[Federal Register Volume 67, Number 95 (Thursday, May 16, 2002)]
[Notices]
[Pages 34980-34982]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 02-12204]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-45899; File No. SR-Phlx-2002-33]


Self-Regulatory Organizations; Notice of Filing and Immediate 
Effectiveness of Proposed Rule Change by the Philadelphia Stock 
Exchange, Inc. To Eliminate Position and Exercise Limits for Certain 
Qualified Hedge Strategies

May 9, 2002.
    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 April 30, 2002, 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 
Exchange. The Commission is publishing this notice to solicit comments 
on the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    The Exchange is proposing to amend Commentary .07 to Phlx Rule 1001 
to eliminate position and exercise limits for certain qualified hedge 
strategies relating to stock and Exchange-Traded Fund (``ETF'') Share 
options and to establish a position and exercise limit of five times 
the standard limit for those strategies that include an OTC option 
contract. The current reporting procedures that serve to identify and 
document hedged positions will continue to apply. The text of the 
proposed rule change is available at the Office of the Secretary, the 
Exchange, 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 Exchange 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 Exchange 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 Exchange is proposing to eliminate position and exercise limits 
when certain qualified strategies are employed to establish a hedged 
equity option position and to establish a position and exercise limit 
of five times the standard limit for those strategies that include an 
OTC option contract. Current Commentary .05 to Phlx Rule 1001 provides 
position and exercise limits for stock and ETF Share options of 13,500, 
22,500, 31,500, 60,000 and 75,000 options contracts on the same side of 
the market depending on the level of underlying trading volume over a 
six-month period.\3\ The existing hedge exemption found in Commentary 
.07 to Phlx Rule 1001 provides an exemption to position and exercise 
limits of up to three (3) times the standard limit for certain 
qualified hedge strategies as follows: (i) long call and short stock; 
(ii) short call and long stock; (iii) long put and long stock; and (iv) 
short put and short stock.\4\
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    \3\ See Securities Exchange Act Release No. 48075 (December 31, 
1998), 64 FR 1842 (January 12, 1999).
    \4\ See Securities Exchange Act Release No. 25738 (May 24, 
1988), 53 FR 20201 (June 2, 1988).
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    Since the inception of the equity hedge exemption in 1988,\5\ the 
types of hedge strategies employed by market participants have become 
increasingly more diversified. The Exchange believes that, through its 
experience in administering and processing equity hedge exemption 
information, it has learned that market participants no longer rely 
strictly on a stock-option hedge. Additionally, while traditional hedge 
strategies such as a covered call or reverse conversion strategy 
continue to be utilized, the Phlx believes that listed options 
contracts are now employed to hedge a wider spectrum of securities.
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    \5\ See supra note 8.
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    In response to the Commission's liberalization in granting position 
limit relief for market neutral strategies, and to more fully 
accommodate the hedging needs of investors, the Exchange is proposing 
to eliminate position and exercise limits when certain qualified 
strategies are employed to establish a hedged equity options position. 
Accordingly, the Phlx proposes to expand the definition of a 
``qualified'' hedged position found in Commentary .07 to Phlx Rule 
1001. The proposed qualified hedged strategies are as follows:
    1. Where each option contract is ``hedged'' by the number of shares 
underlying the option contract or securities convertible into the 
underlying security or, in the case of an adjusted option, the same 
number of shares represented by the adjusted contract: (a) long call 
and short stock; (b) short call and long stock; (c) long put and long 
stock; or (d) short put and short stock.
    2. Reverse Conversions--A long call position accompanied by a short 
put position, where the long call expires with the short put and the 
strike price of the long call and short put is the same, and where each 
long call and short put contract is hedged with 100 shares (or other 
adjusted number of shares) of the underlying security or securities 
convertible into such underlying security.\6\
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    \6\ For these strategies one of the option components can be an 
OTC option guaranteed or endorsed by the firm maintaining the 
proprietary position or carrying the customer account. Hedge 
transactions and positions established pursuant to these strategies 
are subject to a position limit equal to five times the standards 
limit established under Commentary .05 to Phlx Rule 1001. For 
purposes of this rule filing, an OTC option contract is defined as 
an option that is not listed on a National Securities Exchange or 
cleared at the Options Clearing Corporation.

