents).
---------------------------------------------------------------------------

    On October 2, 2012, the Commission conducted a roundtable entitled
``Technology and Trading: Promoting Stability in Today's Markets''
(``Roundtable'').\69\ The Roundtable examined the relationship between
the operational stability and integrity of the securities market and
the ways in which market participants design, implement, and manage
complex and interconnected trading technologies.\70\ Panelists offered
their views on how market participants could prevent, or at least
mitigate, technology errors as well as how error response could be
improved.
---------------------------------------------------------------------------

    \69\ See Securities Exchange Act Release No. 67802 (September 7,
2012), 77 FR 56697 (September 13, 2012) (File No. 4-652). A webcast
of the Roundtable is available at: www.sec.gov/news/otherwebcasts/2012/ttr100212.shtml.
    \70\ See Securities Exchange Act Release No. 67725 (August 24,
2012), 77 FR 52766 (August 30, 2012) (File No. 4-652). The
Roundtable included panelists from academia, clearing agencies,
national securities exchanges, broker-dealers, and other
organizations. Panelists for the first panel were: Dr. Nancy
Leveson, Professor of Aeronautics and Astronautics and Engineering
Systems, MIT (``MIT''); Sudhanshu Arya, Managing Director, ITG
(``ITG''); Chris Isaacson, Chief Operating Officer, BATS Exchange
(``BATS''); Dave Lauer, Market Structure and HFT Consultant, Better
Markets, Inc. (``Better Markets''); Jamil Nazarali, Head of Citadel
Execution Services, Citadel (``Citadel''); Lou Pastina, Executive
Vice President--NYSE Operations, NYSE (``NYSE''); Christopher Rigg,
Partner--Financial Services Industry, IBM (``IBM''); and Jonathan
Ross, Chief Technology Officer, GETCO LLC (``Getco'').
    Panelists for the second panel were: Dr. M. Lynne Markus,
Professor of Information and Process Management, Bentley University
(``Bentley''); David Bloom, Head of UBS Group Technology (``UBS'');
Chad Cook, Chief Technology Officer, Lime Brokerage LLC (``Lime'');
Anna Ewing, Executive Vice President and Chief Information Officer,
Nasdaq; Albert Gambale, Managing Director and Chief Development
Officer, Depository Trust and Clearing Corp. (``DTCC''); Saro
Jahani, Chief Information Officer, Direct Edge (``DE''); and Lou
Steinberg, Chief Technology Officer, TD Ameritrade (``TDA''). See
Technology and Trading: Promoting Stability in Today's Markets
Roundtable -- Participant Bios, available at: http://www.sec.gov/news/otherwebcasts/2012/ttr100212-bios.htm.
    The Roundtable was announced on August 3, 2012, following a
report by Knight Capital Group, Inc. (``Knight'') that, on August 1,
2012, it ``experienced a technology issue at the opening of trading
at the NYSE * * * [which was] related to Knight's installation of
trading software and resulted in Knight sending numerous erroneous
orders in NYSE-listed securities into the market * * * Knight * * *
traded out of its entire erroneous trade position, which * * *
resulted in a realized pre-tax loss of approximately $440 million.''
See Knight Capital Group Provides Update Regarding August 1st
Disruption To Routing In NYSE-listed Securities (August 2, 2012),
available at: http://www.knight.com/investorRelations/pressReleases.asp?compid=105070&releaseID=1721599.
     Although the Knight incident highlights the importance of the
integrity of broker-dealer systems, the focus of the Roundtable was
not limited to broker-dealers. But see infra Section III.G,
soliciting comment regarding the potential inclusion of broker-
dealers, other than SCI ATSs, in the proposed definition of SCI
entity.
---------------------------------------------------------------------------

    Although the discussion was wide-ranging, several themes emerged,
with panelists generally agreeing that areas of focus across the
industry should be on adherence to best practices, improved quality
assurance, more robust testing, increased pre-trade and post-trade risk
controls, real-time monitoring of systems, and improved communications
when systems problems occur. The panelists also discussed whether there
should be regulatory or other mandates for quality standards and
industry testing, and whether specific mechanisms, such as ``kill
switches,'' \71\ would be useful to protect the markets from technology
errors and to advance the goal of bolstering investor confidence in the
markets.\72\ Several panelists also stated that, given the frequency of
coding changes in the current market environment, testing of software
changes should be far more robust.\73\
---------------------------------------------------------------------------

    \71\ The term ``kill switch'' is a shorthand expression used by
market participants, including Roundtable participants and
Roundtable commenters, to refer to mechanisms pursuant to which one
or more limits on trading could be established by a trading venue
for its participants that, if exceeded, would authorize the trading
venue to stop accepting incoming orders from such participant. See
also infra note 76 and accompanying text.
    \72\ With regard to quality assurance in particular, Roundtable
panelists differed on the role of third parties in providing quality
assurance, with some panelists believing that, given the difficulty
for an outside party to understand the complex systems of trading
firms and other market participants, such a role should be performed
by internal staff who are better able to understand such systems,
with other panelists opining that there it was critical that
independent parties provide quality assurance.
    \73\ Panelists urging greater testing in general and industry
testing in particular included those from BATS, Better Markets, DE,
ITG, Getco, Nasdaq, NYSE, and TDA.
---------------------------------------------------------------------------

    In addition to the Roundtable panels, the Commission solicited
comment with respect to the Roundtable's topics, and received
statements from some of the Roundtable panelists, as well as comment
letters from the public.\74\ Many comment letters specifically
recommended improved testing as a way to aid error prevention.\75\ In
addition, several commenters expressed support for a ``kill-switch''
mechanism that would permit exchanges or other market centers to
terminate a firm's trading activity if such activity was posing a
threat to market integrity.\76\
---------------------------------------------------------------------------

