[Federal Register Volume 61, Number 111 (Friday, June 7, 1996)]
[Notices]
[Pages 29160-29163]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-14358]



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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-37258; File No. SR-OCC-95-17]


Self-Regulatory Organizations; The Options Clearing Corporation; 
Notice of Filing of a Proposed Rule Change Modifying the Escrow Deposit 
Program

May 30, 1996.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ notice is hereby given that on November 2, 1995, The 
Options Clearing Corporation (``OCC'') filed with the Securities and 
Exchange Commission (``Commission'') the proposed rule change as 
described in Items I, II, and III below, which Items have been prepared 
primarily by OCC. OCC amended the proposed rule change on March 22, 
1996.\2\ The Commission is publishing this notice to solicit comments 
on the proposed rule change from interested persons.
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    \1\ 15 U.S.C. Sec. 78s(b)(1) (1988).
    \2\ Letter from Jean M. Cawley, OCC, to Jerry W. Carpenter, 
Assistant Director, Division of Market Regulation, Commission (March 
20, 1996).
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The purpose of the proposed rule change is to amend OCC's escrow 
deposit program to permit escrow deposits for stock put contracts and 
stock index put contracts and to make other conforming changes to OCC's 
rules.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, OCC included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. OCC has prepared summaries, set forth in sections (A), 
(B), and (C) below, of the most significant aspects of such 
statements.\3\
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    \3\ The Commission has modified the text of the statements 
prepared by OCC.
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A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    OCC proposes to modify its escrow deposit program to (i) permit 
escrow deposits for stock put options and stock index put options; (ii) 
delete provisions regarding OCC's batch system for processing escrow 
receipts; (iii) change provisions regarding the timing of the release 
of escrow deposits; and (iv) delete provisions for bulk deposits for 
call options and deposits of Treasury bills for put options. In 
addition, OCC proposes to modify other OCC rules to conform to this 
rule change.
    Pursuant to OCC rules, clearing members may deposit with an OCC 
approved custodian shares of stock which may be in the form of escrow 
deposits, underlying certain options in lieu of margin. Escrow deposits 
are specific deposits of assets held by OCC at an approved custodian 
for the account of a specific customer. Presently, OCC's rules restrict 
escrow deposits to short positions in stock calls and stock index 
calls. For stock call options, the underlying security may be deposited 
in escrow with an OCC-approved custodian and for stock index call 
options, any combination of cash, short-term government securities, or 
marginable equity securities may be deposited in escrow with an OCC-
approved custodian.
    Permitting escrow deposits with respect to stock put contracts and 
stock index put contracts had been deferred until sufficient interest 
existed and an acceptable system could be developed to process escrow 
deposits for put options. OCC recently received requests to expand its 
escrow program to include such deposits for stock and stock index puts. 
Those requests prompted OCC to review its escrow program and its 
processing systems that support the escrow program. As a result 
thereof, OCC determined to make several enhancements and modifications 
to its escrow program as described below.
    First, OCC proposes to expand its escrow program to permit escrow 
deposits for stock put contracts and stock index put contracts and 
process those deposits through its on-line Escrow Receipt Depository 
(``ERD'') system.\4\ To accomplish the proposed expansion of its escrow 
program, certain changes to OCC Rules 610 and 1801 are necessary. In 
general, the changes will accommodate the Deposit of any combination of 
cash and short-term government securities for put contracts, will 
provide for the valuation and substitution of deposited assets and, in 
the event of the value of the property declines below a specified 
amount, will permit OCC to disregard the escrow

[[Page 29161]]

deposit and require the clearing member to deposit margin upon notice.
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    \4\ For a complete description of the batch ERD system and the 
transition to the on-line ERD system, refer to Securities Exchange 
Act Release No. 31595 (December 11, 1992), 57 FR 61139 [SR-OCC-92-
30] (order approving on an accelerated basis a proposed rule change 
relating to the conversion of OCC's current batch ERD system to an 
on-line system).
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    Second, OCC proposes to eliminate its batch ERD system for 
processing escrow receipts. OCC always contemplated that the on-line 
ERD system would eventually replace the batch ERD system after a 
reasonable transition period. OCC believes that clearing members and 
custodian banks now have completed their transition to the on-line 
system because the batch ERD system is no longer used. To eliminate the 
batch ERD system, the proposed changes will eliminate references to 
escrow receipts in Rule 610 and 1801, and the batch processing system 
described in Rule 613(a).
    Third, OCC proposes to modify the time at which it releases escrow 
deposits. OCC currently releases an escrow deposit on the second 
business day following the expiration of the short position covered by 
the deposit, and thereafter if assigned, collects margin for the 
position formerly covered by the deposit until the next business day 
after the exercise settlement date. OCC now proposes to hold an escrow 
deposit covering a short position to which an exercise has been 
allocated until the business day after the exercise settlement date and 
will no longer collect margin.
    Fourth, OCC proposes to eliminate bulk deposits of underlying 
securities for call options and the deposit of Treasury bills for put 
options because these capabilities have been rarely, if ever, used by 
clearing members. Furthermore, the provisions for depositing Treasury 
bills for put options is being superseded by the new provisions for put 
escrow deposits.
    Finally, OCC proposes to modify rules that relate to the suspension 
and liquidation of a clearing member to conform the rules to the 
changes to OCC's escrow deposit program described above.
Changes to OCC's Rules

