September 22, 1998
Jonathan G. Katz
Secretary
U.S. Securities and Exchange Commission
(Mail Stop 6-9)
450 Fifth Street, N.W.
Washington, D.C. 20549
Re: Release No. 34-40260; File No. 4-208
Dear Mr. Katz:
OptiMark Technologies, Inc. ("OTI") appreciates the opportunity to provide the Securities and Exchange Commission ("Commission" or "SEC") with comments on the proposed amendments to the Intermarket Trading System ("ITS") Plan relating to, among other things, the ITS/Computer Assisted Execution System ("CAES") linkage. 1 We are a computer technology firm based in Durango, Colorado that has developed a new approach for the processing of trading interest known as "OptiMarkTM." Over the last few years, we have been playing an instrumental role in developing a new trading system based on our technology on behalf the Pacific Exchange, Inc. ("PCX"), known as the PCX Application of the OptiMark System ("PCX Application"). The PCX will make available the PCX Application to its members and their customers as an exchange facility later this year. 2 OTI is currently in the process of developing a similar application based on its technology for another market. 3
The Release raises a number of important issues about the current operation of ITS and reflects continued evolution in the Commission's assessment of existing market practices, which began with the Market 2000 study 4 and led to the adoption of the Order Handling Rules. 5 Central to the Commission's ongoing regulatory agenda has been the concerted effort to modernize the regulatory framework and promote greater market integration and competition. Consistent with such policy objectives, we believe that the Commission, as discussed below, should take active steps to enhance the role of ITS in the national market system ("NMS").
1. ITS/CAES Linkage. OTI supports the Commission's proposal to expand the scope of the ITS/CAES linkage to include all listed securities, including non-Rule 19c-3 securities. We believe that establishing efficient linkages between the exchange and over-the-counter ("OTC") markets is essential to obtaining the best execution of customer orders. In this regard, we agree with the Commission that there is no fundamental regulatory or functional basis for discriminating between Rule 19c-3 securities and non-Rule 19c-3 securities with respect to their respective NMS status. 6 The investing public is entitled to have ITS access to the bids or offers displayed in the Consolidated Quotation System ("CQS"), irrespective of whether the subject security was listed before or after April 26, 1979. Due to the existing limitations imposed on the ITS/CAES linkage, the ability of the users of the PCX Application to interact fully with all of the publicly displayed interest is artificially constrained. 7 Because eliminating such limitations would result in increased liquidity and competitiveness for the public at large, the Commission should act promptly to expand the scope of the linkage while it continues to encourage improvements in third market trading rules and procedures.
2. Voting Requirement. OTI also supports the Commission's efforts to modernize the internal governance structure for ITS. In particular, we agree that the ITS Plan's unanimous vote requirement should be replaced. The fact that the Plan requires a unanimous vote means that it can be used to easily deny access to ITS, impose a chill on innovation, and/or otherwise cause delays in an anti-competitive manner. 8 In this regard, it is important to recognize that the voting requirement -- whether unanimous or super-majority -- serves, in effect, as a procedural device allocating the burden of proof before the Commission ultimately makes decisions. Under the existing rules, a party seeking to amend the ITS Plan must pursue a protracted process, with no meaningful procedural safeguards or time limits on decision making. As a result, this process places all of the burdens on the proponent of change and leaves the opponent with all of the advantages (such as delays and debates). If the party in favor of change somehow can bring this process to a vote but fails due to the unanimity requirement, it must carry the burden of proof further until the Commission decides to review the failure to act.
