[Federal Register Volume 59, Number 135 (Friday, July 15, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-17255]


[[Page Unknown]]

[Federal Register: July 15, 1994]


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SECUTITIES AND EXCHANGE COMMISSION

[Release No. 34-34345; File No. SR-Phlx-94-01]

 

Self Regulatory Organizations; Order Approving Proposed Rule 
Change and Amendment Nos. 1, 2, 3, and 4, and Notice of Filing and 
Order Granting Accelerated Approval of Amendment No. 5 to the Proposed 
Rule Change, by the Philadelphia Stock Exchange, Inc. Relating to the 
Listing and Trading of Options on the Phone Index.

July 11, 1994

Introduction

    On January 3, 1994, the Philadelphia Stock Exchange, Inc. (``Phlx'' 
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 thereunder,\2\ a 
proposed rule change to provide for the listing and trading of options 
on the Phlx Phone Index (``Phone Index'' or ``Index''). On February 18, 
1994, February 24, 1994, April 6, 1994, April 11, 1994, and July 5, 
1994, the Exchange filed Amendment Nos. 1,\3\ 2,\4\ 3,\5\ 4,\6\ and 
5,\7\ respectively, to this proposal.
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    \1\15 U.S.C. Sec. 78s(b)(1) (1982).
    \2\17 CFR 240.19b-4 (1993).
    \3\In Amendment No. 1, the Phlx amended the proposal: (1) to 
provide that the Index will be updated during the trading day at 
least once every 15 seconds, rather than once every minute; (2) to 
provide that the exercise prices will be set at five point Index 
intervals rather than 2\1/2\ point Index intervals as stated in the 
original filing; (3) to specify that the expiration cycle applicable 
to options on the Index will be three expiration months from the 
March, June, September, December cycle plus two additional near-term 
months; (4) to clarify the Exchange's obligations with respect to 
delisting and replacing components of the Index; (5) to clarify that 
all of the proposed Index's component stocks are, and any future 
replacement or added component securities will be, listed and traded 
on either the New York Stock Exchange (``NYSE'') or the American 
Stock Exchange (non-ECM) (``Amex''), or quoted on and traded through 
the Nasdaq National Market (``Nasadaq/NM''); and (6) to clarify that 
all of the current Index component stocks have overlying exchange-
traded options on them. See Letter from Michele R. Weisbaum, 
Associate General Counsel, Phlx, to Sharon Lawson, Assistant 
Director, Division of Market Regulation, Commission, dated February 
16, 1994.
    \4\In Amendment No. 2, the Phlx amended the proposal to change 
the name of the Index from the Phlx Baby Bell Index to the Phlx 
Phone Index. See Letter from Michele R. Weisbaum, Associate General 
Counsel, Phlx, to Michael Walinskas, Staff Attorney, Division of 
Market Regulation, Commission, dated February 24, 1994.
    \5\In Amendment No. 3, the Phlx amended the proposal to 
represent that the Phlx will submit a Rule 19b-4 filing to the 
Commission prior to opening any new series of options on the Index 
for trading if at any time less than 90 percent of the component 
securities, by weight, are eligible for exchange options trading, or 
if at any time the number of stocks in the Index increases to more 
than ten or decreases to less than eight. See Letter from Michele R. 
Weisbaum, Associate General Counsel, Phlx, to Sharon Lawson, 
Assistant Director, Division of Market Regulation, Commission, dated 
March 3, 1994.
    \6\In Amendment No. 4, the Phlx amended the proposal: (1) to 
change the manner in which the current Index value would be 
calculated; (2) to represent that the surveillance procedures 
currently used to monitor trading in each of the Exchange's other 
index options, which include having complete access to trading 
activity in the underlying securities comprising the Index (all of 
which are traded on the NYSE), also will be used to monitor trading 
in options on the Index; (3) to provide that the Intermarket 
Surveillance Group Agreement dated July 14, 1983, as amended on 
January 29, 1990, will be applicable to the trading of options on 
the Index; and (4) to confirm that the trading hours for the Index 
will be 9:30 a.m. to 4:10 p.m. (New York time). See Letter from 
Michele R. Weisbaum, Associate General Counsel, Phlx, to Thomas 
McManus, Division of Market Regulation, Commission, dated April 7, 
1994.
    \7\In Amendment No. 5, the Phlx amended its proposal to include 
(1) the listing, pursuant to Phlx Rule 1101A(b)(iv), of quarterly 
index options (``QIX options'') on the Phone Index; and (2) the 
listing, pursuant to Phlx Rule 1101A(b)(iii), of series of long-term 
options (``LEAPS'') on the Phone Index. See Letter from Michele R. 
Weisbaum, Associate General Counsel, Phlx, to Thomas McManus, 
Division of Market Regulation, Commission, dated July 1, 1994.
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    The proposed rule change and Amendment Nos. 1, 2, 3, and 4 thereto 
were published for comment in the Federal Register on June 6, 1994.\8\ 
No comments were received on the proposed rule change, nor the 
amendments. This order approves the proposal and its five amendments.
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    \8\See Securities Exchange Act Release No. 34130 (May 27, 1994), 
59 FR 29317 (June 6, 1994).
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II. Description of Proposal