Rule 610

    Rule 610 is being amended to permit deposits of cash and/or short-
term Government securities (with such securities being valued at the 
lesser of par value or 100% of current market value) with respect to 
short positions in put options. The proposal also adds Section 2 to the 
Interpretations and Policies (``Interpretations'') under Rule 610, 
which interpretation states that for purposes of Rule 610 the term 
short-term government securities means securities with a fixed 
principal amount that are issued or guaranteed by the U.S. and that 
have one year or less to maturity. As proposed, the total value of the 
deposited property at the trade date (i.e., the date on which the put 
covered by the deposit was written) will have to be not less than 105% 
of the aggregate exercise price (i.e., the exercise price times the 
number of contracts). This requirement in conjunction with OCC's 
ability under proposed paragraph (h) to require margin if the value of 
the deposited property falls below 97.5% of the aggregate exercise 
price should provide ample protection against adverse market moves. 
Substitution of deposited property will be permitted provided that the 
substituted property is at least equal to the value of the property 
being replaced.
    Paragraph (k) is being added to Rule 610 to make explicit OCC's 
authority to receive from the depository if a clearing member fails to 
make timely settlement with respect to an assignment (i) in the case of 
call options, the underlying security or (ii) in the case of put 
options, an amount in cash (out of the deposited property or its 
proceeds) equal to the aggregate exercise price plus commissions and 
other charges.
    Rule 610 also is being amended to make various other changes, 
including changes to make clear that underlying securities may be 
deposited only with respect to short positions in call options, to 
eliminate unnecessary provisions of the rule, and to reletter the rule 
to reflect the deletion and addition of certain paragraphs.\5\
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    \5\ Provisions for bulk deposits are being deleted as clearing 
members have rarely, if ever, made such deposits with OCC. 
Provisions for hard copy escrow receipts are being deleted as are 
provisions for hard copy third party pledge depository receipts. 
However, a newly proposed Interpretation of OCC Rule 610 is intended 
to permit depositories that currently issue hard copy depository 
receipts to OCC and that are ``clearing corporations'' as defined in 
Article 8 of the Uniform Commercial Code to continue to issue such 
depository receipts to OCC until such time as they develop an EDP 
System.
    The current EDP Pledge System is operated by DTC and allows OCC 
members who are participants in DTC's participant terminal system 
(``PTS'') to electronically pledge to OCC securities on deposit at 
DTC. For a complete description of DTC's EDP Pledge System refer to 
Securities Exchange Act Release No. 22887 (February 18, 1986), 51 FR 
5823 [File No. SR-OCC-86-01] (notice of filing and immediate 
effectiveness of proposed rule change permitting OCC clearing 
members to use EDP Pledge System to pledge securities to meet margin 
and clearing fund obligations).
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Rule 1801

