[Federal Register Volume 64, Number 72 (Thursday, April 15, 1999)]
[Notices]
[Pages 18648-18651]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 99-9356]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-41256; International Series Release No. 1190; File No. 
SR-PHLX-98-51]


Self-Regulatory Organizations, Notice of Filing of Proposed Rule 
Change by the Philadelphia Stock Exchange, Inc. Relating to Customized 
Cross-Rates Foreign Currency Option Margin Levels

April 6, 1999.
    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 November 16, 1998, the Philadelphia Stock Exchange, Inc. (``PHLX'' 
or ``Exchange'') filed with the Securities and Exchange Commission 
(``SEC'' or ``Commission'') the proposed rule change as described in 
Items I, II, and III below, which Items have been prepared by the PHLX. 
The PHLX amended the proposal on March 15, 1993.\3\ The Commission is 
publishing this notice to solicit comments on the proposed rule change, 
as amended, from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Letter from Nandita Yagnik, Counsel, PHLX, to Hong-anh 
Tran, Attorney, Division of Market Regulation (``Division''), 
Commission, dated March 15, 1999 (``Amendment No. 1'').
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    The Exchange proposes to amend PHLX Rule 722, Margin Accounts, to 
codify its method of calculating customer margin requirements for 
customized cross-rate foreign currency options (``CCRs'').\4\ The 
required margin for CCRs is determined by combining the actual cost of 
the CCR, or the ``premium,'' plus an extra or ``add-on'' amount that is 
raised or lowered according to the volatility of the currencies 
involved.\5\ The proposed method for calculating the margin for all 
CCRs will be outlined in PHLX Rule 722, Tiers I and II, and Commentary 
.15, with the exception of the margin for CCRs involving the Mexican 
peso,\6\ which will be calculated in accordance with Commentary .16 and 
will be placed in Tier III. Tier IV, which currently addresses Mexican 
peso CCR margin levels, will be deleted. The text of the proposed rule 
change follows. Proposed new language is italicized; proposed deletions 
are in [brackets].
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    \4\ CCRs are traded pursuant to PHLX Rule 1069. A CCR is an 
option to purchase or sell an underlying currency that can be any 
approved currency as defined pursuant to PHLX Rule 1009(c). 
Moreover, the option's exercise price is denominated in another 
approved currency (the trading currency), and neither the underlying 
nor the trading currency is denominated in U.S. dollars.
    \5\ The margin may also be reduced in ``out-of-the money'' 
situations, where the value of the option does not accord with 
current market conditions. Notwithstanding, the margin cannot be 
reduced to less than 100% of the current market value of the premium 
plus .75% of the underlying component value.
    \6\ The Exchange currently has Commission approval to trade, as 
CCRs, the Mexican peso only against the Canadian dollar. Thus, CCR 
options involving the Mexican peso include Canadian dollar/Mexican 
peso and Mexican peso/Canadian dollar contracts. See PHLX Rule 
1069(a)(1)(B).
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* * * * *

Margin Accounts

    Rule 722.(a)-(c)  No change.
    (d) 1-2  No change.
    3. Short Positions--Listed Options and Currency, Currency Index or 
Stock Index Warrants. Subject to the exceptions set forth below, the 
margin on any put or call option listed or traded on a registered 
national securities exchange or association and issued by a registered 
clearing corporation or any currency warrant, currency index warrant or 
stock index warrant which is issued, guaranteed or carried ``short'' in 
a customer's account shall be 100% of the current market value of the 
option or warrant plus the percentage of the current market value of 
the underlying security, foreign currency or index specified in column 
II below.
    Notwithstanding the margin required below, the minimum margin on 
any put or call or any warrant issued, guaranteed or carried ``short'' 
in a customer's account may be reduced by any ``out-of-the-money-
amount'' (as defined below), but shall not be less than 100% of the 
current market value of the option or warrant plus the percentage of 
current market value of the underlying security, foreign currency or 
index specified in column II below with the exception that the minimum 
margin required on each such put option contract shall not be less than 
the current option market value plus the minimum percentage set forth 
in column III of the option's aggregate exercise price amount.

