[Federal Register Volume 63, Number 34 (Friday, February 20, 1998)]
[Notices]
[Pages 8723-8725]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-4257]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-39464; File No. SR-Amex-97-44]
Self-Regulatory Organizations; American Stock Exchange, Inc.;
Order Granting Approval to Proposed Rule Change Relating to
Institutional Index Option Position Limits
February 11, 1998.
I. Introduction
On November 4, 1997, the American Stock Exchange, Inc. (``Amex'' or
``Exchange'') submitted to the Securities and Exchange Commission
(``Commission''), pursuant to Section 19(b)(1) of the Securities and
Exchange Act of 1934 (``Exchange Act'' or ``Act'') \1\ and Rule 19b-4
thereunder,\2\ a proposed rule change to increase both position and
exercise limits, as well as the firm facilitation exemption, for its
Institutional Index Options (``XII'').
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4
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The proposed rule change was published for comment in the Federal
Register on November 17, 1997.\3\ No comments were received on the
proposal. This order approves the proposal, as amended.
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\3\ Exchange Act Release No. 39313 (November 7, 1997), 62 FR
61418 (November 17, 1997).
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II. Description
A. Increase XII Position and Exercise Limits
The Amex is proposing to increase XII position and exercise limits
to 100,000 contracts on the same side of the market. Existing Exchange
rules provide for XII position and exercise \4\ limits of 45,000
contracts on the same side of the market of which no more than 25,000
contracts may be used for purposes of realizing any differential in
price between XII and the securities underlying XII. In July of 1992,
the Exchange increased position and exercise limits for XII to their
current levels.\5\ Since that time, options on XII continue to be
traded primarily by institutional and professional investors and member
firms, each often needing to hedge large asset quantities.
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\4\ The exercise limit for XII, which is equal to XII's position
limit, is determined under Exchange Rules 905C and 905.
\5\ See Exchange Act Release No. 31330 (Oct. 16, 1992) 57 FR
30516 (Oct. 23, 1992).
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The Exchange believes that increasing the position and exercise
limits for XII options to 100,000 contracts will allow increased
institutional use of XII and allow it to be more competitive with
alternative products. In addition, the Exchange believes that an
increase in XII position and exercise limits will benefit not only the
beneficiaries of assets managed by various institutions, but also the
marketplace in general through increased liquidity.
These proposed changes are intended to result in little or no
attendant risk to the marketplace as XII is composed of seventy-five of
the most widely-held stocks in institutional portfolios that have a
market value of more than one hundred million in investment funds.\6\
Thus the component issues are extremely liquid and the overall index
less volatile than individual stocks. Lastly, XII options are European-
style and therefore can only be exercised at expiration.
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\6\ To qualify for inclusion in XII, stocks must be held by a
minimum of 200 of the reporting institutions filing Section 13(f)
reports and must have traded at least 7 million shares in each of
the two preceding calendar quarters.
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To enhance its ability to monitor unhedged positions, the Amex will
add a reporting requirement (new Commentary .03 to Exchange Rule 904(C)
for accounts having a position in excess of 45,000 a.m.-settled,
European-style XII option contracts on the same-side of the market.
Specifically, new Commentary .03 to Exchange Rule 904C states that if a
member or member organization, other than an Exchange Specialist or
Registered Options Trader, maintains a position in excess of 45,000
a.m.-settled, European-style XII option contracts on the same-side of
the market on behalf of its own account or for the account of a
customer, it must report information as to whether those positions are
hedged and provide documentation as to how such contracts are hedged,
in the manner and form required by the Exchange. In addition, to
address the Commission's concerns with respect to the ability of the
Exchange to monitor customer accounts that maintain large unhedged
positions, the Amex will add a margin and clearing firm requirement.
Pursuant to new Commentary .04 to Exchange Rule 904C, whenever the
Exchange determines that additional margin is warranted in light of the
risks associated with an under-hedged option position in excess of
45,000 contracts, the Exchange may impose additional margin upon the
account maintaining such under-hedged position, or assess capital
charges upon the clearing firm carrying the account to the extent of
any margin deficiency resulting from the higher margin requirement.
B. Increase XII Firm Facilitation Exemption
The Exchange is proposing to increase the XII firm facilitation
exemption \7\ from 100,000 contracts to 400,000 contracts in order to
accommodate the needs of investors as well as market participants. The
Exchange believes that this increase should not substantially increase
concerns regarding the potential for manipulation and other trading
abuses.\8\ Furthermore, the Exchange believes that proposed rule change
will further enhance the potential depth and liquidity of the options
market as well as the underlying
[[Page 8724]]
markets by providing Exchange members greater flexibility in executing
large customer orders, which the Exchange's existing safeguards
applicable to current facilitation exemptions continue to serve to
minimize any potential disruption or manipulation concerns.
