[Federal Register Volume 68, Number 85 (Friday, May 2, 2003)]
[Notices]
[Pages 23507-23517]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 03-10822]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-47749; File No. SR-ISE-2003-05]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change, and Amendment No. 1 Thereto, by International Securities 
Exchange, Inc., Relating to Rules for Trading Options on Indices

April 25, 2003.
    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 February 24, 2003, the International Securities Exchange (``ISE'' 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 ISE. The ISE filed 
Amendment No. 1 to the proposal on April 17, 2003.\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 Katherine Simmons, Vice President and 
Associate General Counsel, ISE to Florence Harmon, Senior Special 
Counsel, Division of Market Regulation (``Division''), Commission, 
dated April 16, 2003. In Amendment No. 1, the ISE submitted a new 
Form 19b-4, which replaced the original filing in its entirety.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The ISE is proposing to adopt rules relating to trading options on 
indices.
    The text of the proposed rule change appears below.\4\ Additions 
are italicized; deletions are in [brackets].
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    \4\ The Commission notes that it made minor typographical 
corrections to the rule text submitted in the proposed rule change. 
Telephone conversation between Katherine Simmons, Vice President and 
Associate General Counsel, ISE and Tim Fox, Attorney, Division of 
Market Regulation (``Division''), Commission on April 17, 2003.

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[[Page 23508]]

Rule 413. Exemptions From Position Limits

* * * * *
    (b) Market Maker Exemption. The provisions set forth below apply 
only to market makers seeking an exemption to the standard position 
limits in all options traded on the Exchange for the purpose of 
assuring that there is sufficient depth and liquidity in the 
marketplace, and not to confer a right upon the market maker applying 
for an exemption.
* * * * *
    (3) Generally, an exemption will be granted only to a market maker 
who has requested an exemption, who is appointed to the options class 
in which the exemption is requested pursuant to Rule 802, whose 
positions are near the current position limit and who is significant in 
terms of daily volume. The positions must generally be within ten 
percent (10%) of the limits contained in Rule 412 for equity options 
and twenty percent (20%) of those limits for broad-based index options.
* * * * *

Rule 418. Other Restrictions on Options Transactions and Exercises

    (a) The Exchange may impose such restrictions on transactions or 
exercises in one or more series of options of any class traded on the 
Exchange as the Exchange in its judgment deems advisable in the 
interests of maintaining a fair and orderly market in options contracts 
or in underlying securities, or otherwise deems advisable in the public 
interest or for the protection of investors.
    (1) During the effectiveness of such restrictions, no Member shall, 
for any account in which it has an interest or for the account of any 
customer, engage in any transaction or exercise in contravention of 
such restrictions.
    (2) Notwithstanding the foregoing, during the ten (10) business 
days prior to the expiration date of a given series of options, other 
than index options, no restriction on exercise under this Rule may be 
in effect with respect to that series of options. With respect to index 
options, restrictions on exercise may be in effect until the opening of 
business on the last business day before the expiration date.
    (3) Exercises of American-style, cash-settled index options shall 
be prohibited during any time when trading in such options is delayed, 
halted, or suspended, subject to the following exceptions:
    (i) The exercise of an American-style, cash-settled index option 
may be processed and given effect in accordance with and subject to the 
Rules of the Clearing Corporation while trading in the option is 
delayed, halted, or suspended if it can be documented, in a form 
prescribed by the Exchange, that the decision to exercise the option 
was made during allowable time frames prior to the delay, halt, or 
suspension;
    (ii) Exercises of expiring American-style, cash-settled index 
options shall not be prohibited on the last business day prior to their 
expiration;
    (iii) Exercises of American-style, cash-settled index options shall 
not be prohibited during a trading halt that occurs at or after 4:00 
p.m. Eastern time. In the event of such a trading halt, exercises may 
occur through 4:20 p.m. Eastern time. In addition, if trading resumes 
following such a trading halt (such as by closing rotation), exercises 
may occur during the resumption of trading and for five (5) minutes 
after the close of the resumption of trading. The provisions of this 
subparagraph (a)(3)(iii) are subject to the authority of the Board to 
impose restrictions on transactions and exercises pursuant to paragraph 
(a) of this Rule; and
    (iv) An Exchange officer designated by the Board may determine to 
permit the exercise of American-style, cash-settled index options while 
trading in such options is delayed, halted, or suspended.
* * * * *