    \74\ See http://www.sec.gov/comments/4-652/4-652.shtml, listing
and publishing all comment letters received by the Commission with
respect to the Roundtable. The letters received cover a broad array
of topics, some of which are unrelated to proposed Regulation SCI.
This proposing release discusses and references the following
letters when relevant to the discussion of proposed Regulation SCI:
Letter dated September 5, 2012, from James J. Angel, Ph.D., CFA,
Georgetown University and the Wharton School, University of
Pennsylvania (``Angel''); Letter dated September 27, 2012, from Eric
Swanson, BATS Global Markets, Inc.; Letter dated October 2, 2012,
from Dave Lauer, Market Structure and HFT Consultant, Better Markets
(``Better Markets''); Letter dated October 1, 2012, from Jamil
Nazarali, Citadel (``Citadel''); Letter dated October 23, 2012, from
Scott Goebel, Senior Vice President and General Counsel, Fidelity
Management & Research Company (``Fidelity''); Letter dated November
1, 2012, from Arsalan Shahid, Program Director, Financial
Information Forum (``FIF''); Letter dated October 19, 2012, from
Courtney Doyle McGuinn, Operations Director, FIX Protocol Ltd.
(``FIX''); Letter dated October 1, 2012, from Elizabeth K. King,
Head of Regulatory Affairs, GETCO LLC (``Getco''); Letter dated
October 18, 2012, from Adam Nunes, President, Hudson River Trading
LLC (``Hudson''); Letter dated September 23, 2012, from Patrick J.
Healy, CEO, Issuer Advisory Group LLC (``IAG''); Letter dated
October 23, 2012, from Karrie McMillan, General Counsel, Investment
Company Institute (``ICI''); Letter dated October 22, 2012, from
James P. Selway III, Managing Director, Head of Liquidity
Management, and Sudhanshu Arya, Managing Director, Head of
Technology for Liquidity Management, ITG Inc. (``ITG''); Letter
dated September 28, 2012, from Joseph M. Mecane, NYSE Euronext;
Richard G. Ketchum, FINRA; Eric Noll, Nasdaq OMX, Inc.; Christopher
A. Isaacson, BATS Global Markets, Inc.; Bryan Harkins, DirectEdge;
David Herron, Chicago Stock Exchange; Murray Pozmanter, The
Depository Trust & Clearing Corporation; Bank of America Merrill
Lynch; Citadel LLC; Citigroup Global Markets Inc.; Deutsche Bank
Securities Inc.; GETCO; Goldman, Sachs & Co/Goldman Sachs Execution
and Clearing; IMC Chicago LLC; ITG, Inc.; Jane Street; J.P. Morgan
Securities LLC; RBC Capital Markets, LLC; RGM Advisors, LLC; Two
Sigma Securities; UBS Securities LLC; Virtu Financial; Wells Fargo
Securities (``Industry Working Group''); Letter dated September 25,
2012, from R. T. Leuchtkafer (``Leuchtkafer''); Letter dated August
14, 2012, from Stuart J. Kaswell, Executive Vice President, Managing
Director & General Counsel, Managed Funds Association (``MFA'');
Letter dated October 1, 2012, from Richard Gorelick, RGM Advisors,
Cameron Smith, Quantlab, and Peter Nabicht, Allston Trading
(``RGM''); Letter dated September 28, 2012, from Nasser A. Sharara,
Managing Director, Product Management, Raptor Trading Systems
(``Raptor''); Letter dated October 1, 2012, from Lou Steinberg,
Managing Director, Chief Technology Officer, TDA (``TDA''); Letter
dated October 24, 2012, from David Weisberger, Executive Principal,
Two Sigma Securities, LLC (``Two Sigma'').
    \75\ See, e.g., letters from Angel, BATS, Better Markets,
Citadel, Fidelity, FIF, FIX, Getco, Hudson, IAG, ICI, ITG, Industry
Working Group, Leuchtkafer, MFA, RGM, and Two Sigma, supra note 74.
Some of these commenters specifically urged greater integration
testing and stated that testing with exchanges and other market
centers under simulated market conditions were necessary in today's
extremely fast and interconnected markets. One commenter (Angel)
suggested that exchanges operate completely from their backup data
centers one day each year to test such systems and market
participants' connectivity to them.
    \76\ See, e.g., letters from Angel, BATS, Citadel, FIF, Getco,
IAG, Industry Working Group, MFA, RGM, and Raptor, supra note 74.
See also letters from Fidelity, FIX, Hudson and ITG, supra note 74,
submitted after the Roundtable, suggesting possible approaches for
establishing kill switch criteria. See also supra note 71,
describing the use of the term ``kill switch'' in this release.

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

    The Commission believes that the information presented at the
Roundtable and received from commenters, as broadly outlined above,
highlights that quality standards, testing, and improved error response
mechanisms are among the issues needing very thoughtful and focused
attention in today's securities markets.\77\ In formulating proposed
Regulation SCI, the Commission has considered the information and views
discussed at the Roundtable and received from commenters.
---------------------------------------------------------------------------

    \77\ The Commission notes that Roundtable panelists and
commenters offering their views and suggestions generally did so in
the context of discussing the market as a whole, rather than
focusing on the roles and regulatory status of different types of
market participants. However, some commented on the utility of the
ARP Inspection Program and suggested that it could be expanded. See,
e.g., letter from Leuchtkafer, supra note 74. In addition, the
panelists from Getco, Nasdaq, and NYSE also suggested that ARP could
be expanded, with the panelist from NYSE in particular advocating
that the applicability of any new ARP-related regulations not be
limited to SROs. One commenter suggested that the Commission update
and formalize the ARP Inspection Program before extending it to
other market participants. See letter from Fidelity, supra note 74.
This commenter added further that, if the ARP program is extended to
other market participants, it should not include a requirement that
broker-dealers submit certain information, such as algorithmic code
changes, for independent review. See also infra Section III.G,
soliciting comment on whether the requirements of proposed
Regulation SCI should apply, in whole or in part, to broker-dealers
or a subset thereof.
---------------------------------------------------------------------------

    Most recently, the U.S. national securities exchanges closed for
two business days in the wake of Superstorm Sandy, a major storm that
hit the East Coast of the United States during October 2012, and which
caused significant damage in lower Manhattan, among other places.\78\
Press reports stated that, while the markets planned to open on the
first day of the storm (with the NYSE planning to operate under its
contingency plan as an electronic-only venue),\79\ after consultation
with market participants, including the Commission and its staff, and
in light of concerns over the physical safety of personnel and the
possibility of technical issues, the national securities exchanges
jointly decided not to open for trading on October 29 and October 30,
2012.\80\ The market closures occurred even though the securities
industry's annual test of how trading firms, market operators and their
utilities could operate through an emergency using backup sites, backup
communications, and disaster recovery facilities occurred on October
27, 2012, just two days before the storm.\81\ According to press
reports, the test did not uncover issues that would preclude markets
from opening two days later with backup systems, if they so chose.\82\
In addition, NYSE's contingency plan was tested seven months prior to
the storm, though press reports indicate that a large number of NYSE
members did not participate.\83\ The Commission also has considered the
impact of Superstorm Sandy on the securities markets, particularly with
respect to business continuity planning and testing, in formulating
proposed Regulation SCI.
---------------------------------------------------------------------------

    \78\ See ``NYSE to Remain Open for Trading While Physical
Trading Floor and New York Building Close in Accordance with Actions
Taken by City and State Officials,'' (October 28, 2012) (``NYSE
Floor Closure Statement''), available at: http://www.nyse.com/press/1351243407197.html; and ``NYSE Euronext Statement on Closure of U.S.
Markets on Monday Oct. 29 and Pending Confirmation on Tuesday, Oct.
30, 2012,'' (October 28, 2012) (``NYSE Closure Statement''),
available at: http://www.nyse.com/press/1351243418010.html.
    \79\ The NYSE had initially planned to act pursuant to NYSE Rule
49 (Emergency Powers), which permits a designated official of the
NYSE, in the event of an emergency (as defined in Section 12(k)(7)
of the Exchange Act), to designate NYSE Arca to receive and process
bids and offers and to execute orders on behalf of the NYSE. See
``NYSE Contingency Trading Plan in effect for Monday, October 29,
2012,'' (October 28, 2012) (``Market Operations Update''), available
at: http://markets.nyx.com/nyse/trader-updates/view/11503. The
Commission approved NYSE Rule 49 on December 16, 2009. See
Securities Exchange Act Release No. 61177 (December 16, 2009), 74 FR
68643 (December 28, 2009) (SR-NYSE-2009-105) (approving proposed
rule change by the NYSE relating to the designation of NYSE Arca as
the NYSE's alternative trading facility in an emergency).
    \80\ See, e.g., ``A giant storm and the struggle over closing
Wall Street,'' October 31, 2012, available at: http://www.reuters.com/article/2012/10/31/us-storm-sandy-nyse-insight-idUSBRE89T0F920121031. See also, e.g., NYSE Closure Statement, supra
note 78.
    \81\ See, e.g., ``Storm Over Wall Street Going Dark,'' November
12, 2012, available at: http://www.tradersmagazine.com/news/storm-over-wall-street-going-dark-110526-1.html.
    \82\ See id. See also http://www.sifma.org/services/bcp/industry-testing.
    \83\ See id. and NYSE Floor Closure Statement, supra note 78.
---------------------------------------------------------------------------