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\7\ The Amex defines a facilitation order as an order which is
only executed in whole or in part, in a cross transaction with an
order for a public customer of the member organization. See Amex
Rule 950 (e)(iv).
\8\ The Exchange notes that the XII firm facilitation exemption
is in addition to the standard limit and other exemptions under
Exchange rules, commentaries and policies.
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III. Discussion
The Commission finds that the proposed rule change is consistent
with the requirements of the Act and the rules and regulations
thereunder applicable to a national securities exchange, and, in
particular, with the requirements of Section 6(b)(5).\9\ Specifically,
the Commission believes that the proposed increase in the XII position
and exercise limits, as well as the firm facilitation exemption, will
enhance the depth and liquidity of the market for both members and
investors. Accordingly, the Commission believes that these changes are
consistent with, and further the objectives of, Section 6(b)(5)\10\ of
the Act in that they would remove impediments to and perfect the
mechanism of a free and open market in a manner consistent with the
protection of investors and the public interest.\11\
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\9\ 15 U.S.C. 78f(b)(5).
\10\ 15 U.S.C. 78f(b)(5).
\11\ In approving this rule, the Commission has considered the
proposed rule's impact on efficiency, competition, and capital
formation. 15 U.S.C. Sec. 78c(f).
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A. Increase XII Position and Exercise Limits
Since the inception of standardized options trading, the options
exchanges have had rules imposing limits on the aggregate number of
options contracts that a member or customer could hold or exercise.
These rules are intended to prevent the establishment of options
positions that can be used or might create incentives to manipulate or
disrupt the underlying market so as to benefit the options position. In
particular, position and exercise limits are designed to minimize the
potential for mini-manipulation \12\ and for corners or squeezes of the
underlying market. In addition, they serve to reduce the possibility
for disruption of the options market itself, especially in illiquid
options classes.
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\12\ Mini-manipulation is an attempt to influence, over a
relatively small range, the price movement in a stock to benefit a
previously established derivatives position.
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The Commission has been careful to balance two competing concerns
when considering an SRO's position and exercise limits. First, the
Commission has recognized that the limits must be sufficient to prevent
investors from disrupting the market for the underlying security by
acquiring and exercising a number of options contracts disproportionate
to the deliverable supply and average trading volume of the underlying
security. At the same time, the Commission has realized that limits
must not be established at levels that are so low as to discourage
participation in the options market by institutions and other investors
with substantial hedging needs or to prevent specialists and market
makers from adequately meeting their obligations to maintain a fair and
orderly market.\13\
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\13\ See H.R. Rep. No. IFC-3, 96th Cong., 1st Sess. at 189-91
(Comm. Print 1978) (``Options Study'').
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The Commission believes that the proposed increase in XII position
and exercise limits to 100,000 contracts will expand the depth and
liquidity of the XII market without significantly increasing concerns
regarding intermarket manipulations or disruptions of the options or
the underlying securities.\14\ As previously noted by the Commission,
markets with active and deep trading interest, as well as with broad
public ownership, are more difficult to manipulate or disrupt than less
active and deep markets with smaller public floats. In this regard, the
XII market is composed of seventy-five of the most widely-held stocks
in institutional portfolios that have a market value of more than one
hundred million in investment funds.
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\14\ See Amex Rule 904C(a).
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Moreover, the Amex has adopted important safeguards that will allow
it to monitor large unhedged positions (those in excess of 45,000
contracts) in order to identify instances of potential risk \15\ and to
assess additional margin or capital charges against the clearing firm,
if necessary.\16\
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\15\ Under new Commentary .03 to Exchange Rule 904C, each member
or member organization, other than an Exchange Specialist or
Registered Options Trader, that maintains a position in excess of
45,000 A.M.-settled, European-style XII option contracts on the same
side of the market on behalf of its own account or for the account
of a customer will report information as to whether those positions
are hedged and provide documentation as to how such contracts are
hedged, in the manner and form required by the Exchange.
\16\ Under new Commentary .04 Exchange Rule 904C, whenever the
Exchange determines that additional margin is warranted in light of
the risks associated with an under-hedged XII option position in
excess of 45,000 contracts, the Exchange may impose additional
margin upon the account maintaining such under-hedged position, or
assess capital charges upon the clearing firm carrying the account
to the extent of any margin deficiency resulting from the higher
margin requirement.
