Notice2024-06452
Self-Regulatory Organizations; Nasdaq ISE, LLC; Notice of Filing of Proposed Rule Change To Adopt Rules To List and Trade FLEX Options
Primary source
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Published
March 29, 2024
Issuing agencies
Securities and Exchange Commission
Full Text
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<title>Federal Register, Volume 89 Issue 62 (Friday, March 29, 2024)</title>
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[Federal Register Volume 89, Number 62 (Friday, March 29, 2024)]
[Notices]
[Pages 22294-22322]
From the Federal Register Online via the Government Publishing Office [<a href="http://www.gpo.gov">www.gpo.gov</a>]
[FR Doc No: 2024-06452]
[[Page 22293]]
Vol. 89
Friday,
No. 62
March 29, 2024
Part III
Securities and Exchange Commission
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Self-Regulatory Organizations; Nasdaq ISE, LLC; Notice of Filing of
Proposed Rule Change To Adopt Rules To List and Trade FLEX Options;
Notice
Federal Register / Vol. 89 , No. 62 / Friday, March 29, 2024 /
Notices
[[Page 22294]]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-99825; File No. SR-ISE-2024-12]
Self-Regulatory Organizations; Nasdaq ISE, LLC; Notice of Filing
of Proposed Rule Change To Adopt Rules To List and Trade FLEX Options
March 21, 2024
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 March 11, 2024, Nasdaq ISE, LLC (``ISE'' or ``Exchange'') filed with
the Securities and Exchange Commission (``SEC'' or ``Commission'') the
proposed rule change as described in Items I, II, and III, 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 Substance
of the Proposed Rule Change
The Exchange proposes to adopt rules that will govern the listing
and trading of flexible exchange options (``FLEX Options'').
The text of the proposed rule change is available on the Exchange's
website at <a href="https://listingcenter.nasdaq.com/rulebook/ise/rules">https://listingcenter.nasdaq.com/rulebook/ise/rules</a>, 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
The Exchange proposes to adopt rules in new Options 3A that will
govern the listing and trading of FLEX Options on the Exchange's
electronic market.
The Exchange is proposing this new functionality be implemented in
connection with a technology migration to enhanced Nasdaq, Inc.
(``Nasdaq'') functionality that will result in higher performance,
scalability, and more robust architecture.\3\ The Exchange intends to
begin implementation of the proposed rule change before December 20,
2024. The Exchange will issue a public notice to Members to provide
notification of the FLEX implementation date.
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\3\ The Exchange is separately proposing a number of rule
filings in connection with this technology migration. See, e.g.,
Securities Exchange Act Release No. 97605 (May 26, 2023), 88 FR
36350 (June 2, 2023) (SR-ISE-2023-10).
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As proposed, FLEX Options will be customized options contracts that
will allow investors to tailor contract terms for exchange-listed
equity and index options. FLEX Options will be designed to meet the
needs of investors for greater flexibility in selecting the terms of
options within the parameters of the Exchange's proposed rules. FLEX
Options will not be preestablished for trading and will not be listed
individually for trading on the Exchange. Rather, investors will select
FLEX Option terms and will be limited by the parameters detailed below
in their selection of those terms. As a result, FLEX Options would
allow investors to specify more specific, individualized investment
objectives than may be available to them in the standardized options
market.
Some key features of the new electronic FLEX Options functionality
are as follows:
<bullet> System Availability: The Exchange will not conduct an
Opening Process pursuant to Options 3, Section 8 in FLEX Options.\4\
Orders in FLEX Options may only be submitted through an electronic FLEX
Auction, a FLEX Price Improvement Auction (``FLEX PIM''), or a FLEX
Solicited Order Mechanism (``FLEX SOM''), each as discussed in detail
below.\5\ Accordingly, the Exchange's simple and complex order books
will not be available for transactions in FLEX Options.\6\
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\4\ See proposed Options 3A, Section 8(a). Rather, Members may
begin submitting orders in FLEX Options into one of the proposed
auction mechanisms (i.e., electronic FLEX Auction, FLEX Price
Improvement Mechanism, and FLEX Solicited Order Mechanism) once the
underlying security is open for trading. See proposed Options 3A,
Section 8(b).
\5\ See proposed Options 3A, Section 11(a).
\6\ See proposed Options 3A, Section 10(a).
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<bullet> Terms: FLEX Options will be a type of put or call, and
will allow investors the flexibility to choose an exercise style of
American or European, an expiration date, a settlement type, and an
exercise price, all within the parameters specified in the proposed
rules.\7\ As discussed further below, FLEX Options will not be
permitted with identical terms as an existing non-FLEX Option series
listed on the Exchange.\8\
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\7\ As discussed later in this filing, proposed Options 3A,
Section 3(c) will govern FLEX Options terms.
\8\ At least one of the following terms must differ between FLEX
Options and non-FLEX Options on the same underlying security:
exercise date, exercise price, or exercise style. See proposed
Options 3A, Section 3(c).
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Because of their composition, the Exchange believes that FLEX
Options may allow investors to more closely meet their individual
investment and hedging objectives by customizing options contracts for
the purpose of satisfying particular investment objectives that could
not be met by the standardized markets.
Background
The Commission approved the trading of FLEX Options in 1993.\9\ At
the time, the Chicago Board Options Exchange, Inc., now Cboe Exchange,
Inc. (``Cboe'') proposed FLEX options based on the Standard and Poor's
Corporation 500 and 100 Stock Indexes.\10\ These FLEX Options were
offered as an alternative to an over-the-counter (``OTC'') market in
customized equity options.\11\ Several years after the initial
approval, the Commission approved the trading of additional FLEX
Options on specified equity securities.\12\ In its order, the
Commission provided: ``The benefits of the Exchanges' options markets
include, but are not limited to, a centralized market center, an
auction market with posted transparent market quotations and
transaction reporting, parameters and procedures for clearance and
settlement, and the guarantee of the OCC [Options Clearing Corporation]
for all contracts traded on the Exchange.'' \13\
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\9\ See Securities Exchange Act Release No. 31920 (February 24,
1993), 58 FR 12280 (March 3, 1993) (SR-CBOE-92-17) (Order Approving
and Notice of Filing and Order Granting Accelerated Approval to
Amendment Nos. 1, 2, 3, and 4 to Proposed Rule Changes by the
Chicago Board Options Exchange, Inc., Relating to FLEX Options).
\10\ Id.
\11\ Id.
\12\ See Securities Exchange Act Release No. 36841 (February 14,
1996), 61 FR 6666 (February 21, 1996) (SR-CBOE-95-43) (SR-PSE-95-24)
(Order Approving Proposed Rule Changes and Notice of Filing and
Order Granting Accelerated Approval of Amendments by the Chicago
Board Options Exchange, Inc. and the Pacific Stock Exchange, Inc.,
Relating to the Listing of Flexible Exchange Options on Specified
Equity Securities).
\13\ Id. The Exchange notes that the Commission found pursuant
to Rule 9b-1 under the Act, that FLEX Options, including FLEX Equity
Options, are standardized options for purposes of the options
disclosure framework established under Rule 9b-1 of the Act. Id.
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[[Page 22295]]
The Exchange notes that FLEX Options are currently traded on Cboe,
NYSE American LLC (``NYSE American''), NYSE Arca, Inc. (``NYSE Arca''),
and Nasdaq PHLX LLC (``Phlx'').\14\ The Exchange further notes that
Cboe offers electronic and open outcry FLEX Options trading while NYSE
American, NYSE Arca, and Phlx offer only open outcry trading of FLEX
Options on their respective trading floors. The Exchange now proposes
to allow for the trading of FLEX Options on its electronic market \15\
in a substantially similar manner as Cboe's electronic FLEX Options,
with certain intended differences primarily to align to current System
\16\ behavior (and especially current auction behavior) to provide
increased consistency for Members trading FLEX Options and non-FLEX
Options on ISE, as discussed in detail below. Further, the Exchange has
omitted certain Cboe rules from the proposed rules due to differences
in scope and operation of FLEX trading at Cboe compared to the proposed
scope and operation of FLEX trading on ISE, each as noted below. For
example, the Exchange will not include Cboe rule provisions related to
open outcry trading, Asian- or Cliquet-settled FLEX index options, or
FLEX index options with an index multiplier of one (``Micro FLEX Index
Options'') as it does not offer these capabilities today. For the same
reason, the Exchange will not allow prices in FLEX trading to be
expressed as percentages under this proposal.
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\14\ See Cboe Rules 4.20-4.22 and 5.70-5.75, NYSE American Rules
900G-910G, NYSE Arca Rules 5.30-O-5.41-O, and Phlx Options 8,
Section 34. The Exchange also notes that another options exchange,
BOX Exchange LLC (``BOX''), recently filed a rule change with the
Commission to allow for the trading of FLEX equity options on the
BOX trading floor. See Securities Exchange Act Release No. 99192
(December 15, 2023), 88 FR 88437 (December 21, 2023) (SR-BOX-2023-
20).
\15\ The Exchange is not proposing to add open outcry FLEX
Options trading as it does not have a trading floor.
\16\ The term ``System'' means the electronic system operated by
the Exchange that receives and disseminates quotes, executes orders
and reports transactions. See Options 1, Section 1(a)(50).
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Proposal
Transactions in FLEX Options traded on the Exchange will generally
be subject to the same rules that apply to the trading of equity
options and index options. In order, however, to provide investors with
the flexibility to designate certain of the terms of the options, and
to accommodate other special features of FLEX Options and the way in
which they are traded, the Exchange proposes new rules applicable to
FLEX Options in new Options 3A, Sections 1-19.
A. General Provisions (Section 1)
Proposed Section 1(a) will set forth the applicability of Exchange
Rules, and will provide that Options 3A Rules will apply only to FLEX
Options and that trading of FLEX Options will be subject to all other
Rules applicable to the trading of options on the Exchange, unless
otherwise provided in Options 3A.
Proposed Section 1(b) will set forth the definitions used
specifically in Options 3A, namely that the term ``FLEX Option'' means
a flexible exchange option. A FLEX Option on an equity security may be
referred to as a ``FLEX Equity Option,'' and a FLEX Option on an index
may be referred to as a ``FLEX Index Option.'' Further, the term ``FLEX
Order'' means an order submitted in a FLEX Option pursuant to Options
3A.
The Exchange also proposes to add the definition of ``FLEX Order''
in Options 3, Section 7 (Order Types) in new paragraph (z). While FLEX
Orders will also be defined in (and governed by) Options 3A, the
Exchange believes that it will be useful to market participants to have
the order types available on ISE centralized within one rule. Lastly,
the Exchange proposes a non-substantive change to paragraph (y) in
Options 3, Section 7 to fix a typo.
B. Hours of Business (Section 2)
Proposed Section 2(a) will provide that the trading hours for FLEX
Options will be the same as the trading hours for corresponding non-
FLEX Options as set forth in Options 3, Section 1, except the Exchange
may determine to narrow or otherwise restrict the trading hours for
FLEX Options.\17\ Therefore, the trading hours for FLEX Options will
generally be 9:30 a.m. to 4:00 p.m. Eastern time (or 4:15 p.m. Eastern
time for Fund Shares, as defined in Options 4, Section 3(h), Index-
Linked Securities, as defined in Options 4, Section 3(k)(1), or certain
broad-based indexes).\18\
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\17\ See Cboe Rule 5.1(b)(3)(A) for materially identical
provisions.
\18\ See Options 3, Section 1(c)-(e).
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C. FLEX Option Classes and Permissible Series (Section 3(a) and (b))
Pursuant to proposed Section 3(a), the Exchange may authorize for
trading a FLEX Option class on any equity security or index if it may
authorize for trading a non-FLEX Option class on that equity security
or index pursuant to Options 4, Section 3 and Options 4A, Section
3,\19\ respectively, even if the Exchange does not list that non-FLEX
Option class for trading.\20\
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\19\ Options 4, Section 3 provides the criteria for the listing
of options on several different underlying types of securities,
including, for example, securities registered with the SEC under
Regulation NMS of the Act (``NMS stock'') and exchange-traded funds
(``ETFs''). Options 4A, Section provides the criteria for the
listing of options on indexes.
\20\ See Cboe Rule 4.20 for materially identical provisions.
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Proposed Section 3(b) will provide that the Exchange may approve a
FLEX Option series for trading in any FLEX Option class it may
authorize for trading pursuant to proposed Section 3(a). FLEX Option
series are not pre-established. A FLEX Option series is eligible for
trading on the Exchange upon submission to the System of a FLEX Order
for that series pursuant to proposed Sections 11 through 13,\21\
subject to the following stipulations.\22\ First, the Exchange will
only permit trading in a put or call FLEX Option series that does not
have the same exercise style, same expiration date, and same exercise
price as a non-FLEX Option series on the same underlying security or
index that is already available for trading. This would include
permitting trading in a FLEX Option series before a series with
identical terms is listed for trading as a non-FLEX Option series. If
the Exchange lists for trading a non-FLEX Option series with identical
terms as a FLEX Option series, the FLEX Option series will become
fungible with the non-FLEX Option series pursuant to proposed paragraph
(d) of Section 3. The System would not accept a FLEX Order for a put or
call FLEX Option series if a non-FLEX Option series on the same
underlying security or index with the same expiration date, exercise
price, and exercise style is already listed for trading.\23\ Second, a
FLEX Order for a FLEX Option series may be submitted on any trading day
prior to the expiration date.\24\
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\21\ Proposed Sections 11 through 13 of Options 3A will govern
the electronic FLEX Auction, FLEX PIM, and FLEX SOM, respectively.
As discussed later in this filing, FLEX Orders may only be submitted
through an electronic FLEX Auction, FLEX PIM, or FLEX SOM.
\22\ See proposed Options 3A, Section 3(b), which is based on
Cboe Rule 4.21(a).
\23\ See proposed Options 3A, Section 3(b)(1), which is based on
Cboe Rule 4.21(a)(1).
\24\ See proposed Options 3A, Section 3(b)(2), which is based on
Cboe Rule 4.21(a)(2).
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D. FLEX Options Terms (Section 3(c))
Proposed Section 3(c) will specify the terms that must be included
in a FLEX Order.\25\ Specifically, when submitting a
[[Page 22296]]
FLEX Order for a FLEX Option series to the System, the submitting
Member must include one of each of the terms detailed in proposed
subparagraphs (1)-(6) of Section 3(c) in the FLEX Order (all other
terms of a FLEX Option series are the same as those that apply to non-
FLEX Options), provided that a FLEX Equity Option overlying an ETF
(cash- or physically-settled) may not be the same type (put or call)
and may not have the same exercise style, expiration date, and exercise
price as a non-FLEX Equity Option overlying the same ETF,\26\ which
terms constitute the FLEX Option series.
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\25\ See Cboe Rule 4.21(b) for similar provisions. The Exchange
notes that unlike Cboe, it is not proposing FLEX Index Options with
a multiplier of 1 (i.e., Micro FLEX Index Options) or FLEX Index
Options that are Asian- or Cliquet-settled as the Exchange does not
have these capabilities today for index options. For the same
reason, the Exchange is not proposing to allow exercise prices to be
expressed as a percentage value. Therefore, the Exchange has not
incorporated the applicable provisions in this Rule.
\26\ The Exchange will discuss cash-settled FLEX Equity Options
overlying an ETF (``cash-settled FLEX ETFs'') later in this filing.
As discussed below, the Commission previously approved a rule filing
by NYSE American to permit the listing and trading of this product,
and Cboe recently filed an immediately effective rule change based
on NYSE American's filing. See infra notes 186 and 187.
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As proposed, the submitting Member must specify the following terms
in the FLEX Order: (1) underlying equity security or index, as
applicable (the index multiplier for FLEX Index Options is 100; \27\
(2) type of option (i.e., put or call); \28\ (3) exercise style, which
may be American-style or European-style; \29\ (4) expiration date,
which may be any business day (specified to the day, month, and year)
no more than 15 years from the date on which a Member submits a FLEX
Order to the System; \30\ (5) settlement type for the FLEX Equity
Option or FLEX Index Option, as applicable; \31\ and (6) exercise
price, which may be in increments no smaller than $0.01.\32\ Further,
the Exchange may determine the smallest increment for exercise prices
of FLEX Options on a class-by-class basis.\33\
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\27\ See proposed Options 3A, Section 3(c)(1), which is based on
Cboe Rule 4.21(b)(1) except for the provisions relating to Micro
FLEX Index Options.
\28\ See proposed Options 3A, Section 3(c)(2), which is based on
Cboe Rule 4.21(b)(2) except the provisions related to Asian-settled
or Cliquet-settled FLEX Index Options.
\29\ See proposed Options 3A, Section 3(c)(3), which is based on
Cboe Rule 4.21(b)(3) except with respect to Asian-settled or
Cliquet-settled FLEX Index Options.
\30\ See proposed Options 3A, Section 3(c)(4), which is based on
Cboe Rule 4.21(b)(4) except with respect to Asian-settled or
Cliquet-settled FLEX Index Options.
\31\ See proposed Options 3A, Section 3(c)(5), which is based on
Cboe Rule 4.21(b)(5) except with respect to Asian-settled or
Cliquet-settled FLEX Index Options.
\32\ See proposed Options 3A, Section 3(c)(6), which is based on
Cboe Rule 4.21(b)(6) except the Exchange is not proposing Cliquet-
settled Index Options or to allow exercise prices to be expressed as
a percentage value.
\33\ See proposed Options 3A, Section 3(c), which is based on
Cboe Rule 4.21(b) except for the provisions allowing the exercise
price to be expressed as a percentage amount and with respect to
Micro FLEX Index Options. As noted above, the Exchange does not
offer these capabilities today for non-FLEX index options.
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As it relates to the settlement type for FLEX Equity Options, the
Exchange proposes in subparagraph (c)(5)(A)(i) of Options 3A, Section 3
that FLEX Equity Options, other than as permitted in proposed
subparagraphs (c)(5)(A)(ii) and (iii), are settled with physical
delivery of the underlying security. Proposed subparagraph
(c)(5)(A)(ii) will allow for the cash-settlement of certain qualifying
FLEX Equity Options with an underlying security that is an ETF.\34\
Proposed subparagraph (c)(5)(A)(iii) will provide that FLEX Equity
Options are subject to the exercise by exception provisions of OCC Rule
805.
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\34\ As discussed later in this filing, the Exchange is
proposing to list and trade cash-settled FLEX ETFs in the same
manner as NYSE American and Cboe.
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As it relates to the settlement type for FLEX Index Options, the
Exchange proposes in subparagraphs (c)(5)(B)(i) and (ii) of Options 3A,
Section 3 that FLEX Index Options are settled in U.S. dollars, and may
be either a.m.-settled (with exercise settlement value determined by
reference to the reported level of the index derived from the reported
opening prices of the component securities) or p.m.-settled (with
exercise settlement value determined by reference to the reported level
of the index derived from the reported closing prices of the component
securities). The Exchange notes that Cboe recently received approval of
its pilot program that permitted it to list p.m.-settled FLEX Index
Options whose exercise settlement value is derived from closing prices
on the last trading day prior to expiration that expire on or within
two business days of a third Friday-of-the-month expiration day for a
non-FLEX Option (``FLEX PM Third Friday Options'').\35\ Consistent with
the Commission's approval of Cboe's proposal, the Exchange is proposing
to allow the listing of FLEX PM Third Friday Options on ISE as well,
and will align proposed Section 3(c)(5)(B)(ii) with Cboe Rule
4.21(b)(5)(B)(ii).
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\35\ See Securities Exchange Act Release No. 99222 (December 21,
2023), 88 FR 89771 (December 28, 2023) (SR-CBOE-2023-018) (``FLEX
Settlement Pilot Approval''). In support of making the pilot a
permanent program, Cboe cited to its own review of pilot data during
the course of the pilot program and a study by the Commission's
Division of Economic and Risk Analysis (``DERA'') staff. See FLEX
Settlement Pilot Approval, notes 18 and 35.