Rule 701. Trading Rotations

* * * * *
    (c) Rotations After Trading Hours. Normally, the close of trading 
for options classes shall occur two (2) minutes after the primary 
market on which the underlying stock trades closes for trading. 
However, as provided below transactions may be effected in a class of 
options after the end of normal trading hours in connection with a 
trading rotation.
    (1) A trading rotation may be employed whenever the Exchange 
concludes that such action is appropriate in the interests of a fair 
and orderly market. The factors that may be considered include, but are 
not limited to, whether there has been a recent opening or reopening of 
trading in the underlying security, a declaration of a ``fast market'' 
pursuant to Rule 704, or a need for a rotation in connection with 
expiring individual stock or index options, an end of the year 
rotation, or the restart of a rotation which is already in progress.
* * * * *

Rule 705. Limitation of Liability

    (a) The Exchange, its Directors, officers, committee members, 
employees, contractors or agents shall not be liable to Members nor any 
persons associated with Members for any loss, expense, damages or 
claims arising out of the use of the facilities, systems or equipment 
afforded by the Exchange, nor any interruption in or failure or 
unavailability of any such facilities, systems or equipment, whether or 
not such loss, expense, damages or claims result or are alleged to 
result from negligence or other unintentional errors or omissions on 
the part of the Exchange, its Directors, officers, committee members, 
employees, contractors, agents or other persons acting on its behalf, 
or from systems failure, or from any other cause within or outside the 
control of the Exchange. Without limiting the generality of the 
foregoing, the Exchange shall have no liability to any person for any 
loss, expense, damages or claims that result from any error, omission 
or delay in calculating or disseminating any current or closing index 
value or any reports of transactions in or quotations for options or 
other securities, including underlying securities.
* * * * *

Rule 803. Obligations of Market Makers

    (a) General. Transactions of a market maker should constitute a 
course of dealings reasonably calculated to contribute to the 
maintenance of a fair and orderly market, and market makers should not 
make bids or offers or enter into transactions that are inconsistent 
with such a course of dealings. Ordinarily, market makers are expected 
to:
    (1) Except in unusual market conditions, refrain from purchasing a 
call option or a put option at a price more than $0.25 below parity. In 
the case of calls, parity is measured by the bid in the underlying 
security, and in the case of puts, parity is measured by the offer in 
the underlying security.
    (2) Not bid more than $1 lower or offer more than $1 higher than 
the last preceding transaction price for the particular options 
contract, plus or minus the aggregate change in the last sale price of 
the underlying security since the time of the last preceding 
transaction for the particular options contract. This provision applies 
from one day's close to the next day's opening and from one transaction 
to the next in intra-day transactions. With respect to inter-day 
transaction this provision applies if the closing

[[Page 23509]]

