[Federal Register Volume 61, Number 111 (Friday, June 7, 1996)]
[Notices]
[Pages 29160-29163]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-14358]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-37258; File No. SR-OCC-95-17]
Self-Regulatory Organizations; The Options Clearing Corporation;
Notice of Filing of a Proposed Rule Change Modifying the Escrow Deposit
Program
May 30, 1996.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act''),\1\ notice is hereby given that on November 2, 1995, The
Options Clearing Corporation (``OCC'') filed with the Securities and
Exchange Commission (``Commission'') the proposed rule change as
described in Items I, II, and III below, which Items have been prepared
primarily by OCC. OCC amended the proposed rule change on March 22,
1996.\2\ The Commission is publishing this notice to solicit comments
on the proposed rule change from interested persons.
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\1\ 15 U.S.C. Sec. 78s(b)(1) (1988).
\2\ Letter from Jean M. Cawley, OCC, to Jerry W. Carpenter,
Assistant Director, Division of Market Regulation, Commission (March
20, 1996).
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
The purpose of the proposed rule change is to amend OCC's escrow
deposit program to permit escrow deposits for stock put contracts and
stock index put contracts and to make other conforming changes to OCC's
rules.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, OCC included statements
concerning the purpose of and basis for the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. OCC has prepared summaries, set forth in sections (A),
(B), and (C) below, of the most significant aspects of such
statements.\3\
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\3\ The Commission has modified the text of the statements
prepared by OCC.
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A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
OCC proposes to modify its escrow deposit program to (i) permit
escrow deposits for stock put options and stock index put options; (ii)
delete provisions regarding OCC's batch system for processing escrow
receipts; (iii) change provisions regarding the timing of the release
of escrow deposits; and (iv) delete provisions for bulk deposits for
call options and deposits of Treasury bills for put options. In
addition, OCC proposes to modify other OCC rules to conform to this
rule change.
Pursuant to OCC rules, clearing members may deposit with an OCC
approved custodian shares of stock which may be in the form of escrow
deposits, underlying certain options in lieu of margin. Escrow deposits
are specific deposits of assets held by OCC at an approved custodian
for the account of a specific customer. Presently, OCC's rules restrict
escrow deposits to short positions in stock calls and stock index
calls. For stock call options, the underlying security may be deposited
in escrow with an OCC-approved custodian and for stock index call
options, any combination of cash, short-term government securities, or
marginable equity securities may be deposited in escrow with an OCC-
approved custodian.
Permitting escrow deposits with respect to stock put contracts and
stock index put contracts had been deferred until sufficient interest
existed and an acceptable system could be developed to process escrow
deposits for put options. OCC recently received requests to expand its
escrow program to include such deposits for stock and stock index puts.
Those requests prompted OCC to review its escrow program and its
processing systems that support the escrow program. As a result
thereof, OCC determined to make several enhancements and modifications
to its escrow program as described below.
First, OCC proposes to expand its escrow program to permit escrow
deposits for stock put contracts and stock index put contracts and
process those deposits through its on-line Escrow Receipt Depository
(``ERD'') system.\4\ To accomplish the proposed expansion of its escrow
program, certain changes to OCC Rules 610 and 1801 are necessary. In
general, the changes will accommodate the Deposit of any combination of
cash and short-term government securities for put contracts, will
provide for the valuation and substitution of deposited assets and, in
the event of the value of the property declines below a specified
amount, will permit OCC to disregard the escrow
[[Page 29161]]
deposit and require the clearing member to deposit margin upon notice.
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\4\ For a complete description of the batch ERD system and the
transition to the on-line ERD system, refer to Securities Exchange
Act Release No. 31595 (December 11, 1992), 57 FR 61139 [SR-OCC-92-
30] (order approving on an accelerated basis a proposed rule change
relating to the conversion of OCC's current batch ERD system to an
on-line system).
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Second, OCC proposes to eliminate its batch ERD system for
processing escrow receipts. OCC always contemplated that the on-line
ERD system would eventually replace the batch ERD system after a
reasonable transition period. OCC believes that clearing members and
custodian banks now have completed their transition to the on-line
system because the batch ERD system is no longer used. To eliminate the
batch ERD system, the proposed changes will eliminate references to
escrow receipts in Rule 610 and 1801, and the batch processing system
described in Rule 613(a).
