[Federal Register Volume 59, Number 164 (Thursday, August 25, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-20897]


[[Page Unknown]]

[Federal Register: August 25, 1994]


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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-34545; File No. SR-NYSE-94-04]

 

Self-Regulatory Organizations; Order Approving and Notice of 
Filing and Order Granting Accelerated Approval of Amendment No. 1 to a 
Proposed Rule Change by the New York Stock Exchange, Inc., Relating to 
Equity Linked Debt Securities

August 18, 1994.
    On March 1, 1994, the New York Stock Exchange, Inc. (``NYSE'' or 
``Exchange'') filed with 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 relating to Equity Linked Debt Securities 
(``ELDS''). Notice and partial accelerated approval of the proposal 
appeared in the Federal Register on April 7, 1994.\3\ No comment 
letters were received on the proposed rule change. On July 15, 1994, 
the Exchange filed Amendment No. 1 to the proposed rule change.\4\ This 
order approves the remainder of the Exchange's proposal, as amended.
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    \1\15 U.S.C. 78s(b)(1) (1982).
    \2\17 CFR 240.19b-4 (1993).
    \3\The Commission granted partial accelerated approval of that 
portion of the proposal providing for alternative minimum market 
capitalization and trading volume requirements for the security 
underlying an ELDS. See Securities Exchange Act Release No. 33841 
(March 31, 1994), 59 FR 16671 (April 7, 1994) (``Exchange Act 
Release No. 33841'').
    \4\The changes proposed in Amendment No. 1 are described herein. 
See Letter from Daniel Odell, Assistant Secretary, NYSE, to Sharon 
Lawson, Assistant Director, Office of Market Supervision, Division 
of Market Regulation, Commission, dated July 14, 1994 (``Amendment 
No. 1'').
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    ELDS are intermediate-term (two to seven years), non-convertible, 
hybrid securities, the value of which is based, at least in part, on 
the value of another issuer's common stock or other equity security.\5\ 
ELDS may pay periodic interest or may be issued as zero-coupon 
instruments with no payments to holders prior to maturity.\6\ 
Furthermore, ELDS may be subject to a ``cap'' on the maximum principal 
amount to be repaid to holders upon maturity and, additionally, may 
feature a ``floor'' on the minimum principal amount to be repaid to 
holders upon maturity.
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    \5\The Commission approved the Exchange's ELDS listing standards 
on January 13, 1994. See Securities Exchange Act Release No. 33468 
(January 13, 1994), 59 FR 3387 (January 21, 1994) (``Exchange Act 
Release No. 33468'').
    \6\The Exchange has agreed to notify the Commission if an issuer 
of ELDS provides for periodic interest payments to holders based on 
a floating rate. Id. The Commission, at that time, may require the 
NYSE to submit a rule filing pursuant to Section 19(b) of the Act 
prior to permitting the Exchange to list an ELDS with such terms.
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    In addition to the Exchange's requirements with respect to a 
particular issuance of ELDS,\7\ ELDS must also conform to the special 
listing criteria set forth in Paragraph 703.21 of the Manual which 
provide that: (1) An issuer of ELDS must satisfy the Exchange's listing 
criteria;\8\ (2) each issuer must have a minimum tangible net worth of 
$150 million; (3) the original issue price of the ELDS, combined with 
all of the issuer's other ELDS listed on a national securities exchange 
or otherwise publicly traded in the United States, may not be greater 
than 25% of the issuer's net worth at the time of issuance; (4) each 
underlying linked security must have either (i) a market capitalization 
of at least $3.0 billion and a trading volume of at least 2.5 million 
shares in the one-year period preceding the listing of the ELDS, or 
(ii) a market capitalization of at least $1.5 billion and a trading 
volume of at least 20 million shares in the one-year period preceding 
the listing of the ELDS; \9\ (5) the issuer of the underlying security 
must be a U.S. reporting company under the Act; (6) the underlying 
security must be traded on a national securities exchange or traded 
through the facilities of a national securities association; (7) the 
underlying security must be subject to last sale reporting; and (8) 
except under limited circumstances, the issuance of ELDS relating to 
any underlying security may not exceed five percent of the total shares 
outstanding of such underlying security.\10\
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    \7\Under Section 703.21 of the Exchange's Listed Company Manual 
(``Manual''), an issue of ELDS must have: (1) A minimum public 
distribution of one million trading units and a minimum of 400 unit 
holders; (2) an aggregate market value of at least $4 million; and 
(3) a term of 2-7 years.
