[Federal Register Volume 80, Number 93 (Thursday, May 14, 2015)]
[Notices]
[Pages 27766-27781]
[FR Doc No: 2015-11588]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-74919; File No. SR-Phlx-2015-43]

Self-Regulatory Organizations; NASDAQ OMX PHLX LLC; Notice of
Filing and Immediate Effectiveness of Proposed Rule Change To Amend
Rule 1092

May 8, 2015.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'') \1\, and Rule 19b-4 thereunder,\2\ notice is hereby given
that, on May 8, 2015, NASDAQ OMX PHLX LLC (``Phlx'' or ``Exchange'')
filed with the Securities and Exchange Commission (``SEC'' or
``Commission'') the proposed rule change as described in Items I and II
below, which Items have been prepared by the Exchange. The Commission
is publishing this notice to solicit comments on the proposed rule
change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of the
Substance of the Proposed Rule Change

    The Exchange proposes to replace current Rule 1092 (``Current
Rule''), entitled ``Obvious Errors and Catastrophic Errors,'' with new
Rule 1092 (``Proposed Rule''), entitled ``Nullification and Adjustment
of Options Transactions including Obvious Errors.'' Rule 1092 relates
to the adjustment and nullification of electronic options transactions
that occur on the Exchange.\3\
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    \3\ Disputes regarding trades that occur on the options trading
floor are addressed by Rule 124.
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    The text of the proposed rule change is available on the Exchange's
Web site at http://nasdaqomxphlx.cchwallstreet.com/, at the principal
office of the Exchange, and at the Commission's Public Reference Room.

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

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

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

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

with long-standing principles in the options industry under which the
general policy is to adjust rather than nullify transactions. The
Exchange acknowledges that adjustment of transactions is contrary to
the operation of analogous rules applicable to the equities markets,
where erroneous transactions are typically nullified rather than
adjusted and where there is no distinction between the types of market
participants involved in a transaction. For the reasons set forth
below, the Exchange believes that the distinctions in market structure
between equities and options markets continue to support these
distinctions between the rules for handling obvious errors in the
equities and options markets. The Exchange also believes that the
Proposed Rule properly balances several competing concerns based on the
structure of the options markets.
    Various general structural differences between the options and
equities markets point toward the need for a different balancing of
risks for options market participants and are reflected in the Proposed
Rule. Option pricing is formulaic and is tied to the price of the
underlying stock, the volatility of the underlying security and other
factors. Because options market participants can generally create new
open interest in response to trading demand, as new open interest is
created, correlated trades in the underlying or related series are
generally also executed to hedge a market participant's risk. This
pairing of open interest with hedging interest differentiates the
options market specifically (and the derivatives markets broadly) from
the cash equities markets. In turn, the Exchange believes that the
hedging transactions engaged in by market participants necessitates
protection of transactions through adjustments rather than
nullifications when possible and otherwise appropriate.
    The options markets are also quote driven markets dependent on
liquidity providers to an even greater extent than equities markets. In
contrast to the approximately 7,000 different securities traded in the
U.S. equities markets each day, there are more than 500,000 unique,
regularly quoted option series. Given this breadth in options series
the options markets are more dependent on liquidity providers than
equities markets; such liquidity is provided most commonly by
registered market makers but also by other professional traders. With
the number of instruments in which registered market makers must quote
and the risk attendant with quoting so many products simultaneously,
the Exchange believes that those liquidity providers should be afforded
a greater level of protection. In particular, the Exchange believes
that liquidity providers should be allowed protection of their trades
given the fact that they typically engage in hedging activity to
protect them from significant financial risk to encourage continued
liquidity provision and maintenance of the quote-driven options
markets.
    In addition to the factors described above, there are other
fundamental differences between options and equities markets which lend
themselves to different treatment of different classes of participants
that are reflected in the Proposed Rule. For example, there is no trade
reporting facility in the options markets. Thus, all transactions must
occur on an options exchange. This leads to significantly greater
retail customer participation directly on exchanges than in the
equities markets, where a significant amount of retail customer
participation never reaches the Exchange but is instead executed in
off-exchange venues such as alternative trading systems, broker-dealer
market making desks and internalizers. In turn, because of such direct
retail customer participation, the exchanges have taken steps to afford
those retail customers--generally Priority Customers--more favorable
treatment in some circumstances.
Definitions
    The Exchange proposes to adopt various definitions that will be
used in the Proposed Rule, as described below.
    First, the Exchange proposes to adopt a definition of ``Customer,''
to make clear that this term would not include any broker-dealer or
professional.\4\ Although other portions of the Exchange's rules
address the capacity of market participants, including customers, the
proposed definition is consistent with such rules and the Exchange
believes it is important for all options exchanges to have the same
definition of Customer in the context of nullifying and adjusting
trades in order to have harmonized rules. As set forth in detail below,
orders on behalf of a Customer are in many cases treated differently
than non-Customer orders in light of the fact that Customers are not
necessarily immersed in the day-to-day trading of the markets, are less
likely to be watching trading activity in a particular option
throughout the day, and may have limited funds in their trading
accounts.
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    \4\ The term ``professional'' means any person or entity that
(i) is not a broker or dealer in securities, and (ii) places more
than 390 orders in listed options per day on average during a
calendar month for its own beneficial account(s). See Rule
1000(b)(14).
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    Second, the Exchange proposes to adopt definitions for both an
``erroneous sell transaction'' and an ``erroneous buy transaction.'' As
proposed, an erroneous sell transaction is one in which the price
received by the person selling the option is erroneously low, and an
erroneous buy transaction is one in which the price paid by the person
purchasing the option is erroneously high. This provision helps to
reduce the possibility that a party can intentionally submit an order
hoping for the market to move in their favor while knowing that the
transaction will be nullified or adjusted if the market does not. For
instance, when a market participant who is buying options in a
particular series sees an aggressively priced sell order posted on the
Exchange, and the buyer believes that the price of the options is such
that it might qualify for obvious error, the option buyer can trade
with the aggressively priced order, then wait to see which direction
the market moves. If the market moves in their direction, the buyer
keeps the trade and if it moves against them, the buyer calls the
Exchange hoping to get the trade adjusted or busted.
    Third, the Exchange proposes to define the term ``Official'' to
mean an ``Options Exchange Official'' as that term is currently defined
in Rule 1(w). Specifically, an Options Exchange Official is an Exchange
staff member or contract employee designated as such by the Chief
Regulatory Officer.
    Fourth, the Exchange proposes to adopt a new term, a ``Size
Adjustment Modifier,'' which would apply to individual transactions and
would modify the applicable adjustment for orders under certain
circumstances, as discussed in further detail below. As proposed, the
Size Adjustment Modifier will be applied to individual transactions as
follows:

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

    The Size Adjustment Modifier attempts to account for the additional
risk that the parties to the trade undertake for transactions that are
larger in scope. The Exchange believes that the Size Adjustment
Modifier creates additional incentives to prevent more impactful
Obvious Errors and it lessens the impact on the contra-party to an

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

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

    The Exchange notes that the values set forth above generally
represent a multiple of 3 times the bid/ask differential requirements
of other options exchanges, with certain rounding applied (e.g., $1.25
as proposed rather than $1.20).\6\ The Exchange believes that basing
the Wide Quote table on a multiple of the permissible bid/ask
differential rule provides a reasonable baseline for quotations that
are indeed so wide that they cannot be considered reliable for purposes
of determining Theoretical Price unless they have been consistently
wide. As described above, while the Exchange will determine Theoretical
Price when the bid/ask differential