Third, OCC proposes to modify the time at which it releases escrow
deposits. OCC currently releases an escrow deposit on the second
business day following the expiration of the short position covered by
the deposit, and thereafter if assigned, collects margin for the
position formerly covered by the deposit until the next business day
after the exercise settlement date. OCC now proposes to hold an escrow
deposit covering a short position to which an exercise has been
allocated until the business day after the exercise settlement date and
will no longer collect margin.
Fourth, OCC proposes to eliminate bulk deposits of underlying
securities for call options and the deposit of Treasury bills for put
options because these capabilities have been rarely, if ever, used by
clearing members. Furthermore, the provisions for depositing Treasury
bills for put options is being superseded by the new provisions for put
escrow deposits.
Finally, OCC proposes to modify rules that relate to the suspension
and liquidation of a clearing member to conform the rules to the
changes to OCC's escrow deposit program described above.
Changes to OCC's Rules
Rule 610
Rule 610 is being amended to permit deposits of cash and/or short-
term Government securities (with such securities being valued at the
lesser of par value or 100% of current market value) with respect to
short positions in put options. The proposal also adds Section 2 to the
Interpretations and Policies (``Interpretations'') under Rule 610,
which interpretation states that for purposes of Rule 610 the term
short-term government securities means securities with a fixed
principal amount that are issued or guaranteed by the U.S. and that
have one year or less to maturity. As proposed, the total value of the
deposited property at the trade date (i.e., the date on which the put
covered by the deposit was written) will have to be not less than 105%
of the aggregate exercise price (i.e., the exercise price times the
number of contracts). This requirement in conjunction with OCC's
ability under proposed paragraph (h) to require margin if the value of
the deposited property falls below 97.5% of the aggregate exercise
price should provide ample protection against adverse market moves.
Substitution of deposited property will be permitted provided that the
substituted property is at least equal to the value of the property
being replaced.
Paragraph (k) is being added to Rule 610 to make explicit OCC's
authority to receive from the depository if a clearing member fails to
make timely settlement with respect to an assignment (i) in the case of
call options, the underlying security or (ii) in the case of put
options, an amount in cash (out of the deposited property or its
proceeds) equal to the aggregate exercise price plus commissions and
other charges.
Rule 610 also is being amended to make various other changes,
including changes to make clear that underlying securities may be
deposited only with respect to short positions in call options, to
eliminate unnecessary provisions of the rule, and to reletter the rule
to reflect the deletion and addition of certain paragraphs.\5\
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\5\ Provisions for bulk deposits are being deleted as clearing
members have rarely, if ever, made such deposits with OCC.
Provisions for hard copy escrow receipts are being deleted as are
provisions for hard copy third party pledge depository receipts.
However, a newly proposed Interpretation of OCC Rule 610 is intended
to permit depositories that currently issue hard copy depository
receipts to OCC and that are ``clearing corporations'' as defined in
Article 8 of the Uniform Commercial Code to continue to issue such
depository receipts to OCC until such time as they develop an EDP
System.
The current EDP Pledge System is operated by DTC and allows OCC
members who are participants in DTC's participant terminal system
(``PTS'') to electronically pledge to OCC securities on deposit at
DTC. For a complete description of DTC's EDP Pledge System refer to
Securities Exchange Act Release No. 22887 (February 18, 1986), 51 FR
5823 [File No. SR-OCC-86-01] (notice of filing and immediate
effectiveness of proposed rule change permitting OCC clearing
members to use EDP Pledge System to pledge securities to meet margin
and clearing fund obligations).
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Rule 1801
The proposed changes to OCC rule 1801 are intended to permit escrow
deposits with respect to short positions in put index options carried
in clearing members' customers' accounts. Currently, such deposits must
relate to short positions in call index options carried in customers'
accounts. In general, the changes to rule 1801 parallel those being
made to Rule 610 to accommodate escrow deposits for put options.