II. Proposed Codification and Enhancement of ARP Inspection Program

    In the Commission's view, the convergence of several developments--
the evolution of the markets to become significantly more dependent
upon sophisticated automated systems, the limitations of the existing
ARP Inspection Program, and the lessons of recent events--highlight the
need to consider an updated and formalized regulatory framework for
ensuring that the U.S. securities trading markets develop and maintain
systems with adequate capacity, integrity, resiliency, availability,
and security, and reinforce the requirement that such systems operate
in compliance with the Exchange Act. The Commission is proposing new
Regulation SCI because the Commission preliminarily believes that it
would further the goals of the national market system and reinforce
Exchange Act obligations to require entities important to the
functioning of the U.S. securities markets to carefully design,
develop, test, maintain, and surveil systems integral to their
operations.
    Proposed Regulation SCI would replace the two ARP policy
statements. Although proposed Regulation SCI would codify in a
Commission rule many of the principles of the ARP policy statements
with which SROs and other participants in the ARP Inspection Program
are familiar, the proposed rule would apply to more entities than the
current ARP Inspection Program and would place obligations not
currently included in the ARP policy statements on entities subject to
the rule. Specifically, proposed Regulation SCI would apply to ``SCI
entities,'' a term that would include ``SCI SROs,'' ``SCI ATSs,''
``plan processors,'' and ``exempt clearing agencies subject to ARP.''
\84\
---------------------------------------------------------------------------

    \84\ Each of these terms is discussed in detail in Section
III.B.1 below.
---------------------------------------------------------------------------

    Further, to help ensure that the proposed rule covers key systems
of SCI entities, the proposed rule would define (for purposes of
Regulation SCI) the term ``SCI systems'' to mean those systems of, or
operated by or on behalf of, an SCI entity that directly support
trading, clearance and settlement, order routing, market data,
regulation, or surveillance. In addition, the term ``SCI security
systems'' would include systems that share network resources with SCI
systems that, if breached, would be reasonably likely to pose a
security threat to such systems.\85\ The proposed rule also would
define several other terms intended to specify what types of systems
changes and problems (``SCI events'') the Commission considers to be
most significant and, therefore, preliminarily believes should be
covered by the proposed rule's requirements.
---------------------------------------------------------------------------

    \85\ See infra Section III.B.2 for a discussion of the proposed
definitions of SCI systems and SCI security systems.
---------------------------------------------------------------------------

    In addition, proposed Regulation SCI would specify the obligations
SCI entities would have with respect to covered systems and SCI events.
Specifically, proposed Regulation SCI would require that each SCI
entity: (1)

Establish, maintain, and enforce written policies and procedures
reasonably designed to ensure that its SCI systems and, for purposes of
security standards, SCI security systems, have levels of capacity,
integrity, resiliency, availability, and security, adequate to maintain
the SCI entity's operational capability and promote the maintenance of
fair and orderly markets; (2) establish, maintain, and enforce written
policies and procedures reasonably designed to ensure that its SCI
systems operate in the manner intended; (3) respond to SCI events with
appropriate corrective action; (4) report SCI events to the Commission
and submit follow-up reports, as applicable; (5) disseminate
information regarding certain SCI events to members or participants of
the SCI entity; (6) report material systems changes to the Commission;
(7) conduct an SCI review of its systems not less than once each
calendar year; (8) submit certain periodic reports to the Commission,
including a report of the SCI review, together with any response by
senior management; (9) mandate participation by designated members or
participants in scheduled testing of the operation of the SCI entity's
business continuity and disaster recovery plans, including backup
systems, and coordinate such testing on an industry- or sector-wide
basis \86\ with other SCI entities; and (10) make, keep, and preserve
records relating to the matters covered by Regulation SCI, and provide
them to Commission representatives upon request. The proposal also
would require that an SCI entity submit all required written
notifications and reports to the Commission electronically using new
proposed Form SCI.
---------------------------------------------------------------------------

    \86\ See infra Section III.C.7 for a discussion of the terms
industry-wide and sector-wide.
---------------------------------------------------------------------------

III. Proposed Regulation SCI

A. Overview

    The purpose of proposed Regulation SCI is to enhance the
Commission's regulatory supervision of SCI entities and thereby further
the goals of the national market system by helping to ensure the
capacity, integrity, resiliency, availability, and security, and
enhance compliance with federal securities laws and regulations, of
automated systems relating to the U.S. securities markets through the
formalization of standards to which their automated systems would be
held, and a regulatory framework for ensuring more effective Commission
oversight of these systems. Proposed Rule 1000(a) sets forth several
definitions designed to establish the scope of the new rule. Proposed
Rule 1000(b) sets forth the obligations that would be imposed on SCI
entities with respect to systems and systems issues. Proposed Rules
1000(c)-(f) set forth recordkeeping and electronic filing requirements
and address certain other related matters.

B. Proposed Rule 1000(a): Definitions Establishing the Scope of
Regulation SCI

    A series of definitions set forth in proposed Rule 1000(a) relate
to the scope of proposed Regulation SCI. These include the definitions
for ``SCI entity,'' ``SCI systems,'' ``SCI security systems,'' ``SCI
event,'' ``systems disruption,'' ``systems compliance issue,''
``systems intrusion,'' ``dissemination SCI event,'' and ``material
systems change.''
1. SCI Entities
    Although the ARP policy statements are rooted in Exchange Act
requirements, the ARP Inspection Program has developed without the
promulgation of Commission rules applicable to SROs or plan processors.
Under the ARP Inspection Program, Commission staff conducts inspections
of SROs to assess the capacity, integrity, resiliency, availability,
and security of their systems. These inspections also have historically
included the systems of entities that process and disseminate quotation
and transaction data on behalf of the Consolidated Tape Association
System (``CTA Plan''), Consolidated Quotation System (``CQS Plan''),
Joint Self-Regulatory Organization Plan Governing the Collection,
Consolidation, and Dissemination of Quotation and Transaction
Information for Nasdaq-Listed Securities Traded on Exchanges on an
Unlisted Trading Privileges Basis (``Nasdaq UTP Plan''), and Options
Price Reporting Authority (``OPRA Plan'').\87\ The ARP Inspection
Program has also included one exempt clearing agency.\88\ Pursuant to
Rule 301(b)(6) of Regulation ATS, certain aspects of the ARP policy
statements apply mandatorily to significant-volume ATSs, as they are
currently defined under Regulation ATS.\89\ However, because no ATSs
currently meet the significant-volume thresholds specified in Rule
301(b)(6) of Regulation ATS,\90\ compliance with the ARP Inspection
Program is not mandatory at this time for any ATS.\91\ Proposed
Regulation SCI would provide mandatory uniform requirements for ``SCI
entities.'' Proposed Rule 1000(a) would define ``SCI entity'' as an
``SCI self-regulatory organization, SCI alternative trading system,
plan processor, or exempt clearing agency subject to ARP.'' The
proposed rule also would define each of these terms for the purpose of
designating specifically the entities that the Commission preliminarily
believes should be subject to the rule.
---------------------------------------------------------------------------