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E. FLEX Fungibility (Section 3(d))
Proposed Section 3(d)(1)(A) will provide that if the Exchange lists
for trading a non-FLEX Option series with identical terms as a FLEX
Option series, all existing open positions established under the FLEX
trading procedures will become fully fungible with transactions in the
identical non-FLEX Option series.\36\ In addition, proposed Section
3(d)(1)(B) will provide that any further trading in the series would be
as non-FLEX Options subject to non-FLEX trading procedures and
Rules.\37\ The foregoing provisions are materially identical to Cboe
Rule 4.22(a)(1) and (2).
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\36\ An open position resulting from a transaction on the
Exchange becomes fungible post-trade and is separate from the
execution occurring on the Exchange. For example, assume a Member
buys one (1) American style AAPL call option expiring on October 9,
2024, with a strike price of 150, which is a FLEX series because
there is no standard option listed with those same terms. Now
assume, while holding this position, a standard option with the same
terms is listed (American style AAPL call option expiring on October
9, 2024, with a strike price of 150). After this standard option is
listed, the Member purchases one (1) contract in this non-FLEX
option series. After this second transaction, the Participant will
have an open position of two (2) contracts in the standard AAPL call
expiring on October 9, 2024, with a 150 strike price.
\37\ This includes all priority and trade-through provisions on
the Exchange. See, e.g., Options 3, Section 10 and Options 5,
Section 2.
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Unlike Cboe, however, the Exchange will not permit intraday
additions of a non-FLEX Option series with identical terms as an
already-listed FLEX Option series for the remainder of the trading
day.\38\ As a result, the Exchange will not incorporate the provisions
in Cboe Rule 4.22(b) that relate to allowing closing-only transactions
for FLEX Option series that become fungible with identical non-FLEX
Option series.
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\38\ See proposed Options 3A, Section 3(d)(2). In such
instances, the non-FLEX Option series could be added overnight to
begin trading the next trading day (upon which all existing open
positions in the FLEX Option would become fully fungible with
transactions in the identical non-FLEX Option series, and any
further trading in the series would be as non-FLEX Options subject
to non-FLEX trading procedures and Rules).
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Lastly, in the event the relevant expiration is a holiday pursuant
to General 3, Rule 1030,\39\ proposed Section 3(d) will apply to
options with an expiration date that is the business day immediately
preceding the holiday, except for Monday-expiring Weekly Expirations
(as defined in Options 4A, Section 3), in which case proposed Section
3(d) will apply to options with
[[Page 22297]]
an expiration date that is a business day immediately following the
holiday.\40\
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\39\ ISE General 3 (including Rule 1030) incorporates by
reference Series 1000 of the Rules of The Nasdaq Stock Market, LLC
(``Nasdaq'').
\40\ See proposed Options 3A, Section 3(d)(3), which is based on
Cboe Rule 4.22(c).
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F. Units of Trading; Minimum Trading Increments (Sections 4 and 5)
Proposed Section 4(a) of Options 3A will provide that bids and
offers for FLEX Options must be expressed in U.S. dollars and decimals
in the minimum increments as set forth in proposed Section 5.\41\
Proposed Section 5(a) will provide that the Exchange would determine
the minimum increment for bids and offers on FLEX Options on a class-
by-class basis, which may not be smaller than $0.01.\42\
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\41\ See Cboe Rule 5.3(e)(3) for similar provisions, except the
Exchange is not proposing to allow prices to be expressed as a
percentage value, or to provide for Micro FLEX Index Options.
\42\ See Cboe Rule 5.4(c)(4) for similar provisions, except the
Exchange is not proposing to allow prices to be expressed as a
percentage value.
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G. Types of Orders; Order and Quote Protocols (Section 6)
Pursuant to proposed Section 6(a), the Exchange may determine to
make the order types and times-in-force, respectively, in Options 3,
Section 7 available on a class or System basis for FLEX Orders.\43\ The
Exchange notes that it currently has the authority to make certain
order types and times-in-force available on a class or System basis for
non-FLEX Options pursuant to Options 3, Section 7, and therefore
proposes to have similar authority with respect to FLEX Options.
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\43\ See Options 3, Section 7 for descriptions of these order
types and times-in-force.
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Proposed Section 6(b) will provide that the following order and
quote protocols in Supplementary Material .03 to Options 3, Section 7
will be available for FLEX Orders, FLEX auction notifications, and FLEX
auction responses:
<bullet> FIX: \44\ FLEX Orders and FLEX auction responses
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\44\ ``Financial Information eXchange'' or ``FIX'' is an
interface that allows Members and their Sponsored Customers to
connect, send, and receive messages related to orders and auction
orders to the Exchange. Features include the following: (1)
execution messages; (2) order messages; (3) risk protection triggers
and cancel notifications; and (4) post trade allocation messages.
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<bullet> OTTO: \45\ FLEX Orders, FLEX auction notifications, and
FLEX auction responses
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\45\ ``Ouch to Trade Options'' or ``OTTO'' is an interface that
allows Members and their Sponsored Customers to connect, send, and
receive messages related to orders, auction orders, and auction
responses to the Exchange. Features include the following: (1)
options symbol directory messages (e.g., underlying and complex
instruments); (2) System event messages (e.g., start of trading
hours messages and start of opening); (3) trading action messages
(e.g., halts and resumes); (4) execution messages; (5) order
messages; (6) risk protection triggers and cancel notifications; (7)
auction notifications; (8) auction responses; and (9) post trade
allocation messages.
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<bullet> SQF: \46\ FLEX auction notifications and FLEX auction
responses
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\46\ ``Specialized Quote Feed'' or ``SQF'' is an interface that
allows Market Makers to connect, send, and receive messages related
to quotes, Immediate-or-Cancel Orders, and auction responses to the
Exchange. Features include the following: (1) options symbol
directory messages (e.g., underlying and complex instruments); (2)
System event messages (e.g., start of trading hours messages and
start of opening); (3) trading action messages (e.g., halts and
resumes); (4) execution messages; (5) quote messages; (6) Immediate-
or-Cancel Order messages; (7) risk protection triggers and purge
notifications; (8) opening imbalance messages; (9) auction
notifications; and (10) auction responses. The SQF Purge Interface
only receives and notifies of purge requests from the Market Maker.
Market Makers may only enter interest into SQF in their assigned
options series.
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H. Complex Orders (Section 7)
Pursuant to proposed Section 7(a), the Exchange may make complex
orders, including a Complex Options Order,\47\ Stock-Options Order,\48\
and Stock-Complex Order \49\ available for FLEX trading. Complex FLEX
Orders may have up to the maximum number of legs determined by the
Exchange.\50\ Each leg of a complex FLEX Order: (1) must be for a FLEX
Option series authorized for FLEX trading with the same underlying
equity security or index; (2) must have the same exercise style
(American or European); and (3) for a FLEX Index Option, may have a
different settlement type (a.m.-settled or p.m.-settled).\51\
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\47\ A Complex Options Order is an order for a Complex Options
Strategy, which is the simultaneous purchase and/or sale of two or
more different options series in the same underlying security, for
the same account, in a ratio that is equal to or greater than one-
to-three (.333) and less than or equal to three-to-one (3.00) and
for the purpose of executing a particular investment strategy. See
Options 3, Section 14(a)(1).
\48\ A Stock-Option Order is an order for a Stock-Option
Strategy, which is the purchase or sale of a stated number of units
of an underlying stock or a security convertible into the underlying
stock (``convertible security'') coupled with the purchase or sale
of options contract(s) on the opposite side of the market
representing either (A) the same number of units of the underlying
stock or convertible security, or (B) the number of units of the
underlying stock necessary to create a delta neutral position, but
in no case in a ratio greater than eight-to-one (8.00), where the
ratio represents the total number of units of the underlying stock
or convertible security in the option leg to the total number of
units of the underlying stock or convertible security in the stock
leg. See Options 3, Section 14(a)(2).
\49\ A Stock-Complex Order is an order for a Stock-Complex
Strategy, which is the purchase or sale of a stated number of units
of an underlying stock or a security convertible into the underlying
stock (``convertible security'') coupled with the purchase or sale
of a Complex Options Strategy on the opposite side of the market
representing either (A) the same number of units of the underlying
stock or convertible security, or (B) the number of units of the
underlying stock necessary to create a delta neutral position, but
in no case in a ratio greater than eight-to-one (8.00), where the
ratio represents the total number of units of the underlying stock
or convertible security in the option legs to the total number of
units of the underlying stock or convertible security in the stock
leg. See Options 3, Section 14(a)(3).
\50\ The Exchange will initially permit a maximum of 10 legs.
\51\ See Cboe Rule 5.70(b) for similar provisions except the
Exchange is not proposing Asian-settled or Cliquet-settled FLEX
Index Options, as currently specified in Cboe Rule 5.70(b)(3).
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Pursuant to proposed Section 7(b), complex FLEX Orders may not have
to adhere to the ratio requirements in Options 3, Sections 14(a)(1)-
(3), as determined by the Exchange on a class-by-class basis. Options
3, Sections 14(a)(1)-(3) currently includes the complex ratio
requirements for Complex Options Strategies, Stock-Options Strategies,
and Stock-Complex Strategies.\52\ The Exchange is not changing the
complex ratio requirements for non-FLEX complex orders under this
proposal. Instead, it is proposing to offer this feature only for
complex FLEX Orders so that Members may submit complex FLEX Orders with
any ratio.\53\ The Exchange notes that Cboe currently permits complex
FLEX Orders to be submitted with any ratio.\54\
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\52\ See supra notes 47-49.
\53\ For instance, the Exchange may permit Complex Options
Strategies with a ratio on the options legs less than one-to-three
(.333) or greater than three-to-one (3.00), and Stock-Option
Strategies with a ratio greater than eight-to-one (8.00), where the
ratio represents the total number of units of the underlying stock
or convertible security in the option leg(s) to the total number of
units of the underlying stock or convertible security in the stock
leg.
\54\ See Cboe US Options Complex Book Process, Section 2.1
(Ratios) and Section 3 (Complex FLEX Order Functionality), available
at <a href="https://cdn.cboe.com/resources/membership/US-Options-Complex-Book-Process.pdf">https://cdn.cboe.com/resources/membership/US-Options-Complex-Book-Process.pdf</a>. Unlike Cboe, the Exchange will continue to require
non-FLEX complex orders to adhere to the complex ratios in Options
3, Sections 14(a)(1)-(3), and therefore will not permit non-FLEX
complex orders to be submitted in any ratio outside of those
stipulated in Section 14.
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I. Opening of FLEX Trading (Section 8)
Proposed Section 8 will specify that there will be no Opening
Process pursuant to Options 3, Section 8 in FLEX Options. Instead,
Members may begin submitting FLEX Orders into an electronic FLEX
Auction pursuant to proposed Section 11(b), a FLEX PIM pursuant to
proposed Section 12, or a FLEX SOM pursuant to proposed Section 13 when
the underlying security is open for trading.\55\ Because market
participants incorporate transaction prices of underlying securities or
the values of underlying indexes when pricing options (including FLEX
[[Page 22298]]
Options), the Exchange believes that it will benefit investors for FLEX
Options trading to not be available until that information has begun to
be disseminated in the market (i.e., when the security opens for
trading).
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\55\ See proposed Options 3A, Section 8(a) and (b), which is
based on Cboe Rule 5.71 except with respect to open outcry trading
and trading sessions outside of regular trading hours.
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Additionally, the Exchange's Opening Process is used to open or
reopen a series of options on ISE at a single opening price.\56\ There
is a period of time before an options series opens during which orders
placed on the Exchange's order book do not generate trade executions
but may participate in the Opening Process.\57\ As noted above, FLEX
Options will not be placed on the Exchange's simple and complex order
books and therefore will not have an Opening Process.\58\ FLEX Options
are created with terms unique to individual investment objectives. As
such, each investor may require FLEX Options with slightly different
terms than those already created. These individually defined FLEX
Options are customized for each investor, so the Opening Process may
not be useful for investors who may create their own FLEX Options
because the Opening Process is designed, in part, to determine a single
opening, or reopening, price based on orders and quotes from multiple
Members. With the bespoke nature of FLEX Options, there is not the
opportunity, nor the need, to bring together multiple orders and quotes
as part of an Opening Process.
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\56\ See Options 3, Section 8(h) and (j).
\57\ See Options 3, Section 8(c).
\58\ See proposed Options 3A, Section 10(a). Instead, Members
will be required to submit FLEX Orders into an electronic FLEX
Auction, FLEX PIM, or FLEX SOM. See proposed Options 3A, Section
11(a).
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J. Trading Halts (Section 9)
Proposed Section 9 will provide that the Exchange may halt trading
in a FLEX Option class pursuant to Options 3, Section 9, and always
halts trading in a FLEX Option class when trading in a non-FLEX Options
class with the same underlying equity security or index is halted on
the Exchange. The System will not accept a FLEX Order for a FLEX Option
series while trading in a FLEX Option class is halted.\59\
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\59\ See Cboe Rule 4.21(a)(3) for materially identical
provisions.
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K. Exchange Order Books (Section 10)
Proposed Section 10 will provide that the Exchange's simple and
complex order books will not be available for transactions in FLEX
Options. Accordingly, FLEX Options may only be traded on the Exchange
by submitting FLEX Orders into a FLEX Electronic Auction pursuant to
proposed Options 11(b), FLEX PIM pursuant to proposed Options 12, and
FLEX SOM pursuant to proposed Options 13, each as discussed further
below. The Exchange notes that its proposal is in line with other
options exchanges' FLEX rules that do not contemplate the interaction
of their respective order books with FLEX transactions.\60\
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\60\ See e.g., NYSE Arca Rule 5.30-O(c). See also Securities
Exchange Act Release No. 87235 (October 4, 2019), 84 FR 54671
(October 10, 2019) (SR-CBOE-2019-084) (among other changes,
eliminating the availability of an electronic book for FLEX
Options).
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L. FLEX Options Trading (Section 11)
Proposed Section 11 will describe the procedures for FLEX trading
on the Exchange. Specifically, a FLEX Option series will only be
eligible for trading if a Member submits a FLEX Order for that series
into an electronic FLEX Auction pursuant to proposed paragraph (b) of
Options 11, or submits the FLEX Order to a FLEX PIM or FLEX SOM Auction
pursuant to proposed Section 12 or Section 13, respectively.\61\
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\61\ See proposed Options 3A, Section 11(a), which is based on
Cboe Rule 5.72(b) except the Exchange is not proposing an open
outcry FLEX Auction.
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Proposed Section 11(a)(1) and (2) will specify the requirements for
both simple and complex FLEX Orders.
<bullet> For a simple FLEX Order, a FLEX Order for a FLEX Option
series submitted to the System must include all terms for a FLEX Option
series set forth in proposed Section 3 as described above, size, side
of the market, and a bid or offer price.\62\ The Exchange also proposes
that the System will not accept a FLEX Order with identical terms as a
non-FLEX Option series that is already listed for trading to signify
that this requirement is System-enforced.
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\62\ See Cboe Rule 5.72(b)(1) for similar provisions. The
Exchange does not have an analogous rule as Cboe Rule 5.7, which
specifies the different trading sessions during which the system is
available to receive FLEX orders, and thus has not incorporated the
applicable language. As noted above, the Exchange will accept FLEX
Orders entered into an electronic FLEX Auction, FLEX PIM or FLEX SOM
when the underlying security is open for trading. See proposed
Options 3A, Section 8.
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<bullet> For a complex FLEX Order, a FLEX Order for a FLEX Option
complex strategy submitted to the System must satisfy the criteria for
a complex FLEX Order set forth in proposed Section 7(a) as described
above, and include size, side of the market, and a net debit or credit
price. Additionally, each leg of the FLEX Option complex strategy must
include all terms for a FLEX Option series set forth in proposed
Section 3.\63\ Similar to simple FLEX Orders, the Exchange proposes to
System enforce the stipulation that it will not accept a FLEX Option
complex strategy if a leg in the order has identical terms as a non-
FLEX Option series that is already listed for trading. Additionally, a
complex FLEX Order submitted into the System for an electronic FLEX
Auction pursuant to proposed Section 11(b), a FLEX PIM pursuant to
Section 12, or a FLEX SOM pursuant to Section 13 must include a bid or
offer price for each leg, which leg prices must add together to equal
the net price.\64\
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\63\ See Cboe Rule 5.72(b)(2) for similar provisions. As noted
above for simple FLEX Orders, the Exchange does not have an
analogous rule as Cboe Rule 5.7, and thus has not incorporated the
applicable language. See supra note 62.
\64\ See proposed Options 3A, Section 11(a)(2)(A), which is
based on Cboe Rule 5.72(b)(2)(A) except the Exchange will also add
references to FLEX PIM and FLEX SOM for accuracy and completeness.
---------------------------------------------------------------------------
Proposed Section 11(b) will describe the electronic FLEX Auction.
The proposed FLEX Auction will be substantially similar to Cboe's
electronic FLEX Auction set forth in Cboe Rule 5.72(c), except for
certain intended differences as further described below.\65\
Specifically, a Member may electronically submit a FLEX Order (simple
or complex) into an electronic FLEX Auction for execution pursuant to
this paragraph (b). Pursuant to proposed subparagraph (b)(1), a FLEX
Auction may be initiated if all of the below conditions in proposed
subparagraph (b)(1)(A)-(G) are met; otherwise, the System rejects or
cancels a FLEX Order that does not meet the conditions in this
subparagraph (b)(1).\66\
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\65\ See also Securities Exchange Act Release No. 87235 (October
4, 2019), 84 FR 54671 (SR-CBOE-2019-084) (October 10, 2019)
(adopting an electronic FLEX Auction on Cboe, among other changes).
\66\ Proposed paragraph (b) is based on Cboe Rule 5.72(c). The
proposed eligibility requirements for the FLEX Auction in
subparagraph (b)(1) are similar to Cboe Rule 5.72(c)(1), except as
noted below.
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<bullet> Class: The FLEX Order is in a class of options the
Exchange is authorized to list for trading on the Exchange.
<bullet> Size: There is no minimum size for FLEX Orders.
<bullet> Terms: A simple or complex FLEX Order must comply with
proposed Section 11(a).
<bullet> Price: The bid or offer price, or the net debit or credit
price, as applicable, of the FLEX Order is the ``auction price.''
<bullet> Time: A FLEX Order may only be submitted for electronic
execution in a FLEX Auction after FLEX trading has opened pursuant to
proposed Section 8.
<bullet> Exposure Interval: The submitting Member must designate
the length of the ``exposure interval,'' which must be between three
seconds and five minutes.\67\ If the designated time
[[Page 22299]]
exceeds the market close, then the FLEX Auction will end at the market
close with an execution, if an execution is permitted pursuant to
proposed Section 11(b).\68\
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\67\ There will be no default setting to the FLEX Auction
exposure interval. As such, Members will be required to specify the
exposure interval; otherwise, their FLEX Order will be rejected by
the System.
\68\ Cboe Rule 5.72(c)(1)(F) does not specify whether an
execution would occur (if permitted) when the designated time
exceeds the market close, and only expressly prohibits the
designated time from going beyond the market close. While the
Exchange's rules are silent in this regard, the Exchange notes that
its proposal will follow current non-FLEX auction behavior,
including current PIM and SOM behavior. In doing so, the Exchange's
proposal will promote executions in electronic FLEX Auctions and
also prevent executions after the market close.