Under amended rule 1801, only cash and short-term government
securities will be permitted to be deposited for index put option
contracts. A proposed Interpretation to Rule 1801 clarifies that short-
term government securities means securities that have a fixed principal
amount, that are issued or guaranteed by the U.S., and that have one
year or less to maturity. The total value of the deposited property at
the trade date (i.e., the date on which the put covered by the deposit
was written) cannot be less than the aggregate exercise price per
contract. The 5% cushion above the aggregate exercise price that OCC
proposes to require for equity put escrow deposits is unnecessary for
index put escrow deposits because the settlement amount payable on
exercise of an index put is not the gross exercise price but rather is
the excess of the exercise price over the closing index value. An
escrow deposit with a value equal to 100% of the aggregate exercise
price would thus exceed the exercise settlement amount so long as the
underlying index value remained above zero. Requiring an escrow deposit
with a value equal to 100% of aggregate exercise price in conjunction
with OCC's ability under the proposed amendment to rule 1801(e) to
require margin if the value of the deposited property falls below 50%
of the aggregate exercise price per contract should provide ample
protection against adverse market moves. Substitution of deposited
property will be permitted provided that the substituted property is at
least equal to the value of the property being replaced.
New paragraph (i) is being added to rule 1801 to make explicit
OCC's authority to receive from the depository if a clearing member
fails to make timely settlement with respect to an assignment an amount
in cash (out of the deposited property or its proceeds) equal to the
product of the number of contracts covered by the assignment (up to the
aggregate number of contracts covered by the escrow deposit) and the
exercise settlement amount per contract plus commissions and other
charges.
Rule 1801 also is being amended for various other reasons,
including to make clear that marginable equity securities may be
deposited only with respect to short positions in index call option
contracts, to eliminate provisions for hard copy escrow receipts, and
to reletter the rule to reflect the addition of new paragraph (i).
[[Page 29162]]
Rule 613
Rule 613 is being amended to change the time at which an escrow
deposit may be released. OCC's current practice is to release all
escrow deposits on the second business day following the expiration of
the short position covered by the deposit. OCC now proposes to hold an
escrow deposit covering a short position to which an exercise has been
allocated until the business day after the exercise settlement date and
no longer will collect margin. Accordingly, a new provision is being
added to Rule 613 that will prohibit the release of an escrow deposit
covering a short position for which an exercise notice has been
allocated until the first business day after the exercise settlement
date (if the exercise is settled through a correspondent clearing
corporation) or after OCC receives confirmation of settlement (if the
exercise was settled otherwise as directed by OCC).
Rule 613 is being amended further to replace references to ``ERD
banks'' with ``Escrow banks'' and to provide for the obligations of an
Escrow bank to deliver the aggregate exercise price of the puts covered
by an escrow deposit (plus all applicable commissions and charges) upon
delivery of a duly executed payment order.
Finally, rule 613 is being amended to delete the references to the
batch ERD system for processing escrow receipts and to reletter the
rule to reflect the elimination of those provisions.
Rule 612
Rule 612, which permits the deposit of Treasury bills with respect
to short positions in put options, is being deleted because clearing
members rarely, if ever, use this capability. The alternative of escrow
deposits for put options now will be permitted under the changes
proposed herein.
Rule 1107
Rule 1107 sets forth the method of settlement of exercised option
contracts to which a suspended clearing member is a party and is being
amended to reflect the addition of escrow deposits for puts and the
deletion of bulk deposits and deposits of Treasury bills for puts. Rule
1107(a)(1) is being amended to include the method of settlement where
the suspended clearing member was the assigned clearing member with
respect to any exercised option contract and where the exercise notice
was allocated by the suspended clearing member (or is allocated by OCC
pursuant to provisions of the rule) to a short position for which a
specific deposit or an escrow deposit has been made.
Rule 1107(a)(2) is being amended to provide for cases where the
custodian of a specific deposit or escrow deposit made for the account
of a suspended clearing member fails to perform its obligations to OCC
on a timely basis. Rule 1107(a)(2) applies where the customers' account
of a suspended clearing member contains pending assignments that are
not guaranteed by a stock clearing corporation but are covered by
specific or escrow deposits. The rule contemplates that in such a
situation that OCC would do the following.
1. In the case of an assigned short call position in stock options,
OCC would obtain delivery of the deposited stock from the custodian
(against payment of the exercise price in the case of an escrow
deposit) and redeliver the stock to the exercising clearing member
against payment of the exercise price.
2. In the case of an assigned short put position in stock options,
OCC would obtain payment of the exercise price from the custodian
(against delivery of the underlying stock in the case of an escrow
deposit) and pay the exercise price to the exercising clearing member
against delivery of the underlying stock.