equals or exceeds the amount set forth in the chart above and within
the previous 10 seconds there was a bid/ask differential smaller than
such amount, if a quote has been persistently wide for at least 10
seconds the Exchange will use such quote for purposes of Theoretical
Price. The Exchange believes that there should be a greater level of
protection afforded to market participants that enter the market when
there are liquidity gaps and price fluctuations. The Exchange does not
believe that a similar level of protection is warranted when market
participants choose to enter a market that is wide and has been
consistently wide for some time. The Exchange notes that it has
previously determined that, given the largely electronic nature of
today's markets, as little as one second (or less) is a long enough
time for market participants to receive, process and account for and
respond to new market information.\7\ While introducing this new
provision the Exchange believes it is being appropriately cautious by
selecting a time frame that is an order of magnitude above and beyond
what the Exchange has previously determined is sufficient for
information dissemination. The table above bases the wide quote
provision off of bid price in order to provide a relatively
straightforward beginning point for the analysis.
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    \6\ See, e.g., NYSE Arca Options Rule 6.37(b)(1).
    \7\ See, e.g., Rule 1080(c)(ii)(C), which requires certain
orders to be exposed for at least one second before they can be
executed; see also Securities Exchange Act Release No. 66306
(February 2, 2012), 77 FR 6608 (February 8, 2012) (SR-BX-2011-084)
(order granting approval of proposed rule change to reduce the
duration of the PIP from one second to one hundred milliseconds).
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    As an example, assume an option is quoted $3.00 by $6.00 with 50
contracts posted on each side of the market for an extended period of
time. If a market participant were to enter a market order to buy 20
contracts the Exchange believes that the buyer should have a reasonable
expectation of paying $6.00 for the contracts which they are buying.
This should be the case even if immediately after the purchase of those
options, the market conditions change and the same option is then
quoted at $3.75 by $4.25. Although the quote was wide according to the
table above at the time immediately prior to and the time of the
execution of the market order, it was also well established and well
known. The Exchange believes that an execution at the then prevailing
market price should not in and of itself constitute an erroneous trade.
Transactions at the Open
    Under the Proposed Rule, for a transaction occurring as part of the
Opening Process \8\ the Exchange will determine the Theoretical Price
where there is no NBB or NBO for the affected series just prior to the
erroneous transaction or if the bid/ask differential of the NBBO just
prior to the erroneous transaction is equal to or greater than the
Minimum Amount set forth in the chart proposed for the wide quote
provision described above. The Exchange believes that this discretion
is necessary because it is consistent with other scenarios in which the
Exchange will determine the Theoretical Price if there are no quotes or
no valid quotes for comparison purposes, including the wide quote
provision proposed by the Exchange as described above. If, however,
there are valid quotes and the bid/ask differential of the NBBO is less
than the Minimum Amount set forth in the chart proposed for the wide
quote provision described above, then the Exchange will use the NBB or
NBO just prior to the transaction as it would in any other normal
review scenario.
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    \8\ See Exchange Rule 1017 for a description of the Exchange's
Opening Process.
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    As an example of an erroneous transaction for which the NBBO is
wide at the open, assume the NBBO at the time of the opening
transaction is $1.00 x $5.00 and the opening transaction takes place at
$1.25. The Exchange would be responsible for determining the
Theoretical Price because the NBBO was wider than the applicable
minimum amount set forth in the wide quote provision as described
above. The Exchange believes that it is necessary to determine
theoretical price at the open in the event of a wide quote at the open
for the same reason that the Exchange has proposed to determine
theoretical price during the remainder of the trading day pursuant to
the proposed wide quote provision, namely that a wide quote cannot be
reliably used to determine Theoretical Price because the Exchange does
not know which of the two quotes, the NBB or the NBO, is closer to the
real value of the option.
Obvious Errors
    The Exchange proposes to adopt numerical thresholds that would
qualify transactions as ``Obvious Errors.'' These thresholds are
similar to those in place under the Current Rule. As proposed, a
transaction will qualify as an Obvious Error if the Exchange receives a
properly submitted filing and the execution price of a transaction is
higher or lower than the Theoretical Price for the series by an amount
equal to at least the amount shown below:

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

    Applying the Theoretical Price, as described above, to determine
the applicable threshold and comparing the Theoretical Price to the
actual execution price provides the Exchange with an objective
methodology to determine whether an Obvious Error occurred. The
Exchange believes that the proposed amounts are reasonable as they are
generally consistent with the standards of the Current Rule and reflect
a significant disparity from Theoretical Price. The Exchange notes that
the Minimum Amounts in the Proposed Rule and as set forth above are
identical to the Current Rule except for the last two categories, for
options where the Theoretical Price is above $50.00 to $100.00 and
above $100.00. The Exchange believes that this additional granularity
is reasonable because given the proliferation of additional strikes
that have been created in the past several years there are many more
high-priced options that are trading with open interest for extended
periods. The Exchange believes that it is appropriate to account for
these high-priced options with additional Minimum Amount levels for
options with Theoretical Prices above $50.00.
    Under the Proposed Rule, a party that believes that it participated
in a transaction that was the result of an Obvious Error must notify an
Official in the manner specified from time to time by the Exchange in a
notice distributed to members and member organizations. The Exchange
currently requires electronic notification through a web-based
application but believes that maintaining flexibility in the Rule is
important to allow for changes to the process.
    The Exchange also proposes to adopt notification timeframes that
must be met in order for a transaction to qualify as an Obvious Error.
Specifically, as proposed a filing must be received by the Exchange
within thirty (30) minutes of the execution with respect to an
execution of a Customer order and within fifteen (15) minutes of the
execution for any other participant. The Exchange also proposes to
provide additional time for trades that are routed

through other options exchanges to the Exchange. Under the Proposed
Rule, any other options exchange will have a total of forty-five (45)
minutes for Customer orders and thirty (30) minutes for non-Customer
orders, measured from the time of execution on the Exchange, to file
with the Exchange for review of transactions routed to the Exchange
from that options exchange and executed on the Exchange (``linkage
trades''). This includes filings on behalf of another options exchange
filed by a third-party routing broker if such third-party broker
identifies the affected transactions as linkage trades. In order to
facilitate timely reviews of linkage trades the Exchange will accept
filings from either the other options exchange or, if applicable, the
third-party routing broker that routed the applicable order(s). The
additional fifteen (15) minutes provided with respect to linkage trades
shall only apply to the extent the options exchange that originally
received and routed the order to the Exchange itself received a timely
filing from the entering participant (i.e., within 30 minutes if a
Customer order or 15 minutes if a non-Customer order). The Exchange
believes that additional time for filings related to Customer orders is
appropriate in light of the fact that Customers are not necessarily
immersed in the day-to-day trading of the markets and are less likely
to be watching trading activity in a particular option throughout the
day. The Exchange believes that the additional time afforded to linkage
trades is appropriate given the interconnected nature of the markets
today and the practical difficulty that an end user may face in getting
requests for review filed in a timely fashion when the transaction
originated at a different exchange than where the error took place.
Without this additional time the Exchange believes it would be common
for a market participant to satisfy the filing deadline at the original
exchange to which an order was routed but that requests for review of
executions from orders routed to other options exchanges would not
qualify for review as potential Obvious Errors by the time filings were
received by such other options exchanges, in turn leading to
potentially disparate results under the applicable rules of options
exchanges to which the orders were routed.
    Pursuant to the Proposed Rule, an Exchange Officer may review a
transaction believed to be erroneous on his/her own motion in the
interest of maintaining a fair and orderly market and for the
protection of investors. This proposed provision is designed to give an
Exchange Officer the ability to provide parties relief in those
situations where they have failed to report an apparent error within
the established notification period. A transaction reviewed pursuant to
the proposed provision may be nullified or adjusted only if it is
determined by the Exchange Officer that the transaction is erroneous in
accordance with the provisions of the Proposed Rule, provided that the
time deadlines for filing a request for review described above shall
not apply. The Proposed Rule would require the Exchange Officer to act
as soon as possible after becoming aware of the transaction; action by
the Exchange Officer would ordinarily be expected on the same day that
the transaction occurred. However, because a transaction under review
may have occurred near the close of trading or due to unusual
circumstances, the Proposed Rule provides that the Exchange Officer
shall act no later than 8:30 a.m. Eastern Time on the next trading day
following the date of the transaction in question.
    The Exchange also proposes to state that a party affected by a
determination to nullify or adjust a transaction after an Exchange
Officer's review on his or her own motion may appeal such determination
in accordance with paragraph (k), which is described below. The
Proposed Rule would make clear that a determination by an Exchange
Officer not to review a transaction or determination not to nullify or
adjust a transaction for which a review was conducted on an Exchange
Officer's own motion is not appealable and further that if a
transaction is reviewed and a determination is rendered pursuant to
another provision of the Proposed Rule, no additional relief may be
granted by an Exchange Officer.
    If it is determined that an Obvious Error has occurred based on the
objective numeric criteria and time deadlines described above, the
Exchange will adjust or nullify the transaction as described below and
promptly notify both parties to the trade electronically or via
telephone. The Exchange proposes different adjustment and nullification
criteria for Customers and non-Customers.
    As proposed, where neither party to the transaction is a Customer,
the execution price of the transaction will be adjusted by the Official
pursuant to the table below.

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

The Exchange believes that it is appropriate to adjust to prices a
specified amount away from Theoretical Price rather than to adjust to
Theoretical Price because even though the Exchange has determined a
given trade to be erroneous in nature, the parties in question should
have had some expectation of execution at the price or prices
submitted. Also, it is common that by the time it is determined that an
obvious error has occurred additional hedging and trading activity has
already occurred based on the executions that previously happened. The
Exchange is concerned that an adjustment to Theoretical Price in all
cases would not appropriately incentivize market participants to
maintain appropriate controls to avoid potential errors.
    Further, as proposed any non-Customer Obvious Error exceeding 50
contracts will be subject to the Size Adjustment Modifier described
above. The Exchange believes that it is appropriate to apply the Size
Adjustment Modifier to non-Customer orders because the hedging cost
associated with trading larger sized options orders and the market
impact of larger blocks of underlying can be significant.
    As an example of the application of the Size Adjustment Modifier,
assume Exchange A has a quoted bid to buy 50 contracts at $2.50,
Exchange B has a quoted bid to buy 100 contracts at $2.05 and there is
no other options exchange quoting a bid priced higher than $2.00.
Assume that the NBBO is $2.50 by $3.00. Finally, assume that all orders
quoted and submitted to Exchange B in connection with this example are
non-Customer orders.
     Assume Exchange A's quoted bid at $2.50 is either executed
or cancelled.