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<bullet> Minimum Increment: The price of a simple FLEX Order must
be in an increment the Exchange determines on a class basis (which may
not be smaller than the amounts set forth in proposed Section 5 (i.e.,
$0.01)). If the FLEX Order is a complex order, the price must be a net
price for the complex strategy.\69\ The foregoing rule proposal will be
substantially similar to the minimum increment requirements in Cboe
Rules 5.73(a)(5) and 5.74(a)(5). While the Exchange will align to
Cboe's minimum increment requirements (i.e., $0.01) for the individual
options legs of a complex FLEX Order entered into a FLEX Auction, the
Exchange also proposes to align the minimum increment requirements for
stock-tied FLEX complex strategies with the existing requirements for
stock-tied non-FLEX complex strategies as set forth in Options 3,
Section 14(c)(1). As such, proposed Options 3A, Section 11(b)(1)(G)
will further provide that the prices of Complex Options Strategies (as
defined in Options 3, Section 14) may be expressed in one cent ($0.01)
increments, and the options leg of Complex Options Strategies may be
executed in one cent ($0.01) increments, regardless of the minimum
increments otherwise applicable to the individual options legs of the
order. Prices of Stock-Option Strategies or Stock-Complex Strategies
(each as defined in Options 3, Section 14) may be expressed in any
decimal price determined by the Exchange,\70\ and the stock leg of a
Stock-Option Strategy or Stock-Complex Strategy may be executed in any
decimal price permitted in the equity market. The options leg of a
Stock-Option Strategy or Stock-Complex Strategy may be executed in one
cent ($0.01) increments, regardless of the minimum increments otherwise
applicable to the individual options legs of the order. Similar to
stock-tied complex orders today, the Exchange believes that smaller
minimum increments are appropriate for complex FLEX Orders that contain
a stock component as the stock component can trade at finer decimal
increments permitted by the equity market.
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\69\ See proposed subparagraph (G) of Section 11(b)(1). While
Cboe's electronic FLEX Auction eligibility requirements in Rule
5.72(c)(1) are silent on minimum increments, the eligibility
requirements for Cboe's FLEX AIM and FLEX SAM in Cboe Rules
5.73(a)(5) and 5.74(a)(5), respectively, address minimum increments.
The Exchange believes it will be helpful to add a similar
requirement for electronic FLEX Auctions for greater consistency and
clarity. The Exchange also notes that unlike Cboe, it is not
proposing to allow exercise prices to be expressed as percentages,
and will therefore not incorporate the applicable provisions. As
discussed above, the Exchange is also incorporating within proposed
subparagraph (G) the minimum increment provisions for non-FLEX
complex orders that are stock-tied from Options 3, Section 14(c)(1).
\70\ The minimum increment for Stock-Option Strategies and
Stock-Complex Strategies can currently be expressed to four decimal
places.
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Proposed subparagraph (b)(2) of Options 11 will describe the FLEX
Auction process, and will provide that upon receipt of a FLEX Order
that meets the conditions in subparagraph (a) as described above, the
FLEX Auction commences. Proposed subparagraph (b)(2)(A) will describe
the contents of the FLEX Auction message, and will provide that the
System initiates a FLEX Auction by sending a FLEX Auction notification
message to Members detailing the FLEX Option series or complex strategy
(as applicable), side, size, auction ID,\71\ capacity, and exposure
interval. FLEX Auction notification messages are not disseminated to
OPRA.\72\ Like Cboe, the FLEX Auction message will not include the
price of the auctioned FLEX Order. The Exchange believes not including
the auction price in the notification message will encourage Members to
respond with the best prices at which they are willing to trade against
the auctioned FLEX Order. If the message included the price, Members
may only respond to trade at that price; without the price, Members may
respond at better prices, which may result in price improvement
opportunities for the auctioned FLEX Order.
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\71\ As discussed below, this information on the proposed
auction message will permit responses to only execute at the
conclusion of the auction into which the responses were submitted.
\72\ See Cboe Rule 5.72(c)(2)(A) for similar provisions, except
with respect to the exposure interval and Attributable designation.
The Exchange will simply disseminate the duration of the exposure
interval, instead of calculating and disseminating what time the
auction will conclude like Cboe. In addition, the Exchange is not
proposing to offer an Attributable designation for FLEX Orders like
Cboe does today.
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Proposed subparagraph (b)(2)(B) will provide that one or more FLEX
Auctions in the same FLEX Option series or complex strategy (as
applicable) may occur at the same time. To the extent there is more
than one FLEX Auction in a FLEX Option series or complex strategy (as
applicable) underway at the same time, the FLEX Auctions conclude
sequentially based on the times at which each FLEX Auction's exposure
interval concludes. At the time each FLEX Auction concludes, the System
allocates the FLEX Order pursuant to proposed subparagraph (3) and
takes into account all FLEX responses submitted during the exposure
interval.\73\ Generally, if a Member attempts to initiate an electronic
FLEX Auction in a FLEX Option series while another auction in that
series is ongoing, the Exchange believes it will provide that second
FLEX Order with an opportunity for execution in a timely manner by
initiating another FLEX Auction, rather than having the Member wait for
the first auction to conclude. The second Member may not be able to
submit a response to trade in the ongoing FLEX Auction, because the
terms may not be consistent with that Member's order (for example,
there may not be sufficient size, and the Member may only receive a
share of the auctioned order depending on other responses). Therefore,
the Exchange believes providing this proposed functionality may
encourage Members to use electronic FLEX Auctions to execute their FLEX
Orders.
---------------------------------------------------------------------------
\73\ See Cboe Rule 5.72(c)(2)(B) for materially identical
provisions.
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Proposed subparagraph (b)(2)(C) will provide that the submitting
Member may cancel a FLEX Auction prior to the end of the exposure
interval.\74\ Proposed subparagraph (b)(2)(D) will specify the
conditions for submitting responses to a FLEX Auction. Any Member
(including the submitting Member) may submit responses to a FLEX
Auction that are properly marked specifying the FLEX Option series or
complex strategy (as applicable), bid or offer price or net price
(respectively), size, side of the market, and the auction ID for the
FLEX Auction to which the Member is submitting the response. A FLEX
response may only participate in the FLEX Auction with the auction ID
specified in the response, which is why the auction notification
message described above will include an auction ID and responses must
identify the applicable auction ID.\75\ If there are concurrent FLEX
Auctions occurring, a Member may submit responses to all
[[Page 22300]]
ongoing auctions, and thus concurrent auctions will not hinder a
Member's ability to participate in any FLEX Auction.
---------------------------------------------------------------------------
\74\ See Cboe Rule 5.72(c)(2)(C) for materially identical
provisions.
\75\ See Cboe Rule 5.72(c)(2)(D) for materially identical
provisions.
---------------------------------------------------------------------------
A Member using the same badge/ \76\ mnemonic \77\ may only submit a
single FLEX response per auction ID to a FLEX Auction. If an additional
FLEX response is submitted for the same auction ID from the same badge/
mnemonic, then that FLEX response will automatically replace the
previous FLEX response.\78\ The System caps the size of a FLEX response
for the same badge/mnemonic at the size of the FLEX Order (i.e., the
System ignores the size in excess of the size of the FLEX Order when
processing the FLEX Auction).\79\ Given that the Exchange is proposing
below to apply a pro-rata allocation methodology to executions at the
conclusion of the FLEX Auction, this provision is intended to prevent a
Member from submitting a response with an extremely large size into the
electronic FLEX Auction in order to obtain a larger pro-rata share of
the FLEX Order.
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\76\ A ``badge'' shall mean an account number, which may contain
letters and/or numbers, assigned to Market Makers. A Market Maker
account may be associated with multiple badges. See Options 1,
Section 1(a)(5).
\77\ A ``mnemonic'' shall mean an acronym comprised of letters
and/or numbers assigned to Electronic Access Members. An Electronic
Access Member account may be associated with multiple mnemonics. See
Options 1, Section 1(a)(23).
\78\ See proposed Options 3A, Section 11(b)(2)(D)(i), which is
based on Cboe Rule 5.72(c)(2)(D)(i) except the Exchange will not
allow Members to submit multiple FLEX responses using the same
badge/mnemonic, and will not aggregate all of the Member's FLEX
responses. While not specified in the Exchange's current rules, this
is consistent with current auction behavior, including current PIM
and SOM behavior.
\79\ See proposed Options 3A, Section 11(b)(2)(D)(ii), which is
based on Cboe Rule 5.72(c)(2)(D)(ii) except the Exchange will not
aggregate all of the Member's FLEX responses. See supra note 78.
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Further, FLEX responses must be on the opposite side of the market
as the FLEX Order. The System rejects a FLEX response on the same side
of the market as the FLEX Order.\80\ FLEX responses are not visible to
Members or disseminated to OPRA.\81\ This is consistent with how Cboe
treats FLEX responses pursuant to Cboe Rule 5.72(c)(2)(D)(iv). The
proposed rule change is also consistent with the Exchange's existing
auctions, in which responses are not visible to the market.\82\
Responses to electronic auctions are not firm prior to the conclusion
of the auction, at which time their price and size are firm. For the
same reason as the Exchange is proposing not to disseminate the auction
price on the auction notification message as discussed above, the
Exchange believes it will encourage Members to submit responses at
their best possible price if they do not know the prices at which other
Members are willing to trade.\83\
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\80\ See proposed Options 3A, Section 11(b)(2)(D)(iii), which is
based on Cboe Rule 5.72(c)(2)(D)(iii).
\81\ See proposed Options 3A, Section 11(b)(2)(D)(iv), which is
based on Cboe Rule 5.72(c)(2)(D)(iv).
\82\ See Supplementary Material .02 to Options 3, Section 11;
and Options 3, Section 13(c)(4).
\83\ For example, if during a FLEX Auction of a buy FLEX Order,
a Member submitted a response to sell at $1.05, if another Member
saw that response, it may merely respond to sell at $1.05, or maybe
$1.04, even though it may ultimately be willing to sell at $1.03.
Without seeing the other responses, the second Member may instead
submit a response to sell at $1.03, which could result in price
improvement for the auctioned order.
---------------------------------------------------------------------------
A Member may modify or cancel it FLEX Responses during the exposure
interval.\84\ The minimum price increment for FLEX responses is the
same as the one the Exchange determines for a class pursuant to
proposed subparagraph (b)(1)(G) above. A response to a FLEX Auction of
a complex order must have a net price. The System rejects a FLEX
response that is not in the applicable minimum increment.\85\
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\84\ See proposed Options 3A, Section 11(b)(2)(D)(v), which is
based on Cboe Rule 5.72(c)(2)(D)(v).
\85\ See proposed Options 3A, Section 11(b)(2)(D)(vi). While
Cboe's electronic FLEX Auction response requirements in Rule
5.72(c)(2)(D) are silent on minimum increments, the response
requirements for Cboe's FLEX AIM and FLEX SAM in Cboe Rules
5.73(c)(5)(A) and 5.74(c)(5)(A), respectively, have similar
provisions. The Exchange believes it will be helpful to add a
similar requirement for electronic FLEX Auction responses for
greater consistency and clarity. The Exchange also notes that unlike
Cboe, it is not proposing to allow percentage formats for exercise
prices of FLEX Options, and will therefore not incorporate the
applicable provisions.
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Pursuant to proposed subparagraph (b)(3) of Section 11, the FLEX
Auction concludes at the end of the exposure interval, unless the
Exchange halts trading in the affected series or the submitting Member
cancels the FLEX Auction, in which case the FLEX Auction concludes
without execution.\86\ At the conclusion of the FLEX Auction:
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\86\ See Cboe Rule 5.72(c)(3) for materially identical
provisions.
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<bullet> Pursuant to proposed subparagraph (b)(3)(A), the System
executes the FLEX Order against the FLEX responses at the best
price(s), to the price at which the balance of the FLEX Order or the
FLEX responses can be fully executed (the ``final auction price''). For
purposes of ranking FLEX responses when determining how to allocate a
FLEX Order, the term ``price'' refers to the dollar and decimal amount
of the response bid or offer.\87\
---------------------------------------------------------------------------
\87\ See Cboe Rule 5.72(c)(3)(A) for similar provisions, except
the Exchange is not proposing to allow percentage values of the
response bid or offer.
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<bullet> Pursuant to proposed subparagraph (b)(3)(A)(i), if there
are multiple FLEX responses at the same price level, then the contracts
in those FLEX responses are allocated proportionally according to Size
Pro-Rata Priority \88\ with Priority Customer overlay \89\ (as
described in Options 3, Section 10(c)). The Exchange notes that this is
similar to Cboe Rule 5.72(c)(3)(A)(i), except Cboe applies no overlays
to its size pro-rata allocation methodology whereas the Exchange will
apply an overlay for Priority Customers on top of its standard size
pro-rata allocation methodology. This is consistent with the Exchange's
standard allocation methodology in its auctions for non-FLEX
Options.\90\
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\88\ Size Pro-Rata Priority shall mean that if there are two or
more resting orders or quotes at the same price, the System
allocates contracts from an incoming order or quote to resting
orders and quotes beginning with the resting order or quote
displaying the largest size proportionally according to displayed
size, based on the total number of contracts displayed at that
price. See Options 3, Section 10(c).
\89\ Priority Customer overlay mean that the highest bid and
lowest offer shall have priority except that Priority Customer
orders shall have priority over non- Priority Customer interest at
the same price in the same options series. If there are two or more
Priority Customer orders for the same options series at the same
price, priority shall be afforded to such Priority Customer orders
in the sequence in which they are received by the System. See
Options 10, Section 10(c)(1)(A).
\90\ See, e.g., Options 3, Section 11(d)(3)(C) (SOM allocation
methodology) and Options 3, Section 13(d) (PIM allocation
methodology).
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<bullet> Pursuant to proposed subparagraph (b)(3)(A)(ii), the
executable quantity is allocated to the nearest whole number, with
fractions rounded up for the FLEX response with the higher quantity.
Further, proposed subparagraph (b)(3)(A)(iii) will provide that if an
allocation would result in less than one contract, then one contract
will be allocated. The Exchange is not adopting the rounding and
allocation language in Cboe Rule 5.72(c)(3)(A)(ii) and (iii), but is
rather adopting language that is consistent with its current rounding
and allocation methodology as the Exchange does not allocate fractional
contracts and instead rounds up to the nearest whole number.\91\
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\91\ See Options 3, Section 10(c), Supplementary Material .09 to
Options 3, Section 11, and Supplementary Material .10 to Options 3,
Section 13.
---------------------------------------------------------------------------
Pursuant to proposed subparagraph (b)(3)(B), the System cancels an
unexecuted FLEX Order (or unexecuted portion).\92\ Further, proposed
[[Page 22301]]
subparagraph (b)(3)(C) will provide that the System cancels any
unexecuted responses (or unexecuted portions).\93\
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\92\ See Cboe Rule 5.72(c)(3)(B) for materially identical
provisions.
\93\ See Cboe Rule 5.72(c)(3)(C) for materially identical
provisions.
---------------------------------------------------------------------------
M. FLEX PIM (Section 12)
The Exchange proposes to establish PIM auction functionality for
FLEX Options in Options 3A, Section 12. The proposed FLEX PIM auction
will be substantially similar to Cboe's FLEX AIM in Cboe Rule 5.73,
except for certain intended differences as further described below.
Pursuant to proposed Section 12, a Member (the ``Initiating Member'')
may electronically submit for execution an order (which may be a simple
or complex order) it represents as agent (``Agency Order'') against
principal interest or a solicited order(s) (except, if the Agency Order
is a simple order, for an order for the account of any FLEX Market
Maker with an appointment in the applicable FLEX Option class on the
Exchange) (an ``Initiating Order''), provided it submits the Agency
Order for electronic execution into a FLEX PIM auction pursuant to this
Rule.\94\
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\94\ See Cboe Rule 5.73 for similar provisions, except the
Exchange will not incorporate the reference to FLEX SPX as this is a
Cboe-specific product.
---------------------------------------------------------------------------
Proposed Section 12(a)(1)-(5) will set forth the FLEX PIM auction
eligibility requirements. Specifically, the Initiating Member may
initiate a FLEX PIM auction if all of the following conditions are met:
<bullet> Class. An Agency Order must in a FLEX Option class the
Exchange designates as eligible for FLEX PIM auctions.
<bullet> FLEX Option Series. The Agency Order and Initiating Order
must each be a FLEX Order that complies with proposed Section 11(a) in
a permissible FLEX Option series that complies with proposed Section
3(b).
<bullet> Marking. The Initiating Member must mark an Agency Order
for FLEX PIM auction processing.
<bullet> Size. There will be no minimum size for Agency Orders. The
Initiating Order must be for the same size as the Agency Order.
<bullet> Minimum Increment. The price of the Agency Order and
Initiating Order for simple FLEX Orders must be in an increment the
Exchange determines on a class basis (which may not be smaller than the
amounts set forth in Section 5 above). If the Agency Order and
Initiating Order are complex orders, the price must be a net price for
the complex strategy.\95\ While the Exchange will align to Cboe's
minimum increment requirements (i.e., $0.01) for the individual options
legs of a complex FLEX Order entered into a FLEX PIM, the Exchange also
proposes to align the minimum increment requirements for stock-tied
FLEX complex strategies with the existing requirements for stock-tied
non-FLEX complex strategies as set forth in Options 3, Section
14(c)(1). As such, proposed Options 3A, Section 12(a)(5) will further
provide that the prices of Complex Options Strategies (as defined in
Options 3, Section 14) may be expressed in one cent ($0.01) increments,
and the options leg of Complex Options Strategies may be executed in
one cent ($0.01) increments, regardless of the minimum increments
otherwise applicable to the individual options legs of the order.
Prices of Stock-Option Strategies or Stock-Complex Strategies (each as
defined in Options 3, Section 14) may be expressed in any decimal price
determined by the Exchange,\96\ and the stock leg of a Stock-Option
Strategy or Stock-Complex Strategy may be executed in any decimal price
permitted in the equity market. The options leg of a Stock-Option
Strategy or Stock-Complex Strategy may be executed in one cent ($0.01)
increments, regardless of the minimum increments otherwise applicable
to the individual options legs of the order. Similar to stock-tied
complex orders today, the Exchange believes that smaller minimum
increments are appropriate for complex FLEX Orders that contain a stock
component as the stock component can trade at finer decimal increments
permitted by the equity market.
---------------------------------------------------------------------------
\95\ The Exchange notes that unlike Cboe, it will not allow
prices to be entered as a percentage value, and therefore will not
incorporate the applicable language from Cboe Rule 5.73(a)(5) into
proposed Section 12(a)(5). As discussed above, the Exchange will
also add existing complex order minimum increment requirements in
Options 3, Section 14(c)(1) to align the proposed FLEX functionality
with non-FLEX functionality.
\96\ The minimum increment for Stock-Option Strategies and
Stock-Complex Strategies can currently be expressed to four decimal
places.
---------------------------------------------------------------------------
<bullet> Time. An Initiating Member may only submit an Agency Order
to a FLEX PIM auction after trading in FLEX Options is open pursuant to
proposed Section 8.
The System will reject or cancel both an Agency Order and
Initiating Order submitted to a FLEX PIM auction that do not meet the
conditions in proposed paragraph (a) as described above. The proposed
FLEX PIM eligibility requirements in proposed Section 12(a) are
substantially similar to Cboe's FLEX AIM eligibility requirements in
Cboe Rule 5.73(a), except with respect to the language related to the
percentage value, as noted above.
Pursuant to proposed Section 12(b), the Initiating Order must stop
the entire Agency Order at a specified price. If the Agency Order and
Initiating Order are Complex Orders, the price must be a net price for
the complex strategy.\97\ In particular, the Initiating Member must
specify either of the below; otherwise, the System will reject or
cancel both an Agency Order and Initiating Order submitted to a FLEX
PIM auction that do not meet the conditions in this proposed paragraph
(b).
---------------------------------------------------------------------------
\97\ See Cboe Rule 5.73(b) for similar provisions, except the
Exchange will not allow prices to be entered as a percentage value,
and therefore will not incorporate the applicable language from
Cboe's rule into proposed Section 12(b).
---------------------------------------------------------------------------
<bullet> Pursuant to proposed subparagraph (b)(1), a single price
at which it seeks to execute the Agency Order against the Initiating
Order (a ``single-price submission''), including whether it elects to
have less than its guaranteed allocation (as described in proposed
Section 12(e)(4) below). This is similar to Cboe Rule Rule 5.73(b)(1),
except the Exchange is not proposing to allow Initiating Members to
elect for the Initiating Order to have last priority to trade against
the Agency Order, and will instead allow them to elect less than their
guaranteed allocation. As further discussed below, the proposed
guaranteed allocation option will be based on the guaranteed allocation
option available in non-FLEX PIM auctions, and therefore the proposed
rule change will provide further consistency across the Exchange's
auction mechanisms.
