[Federal Register Volume 63, Number 220 (Monday, November 16, 1998)]
[Notices]
[Pages 63761-63764]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-30550]


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SECURITIES AND EXCHANGE COMMISSION

[Docket No. 34-40645; File No. SR-CBOE-98-33]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change and Amendment No. 1 Thereto by the Chicago Board Options 
Exchange, Inc. Relating to Exercise Advice Procedures

November 6, 1998.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on July 27, 1998, the Chicago Board Options Exchange, Inc. (``CBOE'' or 
``Exchange'') filed with the Securities and Exchange Commission 
(``Commission'') the proposed rule change as described in Items I, II, 
and III below, which Items have been prepared by the CBOE. The

[[Page 63762]]

CBOE subsequently filed an amendment to the proposed rule change on 
November 3, 1998.\3\ 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. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Letter from Arthur B. Reinstein, Assistant General Counsel, 
CBOE, to Kelly McCormick, Attorney, Division of Market Regulation, 
Commission, dated October 27, 1998 (``Amendment No. 1''). Amendment 
No. 1 clarifies the Business Conduct Committee's authority to impose 
sanctions under proposed rules 17.50(c)(2) and (d)(2); makes 
technical corrections to the proposed rule language; clarifies 
amendments to proposed rules 11.1.05 and 11.1.07; and elaborates on 
the statutory basis for the proposed rule change.
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    The CBOE proposes to clarify certain existing exercise advice 
procedures for cash-settled and noncash-settled options, and to provide 
that the failure to submit an exercise advice in a timely manner will 
be designated as a minor rule violation subject to the summary fines 
set forth in Rule 17.50. The proposed rule change also makes minor, 
non-substantive changes to Rules 11.1 and 17.50. The text of the 
proposed rule change is available at the Office of the Secretary, CBOE 
and at the Commission.

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

    In its filing with the Commission, the CBOE included statements 
concerning the purpose of, and basis for, the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. The CBOE has prepared summaries, set for in sections A, 
B, and C below, of the most significant parts of such statements.

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

1. Purpose
    The purpose of the proposed rule change is to clarify certain 
existing exercise advice procedures for cash-settled and noncash-
settled options, and to provide that the failure to submit an exercise 
advice in a timely manner will be designated as a minor rule violation 
subject to the summary fines set forth in Rule 17.50. The proposed rule 
change also makes minor, non-substantive changes to Rules 11.1 and 
17.50. Substantive changes to Exchange rules are explained below.

Restrictions on Exercise of Index Options

    It is the Exchange's policy that, with the exception of the last 
business day prior to expiration, exercises of cash-settled index 
options are prohibited when trading in such options is delayed, halted, 
or suspended, unless otherwise determined by the President of the 
Exchange or his designee. Under this policy, however, the exercise of a 
cash-settled index option may be processed and given effect while 
trading in the option is delayed, halted, or suspended if it can be 
documented that the decision to exercise the option was made during 
allowable time frames prior to the delay, halt, or suspension. This 
policy is currently reflected in Exchange Regulatory Circular RG91-11. 
The CBOE is proposing to amend rule 11.1.05 so that this policy is 
explicitly stated. The CBOE believes the amendment clarifies Rule 
11.1.05. In addition, the Exchange proposes to reflect this policy in 
Rule 4.16, the Exchange's general rule regarding exercise restrictions, 
so that members are not required to refer to other Exchange rules and 
circulars. The proposed amended Rule 11.1.05 cross-references Rule 
4.16.

Exercise Notice Procedures for Cash-Settled Index Options

    Rule 11.1.03 requires that members notify the Exchange of certain 
exercise decisions concerning cash-settled index options and sets forth 
procedures for providing such notifications to the Exchange. The 
Exchange proposes to amend Rule 11.1.03 to clarify that Rule 11.1.03 is 
only applicable to American-style, cash-settled index options and not 
to European-style, cash-settled index options.