     Assume Exchange B immediately thereafter receives an
incoming market order to sell 100 contracts.
     The incoming order would be executed against Exchange B's
resting bid at $2.05 for 100 contracts.
     Because the 100 contract execution of the incoming sell
order was priced at $2.05, which is $0.45 below the Theoretical Price
of $2.50, the 100 contract execution would qualify for adjustment as an
Obvious Error.
     The normal adjustment process would adjust the execution
of the 100 contracts to $2.35 per contract, which is the Theoretical
Price minus $0.15.
     However, because the execution would qualify for the Size
Adjustment Modifier of 2 times the adjustment price, the adjusted
transaction would instead be to $2.20 per contract, which is the
Theoretical Price minus $0.30.
    By reference to the example above, the Exchange reiterates that it
believes that a Size Adjustment Modifier is appropriate, as the buyer
in this example was originally willing to buy 100 contracts at $2.05
and ended up paying $2.20 per contract for such execution. Without the
Size Adjustment Modifier the buyer would have paid $2.35 per contract.
Such buyer may be advantaged by the trade if the Theoretical Price is
indeed closer to $2.50 per contract, however the buyer may not have
wanted to buy so many contracts at a higher price and does incur
increasing cost and risk due to the additional size of their quote.
Thus, the proposed rule is attempting to strike a balance between
various competing objectives, including recognition of cost and risk
incurred in quoting larger size and incentivizing market participants
to maintain appropriate controls to avoid errors.
    In contrast to non-Customer orders, where trades will be adjusted
if they qualify as Obvious Errors, pursuant the Proposed Rule a trade
that qualifies as an Obvious Error will be nullified where at least one
party to the Obvious Error is a Customer. The Exchange also proposes,
however, that if any member or member organization submits requests to
the Exchange for review of transactions pursuant to the Proposed Rule,
and in aggregate that member or member organization has 200 or more
Customer transactions under review concurrently and the orders
resulting in such transactions were submitted during the course of 2
minutes or less, where at least one party to the Obvious Error is a
non-Customer, the Exchange will apply the non-Customer adjustment
criteria described above to such transactions. The Exchange based its
proposal of 200 transactions on the fact that the proposed level is
reasonable as it is representative of an extremely large number of
orders submitted to the Exchange that are, in turn, possibly erroneous.
Similarly, the Exchange based its proposal of orders received in 2
minutes or less on the fact that this is a very short amount of time
under which one member or member organization could generate multiple
erroneous transactions. In order for a participant to have more than
200 transactions under review concurrently when the orders triggering
such transactions were received in 2 minutes or less, the market
participant will have far exceeded the normal behavior of customers
deserving protected status.\9\ While the Exchange continues to believe
that it is appropriate to nullify transactions in such a circumstance
if both participants to a transaction are Customers, the Exchange does
not believe it is appropriate to place the overall risk of a
significant number of trade breaks on non-Customers that in the normal
course of business may have engaged in additional hedging activity or
trading activity based on such transactions. Thus, the Exchange
believes it is necessary and appropriate to protect non-Customers in
such a circumstance by applying the non-Customer adjustment criteria,
and thus adjusting transactions as set forth above, in the event a
member or member organization has more than 200 transactions under
review concurrently.
---------------------------------------------------------------------------

    \9\ The Exchange notes that in the third quarter of this year
across all options exchanges the average number of valid Customer
orders received and executed was less than 38 valid orders every two
minutes. The number of obvious errors resulting from valid orders
is, of course, a very small fraction of such orders.
---------------------------------------------------------------------------

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

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

    Based on industry feedback on the Catastrophic Error thresholds set
forth under the Current Rule, the thresholds proposed as set forth
above are more granular and lower (i.e., more likely to qualify) than
the thresholds under the Current Rule. As noted above, under the
Proposed Rule as well as the Current Rule, parties have additional time
to submit transactions for review as Catastrophic Errors. As proposed,
notification requesting review must be received by an Official by 8:30
a.m. Eastern Time on the first trading day following the execution. For
transactions in an expiring options series that take place on an
expiration day, a party must notify an Official within 45 minutes after
the close of trading that same day. As is true for requests for review
under the Obvious Error provision of the Proposed Rule, a party
requesting review of a transaction as a Catastrophic Error must notify
an Official in the manner specified from time to time by the Exchange
in a notice distributed to members and member organizations. By
definition, any execution that qualifies as a Catastrophic Error is
also an Obvious Error. However, the Exchange believes it is appropriate
to maintain these two types of errors because the Catastrophic Error
provisions provide market participants with a longer notification
period under which they may file a request for review with the Exchange
of a potential Catastrophic Error than a potential Obvious Error. This
provides an additional level of protection for transactions that are
severely erroneous even in the event a participant does not submit a
request for review in a timely fashion.
    The Proposed Rule would specify the action to be taken by the
Exchange if it is determined that a Catastrophic Error has occurred, as
described below, and would require the Exchange to promptly notify both
parties to the trade electronically or via telephone. In the event of a
Catastrophic Error, the execution price of the transaction will be
adjusted by an Official pursuant to the table below.

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

    Although Customer orders would be adjusted in the same manner as
non-Customer orders, any Customer order that qualifies as a
Catastrophic Error will be nullified if the adjustment would result in
an execution price higher (for buy transactions) or lower (for sell
transactions) than the Customer's limit price. Based on industry
feedback, the levels proposed above with respect to adjustment amounts
are the same levels as the thresholds at which a transaction may be
deemed a Catastrophic Error pursuant to the chart set forth above.
    As is true for Obvious Errors as described above, the Exchange
believes that it is appropriate to adjust to prices a specified amount
away from Theoretical Price rather than to adjust to Theoretical Price
because even though the Exchange has determined a given trade to be
erroneous in nature, the parties in question should have had some
expectation of execution at the price or prices submitted. Also, it is
common that by the time it is determined that a Catastrophic Error has
occurred additional hedging and trading activity has already occurred
based on the executions that previously happened. The Exchange is
concerned that an adjustment to Theoretical Price in all cases would
not appropriately incentivize market participants to maintain
appropriate controls to avoid potential errors. Further, the Exchange
believes it is appropriate to maintain a higher adjustment level for
Catastrophic Errors than Obvious Errors given the significant
additional time that can potentially pass before an adjustment is
requested and applied and the amount of hedging and trading activity
that can occur based on the executions at issue during such time. For
the same reasons, other than honoring the limit prices established for
Customer orders, the Exchange has proposed to treat all market
participants the same in the context of the Catastrophic Error
provision. Specifically, the Exchange believes that treating market
participants the same in this context will provide additional certainty
to market participants with respect to their potential exposure and
hedging activities, including comfort that even if a transaction is
later adjusted (i.e., past the standard time limit for filing under the
Obvious Error provision), such transaction will not be fully nullified.
However, as noted above, under the Proposed Rule where at least one
party to the transaction is a Customer, the trade will be nullified if
the adjustment would result in an execution price higher (for buy
transactions) or lower (for sell transactions) than the Customer's
limit price. The Exchange has retained the protection of a Customer's
limit price in order to avoid a situation where the adjustment could be
to a price that the Customer could not afford, which is less likely to
be an issue for a market professional.
Significant Market Events
    In order to improve consistency for market participants in the case
of a widespread market event and in light of the interconnected nature
of the options exchanges, the Exchange proposes to adopt a new
provision that calls for coordination between the options exchanges in
certain circumstances and provides limited flexibility in the
application of other provisions of the Proposed Rule in order to
promptly respond to a widespread market event.\10\ The Exchange
proposes to describe such an event as a Significant Market Event, and
to set forth certain objective criteria that will determine whether
such an event has occurred. The Exchange developed these objective
criteria in consultation with the other options exchanges by reference
to historical patterns and events with a goal of setting thresholds
that very rarely will be triggered so as to limit the application of
the provision to truly significant market events. As proposed, a
Significant Market Event will be deemed to have occurred when proposed
criterion (A) below is met or exceeded or the sum of all applicable
event statistics, where each is expressed as a percentage of the
relevant threshold in criteria (A) through (D) below, is greater than
or equal to 150% and 75% or more of at least one category is reached,
provided that no single category can contribute more than 100% to the
sum. All criteria set forth below will be measured in aggregate across
all exchanges.
---------------------------------------------------------------------------

    \10\ Although the Exchange has proposed a specific provision
related to coordination amongst options exchanges in the context of
a widespread event, the Exchange does not believe that the
Significant Market Event provision or any other provision of the
proposed rule alters the Exchange's ability to coordinate with other
options exchanges in the normal course of business with respect to
market events or activity. The Exchange does already coordinate with
other options exchanges to the extent possible if such coordination
is necessary to maintain a fair and orderly market and/or to fulfill
the Exchange's duties as a self-regulatory organization.
---------------------------------------------------------------------------

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

    (A) Transactions that are potentially erroneous would result in
a total Worst-Case Adjustment Penalty of $30,000,000, where the
Worst-Case Adjustment Penalty is computed as the sum, across all
potentially erroneous trades, of: (i) $0.30 (i.e., the largest
Transaction Adjustment value listed in sub-paragraph (e)(3)(A)
below); times; (ii) the contract multiplier for each traded
contract; times (iii) the number of contracts for each trade; times
(iv) the appropriate Size Adjustment Modifier for each trade, if
any, as defined in sub-paragraph (e)(3)(A) below;
    (B) Transactions involving 500,000 options contracts are
potentially erroneous;
    (C) Transactions with a notional value (i.e., number of
contracts traded multiplied by the option premium multiplied by the
contract multiplier) of $100,000,000 are potentially erroneous;
    (D) 10,000 transactions are potentially erroneous.