<bullet> Pursuant to subparagraph (b)(2), an initial stop price and
instruction to automatically match the price and size of all FLEX PIM
responses (``auto-match'') at each price, up to a designated limit
price, better than the price at which the balance of the Agency Order
can be fully executed (the ``final auction price''). This is materially
identical to Cboe Rule 5.73(b)(2).
Proposed Section 12(c) will govern the FLEX PIM auction process.
Specifically, upon receipt of an Agency Order that meets the conditions
in paragraphs (a) and (b) as described above, the FLEX PIM auction
process commences. Proposed subparagraphs (c)(1)(A) and (B) will
describe concurrent FLEX PIM auctions for simple Agency Orders and
complex Agency Orders, respectively. One or more FLEX PIM auctions in
the same FLEX Option series or same complex strategy (as applicable)
may occur at the
[[Page 22302]]
same time.\98\ To the extent there is more than one FLEX PIM auction in
a FLEX Option series or complex strategy (as applicable) underway at
the same time, the FLEX PIM auctions will conclude sequentially based
on the times at which the FLEX PIM auction periods end. At the time
each FLEX PIM auction concludes, the System allocates the Agency Order
pursuant to proposed paragraph (e) as described below, and takes into
account all FLEX PIM responses received during the FLEX PIM auction
period. The concurrent FLEX PIM auction feature in proposed Section
12(c)(1)(A) and (B) is materially identical to Cboe Rule 5.73(c)(1)(A)
and (B), and is also consistent with the concurrent auction feature
proposed above for FLEX Auctions. Similar to FLEX Auctions as proposed
above, if a Member attempts to initiate a FLEX PIM Auction in a FLEX
Option series while another auction in that series in ongoing, the
Exchange believes it will provide that second FLEX Order with an
opportunity for execution in a timely manner by initiating another FLEX
PIM Auction, rather than requiring the Member to wait for the first
auction to conclude. The second Member may not be able to submit a
response to trade in the ongoing FLEX PIM Auction because the terms may
not be consistent with that Member's order (for example, there may not
be sufficient size, and the Member may only receive a share of the
auctioned order depending on other responses). Therefore, the Exchange
believes that providing this functionality for FLEX PIM may provide
additional opportunities for execution of FLEX Orders by encouraging
Members to use FLEX PIM.
---------------------------------------------------------------------------
\98\ Further, for complex Agency Orders, PIM auctions in
different complex strategies may be ongoing at any given time, even
if the complex strategies have overlapping components. A FLEX PIM
auction in a complex strategy may be ongoing at the same time as a
FLEX PIM auction in any component of the complex strategy. See
proposed subparagraph (c)(1)(B)(i) of Options 3A, Section 12.
---------------------------------------------------------------------------
Pursuant to proposed Section 12(c)(2), the System initiates the
FLEX PIM auction process by sending a FLEX PIM auction notification
message detailing the side, size, auction ID, the length of the FLEX
PIM auction period, and FLEX Option series or complex strategy, as
applicable, of the Agency Order to all Members that elect to receive
FLEX PIM auction notification messages. The Exchange may also determine
to include the stop price in FLEX PIM auction notification messages,
which will apply to all FLEX PIM auctions. FLEX PIM auction
notification messages will not be disseminated to OPRA.\99\
---------------------------------------------------------------------------
\99\ See Cboe Rule 5.73(c)(2) for substantially similar
provisions except the Exchange will not incorporate the reference to
SPX as it does not list this symbol.
---------------------------------------------------------------------------
Proposed Section 12(c)(3) will describe the ``FLEX PIM Auction
period,'' and is based on Cboe Rule 5.73(c)(3). The FLEX PIM Auction
period will be defined as a period of time that must be designated by
the Initiating Member, which may be no less than three seconds and no
more than five minutes. Similar to the exposure interval for electronic
FLEX Auctions in Section 11(b) discussed above, the Initiating Member
will be required to identify a length of time within the specified
parameters for FLEX PIM as there will be no default for the FLEX PIM
Auction period. Otherwise, their FLEX Order will be rejected by the
System. Further, if the designated length of the FLEX PIM Auction
period exceeds the market close, then the auction will end at the
market close with an execution, if an execution is permitted by this
Section 12. Cboe's rule does not specify whether an execution (if
permitted) would occur if the designated length exceeds the market
close. However, the Exchange's non-FLEX auctions currently allow
executions (as permitted by their respective rules) to occur in such
scenarios, so the Exchange proposes to be consistent with current
System functionality in this regard.\100\ In doing so, the Exchange's
proposal will promote executions in FLEX PIM and also prevent
executions after the market close.
---------------------------------------------------------------------------
\100\ While this behavior is not explicitly stated in the
current Rules, the Exchange's proposal will be consistent with
current non-FLEX auction behavior, including current PIM and SOM
behavior.
---------------------------------------------------------------------------
Proposed Section 12(c)(4) will provide that an Initiating Member
may not modify or cancel an Agency Order or Initiating Order after
submission to a FLEX PIM auction, except to improve the price of the
Initiating Order. This will be similar to Cboe Rule 5.73(c)(4) except
unlike Cboe, the Exchange will allow a limited exception by allowing
Initiating Members to improve the price of their Initiating Orders. The
Exchange notes that this will align to current non-FLEX PIM behavior,
which allows entering Members to modify their Counter-Side Orders \101\
upon entry into the PIM by improving upon the initial price of the
Counter-Side Order.\102\
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\101\ Counter-Side Orders for PIM are the equivalent to
Initiating Orders for FLEX PIM. See Options 3, Section 13(b) for a
description of Counter-Side Orders.
\102\ See Options 3, Section 13(b)(5) as modified by SR-ISE-
2023-06 (not yet implemented) (providing that the Crossing
Transaction may not be canceled or modified, but the price of the
Counter-Side Order may be improved during the exposure period).
---------------------------------------------------------------------------
Proposed Section 12(c)(5) will govern the requirements for FLEX PIM
responses. Specifically:
<bullet> Any Member other than the Initiating Member (the System
rejects a response with the same badge/mnemonic as the Initiating
Order) may submit responses to a FLEX PIM auction that are properly
marked specifying price, size, side, and the auction ID for the FLEX
PIM auction to which the Member is submitting the response. A FLEX PIM
response may only participate in the FLEX PIM auction with the auction
ID specified in the response.\103\
---------------------------------------------------------------------------
\103\ See proposed Options 3A, Section 12(c)(5), which is based
on Cboe Rule 5.73(c)(5).
---------------------------------------------------------------------------
<bullet> The minimum price increment for FLEX PIM responses is the
same as the one the Exchange determines for a class pursuant to
proposed Section 12(a)(5) above. A response to a FLEX PIM auction of a
complex Agency Order must have a net price. The System will reject a
FLEX PIM response that is not in the applicable minimum increment.\104\
---------------------------------------------------------------------------
\104\ See proposed Options 3A, Section 12(c)(5)(A), which is
based on Cboe Rule 5.73(c)(5)(A) except the Exchange will not allow
prices to be expressed as a percentage value. Further, the Exchange
will not incorporate the Cboe rule portions on Index Combo Orders as
the Exchange does not offer this functionality.
---------------------------------------------------------------------------
<bullet> A Member using the same badge/mnemonic may only submit a
single FLEX PIM response per auction ID for a given auction. If an
additional FLEX PIM response is submitted for the same auction ID from
the same badge/mnemonic, then that FLEX PIM response will automatically
replace the previous FLEX PIM response.\105\
---------------------------------------------------------------------------
\105\ See proposed Options 3A, Section 12(c)(5)(B), which will
be different from Cboe Rule 5.73(c)(5)(B) because the Exchange will
not allow Members to submit multiple FLEX PIM responses using the
same badge/mnemonic, and will not aggregate all of the Member's FLEX
PIM responses. While the rules are currently silent in this regard,
this will align to current non-FLEX auction behavior, including PIM
auction behavior.
---------------------------------------------------------------------------
<bullet> The System will cap the size of a FLEX PIM response at the
size of the Agency Order (i.e., the System will ignore size in excess
of the size of the Agency Order when processing the FLEX PIM
auction).\106\
---------------------------------------------------------------------------
\106\ See proposed Options 3A, Section 12(c)(5)(C), which is
based on Cboe Rule 5.73(c)(5)(C) except the Exchange will not allow
Members to submit multiple FLEX PIM responses using the same badge/
mnemonic, and will not aggregate all of the Member's FLEX PIM
responses. As noted above, this will align to current non-FLEX
auction functionality, including PIM auction functionality in
Options 3, Section 13.
---------------------------------------------------------------------------
<bullet> FLEX PIM responses must be on the opposite side of the
market as the
[[Page 22303]]
Agency Order. The System rejects a FLEX PIM response on the same side
of the market as the Agency Order.\107\
---------------------------------------------------------------------------
\107\ See proposed Options 3A, Section 12(c)(5)(D), which is
materially identical to Cboe Rule 5.73(c)(5)(D).
---------------------------------------------------------------------------
<bullet> FLEX PIM responses will not be visible to PIM auction
participants or disseminated to OPRA.\108\
---------------------------------------------------------------------------
\108\ See proposed Options 3A, Section 12(c)(5)(E), which is
materially identical to Cboe Rule 5.73(c)(5)(E).
---------------------------------------------------------------------------
<bullet> A Member may modify or cancel its FLEX PIM responses
during the FLEX PIM auction.\109\
---------------------------------------------------------------------------
\109\ See proposed Options 3A, Section 12(c)(5)(F), which is
materially identical to Cboe Rule 5.73(c)(5)(F).
---------------------------------------------------------------------------
Pursuant to proposed Section 12(d), a FLEX PIM auction concludes at
the earliest to occur of the following times: (1) the end of the FLEX
PIM auction period; and (2) any time the Exchange halts trading in the
affected series, provided, however, that in such instance the FLEX PIM
auction concludes without execution.\110\
---------------------------------------------------------------------------
\110\ See Cboe Rule 5.73(d) for materially identical provisions.
---------------------------------------------------------------------------
Proposed Section 12(e) will govern how executions will occur in
FLEX PIM. In particular, at the end of the FLEX PIM auction, the System
allocates the Initiating Order or FLEX PIM responses against the Agency
Order at the best price(s), to the price at which the balance of the
Agency Order can be fully executed (the ``final auction price''), as
follows. For purposes of ranking the Initiating Order and FLEX PIM
responses when determining how to allocate the Agency Order against the
Initiating Order and those responses, the term ``price'' refers to the
dollar and decimal amount of the order or response bid or offer.\111\
Proposed subparagraphs (e)(1)-(4) details the FLEX PIM allocation
methodology for the following scenarios:
---------------------------------------------------------------------------
\111\ See Cboe Rule 5.73(e) for similar provisions except the
Exchange will not allow prices to be expressed as a percentage
value.
---------------------------------------------------------------------------
<bullet> No Price Improvement: If the FLEX PIM auction results in
no price improvement, the System executes the Agency Order at the stop
price in the following order:
<bullet> Priority Customer responses (in time priority); \112\
---------------------------------------------------------------------------
\112\ See proposed Section 12(e)(1)(A), which is materially
identical to Cboe Rule 5.73(e)(1)(A).
---------------------------------------------------------------------------
<bullet> The Initiating Order for the greater of (1) one contract
or (2) up to 50% of the Agency Order if there is a response(s) from one
other Member at the same price or 40% of the Agency Order if there are
responses from two or more other Members at the same price (which
percentages are based on the original size of the Agency Order).\113\
Unless there are remaining contracts after including all PIM responses,
under no circumstances does the Initiating Member receive an allocation
percentage at the final auction price of more than 50% of the initial
Agency Order in the event there is a response(s) from one other Member
or 40% of the initial Agency Order in the event there are responses
from two or more other Members, except when rounding up. The Exchange
is specifying two limited scenarios in this Rule where the Initiating
Member may receive an allocation percentage greater than its guaranteed
allocation percentage, which is either when there are remaining
contracts after including all PIM responses or when rounding up.\114\
As an example of the first scenario, assume an Initiating Member
submitted a FLEX Order for 20 contracts into FLEX PIM and there are 2
PIM responses (one for 3 contracts and one for 4 contracts). After the
7 PIM responses are allocated, the Initiating Member would then receive
the remaining 13 contracts (which is more than their 40% allocation
percentage) because there are remaining contracts after all PIM
responses are included.
---------------------------------------------------------------------------
\113\ See proposed Section 12(e)(1)(B)(ii), which is based on
Cboe Rule 5.73(e)(1)(B)(ii) except the percentages will be based on
the original size of the Agency Order, instead of the number of
contracts remaining after execution against Priority Customer
responses like Cboe. This will align to current PIM functionality.
See Options 3, Section 13(d)(3). See infra note 121 for further
discussion on allocation percentages.
\114\ See proposed Section 12(e)(1)(B), which is based on Cboe
Rule 5.73(e)(1)(B) except with respect to the two limited scenarios
discussed above. This behavior will align to current PIM
functionality. While the Exchange's rules are silent on the first
scenario, the rounding up scenario is specified in Options 3,
Section 13(d)(7).
---------------------------------------------------------------------------
<bullet> All other FLEX PIM responses, allocated on a Size Pro-Rata
basis (as defined in Options 3, Section 10(c)); \115\ and
---------------------------------------------------------------------------
\115\ See proposed Section 12(e)(1)(C), which is materially
identical to Cboe Rule 5.73(e)(1)(C). The Exchange notes that Size
Pro-Rata (as defined in Options 3, Section 10(c)) is similar to pro-
rata as referenced in the Cboe rule (and as defined in Cboe Rule
5.32(a)(1)(B)).
---------------------------------------------------------------------------
<bullet> The Initiating Order to the extent there are any remaining
contracts.\116\
---------------------------------------------------------------------------
\116\ See proposed Section 12(e)(1)(D), which is materially
identical to Cboe Rule 5.73(e)(1)(D).
---------------------------------------------------------------------------
<bullet> Price Improvement with Single-Price Submission: If the
FLEX PIM auction results in price improvement for the Agency Order and
the Initiating Member selected a single-price submission, at each price
better than the final auction price, the System executes the Agency
Order in the following order:
<bullet> Priority Customer responses (in time priority); \117\
---------------------------------------------------------------------------
\117\ See proposed Section 12(e)(2)(A), which is materially
identical to Cboe Rule 5.73(e)(2)(A).
---------------------------------------------------------------------------
<bullet> Other FLEX PIM responses (in time priority) at prices
better than the final auction price; and
<bullet> All other FLEX PIM responses at the final auction price,
allocated on a Size Pro-Rata basis (as defined in Options 3, Section
10(c)).\118\
---------------------------------------------------------------------------
\118\ See proposed Section 12(e)(2)(B), which is based on Cboe
Rule 5.73(e)(2)(B), except the Exchange will specify that other FLEX
PIM responses at prices better than the final auction price will be
allocated in time priority and all other FLEX PIM responses at the
final auction price will be allocated on a Size Pro-Rata Basis.
While the current rules are silent in this regard, this behavior
follows current PIM behavior.
---------------------------------------------------------------------------
For example, assume a FLEX PIM Agency Order is sent for 100
contracts with a price of $1.00 and the Initiating Member selected a
single-price submission. There are two PIM responses for 5 contracts
each at $0.98, two PIM responses for 20 contracts each at $0.99, and
two PIM responses for 40 contracts each at $1.00. The PIM responses at
$0.98 and $0.99 will be executed in their entirety. The PIM responses
at $1.00 (final auction price) will be executed on a Size Pro-Rata
basis.
At the final auction price, the System executes any remaining
contracts from the Agency Order at that price in the order set forth in
proposed subparagraph (e)(1), as described above.\119\
---------------------------------------------------------------------------
\119\ See proposed Section 12(e)(2), which is materially
identical to Cboe Rule 5.73(e)(2).
---------------------------------------------------------------------------
<bullet> Price Improvement with Auto-Match: If the FLEX PIM auction
results in price improvement for the Agency Order and the Initiating
Member selected auto-match, at each price better than the final auction
price up to the designated limit price, the System executes the Agency
Order against the Initiating Order for the number of contracts equal to
the aggregate size of all FLEX PIM responses and then executes the
Agency Order against those responses in the order set forth in proposed
subparagraph (e)(2) described above. At the final auction price, the
System executes contracts at that price in the order set forth in
proposed subparagraph (e)(1) described above.\120\
---------------------------------------------------------------------------
\120\ See proposed Section 12(e)(3), which is materially
identical to Cboe Rule 5.73(e)(3).
---------------------------------------------------------------------------
<bullet> Guaranteed Allocation: If the Initiating Member selects a
single-price submission, it may elect for the Initiating Order to have
less than their guaranteed allocation (50% if there is a response(s)
from one other Member or 40% if there are responses from two or more
Members) to trade against the
[[Page 22304]]
Agency Order. The Initiating Member may select a lesser percentage than
their guaranteed allocation. If the Initiating Member elects 0%, then
notwithstanding subparagraphs (e)(1) and (2), the System only executes
the Initiating Order against any remaining Agency Order contracts at
the stop price after the Agency Order is allocated to all FLEX PIM
responses at all prices equal to or better than the stop price.
Guaranteed allocation information is not available to other market
participants and may not be modified after it is submitted.\121\
---------------------------------------------------------------------------
\121\ See proposed Section 12(e)(4), which is based on Cboe Rule
5.73(e)(4) except the Exchange will replace Cboe's last priority
feature with a guaranteed allocation feature similar to current PIM
functionality that allows Members to request a lower percentage than
their guaranteed allocation. See Options 3, Section 13(d)(3). The
Exchange notes that the proposed guaranteed allocation percentages
of 50% (if there is a response(s) from one other Member) and 40% (if
there are responses from two or more Members) for FLEX PIM will
differ from the current guaranteed allocation percentage of 40% for
standard PIM. As such, the Exchange is aligning to Cboe's allocation
percentages. The Exchange also notes that its affiliate, Nasdaq BX,
Inc. (``BX''), has consistent guaranteed allocation percentages for
its price improvement auction, BX PRISM. See BX Options 3, Section
13(ii)(A)(1).
---------------------------------------------------------------------------
Pursuant to proposed Section 12(e)(5), the System cancels any
unexecuted FLEX PIM responses (or unexecuted portions) at the
conclusion of the FLEX PIM auction.\122\
---------------------------------------------------------------------------
\122\ See Cboe Rule 5.73(e)(5) for substantially similar
provisions.
---------------------------------------------------------------------------
Lastly, the Exchange proposes a number of policies applicable to
FLEX PIM as Supplementary Materials to Options 3A, Section 12.
Specifically, proposed Supplementary Material .01 will provide that a
Member may only use a FLEX PIM auction where there is a genuine
intention to execute a bona fide transaction.\123\ Proposed
Supplementary Material .02 will provide that it will be deemed conduct
inconsistent with just and equitable principles of trade and a
violation of Options 9, Section 1 \124\ to engage in a pattern of
conduct where the Initiating Member breaks up an Agency Order into
separate orders for the purpose of gaining a higher allocation
percentage than the Initiating Member would have otherwise received in
accordance with the allocation procedures contained in proposed
paragraph (e) above.\125\ Lastly, proposed Supplementary Material .03
will provide that if an allocation would result in less than one
contract, then one contract will be allocated. This aligns to how the
Exchange currently allocates contracts in PIM.\126\
---------------------------------------------------------------------------
\123\ See Cboe Rule 5.73, Interpretations and Policies .01 for
materially identical provisions.
\124\ Options 9, Section 1 provides that no Member shall engage
in acts or practices inconsistent with just and equitable principles
of trade. Persons associated with Members shall have the same duties
and obligations as Members under the Rules of Options 9.
\125\ See Cboe Rule 5.73, Interpretations and Policies .02 for
materially identical provisions.
\126\ See Supplementary Material .10 to Options 3, Section 13.
