[Federal Register Volume 61, Number 62 (Friday, March 29, 1996)]
[Notices]
[Pages 14165-14168]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-7699]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-37007; File No. SR-Amex-95-39, SR-CBOE-95-67, and SR-
Phlx-95-76]
Self-Regulatory Organizations; Order Approving Proposed Rule
Changes and Notice of Filing and Order Granting Accelerated Approval of
Amendments Thereto by the American Stock Exchange, Inc., Chicago Board
Options Exchange, Inc., and Philadelphia Stock Exchange, Inc., Relating
to the Establishment of Uniform Listing and Trading Guidelines for
Narrow-Based Stock Index Warrants
March 21, 1996.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ the American Stock
Exchange, Inc. (``Amex''), Chicago Board Options Exchange, Inc.
(``CBOE''), and Philadelphia Stock Exchange, Inc. (``Phlx'')
(collectively ``Exchanges'') submitted to the Securities and Exchange
Commission (``Commission'' or ``SEC'') proposed rule changes
(``proposals'') to establish uniform listing and trading guidelines for
narrow-based stock index warrants.\3\
\1\ 15 U.S.C. Sec. 78s(b)(1) (1988 & Supp. V 1993).
\2\ 17 CFR 240.19b-4 (1994).
\3\ The Amex, CBOE, and Phlx rule filings were submitted on
September 9, 1995, November 9, 1995, and October 27, 1995,
respectively. On November 1, 1995, November 20, 1995, and November
22, 1995, Amex, CBOE, and Phlx, respectively, each submitted
Amendment No. 1 (``Amendment No. 1'') to their proposals to address
issues relating to settlement value for warrants. See Letters from
William Floyd-Jones, Amex, to Michael Walinskas, SEC, dated October
30, 1995 (``Amex Amendment No. 1''), Timothy Thompson, CBOE, to
Stephen M. Youhn, SEC, dated November 15, 1995 (``CBOE Amendment No.
1''), and Shelle Weisbaum, Phlx, to Michael Walinskas, SEC, dated
November 22, 1995 (``Phlx Amendment No. 1''). Amex and Phlx
Amendment No. 1 also address issues relating to index maintenance
standards.
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Notice of the proposals, and Amendment No. 1 thereto, were
published for comment and appeared in the Federal Register.\4\ No
comment letters were received.
\4\ See Securities Exchange Act Release Nos. 36448 (Nov. 1,
1995), 60 FR 56180 (Nov. 7, 1995) (Amex); 36525 (Nov. 29, 1995), 60
FR 62512 (Dec. 6, 1995) (CBOE); and 36524 (Nov. 29, 1995), 60 FR
62521 (Dec. 6, 1995) (Phlx).
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The Amex subsequently submitted Amendments No. 2, 3, and 4 to the
proposal on January 22, 1996 (``Amex Amendment No. 2''), January 30,
1996 (``Amex Amendment No. 3''), and January 31, 1996 (``Amex Amendment
No. 4'').\5\ The CBOE subsequently submitted Amendments No. 2, 3, and 4
to the proposal on December 27, 1995 (``CBOE Amendment No. 2''),
February 2, 1996 (``CBOE Amendment No. 3''), and February 27, 1996
(``CBOE Amendment No. 4'').\6\ The Phlx subsequently submitted
Amendment No. 2 (``Phlx Amendment No. 2'') (collectively with all of
the Exchange's Amendments that have not been noticed to date
``Amendments'') to the proposal on January 31, 1996.\7\
\5\ See Letters from William Floyd-Jones, Amex, to Stephen M.
Youhn, SEC, dated January 19, 1996, January 29, 1996, and January
30, 1996, respectively.
\6\ See Letters from Timothy Thompson, CBOE, to Stephen M.
Youhn, SEC, dated December 21, 1995, February 1, 1996, and February
27, 1996, respectively.