Exercise Notices Inconsistent With Just and Equitable Principles of 
Trade

    Currently, Rule 11.1.07 provides that submitting or preparing an 
exercise instruction after the exercise cutoff time in any expiring 
option on the basis of material information released after the cutoff 
time is activity inconsistent with just and equitable principles of 
trade. This provision applies to expiring noncash-settled equality 
options. The Exchange has also considered it to be a violation of just 
and equitable principles of trade to prepare or submit an exercise 
advice or advice cancel after the applicable deadline in any non-
expiring American-style, cash-settled index option on the basis of 
material information released after the deadline.
    The Exchange believes that this general policy will be more 
effectively communicated to the membership if it is moved to proposed 
Rule 11.1.03(e), the procedures paragraph for American-style, cash-
settled index options and if it is repeated in proposed Rule 
11.1.06(f), the procedures paragraph for noncash-settled equity 
options. In this way, a member who refers to .03 or .06 will be made 
aware of the policy without referring to other interpretations of the 
Rule.
    Therefore, the Exchange proposes to add new paragraph(e) to Rule 
11.1.03 which governs the exercising of American-style, cash-settled 
index option contracts to specify that preparing or submitting an 
exercise advice or advice cancel after the applicable deadline on the 
basis of material information released after such deadline, in addition 
to constituting a violation of Rule 11.1, is activity inconsistent with 
just and equitable principles of trade. Similarly, proposed new 
paragraph (f) in Rule 11.1.06 will specify that preparing or submitting 
an exercise instruction, contrary exercise advice, or advice cancel 
after 4:30 p.m. Chicago Time on the basis of material information 
released after such time, in addition to constituting a violation of 
Rule 11.1, is activity inconsistent with just and equitable principles 
of trade. Accordingly, the general provision currently found in Rule 
11.1.07 establishing this policy will no longer be necessary and will 
be deleted.

Options Not Subject to Exercise by Exception

    The Exchange proposes to clarify the requirements in Exchange Rule 
11.1.06(c) applicable to exercise decisions and instructions for 
noncash-settled equity options not subject to the exercise by exception 
provisions of The Options Clearing Corporation's Rule 805. Proposed new 
paragraph (c) of Rule 11.01.06 will clarify that a member must deliver 
to the Exchange, no later than 4:30 p.m. Chicago Time, each exercise 
instruction prepared, submitted, or accepted by the member, for all 
noncash-settled equity option contracts not subject to the automatic 
exercise procedures of exercise by exception. Proposed new paragraph 
11.1.06(d) clarifies that a member is excused from compliance with the 
exercise instruction requirements when the exceptions enumerated in 
Rule 11.1(b) apply and the member complies with Interpretation .01 of 
the Rule. Paragraphs (c)-(e) of the Rule are thus being deleted and 
replaced with new paragraphs (c) and (d).

[[Page 63763]]

Other Clarifications to Rule 11.1

    The Exchange is also proposing to revise Rule 11.1.03(c) concerning 
the preparation of exercise advices prior to the purchase of American-
style, cash-settled index option contracts to mirror the same provision 
applicable to noncash-settled equity options in Rule 11.1(d). In 
addition, the Exchange proposes to amend Rule 11.1 to more accurately 
reference the ``preparation, submission, or acceptance'' of exercise 
instructions. As amended, the proposed rule takes into account the 
different sources of the exercise instructions (i.e., Clearing Members 
``prepare'' exercise instructions for proprietary accounts, members 
``submit'' exercise instructions to Clearing Members, and members 
``accept'' exercise instructions from customer accounts). Finally, 
throughout Rules 11.1 and 17.50, the Exchange has corrected references 
to terms that have previously been defined in the Exchange rules. For 
example, reference to ``Member'' or ``Member Organization'' have been 
corrected to refer to the term ``member'' as previously defined in 
Section 1.1 of the Constitution.

Summary Fine for Failure to Submit an Exercise Advice

    The Exchange proposes to make the failure to submit a contrary 
execise advice, advice cancel, or exercise instruction in a timely 
manner pursuant to Rule 11.1.06, relating to the exercise or 
nonexercise of a noncash-settled equity option, a minor rule violation 
subject to the procedure and summary fine provisions of Rule 17.50. The 
Exchange will add new paragraph (8) to Rule 17.50(g) to provide that 
the failure of any member to follow the advice procedures in Rule 
11.1.06 will subject the member to the summary fines specified by Rule 
17.50. In any 12-month period, the first infraction will result in a 
Letter of Information sent to the member. The second infraction will 
result in a Letter of Caution, and subsequent infractions will result 
in a fine of $500.
    As with other summary fines imposed pursuant to Rule 17.50, a 
member will be permitted to contest the Exchange's determination. Rule 
17.50(c)(1) permits members to seek review by the Business Conduct 
Committee (``BCC'') of the Exchange for fines imposed by new paragraph 
(8).