---------------------------------------------------------------------------
N. FLEX SOM (Section 13)
The Exchange proposes to establish SOM auction functionality for
FLEX Options in Options 3A, Section 13. The proposed FLEX SOM auction
will be substantially similar to Cboe's FLEX SAM in Cboe Rule 5.74,
except for certain intended differences to align with the Exchange's
current System functionality for non-FLEX Options, as further described
below. Pursuant to proposed Section 13, a Member (the ``Initiating
Member'') may electronically submit for execution an order (which may
be a simple or complex order) it represents as agent (``Agency Order'')
against a solicited order (``Solicited Order'') if it submits the
Agency Order for electronic execution into a FLEX SOM auction pursuant
to this Rule.\127\
---------------------------------------------------------------------------
\127\ See Cboe Rule 5.74 for similar provisions. The Exchange
will not add Cboe's language that the Solicited Order cannot have a
Capacity F for the same executing firm ID (``EFID'') as the Agency
Order because it will not System enforce the rejection of Firm
capacity for the same badge/mnemonic as the Agency Order. Instead,
it will to enforce the requirement that the contra-side order be a
solicitation rather than a facilitation through surveillance, as it
does today for non-FLEX SOM. The applicable rule for the foregoing
requirement will be set forth in Supplementary Material .02 to
Options 3A, Section 13.
---------------------------------------------------------------------------
Proposed Section 13(a)(1)-(6) will set forth the FLEX SOM auction
eligibility requirements, and will be substantially similar to Cboe
Rule 5.74(a)(1)-(6) except as noted below. Specifically, the Initiating
Member may initiate a FLEX SOM auction if all of the following
conditions are met:
<bullet> Class. An Agency Order must in a FLEX Option class the
Exchange designates as eligible for FLEX SOM auctions.
<bullet> FLEX Option Series. The Agency Order and Solicited Order
must each be a FLEX Order that complies with proposed Section 11(a) in
a permissible FLEX Option series that complies with proposed Section
3(b).
<bullet> Marking. The Initiating Member must mark an Agency Order
for FLEX SOM auction processing.
<bullet> Size. The Agency Order must be for at least the minimum
size designated by the Exchange (which may not be less than 500
standard option contracts). The Solicited Order must be for the same
size as the Agency Order. The System handles each of the Agency Order
and the Solicited Order as all-or-none.\128\
---------------------------------------------------------------------------
\128\ See Cboe Rule 5.74(a)(4) for similar provisions except
unlike Cboe, the Exchange will not allow the Solicited Order to be
comprised of multiple solicited orders in FLEX SOM to be consistent
with current non-FLEX SOM functionality in Options 3, Section 11(d).
In addition, the Exchange will not incorporate Cboe's provisions
relating to mini options or Micro FLEX Index Options into proposed
Section 13(a)(4) as the Exchange does not list these products today.
---------------------------------------------------------------------------
<bullet> Minimum Increment. The price of the Agency Order and
Solicited Order for simple FLEX Orders must be in an increment the
Exchange determines on a class basis (which may not be smaller than the
amounts set forth in Section 5 above). If the Agency Order and
Solicited Order are complex orders, the price must be a net price for
the complex strategy.\129\ While the Exchange will align to Cboe's
minimum increment requirements (i.e., $0.01) for the individual options
legs of a complex FLEX Order entered into a FLEX SOM, the Exchange also
proposes to align the minimum increment requirements for stock-tied
FLEX complex strategies with the existing requirements for stock-tied
non-FLEX complex strategies as set forth in Options 3, Section
14(c)(1). As such, proposed Options 3A, Section 12(a)(5) will further
provide that the prices of Complex Options Strategies (as defined in
Options 3, Section 14) may be expressed in one cent ($0.01) increments,
and the options leg of Complex Options Strategies may be executed in
one cent ($0.01) increments, regardless of the minimum increments
otherwise applicable to the individual options legs of the order.
Prices of Stock-Option Strategies or Stock-Complex Strategies (each as
defined in Options 3, Section 14) may be expressed in any decimal price
determined by the Exchange,\130\ and the stock leg of a Stock-Option
Strategy or Stock-Complex Strategy may be executed in any decimal price
permitted in the equity market. The options leg of a Stock-Option
Strategy or Stock-Complex Strategy may be executed in one cent ($0.01)
increments, regardless of the minimum increments otherwise applicable
to the individual options legs of the order. Similar to stock-tied
complex orders today, the Exchange believes that smaller minimum
[[Page 22305]]
increments are appropriate for complex FLEX Orders that contain a stock
component as the stock component can trade at finer decimal increments
permitted by the equity market.
---------------------------------------------------------------------------
\129\ The Exchange notes that unlike Cboe, it will not allow
prices to be entered as a percentage value, and therefore will not
incorporate the applicable language from Cboe Rule 5.74(a)(5) into
proposed Section 13(a)(5). As discussed above, the Exchange will
also incorporate existing minimum increment requirements for non-
FLEX complex orders into proposed Section 13(a)(5) to align the
proposed FLEX functionality with non-FLEX functionality.
\130\ The minimum increment for Stock-Option Strategies and
Stock-Complex Strategies can currently be expressed to four decimal
places.
---------------------------------------------------------------------------
<bullet> An Initiating Member may only submit an Agency Order to a
FLEX SOM auction after trading in FLEX Options is open pursuant to
proposed Section 8.
The System will reject or cancel both an Agency Order and Solicited
Order submitted to a FLEX SOM auction that do not meet the conditions
in proposed paragraph (a) as described above.
Pursuant to proposed Section 13(b), the Solicited Order must stop
the entire Agency Order at a specified price. If the Agency Order and
Solicited Order are complex orders, the price must be a net price for
the complex strategy. The Initiating Member must specify a single price
at which it seeks to execute the Agency Order against the Solicited
Order. Otherwise, the System will reject or cancel both an Agency Order
and Solicited Order submitted to a FLEX SOM auction that do not meet
this condition.\131\
---------------------------------------------------------------------------
\131\ See Cboe Rule 5.74(b) for similar provisions, except the
Exchange will not allow prices to be entered as a percentage value,
and therefore will not incorporate the applicable language from
Cboe's rule into proposed Section 13(b).
---------------------------------------------------------------------------
Proposed Section 13(c) will govern the FLEX SOM auction process.
Specifically, upon receipt of an Agency Order that meets the conditions
in paragraphs (a) and (b) as described above, the FLEX SOM auction
process commences. Proposed subparagraphs (c)(1)(A) and (B) will
describe concurrent FLEX SOM auctions for simple Agency Orders and
complex Agency Orders, respectively, and will be materially identical
to Cboe Rule 5.74(c)(1)(A) and (B).
One or more FLEX SOM auctions in the same FLEX Option series or
same complex strategy (as applicable) may occur at the same time.\132\
To the extent there is more than one FLEX SOM auction in a FLEX Option
series or complex strategy (as applicable) underway at the same time,
the FLEX SOM auctions will conclude sequentially based on the times at
which the FLEX SOM auction periods end. At the time each FLEX SOM
auction concludes, the System allocates the Agency Order pursuant to
proposed paragraph (e) as described below, and takes into account all
FLEX SOM responses received during the FLEX SOM auction period. As
noted above, the proposed concurrent FLEX SOM auction feature is
consistent with Cboe's concurrent FLEX SAM auctions feature in Cboe
Rule 5.74(c)(1), and is also consistent with the concurrent auction
feature proposed above for FLEX Auctions and FLEX PIM. For the same
reasons stated above for FLEX Auctions and FLEX PIM, the Exchange
believes that providing this concurrent auction functionality for FLEX
SOM may provide additional opportunities for execution of FLEX Orders
by encouraging Members to use FLEX SOM.
---------------------------------------------------------------------------
\132\ Further, for complex Agency Orders, SOM auctions in
different complex strategies may be ongoing at any given time, even
if the complex strategies have overlapping components. A FLEX SOM
auction in a complex strategy may be ongoing at the same time as a
FLEX SOM auction in any component of the complex strategy. See
proposed subparagraph (c)(1)(B)(i) of Options 3A, Section 13.
---------------------------------------------------------------------------
Pursuant to proposed Section 13(c)(2), the System initiates the
FLEX SOM auction process by sending a FLEX SOM auction notification
message detailing the side, size, price, capacity, auction ID, the
length of the FLEX SOM auction period, and FLEX Option series or
complex strategy, as applicable, of the Agency Order to all Members
that elect to receive FLEX SOM auction notification messages. FLEX SOM
auction notification messages will not be disseminated to OPRA. These
provisions are materially identical to Cboe Rule 5.74(c)(2).
Proposed Section 13(c)(3) will describe the ``FLEX SOM Auction
period,'' and is based on Cboe Rule 5.74(c)(3). The FLEX SOM Auction
period will be defined as a period of time that must be designated by
the Initiating Member, which may be no less than three seconds and no
more than five minutes. Similar to the exposure interval for electronic
FLEX Auctions in Section 11(b) and the FLEX PIM Auction period in
Section 12(c)(3) as discussed above, the Initiating Member will be
required to identify a length of time within the specified parameters
for FLEX SOM as there will be no default for the FLEX SOM Auction
period. Otherwise, their FLEX Order will be rejected by the System.
Further, if the designated length of the FLEX SOM Auction period
exceeds the market close, then the auction will end at the market close
with an execution, if an execution is permitted by this Section 13.
Cboe's rule does not specify whether an execution (if permitted) would
occur if the designated length exceeds the market close. However, the
Exchange's non-FLEX auctions currently allow executions (as permitted
by their respective rules) to occur in such scenarios, so the Exchange
proposes to be consistent with current System functionality in this
regard.\133\ In doing so, the Exchange's proposal will promote
executions in FLEX SOM while also preventing executions after the
market close.
---------------------------------------------------------------------------
\133\ While this behavior is not explicitly stated in the
current Rules, the Exchange's proposal will be consistent with
current non-FLEX auction behavior, including current PIM and SOM
behavior.
---------------------------------------------------------------------------
Proposed Section 13(c)(4) will provide that an Initiating Member
may not modify an Agency Order or Solicited Order after submission to a
FLEX SOM auction. This will be similar to Cboe Rule 5.74(c)(4) except
unlike Cboe, the Exchange will allow Initiating Members to cancel their
Agency Orders and Solicited Orders upon submission into a FLEX SOM,
which will align with current SOM functionality.\134\
---------------------------------------------------------------------------
\134\ This feature is not explicitly stated in the current SOM
rules in Options 3, Section 11(d), but it is consistent with current
SOM functionality.
---------------------------------------------------------------------------
Proposed Section 13(c)(5) will govern the requirements for FLEX SOM
responses. Specifically:
<bullet> Any Member other than the Initiating Member (the response
cannot have the same badge/mnemonic as the Agency Order) may submit
responses to a FLEX SOM auction that are properly marked specifying
size, side, price, and the auction ID for the FLEX SOM auction to which
the Member is submitting the response. A FLEX SOM response may only
participate in the FLEX SOM auction with the auction ID specified in
the response.\135\
---------------------------------------------------------------------------
\135\ See proposed Options 3A, Section 13(c)(5), which is based
on Cboe Rule 5.74(c)(5).
---------------------------------------------------------------------------
<bullet> The minimum price increment for FLEX SOM responses is the
same as the one the Exchange determines for a class pursuant to
proposed Section 12(a)(5) above. A response to a FLEX SOM auction of a
complex Agency Order must have a net price. The System will reject a
FLEX SOM response that is not in the applicable minimum increment.\136\
---------------------------------------------------------------------------
\136\ See proposed Options 3A, Section 13(c)(5)(A), which is
based on Cboe Rule 5.74(c)(5)(A) except the Exchange will not allow
prices to be expressed as a percentage value.
---------------------------------------------------------------------------
<bullet> A Member using the same badge/mnemonic may only submit a
single FLEX SOM response per auction ID for a given auction. If an
additional SOM response is submitted for the same auction ID from the
same badge/mnemonic, then that FLEX SOM response will automatically
replace the previous FLEX SOM response.\137\
---------------------------------------------------------------------------
\137\ See proposed Options 3A, Section 13(c)(5)(B), which will
be different from Cboe Rule 5.74(c)(5)(B) because the Exchange will
not allow Members to submit multiple FLEX SOM responses using the
same badge/mnemonic, and will not aggregate all of the Member's FLEX
SOM responses. While the rules are currently silent in this regard,
the proposed language will align to current non-FLEX auction
functionality, including SOM auctions in Options 3, Section 11(d).
---------------------------------------------------------------------------
<bullet> The System will cap the size of a FLEX SOM response at the
size of the
[[Page 22306]]
Agency Order (i.e., the System will ignore size in excess of the size
of the Agency Order when processing the FLEX SOM auction).\138\
---------------------------------------------------------------------------
\138\ See proposed Options 3A, Section 13(c)(5)(C), which is
based on Cboe Rule 5.74(c)(5)(C) except the Exchange will not allow
Members to submit multiple FLEX SOM responses using the same badge/
mnemonic, and will not aggregate all of the Member's FLEX SOM
responses. As noted above, this will align to current non-FLEX
auction functionality, including SOM auctions in Options 3, Section
11(d).
---------------------------------------------------------------------------
<bullet> FLEX SOM responses must be on the opposite side of the
market as the Agency Order. The System rejects a FLEX SOM response on
the same side of the market as the Agency Order.\139\
---------------------------------------------------------------------------
\139\ See proposed Options 3A, Section 13(c)(5)(D), which is
materially identical to Cboe Rule 5.74(c)(5)(D).
---------------------------------------------------------------------------
<bullet> FLEX SOM responses will not be visible to FLEX SOM auction
participants or disseminated to OPRA.\140\
---------------------------------------------------------------------------
\140\ See proposed Options 3A, Section 13(c)(5)(E), which is
materially identical to Cboe Rule 5.74(c)(5)(E).
---------------------------------------------------------------------------
<bullet> A Member may modify or cancel its FLEX SOM responses
during a FLEX SOM auction.\141\
---------------------------------------------------------------------------
\141\ See proposed Options 3A, Section 13(c)(5)(F), which is
materially identical to Cboe Rule 5.74(c)(5)(F).
---------------------------------------------------------------------------
Pursuant to proposed Section 13(d), a FLEX SOM auction concludes at
the earliest to occur of the following times: (1) the end of the FLEX
SOM auction period; and (2) any time the Exchange halts trading in the
affected series, provided, however, that in such instance the FLEX SOM
auction concludes without execution.\142\
---------------------------------------------------------------------------
\142\ See Cboe Rule 5.74(d) for materially identical provisions.
---------------------------------------------------------------------------
Proposed Section 13(e) will govern how executions will occur in
FLEX SOM. In particular, at the end of the FLEX SOM auction, the System
will execute the Agency Order against the Solicited Order or FLEX SOM
responses at the best price(s) as follows. For purposes of ranking the
Solicited Order and FLEX SOM responses when determining how to allocate
the Agency Order against the Solicited Order and those responses, the
term ``price'' refers to the dollar and decimal amount of the order or
response bid or offer.\143\ Proposed subparagraphs (e)(1)-(3) details
the FLEX SOM allocation methodology for the following scenarios:
---------------------------------------------------------------------------
\143\ See Cboe Rule 5.74(e) for similar provisions except the
Exchange will not allow prices to be expressed as a percentage
value.
---------------------------------------------------------------------------
<bullet> Execution Against Solicited Order: The System executes the
Agency Order against the Solicited Order at the stop price if there are
no Priority Customer FLEX SOM responses and the aggregate size of FLEX
SOM responses at an improved price(s) is insufficient to satisfy the
Agency Order.\144\
---------------------------------------------------------------------------
\144\ See proposed Section 13(e)(1), which is materially
identical to Cboe Rule 5.74(e)(1).
---------------------------------------------------------------------------
<bullet> Execution Against FLEX SOM Responses: The System executes
the Agency Order against FLEX SOM responses if (1) there is a Priority
Customer FLEX SOM response and the aggregate size of that response and
all other FLEX SOM responses is sufficient to satisfy the Agency Order
or (2) the aggregate size of FLEX SOM responses at an improved price(s)
is sufficient to satisfy the Agency Order. The Agency Order executes
against FLEX SOM responses at each price level. At the price at which
the balance of the Agency Order can be fully executed, in the following
order:
<bullet> Priority Customer FLEX SOM responses (in time priority);
\145\ and
---------------------------------------------------------------------------
\145\ See proposed Section 13(e)(2)(A), which is materially
identical to Cboe Rule 5.74(e)(2)(A).
---------------------------------------------------------------------------
<bullet> All other FLEX SOM responses, allocated on a Size Pro-Rata
basis (as defined in Options 3, Section 10(c)).\146\
---------------------------------------------------------------------------
\146\ See proposed Section 13(e)(2)(B), which is materially
identical to Cboe Rule 5.74(e)(2)(B). The Exchange notes that Size
Pro-Rata (as defined in Options 3, Section 10(c)) is similar to pro-
rata as referenced in the Cboe rule (and as defined in Cboe Rule
5.32(a)(1)(B)).
---------------------------------------------------------------------------
<bullet> No Execution: The System will cancel the Agency Order and
Solicited Order with no execution if there is a Priority Customer FLEX
SOM response and the aggregate size of that response and other FLEX SOM
responses is insufficient to satisfy the Agency Order.\147\
---------------------------------------------------------------------------
\147\ See proposed Section 13(e)(3), which is materially
identical to Cboe Rule 5.74(e)(3).
---------------------------------------------------------------------------
Pursuant to proposed Section 12(e)(4), the System cancels any
unexecuted FLEX SOM responses (or unexecuted portions) at the
conclusion of a FLEX SOM auction.\148\
---------------------------------------------------------------------------
\148\ See Cboe Rule 5.74(e)(4) for substantially similar
provisions.
---------------------------------------------------------------------------
Lastly, the Exchange proposes a number of policies applicable to
FLEX SOM as Supplementary Materials to Options 3A, Section 13.
Specifically, proposed Supplementary Material .01 will provide that
prior to entering Agency Orders into a FLEX SOM auction on behalf of
customers, Initiating Members must deliver to the customer a written
notification informing the customer that its order may be executed
using the FLEX SOM Auction. The written notification must disclose the
terms and conditions contained in this Rule and be in a form approved
by the Exchange.\149\ Proposed Supplementary Material .02 will provide
that under this Rule, Initiating Members may enter contra-side orders
that are solicited. FLEX SOM provides a facility for Members that
locate liquidity for their customer orders. Members may not use the
FLEX SOM auction to circumvent Options 3, Section 22(b) limiting
principal transactions. This may include, but is not limited to,
Members entering contra-side orders that are solicited from (1)
affiliated broker-dealers, or (2) broker-dealers with which the Member
has an arrangement that allows the Member to realize similar economic
benefits from the solicited transaction as it would achieve by
executing the customer order in whole or in part as principal.
Additionally, any solicited contra-side orders entered by Members to
trade against Agency Orders may not be for the account of an Exchange
Market Maker that is assigned to the options class.\150\ Lastly,
proposed Supplementary Material .03 will provide that if an allocation
would result in less than one contract, then one contract will be
allocated. This aligns to how the Exchange currently allocates
contracts in SOM.\151\
---------------------------------------------------------------------------
\149\ See Cboe Rule 5.74, Interpretations and Policies .01 for
materially identical provisions.
\150\ See Cboe Rule 5.74, Interpretations and Policies .02 for
similar provisions. The Exchange is also adding a prohibition
against solicited contra-side orders being for the account of an
Exchange Market Maker assigned to the options class to align with
the current prohibition in Supplementary Material .03 to Options 3,
Section 11.
\151\ See Supplementary Material .09 to Options 3, Section 11.