[[Page 18649]]



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                                   II. Initial and/or
        I. Type of option              maintenance      III. Minimum margin     IV. Underlying component value
                                     margin required         required
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(1)..............................  ..................  No change...........  ...................................
(2)..............................  ..................  No change...........  ...................................
(3)..............................  ..................  No change...........  ...................................
(4) Foreign Currencies...........  (#)                 \3/4\%..............  The product of Units per foreign
                                                                              currentcy contract and the closing
                                                                              spot price.
(5) Cross-Rate...................  4%                  \3/4\%..............  The products Units per cross-rate
                                                                              contract and the closing spot
                                                                              price.
(6) Tier I Customized Cross-rate   4%                  \3/4\%..............  The product of Units per cross-rate
 currency options.                                                            contract and the closing spot
                                                                              price.
(7) Tier II Customized Cross-rate  6%                  \3/4\%..............  The product of Units per cross-rate
 currency options.                                                            contract and the closing spot
                                                                              price.
(8) Tier III Customized Cross-     [7%]##              \3/4\%..............  The product of Units per cross-rate
 rate currency options.                                                       contract and the closing spot
                                                                              price.
[(9) Tier IV Customized Cross-     17%                 \3/4\%..............  The product of Units per cross-rate
 rate currency options.                                                       contract and the closing spot
                                                                              price.
[(10)]9 7........................  ..................  No change...........
[(11)]10.........................  ..................  No change...........
[(12)]11.........................  ..................  No change...........
[(13)]12.........................  ..................  No change...........
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# The margin requirement for foreign currency options will be determined pursuant to Commentary .16 of this Rule
  722.
##The margin requirement for Tier III customized cross-rate foreign currency options will be determined pursuant
  to Commentary .15 and .16 of this Rule 722.

    Rule 722(d)4-5  No change.
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    \7\ Pursuant to a telephone conversation between Nandita Yagnik, 
Counsel, PHLX, and Hong-anh Tran, Attorney, Division, Commission, 
dated April 6, 1999, the PHLX proposes to renumber items (10) 
through (13) as items (9) through (12).
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    Rule 722(e)-(i)  No change.
* * * * *
Commentary
    .01-.14  No change.
    .15  For purposes of this rule, the Exchange shall designate the 
tier level of the customized cross-rate currency options. The Exchange 
shall make such determination for Tier I and Tier II options based upon 
the correlation between the currency pairs. Currency pairs which 
exhibit a correlation less than .25 over the preceding two year period 
shall be placed in Tier II while all other currency pairs shall be 
placed in Tier I. The correlations between the currency pairs in these 
two tiers shall be reviewed no less frequently than on a monthly basis. 
Tier III will include customized cross-rate currency options which 
involve [either the Italian lira or Spanish peseta. Tier IV will 
include customized cross-rate currency options which involve] the 
Mexican peso[.] and the margin requirement will be determined according 
to the methodology pursuant to Commentary .16 below.
    .16  The margin requirement for any foreign currency put or call 
option listed or traded on the Exchange and issued by a registered 
clearing corporation which is issued, guaranteed or carried ``short'' 
in a customer's account, except for cross-rate currency options other 
than customized cross-rate currency options based on the Mexican peso, 
shall be the amount provided in paragraph (d)(3) of this Rule 722 and 
shall be calculated as follows:
    (a) The Exchange will review five day price movements over the most 
recent three year period for each foreign currency underlying options 
traded on the Exchange and will set a margin level which would have 
covered the price changes over the review period at least 97.5% of the 
time (``confidence level'').
    (b) Subsequent reviews of five day price changes over the most 
recent three year period will be performed quarterly on the 15th of 
January, April, July and October of each year.
    (c) If the results of subsequent reviews show that the confidence 
level for any currency has fallen below 97%, the Exchange will increase 
the margin requirement for that currency up to a 98% confidence level. 
If the results show a confidence level between 97% and 97.5%, the 
currency will be monitored monthly until the confidence level exceeds 
97.5% for two consecutive months. If the results of a monthly review 
show that the confidence level has fallen below 97%, the margin 
requirement will be increased to a 98% confidence level. If the results 
of any review show that the confidence level has exceeded 98.5%, the 
margin level would be reduced to a level which would provide a 98% 
confidence level.
    (d) The Exchange will also review each currency for large price 
movements outside the margin level (``extreme outlier test''). If the 
results of any review show a price movement, either positive or 
negative, of greater than two times the current margin level, the 
margin requirement for that currency will be increased to a confidence 
level of 99%.
    (e) Pursuant to paragraph (i)(8) of this Rule 722, the Exchange may 
also conduct reviews of currency margin levels at any time that market 
conditions warrant.
* * * * *