    The proposed changes to OCC rule 1801 are intended to permit escrow 
deposits with respect to short positions in put index options carried 
in clearing members' customers' accounts. Currently, such deposits must 
relate to short positions in call index options carried in customers' 
accounts. In general, the changes to rule 1801 parallel those being 
made to Rule 610 to accommodate escrow deposits for put options.
    Under amended rule 1801, only cash and short-term government 
securities will be permitted to be deposited for index put option 
contracts. A proposed Interpretation to Rule 1801 clarifies that short-
term government securities means securities that have a fixed principal 
amount, that are issued or guaranteed by the U.S., and that have one 
year or less to maturity. The total value of the deposited property at 
the trade date (i.e., the date on which the put covered by the deposit 
was written) cannot be less than the aggregate exercise price per 
contract. The 5% cushion above the aggregate exercise price that OCC 
proposes to require for equity put escrow deposits is unnecessary for 
index put escrow deposits because the settlement amount payable on 
exercise of an index put is not the gross exercise price but rather is 
the excess of the exercise price over the closing index value. An 
escrow deposit with a value equal to 100% of the aggregate exercise 
price would thus exceed the exercise settlement amount so long as the 
underlying index value remained above zero. Requiring an escrow deposit 
with a value equal to 100% of aggregate exercise price in conjunction 
with OCC's ability under the proposed amendment to rule 1801(e) to 
require margin if the value of the deposited property falls below 50% 
of the aggregate exercise price per contract should provide ample 
protection against adverse market moves. Substitution of deposited 
property will be permitted provided that the substituted property is at 
least equal to the value of the property being replaced.
    New paragraph (i) is being added to rule 1801 to make explicit 
OCC's authority to receive from the depository if a clearing member 
fails to make timely settlement with respect to an assignment an amount 
in cash (out of the deposited property or its proceeds) equal to the 
product of the number of contracts covered by the assignment (up to the 
aggregate number of contracts covered by the escrow deposit) and the 
exercise settlement amount per contract plus commissions and other 
charges.
    Rule 1801 also is being amended for various other reasons, 
including to make clear that marginable equity securities may be 
deposited only with respect to short positions in index call option 
contracts, to eliminate provisions for hard copy escrow receipts, and 
to reletter the rule to reflect the addition of new paragraph (i).

[[Page 29162]]

Rule 613

    Rule 613 is being amended to change the time at which an escrow 
deposit may be released. OCC's current practice is to release all 
escrow deposits on the second business day following the expiration of 
the short position covered by the deposit. OCC now proposes to hold an 
escrow deposit covering a short position to which an exercise has been 
allocated until the business day after the exercise settlement date and 
no longer will collect margin. Accordingly, a new provision is being 
added to Rule 613 that will prohibit the release of an escrow deposit 
covering a short position for which an exercise notice has been 
allocated until the first business day after the exercise settlement 
date (if the exercise is settled through a correspondent clearing 
corporation) or after OCC receives confirmation of settlement (if the 
exercise was settled otherwise as directed by OCC).
    Rule 613 is being amended further to replace references to ``ERD 
banks'' with ``Escrow banks'' and to provide for the obligations of an 
Escrow bank to deliver the aggregate exercise price of the puts covered 
by an escrow deposit (plus all applicable commissions and charges) upon 
delivery of a duly executed payment order.
    Finally, rule 613 is being amended to delete the references to the 
batch ERD system for processing escrow receipts and to reletter the 
rule to reflect the elimination of those provisions.

Rule 612

    Rule 612, which permits the deposit of Treasury bills with respect 
to short positions in put options, is being deleted because clearing 
members rarely, if ever, use this capability. The alternative of escrow 
deposits for put options now will be permitted under the changes 
proposed herein.