\7\ See Letter from Shelle Weisbaum, Phlx, to Michael Walinskas,
SEC, dated January 30, 1996.
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CBOE Amendment No. 2 addresses index maintenance standards. Amex
Amendment No. 2 was superseded by Amex Amendment No. 3. Amex and CBOE
Amendments No. 3 and Phlx Amendment No. 2 address position limit
related issues. Amex Amendment No. 4 reduces the originally proposed
position limit applicable to certain narrow-based index warrants and
CBOE Amendment No. 4 clarifies an example contained in CBOE Amendment
No. 3 with respect to position limit aggregation. This order approves
the proposals, as amended, and solicits comments on the Amendments.
I. Description of the Proposal
On August 29, 1995, the Commission approved rule changes for the
Exchanges which established uniform listing and trading guidelines for
broad-based stock index, currency, and currency index warrants
(``broad-based regulatory framework'').\8\ Those standards govern all
aspects of the listing and trading of index warrants, including issuer
eligibility, customer suitability and account approval procedures,
position and exercise limits, reportable positions, automatic exercise,
settlement, margin, and trading halts and suspensions.
\8\ On August 29, 1995, the Commission approved uniform listing
and trading guidelines for stock index, currency and currency index
warrants for the New York Stock Exchange (``NYSE''), Pacific Stock
Exchange (``PSE''), Phlx, Amex, and CBOE. See Securiies Exchange Act
Release Nos. 36165, 36166, 36167, 36168, and 36169 (Aug. 29, 1995),
respectively. The PSE, to date, has not submitted a narrow-based
index warrant filing and the NYSE is not being approved in this
order.
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The purpose of this proposal is to allow for the listing and
trading of warrants on narrow-based stock index groups. With the
exceptions of separate higher margin requirements and reduced position
limits, the broad-based regulatory framework will fully apply to the
listing, trading, and surveillance of narrow-based index warrants. This
includes a heightened suitability standard for recommendations in index
warrants as well as requiring all
[[Page 14166]]
purchasers of index warrants to be options approved. The proposed
changes from the broad-based regulatory framework are outlined as
follows:
(a) Position Limits. The Exchanges note that position limits for
broad-based index warrants were set at levels approximately equal to 75
percent the then applicable corresponding limits applicable to options
on the same index. In turn, the Exchanges propose to establish narrow-
based index warrant position limits at a level equal to 75 percent of
those recently approved for narrow-based index options.\9\ As a result,
narrow-based position limits would be governed by three tiers, using
the same qualifications criteria as used for narrow-based index option
position limits:
\9\ Currently, depending on the characteristics of the index,
position limits for narrow-based index options are either 12,000,
9,000, or 6,000 contracts on the same side of the market.
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(i) 4,500,000 warrants where one stock in the group accounts, on
average, for 30% or more of the numerical index value during the 30-
day period immediately preceding the review.
(ii) 6,750,000 warrants where either a single stock in the group
accounts for 20 percent or more of the group's numerical index
value, or any five stocks in the group together account for 50
percent or more of the group's numerical index value, during the
immediately preceding 30 days.
(iii) 9,000,000 warrants if the underlying group does not fall
within the criteria set forth in either of the other two tiers.
The Exchanges propose to make the determinations described above
when a particular issuance first commences trading the twice a year
thereafter. An Exchange may establish uniform dates on which to make
those semi-annual determinations in order to make them for all of its
Exchange-listed narrow-based index warrants at the same time. After an
issuance of warrants commences trading, an Exchange would begin to make
the subsequent semi-annual determinations on the first of the uniform
dates thereafter.