    As described above, the Exchange proposes to adopt a the Worst Case
Adjustment Penalty, proposed as criterion (A), which is the only
criterion that can on its own result in an event being designated as a
significant market event. The Worst Case Adjustment Penalty is intended
to develop an objective criterion that can be quickly determined by the
Exchange in consultation with other options exchanges that approximates
the total overall exposure to market participants on the negatively
impacted side of each transaction that occurs during an event. If the
Worst Case Adjustment criterion

equals or exceeds $30,000,000, then an event is a Significant Market
Event. As an example of the Worst Case Adjustment Penalty, assume that
a single potentially erroneous transaction in an event is as follows:
Sale of 100 contracts of a standard option (i.e., an option with a 100
share multiplier). The highest potential adjustment penalty for this
single transaction would be $6,000, which would be calculated as $0.30
times 100 (contract multiplier) times 100 (number of contracts) times 2
(applicable Size Adjustment Modifier). The Exchange would calculate the
highest potential adjustment penalty for each of the potentially
erroneous transactions in the event and the Worst Case Adjustment
Penalty would be the sum of such penalties on the Exchange and all
other options exchanges with affected transactions.
    As described above, under the Proposed Rule if the Worst Case
Adjustment Penalty does not equal or exceed $30,000,000, then a
Significant Market Event has occurred if the sum of all applicable
event statistics (expressed as a percentage of the relevant
thresholds), is greater than or equal to 150% and 75% or more of at
least one category is reached. The Proposed Rule further provides that
no single category can contribute more than 100% to the sum. As an
example of the application of this provision, assume that in a given
event across all options exchanges that: (A) The Worst Case Adjustment
Penalty is $12,000,000 (40% of $30,000,000), (B) 300,000 options
contracts are potentially erroneous (60% of 500,000), (C) the notional
value of potentially erroneous transactions is $30,000,000 (30% of
$100,000,000), and (D) 12,000 transactions are potentially erroneous
(120% of 10,000). This event would qualify as a Significant Market
Event because the sum of all applicable event statistics would be 230%,
far exceeding the 150% threshold. The 230% sum is reached by adding
40%, 60%, 30% and last, 100% (i.e., rounded down from 120%) for the
number of transactions. The Exchange notes that no single category can
contribute more than 100% to the sum and any category contributing more
than 100% will be rounded down to 100%.
    As an alternative example, assume a large-scale event occurs
involving low-priced options with a small number of contracts in each
execution. Assume in this event across all options exchanges that: (A)
The Worst Case Adjustment Penalty is $600,000 (2% of $30,000,000), (B)
20,000 options contracts are potentially erroneous (4% of 500,000), (C)
the notional value of potentially erroneous transactions is $20,000,000
(20% of $100,000,000), and (D) 20,000 transactions are potentially
erroneous (200% of 10,000, but rounded down to 100%). This event would
not qualify as a Significant Market Event because the sum of all
applicable event statistics would be 126%, below the 150% threshold.
The Exchange reiterates that as proposed, even when a single category
other than criterion (A) is fully met, that does not necessarily
qualify an event as a Significant Market Event.
    The Exchange believes that the breadth and scope of the obvious
error rules are appropriate and sufficient for handling of typical and
common obvious errors. Coordination between and among the exchanges
should generally not be necessary even when a member or member
organization has an error that results in executions on more than one
exchange. In setting the thresholds above the Exchange believes that
the requirements will be met only when truly widespread and significant
errors happen and the benefits of coordination and information sharing
far outweigh the costs of the logistics of additional intra-exchange
coordination. The Exchange notes that in addition to its belief that
the proposed thresholds are sufficiently high, the Exchange has
proposed the requirement that either criterion (A) is met or the sum of
applicable event statistics for proposed (A) through (D) equals or
exceeds 150% in order to ensure that an event is sufficiently large but
also to avoid situations where an event is extremely large but just
misses potential qualifying thresholds. For instance, the proposal is
designed to help avoid a situation where the Worst Case Adjustment
Penalty is $15,000,000, so the event does not qualify based on
criterion (A) alone, but there are transactions in 490,000 options
contracts that are potentially erroneous (missing criterion (B) by
10,000 contracts), there transactions with a notional value of
$99,000,000 (missing criterion (C) by $1,000,000), and there are 9,000
potentially erroneous transactions overall (missing criterion (D) by
1,000 transactions). The Exchange believes that the proposed formula,
while slightly more complicated than simply requiring a certain
threshold to be met in each category, may help to avoid inapplicability
of the proposed provisions in the context of an event that would be
deemed significant by most subjective measures but that barely misses
each of the objective criteria proposed by the Exchange.
    To ensure consistent application across options exchanges, in the
event of a suspected Significant Market Event, the Exchange shall
initiate a coordinated review of potentially erroneous transactions
with all other affected options exchanges to determine the full scope
of the event. Under the Proposed Rule, the Exchange will promptly
coordinate with the other options exchanges to determine the
appropriate review period as well as select one or more specific points
in time prior to the transactions in question and use one or more
specific points in time to determine Theoretical Price. Other than the
selected points in time, if applicable, the Exchange will determine
Theoretical Price as described above. For example, around the start of
a Significant Market Event that is triggered by a large and
aggressively priced buy order, three exchanges have multiple orders on
the offer side of the market: Exchange A has offers priced at $2.20,
$2.25, $2.30 and several other price levels to $3.00, Exchange B has
offers at $2.45, $2.30 and several other price levels to $3.00,
Exchange C has offers at price levels between $2.50 and $3.00. Assume
an event occurs starting at 10:05:25 a.m. ET and in this particular
series the executions begin on Exchange A and subsequently begin to
occur on Exchanges B and C. Without coordination and information
sharing between the exchanges, Exchange B and Exchange C cannot know
with certainty that whether or not the execution at Exchange A that
happened at $2.20 immediately prior to their executions at $2.45 and
$2.50 is part of the same erroneous event or not. With proper
coordination, the exchanges can determine that in this series, the
proper point in time from which the event should be analyzed is
10:05:25 a.m. ET, and thus, the NBO of $2.20 should be used as the
Theoretical Price for purposes of all buy transactions in such options
series that occurred during the event.
    If it is determined that a Significant Market Event has occurred
then, using the parameters agreed with respect to the times from which
Theoretical Price will be calculated, if applicable, an Official will
determine whether any or all transactions under review qualify as
Obvious Errors. The Proposed Rule would require the Exchange to use the
criteria in Proposed Rule 20.6(c), as described above, to determine
whether an Obvious Error has occurred for each transaction that was
part of the Significant Market Event. Upon taking any final action, the
Exchange would be required to promptly notify both parties to the trade
electronically or via telephone.

    The execution price of each affected transaction will be adjusted
by an Official to the price provided below, unless both parties agree
to adjust the transaction to a different price or agree to bust the
trade.

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

    Thus, the proposed adjustment criteria for Significant Market
Events are identical to the proposed adjustment levels for Obvious
Errors generally. In addition, in the context of a Significant Market
Event, any error exceeding 50 contracts will be subject to the Size
Adjustment Modifier described above. Also, the adjustment criteria
would apply equally to all market participants (i.e., Customers and
non-Customers) in a Significant Market Event. However, as is true for
the proposal with respect to Catastrophic Errors, under the Proposed
Rule where at least one party to the transaction is a Customer, the
trade will be nullified if the adjustment would result in an execution
price higher (for buy transactions) or lower (for sell transactions)
than the Customer's limit price. The Exchange has retained the
protection of a Customer's limit price in order to avoid a situation
where the adjustment could be to a price that the Customer could not
afford, which is less likely to be an issue for a market professional.
The Exchange has otherwise proposed to treat all market participants
the same in the context of a Significant Market Event to provide
additional certainty to market participants with respect to their
potential exposure as soon as an event has occurred.
    Another significant distinction between the proposed Obvious Error
provision and the proposed Significant Market Event provision is that
if the Exchange, in consultation with other options exchanges,
determines that timely adjustment is not feasible due to the
extraordinary nature of the situation, then the Exchange will nullify
some or all transactions arising out of the Significant Market Event
during the review period selected by the Exchange and other options
exchanges. To the extent the Exchange, in consultation with other
options exchanges, determines to nullify less than all transactions
arising out of the Significant Market Event, those transactions subject
to nullification will be selected based upon objective criteria with a
view toward maintaining a fair and orderly market and the protection of
investors and the public interest. For example, assume a Significant
Market Event causes 25,000 potentially erroneous transactions and
impacts 51 options classes. Of the 25,000 transactions, 24,000 of them
are concentrated in a single options class. The exchanges may decide
the most appropriate solution because it will provide the most
certainty to participants and allow for the prompt resumption of
regular trading is to bust all trades in the most heavily affected
class between two specific points in time, while the other 1,000 trades
across the other 50 classes are reviewed and adjusted as appropriate. A
similar situation might arise directionally where a Customer submits
both erroneous buy and sell orders and the number of errors that
happened that were erroneously low priced (i.e., erroneous sell orders)
were 50,000 in number but the number of errors that were erroneously
high (i.e., erroneous buy orders) were only 500 in number. The most
effective and efficient approach that provides the most certainty to
the marketplace in a reasonable amount of time while most closely
following the generally prescribed obvious error rules could be to bust
all of the erroneous sell transactions but to adjust the erroneous buy
transactions.
    With respect to rulings made pursuant to the proposed Significant
Market Event provision the Exchange believes that the number of
affected transactions is such that immediate finality is necessary to
maintain a fair and orderly market and to protect investors and the
public interest. Accordingly, rulings by the Exchange pursuant to the
Significant Market Event provision would be non-appealable pursuant to
the Proposed Rule.
Additional Provisions
Mutual Agreement
    In addition to the objective criteria described above, the Proposed
Rule also proposes to make clear that the determination as to whether a
trade was executed at an erroneous price may be made by mutual
agreement of the affected parties to a particular transaction. The
Proposed Rule would state that a trade may be nullified or adjusted on
the terms that all parties to a particular transaction agree, provided,
however, that such agreement to nullify or adjust must be conveyed to
the Exchange in a manner prescribed by the Exchange prior to 8:30 a.m.
Eastern Time on the first trading day following the execution.
    The Exchange also proposes to explicitly state that it is
considered conduct inconsistent with just and equitable principles of
trade for any member or member organization to use the mutual
adjustment process to circumvent any applicable Exchange rule, the Act
or any of the rules and regulations thereunder. Thus, for instance, a
member or member organization is precluded from seeking to avoid
applicable trade-through rules by executing a transaction and then
adjusting such transaction to a price at which the Exchange would not
have allowed it to execute at the time of the execution because it
traded through the quotation of another options exchange. The Exchange
notes that in connection with its obligations as a self-regulatory
organization, the Exchange's Regulatory Department reviews adjustments
to transactions to detect potential violations of Exchange rules or the
Act and the rules and regulations thereunder.
Trading Halts
    Exchange Rule 1047 describes the Exchange's authority to declare
trading halts in one or more options traded on the Exchange. The
Exchange proposes to make clear in the Proposed Rule that it will
nullify any transaction that occurs during a trading halt in the
affected option. If any trades occur notwithstanding a trading halt
then the Exchange believes it appropriate to nullify such transactions.
While the Exchange may halt options trading for various reasons, such a
scenario almost certainly is due to extraordinary circumstances and is
potentially the result of market-wide coordination to halt options
trading or trading generally. Accordingly, the Exchange does not
believe it is appropriate to allow trades to stand if such trades
should not have occurred in the first place.
    The Exchange proposes to adopt Commentary .03 to Rule 1092.

