[Federal Register Volume 64, Number 105 (Wednesday, June 2, 1999)]
[Notices]
[Pages 29729-29731]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 99-13930]


-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-41440; File No. SR-Phlx-98-09]


Self-Regulatory Organizations; Philadelphia Stock Exchange, Inc.; 
Order Approving Proposed Rule Change to Amend Exchange Rule 1101A and 
Revise the Intervals Between Index Option Strike Prices

May 24, 1999.

I. Introduction

    On February 5, 1998, the Philadelphia Stock Exchange, Inc. 
(``Exchange'' or ``Phlx'') filed with the Securities and Exchange 
Commission (``Commission''), pursuant to Section 19(b)(1) of the 
Securities Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 
thereunder,\2\ a proposed rule change that would revise Exchange Rule 
1101A(a) to modify the strike price intervals for index options. The 
proposed rule change was published for comment in the Federal Register 
on May 13, 1998.\3\ The Commission did not receive any comments on the 
proposal. This order approves the proposed rule change.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Securities Exchange Act Release No. 39964 (May 6, 1998), 63 
FR 26667 (May 13, 1998).
---------------------------------------------------------------------------

II. Description of the Proposal

    During recent years, the number of new option products and total 
series listed by the national securities exchanges has significantly 
risen. This growth in new options products has increased the number of 
continuous quote changes disseminated by the exchanges to the Options 
Price Reporting Authority (``OPRA'') \4\ and by OPRA to securities 
information vendors. In an effort to curb the growth of strike price 
dissemination and to more accurately reflect the strike prices 
currently being listed, the Exchange proposes to amend Exchange Rule 
1101A(a), ``Terms of Options Contracts,'' to revise the intervals 
between index option strike (exercise) prices. The Exchange believes 
the revisions will facilitate the prompt dissemination of quote 
information and more accurately reflect the strike prices currently 
being listed.
---------------------------------------------------------------------------

    \4\ OPRA is a National Market System Plan under Section 11A of 
the Act that provides for the collection and dissemination of last 
sale and quotation information on options that are traded on the 
member exchanges. The five exchange markets that are members of the 
OPRA Plan are the American Stock Exchange, Chicago Board Options 
Exchange, New York Stock Exchange, Pacific Exchange, and Phlx.
---------------------------------------------------------------------------

    Presently, Exchange Rule 1101A(a) establishes a formula for strike 
price intervals which takes into consideration the index value and time 
remaining until expiration. The Rule establishes a stroke price 
interval of $5, except: (i) Where the strike price exceeds $500, the 
strike price interval may be $10; and (ii) where the strike price 
exceeds $1,000, the interval may be $20. The Exchange may also 
determine to list strike prices at wider intervals in ``out-of-the 
money'' for far term series, generally $25, except: (i) Where the 
strike price exceeds $500, the interval may be $50; and (ii) where the 
strike price exceeds $1,000, the interval may be $100. Furthermore, 
where strike price intervals would be greater than $5, the Exchange may 
list additional strike prices at alternative $5 intervals in response 
to demonstrated customer interest or specialist request.
    The current version of Exchange Rule 1101A(a) was adopted in 
1996,\5\ and was intended to improve the Exchange's strike price 
dissemination policy. Based on its experience implementing Rule 
1101A(a), the Exchange has determined to revise and simplify the Rule 
for easier administration. The Exchange believes the revised Rule will 
more accurately reflect the needs of the marketplace. The Exchange has 
concluded that basing the strike price interval on an option's value 
(in the case of options greater than $500 or $1000) has not proven 
useful. The Exchange believes that widening the interval in far-term 
series should help to reduce the number of outstanding series listed.
---------------------------------------------------------------------------

    \5\ See Securities Exchange Release No. 37003 (Mar. 21, 1996), 
61 FR 13913 (Mar. 28, 1996).
---------------------------------------------------------------------------