transaction occurred within one hour of the close and the opening 
transaction occurred within one hour after the opening. With respect to 
intra-day transactions, this provision applies to transactions 
occurring within one hour of one another.
    An Exchange Official designated by the Board may waive the 
provisions of subparagraphs (1) and (2) in an index option when the 
primary underlying securities market for that index is not trading.
    (b) Appointment. With respect to each options class to which a 
market maker is appointed under Rule 802, the market maker has a 
continuous obligation to engage, to a reasonable degree under the 
existing circumstances, in dealings for his own account when there 
exists, or it is reasonably anticipated that there will exist, a lack 
of price continuity, a temporary disparity between the supply of and 
demand for a particular options contract, or a temporary distortion of 
the price relationships between options contracts of the same class. 
Without limiting the foregoing, a market maker is expected to perform 
the following activities in the course of maintaining a fair and 
orderly market:
* * * * *
    (4) To price options contracts fairly by, among other things, 
bidding and offering so as to create differences of no more than $.25 
between the bid and offer for each options contract for which the bid 
is less than $2, no more than $.40 where the bid is at least $2 but 
does not exceed $5, no more than $.50 where the bid is more than $5 but 
does not exceed $10, no more than $.80 where the bid is more than $10 
but does not exceed $20, and no more than $1 where the bid is $20 or 
greater, provided that the Exchange may establish differences other 
than the above for one or more options series.
    (i) The bid/offer differentials stated in subparagraph (b)(4) of 
this Rule [above] shall not apply to in-the-money options series where 
the underlying securities market is wider than the differentials set 
forth above. For these series, the bid/ask differential may be as wide 
as the quotation on the primary market of the underlying security.
    (ii) The Exchange or its authorized agent may calculate bids and 
asks for various indices for the sole purpose of determining 
permissible bid/ask differentials on options on these indices. These 
values will be calculated by determining the weighted average of the 
bids and asks for the components of the corresponding index. These bids 
and asks will be disseminated by the Exchange at least every fifteen 
(15) seconds during the trading day solely for the purpose of 
determining the permissible bid/ask differential that market-makers may 
quote on an in-the-money option on the indices. For in-the-money series 
in index options where the calculated bid/ask differential is wider 
than the applicable differential set out in subparagraph (b)(4) of this 
Rule, the bid/ask differential in the index options series may be as 
wide as the calculated bid/ask differential in the underlying index. 
The Exchange will not make a market in the basket of stock comprising 
the indices and is not guaranteeing the accuracy or the availability of 
the bid/ask values.

Rule 1100. Exercise of Options Contracts

* * * * *
    (h) Clearing Members must follow the procedures of the Clearing 
Corporation when exercising American-style cash-settled index options 
contracts issued or to be issued in any account at the Clearing 
Corporation. Members must also follow the procedures set forth below 
with respect to American-style cash-settled index options:
    (1) For all contracts exercised by the Member or by any customer of 
the Member, an ``exercise advice'' must be delivered by the Member in 
such form or manner prescribed by the Exchange no later than 4:20 p.m. 
Eastern time, or if trading hours are extended or modified in the 
applicable options class, no later than five (5) minutes after the 
close of trading on that day.
    (2) Subsequent to the delivery of an ``exercise,'' should the 
Member or a customer of the Member determine not to exercise all or 
part of the advised contracts, the Member must also deliver an ``advice 
cancel'' in such form or manner prescribed by the Exchange no later 
than 4:20 p.m. Eastern time, or if trading hours are extended or 
modified in the applicable options class, no later than five (5) 
minutes after the close of trading on that day.
    (3) An Exchange official designated by the Board may determine to 
extend the applicable deadline for the delivery of ``exercise advice'' 
and ``advice cancel'' notifications pursuant to this paragraph (h) if 
unusual circumstances are present.
    (4) No Member may prepare, time stamp or submit an ``exercise 
advice'' prior to the purchase of the contracts to be exercised if the 
Member knew or had reason to know that the contracts had not yet been 
purchased.
    (5) The failure of any Member to follow the procedures in this 
paragraph (h) may result in the assessment of a fine, which may include 
but is not limited to disgorgement of potential economic gain obtained 
or loss avoided by the subject exercise, as determined by the Exchange.
    (6) 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 this Rule, is activity inconsistent with just and 
equitable principles of trade.
    (7) The procedures set forth in subparagraphs (1)-(2) of this 
subparagraph (h) do not apply (i) on the business day prior to 
expiration in series expiring on a day other than a business day or 
(ii) on the expiration day in series expiring on a business day.
    (8) Exercises of American-style, cash-settled index options (and 
the submission of corresponding ``exercise advice'' and ``advice 
cancel'' forms) shall be prohibited during any time when trading in 
such options is delayed, halted, or suspended, subject to the following 
exceptions:
    (i) The exercise of an American-style, cash-settled index option 
may be processed and given effect in accordance with and subject to the 
rules of the Clearing Corporation while trading in the option is 
delayed, halted, or suspended if it can be documented, in a form 
prescribed by the Exchange, that the decision to exercise the option 
was made during allowable time frames prior to the delay, halt, or 
suspension.
    (ii) Exercises of expiring American-style, cash-settled index 
options shall not be prohibited on the last business day prior to their 
expiration.
    (iii) Exercises of American-style, cash-settled index options shall 
not be prohibited during a trading halt that occurs at or after 4:00 
p.m. Eastern time. In the event of such a trading halt, exercises may 
occur through 4:20 p.m. Eastern time. In addition, if trading resumes 
following such a trading halt (such as by closing rotation), exercises 
may occur during the resumption of trading and for five (5) minutes 
after the close of the resumption of trading. The provisions of this 
subparagraph (iii) are subject to the authority of the Board to impose 
restrictions on transactions and exercises pursuant to Rule 417.
    (iv) An Exchange official designated by the Board may determine to 
permit the exercise of American-style, cash-settled index options while 
trading in such options is delayed, halted, or suspended.

