[Federal Register Volume 59, Number 132 (Tuesday, July 12, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-16755]


[[Page Unknown]]

[Federal Register: July 12, 1994]


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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-34308; International Series Release No. 679; File No. 
SR-Phlx-94-18]

 

Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change by the Philadelphia Stock Exchange, Inc. Relating to European-
Term and Cross-Rate Customized Foreign Currency Options

July 5, 1994.
    Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''), 15 U.S.C. 78s(b)(1), notice is hereby given that on April 
12, 1994, the Philadelphia Stock Exchange, Inc. (``Phlx'' or 
``Exchange'') 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 by the Phlx. The 
Commission is publishing this notice to solicit comments on the 
proposed rule change from interested persons.

I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Phlx, pursuant to Rule 19b-4 of the Act, proposes to amend 
pending new Rule 1069\1\ to provide for the ability to: (1) Trade 
European-term option contracts on any foreign currency on which the 
Phlx currently trades foreign currency options (``FCOs''); (2) trade 
cross-rate FCOs on any two such approved currencies; and (3) allow 
users to quote all customized FCOs in percentage terms. Proposed Rule 
1069, as well as existing Rules 1000, 1009, 1014, 1033, and 1034, would 
be amended accordingly. The text of the proposed rule change is 
available at the Office of the Secretary, the Phlx, and at the 
Commission.
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    \1\See Securities Exchange Act Release No. 33959 (April 25, 
1994), 59 FR 22698 (May 2, 1994) (``File No. SR-Phlx-94-11'').
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II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, the Phlx 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. The Phlx has prepared summaries, set forth in sections 
(A), (B), and (C) below, of the most significant aspects of such 
statements.

(A) Self-Regulatory Organization's Statement of the Purpose of, and the 
Statutory Basis for, the Proposed Rule Change