If the subsequent semi-annual determinations indicate that an index
qualifies for a larger position limit, an Exchange may increase the
limit to the new number immediately. Once a position limit is
established for a particular warrant issuance, however, it will not be
reduced. As a result, position limits for issuances of warrants
overlying the same index may be different. In the event there is more
than one issuance overlying an index, the Exchanges have proposed that
there be an additional position limit applicable to all those warrant
issuances on the same narrow-based index in the aggregate (``overall
position limit''). This overall position limit for warrants on a
narrow-based index shall be equal to the largest individual position
limit then applicable to any warrant issuance of that same narrow-based
index.\10\
\10\ For example, assume a firm issues warrants on a narrow-
based index in July 1996 (``Issuance 1'') and, at the time, the
applicable position limit for that issuance is 9 million warrants.
The following year, in July 1997, the same firm completes a new
issuance of warrants on the same index (``Issuance 2''). At the time
of the second issuance, however, the composition of the index has
changed such that it now qualifies for a position limit of 6.75
million warrants. An investor would still be permitted to hold 9
million warrants of Issuance 1. Any aggregate position including
warrants from Issuance 1 and 2 would be subject to an overall 9
million warrant position limit, with no more than 6.75 million of
those warrants coming from Issuance 2. Under no circumstances could
an investor hold more than 6.75 million warrants from Issuance 2.
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(b) Margin Requirements. Margin will be similar to that required
for narrow-based index options. Accordingly, all purchases of narrow-
based index warrants must be paid in full. Additionally, the minimum
margin required for each narrow-based index warrant carried short in a
customer's account would be 100% of the current market value of each
warrant plus 20% of the current index group value. Narrow-based index
warrants would also be subject to the same spread margin treatment
recently approved for broad-based index warrants.\11\
\11\ See, e.g., Amex Rule 462(d)(2)(F) and (G).
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Listing Warrants on Approved Indexes
The proposed narrow-based index warrant regulatory framework would
also allow the Exchanges to list a warrant on a narrow-based stock
index without prior Commission approval if the Commission has already
approved the underlying stock index for warrant or options trading.
Furthermore, the Exchanges propose to incorporate certain generic
initial listing and maintenance criteria which, when satisfied, provide
for the expedited approval of warrants based on narrow-based indexes.
The expedited approval process is nearly identical to that approved for
narrow-based index options \12\ except as provided below:
\12\ See Securities Exchange Act Release No. 34157 (June 3,
1994).
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(i) the index must contain a minimum of nine stocks at all
times; \13\ and
\13\ The generic narrow-based index option standard requires ten
stocks initially and nine stocks thereafter.
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(ii) allow for the use of closing (``p.m.'') prices in
determining the value of an index warrant except that, where 25
percent or more of the value of an index underlying a warrant
consists of stocks that trade primarily in the United States,
opening price (``a.m. settlement'') must be used at (1) the
warrant's expiration, and (2) on any date in which the warrant's
settlement value will be based on prices on either of the two
business days preceding expiration.\14\
\14\ The generic index option standard requires the use of
opening (``a.m.'') price settlement.
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II. Findings and Conclusions
The Commission finds that the proposed rule changes are 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).\15\ Specifically, the
Commission finds that the Exchanges' proposals to establish uniform
listing and trading standards for narrow-based stock index warrants
strike a reasonable balance between the Commission's mandates under
Section 6(b)(5) to remove impediments to and perfect the mechanism of a
free and open market and a national market system, while protecting
investors and the public interest. In addition, the proposed listing
standards for warrants for warrants are consistent with the Section
6(b)(5) requirements that rules of an exchange be designed to prevent
fraudulent and manipulative acts, to promote just and equitable
principles of trade, and are not designed to permit unfair
discrimination among issuers.
\15\ 15 U.S.C. Sec. 78f(b)(5) (1988).
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The Exchanges' proposed generic listing standards for narrow-based
stock index warrants set forth a regulatory framework for the listing
of such products. Generally, listing standards serve as a means for an
exchange to screen issuers and to provide listed status only to bona
fide issuances that will have sufficient public float, investor based,
and trading interest to ensure that the market has the depth and
liquidity necessary to maintain fair and orderly markets. Adequate
standards are especially important for warrant issuances given the
leveraged and contingent liability they represent.