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

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

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

1. Purpose
    Currently, the Exchange offers an array of foreign currency option 
products (``FCOs''), including among others, standardized and 
customized (the category into which CCRs fall) currency options which 
have differing

[[Page 18650]]

margin requirements. The Exchange currently lists standardized foreign 
currency options \8\ that include standardized options on eight foreign 
currencies (``Standardized FCOs'').\9\ The Exchange also lists two 
cross-rate (``Standardized CRs) \10\ currency options. The Exchange 
also presently lists customized foreign currency options (``Customized 
FCOs'') \11\ that include customized strikes (``Customized 
Strikes''),\12\ customized inverse FCOs (``Customized Inverses''),\13\ 
and CCRs.
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    \8\ Standardized options carry specific contract terms for 
features such as contract size, strike price intervals, expiration 
dates, price quoting and premium settlement.
    \9\ The eight foreign currencies previously approved for listing 
were the Australian dollar, British pound, Canadian dollar, German 
mark, European Currency Unit, French franc, Japanese yen and Swiss 
franc. See PHLX Rule 1009(c). The base currency (which is the 
currency in which premiums are quoted and paid) for these 
Standardized FCOs is the U.S. dollar. See Securities Exchange Act 
Release Nos. 19133 (October 14, 1982), 47 FR 46946 (October 21, 
1982) (File No. SR-Phlx-81-4) (regarding the listing and trading of 
standardized options based on the British pound, German mark, Swiss 
franc, Canadian dollar and Japanese yen); 20822 (April 4, 1984), 49 
FR 14611 (April 12, 1984) (File No. SR-Phlx-84-1) (regarding the 
listing and trading of Standardized FCOs based on the French franc); 
22853 (February 3, 1986), 51 FR 5129 (February 11, 1986) (File No. 
SR-Phlx-85-10) (regarding the listing and trading of Standardized 
FCOs based on the European Currency Unit); and 23945 (December 30, 
1986), 52 FR 633 (January 7, 1987) (File No. SR-Phlx-86-38) 
(regarding the listing and trading of Standardized FCOs based on the 
Australian dollar).
    \10\ The Exchange presently offers two Standardized CRs, the 
Deutsche mark/Japanese yen and the British pound/Deutsche mark. The 
Exchange also has approval to trade a third standardized CR, the 
British pound/Japanese yen, however, it has not yet been made 
available for trading. See Securities Exchange Act Release No. 29919 
(November 7, 1991), 56 FR 58109 (November 15, 1991) (File Nos. SR-
Phlx-90-12; SR-Phlx-91-03; SR-Phlx-91-23).
    \11\ Customized options allow users to customize all aspects of 
a currency option including: choice of exercise price, the 
expiration dates of up to two years, and premium quotation as either 
units of currency or percent of underlying value. Presently, the 
Exchange lists customized, not standardized, currency options 
involving the Italian lira, the Spanish peseta, and the Mexican 
peso. See PHLX Rules 1009(c) and 1069.
    \12\ The Exchange offers Customized Strikes on any approved 
currency presently listed under PHLX Rule 1009(c). Customized 
Strikes provide FCO traders and their customers with the ability, 
within certain limits, to trade an FCO with any exercise price it 
chooses on a specific approved currency even if that price does not 
correspond to an exercise price of a listed standardized FCO. See 
Securities Exchange Act Release No. 34925 (November 1, 1994), 59 FR 
55720 (November 8, 1994) (File No. SR-Phlx-94-18).
    \13\ A Customized Inverse is a Customized FCO where the 
underlying currency (the currency in which an FCO settles) is the 
U.S. dollar. The Exchange presently provides for the trading of 
Customized Inverses on any of the approved currencies. See 
Securities Exchange Act Release No. 34925 (November 1, 1994), 59 FR 
55720 (November 8, 1994) (File No. SR-Phlx-94-18).
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    The add-on margin calculation methodology for Standardized FCOs is 
based on a methodology, outlined in Commentary .16 to PHLX Rule 
722.\14\ Standardized CRs presently carry an initial and maintenance 
add-on margin of 4%, which covers greater than 96% of all seven-day 
price movements over the preceding one-year period.\15\ Customized 
Inverses and Customized Strikes that trade in U.S. dollars are 
currently margined following the same methodology as the Exchange's 
Standardized FCOs (see Commentary .16 to PHLX Rule 722).
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    \14\ See Securities Exchange Act Release No. 40208 (July 5, 
1998), 63 FR 39388 (July 22, 1998) (File No. SR-Phlx-97-63).
    \15\ See Securities Exchange Act Release No. 29919 (November 7, 
1991), 56 FR 58109 (November 15, 1991) (File No. SR-Phlx-90-12); SR-
Phlx-91-03; SR-Phlx-91-23).
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    The add-on margin requirements for CCRs,\16\ however, developed 
differently from that of Standardized FCOs, or Standardized CRs. The 
Exchange developed a method for determining add-on margin levels for 
currency pairs using a tiered system, believing that it would prove 
burdensome to determine the margin level for each currency pair due to 
the numerous combinations of approved currencies.\16\ Under the tiered 
system, margin levels are determined based upon the correlations 
between all the possible combinations of approved currencies, thus 
significantly reducing the burden on the Exchange to calculate the 
margin levels for each individual currency pair.
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    \16\ The add-on margin treatment for Customized Strikes based on 
CCRs (i.e., a CCR with a customized strike price) follows the same 
tiered system as CCRs.
    \17\ See Securities Exchange Release No. 34925 (November 1, 
1994), 59 FR 55720 (November 8, 1994) (File No. SR-Phlx-94-18).
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Changes to the Margin for CCRs Involving Italian Lira and Spanish 
Peseta