Currently, Rule 1092(c)(iv) states that the Exchange will nullify any
transaction that occurs: (a) During a trading halt in the affected
option on the Exchange; (b) with respect to equity options (including
options overlying ETFs), during a trading halt on the primary listing
market for the underlying security; (c) respecting index options, the
trade occurred during a trading halt on the primary market in (1)
underlying securities representing more than 10 percent of the current
index value for stock index options, or (2) either component security
of an Alpha Index for Alpha Index options; or (d) respecting Treasury
security options, the trade occurred during a trading halt of the
underlying Treasury security instituted by the United States
Government. The Exchange proposes to relocate this provision to
Commentary .03.
Erroneous Print and Quotes in Underlying Security
    Market participants on the Exchange likely base the pricing of
their orders submitted to the Exchange on the price of the underlying
security for the option. Thus, the Exchange believes it is appropriate
to adopt provisions that allow adjustment or nullification of
transactions based on erroneous prints or erroneous quotes in the
underlying security.
    The Exchange proposes to adopt language in the Proposed Rule
stating that a trade resulting from an erroneous print(s) disseminated
by the underlying market that is later nullified by that underlying
market shall be adjusted or busted as set forth in the Obvious Error
provisions of the Proposed Rule, provided a party notifies an Official
in a timely manner, as further described below. The Exchange proposes
to define a trade resulting from an erroneous print(s) as any options
trade executed during a period of time for which one or more executions
in the underlying security are nullified and for one second thereafter.
The Exchange believes that one second is an appropriate amount of time
in which an options trade would be directly based on executions in the
underlying equity security. The Exchange also proposes to require that
if a party believes that it participated in an erroneous transaction
resulting from an erroneous print(s) pursuant to the proposed erroneous
print provision it must notify an Official within the timeframes set
forth in the Obvious Error provision described above. The Exchange has
also proposed to state that the allowed notification timeframe
commences at the time of notification by the underlying market(s) of
nullification of transactions in the underlying security. Further, the
Exchange proposes that if multiple underlying markets nullify trades in
the underlying security, the allowed notification timeframe will
commence at the time of the first market's notification.
    As an example of a situation in which a trade results from an
erroneous print disseminated by the underlying market that is later
nullified by the underlying market, assume that a given underlying is
trading in the $49.00-$50.00 price range then has an erroneous print at
$5.00. Given that there is the potential perception that the underlying
has gone through a dramatic price revaluation, numerous options trades
could promptly trigger based off of this new price. However, because
the price that triggered them was not a valid price it would be
appropriate to review said option trades when the underlying print that
triggered them is removed.
    The Exchange also proposes to add a provision stating that a trade
resulting from an erroneous quote(s) in the underlying security shall
be adjusted or busted as set forth in the Obvious Error provisions of
the Proposed Rule, provided a party notifies an Official in a timely
manner, as further described below. Pursuant to the Proposed Rule, an
erroneous quote occurs when the underlying security has a width of at
least $1.00 and has a width at least five times greater than the
average quote width for such underlying security during the time period
encompassing two minutes before and after the dissemination of such
quote. For purposes of the Proposed Rule, the average quote width will
be determined by adding the quote widths of sample quotations at
regular 15-second intervals during the four-minute time period
referenced above (excluding the quote(s) in question) and dividing by
the number of quotes during such time period (excluding the quote(s) in
question).\11\ Similar to the proposal with respect to erroneous prints
described above, if a party believes that it participated in an
erroneous transaction resulting from an erroneous quote(s) it must
notify an Official in accordance with the notification provisions of
the Obvious Error provision described above. The Proposed Rule,
therefore, puts the onus on each member or member organization to
notify the Exchange if such member or member organization believes that
a trade should be reviewed pursuant to either of the proposed
provisions, as the Exchange is not in position to determine the impact
of erroneous prints or quotes on individual members or member
organizations. The Exchange notes that it does not believe that
additional time is necessary with respect to a trade based on an
erroneous quote because a member or member organization has all
information necessary to detect the error at the time of an option
transaction that was triggered by an erroneous quote, which is in
contrast to the proposed erroneous print provision that includes a
dependency on an action by the market where the underlying security
traded.
---------------------------------------------------------------------------

    \11\ The Exchange has proposed the price and time parameters for
quote width and average quote width used to determine whether an
erroneous quote has occurred based on established rules of options
exchanges that currently apply such parameters. See e.g., CBOE Rule
6.25(a)(5); NYSE Arca Rule 6.87(a)(5). Based on discussions with
these exchanges, the Exchange believes that the parameters are a
reasonable approach to determine whether an erroneous quote has
occurred for purposes of the proposed rule.
---------------------------------------------------------------------------

    As an example of a situation in which a trade results from an
erroneous quote in the underlying security, assume again that a given
underlying is quoting and trading in the $49.00-$50.00 price range then
a liquidity gap occurs, with bidders not representing quotes in the
market place and an offer quoted at $5.00. Quoting may quickly return
to normal, again in the $49.00-$50.00 price range, but due to the
potential perception that the underlying has gone through a dramatic
price revaluation, numerous options trades could trigger based off of
this new quoted price in the interim. Because the price that triggered
such trades was not a valid price, it would be appropriate to review
said option trades.
Stop (and Stop-Limit) Order Trades Triggered by Erroneous Trades
    The Exchange notes that certain market participants and their
customers enter stop or stop limit orders that are triggered based on
executions in the marketplace. As proposed, transactions resulting from
the triggering of a stop or stop-limit order by an erroneous trade in
an option contract shall be nullified by the Exchange, provided a party
notifies an Official in a timely manner as set forth below. The
Exchange believes it is appropriate to nullify executions of stop or
stop-limit orders that were wrongly triggered because such transactions
should not have occurred. If a party believes that it participated in
an erroneous transaction pursuant to the Proposed Rule it must notify
an Official within the timeframes set forth in the Obvious Error Rule
above, with the allowed notification timeframe commencing at the time
of notification of the nullification of transaction(s) that triggered
the stop or stop-limit order.

Linkage Trades
    The Exchange also proposes to adopt language that clearly provides
the Exchange with authority to take necessary actions when another
options exchange nullifies or adjusts a transaction pursuant to its
respective rules and the transaction resulted from an order that has
passed through the Exchange and been routed on to another options
exchange on behalf of the Exchange. Specifically, if the Exchange
routes an order pursuant to the Options Order Protection and Locked/
Crossed Market Plan \12\ that results in a transaction on another
options exchange (a ``Linkage Trade'') and such options exchange
subsequently nullifies or adjusts the Linkage Trade pursuant to its
rules, the Exchange will perform all actions necessary to complete the
nullification or adjustment of the Linkage Trade. Although the Exchange
is not utilizing its own authority to nullify or adjust a transaction
related to an action taken on a Linkage Trade by another options
exchange, the Exchange does have to assist in the processing of the
adjustment or nullification of the order, such as notification to the
member or member organization and The Options Clearing Corporation
(``OCC'') of the adjustment or nullification. Thus, the Exchange
believes that the proposed provision adds additional transparency to
the Proposed Rule.
---------------------------------------------------------------------------

    \12\ See Rule 1083(n).
---------------------------------------------------------------------------