Rule 1407. Short Sales in Nasdaq National Market Securities

* * * * *

[[Page 23510]]

    (c) A short sale may be designated as a bid test exempt sale if:
    (1) The sale qualifies for an exemption from the short sale bid 
test established in NASD rule 3350; or
    (2) The short sale is by or for the account of a Primary or 
Competitive Market Maker and is an exempt hedge transaction in a 
designated Nasdaq National Market security underlying a class of stock 
options or included in an index underlying a class of index options to 
which a registered ISE market maker is appointed under Rule 803.
    (d) Definitions. For purposes of paragraph (c) of this Rule:
    (1) An ``exempt hedge transaction'' shall mean a short sale in a 
designated Nasdaq National Market security that was effected to hedge, 
and in fact serves to hedge, an existing offsetting options position or 
an offsetting options position that was created in one or more 
transactions contemporaneous with the short sale, provided that[,]:
    (i) In the case of a stock option, when establishing the short 
position the market maker receives or is eligible to receive good faith 
margin pursuant to Section 220.12 of Regulation T of the Federal 
Reserve Board for that transaction[.]; and
    (ii) In the case of an index option, (A) the designated Nasdaq 
National Market security sold short is a component security of the 
index underlying such index option, (B) at least ten percent (10%) of 
the value of the index underlying such index option is represented by 
one or more designated Nasdaq National Market securities, and (C) the 
current aggregate value of the designated Nasdaq National Market 
securities sold short does not exceed the aggregate current index value 
of the index options position being hedged. Notwithstanding the 
foregoing, a transaction unrelated to normal options market making 
activity, such as index arbitrage or risk arbitrage that in either case 
is independent of a market maker's market making functions, will not be 
considered an ``exempt hedge transaction.'' Once an underlying index 
has satisfied the ten percent (10%) test in this subparagraph (ii), the 
continued qualification of the index shall be reviewed as of the end of 
each calendar quarter, and the index shall cease to qualify if the 
value of the index represented by one or more designated Nasdaq 
National Market securities is less than eight percent (8%) at the end 
of any subsequent calendar quarter.
* * * * *

Chapter 20

Index Rules

Rule 2000. Application of Index Rules

    The Rules in this Chapter are applicable only to index options 
(options on indices of securities as defined below). The Rules in 
Chapters 1 through 19 are also applicable to the options provided for 
in this Chapter, unless such Rules are specifically replaced or are 
supplemented by Rules in this Chapter. Where the Rules in this Chapter 
indicate that particular indices or requirements with respect to 
particular indices will be ``Specified,'' the Exchange shall file a 
proposed rule change with the Commission to specify such indices or 
requirements.