The Commission notes that, with certain exceptions listed below,
the Exchanges will apply to narrow-based index warrants the same
regulatory framework which recently was approved for broad-based index
warrants. In approving the broad-based index warrant regulatory
framework, the Commission found that the framework provides an adequate
regulatory structure for the trading of such warrants, including
appropriate trading rules, sales practice requirements, margin
requirements, position and exercise limits and surveillance procedures.
The Commission also found that the applicable framework is designed to
minimize the potential for
[[Page 14167]]
manipulation, thereby helping to ensure that such index warrants do not
have a negative market impact. Finally, the Commission also indicated
that the framework adequately addressed the special risks to customers
arising from the trading of such warrants.\16\
\16\ Pursuant to Section 6(b)(5) of the Act, the Commission is
required to find, among other things, that trading in warrants will
serve to protect investors and contribute to the maintenance of fair
and orderly markets. In this regard, the Commission must predicate
approval of any new derivative product upon a finding that the
introduction of such 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. As discussed below, the Commission
believes narrow-based index warrants will serve an economic purpose
by providing an alternative product that will allow investors to
participate in the price movements of the underlying securities in
addition to allowing investors holding positions in some or all of
such securities to hedge the risks associated with their portfolios.
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The Commission believes it is reasonable for the Exchanges to apply
a nearly identical regulatory structure to narrow-based index warrants
as broad-based index warrants, particularly given the substantial
similarities that exist between them.\17\ Both broad and narrow-based
stock index warrants represent a leveraged investment in a portfolio or
group of equity securities. However, broad-based index products
generally have a large number of component securities and represent a
certain overall equities market or a substantial segment thereof.
Narrow-based index products, on the other hand, generally are comprised
of fewer component securities that often are concentrated in a
particular industry group. These differences heighten concerns with
leveraged narrow-based index products regarding market impact,
manipulation and volatility, dictating that narrow-based indexes be
subject to lower position limits and more restrictive margin
treatment.\18\
\17\ The regulatory framework for broad-based index warrants is
similar to the approach used in regulating index options. Because
the same risks exist in trading of narrow-based index options, the
Commission believes it is appropriate to utilize the same approach.
\18\ This is similar to the approach taken in regulating narrow-
based and broad-based index options.
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Accordingly, the Exchanges have proposed separate margin and
position limit treatment for narrow-based index warrants. The proposed
margin levels are analogous to those currently in place for narrow-
based stock index options. The Commission believes these requirements
will provide adequate customer margin levels sufficient to account for
the potential volatility of these products. In addition, the Commission
believes that it is appropriate to apply options margin treatment given
the options-like market risk posed by warrants.\19\
\19\ The customer spread margin rules applicable to broad-based
stock index and currency warrants were approved subject to a one
year pilot program. The Commission notes that narrow-based index
warrants will be subject to the same pilot program and, upon
expiration of that program, it will determine whether to revise or
approve on a permanent basis the proposed spread margin rules.
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The proposed position limits are also similar to those in place for
narrow-based index options.\20\ In addition, the Exchanges have
proposed aggregation requirements to address multiple issuances of
warrants on the same narrow-based index.\21\ The Commission believes
that the position limits and aggregation requirements are reasonable
and will serve to minimize potential manipulation and other market
impact concerns while not unduly restricting liquidity in warrant
issuances.
\20\ The Commission notes that position limits for broad-based
stock index warrants were set at a level roughly equivalent to 75%
of broad-based index options. In the absence of trading experience
with U.S. equities market based index warrants, the Commission
believes it would be imprudent to establish position limits for
positions greater than those currently applicable (on an equivalent
basis) to stock index options on the same index.
\21\ Because each individual warrant issuance is assigned a
separate identification symbol, the Exchanges have the ability to
monitor the aggregation of separate issuances of warrants on the
same underlying index.
