[Federal Register Volume 85, Number 203 (Tuesday, October 20, 2020)]
[Notices]
[Pages 66590-66592]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-23150]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-90179; File No. SR-CBOE-2020-074]
Self-Regulatory Organizations; Cboe Exchange, Inc.; Order
Granting Approval of a Proposed Rule Change To Adopt Position
Compression Cross (``PCC'') Orders for SPX
October 14, 2020.
I. Introduction
On August 19, 2020, Cboe Exchange, Inc. (the ``Exchange'' or ``Cboe
Options'') filed with the Securities and Exchange Commission
(``Commission''), pursuant to Section 19(b)(1) of the Securities
Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 thereunder,\2\ a
proposed rule change to adopt Position Compression Cross (``PCC'')
orders for S&P 500 Index (``SPX'') options. The proposed rule change
was published for comment in the Federal Register on September 3,
2020.\3\ The Commission received four comments in support of the
proposed rule change.\4\ This order approves the proposed rule change.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ See Securities Exchange Act Release No. 89707 (August 28,
2020), 85 FR 55040 (``Notice'').
\4\ See Letter to Vanessa Countryman, Secretary, Commission,
dated September 17, 2020, from Steve Crutchfield, Head of Market
Structure, CTC, LLC, available at https://www.sec.gov/comments/sr-cboe-2020-074/srcboe2020074-7794086-223555.pdf; Letter to Vanessa
Countryman, Secretary, Commission, dated September 18, 2020, from
Joanna Mallers, Secretary, FIA Principal Traders Group, available at
https://www.sec.gov/comments/sr-cboe-2020-074/srcboe2020074-7793926-223553.pdf; Letter to Vanessa Countryman, Secretary, Commission,
dated September 18, 2020, from Michael Golding, Head of Trading,
Optiver US LLC, and Rutger Brinkhuis, Head of Trading, AMS
Derivatives B.V., available at https://www.sec.gov/comments/sr-cboe-2020-074/srcboe2020074-7793838-223548.pdf; and Comment from Erik
Swanson, CEO, Simplex Trading, LLC, dated September 18, 2020,
available at https://www.sec.gov/comments/sr-cboe-2020-074/srcboe2020074-7793878-223549.htm.
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[[Page 66591]]
II. Summary of the Proposal
As described in more detail in the Notice,\5\ the Exchange proposes
to adopt PCC orders to assist Trading Permit Holders (``TPHs'') in
reducing their open positions in series of SPX options to reduce the
required capital associated with their open SPX positions. The Exchange
currently facilitates compression forums on the trading floor at the
end of each calendar week, month, and quarter, where TPHs can seek to
reduce their open positions in SPX.\6\ These SPX compression forums
allow TPHs and their clearing firms to reduce open interest in
offsetting SPX positions, which can help clearing brokers that are
affiliates of bank holding companies comply with the unique regulatory
capital requirements that apply to them. In turn, compression forums
may help some firms, particularly market makers, mitigate the effects
of capital constraints and provide them with continued access to the
capital they need through their clearing brokers to provide liquidity
during periods of volatility.
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\5\ See Notice, supra note 3.
\6\ See id. at 55040. See also Cboe Rule 5.88.
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From March 16 to June 12, 2020, the Exchange closed its trading
floor in response to the coronavirus pandemic, and as a result, the
Exchange operated in an all-electronic configuration.\7\ Because the
trading floor was closed during this time, market participants could
not participate in open outcry compression forums. To enable TPHs to
reduce open interest in SPX options in electronic compression forums
when the floor was closed, the Exchange adopted Rule 5.24(e)(1)(E) as
part of its Disaster Recovery rule.\8\
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\7\ See id. at 55041.
\8\ See Securities Exchange Act Release No. 88490 (March 26,
2020), 85 FR 18318 (April 1, 2020) (File No. SR-CBOE-2020-026).
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Under Rule 5.24(e)(1)(E), when the Exchange's trading floor becomes
inoperable, it can conduct electronic compression forums as frequently
as daily.\9\ Those electronic compression forums permit an order in SPX
option contracts to be coupled with a contra-side order(s) and be
executed automatically on entry without exposure.\10\ In order to
obtain a clean cross, the orders are required to execute in accordance
with the same priority principles that apply to complex orders on the
Exchange.\11\ Specifically: (i) Each option leg may only execute at a
price that complies with Rule 5.33(f)(2), provided that no option leg
executes at the same price as a Priority Customer Order in the Simple
Book; (ii) each option leg may only execute at a price at or between
the national best bid or offer (``NBBO'') for the applicable series;
and (iii) the execution price must be better than the price of any
complex order resting in the complex order book, unless the submitted
complex order was a Priority Customer Order and the resting complex
order is a non-Priority Customer Order, in which case the execution
price may be the same as or better than the price of the resting
complex order.\12\ If a compression order could not execute in
accordance with these requirements, it would be cancelled.\13\
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\9\ See id. at 18319-20.