3. In the case of an assigned short position in index put or calls,
OCC would obtain payment of the exercise settlement amount from the
escrow bank and pay it to the exercising clearing member.
However, it is possible that OCC might experience a delay in
obtaining delivery or payment from a custodian. Under Rule 1107(a)(2)
in its present form, OCC would be obligated to settle with the
exercising clearing member in the ordinary course notwithstanding the
custodians' failure to perform. In order to do that in the case of a
stock option, OCC would have to either buy the underlying stock for
delivery to the exercising clearing member (in the case of a call
option) or resell the underlying stock on receipt from the exercising
clearing member (in the case of a put option). The proposed amendment
would give OCC the option of directing the exercising clearing member
to buy-in (in the case of a call option) or sell out (in the case of a
put option) the underlying stock. OCC would then settle with the
exercising clearing member on a net basis pursuant to Rule 1107(a)(6)
for the excess of the buy-in cost over the exercise price (in the case
of a call option) or the excess of the exercise price over the sell out
price (in the case of a put option). Settling on a net basis would
relieve OCC of the transaction costs associated with buying or
reselling the underlying stock.
Conforming Changes to Rules
The proposed rule change also makes changes to other OCC rules in
order to conform those rules to the amendments described above. Rules
305, 601, and 602 are being amended to accommodate escrow deposits for
put options and to reflect the deletion of rule 612.
Rule 908 concerning the delivery of underlying securities deposited
under rule 610 is being deleted as the requirements of the rule seem
impractical in the current three business day settlement environment,
especially when an assigned clearing member may not learn of an
assignment until T+1.
Rules 1104, and 1106 \6\ and are being amended to reflect the
addition of escrow deposits for puts and the deletion of bulk deposits
and deposits of Treasury bills for puts. Subsections (2) and (3) to
rule 1106(b) are being amended to eliminate references to hard copy
escrow receipts and depository receipts. Rule 1106(b)(2) is being
amended to make explicit that OCC will make timely settlement on an
exercise assigned to a covered short position of a suspended clearing
member even if the depository has not turned over the deposited
property to OCC at the time of settlement. OCC will be entitled to
reimburse itself for the cost of effecting such settlement from the
deposited property when such property is remitted to OCC.
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\6\ The amendments to Rule 1106 contemplate the prior approval
of SR-OCC-95-20. However, if SR-OCC-95-20 is not approved prior to
the current filing, OCC has provided an alternative version of the
amendments to Rule 1106 to accomplish the desired changes.
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Rules 1301 and 1401 are being amended to reflect the deletion of
the provisions relating to bulk deposits and the relettering of rule
610. Rules 1302, 1402, 1502, 1601, 1701, 1808, 1901, 2101, 2301, and
2411 are either being deleted or amended to reflect the deletion of
rule 612.
OCC believes the proposed rule change is consistent with Section
17A of Act in that it promotes the prompt and accurate clearance and
settlement of securities transactions by enhancing OCC's escrow deposit
program.
B. Self-Regulatory Organization's Statement on Burden on Competition
OCC does not believe the proposed rule change will impose any
burden on competition.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants or Others
Written comments were not and are not intended to be solicited with
respect
[[Page 29163]]
to the proposed rule change, and none have been received.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within thirty-five days of the date of publication of this notice
in the Federal Register or within such longer period (i) as the
Commission may designate up to ninety days of such date if it finds
such longer period to be appropriate and publishes its reasons for so
finding or (ii) as to which OCC consents, the Commission will:
(a) by order approve such proposed rule change or
(b) institute proceedings to determine whether the proposed rule
change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing. Persons making written submissions
should file six copies thereof with the Secretary, Securities and
Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549.
Copies of the submission, all subsequent amendments, all written
statement with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. Sec. 552, will be available for inspection and copying in
the Commission's Public Reference Section, 450 Fifth Street, N.W.,
Washington, D.C. 20549. Copies of such filing also will be available
for inspection and copying at the principal office of OCC. All
submissions should refer to File No. SR-OCC-95-17 and should be
submitted by June 28, 1996.
For the Commission by the Division of Market Regulation,
pursuant to delegated authority.\7\
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\7\ 17 CFR 200.30-3(a)(12) (1995).
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Jonathan G. Katz,
Secretary.
[FR Doc. 96-14358 Filed 6-6-96; 8:45 am]
BILLING CODE 8010-01-M