Verifiable Disruption or Malfunction of Exchange Systems
    The Exchange proposes to retain its provision regarding a
verifiable disruption or malfunction in Exchange systems, which appears
in subparagraphs (c)(ii)(A) and (B) of the Current Rule. Specifically,
parties to a trade may have a trade nullified or its price adjusted if
the trade resulted from a verifiable disruption or malfunction of an
Exchange execution, dissemination, or communication system that caused
a quote/order to trade in excess of its disseminated size (e.g. a
quote/order that is frozen, because of an Exchange system error, and
repeatedly traded). Similarly, parties to a trade may have a trade
nullified or its price adjusted if it resulted from a verifiable
disruption or malfunction of an Exchange dissemination or communication
system that prevented a member from updating or canceling a quote/order
for which the member is responsible where there is Exchange
documentation providing that the member sought to update or cancel the
quote/order.
Appeals
    The Exchange proposes to maintain its current appeals process
(currently in Rule 1092(g)) in connection with the Proposed Rule.
Specifically, if a party affected by a determination made under the
Proposed Rule so requests within the time permitted, the Market
Operations Review Committee will review decisions made under the
Proposed Rule in accordance with Exchange Rule 124(d). A request for
review under this paragraph must be made within 30 minutes after a
party receives verbal notification of a final determination by an
Official under this Rule, except that if such notification is made
after 3:30 p.m. Eastern Time, either party has until 9:30 a.m. Eastern
Time on the next trading day to request a review. Such a request for
review must be in writing or otherwise documented. The Market
Operations Review Committee shall review the facts and render a
decision on the day of the transaction, or the next trade day in the
case where a request is properly made after 3:30 p.m. on the day of the
transaction or where the request is properly made the next trade day.
In addition, the Exchange is proposing to harmonize with other
exchanges that any determination by an Official or the Market
Operations Review Committee shall be rendered without prejudice as to
the rights of the parties to the transaction to submit their dispute to
arbitration.\13\
---------------------------------------------------------------------------

    \13\ See e.g., The NASDAQ Options Market Rules, Chapter V,
Section 6(g)(iv).
---------------------------------------------------------------------------

    In order to maintain a diverse group of participants, the Market
Operations Review Committee will continue to consist of a number of
Member Representative members \14\ that is equal to at least 20 percent
of the total number of members of the Market Operations Review
Committee; no more than 50 percent of the members of the Market
Operations Review Committee shall be engaged in market making activity
or employed by a Member firm whose revenues from market making activity
exceed 10 percent of its total revenues.\15\ The Market Operations
Review Committee may continue to act as a panel with a minimum of three
Committee members, of which no more than 50% can be engaged in market
making activity or employed by an Exchange member organization whose
revenues from market making activity exceed ten percent of its total
revenues.\16\ To assure fairness, members of the Market Operations
Review Committee, like all members of Board Committees, are subject to
a conflict of interest prohibition.\17\
---------------------------------------------------------------------------

    \14\ A Member Representative Member is a member appointed by the
Board of Directors who has been elected or appointed after having
been nominated by the Member Nominating Committee pursuant to the
Exchange's By-Laws. See By-Law Article I, Section 1(x).
    \15\ See By-Law Article V, Section 5-3(d).
    \16\ See Rule 124(d)(i).
    \17\ See By-Law Article III, Section 3-4(a).
---------------------------------------------------------------------------

Complex Orders
    The Exchange is proposing to adopt Commentary .01 to the Proposed
Rule to provide for how the Exchange will treat Obvious and
Catastrophic Errors respecting complex order executions.\18\ The
Proposed Rule will be identical to the Current Rule.\19\ If both
parties to a trade that is one component of a complex order execution
are parties to all of the trades that together comprise the execution
of a complex order at a single net debit or credit, then if one of
those component trades can be nullified under this Rule 1092, all
component trades that were part of the same complex order shall be
nullified as well. This is intended to mitigate the risk to parties
using complex orders, where part or all of a complex order traded at an
erroneous price.\20\
---------------------------------------------------------------------------

    \18\ The process for complex order executions is governed by
Rule 1080.07.
    \19\ See Rule 1092(c)(v).
    \20\ See Securities Exchange Act Release No. 63692 (January 11,
2011), 76 FR 2940 (January 18, 2011).
---------------------------------------------------------------------------

No Adjustments to a Worse Price
    Finally, the Exchange proposes to include Commentary .02 to the
Proposed Rule, which would make clear that to the extent the provisions
of the proposed Rule would result in the Exchange applying an
adjustment of an erroneous sell transaction to a price lower than the
execution price or an erroneous buy transaction to a price higher than
the execution price, the Exchange will not adjust or nullify the
transaction, but rather, the execution price will stand.
Limit Up-Limit Down Plan
    The Exchange proposes to amend Rule 1047(f)(v) to reflect the
numbering and content of the Proposed Rule. It will then continue to
cover how the Exchange will treat Obvious and Catastrophic Errors in
response to the Regulation NMS Plan to Address Extraordinary Market
Volatility Pursuant to Rule 608 of Regulation NMS under the Act (the
``Limit Up-Limit Down Plan'' or the ``Plan),\21\ which is applicable to
all NMS stocks, as defined in Regulation NMS Rule 600(b)(47).\22\
---------------------------------------------------------------------------

    \21\ Securities Exchange Act Release No. 67091 (May 31, 2012),
77 FR 33498 (June 6, 2012).
    \22\ 17 CFR 242.600(b)(47).

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

Implementation Date
    In order to ensure that other options exchanges are able to adopt
rules consistent with this proposal and to coordinate the effectiveness
of such harmonized rules, the Exchange proposes to delay the operative
date of this proposal to May 8, 2015.
2. Statutory Basis
    The Exchange believes that its proposal is consistent with the
requirements of the Act and the rules and regulations thereunder that
are applicable to a national securities exchange, and, in particular,
with the requirements of Section 6(b) of the Act.\23\ Specifically, the
proposal is consistent with Section 6(b)(5) of the Act \24\ because it
would promote just and equitable principles of trade, remove
impediments to, and perfect the mechanism of, a free and open market
and a national market system, and, in general, protect investors and
the public interest.
---------------------------------------------------------------------------

    \23\ 15 U.S.C. 78f(b).
    \24\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------

    As described above, the Exchange and other options exchanges are
seeking to adopt harmonized rules related to the adjustment and
nullification of erroneous options transactions. The Exchange believes
that the Proposed Rule will provide greater transparency and clarity
with respect to the adjustment and nullification of erroneous options
transactions. Particularly, the proposed changes seek to achieve
consistent results for participants across U.S. options exchanges while
maintaining a fair and orderly market, protecting investors and
protecting the public interest. Based on the foregoing, the Exchange
believes that the proposal is consistent with Section 6(b)(5) of the
Act \25\ in that the Proposed Rule will foster cooperation and
coordination with persons engaged in regulating and facilitating
transactions.
---------------------------------------------------------------------------

    \25\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------

    The Exchange believes the various provisions allowing or dictating
adjustment rather than nullification of a trade are necessary given the
benefits of adjusting a trade price rather than nullifying the trade
completely. Because options trades are used to hedge, or are hedged by,
transactions in other markets, including securities and futures, many
members and member organizations, and their customers, would rather
adjust prices of executions rather than nullify the transactions and,
thus, lose a hedge altogether. As such, the Exchange believes it is in
the best interest of investors to allow for price adjustments as well
as nullifications. The Exchange further discusses specific aspects of
the Proposed Rule below.
    The Exchange does not believe that the proposal is unfairly
discriminatory, even though it differentiates in many places between
Customers and non-Customers. The rules of the options exchanges,
including the Exchange's existing Obvious Error provision, often treat
Customers differently, often affording them preferential treatment.
This treatment is appropriate in light of the fact that Customers are
not necessarily immersed in the day-to-day trading of the markets, are
less likely to be watching trading activity in a particular option
throughout the day, and may have limited funds in their trading
accounts. At the same time, the Exchange reiterates that in the U.S.
options markets generally there is significant retail customer
participation that occurs directly on (and only on) options exchanges
such as the Exchange. Accordingly, differentiating among market
participants with respect to the adjustment and nullification of
erroneous options transactions is not unfairly discriminatory because
it is reasonable and fair to provide Customers with additional
protections as compared to non-Customers.
    The Exchange believes that its proposal with respect to the
allowance of mutual agreed upon adjustments or nullifications is
appropriate and consistent with the Act, as such proposal removes
impediments to and perfects the mechanism of a free and open market and
a national market system, allowing participants to mutually agree to
correct erroneous transactions without the Exchange mandating the
outcome. The Exchange also believes that its proposal with respect to
mutual adjustments is consistent with the Act because it is designed to
prevent fraudulent and manipulative acts and practices by explicitly
stating that it is considered conduct inconsistent with just and
equitable principles of trade for any member or member organization to
use the mutual adjustment process to circumvent any applicable Exchange
rule, the Act or any of the rules and regulations thereunder.
    The Exchange believes its proposal to provide within the Proposed
Rule definitions of Customer, erroneous sell transaction and erroneous
buy transaction, and Official is consistent with Section 6(b)(5) of the
Act because such terms will provide more certainty to market
participants as to the meaning of the Proposed Rule and reduce the
possibility that a party can intentionally submit an order hoping for
the market to move in their favor in reliance on the Rule as a safety
mechanism, thereby promoting just and fair principles of trade.
Similarly, the Exchange believes that proposed Commentary .02 is
consistent with the Act as it would make clear that the Exchange will
not adjust or nullify a transaction, but rather, the execution price
will stand when the applicable adjustment criteria would actually
adjust the price of the transaction to a worse price (i.e., higher for
an erroneous buy or lower for an erroneous sell order).
    As set forth below, the Exchange believes it is consistent with
Section 6(b)(5) of the Act for the Exchange to determine Theoretical
Price when the NBBO cannot reasonably be relied upon because the
alternative could result in transactions that cannot be adjusted or
nullified even when they are otherwise clearly at a price that is
significantly away from the appropriate market for the option.
Similarly, reliance on an NBBO that is not reliable could result in
adjustment to prices that are still significantly away from the
appropriate market for the option.
    The Exchange believes that its proposal with respect to determining
Theoretical Price is consistent with the Act in that it has retained
the standard of the current rule, which is to rely on the NBBO to
determine Theoretical Price if such NBBO can reasonably be relied upon.
Because, however, there is not always an NBBO that can or should be
used in order to administer the rule, the Exchange has proposed various
provisions that provide the Exchange with the authority to determine a
Theoretical Price. The Exchange believes that the Proposed Rule is
transparent with respect to the circumstances under which the Exchange
will determine Theoretical Price, and has sought to limit such
circumstances as much as possible. The Exchange notes that Exchange
personnel currently are required to determine Theoretical Price in
certain circumstances. While the Exchange continues to pursue
alternative solutions that might further enhance the objectivity and
consistency of determining Theoretical Price, the Exchange believes
that the discretion currently afforded to Officials is appropriate in
the absence of a reliable NBBO that can be used to set the Theoretical
Price.
    With respect to the specific proposed provisions for determining
Theoretical Price for transactions that occur as part of the Exchange's
Opening Process and in situations where there is a wide quote, the
Exchange believes both provisions are consistent with the Act