Calculation of Summary Fines for Failure to Submit Accurate Trade 
Information

    Both Rule 17.50(g)(4)(b) and (5)(b) impose an escalation of the 
total fines for repeated violations of rule 6.51. The Exchange has 
modified paragraphs (4)(b) and (5)(b) of the rule regarding the 
calculation of the total fine to be imposed after a member incurs two 
fines for failure to submit or report accurate trade information in any 
18-month period. If a member has incurred two fines under Rule 
17.50(g)(4) or, similarly, two fines under 17.50(g)(5), in any 18 month 
period, any subsequent fine will be calculated by adding the amount of 
the fine assessed for the current violation to the amount of the next 
most recent fine incurred by the member under the rule.\4\
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    \4\ An example of the calculation of summary fines is as 
follows: In January, Member XYZ incurs a fine of $100 under Rule 
17.50(g)(4) for violation of Rule 6.51 (based on the percentage of 
times that the members submitted inaccurate or no transaction 
times). In February, Member XYZ incurs a second fine under Rule 
17.50(g)(4) and the appropriate fine is deemed to be $250. In March, 
Member XYZ incurs a third fine for $100 and, pursuant to the Rule 
17.50(g)(4)(b), must pay a total of $350 calculated by adding the 
third fine incurred ($100) to the next most recently incurred fine 
($250). In April, Member XYZ incurs a fourth fine of $250 and, 
pursuant to Rule 17.50(g)(4)(b), must pay a total of $600 calculated 
by adding the fourth fine ($250) to the total fine most recently 
incurred ($350).
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    The proposed rule change also would amend Rule 17.50.03(a) to 
change from the fifth day of the month to the tenth day of the month 
the date by which the Exchange shall attempt to serve members fined 
pursuant to Rule 17.50(g)(4) or (g)(5) and to change from the twentieth 
day of the month to the twenty-fifth day of the month the date by which 
a member may request verification of the fine by the Exchange. These 
changes will provide the Exchange with more time to process these fines 
at the beginning of the month while preserving the current time frame 
in which members may request verification of these fines.

Exchange Discretion To Bring Disciplinary Action

    The Exchange is also proposing to modify the summary fine appeal 
provisions under Rule 17.50(c)(2) and (d)(2). The Exchange proposes to 
clarify in these proposed sections that the BCC and the Appeals 
Committee must determine that the conduct serving as the basis for the 
action under review is in violation of an Exchange rule before a 
sanction may be imposed. The BCC and the Appeals Committee, however, 
may only review the alleged conduct to determine if it violates the 
rules charged.\5\ If the alleged conduct would constitute a violation 
of the rule charged, the BCC or the Appeals Committee could determine 
that the conduct at issue did not rise to a level that would trigger a 
summary fine but nonetheless was in violation of an Exchange rule. In 
such a case, the BCC or the Appeals Committee could impose a 
disciplinary sanction for that conduct as part of its decision 
concerning the summary fine appeal.
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    \5\Amendment No. 1.
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    The Exchange also is proposing to modify Rule 17.50(f) to conform 
the rule to a rule of the Chicago Stock Exchange.\6\ Proposed Rule 
17.50(f) has been modified to clarify that the Exchange has the 
discretion not to issue a summary fine under Rule 17.50 in appropriate 
circumstances such as when extenuating circumstances exist or no 
remedial purpose would be served by the issuance of the fine. In 
addition, the Exchange would have the discretion to commence a formal 
disciplinary proceeding under Rule 17.2 whenever the Exchange 
determines that a rule violation is not minor in nature.
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    \6\ See Exchange Act Release No. 37255 (May 30, 1996), 61 FR 
28918 (June 6, 1996) (approving Chicago Stock Exchange Article XII, 
Rule 9).
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    The Exchange proposes to implement the proposed rule change within 
45 days after its approval by the Commission. The purpose of this time 
interval is to give the Exchange the opportunity to inform members of 
the approval of the proposed rule change in the Exchange's Regulatory 
Bulletin before the rule change is put into effect. The Exchange will 
publish the effective date of the rule change in the Exchange's 
Regulatory Bulletin and will notify the Commission of the effective 
date by letter.
2. Basis
    The Exchange believes the proposed rule change is consistent with 
section 6(b) of the Act,\7\ in general, and furthers the objectives of 
Section 6(b)(5),\8\ in particular. The Exchange believes the proposed 
rule change refines and enhances its rules relating to the exercise of 
options contracts and the procedures for minor rule violations thereby 
making both processes more efficient and effective. Accordingly, the 
Exchange believes the proposed rule change furthers the objectives of 
Section 6(b)(5) \9\ because it is designed to promote just and 
equitable principles of trade, of prevent fraudulent and manipulative 
acts and practices, to foster cooperation and coordination with persons 
engaged in regulating clearing, and settling securities transactions, 
and to protect investors and the public interest.
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    \7\ 15 U.S.C. 78f.
    \8\ 15 U.S.C. 78f(b)(5).
    \9\ Id.

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[[Page 63764]]

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

    The CBOE does not believe that 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

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

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

    Within 35 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (a) By order approve such proposed rule change, or
    (b) Institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change is consistent with the Act. 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 Room, 450 Fifth Street, NW, Washington, 
DC 20549. Copies of such filing will also be available for inspection 
and copying at the principal office of the CBOE. All submissions should 
refer to File No. SR-CBOE-98-33 and should be submitted by December 7, 
1998.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\10\
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    \10\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 98-30550 Filed 11-13-98; 8:45 am]
BILLING CODE 8010-01-M