[Federal Register Volume 65, Number 143 (Tuesday, July 25, 2000)]
[Notices]
[Pages 45805-45808]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 00-18743]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-4052; File No. SR-CBOE-00-16]


Self-Regulatory Organizations; Notice of Filing and Order 
Granting Accelerated Approval to a Proposed Rule Change and Amendment 
No. 1 to the Proposed Rule Change by the Chicago Board Options 
Exchange, Inc. Relating to an Increase in Narrow-Based Index Option 
Position and Exercise Limits

July 18, 2000.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934

[[Page 45806]]

(``Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on April 11, 2000, the Chicago Board Options Exchange, Inc. (``CBOE'' 
or ``Exchange'') filed with the Securities and Exchange Commission 
(``Commission'') a proposed rule change to increase the position and 
exercise limits for narrow-based index options. The CBOE amended its 
proposal on June 13, 2000.\3\ The proposed rule change, as amended, is 
described in Items I and II below, which have been prepared by the 
Exchange. The Commission is publishing this notice and order to solicit 
comments on the proposed rule change and Amendment No. 1 from 
interested persons and to approve the proposal, as amended, on an 
accelerated basis.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See letter from Mary L. Bender, Senior Vice President and 
Chief Regulatory Officer, Division of Regulatory Services, CBOE, to 
Joseph Corcoran, Division of Market Regulation (``Division''), 
Commission, dated June 12, 2000 (``Amendment No. 1''). In Amendment 
No. 1, the CBOE revised CBOE Rule 24.4A(a)(i) to provide that the 
position limits for options on a narrow-based index will be: (1) 
18,000 contracts if the CBOE determines, during the semi-annual 
review conducted pursuant to CBOE Rule 24.4A(a)(ii), that any single 
underlying stock accounted, on average, for 30% or more of the index 
value during the 30-day period immediately preceding the review; (2) 
24,000 contracts if the CBOE determines, during its semiannual 
review, that any single underlying stock accounted, on aveage, for 
20% or more of the index value or that any five underlying stocks 
together accounted, on average, for more than 50% of the index 
value, but that no single stock in the group accounted, on average, 
for 30% or more of the index value during the 30-day period 
immediately preceding the review; or (3) 31,500 contracts if the 
CBOE determines that the conditions specified in (1) or (2) which 
would require the establishment of a lower limit have not occurred.
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    The CBOE proposes to amend Exchange Rule 24.4A, ``Position Limits 
for Industry Index Options,'' to increase the position and exercise 
limits for narrow-based (industry) index options to the levels 
currently in place for industry index options listed on the 
Philadelphia Stock Exchange, Inc. (``Phlx'') and on the American Stock 
Exchange, Inc. (``Amex''). The text of the proposed rule change is 
available at the CBOE and at the Commission's public reference room.

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 III below. The CBOE 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
    The CBOE proposes to amend CBOE Rule 24.4A to increase the position 
and exercise limits for narrow-based (industry) index options, which 
are subject to a three-tier position and exercise limit 
determination.\4\ The CBOE's proposal, as amended, will make the CBOE's 
position and exercise limits for narrow-based index options consistent 
with a recently approved increase in position and exercise limits for 
narrow-based index options listed on the Phlx and Amex.\5\ 
Specifically, the CBOE proposes to increase the position and exercise 
levels for narrow-based index options from 9,000, 12,000 and 15,000 
contracts to 18,000, 24,000 and 31,500 contracts. The CBOE requests 
that the Commission approve the proposal on an accelerated basis to 
allow for uniformity among the options exchanges with regard to 
position and exercise limits for narrow-based index options, which in 
turn should promote fair competition among the exchanges. The CBOE 
believes that the possibility of investor confusion will be eliminated 
in a trading environment with uniform position and exercise limits for 
industry index options.
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    \4\ CBOE Rule 24.5, ``Exercise Limits,'' provides that the 
exercise limits for index options will be equivalent to the position 
limits prescribed for options with the nearest expiration date in 
CBOE Rule 24.4 or 24.4A.
    \5\ See Securities Exchange Act Release No. 42132 (November 12, 
1999), 64 FR 63837 (November 22, 1999) (order approving File Nos. 
SR-Amex 98-39 and SR-Phlx-98-39) (``Narrow-Based Index Option 
Order'').
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    The CBOE notes that exercise limits for narrow-based index options 
will continue to correspond to position limits, so that investors may 
exercise the number of contracts set forth as the position limit during 
any five consecutive business day period.
    As of April 3, 2000, the CBOE listed the following industry index 
options, with limits as shown:

    (1) S&P Banking Index--15,000 contracts;
    (2) S&P Chemical Index--9,000 contracts;
    (3) S&P Health Care Index--12,000 contracts;
(4) S&P Insurance Index--9,000 contracts;
(5) S&P Retail Index--12,000 contracts;
(6) S&P Transportation Index--12,000 contracts;
(7) CBOE Automotive Index--12,000 contracts;
(8) CBOE Computer Software Index--12,000 contracts;
(9) CBOE Gaming Index--12,000 contracts;
(10) CBOE Gold Index--15,000 contracts;
(11) CBOE Internet Index--15,000 contracts;
(12) CBOE Latin 15 Index--15,000 contracts;
(13) CBOE Mexico Index--12,000 contracts;
(14) CBOE Oil Index--15,000 contracts;
(15) CBOE Technology Index--15,000 contracts;
(16) GSTI Hardware Index--12,000 contracts;
(17) GSTI Internet Index--12,000 contracts;
(18) GSTI Multimedia Networking Index--12,000 contracts;
(19) GSTI Services Index--12,000 contracts;
(20) GSTI Software Index--12,000 contracts;
(21) DJUA Index--15,000 contracts;
(22) DJTA Index--15,000 contracts;
(23) Dow Jones Internet Commerce Index--15,000 contracts;
(24) Dow 10 Index--12,000 contracts; and,
(25) GSTI Semiconductor Index--12,000 contracts.

    In addition to providing regulatory equality, the CBOE believes 
that an increase in position and exercise limits for narrow-based index 
options is appropriate for several reasons. First, the CBOE believes 
that increased position and exercise limits for narrow-based index 
options may bring additional depth and liquidity, in terms of both 
volume and open interest, to these index options classes without 
significantly increasing concerns regarding inter-market manipulations 
or disruptions of the index options or the underlying component 
securities.
    Second, the CBOE notes that the Commission recently approved rule 
changes increasing the position and exercise limits for standardized 
equity option contracts. \6\ The Commission also approved the 
elimination of position

[[Page 45807]]

and exercise limits for certain broad-based index option contracts for 
a two-year pilot program.\7\ Given these recent changes to various 
options exchanges' position and exercise limit rules, the CBOE believes 
that it is reasonable to allow for corresponding changes to the 
position and exercise limits for narrow-based index options.
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    \6\ See Securities Exchange Act Release No. 40875 (December 31, 
1998), 64 FR 1842 (January 12, 1999) (order approving File Nos. SR-
CBOE-98-25, SR-Amex-98-22, SR-PCX-98-33, and SR-Phlx-98-36).
    \7\ See Securities Exchange Act Release Nos. 40969 (January 22, 
1999), 64 FR 4911 (February 1, 1999) (order approving File No. SR-
CBOE-98-23); and 41011 (February 1, 1999), 64 FR 6405 (February 9, 
1999) (order approving File No. SR-Amex-98-38).
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    Third, the CBOE notes that the proposal, while increasing the 
position limits for narrow-based index options, continues to reflect 
the unique characteristics of each index option and to maintain the 
structure of the current three-tiered system. Specifically, under the 
proposal, as amended, the lowest proposed limit, 18,000 contracts, will 
apply to narrow-based index options in which a single underlying stock 
accounted on average for 30% or more of the index value during the 30-
day period immediately preceding the Exchange's semi-annual review of 
industry index option position limits. A position limit of 24,000 
contracts will apply if: (i) Any single underlying stock accounted, on 
average, for 20% or more of the index value, or (ii) any five 
underlying stocks together accounted, on average, for more than 50% of 
the index value, but no single stock in the group accounted, on 
average, for 30% or more of the index value, during the 30-day period 
immediately preceding the Exchange's semi-annual review of industry 
index option position limits. The 31,500-contract limit will apply only 
if the Exchange determines that the above-specified conditions 
requiring either the 18,000-contract limit or the 24,000-contract limit 
have not occurred.
2. Statutory Basis
    The CBOE believes the proposed rule change is consistent with and 
furthers the objectives of Section 6(b)(5) \8\ of the Act in that it is 
designed to remove impediments to a free and open market and to protect 
investors and the public interest.
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    \8\ 15 U.S.C. 78f(b)(5).
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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 that is necessary or appropriate in 
furtherance of the purposes of the Act.