Rule 2001. Definitions

    (a) The term ``aggregate exercise price'' means the exercise price 
of the options contract times the index multiplier.
    (b) The term ``American-style index option'' means an option on an 
industry or market index that can be exercised on any business day 
prior to expiration.
    (c) The term ``A.M.-settled index option'' means an index options 
contract for which the current index value at expiration shall be 
determined as provided in Rule 2009(a)(5).
    (d) The term ``call'' means an options contract under which the 
holder of the option has the right, in accordance with the terms of the 
option, to purchase from the Clearing Corporation the current index 
value times the index multiplier.
    (e) The term ``current index value'' with respect to a particular 
index options contract means the level of the underlying index reported 
by the reporting authority for the index, or any multiple or fraction 
of such reported level specified by the Exchange. The current index 
value with respect to a reduced-value long term options contract is 
one-tenth of the current index value of the related index option. The 
``closing index value'' shall be the last index value reported on a 
business day.
    (f) The term ``exercise price'' means the specified price per unit 
at which the current index value may be purchased or sold upon the 
exercise of the option.
    (g) The term ``European-style index option'' means an option on an 
industry or market index that can be exercised only on the last 
business day prior to the day it expires.
    (h) The term ``index multiplier'' means the amount specified in the 
contract by which the current index value is to be multiplied to arrive 
at the value required to be delivered to the holder of a call or by the 
holder of a put upon valid exercise of the contract.
    (i) The term ``industry index'' and ``narrow-based index'' mean an 
index designed to be representative of a particular industry or a group 
of related industries.
    (j) The term ``market index'' and ``broad-based index'' mean an 
index designed to be representative of a stock market as a whole or of 
a range of companies in unrelated industries.
    (k) The term ``put'' means an options contract under which the 
holder of the option has the right, in accordance with the terms and 
provisions of the option, to sell to the Clearing Corporation the 
current index value times the index multiplier.
    (l) The term ``reporting authority'' with respect to a particular 
index means the institution or reporting service designated by the 
Exchange as the official source for (1) calculating the level of the 
index from the reported prices of the underlying securities that are 
the basis of the index and (2) reporting such level. The reporting 
authority for each index approved for options trading on the Exchange 
shall be Specified (as provided in Rule 2000) in the Supplementary 
Material to this Rule 2001.
    (m) The term ``underlying security'' or ``underlying securities'' 
with respect to an index options contract means any of the securities 
that are the basis for the calculation of the index.

Rule 2002. Designation of an Index

    (a) The component securities of an index underlying an index option 
contract need not meet the requirements of Rule 502. Except as set 
forth in subparagraph (b) below, the listing of a class of index 
options on an industry index requires the filing of a proposed rule 
change to be approved by the SEC under Section 19(b) of the Exchange 
Act.
    (b) The Exchange may trade options on a narrow-based index pursuant 
to Rule 19b-4(e) of the Securities Exchange Act of 1934, if each of the 
following conditions is satisfied:
    (1) The options are designated as A.M.-settled index options;
    (2) The index is capitalization-weighted, price-weighted or equal 
dollar-weighted, and consists of 10 or more component securities;
    (3) Each component security has a market capitalization of at least 
$75 million, except that for each of the lowest weighted component 
securities in the index that in the aggregate account for no more than 
10 percent of the

[[Page 23511]]