---------------------------------------------------------------------------
O. Risk Protections (Section 14)
The Exchange proposes in Options 3A, Section 14 to specify which of
the Exchange's risk protections apply to FLEX trading. Proposed Section
14(a) will provide that the following simple order risk protections (as
described in Options 3, Section 15) are available to FLEX Options:
Market Wide Risk Protection \152\ and Size Limitation.\153\ Proposed
Section 14(b) will provide that the following complex order risk
protections (as described in Options 3, Section 16) are available to
FLEX Options: Strategy Protections (only to FLEX Auctions and FLEX
responses in proposed Options 3A, Section 11(b)) \154\
[[Page 22307]]
and Size Limitation.\155\ Today, Strategy Protections do not apply to
orders and responses submitted into non-FLEX PIM and non-FLEX SOM. The
Exchange will align this application to FLEX such that Strategy
Protections would only apply to FLEX Auctions and FLEX responses in
proposed Section 11(b) as described above, and not to FLEX Orders and
responses submitted into FLEX PIM and FLEX SOM. Proposed Section 14(c)
will provide that the optional risk protections in Options 3, Section
28 are available to FLEX Options.\156\
---------------------------------------------------------------------------
\152\ Market Wide Risk Protection are mandatory activity-based
protections that establish limits for order entry and order
execution rate. Upon triggering the specified limits, the System
will either delete all open orders and prevent entry of new orders
for the Member, or prevent entry of new orders for the Member. See
Options 3, Section 15(a)(1)(C).
\153\ Size Limitation for simple orders is a limit on the number
of contracts an incoming order may specify. Orders that exceed the
maximum number of contracts are rejected. The maximum number of
contracts, which shall not be less than 10,000, is established by
the Exchange from time-to-time. See Options 3, Section 15(a)(2)(B).
\154\ The Strategy Protections in Options 3, Section 16(b) as
the Vertical Spread Protection, Calendar Spread Protection,
Butterfly Spread Protection, and Box Spread Protection, and are
aimed at preventing the potential execution of certain complex
strategies outside of specified price parameters.
\155\ Size Limitation for complex orders is a limit on the
number of contracts (and shares in the case of a Stock-Option
Strategy or Stock-Complex Strategy) any single leg of an incoming
Complex Order may specify. Orders that exceed the maximum number of
contracts (or shares) are rejected. The maximum number of contracts
(or shares), which shall not be less than 10,000 (or 100,000
shares), is established by the Exchange from time-to-time. See
Options 3, Section 16 (c)(2).
\156\ The Exchange will introduce the optional risk protections
in Options 3, Section 28 as part of the technology migration to
enhanced Nasdaq functionality discussed above. In particular, the
following are optional risk protections in Options 3, Section 28:
notional dollar value per order, daily aggregate notional dollar
value, quantity per order, and daily aggregate quantity. See
Securities Exchange Act Releases No. 96818 (February 6, 2023), 88 FR
8950 (February 10, 2023) (SR-ISE-2023-06).
---------------------------------------------------------------------------
P. Data Feeds (Section 15)
The Exchange proposes to specify in Options 3A, Section 15 which
data feeds it will disseminate auction notifications for simple and
complex FLEX Orders. Proposed Section 15(a) will provide that auction
notifications for simple FLEX Orders will be disseminated through the
Order Feed, as described in Options 3, Section 23(a)(2).\157\ Proposed
Section 15(b) will provide that auction notifications for complex FLEX
Orders will be disseminated through the Spread Feed, as described in
Options 3, Section 23(a)(5).\158\ The Exchange notes that this aligns
to current functionality where simple auction notifications are
disseminated over the Order Feed and complex auction notifications are
disseminated over the Spread Feed.
---------------------------------------------------------------------------
\157\ The Nasdaq ISE Order Feed (``Order Feed'') provides
information on new orders resting on the book (e.g. price, quantity
and market participant capacity). In addition, the feed also
announces all auctions. The data provided for each option series
includes the symbols (series and underlying security), put or call
indicator, expiration date, the strike price of the series, and
whether the option series is available for trading on ISE and
identifies if the series is available for closing transactions only.
The feed also provides order imbalances on opening/reopening.
\158\ Nasdaq ISE Spread Feed (``Spread Feed'') is a feed that
consists of: (1) options orders for all Complex Orders (i.e.,
spreads, buy-writes, delta neutral strategies, etc.); (2) data
aggregated at the top five price levels (BBO) on both the bid and
offer side of the market; (3) last trades information. The Spread
Feed provides updates, including prices, side, size and capacity,
for every Complex Order placed on the ISE Complex Order book. The
Spread Feed shows: (1) aggregate bid/ask quote size; (2) aggregate
bid/ask quote size for Professional Customer Orders; and (3)
aggregate bid/ask quote size for Priority Customer Orders for ISE
traded options. The feed also provides Complex Order auction
notifications.
---------------------------------------------------------------------------
Q. FLEX Market Makers (Section 16)
Proposed Section 16 will govern FLEX Market Makers on the Exchange.
Pursuant to proposed Section 16(a), a FLEX Market Maker will
automatically receive an appointment in the same FLEX option class(es)
as its non-FLEX class appointments selected pursuant to Options 2,
Section 3.\159\ Only the Primary Market Maker in the non-FLEX Option
may be the assigned Primary Market Maker in that FLEX Option.\160\
---------------------------------------------------------------------------
\159\ See Cboe Rule 3.58(c) for materially identical provisions.
\160\ The Exchange notes that this requirement is based on Phlx
Options 8, Section 34(d)(1), which currently states that only the
Lead Market Maker in the non-FLEX option may be the assigned
Specialist in that FLEX option. Primary Market Maker on ISE is
analogous to a Lead Market Maker on Phlx.
---------------------------------------------------------------------------
Proposed Section 16(b) will provide that each FLEX Market Maker
must fulfill all the obligations of a Market Maker under Options 2 and
must comply with the applicable provisions, except FLEX Market Makers
do not need to provide continuous quotes in FLEX Options.\161\
---------------------------------------------------------------------------
\161\ See Cboe Rule 5.57 for similar provisions. Unlike Cboe,
the Exchange will not specify that a FLEX Market Maker may (but is
not obligated to) respond to a FLEX auction in a class in which the
FLEX Market Maker is appointed. FLEX Market Makers will be subject
to Options 2 rules pertaining to Market Makers, except the Exchange
will not impose continuing quoting obligations on FLEX Market Makers
(similar to Cboe) given that such obligations are relevant for book
trading. As discussed above, there will be no book trading for FLEX
Options. Furthermore, the Exchange will not incorporate provisions
related to FLEX Officials like Cboe as this is generally a floor
trading concept and the Exchange does not have a trading floor.
---------------------------------------------------------------------------
R. Letters of Guarantee (Section 17)
The Exchange proposes in Options 3A, Section 17(a) to provide that
no FLEX Market Maker shall effect any transaction in FLEX Options
unless one or more effective Letter(s) of Guarantee has been issued by
a Clearing Member and filed with the Exchange accepting financial
responsibility for all FLEX transactions made by the FLEX Market Maker
pursuant to Options 6, Section 4.\162\
---------------------------------------------------------------------------
\162\ Options 6, Section 4 provides that no Market Maker shall
make any transactions on the Exchange unless a Letter of Guarantee
has been issued for such Member by a Clearing Member and filed with
the Exchange, and unless such Letter of Guarantee has not been
revoked pursuant to paragraph (c) of this Rule. A Letter of
Guarantee shall provide that the issuing Clearing Member accepts
financial responsibilities for all Exchange Transactions made by the
guaranteed Member.
---------------------------------------------------------------------------
S. Position Limits (Section 18)
The Exchange proposes to detail the position limits for FLEX
Options in Options 3A, Section 18. As discussed below, proposed Section
18 will be based on the FLEX Options position limit rules on Cboe and
Phlx.
Proposed Section 18(a) will govern the position limits for FLEX
Index Options. Specifically, proposed Section 18(a)(1) will provide
that except as provided in proposed Section 18(a)(2)-(3) below, FLEX
Index Options shall be subject to the same position limits governing
index options as provided for in Options 4A, Sections 6 and 7.\163\
Proposed Section 18(a)(2) will provide that except for the broad-based
index options listed in Options 4A, Section 6(a),\164\ which will have
no position limits for FLEX Index Options, broad-based FLEX Index
Options will be subject to a separate position limit of 200,000
contracts on the same side of the market.\165\ Proposed Section
18(a)(3) will provide that industry-based FLEX Index Options shall be
subject to separate position limits of 36,000, 48,000, or 60,000
contracts, depending on the position limit tier determined pursuant to
Options 4A, Section 7(a)(1).\166\
---------------------------------------------------------------------------
\163\ See Phlx Options 8, Section 34(e)(1) for materially
identical provisions. Options 4A, Sections 6 and 7 presently set
forth the position limits for broad-based and industry index
options, respectively.
\164\ As such the following broad-based index options listed in
Options 4A, Section 6(a) will have no position limits for FLEX Index
Options: options on the Nasdaq 100 Index, Mini Nasdaq 100 Index,
Nations VolDex Index, Nasdaq 100 Reduced Value Index, and Nasdaq
Micro Index Options.
\165\ This separate same side position limit for broad-based
FLEX Index Options (except for the ones noted above) is based on
Phlx Options 8, Section 34(e)(1). The Exchange notes that market
index options, as referenced in the Phlx rule, is the equivalent of
broad-based index options on the Exchange.
\166\ See Phlx Options 8, Section 34(e)(1) for materially
identical provisions.
---------------------------------------------------------------------------
Proposed Section 18(b) will govern the position limits for FLEX
Equity Options. Pursuant to proposed Section 18(b)(1)(A), there will
generally be no position limits for FLEX Equity Options.\167\ Pursuant
to proposed Section 18(b)(2), each Member (other than a Market Maker)
that maintains a
[[Page 22308]]
position on the same side of the market in excess of the standard limit
under Options 9, Section 13 for non-FLEX Equity Options of the same
class on behalf of its own account or for the account of a customer
shall report information on the FLEX Equity option position, positions
in any related instrument, the purpose or strategy for the position,
and the collateral used by the account. This report shall be in the
form and manner prescribed by the Exchange.\168\ Pursuant to proposed
Section 18(b)(3), whenever the Exchange determines that a higher margin
requirement is necessary in light of the risks associated with a FLEX
Equity option position in excess of the standard limit for non-FLEX
Equity options of the same class, the Exchange may consider imposing
additional margin upon the account maintaining such under-hedged
position, pursuant to its authority under Options 6C, Section 5.\169\
Additionally, it should be noted that the clearing firm carrying the
account will be subject to capital charges under Rule 15c3-1 under the
Exchange Act to the extent of any margin deficiency resulting from the
higher margin requirement.\170\
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\167\ See Cboe Rule 8.35(c)(1)(A) for materially identical
provisions. Like Cboe, the Exchange's rule will have exceptions for
the aggregation of FLEX positions (proposed Section 18(c)) and for
position limits for cash-settled FLEX Equity Options where the
underlying security is an ETF (proposed Section 18(b)(1)(B), which
will be discussed later in this filing).
\168\ See Cboe Rule 8.35(c)(2) for materially identical
provisions.
\169\ Options 6C, Section 5 provides that the amount of margin
prescribed by these Rules is the minimum which must be required
initially and subsequently maintained with respect to each account
affected thereby; but nothing in these Rules shall be construed to
prevent a Member from requiring margin in an amount greater than
that specified. Further, the Exchange may at any time impose higher
margin requirements with respect to such positions when it deems
such higher margin requirements to be advisable.
\170\ See Cboe Rule 8.35(c)(3) for materially identical
provisions.
---------------------------------------------------------------------------
Proposed Section 18(c) will govern the aggregation of FLEX
positions. Specifically, for purposes of the position limits and
reporting requirements set forth in this Section 18, FLEX Option
positions shall not be aggregated with positions in non-FLEX Options
other than as provided in this Section 18(c) and in
Section(b)(1)(B),\171\ and positions in FLEX Index Options on a given
index shall not be aggregated with options on any stocks included in
the index or with FLEX Index Option positions on another index.\172\
Pursuant to proposed Section 18(c)(1), commencing at the close of
trading two business days prior to the last trading day of the calendar
quarter, positions in P.M.-settled FLEX Index Options (i.e., FLEX Index
Options having an exercise settlement value determined by the level of
the index at the close of trading on the last trading day before
expiration) shall be aggregated with positions in Quarterly Options
Series on the same index with the same expiration and shall be subject
to the position limits set forth in Options 4A, Section 6 or Section 7,
as applicable.\173\ Pursuant to proposed Section 18(c)(2), commencing
at the close of trading two business days prior to the last trading day
of the week, positions in FLEX Index Options that are cash settled
shall be aggregated with positions in Short Term Option Series on the
same underlying (e.g., same underlying index as a FLEX Index Option)
with the same means for determining exercise settlement value (e.g.,
opening or closing prices of the underlying index) and same expiration,
and shall be subject to the position limits set forth in Options 4A,
Section 6 or Section 7, as applicable.\174\ Pursuant to proposed
Section 18(c)(3), as long as the options positions remain open,
positions in FLEX Options that expire on a third Friday-of-the-month
expiration day shall be aggregated with positions in non-FLEX Options
on the same underlying, and shall be subject to the position limits set
forth in Options 4A, Section 6, Options 4A, Section 7, or Options 9,
Section 13, as applicable, and the exercise limits set forth in Options
9, Section 15, as applicable.\175\
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\171\ Proposed Section 18(b)(1)(B) will set forth the position
limits for cash-settled FLEX ETF options and will be discussed later
in this filing.
\172\ See Cboe Rule 8.35(d) for materially identical provisions.
\173\ See Cboe Rule 8.35(d)(1) for materially identical
provisions.
\174\ This is based on Cboe Rule 8.35(d)(2), except the Exchange
does not currently list Credit Default Options and will therefore
not incorporate the applicable portion into its proposed rule.
\175\ See Cboe Rule 8.35(d)(3) for materially identical
provisions.
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T. Exercise Limits (Section 19)
The Exchange proposes to detail the exercise limits for FLEX
Options in Options 3A, Section 19. As discussed below, proposed Section
19 will be based on the FLEX Options exercise limit rules on Cboe and
Phlx.
Proposed Section 19(a) will provide that exercise limits for FLEX
Options shall be equivalent to the FLEX position limits prescribed in
proposed Section 18.\176\ There shall be no exercise limits for broad-
based FLEX Index Options (including reduced value option contracts) on
broad-based index options listed in Options 4A, Section 6(a).\177\
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\176\ Proposed Section 19(a) is based on Cboe Rule 8.42(g)
except the Exchange will not incorporate references to Cboe-specific
products like Micro FLEX Index Options, FLEX Individual Stock or ETF
Based Volatility Index Options. Similarly, the Exchange will replace
the references to Cboe-specific broad-based index options like SPX,
VIX, etc. with the broad-based index options in Options 4A, Section
6(a).
\177\ As such the following broad-based index options listed in
Options 4A, Section 6(a) will have no exercise limits for FLEX Index
Options: options on the Nasdaq 100 Index, Mini Nasdaq 100 Index,
Nations VolDex Index, Nasdaq 100 Reduced Value Index, and Nasdaq
Micro Index Options.
---------------------------------------------------------------------------
Proposed Section 19(a)(1) will require that the minimum value size
for FLEX Equity Option exercises be 25 contracts or the remaining size
of the position, whichever is less.\178\ Proposed Section 19(a)(2) will
require that the minimum value size for FLEX Index Option exercises be
$1 million Underlying Equivalent Value (as defined below) or the
remaining Underlying Equivalent Value of the position, whichever is
less.\179\ Proposed Section 19(a)(3) will stipulate that except as
provided in proposed Section 18(b)(1)(B) and Section 18(c) above,\180\
FLEX Options shall not be taken into account when calculating exercise
limits for non-FLEX Option contracts.\181\ Lastly, proposed Section
19(a)(4) will set forth the definition of Underlying Equivalent Value
as the aggregate value of a FLEX Index Option (index multiplier times
the current index value) multiplied by the number of FLEX Index
Options.\182\
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\178\ See Cboe Rule 8.42(g)(1) for materially identical
provisions.
\179\ See Cboe Rule 8.42(g)(2) for materially identical
provisions.
\180\ As described above, proposed Section 18(c) will govern the
aggregation of FLEX positions generally, while proposed Section
18(b)(1)(B) will govern the aggregation of cash-settled FLEX Equity
Options specifically. Cash-settled FLEX Equity Options will be
discussed later in this filing.
\181\ See Cboe Rule 8.42(g)(3) for materially identical
provisions.
\182\ See Phlx Options 8, Section 34(b)(8)(D) for materially
identical provisions.
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U. Capacity and Surveillances
The Exchange has analyzed its capacity and represents that it
believes the Exchange and the Options Price Reporting Authority
(``OPRA'') have the necessary systems capacity to handle the additional
message traffic associated with the listing of new series that may
result from the introduction of FLEX Options.\183\
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\183\ The Exchange will report FLEX Option trades and, if
necessary, trade cancellations to OPRA.
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Additionally, the Exchange believes it has an adequate surveillance
program in place and intends to apply the same program procedures to
FLEX Options that is applied to the Exchange's other options products,
as applicable. FLEX Option products and their respective symbols will
be integrated into the Exchange's existing surveillance system
architecture and will be subject to the relevant surveillance
processes. The Exchange believes that any potential
[[Page 22309]]
risk of manipulative activity is mitigated by these existing
surveillance technologies, procedures, and reporting requirements,
which allow the Exchange to properly identify disruptive and/or
manipulative trading activity.
V. Cash-Settled FLEX ETFs
The Exchange proposes to include rule text in proposed Options 3A,
Section 3(c) and Section 18, each as discussed above, to allow for cash
settlement of certain FLEX Equity Options. Generally, as discussed
above, FLEX Equity Options will be settled by physical delivery of the
underlying security,\184\ while all FLEX Index Options will be settled
by delivery in cash.\185\ The Exchange proposes to allow FLEX Equity
Options where the underlying security is an ETF to be settled by
delivery in cash if the underlying security meets prescribed criteria.
The Exchange notes that cash-settled FLEX ETF Options will be subject
to the same trading rules and procedures described above that will
govern the trading of other FLEX Options on the Exchange, with the
exception of the rules to accommodate the cash-settlement feature
proposed as follows. Today, NYSE American Rule 903G \186\ and Cboe Rule
4.21(b)(5)(A) \187\ allow for cash-settled FLEX ETF Options as well.
---------------------------------------------------------------------------
\184\ See proposed Options 3A, Section 3(c)(5)(A)(i).
\185\ See proposed Options 3A, Section 3(c)(5)(B). As discussed
below, cash settlement is also permitted in the OTC market.
\186\ See Securities Exchange Act Release No. 88131 (February 5,
2020), 85 FR 7806 (February 11, 2020) (SR-NYSEAmer-2019-38) (Notice
of Filing of Amendment No. 1 and Order Granting Accelerated Approval
of a Proposed Rule Change, as Modified by Amendment No. 1, To Allow
Certain Flexible Equity Options To Be Cash Settled).
\187\ Cboe also recently filed to allow certain FLEX Options to
be cash settled. See Securities Exchange Act Release No. 98044
(August 2, 2023), 88 FR 53548 (August 8, 2023) (SR-Cboe-2023-036)
(Notice of Filing and Immediate Effectiveness of a Proposed Rule
Change To Allow Certain Flexible Exchange Equity Options To Be Cash
Settled).
---------------------------------------------------------------------------
To permit cash settlement of certain FLEX ETF Options, the Exchange
proposes rule text in Section 3(c)(5)(A)(ii) to provide that the
exercise settlement for a FLEX ETF Option may be by physical delivery
of the underlying ETF or by delivery in cash if the underlying
security, measured over the prior six-month period, has an average
daily notional value of $500 million or more and a national average
daily volume (``ADV'') of at least 4,680,000 shares.\188\
---------------------------------------------------------------------------
\188\ See Cboe Rule 4.21(b)(5)(A)(ii) for materially identical
provisions.
