Self-regulation is a unique and fundamental component of federal securities regulation in the United States. The principal markets where securities are bought and sold ─ the nation's securities exchanges ─ are also the principal regulators of the activities of broker-dealers using those markets. With the benefits of operating an exchange come certain regulatory responsibilities. In order to exist as a registered national securities exchange or securities association, an exchange or association must fulfill certain well-established regulatory obligations as a self-regulatory organization ("SRO"). An SRO must comply with, and enforce its members' compliance with, the federal securities laws and rules, as well as its own rules. In this regard, an SRO must conduct surveillance of trading on its exchanges and examine the securities-related operations of its members. An SRO must also file proposed rules and rule changes governing its operations with the Commission. Among other requirements, an SRO's rules must provide for the equitable allocation of reasonable dues, fees and other charges among exchange or association members or other persons using the SRO's facilities and must not be designed to permit unfair discrimination between customers, issuers, brokers or dealers.In spite of these well-established obligations, an inherent conflict exists within every SRO between the regulation of its members and its business interests, as well as the potential for unfair discrimination among members. The Commission has recognized that unchecked conflicts in the dual role of regulating and serving members can result in under zealous enforcement of rules against members and less robust rulemaking.
[E]ven where an SRO structure may appear sound, successful self regulation relies on sufficiently vigorous rule enforcement against members on the part of the SRO. If regulatory staff is disinclined to regulate members, self-regulation will fail. Thus, to be effective, an SRO must be structured in such a way that regulatory staff is unencumbered by inappropriate business pressure.
Also READ:Concept Release Concerning Self-Regulation, 69 Fed. Reg. 71256, 71259 (Dec. 8, 2004).This matter concerns the failure of a self-regulatory organization to police and control this conflict and prevent the advancement of its business interests, and the interests of its member firms, ahead of its regulatory obligations.The Chicago Board Options Exchange ("CBOE" or the "Exchange") failed to fulfill its fundamental responsibilities as an SRO and exchange. CBOE's failures were not mere oversights or technical violations, but a systemic breakdown in several of its regulatory and compliance responsibilities as an exchange. Not only did it fail to enforce the Commission's rules by not adequately investigating a member firm's compliance with Regulation SHO of the Exchange Act ("Reg. SHO"), CBOE's conduct also interfered with the Commission's Division of Enforcement ("Enforcement Division") staff's Reg. SHO investigation of the same member firm. This conduct was egregious. CBOE assisted that member firm by taking the unprecedented step of providing information for, and edits to, the member firm's Wells submission to the Commission ─ even more troubling, the information and edits provided by CBOE resulted in the member firm providing the Commission with inaccurate and misleading information. When questioned by Enforcement Division staff about the underlying matter, CBOE failed to disclose that it had assisted the member firm with its Wells submission. CBOE also failed to enforce Reg. SHO because it employed a Reg. SHO surveillance program that failed to detect a single violation, despite numerous red flags that its members engaged in violative conduct.CBOE's failures cut across all aspects of its regulatory, business and exchange operations. In addition to failing to adequately enforce the Commission's rules, CBOE failed to adequately enforce its own rules, including its firm quote and priority rules, as well as rules governing registration of persons associated with proprietary trading member firms. In addition, by making unauthorized "customer accommodations," rebates, and other credits to certain member firms3 and not others without an applicable rule in place that was consistent with the applicable statutory standards, CBOE failed to provide for the equitable allocation of fees and other charges and engaged in unfair discrimination between member firms. Furthermore, CBOE and C2 failed to file proposed rule changes or filed proposed rule changes long after, and in some instances years after, certain trading functions had been in effect. Lastly, CBOE failed to promptly furnish complete and accurate business records on a timely basis at Commission staff's request. . .