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Accordingly, given the size and breadth of the XII, along with the
new XII reporting requirement set forth in Commentary .03 to Exchange
Rule 904C and the new margin and clearing firm requirements set forth
in Commentary .04 to Exchange Rule 904C, the Commission believes that
increasing the XII position and exercise limits to 100,000 contracts
should not increase any manipulative concerns. Finally, the Exchange's
surveillance program will continue to detect and deter trading abuses
arising from the increased position and exercise limits.\17\
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\17\ The Exchange has represented that it intends to implement
increased surveillance and reporting procedures to ensure a thorough
understanding of the uses and risks of the underlying strategies
supported by the increased position limits. The Exchange also has
represented that it intends to provide reports regarding position
limits to the Commission's Division of Market Regulation on a
periodic basis and at appropriate thresholds of activity.
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B. Increase XII Firm Facilitation Exemption
The Commission believes that the proposed increase of the XII firm
facilitation exemption from 100,000 contracts to 400,000 contracts will
accommodate the needs of investors as well as market participants
without substantially increasing concerns regarding the potential for
manipulation and other trading abuses.\18\ The Commission also believes
that the proposed rule change will further enhance the potential depth
and liquidity of the options market as well as the underlying market by
providing Exchange members greater flexibility in executing large
customer orders.\19\
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\18\ The Commission notes that the XII firm facilitation
exemption is in addition to the Standard limit and other exemptions
under Exchange rules, commentaries and policies.
\19\ When initially approving the firm facilitation exemption
for XII options, the Commission stated that providing member
organizations with an exemption for the purpose of facilitating
large customer orders would better serve the needs of the investing
public. At that time, the Commission also noted that safeguards were
built into the exemption to minimize any potential disruption or
manipulation concerns. The Commission currently believes that these
same benefits and assurances are also applicable with respect to the
increased firm facilitation exemption. See Exchange Act Release No.
31330 (October 16, 1992), 57 FR 48408 (October 23, 1992).
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The Amex's existing safeguards that apply to the current
facilitation exemption will continue to serve to minimize any potential
disruption or manipulation concerns. First, the facilitation firm must
receive approval from the Exchange prior to executing facilitating
trades. Second, a facilitation firm must, within five business days
after the execution of a facilitation exemption order, hedge all exempt
options positions that have not previously been liquidated, and furnish
to the Exchange documentation reflecting the resulting hedged
[[Page 8725]]
positions.\20\ Third, the facilitation exemption member is required to
provide the Exchange with any information or document requested
concerning the exempted options positions and the positions hedging
them. Fourth, a facilitation exemption member is not permitted to use
the facilitation exemption for the purpose of engaging in index
arbitrage. Fifth, neither the member's nor the customer's order may be
contingent upon ``all or none'' or ``fill or kill'' instructions and
the orders may not be executed until the XII specialist has announced
the orders to the entire crowd and crowd members have been given a
reasonable time to participate in the trade. Finally, once liquidated
or reduced, the member organization may not increase the exempted
option positions without receiving approval from the Exchange again.
The Commission believes that these requirements will help to ensure
that the facilitation exemption will not have an undue market impact on
the options or on any underlying stock positions.
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\20\ In meeting this requirement, the facilitation firm must
liquidate and establish its customer's and its own options and stock
positions or their equivalent in an orderly fashion, and not in a
manner calculated to cause unreasonable price fluctuations or
unwarranted price changes.
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In summary, the Commission continues to believe that the safeguards
built into the facilitation exemptive process will serve to minimize
the potential for disruption and manipulation concerns, while at the
same time benefiting market participants by allowing member firms
greater flexibility to facilitate large customer orders. The Commission
also believes that the Amex has adequate surveillance procedures to
surveil for compliance with the rule's requirements. Based on these
reasons, the Commission believes that it is appropriate to increase the
XII firm facilitation exemption to 400,000 contracts.
IV. Conclusion
Based on the above, the Commission believes that the proposed rule
change will serve to provide market participants with greater
flexibility without significantly increasing concerns regarding
intermarket manipulations or disruptions of either the options market
or the underlying stock market.
It is therefore ordered, pursuant to Section 19(b)(2) of the
Act,\21\ that the proposed rule change (SR-Amex97-44) is approved.
\21\ 15 U.S.C. 78s(b)(2).
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For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\22\
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\22\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 98-4257 Filed 2-19-98; 8:45 am]
BILLING CODE 8010-01-M