---------------------------------------------------------------------------
The Exchange also proposes in Section 3(c) that a FLEX Equity
Option overlying an ETF (cash- or physically-settled) may not be the
same type (put or call) and may not have the same exercise style,
expiration date, and exercise price as a non-FLEX Equity Option
overlying the same ETF.\189\ In other words, regardless of whether a
FLEX Equity Option overlying an ETF is cash or physically settled, at
least one of the exercise style (i.e., American-style or European-
style), expiration date, and exercise price of that FLEX Option must
differ from those terms of a non-FLEX Option overlying the same ETF in
order to list such a FLEX Equity Option. For example, suppose a non-
FLEX SPY option (which is physically settled, p.m.-settled and
American-style) with a specific September expiration and exercise price
of 475 is listed for trading. A FLEX Trader could not submit an order
to trade a FLEX SPY option (which is p.m.-settled) that is cash-settled
(or physically settled) and American-style with the same September
expiration and exercise price of 475.
---------------------------------------------------------------------------
\189\ See introductory paragraph of Cboe Rule 4.21(b) for
materially identical provisions. All non-FLEX Equity Options
(including on ETFs) are physically settled. Note all FLEX and non-
FLEX Equity Options (including ETFs) are p.m.-settled.
---------------------------------------------------------------------------
In addition, the Exchange proposes new subparagraph (a) to Section
3(c)(5)(A)(ii), which would provide that the Exchange will determine
bi-annually the underlying ETFs that satisfy the notional value and
trading volume requirements in Section 3(c)(5)(A)(ii) by using trading
statistics for the previous six-month period.\190\ The proposed rule
would further provide that the Exchange will permit cash settlement as
a contract term on no more than 50 underlying ETFs that meet the
criteria in this subparagraph (ii) and that if more than 50 underlying
ETFs satisfy the notional value and trading volume requirements, then
the Exchange would select the top 50 ETFs that have the highest average
daily volume.\191\
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\190\ See proposed Options 3A, Section 3(c)(5)(A)(ii)(a), which
is based on Cboe Rule 4.21(b)(5)(A)(ii)(a). The Exchange plans to
conduct the bi-annual review on January 1 and July 1 of each year.
The results of the bi-annual review will be announced via an Options
Trader Alert and any new securities that qualify would be permitted
to have cash settlement as a contract term beginning on February 1
and August 1 of each year. If the Exchange initially begins listing
cash-settled FLEX Equity Options on a different date (e.g.,
September 1), it would initially list securities that qualified as
of the last bi-annual review (e.g., the one conducted on July 1).
\191\ See proposed Options 3A, Section 3(c)(5)(A)(ii)(a), which
is based on Cboe Rule 4.21(b)(5)(A)(ii)(a).
---------------------------------------------------------------------------
Proposed new subparagraph (b) to Section 3(c)(5)(A)(ii) would
further provide that if the Exchange determines pursuant to the bi-
annual review that an underlying ETF ceases to satisfy the requirements
under proposed Section 3(c)(5)(A)(ii), any new position overlying such
ETF entered into will be required to have exercise settlement by
physical delivery, and any open cash-settled FLEX ETF Option positions
may be traded only to close the position.\192\
---------------------------------------------------------------------------
\192\ See proposed Section 3(c)(5)(A)(ii)(b), which is based on
Cboe Rule 4.21(b)(5)(A)(ii)(b). If a listing is closing only,
pursuant to Options 4, Section 4(a), opening transactions by Market
Makers executed to accommodate closing transactions of other market
participants are permitted.
---------------------------------------------------------------------------
The Exchange believes it is appropriate to introduce cash
settlement as an alternative contract term to the select group of ETFs
because they are among the most highly liquid and actively traded ETF
securities. As described more fully below, the Exchange believes that
the deep liquidity and robust trading activity in the ETFs identified
by the Exchange as meeting the criteria mitigate against historic
concerns regarding susceptibility to manipulation.
Characteristics of ETFs
ETFs are funds that have their value derived from assets owned. The
net asset value (``NAV'') of an ETF is a daily calculation that is
based off the most recent closing prices of the assets in the fund and
an actual accounting of the total cash in the fund at the time of
calculation. The NAV of an ETF is calculated by taking the sum of the
assets in the fund, including any securities and cash, subtracting out
any liabilities, and dividing that by the number of shares outstanding.
Additionally, each ETF is subject to a creation and redemption
mechanism to ensure the price of the ETF does not fluctuate too far
away from its NAV--which mechanisms reduce the potential for
manipulative activity. Each business day, ETFs are required to make
publicly available a portfolio composition file that describes the
makeup of their creation and redemption ``baskets'' (i.e., a specific
list of names and quantities of securities or other assets designed to
track the performance of the portfolio as a whole). ETF shares are
created when an Authorized Participant, typically a market maker or
other large institutional investor, deposits the daily creation basket
or cash with the ETF issuer. In return for the creation basket or cash
(or both), the ETF issues to the Authorized Participant a ``creation
unit'' that consists of a specified number of ETF shares. For instance,
IWM is designed to track the performance of the Russell 2000 Index. An
Authorized Participant will purchase all the Russell 2000
[[Page 22310]]
constituent securities in the exact same weight as the index
prescribes, then deliver those shares to the ETF issuer. In exchange,
the ETF issuer gives the Authorized Participant a block of equally
valued ETF shares, on a one-for-one fair value basis. This process can
also work in reverse. A redemption is achieved when the Authorized
Participant accumulates a sufficient number of shares of the ETF to
constitute a creation unit and then exchanges these ETF shares with the
ETF issuer, thereby decreasing the supply of ETF shares in the market.
The principal, and perhaps most important, feature of ETFs is their
reliance on an ``arbitrage function'' performed by market participants
that influences the supply and demand of ETF shares and, thus, trading
prices relative to NAV. As noted above, new ETF shares can be created
and existing shares redeemed based on investor demand; thus, ETF supply
is open-ended. This arbitrage function helps to keep an ETF's price in
line with the value of its underlying portfolio, i.e., it minimizes
deviation from NAV. Generally, in the Exchange's view, the higher the
liquidity and trading volume of an ETF, the more likely the price of
the ETF will not deviate from the value of its underlying portfolio,
making such ETFs less susceptible to price manipulation.
Trading Data for the ETFs Proposed for Cash Settlement
The Exchange believes that average daily notional value is an
appropriate proxy for selecting underlying securities that are not
readily susceptible to manipulation for purposes of establishing a
settlement price. Average daily notional value considers both the
trading activity and the price of an underlying security. As a general
matter, the more expensive an underlying security's price, the less
cost-effective manipulation could become. Further, manipulation of the
price of a security encounters greater difficulty the more volume that
is traded. To calculate average daily notional value (provided in the
table below), the Exchange summed the notional value of each trade for
each symbol (i.e., the number of shares times the price for each
execution in the security) and divided that total by the number of
trading days in the six-month period (from June 1, 2023 through
December 31, 2023) reviewed by the Exchange.
Further, the Exchange proposes that qualifying ETFs also meet an
ADV standard. The purpose for this second criteria is to prevent
unusually expensive underlying securities from qualifying under the
average daily notional value standard while not being one of the most
actively traded securities. The Exchange believes an ADV requirement of
4,680,000 shares a day is appropriate because it represents average
trading in the underlying ETF of 200 shares per second. While no
security is immune from all manipulation, the Exchange believes that
the combination of average daily notional value and ADV as prerequisite
requirements would limit cash settlement of FLEX ETF Options to those
underlying ETFs that would be less susceptible to manipulation in order
to establish a settlement price.
The Exchange believes that the proposed objective criteria would
ensure that only the most robustly traded and deeply liquid ETFs would
qualify to have cash settlement as a contract term. As provided in the
below table, as of December 31, 2023, the Exchange would be able to
provide cash settlement as a contract term for FLEX ETF Options on 39
underlying ETFs, as only this group of securities would currently meet
the requirement of $500 million or more average daily notional value
and a minimum ADV of 4,680,000 shares. The table below provides the
list of the 39 ETFs that, as of December 31, 2023, would be eligible to
have cash settlement as a contract term.
----------------------------------------------------------------------------------------------------------------
Average daily Average daily
notional value volume (in
Symbol Security name (in dollars) (6/1/ shares) (6/1/23-
23-12/31/23) 12/31/23)
----------------------------------------------------------------------------------------------------------------
AGG..................................... iShares Core U.S. Aggregate Bond 819,003,505 8,539,037
ETF.
ARKK.................................... ARK Innovation ETF.............. 707,292,851 16,154,806
BIL..................................... SPDR Bloomberg 1-3 Month T-Bill 762,676,069 8,326,055
ETF.
EEM..................................... iShares MSCI Emerging Markets 1,162,016,698 29,631,030
ETF.
EFA..................................... iShares MSCI EAFE ETF........... 1,098,301,530 15,452,387
EWZ..................................... iShares MSCI Brazil ETF......... 761,109,830 23,812,637
FXI..................................... iShares China Large-Cap ETF..... 894,787,224 33,669,717
GDX..................................... VanEck Gold Miners ETF.......... 618,321,580 20,914,982
GLD..................................... SPDR Gold Shares................ 1,253,006,545 6,922,775
HYG..................................... iShares iBoxx $ High Yield 2,903,997,736 39,043,244
Corporate Bond ETF.
IEF..................................... iShares 7-10 Year Treasury Bond 894,889,766 9,586,765
ETF.
IEFA.................................... iShares Core MSCI EAFE ETF...... 530,658,618 8,004,183
IEMG.................................... iShares Core MSCI Emerging 553,682,087 11,306,758
Markets ETF.
IWM..................................... iShares Russell 2000 ETF........ 6,202,712,384 33,896,457
IYR..................................... iShares U.S. Real Estate ETF.... 574,764,729 6,905,724
JNK..................................... SPDR Bloomberg High Yield Bond 761,813,968 8,366,332
ETF.
KRE..................................... SPDR S&P Regional Banking ETF... 730,171,702 16,549,123
KWEB.................................... KraneShares CSI China Internet 540,782,914 19,393,082
ETF.
LQD..................................... Shares iBoxx Investment Grade 2,261,500,682 21,569,358
Corporate Bond ETF.
QQQ..................................... Invesco QQQ Trust............... 18,595,359,899 50,027,506
RSP..................................... Invesco S&P 500 Equal Weight ETF 852,555,992 5,795,082
SMH..................................... VanEck Semiconductor ETF........ 1,158,968,787 7,603,553
SOXL.................................... Direxion Daily Semiconductor 1,356,546,736 61,542,137
Bull 3x Shares.
SOXS.................................... Direxion Daily Semiconductor 647,424,841 65,816,096
Bear 3x Shares.
SPXL.................................... Direxion Daily S&P 500 Bull 3X 841,777,983 9,749,178
Shares.
SPY..................................... SPDR S&P 500 ETF Trust.......... 34,971,417,738 79,030,726
SQQQ.................................... ProShares UltraPro Short QQQ ETF 2,319,281,990 124,445,645
TLT..................................... iShares 20+ Year Treasury Bond 3,469,546,370 37,328,733
ETF.
TNA..................................... Direxion Daily Small Cap Bull 3X 506,756,845 15,750,951
Shares.
TQQQ.................................... ProShares UltraPro QQQ.......... 3,928,939,456 98,454,290
XBI..................................... SPDR S&P Biotech ETF............ 665,811,366 8,625,070
[[Page 22311]]
XLE..................................... Energy Select Sector SPDR Fund.. 1,708,817,762 19,948,160
XLF..................................... Financial Select Sector SPDR 1,403,745,482 41,035,132
Fund.
XLI..................................... Industrial Select Sector SPDR 1,016,318,692 9,660,975
Fund.
XLK..................................... Technology Select Sector SPDR 1,153,958,503 6,635,138
Fund.
XLP..................................... Consumer Staples Select Sector 853,687,804 11,969,322
SPDR Fund.
XLU..................................... Utilities Select Sector SPDR 1,026,772,959 16,431,256
Fund.
XLV..................................... Health Care Select Sector SPDR 1,198,471,388 9,145,246
Fund.
XLY..................................... Consumer Discretionary Select 862,116,359 5,195,115
Sector SPDR Fund.
----------------------------------------------------------------------------------------------------------------
The Exchange believes that permitting cash settlement as a contract
term for FLEX ETF Options for the ETFs in the above table would broaden
the base of investors that use FLEX Equity Options to manage their
trading and investment risk, including investors that currently trade
in the OTC market for customized options, where settlement restrictions
do not apply.
Today, equity options are settled physically at The Options
Clearing Corporation (``OCC''), i.e., upon exercise, shares of the
underlying security must be assumed or delivered. Physical settlement
may possess certain risks with respect to volatility and movement of
the underlying security at expiration against which market participants
may need to hedge. The Exchange believes cash settlement may be
preferable to physical delivery in some circumstances as it does not
present the same risk. If an issue with the delivery of the underlying
security arises, it may become more expensive (and time consuming) to
reverse the delivery because the price of the underlying security would
almost certainly have changed. Reversing a cash payment, on the other
hand, would not involve any such issue because reversing a cash
delivery would simply involve the exchange of cash. Additionally, with
physical settlement, market participants that have a need to generate
cash would have to sell the underlying security while incurring the
costs associated with liquidating their position as well as the risk of
an adverse movement in the price of the underlying security.
With respect to position and exercise limits, cash-settled FLEX ETF
Options would be subject to the position limits set forth in proposed
Options 3A, Section 18. Accordingly, the Exchange proposes to add
subparagraph (b)(1)(B) of Options 3A, Section 18, which would provide
that a position in FLEX Equity Options where the underlying security is
an ETF that is settled in cash pursuant to Options 3A, Section
3(c)(5)(A)(ii) shall be subject to the position limits set forth in
Options 9, Section 13, and subject to the exercise limits set forth in
Options 9, Section 15. The proposed rule would further state that
positions in such cash-settled FLEX Equity Options shall be aggregated
with positions in physically settled options on the same underlying ETF
for the purpose of calculating the position limits set forth in Options
9, Section 13 and the exercise limits set forth in Options 9, Section
15.\193\ The Exchange further proposes to add in subparagraph (b)(1)(A)
of Section 18 a cross-reference to subparagraph (b)(1)(B) of Section
18, as subparagraph (b)(1)(B) would also contain provisions about
position limits for FLEX Equity Options that would be exceptions to the
statement in Options 3A, Section 18(b)(1)(A) that FLEX Equity Options
have no position limits. The Exchange also proposes to add in paragraph
(c) of Section 18, a cross-reference to proposed subparagraph
(b)(1)(B), as the proposed rule adds language regarding aggregation of
positions for purposes of position limits, which will be covered by
paragraph (c). Given that each of the underlying ETFs that would
currently be eligible to have cash-settlement as a contract term have
established position and exercise limits applicable to physically
settled options, the Exchange believes it is appropriate for the same
position and exercise limits to also apply to cash-settled options.
Accordingly, of the 39 underlying securities that would currently be
eligible to have cash settlement as a FLEX contract term, 27 would have
a position limit of 250,000 contracts pursuant to Options 9, Section
13(d)(5).\194\ Further, pursuant to Supplementary Material .01 to
Options 9, Section 13, six would have a position limit of 500,000
contracts (EWZ, TLT, HYG, XLF, LQD, and GDX); four (EEM, FXI, IWM, and
EFA) would have a position limit of 1,000,000 contracts; one (QQQ)
would have a position limit of 1,800,000 contracts; and one (SPY) would
have a position limit of 3,600,000.\195\
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\193\ See proposed Options 3A, Section 18(b)(1)(B), which is
based on Cboe Rule 8.35(c)(1)(B). The aggregation of position and
exercise limits would include all positions on physically settled
FLEX and non-FLEX Options on the same underlying ETFs.
\194\ Options 9, Section 13(d)(5) provides that to be eligible
for the 250,000 contract limit, either the most recent six (6) month
trading volume of the underlying security must have totalled at
least 100 million shares or the most recent six-month trading volume
of the underlying security must have totalled at least seventy-five
(75) million shares and the underlying security must have at least
300 million shares currently outstanding.
\195\ These were based on position limits as of March 5, 2024.
Position limits are available on at <a href="https://www.theocc.com">https://www.theocc.com</a>. Position
limits for ETFs are always determined in accordance with the
Exchange's Rules regarding position limits.
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The Exchange understands that cash-settled ETF options are
currently traded in the OTC market by a variety of market participants,
e.g., hedge funds, proprietary trading firms, and pension funds.\196\
These options are not fungible with the exchange listed options. The
Exchange believes some of these market participants would prefer to
trade comparable instruments on an exchange, where they would be
cleared and settled through a regulated clearing agency. The Exchange
expects that users of these OTC products would be among the primary
users of exchange-traded cash-settled FLEX ETF Options. The Exchange
also believes that the trading of cash-settled FLEX ETF Options would
allow these same market participants to better manage the risk
associated with the volatility of underlying equity positions given the
enhanced liquidity that an exchange-traded product would bring.
---------------------------------------------------------------------------
\196\ As noted above, other options exchanges have received
approval to list certain cash-settled FLEX ETF Options. See supra
notes 186 and 187.
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In the Exchange's view, cash-settled FLEX ETF Options traded on the
Exchange would have three important advantages over the contracts that
are traded in the OTC market. First, as a result of greater
standardization of contract terms, exchange-traded contracts should
develop more liquidity. Second, counter-party credit risk would be
mitigated by the fact that the contracts are issued and guaranteed
[[Page 22312]]
by OCC. Finally, the price discovery and dissemination provided by the
Exchange and its members would lead to more transparent markets. The
Exchange believes that its ability to offer cash-settled FLEX ETF
Options would aid it in competing with the OTC market and at the same
time expand the universe of products available to interested market
participants. The Exchange believes that an exchange-traded alternative
may provide a useful risk management and trading vehicle for market
participants and their customers. Further, the Exchange believes
listing cash-settled FLEX ETF Options would provide investors with
competition on an exchange platform, as other options exchanges have
received Commission approval to list the same options.\197\
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\197\ See supra notes 186 and 187.
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The Exchange notes that OCC has received approval from the
Commission for rule changes that will accommodate the clearance and
settlement of cash-settled ETF options.\198\ The Exchange has also
analyzed its capacity and represents that it and The Options Price
Reporting Authority (``OPRA'') have the necessary systems capacity to
handle the additional traffic associated with the listing of cash-
settled FLEX ETF Options. The Exchange believes any additional traffic
that would be generated from the introduction of cash-settled FLEX ETF
Options would be manageable. The Exchange expects that members will not
have a capacity issue as a result of this proposed rule change. The
Exchange also does not believe this proposed rule change will cause
fragmentation of liquidity. The Exchange will monitor the trading
volume associated with the additional options series listed as a result
of this proposed rule change and the effect (if any) of these
additional series on market fragmentation and on the capacity of the
Exchange's automated systems.
---------------------------------------------------------------------------
\198\ See Securities Exchange Act Release No. 34-94910 (May 13,
2022), 87 FR 30531 (May 19, 2022) (SR-OCC-2022-003).
---------------------------------------------------------------------------
The Exchange does not believe that allowing cash settlement as a
contract term would render the marketplace for equity options more
susceptible to manipulative practices. The Exchange believes that
manipulating the settlement price of cash-settled FLEX ETF Options
would be difficult based on the size of the market for the underlying
ETFs that are the subject of this proposed rule change. The Exchange
notes that each underlying ETF in the table above is sufficiently
active to alleviate concerns about potential manipulative activity.
Further, in the Exchange's view, the vast liquidity in the 39
underlying ETFs that would currently be eligible to be traded as cash-
settled FLEX options under the proposal ensures a multitude of market
participants at any given time. Moreover, given the high level of
participation among market participants that enter quotes and/or orders
in physically settled options on these ETFs, the Exchange believes it
would be very difficult for a single participant to alter the price of
the underlying ETF or options overlying such ETF in any significant way
without exposing the would-be manipulator to regulatory scrutiny. The
Exchange further believes any attempt to manipulate the price of the
underlying ETF or options overlying such ETF would also be cost
prohibitive. As a result, the Exchange believes there is significant
participation among market participants to prevent manipulation of
cash-settled FLEX ETF Options.