    The Exchange's proposed rule change would establish new strike 
price intervals of: (i) $5 for the three consecutive near-term months; 
(ii) $10 for the fourth month; and (iii) $30 for the fifth month. 
However, the Exchange would retain the ability to list additional 
strike prices at alternative $5 intervals in response to demonstrated 
customer interest or specialist request. The Exchange believes the 
continued ability to add strike prices at alternative $5 intervals in 
response to customer interest will maintain flexibility in the 
marketplace and preserve specific trading opportunities.
    The Exchange believes that listing far-term series at wider strike 
price intervals should improve the efficiency of quotation 
dissemination and facilitate speedy pricing by reducing the number of 
listed strike prices. The Exchange predicts the immediate effect should 
be a reduction in the number of index option strike prices. 
Furthermore, the Exchange believes it will experience a

[[Page 29730]]

reduction in its systems capacity and usage as well as its operational 
burdens. For instance, strike prices currently occupy trading floor 
screen space and consume transmission line traffic to OPRA and outside 
vendors that disseminate Exchange trading information. Lastly, the 
Exchange believes the proposal will enhance the role of the specialist 
in monitoring multitudes of strike prices.

III. Discussion

    For the reasons discussed below, the Commission finds that the 
proposed rule change is consistent with the requirements of the Act and 
the rules and regulations thereunder applicable to a national 
securities exchange, and, in particular, with the requirements of 
Section 6(b).\6\ Specifically, the Commission believes the proposed 
rule change is consistent with the Section 6(b)(5) \7\ requirements 
that the rules of an exchange market be designed to promote just and 
equitable principles of trade, remove impediments to and perfect the 
mechanism of a free and open market and a national market system, and, 
in general, protect investors and the public interest.\8\
---------------------------------------------------------------------------

    \6\ 15 U.S.C. 78f(b).
    \7\ 15 U.S.C. 78f(b)(5).
    \8\ In approving the proposed rule change, the Commission has 
considered the proposal's impact on efficiency, competition, and 
capital information. 15 U.S.C. 78c(f).
---------------------------------------------------------------------------

    Compared to the equity securities that underlie many exchange-
traded derivative products, option contracts generate significant quote 
volume because of the various contract months, differentiation between 
puts and calls, and multiple strike prices. Although trading in option 
contracts accounts for a small percentage of securities transactions in 
the aggregate, some have estimated that options quotes--reflecting the 
numerous classes and series--comprise more than 50% of all quote 
traffic.\9\ In some cases, vendors lacking technological capacity have 
resorted to screening options quotes and selectively disseminating 
those quotes believed to be of most interest to customers.\10\
---------------------------------------------------------------------------

    \9\ See e.g., SEC's Lindsey to Host Meeting Tomorrow on Quote 
Traffic, Wall Street Letter, June 8, 1998, at 6.
    \10\ See Options Marts to oversee Selective Quoting, Wall Street 
Letter, December 15, 1997, at 9. The screening usually occurs during 
the first 15-20 minutes of the trading day when vendors receive a 
wave of options quotes from the options exchanges.
---------------------------------------------------------------------------

    In addition, the number of new option products and total series 
listed by the national securities exchanges has grown dramatically, 
thereby increasing the number of continuous quote changes disseminated 
by the exchanges to the OPRA.
    The Commission believes the Exchange's proposal is reasonable and 
will help to ameliorate quote traffic by reducing the number of index 
option strike prices. In particular, the proposal will establish new 
strike price intervals of: (i) $5 for the three consecutive near-term 
months; (ii) $10 for the fourth month; and (iii) $30 for the fifth 
month. The Exchange will retain the ability to list additional strike 
prices at alternative $5 intervals in response to demonstrated customer 
interest or specialist request.
    The Commission believes the wider strike price intervals for the 
fourth and fifth month series reasonably balances the Exchange's 
interest in limiting the number of outstanding strike prices in less 
active series with its interest in accommodating the needs of 
investors. Generally, index option series nearest to expiration attract 
most of the trading activity while those farther out tend to attract 
less interest from customers and floor traders. Although far-term index 
option series are more likely to have no open interest,\11\ their 
quotes nonetheless contribute to the congestion. Therefore, 
eliminating, some of the quotes for less active, far-term index option 
series through wider strike price intervals will help to decrease quote 
traffic without disrupting the active trading in near-term index option 
series. By maintaining the $5 strike price interval for the three 
consecutive near-term months, the Exchanger has ensured that the 
revised strike price intervals will not affect the overwhelming 
majority of index options trading that now regularly occurs in near-
term months. Thus, the proposed reduction of strike prices for index 
options will be limited to the series with the least active trading 
interest.
---------------------------------------------------------------------------