Rule 1107

    Rule 1107 sets forth the method of settlement of exercised option 
contracts to which a suspended clearing member is a party and is being 
amended to reflect the addition of escrow deposits for puts and the 
deletion of bulk deposits and deposits of Treasury bills for puts. Rule 
1107(a)(1) is being amended to include the method of settlement where 
the suspended clearing member was the assigned clearing member with 
respect to any exercised option contract and where the exercise notice 
was allocated by the suspended clearing member (or is allocated by OCC 
pursuant to provisions of the rule) to a short position for which a 
specific deposit or an escrow deposit has been made.
    Rule 1107(a)(2) is being amended to provide for cases where the 
custodian of a specific deposit or escrow deposit made for the account 
of a suspended clearing member fails to perform its obligations to OCC 
on a timely basis. Rule 1107(a)(2) applies where the customers' account 
of a suspended clearing member contains pending assignments that are 
not guaranteed by a stock clearing corporation but are covered by 
specific or escrow deposits. The rule contemplates that in such a 
situation that OCC would do the following.
    1. In the case of an assigned short call position in stock options, 
OCC would obtain delivery of the deposited stock from the custodian 
(against payment of the exercise price in the case of an escrow 
deposit) and redeliver the stock to the exercising clearing member 
against payment of the exercise price.
    2. In the case of an assigned short put position in stock options, 
OCC would obtain payment of the exercise price from the custodian 
(against delivery of the underlying stock in the case of an escrow 
deposit) and pay the exercise price to the exercising clearing member 
against delivery of the underlying stock.
    3. In the case of an assigned short position in index put or calls, 
OCC would obtain payment of the exercise settlement amount from the 
escrow bank and pay it to the exercising clearing member.
    However, it is possible that OCC might experience a delay in 
obtaining delivery or payment from a custodian. Under Rule 1107(a)(2) 
in its present form, OCC would be obligated to settle with the 
exercising clearing member in the ordinary course notwithstanding the 
custodians' failure to perform. In order to do that in the case of a 
stock option, OCC would have to either buy the underlying stock for 
delivery to the exercising clearing member (in the case of a call 
option) or resell the underlying stock on receipt from the exercising 
clearing member (in the case of a put option). The proposed amendment 
would give OCC the option of directing the exercising clearing member 
to buy-in (in the case of a call option) or sell out (in the case of a 
put option) the underlying stock. OCC would then settle with the 
exercising clearing member on a net basis pursuant to Rule 1107(a)(6) 
for the excess of the buy-in cost over the exercise price (in the case 
of a call option) or the excess of the exercise price over the sell out 
price (in the case of a put option). Settling on a net basis would 
relieve OCC of the transaction costs associated with buying or 
reselling the underlying stock.
Conforming Changes to Rules
    The proposed rule change also makes changes to other OCC rules in 
order to conform those rules to the amendments described above. Rules 
305, 601, and 602 are being amended to accommodate escrow deposits for 
put options and to reflect the deletion of rule 612.
    Rule 908 concerning the delivery of underlying securities deposited 
under rule 610 is being deleted as the requirements of the rule seem 
impractical in the current three business day settlement environment, 
especially when an assigned clearing member may not learn of an 
assignment until T+1.
    Rules 1104, and 1106 \6\ and are being amended to reflect the 
addition of escrow deposits for puts and the deletion of bulk deposits 
and deposits of Treasury bills for puts. Subsections (2) and (3) to 
rule 1106(b) are being amended to eliminate references to hard copy 
escrow receipts and depository receipts. Rule 1106(b)(2) is being 
amended to make explicit that OCC will make timely settlement on an 
exercise assigned to a covered short position of a suspended clearing 
member even if the depository has not turned over the deposited 
property to OCC at the time of settlement. OCC will be entitled to 
reimburse itself for the cost of effecting such settlement from the 
deposited property when such property is remitted to OCC.
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    \6\ The amendments to Rule 1106 contemplate the prior approval 
of SR-OCC-95-20. However, if SR-OCC-95-20 is not approved prior to 
the current filing, OCC has provided an alternative version of the 
amendments to Rule 1106 to accomplish the desired changes.
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    Rules 1301 and 1401 are being amended to reflect the deletion of 
the provisions relating to bulk deposits and the relettering of rule 
610. Rules 1302, 1402, 1502, 1601, 1701, 1808, 1901, 2101, 2301, and 
2411 are either being deleted or amended to reflect the deletion of 
rule 612.
    OCC believes the proposed rule change is consistent with Section 
17A of Act in that it promotes the prompt and accurate clearance and 
settlement of securities transactions by enhancing OCC's escrow deposit 
program.

B. Self-Regulatory Organization's Statement on Burden on Competition

    OCC does not believe the proposed rule change will impose any 
burden on competition.

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

    Written comments were not and are not intended to be solicited with 
respect

[[Page 29163]]

to the proposed rule change, and none have been received.

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

    Within thirty-five days of the date of publication of this notice 
in the Federal Register or within such longer period (i) as the 
Commission may designate up to ninety days of such date if it finds 
such longer period to be appropriate and publishes its reasons for so 
finding or (ii) as to which OCC consents, the Commission will:
    (a) by order approve such proposed rule change or
    (b) institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing. Persons making written submissions 
should file six copies thereof with the Secretary, Securities and 
Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549. 
Copies of the submission, all subsequent amendments, all written 
statement with respect to the proposed rule change that are filed with 
the Commission, and all written communications relating to the proposed 
rule change between the Commission and any person, other than those 
that may be withheld from the public in accordance with the provisions 
of 5 U.S.C. Sec. 552, will be available for inspection and copying in 
the Commission's Public Reference Section, 450 Fifth Street, N.W., 
Washington, D.C. 20549. Copies of such filing also will be available 
for inspection and copying at the principal office of OCC. All 
submissions should refer to File No. SR-OCC-95-17 and should be 
submitted by June 28, 1996.

    For the Commission by the Division of Market Regulation, 
pursuant to delegated authority.\7\
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    \7\ 17 CFR 200.30-3(a)(12) (1995).
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Jonathan G. Katz,
Secretary.
[FR Doc. 96-14358 Filed 6-6-96; 8:45 am]
BILLING CODE 8010-01-M