By contrast, in the case of the two-thirds voting requirement proposed in the Release, the proponent of change, if it could muster requisite support, could obtain an affirmative vote, thereby placing the opponent in the position of having to justify its position before the Commission. The New York Stock Exchange ("NYSE") recognizes this important distinction in its comment letter. 9 It takes the position that a "super-majority voting requirement, coupled with a right to appeal to the Commission, would not provide the Participants with adequate protection." 10 Specifically, the NYSE claims that because the Commission "must approve a Plan amendment the Participants submit that meets the requirements of the Exchange Act and the Plan Rule," the Commission’s "limited legal authority to review Plan amendments does not provide (NYSE) with protection sufficiently similar to the protection . . . under the Commission approved unanimous voting requirement." 11
In making such a claim, the NYSE is, in effect (indeed, quite explicitly), claiming the right to deny or otherwise control access to an NMS facility through the continued operation of the unanimity requirement for reasons that may not pass muster under the Exchange Act. Of course, no exchange has any such right under the Exchange Act: Section 6(b)(5) expressly precludes an exchange from "regulat(ing) by virtue of any authority conferred by this title matters not related to the purposes of this title or the administration of the exchange." Presumably, the statuary limitations on an exchange’s actions and authority are the apparent reasons for characterizing ITS as a private "contract" among the participants. 12 As the Commission is well aware, however, ITS is a creature of both the Congress and the Commission's own efforts, intended to ensure the best execution of customer orders and further the operation of the NMS. ITS would not exist but for the mandates of Congress in combination with the Commission's own efforts. Its juridical status is essentially a function of the Commission’s orders and rules. It is a "contract" only in the sense that a "consent decree" can be viewed as a negotiated document.
As a result, the proponent of change should be allowed to drive forward a decision that ultimately the Commission will review. On review by the Commission, we hope that any opponent to change will come forward with reasons that can withstand the "disinfectant of sunlight" and the rigor of Exchange Act review. If not, it should identify now those reasons for the opposition that would not meet the Commission’s public interest and protection of investors standard. Apart from anti-competitive reasons, we believe that there should be none. 13 Ultimately, whether or not the unanimous vote requirement is replaced, we urge that the Commission play a more active role in policing ITS, by means of either procedural changes or direct intervention. We believe that through a heightened scrutiny of ITS, a more integrated NMS structure that better protects investors will emerge.
3. System Performance and Capacity. Finally, we believe that as a part of the ITS participants' ongoing operational responsibilities, they should be required to substantially improve system performance and capacity of ITS. As pointed by other commenters, much of the technology still in use today dates back to the 1970s, and there is an inefficient mesh of manual and automated sub-systems within ITS. 14 We are concerned that the resulting system inefficiency creates serious capacity limitations that lead to poor or untimely executions of ITS commitments and delays in obtaining access to ITS. 15
Ultimately, we are concerned that the current operating environment for ITS may frustrate the efforts by the PCX and other competing market centers to introduce technological innovations that are necessary to meet the evolving needs of the investor community. We urge that the Commission require a comprehensive review of system effectiveness, as previously recommended by the U.S. General Accounting Office ("GAO"), 16 and mandate a detailed plan of action by the ITS participants to improve system performance and capacity in the near future. As the Commission stated in its Temporary Order Extending the Operation of ITS, 17
The development of a national market system continues to be an evolutionary process, and if the types of systems represented by the ITS…are to become permanent features of that system as it evolves, they must continue to make improvements, changes and adaptations to meet the needs of persons trading in the various market centers and to accommodate Commission regulatory requirements designed to improve order interaction and price protection between and among markets.
We believe that such efforts to build the proper technological infrastructure will further the NMS objectives by allowing the nation's markets to be more integrated and, as a result, better positioned to serve the public in the new millennium.
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We thank the Commission for the opportunity to comment on these important public policy considerations. If you have any questions on our comments, please contact the undersigned.
Sincerely,
John C. Katovich
Senior Vice President and General Counsel
CC: Chairman Levitt
Commissioner Johnson
Commissioner Hunt
Commissioner Carey
Commissioner Unger
Richard R. Lindsey, Director, Division of Market Regulation
Robert L.D. Colby, Deputy Director, Division of Market Regulation
Belinda Blaine, Associate Director, Division of Market Regulation