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. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
is consistent with the Act. Persons making written submissions should 
file six copies thereof with the Secretary, Securities and Exchange 
Commission, 450 Fifth Street, N.W., Washington, D.C. 20549-0609. 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 in the 
Commission's Public Reference Room. 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-00-16 and should 
be submitted by August 15, 2000.

IV. Commission's Findings and Order Granting Accelerated Approval 
of Proposed Rule Change

    The Commission finds that the proposal is consistent with the 
requirements of the Act.\9\ In particular, the Commission finds the 
proposal is consistent with Section 6(b)(5) \10\ of the Act. Section 
6(b)(5) requires, among other things, that the rules of an exchange be 
designed to prevent fraudulent and manipulative practices, to promote 
just and equitable principles of trade, and to protect investors and 
the public interest.
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    \9\ In approving this rule change, the Commission has considered 
the proposed rule's impact on efficiency, competition, and capital 
formation. 15 U.S.C. 78c(f).
    \10\ 15 U.S.C. 78f(b)(5).
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    The Commission believes that the CBOE's proposal to increase its 
position and exercise limits for narrow-based index options is 
appropriate for several reasons. First, the Commission notes that the 
proposal will increase the CBOE's position and exercise limits for 
narrow-based index options to the levels adopted by the Phlx and the 
Amex, which the Commission previously approved.\11\ Accordingly, the 
Commission finds that the proposal will help to assure fair competition 
among exchange markets, consistent with the Congressional findings in 
Section 11A(a)(1)(C)(iii) of the Act.\12\
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    \11\ See Narrow-Based Index Option Order, supra note 5.
    \12\ See 15 U.S.C. 78k-1(a)(1)(C)(iii).
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    Second, the Commission believes that increasing position and 
exercise limits for narrow-based index options may bring additional 
depth and liquidity, in terms of both volume and open interest, to 
these index options classes without significantly increasing concerns 
regarding intermarket manipulations or disruptions of the index options 
or the underlying component securities.
    Third, increasing position and exercise limits for narrow-based 
index options should better serve the hedging needs of institutions 
that engage in trading strategies different from those covered under 
the index hedge exemption policy.
    Fourth, the Commission notes that the proposal, while increasing 
the position limits for narrow-based index options, continues to 
reflect the unique characteristics of each index option and to maintain 
the structure of the current three-tiered system. Specifically, under 
the proposal, as amended, the lowest proposed limit, 18,000 contracts, 
will apply to narrow-based index options in which a single underlying 
stock accounted for 30% or more of the index value during the 30-day 
period immediately preceding the Exchange's semi-annual review of 
industry index option position limits. A position and exercise limit of 
24,000 contracts will apply if any single underlying stock accounted, 
on average, for 20% or more of the index value or any five underlying 
stocks accounted, on average, for more than 50% of the index value, but 
no single stock in the group accounted, on average, for 30% or more of 
the index value during the 30-day period immediately preceding the 
Exchange's semi-annual review of industry index option position limits. 
The 31,500-contract limit will apply only if the Exchange determines 
that the conditions requiring either the 18,000-contract limit or the 
24,000-contract limit have not occurred.\13\
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    \13\ See Amendment No. 1, supra note 3.
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    Fifth, the Commission believes that financial requirements imposed 
by the Exchange and by the Commission adequately address concerns that 
a CBOE member or its customers may try to maintain a large unhedged 
position in a narrow-based index option. In this regard, the Commission 
notes that