weight of the index, the market capitalization is at least $50 million;
    (4) Trading volume of each component security has been at least one 
million shares for each of the last six months, except that for each of 
the lowest weighted component securities in the index that in the 
aggregate account for no more than 10 percent of the weight of the 
index, trading volume has been at least 500,000 shares for each of the 
last six months;
    (5) In a capitalization-weighted index, the lesser of the five 
highest weighted component securities in the index or the highest 
weighted component securities in the index that in the aggregate 
represent at least 30 percent of the total number of component 
securities in the index each have had an average monthly trading volume 
of at least 2,000,000 shares over the past six months;
    (6) No single component security represents more than 25 percent of 
the weight of the index, and the five highest weighted component 
securities in the index do not in the aggregate account for more than 
50 percent (60 percent for an index consisting of fewer than 25 
component securities) of the weight of the index;
    (7) Component securities that account for at least 90 percent of 
the weight of the index and at least 80 percent of the total number of 
component securities in the index satisfy the requirements of Rule 502 
applicable to individual underlying securities;
    (8) All component securities are ``reported securities'' as defined 
in Rule 11Aa3-1 under the Exchange Act;
    (9) Non-U.S. component securities (stocks or ADRs) that are not 
subject to comprehensive surveillance agreements do not in the 
aggregate represent more than 20 percent of the weight of the index;
    (10) The current underlying index value will be reported at least 
once every 15 seconds during the time the index options are traded on 
the Exchange;
    (11) An equal dollar-weighted index will be rebalance at least once 
every calendar quarter; and
    (12) If an underlying index is maintained by a broker-dealer, the 
index is calculated by a third party who is not a broker-dealer, and 
the broker-dealer has erected a ``Chinese Wall'' around its personnel 
who have access to information concerning changes in and adjustments to 
the index.
    (c) The following maintenance listing standards shall apply to each 
class of index options originally listed pursuant to paragraph (b) 
above:
    (1) The requirements stated in subparagraphs (b)(1), (3), (6), (7), 
(8), (9), (10), (11) and (12) must continue to be satisfied, provided 
that the requirements stated in subparagraph (b)(6) must be satisfied 
only as of the first day of January and July in each year;
    (2) The total number of component securities in the index may not 
increase or decrease by more than 33\1/3\ percent from the number of 
component securities in the index at the time of its initial listing, 
and in no event may be less than nine component securities;
    (3) Trading volume of each component security in the index must be 
at least 500,000 shares for each of the last six months, except that 
for each of the lowest weighted component securities in the index that 
in the aggregate account for no more than 10 percent of the weight of 
the index, trading volume must be at least 400,000 shares for each of 
the last six months; and
    (4) In a capitalization-weighted index, the lesser of the five 
highest weighted component securities in the index or the highest 
weighted component securities in the index that in the aggregate 
represent at least 30 percent of the total number of stocks in the 
index each have had an average monthly trading volume of at least 
1,000,000 shares over the past six months. In the event a class of 
index options listed on the Exchange fails to satisfy the maintenance 
listing standards set forth herein, the Exchange shall not open for 
trading any additional series of options of that class unless such 
failure is determined by the Exchange not to be significant and the SEC 
concurs in that determination, or unless the continued listing of that 
class of index options has been approved by the SEC under Section 
19(b)(2) of the Exchange Act.

Rule 2003. Dissemination of Information

    (a) The Exchange shall disseminate, or shall assure that the 
current index value is disseminated, after the close of business and 
from time-to-time on days on which transactions in index options are 
made on the Exchange.
    (b) The Exchange shall maintain, in files available to the public, 
information identifying the stocks whose prices are the basis for 
calculation of the index and the method used to determine the current 
index value.

Rule 2004. Position Limits for Broad-Based Index Options

    (a) Rule 412 generally shall govern position limits for broad-based 
index options, as modified by this Rule 2004. There may be no position 
limit for certain Specified (as provided in Rule 2000) broad-based 
index options contracts. All other broad-based index options contracts 
shall be subject to a contract limitation fixed by the Exchange, which 
shall not be larger than limits Specified (as provided in Rule 2000) in 
this paragraph.
    (b) Index options contracts shall not be aggregated with options 
contracts on any stocks whose prices are the basis for calculation of 
the index.
    (c) Positions in reduced-value index options shall be aggregated 
with positions in full-value indices. For such purposes, ten reduced-
value contracts shall equal one contract.