    \87\ See ARP I Release, supra note 1, at n. 8 and n. 17. Each of
the CTA Plan, CQS Plan, Nasdaq UTP Plan, and OPRA Plan, is a
``national market system plan'' (``NMS Plan'') as defined under Rule
600(a)(43) of Regulation NMS under the Exchange Act, 17 CFR
242.600(a)(43). Rule 600(a)(55) of Regulation NMS under the Exchange
Act, 17 CFR 242.600(a)(55), defines a ``plan processor'' as ``any
self-regulatory organization or securities information processor
acting as an exclusive processor in connection with the development,
implementation and/or operation of any facility contemplated by an
effective national market system plan.'' Section 3(a)(22)(B) of the
Exchange Act, 15 U.S.C. 78c(22)(B), defines ``exclusive processor''
to mean ``any securities information processor or self-regulatory
organization which, directly or indirectly, engages on an exclusive
basis on behalf of any national securities exchange or registered
securities association, or any national securities exchange or
registered securities association which engages on an exclusive
basis on its own behalf, in collecting, processing, or preparing for
distribution or publication any information with respect to (i)
transactions or quotations on or effected or made by means of any
facility of such exchange or (ii) quotations distributed or
published by means of any electronic system operated or controlled
by such association.''
    As a processor involved in collecting, processing, and preparing
for distribution transaction and quotation information, the
processor of each of the CTA Plan, CQS Plan, Nasdaq UTP Plan, and
OPRA Plan meets the definition of ``exclusive processor;'' and
because each acts as an exclusive processor in connection with an
NMS Plan, each also meets the definition of ``plan processor'' under
Rule 600(a)(55) of Regulation NMS, as well as proposed Rule 1000(a)
of Regulation SCI. For ease of reference, an NMS Plan having a
current or future ``plan processor'' is referred to herein as an
``SCI Plan.'' The Commission notes that not every processor of an
NMS Plan would be a ``plan processor,'' as proposed to be defined in
Rule 1000(a), and therefore not every processor of an NMS Plan would
be an SCI entity subject to the requirements of proposed Regulation
SCI. For example, the processor of the Symbol Reservation System
associated with the National Market System Plan for the Selection
and Reservation of Securities Symbols (File No. 4-533) would not be
a ``plan processor'' subject to Regulation SCI because it does not
meet the ``exclusive processor'' statutory definition, as it is not
involved in collecting, processing, and preparing for distribution
transaction and quotation information.
    \88\ See infra notes 133-135 and accompanying text.
    \89\ See 17 CFR 242.301(b)(6). See also supra note 26.
    \90\ 17 CFR 242.301(b)(6).
    \91\ One ATS currently participates voluntarily in the ARP
Inspection Program, though, in the past, other ATSs have also
participated in the ARP Inspection Program.
---------------------------------------------------------------------------

    Proposed Rule 1000(a) would define the term ``SCI self-regulatory
organization.'' The definition of ``SCI self-regulatory organization,''
or ``SCI SRO,'' would be consistent with the definition of ``self-
regulatory organization'' set forth in Section 3(a)(26) of the Exchange
Act,\92\ and

would cover all national securities exchanges registered under Section
6(b) of the Exchange Act,\93\ registered securities associations,\94\
registered clearing agencies,\95\ and the Municipal Securities
Rulemaking Board (``MSRB'').\96\ The definition would, however, exclude
an exchange that lists or trades security futures products that is
notice-registered with the Commission as a national securities exchange
pursuant to Section 6(g) of the Exchange Act, as well as any limited
purpose national securities association registered with the Commission
pursuant to Exchange Act Section 15A(k).\97\ Accordingly, the
definition of SCI SRO in proposed Rule 1000(a) would mandate that all
national securities exchanges registered under Section 6(b) of the
Exchange Act, all registered securities associations, all registered
clearing agencies, and the MSRB, comply with Regulation SCI.\98\
---------------------------------------------------------------------------

    \92\ See 15 U.S.C. 78c(a)(26): ``The term `self-regulatory
organization' means any national securities exchange, registered
securities association, or registered clearing agency, or (solely
for purposes of sections 19(b), 19(c), and 23(b) of this title) the
Municipal Securities Rulemaking Board established by section 15B of
this title.'' See infra note 96.
    \93\ Currently, these registered national securities exchanges
are: (1) BATS; (2) BATS-Y; (3) BOX; (4) CBOE; (5) C2; (6) CHX; (7)
EDGA; (8) EDGX; (9) ISE; (10) MIAX; (11) Nasdaq OMX BX; (12) Nasdaq
OMX Phlx; (13) Nasdaq; (14) NSX; (15) NYSE; (16) NYSE MKT; and (17)
NYSE Arca.
    \94\ FINRA is the only registered national securities
association.
    \95\ Currently, there are seven clearing agencies (Depository
Trust Company (``DTC''); Fixed Income Clearing Corporation
(``FICC''); National Securities Clearing Corporation (``NSCC'');
Options Clearing Corporation (``OCC''); ICE Clear Credit; ICE Clear
Europe; and CME) with active operations that are registered with the
Commission. See also infra notes 133-135 and accompanying text. The
Commission notes that it recently adopted Rule 17Ad-22, which
requires registered clearing agencies to have effective risk
management policies and procedures in place. See Securities Exchange
Act Release No. 68080 (October 22, 2012), 77 FR 66220 (November 2,
2012). Among other things, Rule 17Ad-22(d)(4) requires that
registered clearing agencies ``[i]dentify sources of operational
risk and minimize them through the development of appropriate
systems, controls, and procedures; implement systems that are
reliable, resilient and secure, and have adequate, scalable
capacity; and have business continuity plans that allow for timely
recovery of operations and fulfillment of a clearing agency's
obligations.'' In its adopting release, the Commission stated that
Rule 17Ad-22(d)(4) ``* * * complements the existing guidance
provided by the Commission in its Automation Review Policy
Statements and the Interagency White Paper on Sound Practices to
Strengthen the Resilience of the U.S. Financial System.'' Similarly,
the Commission preliminarily believes that proposed Regulation SCI,
to the extent it addresses areas of risk management similar to those
addressed by Rule 17Ad-22(d)(4), complements Rule 17Ad-22(d)(4). See
also infra note 203.
    \96\ 15 U.S.C. 78c(a)(26). See also supra note 92. Historically,
the ARP Inspection Program has not included the MSRB, but instead
has focused on entities having trading, quotation and transaction
reporting, and clearance and settlement systems more closely
connected to the equities and options markets. In considering the
entities that should be subject to proposed Regulation SCI, the
Commission preliminarily believes that it would be appropriate to
apply proposed Regulation SCI to all SROs (subject to the exception
noted in infra note 97), of which the MSRB is one, particularly
given the fact that the MSRB is the only SRO relating to municipal
securities and is the sole provider of consolidated market data for
the municipal securities market. Specifically, in 2008, the
Commission amended Rule 15c2-12 to designate the MSRB as the single
centralized disclosure repository for continuing municipal
securities disclosure. In 2009, the MSRB established the Electronic
Municipal Market Access system (``EMMA''). EMMA now serves as the
official repository of municipal securities disclosure, providing
the public with free access to relevant municipal securities data,
and is the central database for information about municipal
securities offerings, issuers, and obligors. Additionally, the
MSRB's Real-Time Transaction Reporting System (``RTRS''), with
limited exceptions, requires municipal bond dealers to submit
transaction data to the MSRB within 15 minutes of trade execution,
and such near real-time post-trade transaction data can be accessed
through the MSRB's EMMA Web site. While pre-trade price information
is not as readily available in the municipal securities market, the
Commission's Report on the Municipal Securities Market also
recommends that the Commission and MSRB explore the feasibility of
enhancing EMMA to collect best bids and offers from material ATSs
and make them publicly available on fair and reasonable terms. See
Report on the Municipal Securities Market (July 31, 2012), available
at: http://www.sec.gov/news/studies/2012/munireport073112.pdf.
    \97\ See 15 U.S.C. 78f(g); 15 U.S.C. 78o-3(k). These entities
are security futures exchanges and the National Futures Association,
for which the CFTC serves as their primary regulator. The Commission
preliminarily believes that it would be appropriate to defer to the
CFTC regarding the systems integrity of these entities.
    \98\ For any SCI SRO that is a national securities exchange, any
facility of such national securities exchange, as defined in Section
3(a)(2) of the Exchange Act, 15 U.S.C. 78c(a)(2), also would be
covered because such facilities are included within the definition
of ``exchange'' in Section 3(a)(1) of the Exchange Act, 15 U.S.C.
78c(a)(1).
---------------------------------------------------------------------------