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The Commission believes the Exchanges' existing surveillance
procedures applicable to broad-based index warrants are adequate to
surveil the trading of narrow-based index warrants. The Commission
found that the Exchanges' broad-based surveillance procedures were
adequate to surveil for manipulation and other abuses involving the
warrant market and the underlying component securities. Given the
functional similarities between narrow and broad-based index warrants,
the Commission believes it is reasonable to apply the same surveillance
procedures to both.
Similarly, for the same reasons noted in our order approving broad-
based index warrants, the Commission believes that heightened customer
suitability standards, options account approval requirements, and sales
practice procedures which are modelled after index options should be
extended to narrow-based index warrants. The Commission notes that,
upon approval of this filing, the Exchanges may list a warrant upon any
narrow-based index that the Commission has previously approved for
options or warrant trading. Additionally, in order to expedite SEC
review of a particular warrant issuance, the Exchanges have proposed
employing accelerated listing procedures similar to those adopted for
listing options on narrow-based indexes.\22\
\22\ Accelerated listing procedures allow the Exchange to permit
issuances of warrants on a particular narrow-based index pursuant to
a filing submitted to the Commission for effectiveness immediately
upon filing under Section 19(b)(3)(A) of the Act. In the event that
a proposed index does not qualify for expedited approval under these
standards, the Exchanges are not precluded from filing a proposed
rule change for Commission review pursuant to Section 19(b)(2).
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The Commission notes that these proposed accelerated listing
standards for index warrants differ from the standards applicable to
narrow-based index options in that there is a minimum nine stock
requirement for index warrants (i.e., an index must initially and at
all times thereafter be comprised of at least nine stocks) and that
index warrants may, at certain times, utilize a p.m. settlement
methodology, as discussed above. The Commission believes the proposed
differences are reasonable in the warrant context for several reasons.
With respect to p.m. settlement, index warrants are issuer-based
products whose terms are individually set by the issuer, with the
number of warrants on a given index being fixed at the time of
issuance. Accordingly, it is not certain that there will be a
significant number of warrants in indexes with similar components
expiring on the same day. This may reduce pressure from liquidation of
warrant hedges at settlement. Second, the Commission authorized the
same settlement methodology for broad-based index warrants and believes
it is reasonable that narrow-based index warrants operate in the same
manner. With respect to the nine stock requirement, the Commission does
not believe that this difference is such that it will subject narrow-
based index warrants to increased manipulation. In fact, narrow-based
index options impose the same maintenance requirement of nine stocks.
The Commission does not believe that the creation of a nine stock
index, as opposed to a ten stock index, will lead to increased
manipulation, per se, provided the other listing criteria are
satisfied. The Commission notes that this requirement precludes the
issuance of index warrants pursuant to the accelerated listing
procedures upon any index comprised of less than nine stocks.
The Commission believes that the accelerated listing procedures
will provide a sufficient opportunity for it to examine narrow-based
index warrant
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products based on new indexes (which require that a filing be made
pursuant to Section 19(b)(3)(A) of the Act). Specifically, the
Commission believes that the seven day prefiling requirement gives the
Commission staff an opportunity to discuss with an Exchange whether its
proposal to list and trade particular narrow-based index warrants
properly qualifies for effectiveness upon filing. In addition, the
Commission finds that the 30 day delay in the commencement of trading
of proposed narrow-based index warrants will provide a meaningful
opportunity for public comment prior to the commencement of trading,
while also providing an Exchange with the opportunity to inform market
participants in advance of the proposed trade date for new index
warrants. In accordance with Section 19(b)(3)(C) of the Act, if the
Commission determines that the rule change proposal is inconsistent
with the requirements of the Act and the rules and regulations
thereunder, the 30 day delay would allow the Commission to abrogate the
rule change before trading commences, which will minimize disruption on
market participants. This authority could be utilized if, for example,
it is determined that the proposed narrow-based index warrant does not
satisfy the applicable accelerated listing standards.