\10\ See id. at 18320.
\11\ See id.
\12\ See id.
\13\ See id.
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When the Cboe Options trading floor reopened on June 15, 2020,
electronic compression forums were no longer available because the
Exchange does not offer electronic compression forums when its trading
floor is operable.\14\
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\14\ See Notice, supra note 3, at 55041.
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In light of its recent experience with electronic compression
forums, and the interest among certain TPHs that they continue, the
Exchange proposes to adopt PCC orders for SPX on a permanent basis and
delete its floor-based compression forum rule.\15\ The proposed rule
explicitly provides that PCC orders, which may be submitted for
automatic electronic execution or for manual handling on the trading
floor, may only be used to reduce the required capital associated with
open SPX positions.\16\
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\15\ See id. at 55041-46 for a more detailed description of the
proposal.
\16\ See Rule 5.6(c). The Exchange explains that electronic PCC
orders are uniquely relevant to SPX options because of the large
notational value of SPX contracts and the significant open interest
in them. See Notice, supra note 3, at 55040.
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To facilitate this proposed rule change, the Exchange first
proposes to delete Rule 5.24(e)(1)(E) and reserve Rule 5.88. Second,
the Exchange proposes to add PCC orders to its list of orders types
under Rule 5.6(c). The procedures for submitting PCC orders will be
similar to the procedures that currently apply to open outcry
compression forums under Rule 5.88,\17\ except that they will allow a
clean cross for SPX without exposure either on the floor or
electronically. PCC orders will be available during regular trading
hours and global trading hours.\18\ The same execution and priority
protection principles that apply under Rule 5.24(e)(1)(E) will apply to
PCC orders,\19\ and if a PCC order cannot be executed in accordance
with these provisions, it will be cancelled. The PCC order type will
also be available for SPX FLEX options.\20\ Finally, the Exchange
proposes to make PCC orders available for PAR routing for manual
handling.\21\
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\17\ The PCC order procedures for electronic and open outcry
will differ slightly from the open outcry compression forum
currently available under Rule 5.88. In particular, the Exchange may
make PCC orders available more often than current compression
forums, which take place only at the end of the week, month, and
quarter. The Exchange will determine the times to permit PCC orders
and will provide TPHs with reasonable and sufficient notice before
doing so. Additionally, the Exchange will no longer post the
compression-list position file on the Exchange's website because it
does not believe those lists are used by TPHs or useful to the
public. The new procedure also eliminates the step of initially
providing individual position files on an anonymous basis and then
requiring TPHs to consent to having their identities disclosed since
most TPHs submit the compression-list positions with the goal of
identifying other TPHs with offsetting positions to enable them to
engage in the compression transactions. Lastly, the Exchange will
provide two additional types of information in the compression-list
positions sent to TPHs: Series positions within a strike range
determined by the Exchange and combos (i.e., purchase (sale) of a
call and a sale (purchase) of a put with the same expiration date
and the strike price) in addition to the currently provided multi-
leg positions of vertical call spreads, vertical put spreads, and
box spreads. See id. at 55042.
\18\ See id. at 55045, n.38. See also Rules 5.32(g) and 5.33(n).
\19\ See supra note 12 and accompanying text.
\20\ See Notice, supra note 3, at 55045, n.38. See also Rule
5.70(a)(2).
\21\ See id. at 55045-46. See also Rule 5.83(a) and (b); Rule
5.85.
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III. Discussion and Commission Findings
After careful review, the Commission finds that the proposed rule
change is consistent with the requirements of the Act and the rules and
regulations thereunder applicable to a national securities
exchange.\22\ In particular, the Commission finds that the proposed
rule change is consistent with Section 6(b)(5) of the Act,\23\ which
requires, among other things, that the rules of a national securities
exchange be designed to promote just and equitable principles of trade,
to remove impediments to and perfect the mechanism of a free and open
market and a national market system and, in general, to protect
investors and the public interest, and not be designed to permit unfair
discrimination between customers, issuers, brokers, or dealers.
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\22\ In approving this proposed rule change, the Commission has
considered the proposed rule's impact on efficiency, competition,
and capital formation. See 15 U.S.C. 78c(f).
\23\ 15 U.S.C. 78f(b)(5).