    There are four tiers in the system (I-IV), each of which provides 
an overall margin for short CCR positions, which include an add-on 
percentage amount for both initial and maintenance margins (e.g., 4% 
for Tier I) as well as a set minimum add-on margin requirement, which 
is currently \3/4\% for each tier. Currently, Tier III applies to CCRs 
involving the Italian lira and the Spanish peseta, such that any CCRs 
involving those currencies would have an add-on margin requirement of 
7%.\18\ The Exchange now proposes to set add-on margins for CCRs 
involving the Italian lira and the Spanish peseta following the same 
correlation method used for CCRs other than the Mexican peso.\19\ For a 
pair of approved currencies, this method examines the correlation 
between the daily price change for one of those currencies with the 
daily price change for the other currency for the preceding two-year 
period. If the correlation is greater than or equal to .25, then the 
add-on margin level is 4% for that currency pair (i.e., Tier I). If the 
correlation is below .25, then the add-on margin level for the currency 
pair is 6% (i.e Tier II).Commentary .15 to PHLX Rule 722 (as well as 
the chart within that Rule) will be amended to reflect these changes to 
the status of CCRs involving the Italian lira and the Spanish peseta.
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    \18\ The Exchange indicates that when the Commission approved 
CCRs on the Italian lira and the Spanish peseta, the margin level of 
7% was determined by the frequency of distributions method 
reflecting at least 97.5% of all seven day price movements over the 
preceding three-year period. Specifically, the 7% margin covered 
98.84% and 99.10% of all seven day price changes over the three-year 
review period involving the Italian lira and the Spanish peseta, 
respectively.
    \19\ The PHLX represents that the Italian lira and Spanish 
peseta have become more established currencies in the currency 
market, and therefore should be margined in accordance with margins 
for other approved currencies in a customized cross-rate context. 
Specifically, the risks involved in trading CCRs involving the lira 
or peseta have now been reduced so that the 7% customer margin add-
on percentage for either case, based on at least 97.5% confidence 
level, is no longer necessary.
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    The PHLX Examinations Department will review the correlation 
between the currency of pairs monthly. The currency pairs underlying 
the customized cross-rate options may move between Tiers I and II 
depending upon their correlation to each other in the preceding period. 
If the monthly review reveals that any combination of approved 
currencies should be in a different tier based on the correlation, the 
Exchange will implement the change immediately, and promptly notify the 
membership and Commission.
    The Exchange also proposes including an additional adjustment for 
``out-of-the-money amounts'' in those CCRs involving the Italian lira 
or the Spanish peseta. This adjustment is currently applied to the 
overall initial and maintenance margin for all the currency pairs 
currently in Tiers I and II, but not to those involving the Italian 
lira or the Spanish peseta.\20\
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    \20\ See Securities Exchange Act Release 34925 (November 1, 
1994), 59 FR 55720 (November 8, 1994) (File No. SR-Phlx-94-18); and 
See Securities Exchange Act Release No. 40208 (July 5, 1998), 63 FR 
39338 (July 22, 1998) (File No. SR-Phlx-97-63).
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Changes to Add-On Margin for CCRs Involving the Mexican Peso

