00-11804. Self-Regulatory Organizations; Order Approving Proposed Rule Change by the Chicago Board Options Exchange, Inc. Relating to the Maintenance Standards for the Dow Jones High Yield Select Ten Index

May 2, 2000.

I. Introduction

On November 9, 1999, the Chicago Board Options Exchange, Inc. (“CBOE” or “Exchange”) submitted to the Securities and Exchange Commission (“Commission”), pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (“Act”) ^[1] and Rule 19b-4 ^[2] thereunder, a proposed rule change. In its proposal, the CBOE seeks to clarify certain procedures regarding the maintenance of the Dow Jones High Yield Select 10 Index (“Index”). The proposed rule change was published for comment in the Federal Register on February 28, 2000.^[3] The Commission received no comments on the proposed rule change and this order approves the proposal.

II. Description of the Proposal

The CBOE currently lists and trades European-style, cash-settled options on the Dow Jones High Yield Select 10 Index, an equal weighted index composed of the ten highest yielding stocks from the 30 stocks in the Dow Jones Industrial Average (“DJIA”). The Index was designed to replicate a popular contrarian strategy that assumes that the ten highest yielding stocks in the DJIA are oversold and therefore, undervalued relative to the other stocks in the average. The index is reconstituted annually and the stocks comprising the index are retained for a full year.

Normally, the Index represents a subset of the DJIA. However, Dow Jones can change the components of the DJIA at any time, and in some cases remove stocks that also happen to be components of the Index. The strategy upon which the Index is based, and the convention followed by investors and money managers, calls for the portfolio to be held for a full year even if certain components are no longer part of the DJIA.

The maintenance procedures set forth in SR-CBOE-97-63 state that if it becomes necessary to remove a stock from the Index, it will be replaced by the stock in the DJIA which has the highest yield of the stocks not already in the Index.^[4] CBOE intended for this passage to describe the actions it would take if the shares of an Index component became unavailable for trading, either due to a corporate action such as a takeover or merger, or due to bankruptcy. However, CBOE made no distinction between this type of component change and a discretionary component change in the Dow Jones Industrial Average, in which the shares of a company removed from the DJIA continue to trade.^[5]

CBOE, therefore, proposes to clarify its maintenance procedures under which component changes can be made to the Index. Specifically, if it becomes necessary to remove a stock from the Index in the event that its shares cease to trade and a proxy for those shares is not available, it will be replaced by the stock in the DJIA that has the highest yield of the stocks not already in the Index. If a stock is removed from the DJIA at the discretion of Dow Jones, but its shares continue to trade, that stock will remain in the Index until the time of the annual re-balancing.

III. Discussion

After careful review, the Commission finds that the proposed rule change is consistent with the requirements of the Act.^[6] In particular, the Commission finds the proposal is consistent with Section 6(b)(5) ^[7] of the Act. Section 6(b)(5) requires, among other things, that the rules of an exchange be designed to promote just and equitable principles of trade and to protect investors and the public interest.

The Commission believes that the proposal is consistent with the Act because it helps protect investors. In the proposal, CBOE sets forth its procedures for maintaining the Index when the Dow Jones corporation decides to replace a stock in the Dow Jones Industrial Average. CBOE's procedures will now be consistent with industry practice for maintaining the Index, which should help protect investors by eliminating potential confusion about the composition of the Index. Further, this clarification helps protect investors because it gives investors advance notice about the treatment of the Index and, therefore, allows them to make an informed investment decision.

IV. Conclusion

It is therefore ordered, pursuant to Section 19(b)(2) of the Act,^[8] that the proposed rule change (SR-CBOE-99-60) is approved.

For the Commission, by the Division of Market Regulation, pursuant to delegated authority.^[9]

Margaret H. McFarland,

Deputy Secretary.

Footnotes

1.  15 U.S.C. 78s(b)(1).

2.  17 CFR 240.19b-4.

3.  See Securities Exchange Act Release No. 42439 (Feburary 18, 2000), 65 FR 10573.

4.  See Securities Exchange Act Release No. 39453 (December 16, 1997), 62 FR 67101 (December 23, 1997) (order approving SR-CBOE-97-63).

5.  On November 1, 1999, Dow Jones removed four stocks from the DJIA and replaced these stocks with new ones. These four stocks also happened to be components of the Index, i.e., four of the highest yielding stocks in the DJIA. Before this component change in the DJIA, CBOE realized that, contrary to industry practice, its maintenance rules for the index required it to remove the four stocks from the Index. To prevent these Four stocks from being removed from the Index until the annual rebalancing of the Index, CBOE submitted a rule change under Section 19(b)(3)(A) of the Act. See Securities Exchange Act Release No. 42187 (November 30, 1999), 64 FR 68708 (December 8, 1999).

6.  In addition, pursuant to Section 3(f) of the Act, the Commission has considered the proposed rule's impact on efficiency, competition, and capital formation. 15 U.S.C. 78c(f).

7.  15 U.S.C. 78f(b)(5).

8.  15 U.S.C. 78s(b)(2).

9.  17 CFR 200.30-3(a)(12).