A. Composition of the Index

    The Phlx proposes to list for trading options on the Phone Index, a 
stock index to be calculated and maintained by the Phlx. The Index will 
be composed of the common stocks of the eight companies created as a 
result of the divestiture of American Telephone & Telegraph Co. 
(``AT&T'') in 1983, including the seven regional telephone companies 
spun off from AT&T as well as AT&T itself.\9\ AT&T and the spun-off 
regional telephone companies represent some of the largest and most 
widely-held U.S. common stocks. All eight of the common stocks are 
listed on the NYSE. The Phlx will use a capitalization-weighted 
methodology to calculate the Index.\10\
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    \9\The components of the Index are: AT&T Ameritech Corp.; Bell 
Atlantic Corp.; BellSouth Corp.; Nynex Corp.; Pacific Telesis Group; 
Southwestern Bell Corp.; and US West Inc.
    \10\See infra Section II.C., entitled `'Calculation of the 
Index,'' for a description of this calculation method.
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    As of March 11, 1994, the market capitalizations of the individual 
stocks in the Index ranged from a high of $68.7 billion (AT&T) to a low 
of $15 billion (Nynex), with the mean and median being $27.6 billion 
and $22.8 billion, respectively. The market capitalization of all the 
stocks in the Index was $220.6 billion. The total number of shares 
outstanding for the stocks in the Index ranged from a high of 1.4 
billion shares (AT&T) to a low of 412.7 million shares (Nynex). In 
addition, the average daily trading volume of the stocks in the Index, 
for the six months immediately preceding February 24, 1994, ranged from 
a high of 1,646,200 shares per day (AT&T) to a low of 425,100 shares 
per day (BellSouth Corp.), with a mean of approximately 773,638 shares. 
For the same period, the average monthly trading volume of the stocks 
in the Index ranged from a high of 40,916,000 shares per month (AT&T) 
to a low of 8,928,000 shares per month (BellSouth Corp.), with a mean 
of approximately 17.03 million shares. Finally, no one stock comprised 
more than 31.14 percent of the Index's total value as of March 11, 1994 
(AT&T), and the percentage weighing of the four largest issues in the 
Index accounted for 64.77 percent of the Index's value. The percentage 
weighting of the lowest weighted stock was 6.78 percent of the Index 
(Nynex), and the percentage weighting of the five smallest issues in 
the Index accounted for 35.23 percent of the Index's value.

B. Maintenance

    The Index will be maintained by the Phlx. The Phlx will make 
special adjustments to the securities comprising the Index to reflect 
such events as stock splits or reverse splits, spinoffs, stock 
dividends, reorganizations, recapitalizations, and similar events, upon 
their occurrence. In accordance with Phlx Rule 1009A, if any change in 
the nature of any stock in the Index that is caused by delisting, 
merger, acquisition, or otherwise occurs which would change the overall 
market character of the Index, the Exchange will take appropriate steps 
to delete this Index component stock from the Index. Such Index 
component stock would be replaced by another Index component stock 
which the Exchange in its discretion believes would be compatible with 
the intended market character of the Index.\11\
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    \11\The Exchange represents that any future replacement or added 
component securities will be listed and traded on either the NYSE or 
Amex, or quoted on and traded through the Nasdaq/NM. See supra note 
3.
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    If at any time less than 90 percent of the component stocks in the 
Index, by weight, are eligible for exchange options trading, or if the 
number of stocks in the Index ever increases to more than ten or 
decreases to less than eight, the Exchange would submit a filing to the 
Commission pursuant to Rule 19b-4 under the Act prior to opening any 
new series of options on the Index for trading.