    \11\ According to some options industry studies, up to 40% of 
listed options issues have no open interest. See Gregory Crawford, 
No Easy Answers to US Options Quote Volume Problem, Reuters 
Financial Service, May 4, 1997.
---------------------------------------------------------------------------

    The Commission notes that the revised strike price intervals will 
apply only to index options and will not modify the strike price 
intervals for equity or currency options traded on the Exchange. At the 
present, the Exchange offers options on 14 different stock indexes.\12\ 
Although the quote traffic relating to a substantial segment of the 
Exchange's options products will therefore remain unaffected by the 
proposal,\13\ the Commission believes the Exchange's proposal is a 
practical initiative that addresses the problem of increasing quote 
traffic.
---------------------------------------------------------------------------

    \12\ The Exchange offers options on the following stock indexes: 
Computer Box Maker Sector, KBW Bank Sector, Forest & Paper Products 
Sector, Gold/Silver Sector, National Over-the-Counter Sector, Oil 
Service Sector, OTC Prime Sector, Phone Sector, Semiconductor 
Sector, SuperCap Sector, TheStreet.com Internet Sector, U.S. Top 100 
Index, Utility Sector, and Value Line Composite Index.
    \13\ In addition to offering options on 14 stock indexes, the 
Exchange lists nearly 870 equity options and 100 currency pairs.
---------------------------------------------------------------------------

    To evaluate the impact of the proposal, the Exchange analyzed the 
distribution of strike prices for several of its actively traded stock 
indexes. The review indicates that in some cases the number of strike 
prices can be expected to significantly drop as a result of the revised 
intervals. For example, the number of strike prices for options on the 
Gold/Silver Sector Index would fall from 75 to 59, a 21% reduction. 
Likewise, the number of strike prices for options on the Oil Service 
Sector Index would drop 17%, from 58 to 48.\14\ The Commission believes 
the reduction in strike prices will help to alleviate the quote traffic 
that currently flows from the Exchange.
---------------------------------------------------------------------------

    \14\See Letter to Michael Loftus, Attorney, Division of Market 
Regulation, Commission, from Nandita Yagnik, Attorney, Exchange, 
dated November 6, 1998. The Exchange's analysis further indicates 
that the number of strike prices for options on the U.S. Top 100 
Index would decline from 61 to 54, a 12% reduction.
---------------------------------------------------------------------------

    The Commission believes it is important that the Exchange will 
retain the ability to list additional strike prices at alternative $5 
intervals in response to demonstrated customer interest \15\ or 
specialist request. The Commission believes the continued ability to 
add strike prices at alternative $5 intervals will provide the Exchange 
with the requisite flexibility to satisfy investor needs and respond to 
customer interest in specific trading opportunities. Furthermore, the 
customer request provision should help to ensure the availability of 
options series that provide investors with a means to adequately hedge 
their portfolios and implement trading strategies designed to meet 
their investment objectives. The Commission expects the Exchange to 
closely monitor the listing of additional strike prices at alternative 
intervals to ensure that new strike prices are added only in response 
to demonstrated customer interest or specialist request. Unless the 
Exchange properly controls the addition of alternative strike prices, 
the effectiveness of the proposal may be undermined if strike prices 
proliferate

[[Page 29731]]

without good cause (i.e., genuine customer interest or specialist 
request).
---------------------------------------------------------------------------

    \15\ As defined in Exchange Rule 1101A, the term ``demonstrated 
customer interest'' includes institutional (firm), corporate, or 
customer interest expressed directly to the Exchange or through the 
customer's floor brokerage unit, but not interest expressed by a ROT 
(Registered Options Trader) with respect to trading for the ROT's 
own account.
---------------------------------------------------------------------------