    \8\If the issuer is an NYSE-listed company, the issuer must be a 
company in good standing (i.e., above the Exchange's continued 
listing criteria set forth in Section 802 of the Manual); if the 
issuer is an affiliate of an NYSE-listed company, the NYSE-listed 
company must be in good standing; and if otherwise, the issuer must 
satisfy the Exchange's initial listing criteria set forth in 
Sections 102.02-102.03 and 103.01-103.05 of the Manual. See Exchange 
Act Release No. 33468, supra note 5, at notes 10 and 11.
    \9\See Exchange Act Release No. 33841, supra note 3.
    \10\The only exceptions to this restriction are where either (1) 
the issuer of the ELDS and the issuer of the underlying security are 
affiliated; or (2) the issuer of the ELDS holds an amount of the 
underlying security at least equal to the amount of the underlying 
security represented by the ELDS. In either case, the maximum 
percentage of ELDS that may be issued will be evaluated by the 
Exchange on a case-by-base basis in consultation with, and with the 
approval of, the staff of the Commission. Id.
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    The Exchange proposed two sets of changes to the ELDS listing 
standards. The first proposed change, which the Commission has already 
approved,\11\ provides alternative market capitalization and trading 
volume criteria for the underlying security. Specifically, an 
underlying security may now have either; (1) A minimum market 
capitalization of at least $3.0 billion and a trading volume of at 
least 2.5 million shares in the one-year period prior to the listing of 
the ELDS; or (2) a minimum market capitalization of $1.5 billion and a 
trading volume of at least 20 million shares in the one-year period 
prior to the listing.
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    \11\See Exchanges Act Release No. 22841, supra note 3.
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    The second set of proposed changes would amend Paragraph 703.21 of 
the Manual to allow the issuer of the underlying security to be a non-
U.S. company,\12\ if certain criteria are met. Under the proposal, the 
issuer of the underlying security could be a non-U.S. company subject 
to reporting requirements under the Act, and whose securities are 
traded in the United States either as ordinary shares or as 
sponsored\13\ ADRs if ne of the following conditions are met:
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    \12\The Exchange defines a non-U.S. company as any company 
formed or incorporated outside of the United States. Telephone 
conversation between Vincent Patten, Assistant Vice President of New 
Products, NYSE, and Brad Ritter, Attorney, Office of Market 
Supervision, Division of Market Regulation, Commission, on July 19, 
1994. See also, 17 CFR 240.3b-4(b) (1985) (definition of foreign 
issuer under the Act).
    \13\As opposed to an unsponsored ADR, a sponsored ADR is 
established jointly by the issuer of the underlying security and 
depository. With a sponsored ADR, the depositary is generally 
required to distribute notices of shareholder meetings and voting 
instructions to ADR holders, thereby ensuring the ADR holders will 
be able to exercise voting rights through the depositary with 
respect to the underlying securities.
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    1. The Exchange has in place an effective surveillance sharing 
agreement\14\ with the primary market for the underlying security (in 
the case of an ADR, with the primary market in the country where the 
security underlying the ADR primarily trades) and at least 30% of the 
world-wide trading volume for the security and all related securities 
(as defined herein) occurs in the U.S. market;\15\
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    \14\An effective (i.e., comprehensive) surveillance sharing 
agreement would provide for the exchange of market trading activity, 
clearing activity, and the identity of the ultimate purchaser or 
seller of the securities traded. See, e.g., Securities Exchange Act 
Release No. 33552 (January 31, 1994), 59 FR 5626 (February 7, 1994) 
(``ADR Approval Order'').
    \15\See Amendment No. 1, supra note 4.
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    2. The United States is the primary market for the underlying 
security (determined in the manner discussed below).
    In determining whether the U.S. is the primary market for the 
underlying security, the combined trading volume of the security (and 
in the case of ADRs, other classes of stock and ADRs related to the 
underlying security (``related securities'')) in the United States for 
the six-month period preceding the date of listing\16\ must account for 
at least 50% of the combined worldwide trading in such securities. The 
U.S. trading in the security underlying the ELDS would include only 
those U.S. self-regulatory organizations included in the Intermarket 
Surveillance Group\17\ and linked through the Intermarket Trading 
System.\18\ Trading in the United States in other market would be 
included in the world-wide trading volume for the security, but not the 
U.S. trading volume.
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    \16\Id.