    Proposed Rule 1000(a) would define the term ``SCI alternative
trading system,'' or ``SCI ATS,'' as an alternative trading system, as
defined in Sec.  242.300(a), which during at least four of the
preceding six calendar months, had: (1) With respect to NMS stocks--(i)
five percent or more in any single NMS stock, and 0.25 percent or more
in all NMS stocks, of the average daily dollar volume reported by an
effective transaction reporting plan, or (ii) one percent or more, in
all NMS stocks, of the average daily dollar volume reported by an
effective transaction reporting plan; (2) with respect to equity
securities that are not NMS stocks and for which transactions are
reported to a self-regulatory organization, five percent or more of the
average daily dollar volume as calculated by the self-regulatory
organization to which such transactions are reported; or (3) with
respect to municipal securities or corporate debt securities, five
percent or more of either--(i) the average daily dollar volume traded
in the United States, or (ii) the average daily transaction volume
traded in the United States.\99\
---------------------------------------------------------------------------

    \99\ Proposed Regulation SCI includes specific quantitative
requirements, such as proposed Rule 1000(a), which would include
numerical thresholds in the definition of SCI ATS. The Commission
recognizes that the specificity of each such quantitative threshold
could be read by some to imply a definitive conclusion based on
quantitative analysis of that threshold and its alternatives. The
numerical thresholds in the definition of SCI ATS have not been
derived from econometric or mathematical models. Instead, they
reflect a preliminary assessment by the Commission, based on
qualitative and some quantitative analysis, of the likely economic
consequences of the specific quantitative thresholds proposed to be
included in the definition. There are a number of challenges
presented in conducting such a quantitative analysis in a robust
fashion as discussed in this section. Accordingly, the selection of
the particular quantitative thresholds for the definition of SCI ATS
reflects a qualitative and preliminary quantitative assessment by
the Commission regarding the appropriate thresholds. In making such
assessments and, in turn, selecting the proposed quantitative
thresholds, the Commission has reviewed data from OATS and other
sources. The Commission emphasizes that it invites comment,
including relevant data and analysis, regarding all aspects of the
various quantitative standards reflected in the proposed rules.
---------------------------------------------------------------------------

    As proposed, ATSs would be covered if they met the proposed
thresholds for at least four of the preceding six months, which the
Commission preliminarily believes is an appropriate time period over
which to evaluate the trading volume of an ATS.\100\ The Commission
preliminarily believes that this time period would help ensure that the
standards are not so low as to capture ATSs whose volume would still be
considered relatively low, but, for example, that may have had an
anomalous increase in trading on a given day or small number of days.
---------------------------------------------------------------------------

    \100\ The proposed measurement period would remain unchanged
from the period currently in Rule 301(b)(6) of Regulation ATS.
---------------------------------------------------------------------------

    The proposed definition would modify the thresholds currently
appearing in Rule 301(b)(6) of Regulation ATS that apply to
significant-volume ATSs.\101\ Specifically, the proposed definition
would: Use average daily dollar volume thresholds, instead of an
average daily share volume threshold, for ATSs that trade NMS stocks or
equity securities that are not NMS stocks (``non-NMS stocks''); use
alternative average daily dollar and transaction volume-based tests for
ATSs that trade municipal securities or corporate debt securities;
lower the volume thresholds applicable to ATSs for each category of
asset class; and move the proposed thresholds to Rule 1000(a) of
proposed Regulation SCI. In particular, with respect to NMS stocks, the
Commission proposes to

change the volume threshold from 20 percent of average daily volume in
any NMS stock such that an ATS that trades NMS stocks that meets either
of the following two alternative threshold tests would be subject to
the requirements of proposed Regulation SCI: (i) Five percent or more
in any NMS stock, and 0.25 percent or more in all NMS stocks, of the
average daily dollar volume reported by an effective transaction
reporting plan; or (ii) one percent or more, in all NMS stocks, of the
average daily dollar volume reported by an effective transaction
reporting plan. This change is designed to ensure that proposed
Regulation SCI is applied to an ATS that could have a significant
impact on the NMS stock market as a whole, as well as an ATS that could
have a significant impact on a single NMS stock and some impact on the
NMS stock market as a whole at the same time.\102\ Specifically, by
imposing both a single NMS stock threshold and an all NMS stocks
threshold in (i) above, proposed Regulation SCI would not apply to an
ATS that has a large volume in a small NMS stock and little volume in
all other NMS stocks. Based on data collected from FINRA's Order Audit
Trail System (``OATS data'') for one week of trading in May 2012,\103\
the Commission preliminarily believes that approximately 10 ATSs
trading NMS stocks would exceed the proposed thresholds and fall within
the definition of SCI entity, accounting for approximately 87 percent
of the dollar volume market share of all ATSs trading NMS stocks.
---------------------------------------------------------------------------

    \101\ 17 CFR 242.301(b)(6). See also supra note 26.
    \102\ Under the proposed thresholds, inactive ATSs would not be
included in the definition of SCI ATS.
    The Commission has considered barriers to entry and the
promotion of competition in setting the threshold (see discussion at
infra Section V.C.4.b) such that new ATSs trading NMS stocks would
be able to commence operations without, at least initially, being
required to comply with--and thereby not incurring the costs
associated with--proposed Regulation SCI. If the proposed thresholds
are adopted, a new ATS could engage in limited trading in any one
NMS stock or all NMS stocks, until it reached an average daily
dollar volume of five percent or more in any one NMS stock and 0.25
percent or more in all NMS stocks, or one percent in all NMS stocks,
over four of the preceding six months. Because a new ATS could begin
trading in NMS stocks for at least three months (i.e., less than
four of the preceding six months), and conduct such trading at any
dollar volume level without being subject to proposed Regulation
SCI, and would have to exceed the specified volume levels for the
requisite period to become so subject, the Commission preliminarily
believes that these proposed thresholds should not prevent a new ATS
entrant from having the opportunity to initiate and develop its
business.
    \103\ Commission staff analyzed OATS data for the week of May 7-
11, 2012, a week with average market activity and no holidays or
shortened trading days, and thus intended to be a representative
trading week. However, because the OATS data analysis does not
consider trading volume over a six-month period and does not base
the threshold test on four out of the preceding six calendar months
as prescribed in proposed Rule 1000(a), it may overestimate the
number of ATSs that would meet the proposed thresholds. For example,
a large block trade during a single week could skew an ATS's numbers
upward from what would be observed over the course of the four
months with the highest volumes during a six-month period,
particularly with respect to the proposed single-stock threshold. In
addition, because the OATS data does not identify all ATSs and does
not identify some ATSs uniquely, some ATSs may not be accounted for
in the estimated number of ATSs that would meet the proposed
threshold. Nevertheless, the Commission believes the analysis of
OATS data offers useful insights.
---------------------------------------------------------------------------