C. Calculation of the Index

    The Index will be calculated using a capitalization-weighting 
methodology. The representation of each security in the Index will be 
proportional to the security's last sale price multiplied by the total 
number of shares outstanding, in relation to the total market value of 
all of the securities in the Index. The value of the Index was set to 
equal 200 on December 1, 1993. As of June 24, 1994, the Index value was 
196.73. The formula for calculating the Index value is as follows:

TN15JY94.011

Where:

Total Capitalization = Sum of Market Values (price  x  shares 
outstanding) for all component securities
Divisor = The number which, when divided from the total capitalization 
when the Index was initially calculated (on December 1, 1993), yielded 
an Index value of 200.

    The Index divisor will be adjusted for changes in the 
capitalization of any of the component securities resulting from 
mergers, acquisitions, delistings, substitutions, and other like 
corporate events. The formula for adjusting the divisor is as follows:

TN15JY94.012

    Adjustments in the value of the Index which are necessitated by the 
addition and/or deletion of an issue from the Index are made by adding 
and/or subtracting the market value (price  x  shares outstanding) of 
the relevant issues.
    The Index value will be updated dynamically and disseminated at 
least once every fifteen seconds during the trading day.\12\ The Phlx 
has retained Bridge Data, Inc. to compute and do all necessary 
maintenance of the Index. Pursuant to Phlx Rule 1100A, updated Index 
values will be disseminated and displayed by means of primary market 
prints reported by the Consolidated Tape Association and over the 
facilities of the Options Price Reporting Authority (``OPRA''). The 
Index value also will be available on broker/dealer interrogation 
devices to subscribers of the option information.
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    \12\To the extent that a component stock does not open for 
trading on a particular trading day, or trading in that component 
stock is halted during the course of a particular trading day, the 
last reported sale price of such security will be used for purposes 
of calculating the current Index value.
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    The Index value, for purposes of settling outstanding Index options 
contracts upon expiration, will be calculated based upon the regular 
way opening sale prices for each of the Index's component stocks on the 
last trading day prior to expiration. Once all of the component stocks 
have opened, the value of the Index will be determined and that value 
will be sued as the final settlement value for expiring Index option 
contracts. If any of the component stocks do not open for trading on 
the last trading day before expiration, then the last reported sale 
price of such security will be used in any case where that security 
does not trade on that day.

D. Contract Specifications

    The proposed options on the Index will be cash-settled. American-
style options.\13\ Standard options trading hours (9:30 a.m. to 4:10 
p.m. New York time) will apply to the contracts. The Index multiplier 
will be 100. Strike prices will be set at five point intervals in terms 
of the current value of the index.\14\
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    \13\An American-style option can be exercised at any time prior 
to its expiration.
    \14\Additional exercise prices will be added in accordance with 
Phlx Rule 1101A(a).
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    The Exchange will trade consecutive and cycle month series pursuant 
to Phlx Rule 1101A. Specifically, there will be three expiration months 
from the March, June, September, December cycle, plus two additional 
near-term months so that the three nearest-term months always will be 
available. In addition, pursuant to and in accordance with Phlx Rule 
1101A(b)(iii), the Exchange will list and trade series of LEAPS on the 
Index.
    Index options will expire on the Saturday following the third 
Friday of the expiration month. Since options on the Index will settle 
based upon the opening prices of the component stocks on the last 
trading day before expiration (normally a Friday), the last trading day 
for an expiring Index option series will be the second to last business 
day before expiration (normally a Thursday). Alternatively, pursuant to 
Phlx Rule 1101A(b)(iv), the Exchange may provide for the listing of up 
to eight near-term quarterly expirations for the Index. These QIX 
options would expire on the first business day following the end of 
each calendar quarter, and all such QIX options would be P.M.-
settled.\15\
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    \15\See Securities Exchange Act Release No. 34234 (June 17, 
1994), 59 FR 32729 (June 24, 1994), which approved the Exchange's 
proposal to amend Phlx Rule 1101A to permit the Exchange to list QIX 
options on all existing and future Exchange indexes (with each 
listing of QIX options on future indexes subject to Commission 
approval).
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E. Position and Exercise Limits, Margin Requirements, and Trading Halts

    Position limits and exercise limits for the Index options will be 
set at no more than 5,500 contracts.\16\ Index options will be traded 
pursuant to the current Phlx rules governing the trading of index 
options, particularly Phlx Rules 1000A through 1103A, and generally, 
Phlx Rules 1000 through 1070. For example, Exchange rules applicable to 
options on the Phone Index will be identical to the rules applicable to 
other narrow-based index options for purposes of trading rotations, 
halts, and suspensions,\17\ and margin treatment.\18\
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    \16\See Phlx Rules 1001A(b)(i) and 1002A, respectively.
    \17\See Phlx Rule 1047A.
    \18\See Phlx Rules 722 and 1000A.
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F. Surveillance