[[Page 45808]]

current margin and risk-based haircut methodologies serve to limit the 
size of positions that a CBOE member or its customer may maintain.\14\ 
The CBOE also has the authority under its rules to impose a higher 
margin requirement upon the member or member organization when it 
determines that a higher requirement is warranted.\15\ Monitoring 
accounts maintaining large positions should provide the Exchange with 
information necessary to determine whether to impose additional margin 
and/or whether to assess capital charges upon a member organization 
carrying the account. In addition, the Commission's net capital rule, 
Rule 15c3-1 under the Exchange Act, imposes a capital charge on members 
to the extent of any margin deficiency resulting from the higher margin 
requirement. The Commission also notes that the Options Clearing 
Corporation will serve as the counter-party guarantor in every 
exchange-traded transaction.
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    \14\ In particular, Exchange Act Rule 15c3-1 requires a capital 
change equal to the maximum potential loss on a broker-dealer's 
aggregate index position over a +(-) 10% market move. In addition, 
the adoption of risk-based haircuts in 1997 resulted in significant 
increases in capital charges for unhedged options positions. See 
Securities Exchange Act Release No. 38248 (February 6, 1997), 62 FR 
6474 (February 12, 1997) (adopting risk-based haircuts). With regard 
to margin requirements, CBOE Rule 12.3 provides a customer margin 
requirement for an unhedged position in a listed narrow-based index 
option equal to the option premium plus 20% of the product of the 
current index group value and the applicable index multiplier, 
reduced by any out-of-the-money account, with a minimum margin 
requirement equal to the option premium plus 10% of the product of 
the current index group value and the applicable index multiplier.
    \15\ See CBOE Rule 12.10.
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    Sixth, the Commission notes that the index options and other types 
of index-based derivatives (e.g., forwards and swaps) are not subject 
to position and exercise limits in the OTC market. The Commission 
believes that increasing position and exercise limits for narrow-based 
index options will better allow the Exchange to compete with the OTC 
market.
    Finally, the absence of any discernible manipulative problems for 
narrow-based index options at existing levels leads the Commission to 
conclude that the proposed increases are reasonable and that they can 
be safely implemented.\16\ The Commission believes that the Exchange's 
surveillance programs are adequate to detect and deter violations of 
position and exercise limits, as well as to detect and deter attempted 
manipulation and other trading abuses through the use of such illegal 
positions by market participants.\17\
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    \16\ Telephone Conversation between Mary L. Bender, Senior Vice 
President and Chief Regulatory Officer, Division of Regulatory 
Services, CBOE, and Joseph Corcoran, Division, Commission, on June 
27, 2000.
    \17\ The Commission emphasizes that the Exchange must closely 
monitor compliance with position and exercise limits and impose 
appropriate sanctions for failures to comply with the Exchange's 
position and exercise limit rules.
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    The Commission finds good cause to approve the proposed rule change 
and Amendment No. 1 prior to the thirtieth day after the date of 
publication of notice of filing thereof in the Federal Register. As 
discussed above, the proposed rule change, as amended, is identical to 
proposals by the Phlx and Amex that the Commission previously 
approved.\18\ The Commission notes that no comments were received on 
either the Phlx's or Amex's proposal. In addition, the Commission is 
not aware of any problems arising from the position and exercise limits 
approved in the Phlx and Amex proposals. Amendment No. 1 conforms 
CBOE's position and exercise limits for narrow-based index options to 
the levels adopted by the Phlx and Amex. Accordingly, the Commission 
finds that, consistent with Sections 6(b) and 19(b)(2) of the Act, 
there is good cause to approve the proposal and Amendment No. 1 to the 
proposal on an accelerated basis.
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    \18\ See Narrow-Based Index Option Order, supra note 5.
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    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\19\ that the proposed rule change (SR-CBOE-00-16), as amended, is 
hereby approved on an accelerated basis.
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    \19\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\20\
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    \20\ 17 CFR 200.30-3(a)(12).
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Jonathan G. Katz,
Secretary.
[FR Doc. 00-18743 Filed 7-24-00; 8:45 am]
BILLING CODE 8010-01-M