    The Commission is confident that the Exchange's proposal will not 
adversely affect or disrupt the current system of option quote 
collection and dissemination. Specifically, OPRA has advised the 
Commission that the Exchange's proposal would have no negative impact 
on the operations of OPRA.\16\ In addition, OPRA stated that if the 
other options exchanges adopted similar proposals, the number of strike 
prices and the level of quote traffic would be reduced.
---------------------------------------------------------------------------

    \16\ See Letter to Michael Loftus, Attorney, Division of Market 
Regulation, Commission, from Joseph P. Corrigan, Executive Director, 
OPRA, dated September 10, 1998.
---------------------------------------------------------------------------

    The Commission believes the Exchange's proposal is consistent with 
efforts undertaken to limit the unnecessary proliferation of option 
strike prices.\17\ In recently approving 2\1/2\ point strike price 
intervals for 200 exchange-listed equity options classes, the 
Commission cited the need to balance an exchange's desire to 
accommodate market participants by offering a wide array of investment 
opportunities and the need to avoid unnecessary proliferation of 
options series.\18\ The Commission believes the Exchange's proposal 
achieves such a balance by reducing the number of index option strike 
prices but also retaining varied investment opportunities through the 
listing of alternative, customer-requested strike prices.
---------------------------------------------------------------------------

    \17\ For example, the American Stock Exchange delisted 250 
inactively traded index option series in September, 1997, in an 
attempt to reduce quote traffic. See Amex Delists Index Options 
Series, Wall Street Letter, September 1, 1997, at 4.
    \18\ See Securities Exchange Act Release No. 40662 (Nov. 12, 
1998), 63 FR 64297 (Nov. 19, 1998) (joint order approving File Nos. 
SR-Amex-98-21, SR-CBOE-98-29, SR-PCX-98-31, and SR-Phlx-98-26).
---------------------------------------------------------------------------

    Moreover, because strike prices for index options must be displayed 
on the Exchange's trading floor, disseminated to outside vendors, and 
monitored by specialists, the Commission believes the proposal should 
reduce the systems and operational burdens associated with the listing 
of strike prices in far-term series of index options. By reducing the 
number of listed strike prices, the proposal should improve the 
efficiency of quotation dissemination and speedy pricing of index 
options, thereby helping the Exchange to maintain fair and orderly 
options markets.
    Finally, the Commission believes the Exchange will implement the 
proposal in an orderly manner that will not disrupt current trading in 
far-term options series. In particular, the Exchange will begin listing 
index option strike prices at the new, wider intervals following the 
first quarterly expiration after Commission approval of the proposed 
rule change.\19\ Therefore, after the next quarterly expiration in 
June, 1999, the Exchange will implement the proposal by listing strike 
prices for far-term index option series at wider intervals. The 
Commission expects the Exchange to issue a circular to members 
informing them of the new strike price intervals and the scheduled date 
of implementation. The Commission believes it is important that all 
market participants be advised of the changes so they are provided with 
sufficient time and notice to make any necessary adjustments to their 
positions and strategies.
---------------------------------------------------------------------------

    \19\ Telephone conversation between Michael Loftus. Attorney, 
Division of Market Regulation, Commission, and Nandita Yagnik, 
Attorney, Exchange (Dec. 17, 1998). The Commission notes that this 
practice is consistent with the one employed by the Exchange in 1996 
to implement previous revisions to index option strike price 
intervals. See Securities Exchange Act Release No. 37003 (Mar. 21, 
1996), 61 FR 13913 (Mar. 28, 1996).
---------------------------------------------------------------------------

IV. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\20\ that the proposed rule change (SR-Phlx-09) is approved.

    \20\ 17315 U.S.C. 87s(b)(2).
---------------------------------------------------------------------------

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\21\
---------------------------------------------------------------------------

    \21\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 99-13930 Filed 6-1-99; 8:45 am]
BILLING CODE 8010-01-M