because they provide objective criteria that will determine Theoretical
Price with limited exceptions for situations where the Exchange does
not believe the NBBO is a reasonable benchmark or there is no NBBO. The
Exchange notes in particular with respect to the wide quote provision
that the Proposed Rule will result in the Exchange determining
Theoretical Price less frequently than it would pursuant to wide quote
provisions that have previously been approved. The Exchange believes
that it is appropriate and consistent with the Act to afford
protections to market participants by not relying on the NBBO to
determine Theoretical Price when the quote is extremely wide but had
been, in the prior 10 seconds, at much more reasonable width. The
Exchange also believes it is appropriate and consistent with the Act to
use the NBBO to determine Theoretical Price when the quote has been
wider than the applicable amount for more than 10 seconds, as the
Exchange does not believe it is necessary to apply any other criteria
in such a circumstance. The Exchange believes that market participants
can easily use or adopt safeguards to prevent errors when such market
conditions exist. When entering an order into a market with a
persistently wide quote, the Exchange does not believe that the
entering party should reasonably expect anything other than the quoted
price of an option.
    The Exchange believes that its proposal to adopt clear but
disparate standards with respect to the deadline for submitting a
request for review of Customer and non-Customer transactions is
consistent with the Act, particularly in that it creates a greater
level of protection for Customers. As noted above, the Exchange
believes that this is appropriate and not unfairly discriminatory in
light of the fact that Customers are not necessarily immersed in the
day-to-day trading of the markets and are less likely to be watching
trading activity in a particular option throughout the day. Thus,
members or member organizations representing Customer orders reasonably
may need additional time to submit a request for review. The Exchange
also believes that its proposal to provide additional time for
submission of requests for review of linkage trades is reasonable and
consistent with the protection of investors and the public interest due
to the time that it might take an options exchange or third-party
routing broker to file a request for review with the Exchange if the
initial notification of an error is received by the originating options
exchange near the end of such options exchange's filing deadline.
Without this additional time, there could be disparate results based
purely on the existence of intermediaries and an interconnected market
structure.
    In relation to the aspect of the proposal giving Officials the
ability to review transactions for obvious errors on their own motion,
the Exchange notes that an Official can adjust or nullify a transaction
under the authority granted by this provision only if the transaction
meets the specific and objective criteria for an Obvious Error under
the Proposed Rule. As noted above, this is designed to give an Official
the ability to provide parties relief in those situations where they
have failed to report an apparent error within the established
notification period. However, the Exchange will only grant relief if
the transaction meets the requirements for an Obvious Error as
described in the Proposed Rule.
    The Exchange believes that its proposal to adjust non-Customer
transactions and to nullify Customer transactions that qualify as
Obvious Errors is appropriate for reasons consistent with those
described above. In particular, Customers are not necessarily immersed
in the day-to-day trading of the markets, are less likely to be
watching trading activity in a particular option throughout the day,
and may have limited funds in their trading accounts.
    The Exchange acknowledges that the proposal contains some
uncertainty regarding whether a trade will be adjusted or nullified,
depending on whether one of the parties is a Customer, because a party
may not know whether the other party to a transaction was a Customer at
the time of entering into the transaction. However, the Exchange
believes that the proposal nevertheless promotes just and equitable
principles of trade and protects investors as well as the public
interest because it eliminates the possibility that a Customer's order
will be adjusted to a significantly different price. As noted above,
the Exchange believes it is consistent with the Act to afford Customers
greater protections under the Proposed Rule than are afforded to non-
Customers. Thus, the Exchange believes that its proposal is consistent
with the Act in that it protects investors and the public interest by
providing additional protections to those that are less informed and
potentially less able to afford an adjustment of a transaction that was
executed in error. Customers are also less likely to have engaged in
significant hedging or other trading activity based on earlier
transactions, and thus, are less in need of maintaining a position at
an adjusted price than non-Customers.
    If any member or member organization submits requests to the
Exchange for review of transactions pursuant to the Proposed Rule, and
in aggregate that member or member organization has 200 or more
Customer transactions under review concurrently and the orders
resulting in such transactions were submitted during the course of 2
minutes or less, the Exchange believes it is appropriate for the
Exchange apply the non-Customer adjustment criteria described above to
such transactions. The Exchange believes that the proposed aggregation
is reasonable as it is representative of an extremely large number of
orders submitted to the Exchange over a relatively short period of time
that are, in turn, possibly erroneous (and within a time frame
significantly less than an entire day), and thus is most likely to
occur because of a systems issue experienced by a member or member
organization representing Customer orders or a systems issue coupled
with the erroneous marking of orders. The Exchange does not believe it
is possible at a level of 200 Customer orders over a 2 minute period
that are under review at one time that multiple, separate Customers
were responsible for the errors in the ordinary course of trading. In
the event of a large-scale issue caused by a member or member
organization that has submitted orders over a 2 minute period marked as
Customer that resulted in more than 200 transactions under review, the
Exchange does not believe it is appropriate to nullify all such
transactions because of the negative impact that nullification could
have on the market participants on the contra-side of such
transactions, who might have engaged in hedging and trading activity
following such transactions. In order for a participant to have more
than 200 transactions under review concurrently when the orders
triggering such transactions were received in 2 minutes or less, the
Exchange believes that a market participant will have far exceeded the
normal behavior of customers deserving protected status. While the
Exchange continues to believe that it is appropriate to nullify
transactions in such a circumstance if both participants to a
transaction are Customers, the Exchange does not believe it is
appropriate to place the overall risk of a significant number of trade
breaks on non-Customers that in the normal course of business may have
engaged in additional hedging activity or trading

activity based on such transactions. Thus, the Exchange believes it is
necessary and appropriate to protect non-Customers in such a
circumstance by applying the non-Customer adjustment criteria, and thus
adjusting transactions as set forth above, in the event a member or
member organization has more than 200 transactions under review
concurrently. In summary, due to the extreme level at which the
proposal is set, the Exchange believes that the proposal is consistent
with Section 6(b)(5) of the Act in that it promotes just and equitable
principles of trade by encouraging market participants to retain
appropriate controls over their systems to avoid submitting a large
number of erroneous orders in a short period of time.
    Similarly, the Exchange believes that the proposed Size Adjustment
Modifier, which would increase the adjustment amount for non-Customer
transactions, is appropriate because it attempts to account for the
additional risk that the parties to the trade undertake for
transactions that are larger in scope. The Exchange believes that the
Size Adjustment Modifier creates additional incentives to prevent more
impactful Obvious Errors and it lessens the impact on the contra-party
to an adjusted trade. The Exchange notes that these contra-parties may
have preferred to only trade the size involved in the transaction at
the price at which such trade occurred, and in trading larger size has
committed a greater level of capital and bears a larger hedge risk.
    The Exchange similarly believes that its Proposed Rule with respect
to Catastrophic Errors is consistent with the Act as it affords
additional time for market participants to file for review of erroneous
transactions that were further away from the Theoretical Price. At the
same time, the Exchange believes that the Proposed Rule is consistent
with the Act in that it generally would adjust transactions, including
Customer transactions, because this will protect against hedge risk,
particularly for transactions that may have occurred several hours
earlier and thus, which all parties to the transaction might presume
are protected from further modification. Similarly, by providing larger
adjustment amounts away from Theoretical Price than are set forth under
the Obvious Error provision, the Catastrophic Error provision also
takes into account the possibility that the party that was advantaged
by the erroneous transaction has already taken actions based on the
assumption that the transaction would stand. The Exchange believes it
is reasonable to specifically protect Customers from adjustments
through their limit prices for the reasons stated above, including that
Customers are less likely to be watching trading throughout the day and
that they may have less capital to afford an adjustment price. The
Exchange believes that the proposal provides a fair process that will
ensure that Customers are not forced to accept a trade that was
executed in violation of their limit order price. In contrast, market
professionals are more likely to have engaged in hedging or other
trading activity based on earlier trading activity, and thus, are more
likely to be willing to accept an adjustment rather than a
nullification to preserve their positions even if such adjustment is to
a price through their limit price.
    The Exchange believes that proposed rule change to adopt the
Significant Market Event provision is consistent with Section 6(b)(5)
of the Act in that it will foster cooperation and coordination with
persons engaged in regulating the options markets. In particular, the
Exchange believes it is important for options exchanges to coordinate
when there is a widespread and significant event, as commonly, multiple
options exchanges are impacted in such an event. Further, while the
Exchange recognizes that the Proposed Rule will not guarantee a
consistent result for all market participants on every market, the
Exchange does believe that it will assist in that outcome. For
instance, if options exchanges are able to agree as to the time from
which Theoretical Price should be determined and the period of time
that should be reviewed, the likely disparity between the Theoretical
Prices used by such exchanges should be very slight and, in turn, with
otherwise consistent rules, the results should be similar. The Exchange
also believes that the Proposed Rule is consistent with the Act in that
it generally would adjust transactions, including Customer
transactions, because this will protect against hedge risk,
particularly for liquidity providers that might have been quoting in
thousands or tens of thousands of different series and might have
affected executions throughout such quoted series. The Exchange
believes that when weighing the competing interests between preferring
a nullification for a Customer transaction and an adjustment for a
transaction of a market professional, while nullification is
appropriate in a typical one-off situation that it is necessary to
protect liquidity providers in a widespread market event because,
presumably, they will be the most affected by such an event (in
contrast to a Customer who, by virtue of their status as such, likely
would not have more than a small number of affected transactions). The
Exchange believes that the protection of liquidity providers by
favoring adjustments in the context of Significant Market Events can
also benefit Customers indirectly by better enabling liquidity
providers, which provides a cumulative benefit to the market. Also, as
stated above with respect to Catastrophic Errors, the Exchange believes
it is reasonable to specifically protect Customers from adjustments
through their limit prices for the reasons stated above, including that
Customers are less likely to be watching trading throughout the day and
that they may have less capital to afford an adjustment price. The
Exchange believes that the proposal provides a fair process that will
ensure that Customers are not forced to accept a trade that was
executed in violation of their limit order price. In contrast, market
professionals are more likely to have engaged in hedging or other
trading activity based on earlier trading activity, and thus, are more
likely to be willing to accept an adjustment rather than a
nullification to preserve their positions even if such adjustment is to
a price through their limit price. In addition, the Exchange believes
it is important to have the ability to nullify some or all transactions
arising out of a Significant Market Event in the event timely
adjustment is not feasible due to the extraordinary nature of the
situation. In particular, although the Exchange has worked to limit the
circumstances in which it has to determine Theoretical Price, in a
widespread event it is possible that hundreds if not thousands of
series would require an Exchange determination of Theoretical Price. In
turn, if there are hundreds or thousands of trades in such series, it
may not be practicable for the Exchange to determine the adjustment
levels for all non-Customer transactions in a timely fashion, and in
turn, it would be in the public interest to instead more promptly
deliver a simple, consistent result of nullification.
    The Exchange believes that proposed rule change related to an
erroneous print in the underlying security, an erroneous quote in the
underlying security, or an erroneous transaction in the option with
respect to stop and stop limit orders is likewise consistent with
Section 6(b)(5) of the Act because the proposal provides for the
adjustment or nullification of trades executed at erroneous prices
through no fault on the part of the trading participants. Allowing for
Exchange review in such situations will promote just and fair