    \17\ISG was formed on July 14, 1983 to, among other things, 
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. The 
members of the ISG, (and accordingly, of the U.S. market) are: the 
American Stock Exchange, Inc.; the Boston Stock Exchange, Inc.; the 
Chicago Board Options Exchange, Inc.; the Chicago Stock Exchange, 
Inc.; the Cincinnati Stock Exchange, Inc.; the National Association 
of Securities Dealers, Inc.; the NYSE; the Pacific Stock Exchange, 
Inc.; and the Philadelphia Stock Exchange, Inc. Because of potential 
opportunities for trading abuses involving stock index futures, 
stock options and the underlying stock and the need for greater 
sharing of surveillance information for these potential intermarket 
trading abuses, the major stock index futures exchanges (e.g., the 
Chicago Mercantile Exchange and the Chicago Board of Trade) joined 
the ISG as affiliate members in 1990.
    \18\ITS is a communications system designed to facilitate 
trading among competing markets by providing each market with order 
routing capabilities based on current quotation information. The 
system links the participant markets and provides facilities and 
procedures for: (1) The display of composite quotation information 
at each participate market, so that brokers are able to determine 
readily the best bid and offer available from any participate for 
multiply trading securities; (2) efficient routing of orders and 
sending administrative messages (on the functioning of the system) 
to all participating markets; (3) participation, under certain 
conditions, by members of all participating market in opening 
transactions in those markets; and (4) routing orders from a 
participating market to a participating market with a better price.
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    In addition to the listing requirements in Paragraph 703.21 of the 
Manual which are applicable to all ELDS, an ELDS issue linked to a 
security (including sponsored ADRs) that is traded in the U.S. and is 
issued by a non-U.S. company subject to U.S. reporting requirements 
must also satisfy the following criteria: (1) The term of the ELDS may 
not exceed three years; (2) the trading volume requirements in 
Paragraph 703.21(C) of the Manual shall be based on U.S. trading 
volume;\19\ (3) with respect to ADRs, an ELDS may only be linked to 
sponsored ADRs; (4) the Exchange shall use trading volume data for the 
six months prior to listing for purposes of determining U.S. Share 
Volume and Relative ADR volume (both as defined in the proposal); (5) 
there must be a minimum of 2,000 holders of the underlying security; 
(6) the ELDS issuance may not exceed (i) 2% of the total shares of the 
underlying security outstanding provided at least 30% of the worldwide 
trading volume for the security for the six-months prior to listing 
occurred in the U.S. market, (ii) 3% of the total shares of the 
underlying security outstanding provided at least 50% of the worldwide 
trading volume for the security for the six-months prior to listing 
occurred in the U.S. market, or (iii) 5% of the total shares of the 
underlying security outstanding provided at least 70% of the worldwide 
trading volume for the security for the six-months prior to listing 
occurred in the U.S. market; and (7) an ELDS may not be listed if less 
than 30% of the worldwide trading volume in the underlying security 
(for ADRs, trading volume in the ADR and related securities) for the 
prior six months occurred in the U.S. market.\20\
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    \19\See supra notes 16-18 and accompanying text. This will also 
apply to ELDS overlying U.S. securities.
    \20\See Amendment No. 1, supra note 4.
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    The Exchange believes that allowing ELDS to be issued based on the 
value of eligible securities (including sponsored ADRs) traded in the 
U.S. and issued by non-U.S. companies subject to U.S. reporting 
requirements, will provide significant benefits to investors and the 
capital markets by providing increased investment and corporate 
financing flexibility. The Exchange further believes that this 
flexibility will be achieved without compromising investor protection 
by ensuring that either the primary market for the linked security is 
in the United States or the Exchange has access to surveillance 
information from the primary exchange in the country where the security 
underlying the ELDS is primarily traded (in the case of an ADR, from 
the primary exchange in the country where the security underlying the 
ADR primarily trades).
    The Commission finds that the proposed rule change is consistent 
with the requirements of the Act and the rules and regulations 
thereunder, and, in particular, the requirements of Section 6(b)(5)\21\ 
in that it is designed to prevent fraudulent and manipulative acts and 
practices, to promote just and equitable principles of trade, and to 
protect investors and the public interest. Specifically, in the 
Commission's order originally approving the listing and trading of 
ELDS, the Commission stated it would reexamine the issue of allowing 
ELDS linked to ADRs if such a decision were justified by the subsequent 
trading experience of ELDS and if sufficient safeguards were put into 
place to ensure the pricing integrity of both the ELDS and the 
underlying ADR.\22\ The Commission is satisfied that these 
preconditions have been satisfied. As of July 1, 1994, the NYSE had two 
series of ELDS listed for trading. The Exchange represents that no 
problems have arisen and no complaints have been received by the 
Exchange with respect to the trading of these series of ELDS.\23\ 
Accordingly, the trading history of ELDS to date has not raised any 
regulatory concerns that would cause the Commission to be concerned 
about expanding the listing of ELDS to include ELDS linked to 
securities (including sponsored ADRs) that are traded in the U.S. on a 
national securities exchange or through the facilities of a national 
securities association and are issued by non-U.S. companies subject to 
U.S. reporting requirements.