    The Commission notes that its analysis of the OATS data does not
reveal an obvious threshold level above which a particular subset of
ATSs may be considered to have a significant impact on individual NMS
stocks or the overall market, as compared to another subset of ATSs.
The Commission preliminarily believes that inclusion of the proposed
dual dollar volume threshold is appropriate to help prevent an ATS from
avoiding the requirements of proposed Regulation SCI by circumventing
one of the two threshold tests. The Commission also preliminarily
believes that a threshold that accounts for 87 percent of the dollar
volume market share of all ATSs trading NMS stocks is a reasonable
level that would not exclude new entrants to the ATS market.\104\
Moreover, the Commission preliminarily believes the proposed thresholds
would appropriately include ATSs having NMS stock dollar volume
comparable to the NMS stock dollar volume of the equity exchanges that
are SCI SROs and therefore covered by proposed Regulation SCI.\105\
---------------------------------------------------------------------------

    \104\ The Commission preliminarily believes that the remaining
13 percent of the dollar volume of all ATSs trading NMS stocks is
limited to trading conducted on small and new ATSs. See also supra
note 102.
    \105\ For example, based on trade and quotation data published
by NYSE Euronext for the period July 1, 2012 through December 31,
2012, the national securities exchanges with the smallest market
shares in NMS stocks (based on average daily dollar volume) had
market shares slightly above and, in one case, below, the proposed
0.25 percent threshold in all NMS stocks (the market shares of CBOE,
NSX, and NYSE MKT were approximately 0.44 percent, 0.27 percent, and
0.06 percent, respectively). Further, all national securities
exchanges that trade NMS stocks had at least 5 percent or more of
the average daily dollar volume in at least one NMS stock, with most
exceeding such threshold for multiple NMS stocks.
---------------------------------------------------------------------------

    Since the time that the Commission originally adopted Regulation
ATS, the equity markets have evolved significantly, resulting in an
increase in the number of trading centers and a reduction in the
concentration of trading activity.\106\ As such, even smaller trading
centers, such as certain ATSs, now collectively represent a significant
source of liquidity for NMS stocks and, by comparison, no single
registered securities exchange executes more than 20 percent of volume
in NMS stocks.\107\ Given these developments in market structure, the
Commission preliminarily believes that setting the average daily dollar
volume threshold for NMS stocks at five percent in any NMS stock and
0.25 percent in all NMS stocks, or one percent in all NMS stocks, is
appropriate to help ensure that entities that have determined to
participate (in more than a limited manner) in the national market
system as markets that bring buyers and sellers together, are subject
to the requirements of proposed Regulation SCI. In addition, the
Commission preliminarily believes that it is appropriate to propose
average daily dollar volume thresholds for NMS stocks, rather than
average daily share volume thresholds, because, by using dollar volume,
the price level of a stock will not skew an ATS's inclusion or
exclusion from the definition of SCI entity, as may be the case when
using share volume, and the use of dollar thresholds may better reflect
the economic impact of trading activity.\108\
---------------------------------------------------------------------------

    \106\ See supra notes 47-51 and accompanying text.
    \107\ See supra note 47.
    \108\ For example, if a threshold is based on the average daily
share volume in all NMS stocks, an ATS that transacts in a stock
that has recently been through a stock split could experience a
significant increase in its share volume (or, for reverse stock
splits, a decrease in its share volume), whereas the dollar value
transacted would remain the same.
---------------------------------------------------------------------------

    In sum, the Commission preliminarily believes that the proposed
dollar volume thresholds for NMS stocks would further the goals of the
national market system by ensuring that ATSs that meet the thresholds
are subject to the same baseline standards as other SCI entities for
systems capacity, integrity, resiliency, availability, and security.
    With respect to non-NMS stocks, municipal securities, and corporate
debt securities, the Commission is proposing to lower the current
thresholds in Rule 301(b)(6) of Regulation ATS. Specifically, the
Commission is proposing to reduce the standard from 20 percent to five
percent for these types of securities,\109\ the same percentage
threshold for such types of securities that triggers the fair access
provisions of Rule 301(b)(5) of Regulation ATS.\110\ The Commission
preliminarily believes that ATSs that trade non-NMS stocks, municipal
securities, and corporate debt securities above the proposed

thresholds are those that play a significant role in the market for
such securities and thus preliminarily believes that the proposed
thresholds are appropriately designed.
---------------------------------------------------------------------------

    \109\ See proposed Rule 1000(a). As discussed in this Section
III.B.1, the thresholds in proposed Rule 1000(a) would be based on
average daily dollar or transaction volume.
    \110\ See Rule 301(b)(5) of Regulation ATS under the Exchange
Act. 17 CFR 242.301(b)(5).
---------------------------------------------------------------------------

    With respect to non-NMS stocks for which transactions are reported
to a self-regulatory organization, the Commission proposes to lower the
threshold to five percent or more of the average daily dollar volume as
calculated by the self-regulatory organization to which such
transactions are reported. Using data from the first six months of
2012, the Commission believes that an ATS executing transactions in
non-NMS stocks at a level exceeding five percent of the average daily
dollar volume traded in the United States would be executing trades at
a level exceeding $31 million daily.\111\ Based on data collected from
Form ATS-R for the second quarter of 2012, the Commission estimates
that two ATSs would exceed this threshold and fall within the
definition of SCI entity. The Commission requests comment on the
accuracy of these estimates.
---------------------------------------------------------------------------

    \111\ Source: Data provided by OTC Markets.
---------------------------------------------------------------------------

    With respect to municipal securities and corporate debt securities,
the Commission proposes to lower the threshold to five percent or more
of either: (i) The average daily dollar volume \112\ traded in the
United States; or (ii) the average daily transaction volume traded in
the United States. The Commission preliminarily believes that this two-
pronged threshold is appropriate for the debt market, as it should
capture both ATSs that are focused on retail orders and facilitate a
relatively greater number of trades with relatively lower dollar
values, as well as those ATSs that are focused on institutional orders
and facilitate a relatively lower number of trades with relatively
greater dollar values. The Commission preliminarily believes that both
of these thresholds are important in identifying ATSs that play a
significant role in the debt markets for executing both retail- and
institutional-sized trades.\113\
---------------------------------------------------------------------------

    \112\ As with the proposed measures for ATSs that trade NMS
stocks or non-NMS stocks, the Commission is proposing to use average
daily dollar volume for debt securities, which the Commission
preliminarily believes is the measure most commonly used when
analyzing daily trading volume in the debt markets.
    \113\ Most corporate and municipal bond trades are small (i.e.,
less than $100,000), but small trades do not account for most of the
dollar volume in these markets. See, e.g., Edwards, Amy K., Harris,
Lawrence and Piwowar, Michael S., Corporate Bond Market Transaction
Costs and Transparency, Journal of Finance, Vol. 62, No. 3 (June
2007) and Lawrence E. Harris and Michael S. Piwowar, Secondary
Trading Costs in the Municipal Bond Market, J.FIN. (June 2006). An
ATS that specializes in large trades may account for a small portion
of the trades but a large portion of the dollar volume. Likewise, an
ATS that specializes in small trades may account for a small portion
of the dollar volume but a large portion of the trades. Therefore, a
systems disruption, systems compliance issue, or systems intrusion
in either of these ATS types could potentially disrupt a large
portion of the market.
    As the Commission stated in the ATS Release, ``many of the same
concerns about the trading of equity securities on alternative
trading systems apply equally to the trading of fixed income
securities on alternative trading systems. Specifically, it is
important that markets with significant portions of the volume in
particular instruments have adequate systems capacity, integrity,
and security, regardless of whether those instruments are equity
securities or debt securities. Similarly, as electronic systems for
debt grow, it will become increasingly important for the fair
operation of our markets for market participants to have fair access
to significant market centers in debt securities. One of the
consequences of the growing role of alternative trading systems in
the securities markets generally is that debt securities are
increasingly being traded on these systems, similar to the way
equity securities are traded.'' See ATS Release, supra note 2, at
70862.
---------------------------------------------------------------------------