Still, the Exchange believes it has an adequate surveillance
program in place and intends to apply the same program procedures to
cash-settled FLEX ETF Options that it applies to the Exchange's other
options products.\199\ FLEX options products and their respective
symbols will be integrated into the Exchange's existing surveillance
system architecture and will thus be subject to the relevant
surveillance processes, as applicable. The Exchange believes that the
existing surveillance procedures at the Exchange are capable of
properly identifying unusual and/or illegal trading activity, which
procedures the Exchange would utilize to surveil for aberrant trading
in cash-settled FLEX ETF Options.
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\199\ For example, the regulatory program for the Exchange
includes surveillance designed to identify manipulative and other
improper options trading, including, spoofing, marking the close,
front running, wash sales, etc.
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With respect to regulatory scrutiny, the Exchange believes its
existing surveillance technologies and procedures adequately address
potential concerns regarding possible manipulation of the settlement
value at or near the close of the market. The Exchange notes that the
regulatory program operated by and overseen by ISE \200\ includes
cross-market surveillance designed to identify manipulative and other
improper trading, including spoofing, algorithm gaming, marking the
close and open, as well as more general, abusive behavior related to
front running, wash sales, and quoting/routing, which may occur on the
Exchange or other markets. These cross-market patterns incorporate
relevant data from various markets beyond the Exchange and its
affiliates and from markets not affiliated with the Exchange. The
Exchange represents that, today, its existing trading surveillances are
adequate to monitor trading in the underlying ETFs and subsequent
trading of options on those securities listed on the Exchange. Further,
with the introduction of cash-settled FLEX ETF Options, the Exchange
would leverage its existing surveillances to monitor trading in the
underlying ETFs and subsequent trading of options on those securities
listed on the Exchange with respect to cash-settled FLEX ETF
options.\201\
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\200\ ISE maintains a regulatory services agreements with
Financial Industry Regulatory Authority, Inc. (``FINRA'') whereby
FINRA provides certain regulatory services to the exchanges,
including cross-market surveillance, investigation, and enforcement
services.
\201\ Such surveillance procedures generally focus on detecting
securities trading subject to opening price manipulation, closing
price manipulation, layering, spoofing or other unlawful activity
impacting an underlying security, the option, or both. The Exchange
has price movement alerts, unusual market activity and order book
alerts active for all trading symbols.
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Additionally, for options, the Exchange utilizes an array of
patterns that monitor manipulation of options, or manipulation of
equity securities (regardless of venue) for the purpose of impacting
options prices on the Exchange (i.e., mini-manipulation strategies).
That surveillance coverage is initiated once options begin trading on
the Exchange. Accordingly, the Exchange believes that the cross-market
surveillance performed by the Exchange or FINRA, on behalf of the
Exchange, coupled with ISE's own monitoring for violative activity on
the Exchange comprise a comprehensive surveillance program that is
adequate to monitor for manipulation of the underlying ETF and
overlying option. Furthermore, the Exchange believes that the existing
surveillance procedures at the Exchange are capable of properly
identifying unusual and/or illegal trading activity, which the Exchange
would utilize to surveil for aberrant trading in cash-settled FLEX ETF
Options.
In addition to the surveillance procedures and processes described
above, improvements in audit trails (i.e., the Consolidated Audit
Trail), recordkeeping practices, and inter-exchange cooperation over
the last two decades have greatly increased the Exchange's ability to
detect and punish attempted manipulative activities. In addition, the
Exchange is a member of the Intermarket Surveillance Group
(``ISG'').\202\ The ISG members work
[[Page 22313]]
together to coordinate surveillance and investigative information
sharing in the stock and options markets. For surveillance purposes,
the Exchange would therefore have access to information regarding
trading activity in the pertinent underlying securities.
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\202\ ISG is an industry organization formed in 1983 to
coordinate intermarket surveillance among the SROs by cooperatively
sharing regulatory information pursuant to a written agreement
between the parties. The goal of the ISG's information sharing is to
coordinate regulatory efforts to address potential intermarket
trading abuses and manipulations.
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The proposed rule change is designed to allow investors seeking to
effect cash-settled FLEX ETF Options with the opportunity for a
different method of settling option contracts at expiration if they
choose to do so. As noted above, market participants may choose cash
settlement because physical settlement possesses certain risks with
respect to volatility and movement of the underlying security at
expiration that market participants may need to hedge against. The
Exchange believes that offering innovative products flows to the
benefit of the investing public. A robust and competitive market
requires that exchanges respond to members' evolving needs by
constantly improving their offerings. Such efforts would be stymied if
exchanges were prohibited from offering innovative products for reasons
that are generally debated in academic literature. The Exchange
believes that introducing cash-settled FLEX ETF Options would further
broaden the base of investors that use FLEX Equity Options to manage
their trading and investment risk, including investors that currently
trade in the OTC market for customized options, where settlement
restrictions do not apply. The proposed rule change is also designed to
encourage market makers to shift liquidity from the OTC market onto the
Exchange, which, it believes, would enhance the process of price
discovery conducted on the Exchange through increased order flow. The
Exchange also believes that this may open up cash-settled FLEX ETF
Options to more retail investors. The Exchange does not believe that
this proposed rule change raises any unique regulatory concerns because
existing safeguards--such as position limits (and the aggregation of
cash-settled positions with physically-settled positions), exercise
limits (and the aggregation of cash-settled positions with physically-
settled positions), and reporting requirements--would continue to
apply. The Exchange believes the proposed position and exercise limits
may further help mitigate the concerns that the limits are designed to
address about the potential for manipulation and market disruption in
the options and the underlying securities.\203\
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\203\ See supra note 193.
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Given the novel characteristics of cash-settled FLEX ETF Options,
the Exchange will conduct a review of the trading in cash-settled FLEX
ETF Options over an initial five-year period. The Exchange will furnish
five reports to the Commission based on this review, the first of which
would be provided within 60 days after the first anniversary of the
initial listing date of the first cash-settled FLEX ETF Option under
the proposed rule and each subsequent annual report to be provided
within 60 days after the second, third, fourth and fifth anniversary of
such initial listing. At a minimum, each report will provide a
comparison between the trading volume of all cash-settled FLEX ETF
Options listed under the proposed rule and physically settled options
on the same underlying security, the liquidity of the market for such
options products and the underlying ETF, and any manipulation concerns
arising in connection with the trading of cash-settled FLEX ETF Options
under the proposed rule. The Exchange will also provide additional data
as requested by the Commission during this five year period. The
reports will also discuss any recommendations the Exchange may have for
enhancements to the listing standards based on its review. The Exchange
believes these reports will allow the Commission and the Exchange to
evaluate, among other things, the impact such options have, and any
potential adverse effects, on price volatility and the market for the
underlying ETFs, the component securities underlying the ETFs, and the
options on the same underlying ETFs and make appropriate
recommendations, if any, in response to the reports.
2. Statutory Basis
The Exchange believes that its proposal is consistent with Section
6(b) of the Act,\204\ in general, and furthers the objectives of
Section 6(b)(5) of the Act.\205\ Specifically, the Exchange believes
the proposed rule change is consistent with the Section 6(b)(5) \206\
requirements that the rules of an exchange be designed to prevent
fraudulent and manipulative acts and practices, to promote just and
equitable principles of trade, to foster cooperation and coordination
with persons engaged in regulating, clearing, settling, processing
information with respect to, and facilitating transactions in
securities 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.
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\204\ 15 U.S.C. 78f(b).
\205\ 15 U.S.C. 78f(b)(5).
\206\ 15 U.S.C. 78f(b)(5).
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The Exchange believes that the adoption of the proposed rules
allowing FLEX Options to trade on ISE in the manner specified above is
consistent with the goals of the Act to remove impediments to and
perfect the mechanism of a free and open market because it will benefit
market participants by providing an additional venue for market
participants to provide and seek liquidity for FLEX Options. As the
Commission noted in its order granting FLEX trading on Cboe and what
was then the Pacific Stock Exchange (now NYSE Arca), trading FLEX
Options on an exchange is an alternative to trading customized options
in OTC markets and carries with it the advantages of exchange markets
such as transparency, parameters and procedures for clearance and
settlement, and a centralized counterparty clearing agency.\207\
Therefore, the Exchange believes the proposed rule change will promote
these same benefits for the market as a whole by providing an
additional venue for market participants to trade customized FLEX
Options. The Exchange believes that providing an additional venue for
FLEX Options will be beneficial by increasing competition for order
flow and executions.
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\207\ See Securities Exchange Act Release No. 36841 (February
14, 1996), 61 FR 6666 (February 21, 1996) (SR-CBOE-95-43) (SR-PSE-
95-24) (Order Approving the Trading of Flexibly Structured Equity
Options by CBOE and PSE).
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In general, transactions in FLEX Options will be subject to many of
the same rules that currently apply to non-FLEX Options traded on the
Exchange. In order to provide investor with the flexibility to
designate terms of the options and accommodate the special trading of
FLEX Options, however, the Exchange is proposing to add new rules in
proposed Options 3A that will apply solely to FLEX Options. As noted
above, the proposed rules are largely consistent with Cboe's rules
pertaining to electronic FLEX Options, with certain intended
differences primarily to align to current System behavior (and
especially current auction behavior) to provide increased consistency
for Members trading FLEX Options and non-FLEX Options on ISE, each as
discussed above and below. Further, the Exchange has omitted certain
Cboe rules from the proposed rules due to differences in scope and
operation of FLEX trading at Cboe compared to the proposed scope and
operation of FLEX
[[Page 22314]]
trading on ISE, each as noted above. For example, the Exchange will not
include Cboe rule provisions related to floor trading, Asian- or
Cliquet-settled FLEX Index Options, or Micro FLEX Index Options as it
does not offer these capabilities today. For the same reason, the
Exchange will not allow prices in FLEX trading to be expressed as
percentages under this proposal.
The Exchange further believes that its proposal is designed to
prevent fraudulent and manipulative acts and practices as the Exchange
believes that it has an adequate surveillance program in place and
intends to apply the same program procedures to FLEX Options that is
applied to the Exchange's other options products, as applicable. As
described above, FLEX Option products and their respective symbols will
be integrated into the Exchange's existing surveillance system
architecture and will be subject to the relevant surveillance
processes, thereby allowing the Exchange to properly identify
disruptive and/or manipulative trading activity.
A. General Provisions (Section 1)
The Exchange believes that proposed Section 1(a) setting forth the
applicability of Exchange Rules will make clear that unless otherwise
provided in proposed Options 3A, the Exchange's existing rules will
continue to apply to FLEX Options, which will provide consistency for
Members trading both FLEX Options and non-FLEX Options on ISE.
The Exchange believes that the defined terms proposed in Section
1(b) will provide increased clarity to Members by specifying
definitions like ``FLEX Option'' and ``FLEX Order'' that are used
throughout Options 3A. The Exchange further believes that adding the
definition of ``FLEX Order'' in Options 3, Section 7(z) will add
transparency as to which order types would be available on ISE. Lastly,
the non-substantive change proposed in Options 3, Section 7(y) will
bring clarity and avoid potential confusion for market participants.
B. Hours of Business (Section 2)
The Exchange believes that specifying the trading hours for FLEX
Options in proposed Section 2(a) will provide increased clarity that
the trading hours for FLEX Options will generally be the same as the
trading hours for corresponding non-FLEX Options as set forth in
Options 3, Section 1. As noted above, the proposed language is
materially identical to Cboe Rule 5.1(b)(3)(A).
C. FLEX Option Classes and Permissible Series (Section 3(a) and (b))
The Exchange believes that the proposed rule text in Sections 3(a)
and 3(b) will provide greater transparency around the Exchange's
listing standards for FLEX Option classes and FLEX Option series.
Proposed Section 3(b)(1), which will prevent FLEX Options and non-FLEX
Options with the same terms from trading concurrently by System
enforcing this restriction, is consistent with the Act because this
restriction will address concerns that FLEX Options would act as a
surrogate for the trading of non-FLEX Options. In particular, a non-
FLEX Option trading pursuant to Options 3 has different priority rules
than a FLEX Option trading pursuant to proposed Options 3A.\208\
Allowing an option with the same terms to trade under both rules
concurrently would result in inconsistent order handling and could
allow the order priority of non-FLEX Orders to be circumvented.
Therefore, the Exchange proposes to prevent this situation by
permitting FLEX Options transactions only in options with a different
term (exercise style, expiration date, or exercise price) than a non-
FLEX Option on the same underlying security or index that is already
listed for trading. As noted above, the proposed language in Section
3(a) and Section 3(b) is materially identical to Cboe Rule 4.20 and
Rule 4.21(a), respectively.
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\208\ For example, the Exchange's order books will be
inapplicable to FLEX Orders and thus certain priority provisions in
Options 3, Section 10 applicable to non-FLEX Orders will not be
applicable to FLEX Orders, such as the enhanced Primary Market Maker
priority in Section 10(c)(1)(B), Preferred Market Maker priority in
Section 10(c)(1)(C), and entitlement for orders of 5 contracts or
fewer in Section 10(c)(1)(D). FLEX Options will instead be subject
to the priority provisions in Options 3A, Section 11(b)(3)(A)
(electronic FLEX Auctions), Section 12(e) (FLEX PIM), and Section
13(e) (FLEX SOM).
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D. FLEX Options Terms (Section 3(c))
The Exchange believes that the terms of FLEX Options pursuant to
proposed Options 3A, Section 3(c) serve to perfect the mechanism of a
free and open market and a national market system because they will
permit investors to customize some of the terms of their FLEX Options
to implement more precise trading strategies, which may not be possible
using non-FLEX Options. These investors may have improved capability to
execute strategies to meet their specific investment objectives by
using customized FLEX Options. However, only certain terms as specified
in proposed Section 3(c) are subject to flexible structuring by the
parties to the FLEX Option transactions, and most of such terms have a
specified number of alternative configurations. The Exchange believes
that these restrictions are reasonable and designed to further the
objectives of the Act and to promote just and equitable principles of
trade because limiting FLEX Option terms enables the efficient,
centralized clearance and settlement and active secondary trading of
opened FLEX Options. As noted above, these terms are consistent with
Cboe Rule 4.21(b) except the Exchange will not incorporate applicable
Cboe provisions relating to Asian- or Cliquet-settled FLEX Options,
Micro FLEX Index Options, or relating to prices that are expressed as a
percentage value because the Exchange does not offer these features
today.
As discussed above, the Exchange is proposing to allow the listing
of FLEX PM Third Friday Options on ISE, consistent with the
Commission's recent approval of Cboe's proposal to make its pilot a
permanent program.\209\ The Exchange believes that aligning to Cboe
will allow ISE to compete effectively with Cboe's product offering.
Like Cboe, the Exchange believes that FLEX PM Third Friday Options will
provide investors with greater trading opportunities and flexibility.
The Exchange notes that the Commission recently approved proposals to
make other pilots permitting p.m.-settlement of index options permanent
after finding those pilots were consistent with the Act and the options
subject to those pilots had no significant impact on the market.\210\
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\209\ See supra note 35.
\210\ See Securities Exchange Act Release Nos. 98454 (September
20, 2023) (SR-CBOE-2023-005) (order approving proposed rule change
to make permanent the operation of a program that allows the
Exchange to list p.m.-settled third Friday-of-the-month SPX options
series) (``SPXPM Approval''); 98455 (September 20, 2023) (SR-CBOE-
2023-019) (order approving proposed rule change to make permanent
the operation of a program that allows the Exchange to list p.m.-
settled third Friday-of-the-month XSP and MRUT options series)
(``XSP and MRUT Approval''); and 98456 (September 20, 2023) (SR-
CBOE-2023-020) (order approving proposed rule change to make the
nonstandard expirations pilot program permanent) (``Nonstandard
Approval''). See also Securities Exchange Act Release Nos. 98450
(September 20, 2023), 88 FR 66111 (September 26, 2023) (SR-ISE-2023-
08) (order approving proposed rule change to make permanent certain
p.m.-settled pilots); and 98935 (November 14, 2023), 88 FR 80792
(November 20, 2023) (SR-ISE-2023-20) (order approving a proposed
rule change to permit the listing and trading of p.m.-settled
Nasdaq-100 Index[supreg] Options with a third-Friday-of-the-month
expiration).
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The Exchange further believes that permitting ISE to list FLEX PM
Third Friday Options, similar to Cboe, will remove impediments to and
perfect the mechanism of a free and open market
[[Page 22315]]
and a national market system and protect investors, while maintaining a
fair and orderly market. As described in the FLEX Settlement Pilot
Approval, Cboe observed no significant adverse market impact or
identified any meaningful regulatory concerns during the nearly 14-year
operation of the FLEX PM Third Friday Program as a pilot nor during the
15 years since P.M.-settled index options (SPX) were reintroduced to
the marketplace.\211\
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\211\ Notably, Cboe did not identify any significant economic
impact (including on pricing or volatility or in connection with
reversals) on related futures, the underlying indexes, or the
underlying component securities of the underlying indexes
surrounding the close as a result of the quantity of FLEX PM Third
Friday Options or the amount of expiring open interest in FLEX PM
Third Friday Options, nor any demonstrated capacity for options
hedging activity to impact volatility in the underlying markets. See
supra note 35.
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As discussed in the FLEX Settlement Pilot Approval, the DERA staff
study and corresponding Cboe study concluded that a significantly
larger amount of non-FLEX p.m.-settled index options had no significant
adverse market impact and caused no meaningful regulatory concerns.
Therefore, the Exchange believes it is reasonable to conclude that the
relatively small amount of FLEX Index Option volume would similarly
have no significant adverse market impact or cause no meaningful
regulatory concerns.\212\
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\212\ See supra note 35. Additionally, these studies measured
any impact on related futures, the underlying indexes, or the
underlying component securities of the underlying indexes
surrounding the close. Despite FLEX SPX options (which represent
approximately half of the year-to-date 2023 volume of FLEX Index
Options but only approximately 0.3% of total SPX volume) not being
included in the DERA staff study and corresponding Cboe study, those
studies concluded that during the time periods covered (which
included the period of time in which the Pilot Program has been
operating), there was no significant economic impact on the
underlying index or related products. Therefore, the Exchange
believes it is reasonable to conclude that any FLEX SPX Options that
executed during the timeframes covered by the studies had no
significant impact on the underlying index or related products, as
neither DERA staff nor Cboe observed any significant economic impact
on the underlying index or related product.
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The Exchange also believes the introduction of FLEX PM options had
no significant impact on the market quality of corresponding a.m.-
settled options or other options. As discussed in the FLEX Settlement
Pilot Approval, Cboe's analysis conducted after the introduction of
SPXW options with Tuesday and Thursday expirations demonstrated no
statistically significant impact on the bid-ask or effective spreads of
SPXW options with Monday, Wednesday, and Friday expirations after
trading in the SPXW options with Tuesday and Thursday expirations
began.\213\ Further, Cboe concluded that large FLEX PM Third Friday
Options trades had no material negative impact (and likely no impact)
on quote quality of non-FLEX a.m.-settled options overlying the same
index with similar terms as the FLEX PM Third Friday Option upon
evaluating data that showed that the spreads were relatively stable
before and after large trades.\214\ Therefore, the Exchange believes
Cboe's evaluation effectively demonstrates it is likely that FLEX PM
Third Friday Options have had no significant negative impact on the
market quality of non-FLEX Options with a.m.-settlement.\215\
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\213\ See supra note 35.
\214\ Specifically, Cboe evaluated each FLEX PM Third Friday
Options trade for more than 500 contracts that occurred on Cboe
during a two-year timeframe and analyzed the market quality
(specifically, the average time-weighted quote spread and size 30
minutes prior to the trade and the average time-weighted quote
spread and size 30 minutes after the trade) of series non-FLEX a.m.-
settled options overlying the same index with similar terms as the
FLEX PM Third Friday Option that traded (time to expiration, type
(call or put), and strike price) as set forth in the Cboe's data.
See supra note 35.
\215\ The Exchange acknowledges that, while FLEX PM Third Friday
Options has historically represented a very small percentage of
overall volume, it is possible trading in these options may grow in
the future.
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Additionally, the signi
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This is legal information, not legal advice. Laws vary by jurisdiction and change frequently. Always verify current law with official sources and consult a licensed attorney in your jurisdiction for advice on your specific situation.