    Tier IV presently applies to CCRs involving the Mexican peso.\21\ 
Tier IV

[[Page 18651]]

requires an initial and/or maintenance add-on margin of 17%, and covers 
99% of all five-day price movements over the preceding three-year 
period. Currently, under Tier III, there is a 7% initial and/or 
maintenance add-on margin. Under the proposal, the 7% add-on will be 
eliminated and the margin requirement for Tier III CCRs will be 
determined pursuant to Commentary .15 and .16 of PHLX Rule 722, as 
amended.\22\ The Exchange now proposes to delete Tier IV and to amend 
Tier III to apply to margin levels for CCRs involving the Mexican peso. 
Under the proposed method for calculating the add-on margin for CCRs 
involving the Mexican peso, the Exchange will still review five-day 
price movements over the most recent three-year period but the 
calculation as proposed would cover cover at least 97.5% of all such 
five-day price movements rather than the current 99%. This 
determination is the same as that currently applied to Standardized 
FCOs covered by Commentary .16 to PHLX Rule 722. The PHLX Examinations 
Department will review margin levels for CCRs involving the Mexican 
peso quarterly, at the same time such review is conducted for 
Standardized FCOs. The Exchange indicates that applying the add-on 
margin methodology outlined in Commentary .16 to Mexican peso CCRs will 
eliminate the need to state the actual add-on margin levels for 
Canadian dollar/Mexican peso and Mexican peso/Canadian dollar CCR 
contracts. Instead, the Exchange proposed to provide notice of the add-
on margin levels for Mexican peso CCRs quarterly via circulars to the 
membership, the other market participants, and the Commission. The 
notice will follow the schedule outlined for quarterly reviews 
conducted for Standardized FCOs.
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    \21\ The Mexican peso may only be traded as CCRs against the 
Canadian dollar. See PHLX Rule 1069(a)(1)(B); See Securities 
Exchange Act Release No. 34925 (November 1, 1994), 59 FR 55720 
(November 8, 1994) (File No. SR-Phlx-94-18).
    \21\ The Exchange is proposing to amend Commentary .15 to remove 
the Italian lira and Spanish peseta CCRs from Tier III, to remove a 
reference to Tier IV, and to move CCRs involving Mexican pesos to 
Tier III, to note that margin for Mexican peso CCRs is to be 
calculated pursuant to Commentary .16. The Exchange is proposing to 
amend Commentary .16 to clarify that CCRs involving the Mexican peso 
are to be calculated under the formula set out in that commentary.
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2. Statutory Basis
    The proposed rule change is consistent with Section 6 of the 
Act,\23\ and specifically Section 6(b)(5) thereof,\24\ in that it is 
designed (a) to promote just and equitable principles of trade; (b) to 
foster cooperation and coordination with persons engaged in regulating, 
clearing, settling, and processing information with respect in CCRs; 
and (c) to facilitate transactions in securities by establishing a 
methodology for the calculation of margin levels for CCRs that will 
remain consistent and ease the burden of determining new margin levels 
for each currency traded in the customized environment.
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    \23\ 15 U.S.C. 78f(b).
    \23\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The PHLX does not believe that the proposed rule change will impose 
any inappropriate 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 either solicited or received.

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 Exchange 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 20549-0609. 
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 with the 
Commission's Public Reference Section, 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 Exchange.
    All submissions should refer to File No. SR-Phlx-98-51 and should 
be submitted by May 6, 1999.

    For the Commission by the Division of Market Regulation, 
pursuant to delegated authority.\25\
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    \25\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 99-9356 Filed 4-14-99; 8:45 am]
BILLING CODE 8010-01-M