    On March 4, 1994, the Phlx filed with the Commission a proposal 
(File No. SR-Phlx-94-11)\2\ to allow FCO traders and their customers to 
have the ability, within specified limits, to designate their own 
option exercise price parameters on a trade. In that filing, the 
Exchange proposed to allow its users to dictate the specific strike 
price of an FCO contract that they would like to buy or sell without 
requiring the Exchange to continuously disseminate quotes for these 
options. For example, if the Exchange has listed June .5450 and .5500 
Deutsche mark calls and the customer wants to trade June .5487 Deutsche 
mark calls, the customer could request a quote in this option and the 
trade could occur. The Exchange, however, would not have to 
continuously disseminate quotes for this option until expiration 
because this may be the only trade that ever occurs in this series.
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    \2\Id.
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    The Exchange is now proposing to expand upon its proposed FCO 
customization contained in File No. SR-Phlx-94-11. If File No. SR-Phlx-
94-11 as well as the present proposal are approved, the Exchange would 
be able to offer the ability for its participants to trade non-
standardized strike prices on existing series of FCOs as well as 
``inverse'' or European-term contracts on those currencies presently 
listed on the Exchange, and cross-rate contracts on any two of the 
existing eight currencies on which the Exchange presently lists FCOs 
(i.e., the British pound, Swiss franc, French franc, Deutsche mark, 
Japanese yen, Australian dollar, Canadian dollar, and European Currency 
Unit).
European-Term FCOs
    The first addition to the array of previously proposed customized 
FCOs that the Exchange now proposes to offer is the European-term 
contract. The Exchange presently lists options on eight foreign 
currencies. Each of these FCO contracts is structured so that the 
trading currency is the U.S. dollar (e.g., French franc/U.S. dollar). 
The option is quoted in U.S. dollars per unit of the relevant foreign 
currency and the premium is paid in U.S. dollars. Upon exercise of a 
call option, for example, the relevant foreign currency would be 
delivered.
    The European-term customized FCO contract would be the inverse of 
the FCO contracts just described (e.g., U.S. dollar/French franc). The 
option will be quoted in units of the foreign currency per U.S. dollar 
and the premium will be paid in the foreign currency. Because the 
underlying currency is the U.S. dollar, U.S. dollars will be delivered 
upon exercise of a call option. The title of proposed Rule 1069\3\ will 
be changed to ``Customized Options'' to reflect the fact that users 
will be able to customize FCO contracts in more aspects than merely the 
strike price. Exchange Rule 1000(13), which provides the definition of 
``foreign currency,'' will also be amended to include the U.S. dollar 
so that U.S. dollars may be considered an underlying foreign currency 
under all applicable Exchange rules. Similarly, Rule 1009, which lists 
all of the approved underlying foreign currencies would also be 
amended, as well as the definitions of ``spot sales price'' and 
``forward sales price'' in Rules 1000(16) and 1000(17).
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    \3\Id.
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Cross-Rate FCOs
    The second proposed addition to the customized FCO facility 
proposed in File No. SR-Phlx-94-11 would allow the Exchange to offer 
the ability to trade any cross-rate FCO contract on any two foreign 
currencies approved for trading on the Exchange pursuant to Rule 
1009.\4\ For example, an option on the Swiss franc/Canadian dollar 
could be traded. The Exchange believes, however, that it would be 
inefficient to disseminate updated quotes on all of the possible 
combinations of cross-rate FCOs that could be created by all of the 
listed currencies now available. The Exchange believes that most will 
not be of wide spread interest but may appeal to only a limited number 
of customers or be active for only brief periods of time due to 
unpredictable political or economic events in the U.S. and abroad.
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    \4\The Exchange presently offers two standardized cross-rate 
FCOs, the Deutsche mark/Japanese yen and the British pound/Deutsche 
mark. The Exchange also has approval to trade the British pound/
Japanese yen, however, it has not yet been made available for 
trading. See Securities Exchange Act Release No. 29919 (November 7, 
1991), 56 FR 58109 (November 15, 1991).
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Alternative Order Formats
    Finally, the Exchange proposes to offer the ability to request 
quotes and receive quotes in terms of a percentage of the underlying 
currency in addition to the present unit of currency format (i.e., 
cents per unit of the underlying currency). Percentage quoting would be 
offered on all FCOs available through the proposed customized FCO 
facility. The Exchange represents that many users of FCOs have 
requested this quotation method and the Exchange believes it is 
appropriate to offer it in this limited fashion through the proposed 
customized FCO facility. Unit of currency quotations will also still be 
available for the proposed customized FCOs.
    The Exchange states that the over-the-counter (``OTC'') market has 
traditionally given its users the ability to customize FCO contracts by 
allowing them to designate many if not all of the terms of the FCO 
contracts. The participants in the OTC market, according to the 
Exchange, are typically institutional investors, corporations, and 
banks, who buy and sell FCOs in large size transactions in order to 
hedge risks relating to fluctuating exchange rates. By trading in the 
OTC market, these users do not benefit from the advantages offered by 
an organized exchange, such as, transparency, margin and collateral, 
and secondary market liquidity. The Exchange is now proposing to give 
these users the flexibility of the OTC market by allowing them to trade 
and quote FCO contracts tailored to their specifications but within the 
confines of an exchange environment. By having the Options Clearing 
Corporation (``OCC'') as the issuer and guarantor of the customized 
FCOs, it will eliminate concern over contra-party creditworthiness and 
assure performance upon exercise of the customized FCOs. Finally, the 
Exchange believes that transparency will be achieved by the real time 
dissemination of the quotes, requests for quotes, and last sale 
information through the Options Price Reporting Authority (``OPRA'').
Applicability of Existing Exchange Rules
    European-term and cross-rate customized FCOs would be subject to 
all Exchange rules and regulations regarding surveillance and sales 
practice. Unless specifically exempted, all floor trading procedures 
will also be adhered to. Examples of different procedures for the 
proposed European-term and cross-rate customized FCOs include no 
continuous quoting, no opening or closing rotations, size restrictions 
as to exercise, new minimum fractional changes, and new maximum quote 
spread parameters. Position and exercise limits for European-term 
customized FCOs would be the same as those applicable to FCOs on the 
same foreign currency and positions in these options will be aggregated 
with existing FCOs in calculating position and exercise limits. For 