    Using data from the first six months of 2012, the Commission
believes that an ATS executing transactions in municipal securities at
a level exceeding five percent of the average daily dollar volume
traded in the United States would be executing trades at a level of at
least approximately $550 million daily,\114\ and that an ATS executing
transactions in municipal securities at a level exceeding five percent
of the average daily transaction volume traded in the United States
would be executing an average of at least approximately 1,900
transactions daily.\115\ Based on data collected from Form ATS-R for
the second quarter of 2012, the Commission preliminarily believes that
currently no ATSs executing transactions in municipal securities would
exceed the proposed average daily dollar volume threshold and fall
within the definition of SCI entity pursuant to that proposed prong.
ATSs are not required to report transaction volume data for municipal
securities on Form ATS-R. However, based on discussions with industry
sources, the Commission preliminarily believes that three ATSs
executing transactions in municipal securities would likely exceed the
proposed average daily transaction volume threshold.\116\ The
Commission requests comment on the accuracy of these estimates.
---------------------------------------------------------------------------

    \114\ For the period of January 1, 2012 to June 30, 2012, the
average daily dollar volume of trades was over $11 billion. See
http://emma.msrb.org/marketactivity/ViewStatistics.aspx (accessed
January 30, 2013). Five percent of this amount is approximately $550
million.
    \115\ For the period of January 1, 2012 to June 30, 2012, the
average daily transaction volume was approximately 39,000. See
http://emma.msrb.org/marketactivity/ViewStatistics.aspx (accessed
January 30, 2013). Five percent of this amount is approximately
1,900 trades.
    \116\ See, e.g., the Commission's Report on the Municipal
Securities Market, supra note 96 at n.715. The Commission
preliminarily believes that the three ATSs that would likely exceed
the proposed average daily transaction volume threshold for
municipal securities are the same three ATSs that would likely
exceed the corresponding threshold for corporate debt securities.
See infra note 119.
---------------------------------------------------------------------------

    Using data from the first six months of 2012, the Commission
believes that an ATS executing transactions in corporate debt at a
level exceeding five percent of the average daily dollar volume traded
in the United States would be executing trades at a level of at least
approximately $900 million daily,\117\ and that an ATS executing
transactions in corporate debt at a level exceeding five percent of the
average daily transaction volume traded in the United States would be
executing an average of at least approximately 2,100 transactions
daily.\118\ Based on data collected from Form ATS-R for the second
quarter of 2012, the Commission preliminarily believes that currently
no ATSs executing transactions in corporate debt would exceed the
proposed average daily dollar volume threshold and fall within the
definition of SCI entity pursuant to that proposed prong. ATSs are not
required to report transaction volume data for corporate debt on Form
ATS-R. However, based on discussions with industry sources, the
Commission preliminarily believes that three ATSs executing
transactions in corporate debt would likely exceed the proposed average
daily transaction volume threshold.\119\ The Commission requests
comment on the accuracy of these estimates.
---------------------------------------------------------------------------

    \117\ For the period of January to June 2012, the average daily
dollar volume was approximately $18 billion. Five percent of this
amount is approximately $900 million. See U.S. Bond Market Trading
Volume, available at: http://www.sifma.org/research/statistics.aspx.
    \118\ Source: Corporate bond transactions reported to TRACE from
January through June 2012, excluding instruments subject to Rule
144A and April 6, 2012 (short trading day).
    \119\ As noted above, the Commission preliminarily believes that
the three ATSs that would likely exceed the proposed average daily
transaction volume threshold for corporate debt securities are the
same three ATSs that would likely exceed the corresponding threshold
for municipal securities. See supra note 116.
---------------------------------------------------------------------------

    The Commission is proposing these numerical thresholds as a
preliminary best estimate of when a market is of sufficient
significance to the trading of the relevant asset class (i.e., NMS
stocks, non-NMS stocks, municipal securities, and corporate debt
securities) as to warrant the protections and obligations of proposed
Regulation SCI. As noted

above,\120\ the numerical thresholds in the definition of SCI ATS have
not been derived from econometric or mathematical models. Instead, they
reflect a preliminary assessment by the Commission, based on
qualitative and some quantitative analysis, of the likely economic
consequences of the specific quantitative thresholds proposed to be
included in the definition. The Commission recognizes that there may
reasonably be differing views as to what the threshold levels for
inclusion should be and thus the Commission solicits comment on the
appropriateness of the proposed threshold levels.
---------------------------------------------------------------------------

    \120\ See supra note 99.
---------------------------------------------------------------------------

    The Commission recognizes that it is proposing numerically higher
thresholds for non-NMS stocks, municipal securities, and corporate debt
securities as compared to NMS stocks (five percent, as compared to one
percent in all NMS stocks). While the Commission preliminarily believes
that similar concerns about the trading of NMS stocks on ATSs apply to
the trading of non-NMS stocks and debt securities on ATSs (namely, that
markets with significant portions of the volume in particular
instruments have adequate systems capacity, integrity, resiliency,
availability, and security), the Commission notes that it has
traditionally provided special safeguards with regard to NMS stocks in
its rulemaking efforts relating to market structure.\121\
---------------------------------------------------------------------------

    \121\ See, e.g., Regulation NMS, 17 CFR 242.600-612; Securities
Exchange Act Release No. 51808 (June 9, 2005), 70 FR 27496 (June 29,
2005).
---------------------------------------------------------------------------

    Further, in part due to the greater availability of, and reliance
on, electronic trading for NMS stocks, the trading of such securities
is generally more accessible to a wider range of investors and has
resulted in increases in electronic trading volumes relative to 15
years ago, as compared to other markets, such as the debt markets,
which still largely rely on manual trading. Because the degree of
automation and electronic trading is generally lower in markets that
trade non-NMS stocks and debt securities than in the markets that trade
NMS stocks, the Commission preliminarily believes that a systems issue
at an SCI entity that trades non-NMS stocks or debt securities would
not have as significant an impact as readily as a systems issue at an
SCI entity that trades NMS stocks. Therefore, the Commission
preliminarily believes there is less need in the markets for those
securities for more stringent thresholds that would trigger the
requirements of proposed Regulation SCI.\122\ For example, the most
recent widely publicized issues involving systems problems and
disruptions in the securities markets have generally all been related
to NMS stocks.\123\ The Commission also believes that imposition of a
threshold that is set too low in markets that lack automation could
have the unintended effects of discouraging automation in these markets
and discouraging new entrants into these markets. For these reasons,
the Commission preliminarily believes that it is appropriate at this
time to apply a different threshold to ATSs trading NMS stocks than
those ATSs trading non-NMS stocks, municipal securities, and corporate
debt securities.
---------------------------------------------------------------------------

    \122\ See also discussion in infra Section V.C.3.c.
    \123\ See, e.g., supra notes 61-66 and accompanying text.
---------------------------------------------------------------------------

