RE Short Sale Rule - Riskless Principal Exemption by nrg44159

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									                                                                            July 27, 2005
                                                                            MR-05-16


                        CHICAGO STOCK EXCHANGE, INC.
                       MARKET REGULATION DEPARTMENT
                         INFORMATION MEMORANDUM

________________________________________________________________

RE: Short Sale Rule – Riskless Principal Exemption
________________________________________________________________

On July 18, 2005, the U.S. Securities and Exchange Commission issued a no-action
letter providing exemptive relief under the short sale rule for riskless principal
transactions, provided that certain enumerated conditions are satisfied. The no-action
letter can be found on the SEC’s website at http://www.sec.gov/divisions/marketreg/mr-
noaction/sia071805.htm.

The no-action letter provides an exemption to the tick test provisions of the short sale
rule (Exchange Act Rule 10a-1) for two distinct types of riskless principal transactions. A
riskless principal transaction is described as one in which “a member, after having
received an order to buy a security, purchases the security as principal at the same price
to satisfy the order to buy or, after having received an order to sell, sells the security as
principal at the same price to satisfy the order to sell.” (citing the NASD’s riskless
principal definition). The first situation involves the situation where a specialist receives a
“long” sale instruction for a customer and then seeks to seeks to execute that order, in
whole or in part, on a riskless principal basis.1 The second situation occurs where a
specialist receives a customer buy order and fills the customer order on a riskless
principal basis. In both of these situations, a specialist may execute the transaction
without any tick test restrictions, provided that certain specified conditions are met.

The conditions to these exemptions are as follows:

    1. The broker-dealer (i.e., the CHX specialist), after having received an order to sell
       a security from a customer who has a net "long" position, sells the security as
       principal at the same price to satisfy the order to sell, or, after having received an
       order to buy a security from a customer, purchases the security as principal at
       the same price and then sells to the customer;



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       The text of the no-action letter itself refers to receipt of such orders by “broker-dealers.”
       Since CHX specialist firms are broker-dealers, this exemption provided in the no-action
       letter may apply to activity of CHX specialist firms.
   2. The sell or buy order must be given the same per-share price at which the
      broker-dealer sold or bought shares, respectively, to satisfy the facilitated order,
      exclusive of any explicitly disclosed markup or markdown, commission
      equivalent, or other fee;

   3. The broker-dealer must have written policies and procedures in place to assure
      that, at a minimum: the customer order was received prior to the offsetting
      transaction; the offsetting transaction is allocated to a riskless principal account
      or customer account within 60 seconds of execution; and the broker-dealer has
      supervisory systems in place to produce records that enable the broker-dealer to
      accurately and readily reconstruct, in a time-sequenced manner, all orders
      effected pursuant to this exemption; and

   4. Sales effected in reliance on this relief shall be marked "short exempt" in
      accordance with Rule 200(g)(2) of Regulation SHO, and in no event will such
      sales be marked "long."

Specialist firms that wish to take advantage of the riskless principal exemptions should
draft, implement and enforce internal compliance procedures relating to the
requirements noted above. Copies of these procedures (and any subsequent updates
or modifications thereto) should be sent to the Surveillance Department.            The
Department’s ability to recognize the riskless principal exemptions depends upon the
creation and utilization of adequate procedures by specialist firms.

Please call the undersigned at (312) 663-2628 or Marguerite Donovan at (312) 663-2548
with any questions concerning this notice.



_________________________
David C. Whitcomb, Jr.
Chief Regulatory Officer




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