Rule 2005. Position Limits for Industry Index Options

    (a)(1) Rule 412 generally shall govern position limits for industry 
index options, as modified by this Rule 2005. Options contracts on an 
industry index shall, subject to the procedures specified in 
subparagraph (3) of this rule, be subject to the following position 
limits:
    (i) 18,000 contracts if the Exchange determines, at the time of a 
review conducted pursuant to subparagraph (2) of this paragraph (a), 
that any single underlying stock accounted, on average, for thirty 
percent (30%) or more of the index value during the thirty (30) -day 
period immediately preceding the review; or
    (ii) 24,000 contracts if the Exchange determines, at the time of a 
review conducted pursuant to subparagraph (2) of this paragraph (a), 
that any single underlying stock accounted, on average, for twenty 
percent (20%) or more of the index value or that any five (5) 
underlying stocks together accounted, on average, for more than fifty 
percent (50%) of the index value, but that no single stock in the group 
accounted, on average, for thirty percent (30%) or more of the index 
value, during the thirty (30)-day period immediately preceding the 
review; or
    (iii) 31,500 contracts if the Exchange determines that the 
conditions specified above which would require the establishment of a 
lower limit have not occurred.
    (2) The Exchange shall make the determinations required by 
subparagraph (1) of this paragraph (a) with respect to options on each 
industry index at the commencement of trading of such options on the 
Exchange and thereafter review the determination semi-annually on 
January 1 and July 1.
    (3) If the Exchange determines, at the time of a semi-annual 
review, that the position limit in effect with respect to

[[Page 23512]]

options on a particular industry index is lower than the maximum 
position limit permitted by the criteria set forth in paragraph (1) of 
this paragraph (a), the Exchange may effect an appropriate position 
limit increase immediately. If the Exchange determines, at the time of 
a semi-annual review, that the position limit in effect with respect to 
options on a particular industry index exceeds the maximum position 
limit permitted by the criteria set forth in subparagraph (1) of this 
paragraph (a), the Exchange shall reduce the position limit applicable 
to such options to a level consistent with such criteria; provided, 
however, that such a reduction shall not become effective until after 
the expiration date of the most distantly expiring options series 
relating to the industry index that is open for trading on the date of 
the review; and provided further that such a reduction shall not become 
effective if the Exchange determines, at the next semi-annual review, 
that the existing position limit applicable to such options is 
consistent with the criteria set forth in subparagraph (1) of this 
paragraph (a).
    (b) Index options contracts shall not be aggregated with options 
contracts on any stocks whose prices are the basis for calculation of 
the index.
    (c) Positions in reduced-value index options shall be aggregated 
with positions in full-value index options. For such purposes, ten (10) 
reduced-value options shall equal one (1) full-value contract.