    Under Proposed Rule 1000(a), the term ``plan processor'' would have
the meaning set forth in Rule 600(b)(55) of Regulation NMS, which
defines ``plan processor'' as ``any self-regulatory organization or
securities information processor acting as an exclusive processor in
connection with the development, implementation and/or operation of any
facility contemplated by an effective national market system plan.''
\124\ As noted above, the ARP Inspection Program has developed to
include the systems of the plan processors of the four current SCI
Plans.\125\ Any entity selected as the processor of an SCI Plan is
responsible for operating and maintaining computer and communications
facilities for the receipt, processing, validating, and dissemination
of quotation and/or last sale price information generated by the
members of such plan.\126\ Although an entity selected as the processor
of an SCI Plan acts on behalf of a committee of SROs, such entity is
not required to be an SRO, nor is it required to be owned or operated
by an SRO.\127\ The Commission believes, however, that the systems of
such entities, because they deal with key market data, form the ``heart
of the national market system,'' \128\ and should be subject to the
same systems standards as SCI SROs, and proposes to include ``plan
processors'' in the definition of SCI entity.\129\
---------------------------------------------------------------------------

    \124\ See 17 CFR 242.600(b)(55).
    \125\ See supra note 87, defining the term ``SCI Plan'' and
discussing plan processors.
    \126\ See, e.g., CTA Plan Section V(d) and CQS Plan Section
V(d), available at: http://www.nyxdata.com/cta; see also OPRA Plan,
Section V, available at: http://www.opradata.com/pdf/opra_plan.pdf;
and Nasdaq UTP Plan Section IV, available at: http://www.utpplan.com.
    \127\ Pursuant to Section 11A of the Exchange Act (15 U.S.C.
78k-1), and Rule 609 of Regulation NMS thereunder (17 CFR 242.609),
such entities, as ``exclusive processors,'' are required to register
with the Commission as securities information processors on Form
SIP. See 17 CFR 249.1001 (Form SIP, application for registration as
a securities information processor or to amend such an application
or registration).
    \128\ See Concept Release on Equity Market Structure, supra note
42, at 3600 (quoting H.R. Rep. No. 94-229, 94th Cong., 1st Sess. 93
(1975)).
    \129\ See supra note 87.
---------------------------------------------------------------------------

    Pursuant to its terms, each SCI Plan is required to periodically
review its selection of its processor, and may in the future select a
different processor for the SCI Plan than its current processor.\130\
The proposed inclusion of ``plan processors'' in the definition of SCI
entity is designed to ensure that the processor for an SCI Plan,
regardless of its identity, is independently subject to the
requirements of proposed Regulation SCI. Thus, the proposed definition
would cover any entity selected as the processor for a current or
future SCI Plan.\131\ The Commission preliminarily believes that it is
important for such plan processors to be subject to the requirements of
proposed Regulation SCI because of the important role they serve in the
national market system: Operating and maintaining computer and
communications facilities for the receipt, processing, validating, and
dissemination of quotation and/or last sale price information generated
by the members of the plan.\132\
---------------------------------------------------------------------------

    \130\ See CTA Plan Section V(d) and CQS Plan Section V(d),
available at: http://www.nyxdata.com/cta; OPRA Plan Section V,
available at: http://www.opradata.com/pdf/opra_plan.pdf; and Nasdaq
UTP Plan Section V, available at: http://www.utpplan.com.
    \131\ Currently, the Securities Industry Automation Corporation
(``SIAC'') is the processor for the CTA Plan, CQS Plan, and OPRA
Plan and Nasdaq is the processor for the Nasdaq UTP Plan. SIAC is
wholly owned by NYSE Euronext. Both SIAC and Nasdaq are registered
with the Commission as securities information processors, as
required by Section 11A(b)(1) of the Exchange Act, 15 U.S.C. 78k-
1(b)(1), and in accordance with Rule 609 of Regulation NMS
thereunder, 17 CFR 242.609. The Commission preliminarily believes
that the proposed definition of plan processor also would include
any entity selected and acting as exclusive processor of a future
NMS plan, such as that contemplated by the Commission's rules to
create a consolidated audit trail. See Securities Exchange Act No.
67457 (July 18, 2012), 77 FR 45722 (August 1, 2012) (``Consolidated
Audit Trail Adopting Release'').
    \132\ See supra note 126 and accompanying text.
---------------------------------------------------------------------------

    Under proposed Rule 1000(a), the term ``exempt clearing agency
subject to ARP'' would mean ``an entity that has received from the
Commission an exemption from registration as a clearing agency under
Section 17A of the Act, and whose exemption contains conditions that
relate to the Commission's Automation Review Policies, or any
Commission regulation that supersedes or replaces such policies.'' This
proposed definition of

``exempt clearing agency subject to ARP'' presently would apply to one
entity, Global Joint Venture Matching Services--US, LLC
(``Omgeo'').\133\
---------------------------------------------------------------------------

    \133\ On April 17, 2001, the Commission issued an order granting
Omgeo an exemption from registration as a clearing agency subject to
certain conditions and limitations in order that Omgeo might offer
electronic trade confirmation and central matching services. See
Global Joint Venture Matching Services--US, LLC; Order Granting
Exemption from Registration as a Clearing Agency, Securities
Exchange Act Release No. 44188 (April 17, 2001), 66 FR 20494 (April
23, 2001) (File No. 600-32) (``Omgeo Exemption Order''). Because the
Commission granted it an exemption from clearing agency
registration, Omgeo is not a self-regulatory organization. See id.
at 20498, n.41.
---------------------------------------------------------------------------

    Among the operational conditions required by the Commission in the
Omgeo Exemption Order were several that directly related to the ARP
policy statements.\134\ For the same reasons that it required Omgeo to
abide by the conditions relating to the ARP policy statements set forth
in the Omgeo Exemption Order, the Commission preliminarily believes it
would be appropriate that Omgeo (or any similarly situated exempt
clearing agency) should be subject to the requirements of proposed
Regulation SCI, and thus is proposing to include any ``exempt clearing
agency subject to ARP'' as explained above, within the definition of
SCI entity.\135\
---------------------------------------------------------------------------

    \134\ These conditions required Omgeo to, among other things:
Provide the Commission with an audit report addressing all areas
discussed in the Commission ARP policy statements; provide annual
reports prepared by competent, independent audit personnel in
accordance with the annual risk assessment of the areas set forth in
the ARP policy statements; report all significant systems outages to
the Commission; provide advance notice of any material changes made
to its electronic trade confirmation and central matching services;
and respond and require its service providers to respond to requests
from the Commission for additional information relating to its
electronic trade confirmation and central matching services, and
provide access to the Commission to conduct inspections of its
facilities, records and personnel related to such services. See id.
    \135\ In the Omgeo Exemption Order, the Commission stated that,
``[b]ecause these conditions are designed to promote
interoperability, the Commission intends to require substantially
the same conditions of other Central Matching Services that obtain
an exemption from registration as a clearing agency.'' See id.
---------------------------------------------------------------------------

Request for Comment
    1. The Commission requests comment generally on the proposed
definition of SCI entity and its constituent parts. Do commenters
believe that entities of the type that would satisfy the proposed
definition of SCI entity play significant roles in the U.S. securities
markets such that they should be subject to proposed Regulation SCI?
Why or why not?
    2. Do commenters believe the scope of the proposed definition of
SCI SRO is appropriate? Does the proposed definition of SCI SRO include
types of entities that should not be subject to the proposed
requirements, or exclude types of entities that should be subject to
the proposed requirements? If so, please identify such types of
entities and explain why they should or should not be included in the
definition of SCI entity or SCI SRO. Should the definition of ``SCI
self-regulatory organization'' include exchanges notice-registered with
the Commission pursuant to 15 U.S.C. 78f(g) or a limited purpose
national securities association registered with the Commission pursuant
to 15 U.S.C. 78o-3(k)? Do commenters believe that it is appropriate to
defer to the CFTC regarding the systems compliance and integrity of
such entities? Why or why not?
    3. Do commenters believe that the proposed definition of ``SCI