example, U.S. dollar/Deutsche mark FCOs will be aggregated with 
Deutsche mark/U.S. dollar FCO positions. The Exchange will establish 
separate position limits for the cross-rate customized FCOs.
    The minimum quote and transaction sizes that the Exchange proposed 
in File No. SR-Phlx-94-11 for customized strike FCOs will also apply to 
customized European-term and cross-rate FCOs.\5\ Specifically, quotes 
may not be requested and trades may not be executed in a series with no 
open interest for less than 300 contracts. Responsive quotes for series 
with no open interest must be at least 300 contracts for assigned ROTs 
and 100 contracts for non-assigned ROTs. Responsive quotes and 
transactions in currently opened series may be the lesser of 100 
contracts or the remaining number of contracts for all participants.
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    \5\See File No. SR-Phlx-94-11, supra note 1.
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Financial Responsibility
     The Exchange will impose higher net capital requirements for ROTs 
trading in customized FCOs. Assigned ROTs will be subject to a $1 
million minimum net liquid assets requirement and all other ROTs will 
be subject to a $250,000 minimum net liquid assets requirement. 
European-term customized FCOs will be margined in the same fashion as 
existing FCO contracts. The Exchange proposes to allow spread margin 
treatment for European-term contracts offset against corresponding 
standardized contracts in instances in which the long notional value of 
either the European-term or standardized contract equals or exceeds the 
short national value of the other side.
    Cross-rate customized FCOs will be margined using a three tier 
system. The Exchange will look at the correlation coefficients between 
any two currency combinations for each of the 28 possible (non-U.S. 
dollar) cross-rates in order to determine whether the two currencies 
have high, low, or negative correlations. Margin levels will be set by 
using a tier system based upon the degree of correlation between the 
different currencies. Historically, for example, the Exchange states 
that there has been a very high correlation between the French franc, 
Swiss franc, Deutsche mark, and the European Currency Unit (Tier I). 
Thus, the margin levels necessary for a cross-rate based on any two of 
these currencies should, the Exchange believes, be low. The 
correlations between any Tier I currency and either the British pound 
or the Japanese yen (Tier II) are, according to the Exchange, slightly 
lower and would, therefore, require higher margin levels. Finally, the 
Exchange states that the correlations between any of the currencies in 
Tiers I or II and either the Canadian dollar or the Australian dollar 
(Tier III) are extremely low or negative, thereby requiring a higher 
margin level than the other two. Accordingly, the Exchange proposes to 
establish margin levels of 2% for cross-rate FCOs based upon any two 
currencies within Tier 1; 4% for cross-rate FCOs based on one Tier I 
currency and one Tier II currency or two Tier II currencies; and 6% for 
FCOs based on one Tier III currency and one Tier I or Tier II currency 
or two Tier III currencies. After the cross-rate customized FCOs are 
trading, the Exchange will review the correlations quarterly to see if 
any of the currencies are eligible for placement in another tier based 
upon the correlation over the prior quarter.
Transparency
    When a request for a customized FCO quote is voiced in the trading 
crowd, it will be displayed and all responsive quotes will also be 
displayed. Once a trade is consummated, it will be reported to OPRA and 
disseminated as an administrative text message over the OPRA system. 
The Exchange will not be obligated to make continuous markets in 
customized FCOs, even where open interest has been created. OCC will 
clear and settle the customized FCOs. Because quotes in these options 
will not be continuously updated or otherwise priced by the Exchange, 
OCC will generate a theoretical price based on the prices and quotes of 
the customized FCOs, prices of standardized series and the closing 
value of the underlying foreign currency. OCC will use this price to 
mark the FCOs daily and calculate margin requirements.
Miscellaneous Corrections
    Because this rule filing is proposing to change language in Rules 
1009 and 1033, the Exchange is also proposing to correct some 
inaccurate or redundant information contained in those rules. First, 
the Exchange believes that Commentary .01(6) of Rule 1009 is almost 
identical to subsection (c) of that rule and is therefore proposed to 
be deleted. Secondly, the contract size of the British pound and the 
French franc, as approved by the Commission, are 31,250 pounds\6\ and 
250,000 francs,\7\ not 12,500 pounds and 125,000 francs as currently 
stated in Phlx's rules. These sizes and corresponding examples of how 
to calculate the premium on these FCOs are being corrected in Rule 
1033.
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    \6\See Securities Exchange Act Release No. 26088 (September 16, 
1988), 53 FR 36931 (September 22, 1988).
    \7\See Securities Exchange Act Release No. 26478 (January 19, 
1989), 54 FR 4362 (January 30, 1989).
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    The Exchange believes that the foregoing rule change proposal is 
consistent with Section 6 of the Act, in general, and with Section 
6(b)(5), in particular, in that it is designed to promote just and 
equitable principles of trade, foster cooperation and coordination with 
persons engaged in regulating, clearing, settling, and processing 
information, and facilitate transactions in securities, remove 
impediments to and perfect the mechanism of a free and open market and 
a national market system, and, in general, protect investors and the 
public interest by providing foreign currency option market 
participants with strike prices more closely suited to their trading 
strategies.

(B) Self-Regulatory Organization's Statement on Burden on Competition

    The Phlx does not believe that the proposed rule change will impose 
any inappropriate burden on competition.

(C) Self-Regulatory Organization's Statement on Comments on the 
Proposed Rule Change Received From Members, Participants or Others

    No written comments were solicited or received with respect to the 
proposed rule change.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 35 days of the date of publication of the notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 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 the self-regulatory organization 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, NW., Washington, DC 20549. Copies 
of the submission, all subsequent amendments, all written statements 
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. 552, will be available for inspection and copying in the 
Commission's Pubic Reference Section, 450 Fifth Street, NW., 
Washington, DC. Copies of such filing will all be available for 
inspection and copying at the principal office of the Phlx. All 
submissions should refer to File No. SR-Phlx-94-18 and should be 
submitted by August 2, 1994.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\8\
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    \8\17 CFR 200.30-3(a)(12) (1993).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 94-16755 Filed 7-11-94; 8:45 am]
BILLING CODE 8010-01-M