    The Exchange will use the same surveillance procedures currently 
utilized for each of the Exchange's other index options to monitor 
trading in Phone Index options. These procedures include complete 
access to trading activity in the underlying securities. Further, the 
Intermarket Surveillance Group (``ISG'') Agreement, dated July 14, 
1983, as amended on January 29, 1990, will be applicable to the trading 
of options on the index.\19\
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    \19\The Exchange is a member of the ISG, which was formed on 
July 14, 1983, among other things, to coordinate more effectively 
surveillance and investigative information sharing arrangements in 
the stock and options markets. See Intermarket Surveillance Group 
Agreement, July 14, 1983. The most recent amendment to the ISG 
Agreement, which incorporates the original agreement and all 
amendments made thereafter, was signed by ISG members on January 29, 
1990. See Second Amendment to the Intermarket Surveillance Group 
Agreement, January 29, 1990.
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III. Commission Findings and Conclusions

    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, the requirements of Section 6(b)(5).\20\ Specifically, the 
Commission finds that the trading of Phone Index options will serve to 
promote the public interest and help to remove impediments to a free 
and open securities market by providing investors with a means of 
hedging exposure to market risk associated with U.S. telephone industry 
stocks.\21\
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    \20\15 U.S.C. 78f(b)(5) (1988).
    \21\Pursuant to Section 6(b)(5) of the Act, the Commission must 
predicate approval of any new option proposal upon a finding that 
the introduction of such new derivative instrument is in the public 
interest. Such a finding would be difficult for a derivative 
instrument that served no hedging or other economic function, 
because any benefits that might be derived by market participants 
likely would be outweighed by the potential for manipulation, 
diminished public confidence in the integrity of the markets, and 
other valid regulatory concerns. In this regard, the trading of 
listed index options on the Phone Index will provide investors with 
a hedging vehicle that should reflect the overall movement of 
telephone industry stocks in the U.S. securities markets. The 
Commission also believes that these Index options will provide 
investors with a means by which to make investment decisions in this 
sector of the U.S. securities markets, allowing them to establish 
positions or increase existing positions in such markets in a cost-
effective manner.
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A. Index Design and Structure

    The Commission finds that the Phone Index is a narrow-based index. 
The Phone Index is composed of only eight securities, all of which are 
U.S. telephone industry stocks. Accordingly, the Commission believes 
that it is appropriate for the Phlx to apply its rules governing 
narrow-based index options to trading in the Index options.\22\
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    \22\See supra notes 13 through 15, and accompanying text.
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    The Commission also finds that the large capitalizations, liquid 
markets, and relative weightings of the index's component securities 
significantly minimize the potential for manipulation of the Index. 
First, the majority of the components that comprise the Index are 
actively-traded, with a mean and median average daily trading volume of 
773,800 and 637,700 shares, respectively, over the six months 
immediately preceding February 24, 1994.\23\ Second, the market 
capitalizations of the securities in the Index are very large, ranging 
from a high of $68.7 billion to a low of $15 billion, as of March 11, 
1994, with the mean and median being $27.6 billion and $22.8 billion, 
respectively. Third, although the Index is only comprised of eight 
component securities, no one particular security or group of securities 
dominates the Index. Specifically, no individual stock comprises more 
than 31.15 percent of the Index's total value, and the percentage 
weighting of the four largest issues in the Index accounts for 64.77 
percent of the Index's value.\24\ Fourth, all of the securities in the 
Index are eligible for standardized options trading, and the proposed 
Phlx maintenance requirement requires that at least 90 percent of the 
weighting of the Index be comprised of securities that are eligible for 
exchange options trading. Fifth, if the Phlx increases the number of 
component securities to more than ten or decreases that number to less 
than eight, the Phlx will be required to seek Commission approval 
pursuant to Section 19(b)(2) of the Act before listing new strike price 
of expiration month series of Phone Index options. This will help 
protect against material changes in the composition and design of the 
Index that might adversely affect the Phlx's obligations to protect 
investors and to maintain fair and orderly markets in Index options. 
Finally, the Index is comprised, and in the future may only be 
comprised, of stocks listed and traded on the NYSE or Amex, or quoted 
on and traded through the Nasdaq/NM. Accordingly, the Phlx will be 
required to ensure that each component of the Index is subject to last 
sale reporting requirements in the United States. This will further 
reduce the potential for manipulation of the value of the Index.
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    \23\In addition, over this same period, no component of the 
Index had an average daily trading volume of less than 425,100 
shares per day.
    \24\The Commission's analysis is based on the eight securities 
in the Index. For an index with several more underlying securities, 
the Commission might come to a different conclusion if only a few 
securities accounted for a substantial portion of the index's 
weighting. In addition, although the Index is comprised of only 
eight stocks, the Commission is satisfied that, based on the large 
capitalizations, liquidity, and relative weightings of the component 
securities, the Index can be traded as an index product.
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B. Surveillance