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[[Page 34981]]

    3. Conversions--A short call position accompanied by a long put 
position, where the short call expires with the long put and the strike 
price of the short call and long put is the same, and where each short 
call and long put contract is hedged with 100 shares (or other adjusted 
number of shares) of the underlying security or securities convertible 
into such underlying security.\7\
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    \7\ Id.
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    4. Collars--A short call position accompanied by a long put 
position, where the short call expires at the same time as the long put 
and the strike price of the short call equals or exceeds the strike 
price of the long put position and where each short call and long put 
position, is hedged with 100 shares of the underlying security (or 
other adjusted number of shares).\8\ Neither side of the short call/
long put position can be in-the-money at the time the position is 
established.
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    \8\ Id.
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    5. Box Spreads--A long call position accompanied by a short put 
position, where both the long call and short put have the same strike 
price, and a short call position accompanied by a long put position, 
where the short call and long put have the same strike price as each 
other, but a different strike price than the long call/short put 
position.
    6. Back-to-Back Options--A listed option position hedged on a one-
for-one basis with an over-the-counter (``OTC'') option position on the 
same underlying security. The strike price of the listed option 
position and corresponding OTC option position must be within one 
strike price interval of each other and no more than one expiration 
month apart.
    For reverse conversion, conversion and collar strategies, one of 
the option components can be an OTC option guaranteed or endorsed by 
the firm maintaining the proprietary position or carrying the customer 
account.
    Within the list of proposed hedge strategies eligible for the 
Equity Hedge Exemption, the Exchange proposes that the option component 
of a reversal, a conversion or a collar position can be treated as one 
contract rather than as two (2) contracts. All three strategies serve 
to hedge a related stock portfolio. Because these strategies require 
the contemporaneous \9\ purchase/sale of both a call and put component, 
against the appropriate number of shares underlying the option 
(generally 100 shares) the Exchange believes that the position should 
be treated as one contract for hedging purposes.
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    \9\ At or about the same time.
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    With the exception of covered stock positions, the Phlx believes 
that all other proposed qualified strategies are market neutral,\10\ 
that none of the proposed strategies lend themselves to market 
manipulation and, they therefore, should qualify for the Equity Hedge 
Exemption. In addition, the Exchange believes that the current 
reporting requirements under Phlx Rule 1003 and internal surveillance 
procedures for hedged positions will enable the Exchange to closely 
monitor sizeable option positions and corresponding hedges.
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    \10\ Where covered stock transactions are not market neutral 
(i.e., long stock/short call; short stock/short put); the market 
exposure on such activity resides with the stock position where no 
limit is imposed. The Phlx believes that, as the short option 
premium serves to mitigate the stock exposure, no limit should be 
imposed on this strategy.
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    Under the proposed rule change, the standard position and exercise 
limits will remain in place for unhedged equity option positions. Once 
an account nears or reaches the standard limit, positions identified as 
a qualified hedge strategy will be exempted from position limit 
calculations. The exemption will be automatic (i.e., does not require 
pre-approval from the Exchange) to the extent that the member 
identifies that a pre-existing qualified hedge strategy is in place or 
is employed from the point that an account's position reaches the 
standard limit and provides the required supporting documentation to 
the Exchange.
    The exemption will remain in effect to the extent that the exempt 
positions remain intact and the Exchange is provided with any required 
supporting documentation. Procedures to demonstrate that the option 
position remains qualified are similar to those currently in place. 
Exchange procedures currently require a qualified account to report 
hedge information each time the option position changes. Hedge 
information for member firm and customer accounts are electronically 
reported via the Large Options Positions Report. The existing 
requirement imposed on a member firm to report hedge information for 
proprietary and customer accounts that maintain an options position in 
excess of 10,000 contracts will continue to apply.
    The Phlx believes that, with the exception of covered stock 
positions, all of the proposed qualified hedge strategies are market 
neutral. Therefore, none of the proposed strategies lend themselves to 
market manipulation and should be exempt from position limits. In 
addition, the Exchange believes that the current reporting requirements 
under Phlx Rule 1003 and the surveillance procedures for hedged 
positions will enable the Exchange to closely monitor sizable option 
positions and corresponding hedges.
2. Statutory Basis
    The Exchange believes that the proposed rule change is consistent 
with Section 6(b) of the Act \11\ in general and furthers the 
objectives of Section 6(b)(5) \12\ in particular in that it is designed 
to prevent fraudulent and manipulative acts and practices, to promote 
just and equitable principles of trade, to foster cooperation and 
coordination with persons engaged in facilitating transactions in 
securities, to remove impediments to and perfect the mechanism of a 
free and open market and a national market system, to protect investors 
and the public interest and is not designed to permit unfair 
discrimination between customers, issuers, brokers, or dealers.
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    \11\ 15 U.S.C. 78f(b).
    \12\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange 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