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    \21\15 U.S.C. 78f(b)(5) (1988).
    \22\See Exchange Act Release No. 33468, supra note 5, at note 
12.
    \23\Telephone conversation between Vincent Patten, Assistant 
Vice President of New Products, NYSE, and Brad Ritter, Attorney, 
Office of Derivatives and Equity Regulation, Division of Market 
Regulation, Commission, on July 8, 1994.
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    The Commission also believes that sufficient safeguards will be in 
place to ensure pricing integrity in both the ELDS and the underlying 
security. First, each of the numerical requirements currently in place 
for the listing of ELDS (i.e., market capitalization, trading volume, 
and maximum size of issuance), as enhanced herein, will apply where the 
linked security is a security (including sponsored ADRs) that is traded 
in the U.S. and is issued by a non-U.S. company subject to U.S. 
reporting requirements. In addition, the only such securities that can 
be linked to ELDS are those for which either an effective surveillance 
sharing agreement\24\ is in place with the primary market for the 
security underlying the ELDS (in the case of an ADR, with the primary 
exchange in the country where the security underlying the ADR primarily 
trades) or where at least 50% of the world-wide trading volume in the 
security and other related securities for the six months prior to 
issuance occurs in the U.S. market.\25\ These standards for the 
underlying security are more stringent than those the Commission 
recently found to be adequate with respect to the listing and trading 
of options on ADRs where no effective surveillance sharing agreement 
exists between the Exchange and the primary market in the country where 
the security underlying the ADR is primarily traded.\26\ As the 
Commission stated in the ADR Approval Order, the existence of an 
effective surveillance sharing agreement serves as a deterrent to 
manipulation and thus protects the integrity of the marketplace.\27\ 
Additionally, the Commission stated that where the U.S. ADR market is 
the primary market for the trading of an ADR, the U.S. market is the 
relevant pricing market for that ADR.\28\ In those cases, the 
Commission stated that an effective surveillance sharing agreement 
exists because the self-regulatory organizations which make up the U.S. 
market are members of ISG, through which the Exchange can investigate 
any potential manipulations.\29\ As a result, by applying these same 
standards to ELDS linked to securities (including sponsored ADRs) 
issued by non-U.S. companies, the Commission believes the Exchange will 
be able to detect and deter potential manipulations involving ELDS and 
such linked securities.
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    \24\See supra note 14.
    \25\In no event may an ELDS be linked to a security issued by a 
non-U.S. reporting company where less than 30% of the worldwide 
trading volume in the underlying security and all related securities 
occurs in the U.S. market. See Amendment No. 1, supra note 4.
    \26\The standards being approved here are more stringent in two 
respects. First, whereas options may be listed on both sponsored and 
unsponsored ADRs satisfying the approved requirements, ELDS may only 
be linked to sponsored ADRS. Secondly, in determining whether the 
U.S. market accounts for at least 50% of the market for the linked 
security and all related securities the Exchange must use the 
trading volume for the prior six months with respect to ELDS, but 
for only the prior three months for options on ADRs. See, e.g., ADR 
Approval Order, supra note 14.
    \27\Id.
    \28\Id.
    \29\Id.
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    Moreover, the Commission believes that the proposed method 
described above for determining whether the six-month trading 
volume\30\ of the security underlying the ELDS and all related 
securities in the U.S. market is at least 50% of the world-wide trading 
volume for such securities is adequate to ensure that the U.S. market 
is and continues to be the price discovery market for a security 
underlying an ELDS. The Commission notes that these procedures are 
substantively the same as those the Commission approved in the ADR 
Approval Order.\31\ Furthermore, limiting the term of ELDS linked to 
securities issued by non-U.S. companies to no more than three years 
will increase the likelihood that the U.S. market will remain the 
primary price discovery market for the security during the term of the 
ELDS.
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    \30\See Amendment No. 1, supra note 4.
    \31\See ADR Approval Order, supra note 14. The ELDS 
requirements, however, do not have a U.S. volume maintenance 
standard similar to that required for options on ADRs. Because a 
particular series of ELDS is issued at one time for a set term it 
would be difficult to apply such a standard. The Commission, 
however, believes that the other requirements discussed above will 
help ensure that the U.S. is the relevant market for the ELDS.