    The Commission believes that a surveillance sharing agreement 
between an exchange proposing to list a security index derivative 
product and the exchange(s) trading the securities underlying the 
derivative product is an important measure for surveillance of the 
derivative and underlying securities markets. Such agreements ensure 
the availability of information necessary to detect and deter potential 
manipulations and other trading abuses, thereby making the security 
index product less readily susceptible to manipulation.\25\ In this 
regard, the NYSE, which currently is the primary market for all of the 
stocks comprising the Index, is a member of the ISG, which provides for 
the exchange of all necessary surveillance information.\26\
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    \25\See Securities Exchange Act Release No. 31243 (September 28, 
1992), 57 FR 45849 (October 5, 1992).
    \26\See supra note 16. In addition, the Amex and the National 
Association of Securities Dealers, Inc. are members of the ISG.
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C. Market Impact

    The Commission believes that the listing and trading on the Phlx of 
options on the Phone Index will not adversely impact the underlying 
securities markets.\27\ First, as described above, for the most part no 
one security or group of securities dominates the Index. Second, 
because at least 90 percent of the numerical value of the Index must be 
accounted for by securities that meet the Exchange's options listing 
standards, the component securities generally will be actively-traded, 
highly-capitalized securities. Third, the 5,500 contract position and 
exercise limits applicable to Index options will serve to minimize 
potential manipulation and market impact concerns.
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    \27\In addition, the Phlx has represented that the Phlx and OPRA 
have the necessary systems capacity to support those new series of 
index options that would result from the introduction of options on 
the Phone Index. See Letter from Michele R. Weisbaum, Associate 
General Counsel, Phlx, to Thomas McManus, Division of Market 
Regulation, Commission, dated June 24, 1994; and Letter from Joseph 
P. Corrigan, Executive Director, OPRA, to Richard Cangelosi, 
Assistant Vice President, New Product Development, Phlx, dated April 
18, 1994.
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    Lastly, the Commission believes that settling expiring Phone Index 
options based on the opening prices of component securities is 
consistent with the Act. As noted in other contexts, valuing options 
for exercise settlement on expiration based on opening prices rather 
than closing prices may help reduce the ``Expiration Friday'' effects 
on markets for securities underlying options on the Index.\28\
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    \28\See Securities Exchange Act Release No. 30944 (July 21, 
1992), 57 FR 33376 (July 28, 1992).
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D. Accelerated Approval of Amendment No. 5

    The Commission finds good cause for approving Amendment No. 5 to 
the proposed rule change prior to the thirtieth day after the date of 
publication on notice of filing thereof in the Federal Register. The 
portion of Amendment No. 5 providing for the listing of QIX options on 
the Index is consistent with the Exchange proposal approved by the 
Commission on June 17, 1994 relating to the listing of QIX options on 
all stock indexes for which index options are listed for trading by the 
Exchange.\29\ That proposal was published for the full 21-day comment 
period, and no comments were received. In addition, because Phlx Rule 
1101A(b)(iii) generally permits the Exchange to list series of LEAPS on 
stock indexes, the Commission finds that the portion of Amendment No. 5 
relating to the listing of series of LEAPS on the Index presents no new 
regulatory issues. Accordingly, the Commission believes it is 
consistent with Section 6(b)(5) of the Act to approve Amendment No. 5 
on an accelerated basis.
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    \29\See supra note 15.
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IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning Amendment No. 5 to the proposed rule change. 
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 foregoing that 
are filed with the Commission, and all written communications relating 
to the foregoing 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 
NW., Washington, DC. Copies of such filing also will be available for 
inspection and copying at the principal office of the above-mentioned 
self-regulatory organization. All submissions should refer to File No. 
SR-Phlx-94-01 and should be submitted by August 5, 1994.
    It is Therefore Ordered, pursuant to Section 19(b)(2) of the 
Act,\30\ that the proposed rule change (File No. SR-Phlx-94-01), as 
amended, is approved.

    \30\15 U.S.C. Sec. 78s(b)(2) (1988).
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    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\31\
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    \31\17 CFR 200.30-3(a)(12) (1993).
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Jonathan G. Katz,
Secretary.
[FR Doc. 94-17255 Filed 7-14-94; 8:45 am]
BILLING CODE 8010-01-M