III. Conclusion
The Commission believes that the adoption of these proposed uniform
listing and trading standards for narrow-based index warrants will
provide an appropriate regulatory framework. These standards will also
benefit the Exchanges by providing them with greater flexibility in
structuring narrow-based index warrant issuances and a more expedient
process for listing narrow-based index warrants without further
Commission review pursuant to Section 19(b) of the Act. As noted above,
additional Commission review of specific warrant issuances will
generally only be required for warrants overlying any non-approved
narrow-based index that has not been previously approved by the
Commission for narrow-based index warrant or options trading. If
Commission review of a particular warrant issuance is required, the
Commission expects that, to the extent that the warrant issuance
complies with the uniform criteria adopted herein, its review should
generally be limited to issues concerning the newly proposed index.
This should help ensure that such additional Commission review could be
completed in a prompt manner without causing any unnecessary delay in
listing new narrow-based index warrant products.
The Commission finds good cause for approving the Exchanges'
Amendments to the proposals prior to the thirtieth day after the date
of publication of notice thereof in the Federal Register. The
Commission notes that the Amendments primarily relate to position
limits and aggregation of multiple issuances of warrants on the same
index. The Commission notes that the Amendments ensure that multiple
issuances of index warrants on the same narrow-based index will be
aggregated together and subject to an overall limit. The Commission
believes it is appropriate to aggregate holdings in multiple issuances
together since, despite the difference in expiration dates, warrants
which overlie the same index are fundamentally the same instrument.
Furthermore, aggregation provisions will ensure that an investor (or
group) may not circumvent the applicable position limits by merely
purchasing warrants from different issuances.
The Amendments also provide that once a position limit is
established for a particular warrant issuance, it will not be reduced
for the duration of that particular issuance. Given the limited
duration of warrants (one to five years), and that any new index
warrants on the same index could not exceed the lowered position
limits, the Commission believes it is appropriate for position limits
to not be reduced during their duration.
CBOE Amendment No. 2 imposes a minimum nine stock requirement for
all narrow-based indexes which underlie a warrant issuance. This
provision brings CBOE into conformity with the other exchanges. The
Amex and Phlx provisions regarding this requirement have already been
noticed and no comments were received. Accordingly, this provision does
not raise any new or unique regulatory issues. Finally, Amex Amendment
No. 4 reduces the lowest position limit tier to 4.5 million warrants
from 4.875 million. The Commission notes that this brings the Amex into
conformity with the other Exchanges. Finally, CBOE Amendment No. 4
clarifies an example contained in CBOE Amendment No. 3 with respect to
position limit aggregation. Because this example is explanatory in
nature and does not alter any of its rules, the provision does not
raise any new or unique issues. For these reasons, the Commission
believes there is good cause, consistent with Section 19(b)(2) \23\ of
the Act, to approve the Exchanges' Amendments to the proposals on an
accelerated basis.
\23\ 15 U.S.C. Sec. 78s(b)(2) (1988).
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IV. Solicitation of Comments
Interested persons are invited to submit written data, views and
arguments concerning the Exchanges' Amendments. 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 Public Reference Section, 450 Fifth Street
NW., Washington, DC. Copies of such filing will also be available for
inspection and copying at the principal offices of the above-mentioned
self-regulatory organizations. All submissions should refer to the file
number in the caption above and should be submitted by April 19, 1996.
It therefore is ordered, pursuant to Section 19(b)(2) of the
Act,\24\ that the proposed rule changes (SR-Amex-95-39, SR-CBOE-95-67,
and SR-Phlx-95-76) are approved, as amended.
\24\ 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.\25\
\25\ 17 CFR Sec. 200.30-3(a)(12) (1994).
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Jonathan G. Katz,
Secretary.
[FR Doc. 96-7699 Filed 3-28-96; 8:45 am]
BILLING CODE 8010-01-M