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The Exchange seeks to make the electronic PCC order type permanent,
even when the trading floor of the Exchange is operable, and also offer
the ability to submit a PCC order for manual handling on the trading
floor. This order type will allow TPHs to execute clean
[[Page 66592]]
crosses of SPX compression forum orders without exposure and they will
be available at any point during a month designated by the Exchange
rather than just at the end of each calendar week, month, and quarter,
as is the case under the current compression forum process.
The affiliation of clearing brokers with bank holding companies has
introduced the need for liquidity providers and their clearing firms to
more conservatively manage holdings to comply with applicable bank
regulatory capital requirements, which particularly affects SPX options
given the large notional exposure associated with holdings of SPX by
liquidity providers in SPX across a large number of strikes and series.
While these positions may be hedged, the applicable bank capital rules
currently disregard offsets when calculating the notional value of
short positions. As a result, the ability to close and ``compress''
positions in an efficient, cost-effective manner can help liquidity
providers and their clearing firms reduce risk weighted assets and
alleviate associated bank capital constraints.
The current floor-based compression forums are labor-intensive and
can be inefficient as a result. The Exchange asserts that this proposal
will increase the efficiency of SPX compression activity without
causing any significant negative effect on price discovery or the
ability of a TPH to access liquidity.\24\ The commenters on the
proposal similarly believe the proposal will increase efficiency by
providing an electronic risk management tool to reduce SPX risk
weighted assets, which will support the ability of SPX liquidity
providers to provide displayed quotes in SPX options.\25\ Accordingly,
PCC orders can help assure the continued availability of capital to
liquidity providers so that they can quote competitively with size,
particularly during periods of heightened volatility, which removes
impediments and supports fair and orderly markets to the benefit of
investors.
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\24\ See Notice, supra note 3, at 55041.
\25\ See supra note 4 (citing to the comment letters on the
proposal).
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The proposed PCC order type contains the same priority protections
that apply under Rule 5.24(e)(1)(E) when the Exchange permits
electronic compression orders as clean crosses when its trading floor
is inoperable.\26\ Likewise, PCC orders handled by floor brokers will
be covered by the same protections.\27\ Additionally, under the
proposal, TPHs will be permitted to enter PCC orders in the same
increment that is currently available for closing transactions in open
outcry compression forums, which are increments of $0.01.\28\
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\26\ See Notice, supra note 3, at 55045. The Commission also
notes that the proposal only allows a TPH to use PCC orders to
reduce the required capital associated with the TPH's open SPX
positions and the Exchange represents that the Exchange's Regulatory
Division will incorporate PCC orders into its surveillance. See id.
at 55049.
\27\ See id.
\28\ See id. at 55043.
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The Exchange states that the benefits of permitting PCC orders to
execute as clean crosses greatly outweigh any detriments that may
result from not exposing these orders for potential break up.\29\ The
Exchange notes that the benefits of requiring a TPH to expose an order
or a proposed cross generally flow to that order, which benefits
include the potential for price improvement and, for single orders, to
locate contra-side liquidity.\30\ In the case of an SPX transaction to
reduce risk weighted capital for which a TPH could use the PCC order
type, the representing TPH has already located the necessary liquidity
prior to submitting the matches for execution, and the ability to
execute the single or complex order in full to reduce risk weighted
capital is the primary concern.\31\ Any likelihood of another TPH
breaking up the PCC order could deter the order-originating TPH from
entering its compression order, which would fail to achieve the aims of
the compression order and thus fail to mitigate the associated capital
constraints that could impact the liquidity provider's continued
ability to quote SPX series.\32\
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\29\ See id. at 55048.
\30\ See id.
\31\ See id. at 55049. See also supra note 27.
\32\ See Notice, supra note 3, at 55049.
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Based on the foregoing and for the above reasons, the Commission
finds that the proposed rule change is consistent with the requirements
of the Act in that it is designed to promote just and equitable
principles of trade, to remove impediments to and perfect the mechanism
of a free and open market and a national market system, and, in
general, to protect investors and the public interest.
IV. Conclusion
It is therefore ordered that, pursuant to Section 19(b)(2) of the
Act,\33\ the proposed rule change (SR-CBOE-2020-074) be, and hereby is,
is approved.
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\33\ 15 U.S.C. 78s(b)(2).
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\34\
J. Matthew DeLesDernier,
Assistant Secretary.
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\34\ 17 CFR 200.30-3(a)(12).
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[FR Doc. 2020-23150 Filed 10-19-20; 8:45 am]
BILLING CODE 8011-01-P