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    Finally, the Exchange will require that there be at least 2,000 
holders of the underlying security and will limit ELDS linked to these 
securities to (i) 2% of the total shares of the underlying security 
outstanding provided at least 30% of the worldwide trading value for 
the security for the six-months prior to listing occurred in the U.S. 
market, (ii) 3% of the total shares of the underlying security 
outstanding provided at least 50% of the worldwide trading volume for 
the security for the six-months prior to listing occurred in the U.S. 
market, or (iii) 5% of the total shares of the underlying security 
outstanding provided at least 70% of the worldwide trading volume for 
the security for the six-months prior to listing occurred in the U.S. 
market. The Commission believes that will minimize the possibility that 
trading in an ELDS issuance will adversely impact the market for the 
underlying security to which it is linked.
    In summary, the Commission believes that the proposal is consistent 
with the Act because (1) there is nothing in the trading history of 
ELDS which raises any regulatory concerns with respect to expanding the 
ELDS listing standards to include ELDS linked to securities (including 
sponsored ADRs) that are traded in the U.S. either on an exchange or 
though the facilities of a national securities exchange and are issued 
by non-U.S. companies subject to U.S. reporting requirements; (2) the 
proposed rule change adequately safeguards the pricing integrity of 
both the ELDS and the underlying security and ensures that there is 
sufficient surveillance to detect as well as deter manipulation; and 
(3) the existing regulatory structure and issuer requirements for ELDS, 
as enhanced herein, will be applied and will ensure that ELDS will 
continue to be linked to highly capitalized companies.
    The Commission finds good cause for approving Amendment No. 1 to 
the proposed rule change prior to the thirtieth day after the date of 
publication of notice of filing thereof in the Federal Register in 
order to allow the Exchange to list without delay ELDS linked to 
securities (including sponsored ADRs) that are traded in the U.S. 
securities markets and are issued by non-U.S. companies subject to 
reporting requirements under the Act and that satisfy the proposed 
listing guidelines. Specifically, Amendment No. 1 significantly 
enhances the existing listing criteria contained in Paragraph 703.21 of 
the Manual for the listing of ELDS overlying securities issued by U.S. 
companies. The Commission believes that the enhanced listing criteria 
proposed in Amendment No. 1 which will apply to ELDS linked to any 
security (including sponsored ADRs) issued by a non-U.S. company, 
combined with the numerical listing standards currently contained in 
Paragraph 703.21 of the Manual, ensure that the NYSE has the ability to 
detect and deter manipulation with respect to both the ELDS and the 
underlying security. Furthermore, the Commission believes that 
Amendment No. 1 conforms the proposed rule change to the procedures 
approved by the Commission for the listing of options on ADRs.\32\ As 
stated in the ADR Approval Order, the Commission continues to believe 
that these standards will ensure that the U.S. market is the relevant 
pricing market for the ELDS and the underlying security where no 
comprehensive market information sharing agreement exists with the 
primary market for such underlying security (for ADRs, the primary 
exchange in the country where the security underlying the ADR is 
primarily traded).\33\ Finally, allowing the Commission to approve, on 
a case-by-case basis, an issue of ELDS related to more than the 
specified percentages of the outstanding shares of the underlying 
security merely expands the flexibility currently provided in the rules 
with respect to ELDS linked to securities issued by U.S. companies.\34\ 
Because the Exchange must obtain Commission approval prior listing an 
ELDS linked to a security (including a sponsored ADR) issued by a non-
U.S. company which exceeds those percentages, the Commission believes 
that this amendment does not raise any new regulatory concerns. 
Accordingly, the Commission believes that good cause exists for 
approving Amendment No. 1 to the proposed rule change on an accelerated 
basis.
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    \32\Id.
    \33\Id.
    \34\See supra note 10.
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IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning Amendment No. 1 to the Exchange's proposal. 
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 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 Public 
Reference Section, 450 Fifth Street, N.W., Washington, D.C. Copies of 
such filing will also be available for inspection and copying at the 
principal office of the NYSE. All submissions should refer to File No. 
SR-NYSE-94-04 and should be submitted by September 15, 1994.
    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\35\ that the portion of the proposed rule change (SR-NYSE-94-04), 
as amended, relating to the listing and trading of ELDS linked to 
either sponsored ADRs or securities issued by non-U.S. companies is 
approved.
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    \35\15 U.S.C. 78s(b)(2) (1988).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\36\
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    \36\17 CFR 200.30-3 (1993).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 94-20897 Filed 8-24-94; 8:45 am]
BILLING CODE 8010-01-M