principles of trade by protecting investors from harm that is not of
their own making. Specifically with respect to the proposed provisions
governing erroneous prints and quotes in the underlying security, the
Exchange notes that market participants on the Exchange base the value
of their quotes and orders on the price of the underlying security. The
provisions regarding errors in prints and quotes in the underlying
security cover instances where the information market participants use
to price options is erroneous through no fault of their own. In these
instances, market participants have little, if any, chance of pricing
options accurately. Thus, these provisions are designed to provide
relief to market participants harmed by such errors in the prints or
quotes of the underlying security.
    The Exchange believes that the proposed provision related to
Linkage Trades is consistent with the Act because it adds additional
transparency to the Proposed Rule and makes clear that when a Linkage
Trade is adjusted or nullified by another options exchange, the
Exchange will take necessary actions to complete the nullification or
adjustment of the Linkage Trade.
    The Exchange believes that retaining the same appeals process as
the Exchange maintains under the Current Rule is consistent with the
Act because such process provides members and member organizations with
due process in connection with decisions made by Officials under the
Proposed Rule. The Exchange believes that this process provides fair
representation of members and member organizations by ensuring
diversity amongst the members of any review panel, which is consistent
with Sections 6(b)(3) and 6(b)(7) of the Act.

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

    Phlx believes the entire proposal is consistent with Section
6(b)(8) of the Act \26\ in that it does not impose any burden on
competition that is not necessary or appropriate in furtherance of the
purposes of the Act as explained below.
---------------------------------------------------------------------------

    \26\ 15 U.S.C. 78f(b)(8).
---------------------------------------------------------------------------

    Importantly, the Exchange believes the proposal will not impose a
burden on intermarket competition but will rather alleviate any burden
on competition because it is the result of a collaborative effort by
all options exchanges to harmonize and improve the process related to
the adjustment and nullification of erroneous options transactions. The
Exchange does not believe that the rules applicable to such process is
an area where options exchanges should compete, but rather, that all
options exchanges should have consistent rules to the extent possible.
Particularly where a market participant trades on several different
exchanges and an erroneous trade may occur on multiple markets nearly
simultaneously, the Exchange believes that a participant should have a
consistent experience with respect to the nullification or adjustment
of transactions. The Exchange understands that all other options
exchanges intend to file proposals that are substantially similar to
this proposal.
    The Exchange does not believe that the proposed rule change imposes
a burden on intramarket competition because the provisions apply to all
market participants equally within each participant category (i.e.,
Customers and non-Customers). With respect to competition between
Customer and non-Customer market participants, the Exchange believes
that the Proposed Rule acknowledges competing concerns and tries to
strike the appropriate balance between such concerns. For instance, as
noted above, the Exchange believes that protection of Customers is
important due to their direct participation in the options markets as
well as the fact that they are not, by definition, market
professionals. At the same time, the Exchange believes due to the
quote-driven nature of the options markets, the importance of liquidity
provision in such markets and the risk that liquidity providers bear
when quoting a large breadth of products that are derivative of
underlying securities, that the protection of liquidity providers and
the practice of adjusting transactions rather than nullifying them is
of critical importance. As described above, the Exchange will apply
specific and objective criteria to determine whether an erroneous
transaction has occurred and, if so, how to adjust or nullify a
transaction.

C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others

    No written comments were either solicited or received.

III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action

    Because the proposed rule change does not (i) significantly affect
the protection of investors or the public interest; (ii) impose any
significant burden on competition; and (iii) become operative for 30
days from the date on which it was filed, or such shorter time as the
Commission may designate if consistent with the protection of investors
and the public interest, the proposed rule change has become effective
pursuant to Section 19(b)(3)(A) of the Act \27\ and Rule 19b-4(f)(6)
thereunder.\28\
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    \27\ 15 U.S.C. 78s(b)(3)(A).
    \28\ 17 CFR 240.19b-4(f)(6). As required under Rule 19b-
4(f)(6)(iii), the Exchange provided the Commission with written
notice of its intent to file the proposed rule change, along with a
brief description and the text of the proposed rule change, at least
five business days prior to the date of filing of the proposed rule
change, or such shorter time as designated by the Commission.
---------------------------------------------------------------------------

    The Exchange has asked the Commission to waive the 30-day operative
delay so that the proposal may become operative immediately upon
filing. The Commission believes that waiving the 30-day operative delay
is consistent with the protection of investors and the public interest,
as it will enable the Exchange to meet its proposed implementation date
of May 8, 2015, which will help facilitate the implementation of
harmonized rules related to the adjustment and nullification of
erroneous options transactions across the options exchanges. For this
reason, the Commission designates the proposed rule change to be
operative upon filing.\29\
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    \29\ For purposes only of waiving the 30-day operative delay,
the Commission has also considered the proposed rule's impact on
efficiency, competition, and capital formation. See 15 U.S.C.
78c(f).
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    At any time within 60 days of the filing of the proposed rule
change, the Commission summarily may temporarily suspend such rule
change if it appears to the Commission that such action is necessary or
appropriate in the public interest, for the protection of investors, or
otherwise in furtherance of the purposes of the Act. If the Commission
takes such action, the Commission shall institute proceedings to
determine whether the proposed rule should be approved or disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Act. Comments may be submitted by any of
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
     Send an email to<EMAIL_ADDRESS>Please include
File Number SR-Phlx-2015-43 on the subject line.

Paper Comments

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

All submissions should refer to File Number SR-Phlx-2015-43. This file
number should be included on the subject line if email is used. To help
the Commission process and review your comments more efficiently,
please use only one method. The Commission will post all comments on
the Commission's Internet Web site (http://www.sec.gov/rules/sro.shtml). Copies of the submission, all subsequent amendments, all
written statements with respect to the proposed rule change that are
filed with the Commission, and all written communications relating to
the proposed rule change between the Commission and any person, other
than those that may be withheld from the public in accordance with the
provisions of 5 U.S.C. 552, will be available for Web site viewing and
printing in the Commission's Public Reference Room, 100 F Street NE.,
Washington, DC 20549 on official business days between the hours of
10:00 a.m. and 3:00 p.m. Copies of such filing also will be available
for inspection and copying at the principal office of the Exchange. All
comments received will be posted without change; the Commission does
not edit personal identifying information from submissions. You should
submit only information that you wish to make available publicly. All
submissions should refer to File Number SR-Phlx-2015-43, and should be
submitted on or before June 4, 2015.

    For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\30\
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    \30\ 17 CFR 200.30-3(a)(12).
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Robert W. Errett,
Deputy Secretary.
[FR Doc. 2015-11588 Filed 5-13-15; 8:45 am]
BILLING CODE 8011-01-P