    The Exchange has neither solicited nor received comments on the 
proposed rule change.

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

    The foregoing rule change has become effective pursuant to Section 
19(b)(3)(A) of the Act \13\ and Rule 19b-4(f)(6) \14\ thereunder 
because the proposal:
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    \13\ 15 U.S.C. 78s(b)(3)(A).
    \14\ 17 CFR 240.19b-(f)(6).
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    (i) Does not significantly affect the protection of investors or 
the public interest;
    (ii) does not impose any significant burden on competition; and
    (iii) does not become operative prior to 30 days after the date of 
filing or such shorter time as the Commission may designate if 
consistent with the protection of investors and the public interest; 
provided that the Exchange has given the Commission notice of its 
intent to file the proposed rule change, along with a brief description 
and text of the proposed rule change, at least five

[[Page 34982]]

business days prior to the date of filing of the proposed rule change, 
or such short time as designated by the Commission.
    At any time within 60 days of the filing of such proposed rule 
change, the Commission may summarily abrogate such rule change if it 
appears to the Commission that such action is necessary or appropriate 
in the public interest, for the protection of investors or otherwise in 
furtherance of the purposes of the Act.
    The Commission believes that the proposed rule change is consistent 
with the protection of investors and the public interest and therefore 
finds good cause to waive the five-day pre-filing notice requirement 
and to designate the proposal as immediately operative upon filing. The 
Commission notes that the proposal is substantially identical to 
proposed rule changes submitted by three other options exchanges, which 
the Commission has approved.\15\ The Commission also notes that these 
proposals were noticed for public comment and no comment was received. 
The Commission does not believe that the proposed rule change raises 
novel regulatory issues that were not already addressed in the approval 
orders to these proposed rule changes.\16\ For these reasons, the 
Commission finds good cause to waive the five-day pre-filing notice 
requirement and to designate that the proposal become operative 
immediately upon filing.\17\
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    \15\ See Securities Exchange Act Release No. 45737 (April 11, 
2002), 67 FR 18975 (April 17, 2002) (SR-PCX-00-45); Securities 
Exchange Act Release No. 45650 (March 26, 2002), 67 FR 15638 (April 
2, 2002) (SR-Amex-2001-72); Securities Exchange Act Release No. 
44503 (March 20, 2002), 67 FR 14751 (March 27, 2002) (SR-CBOE-00-
12).
    \16\ Id.
    \17\ For purposes only of accelerating the operative date of 
this proposal, the Commission has considered the proposed rule's 
impact on efficiency, competition, and capital formation. 15 U.S.C. 
78c(f).
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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 at the 
Commission's Public Reference Room. 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-2002-33 and 
should be submitted by June 6, 2002.


    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\18\
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    \18\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 02-12204 Filed 5-15-02; 8:45 am]
BILLING CODE 8010-01-P