Rule 2006. Exemptions From Position Limits

    (a) Broad-based Index Hedge Exemption. The broad-based index hedge 
exemption is in addition to the other exemptions available under 
Exchange Rules, interpretations and policies. The following procedures 
and criteria must be satisfied to qualify for a broad-based index hedge 
exemption:
    (1) The account in which the exempt options positions are held 
(``hedge exemption account'') must have received prior Exchange 
approval for the hedge exemption specifying the maximum number of 
contracts that may be exempt under this Rule. The hedge exemption 
account must have provided all information required on Exchange-
approved forms and must have kept such information current. Exchange 
approval may be granted on the basis of verbal representations, in 
which event the hedge exemption account shall within two business days, 
or such other time period designated by the Exchange, furnish the 
Exchange with appropriate forms and documentation substantiating the 
basis for the exemption. The hedge exemption account may apply from 
time to time for an increase in the maximum number of contracts exempt 
from the position limits.
    (2) A hedge exemption account that is not carried by a Member must 
be carried by a member of a self-regulatory organization participating 
in the Intermarket Surveillance Group.
    (3) The hedge exemption account maintains a qualified portfolio, or 
will effect transactions necessary to obtain a qualified portfolio 
concurrent with or at or about the same time as the execution of the 
exempt options positions, of:
    (i) A net long or short position in common stocks in at least four 
industry groups and contains at least twenty (20) stocks, none of which 
accounts for more than fifteen percent (15%) of the value of the 
portfolio or in securities readily convertible, and additionally in the 
case of convertible bonds economically convertible, into common stocks 
which would comprise a portfolio; or
    (ii) A net long or short position in index futures contracts or in 
options on index futures contracts, or long or short positions in index 
options or index warrants, for which the underlying index is included 
in the same margin or cross-margin product group cleared at the 
Clearing Corporation as the index options class to which the hedge 
exemption applies.
    To remain qualified, a portfolio must at all times meet these 
standards notwithstanding trading activity.
    (4) The exemption applies to positions in broad-based index options 
dealt in on the Exchange and is applicable to the unhedged value of the 
qualified portfolio. The unhedged value will be determined as follows:
    (i) The values of the net long or short positions of all qualifying 
products in the portfolio are totaled;
    (ii) For positions in excess of the standard limit, the underlying 
market value (A) of any economically equivalent opposite side of the 
market calls and puts in broad-based index options, and (B) of any 
opposite side of the market positions in stock index futures, options 
on stock index futures, and any economically equivalent opposite side 
of the market positions, assuming no other hedges for these contracts 
exist, is subtracted from the qualified portfolio; and
    (iii) The market value of the resulting unhedged portfolio is 
equated to the appropriate number of exempt contracts as follows: the 
unhedged qualified portfolio is divided by the correspondent closing 
index value and the quotient is then divided by the index multiplier or 
100.
    (5) Positions in broad-based index options that are traded on the 
Exchange are exempt from the standard limits to the extent Specified 
(as provided in Rule 2000) in this subparagraph (a)(5).
    (6) Only the following qualified hedging transactions and positions 
are eligible for purposes of hedging a qualified portfolio (i.e. 
stocks, futures, options and warrants) pursuant to this Rule:
    (i) Long put(s) used to hedge the holdings of a qualified 
portfolio;
    (ii) Long call(s) used to hedge a short position in a qualified 
portfolio;
    (iii) Short call(s) used to hedge the holdings of a qualified 
portfolio; and
    (iv) Short put(s) used to hedge a short position in a qualified 
portfolio. The following strategies may be effected only in conjunction 
with a qualified stock portfolio for non-P.M. settled, European style 
index options only:
    (v) A short call position accompanied by long put(s), where the 
short call(s) expires with the long put(s), and the strike price of the 
short call(s) equals or exceeds the strike price of the long put(s) (a 
``collar''). Neither side of the collar transaction can be in-the-money 
at the time the position is established. For purposes of determining 
compliance with Rule 411 and this Rule 2006, a collar position will be 
treated as one contract;
    (vi) A long put position coupled with a short put position 
overlying the same broad-based index and having an equivalent 
underlying aggregate index value, where the short put(s) expires with 
the long put(s), and the strike price of the long put(s) exceeds the 
strike price of the short put(s) (a ``debit put spread position''); and
    (vii) A short call position accompanied by a debit put spread 
position, where the short call(s) expires with the puts and the strike 
price of the short call(s) equals or exceeds the strike price of the 
long put(s). Neither side of the short call, long put transaction can 
be in-the-money at the time the position is established. For purposes 
of determining compliance with Rule 412 and this Rule 2006, the short 
call and long put positions will be treated as one contract.
    (7) The hedge exemption account shall:
    (i) Liquidate and establish options, stock positions, their 
equivalent or other qualified portfolio products in an orderly fashion; 
not initiate or liquidate positions in a manner calculated to cause 
unreasonable price fluctuations or unwarranted price changes; and not 
initiate or liquidate a stock position or its equivalent with an 
equivalent index options position with a view toward

[[Page 23513]]

taking advantage of any differential in price between a group of 
securities and an overlying stock index option;
    (ii) Liquidate any options prior to or contemporaneously with a 
decrease in the hedged value of the qualified portfolio which options 
would thereby be rendered excessive; and
    (iii) Promptly notify the Exchange of any material change in the 
qualified portfolio which materially affects the unhedged value of the 
qualified portfolio.
    (8) If an exemption is granted, it will be effective at the time 
the decision is communicated. Retroactive exemptions will not be 
granted.
    (9) The hedge exemption account shall promptly provide to the 
Exchange any information requested concerning the qualified portfolio.
    (10) Positions included in a qualified portfolio that serve to 
secure an index hedge exemption may not also be used to secure any 
other position limit exemption granted by the Exchange or any other 
self regulatory organization or futures contract market.
    (11) Any Member that maintains a broad-based index options position 
in such Member's own account or in a customer account, and has reason 
to believe that such position is in excess of the applicable limit, 
shall promptly take the action necessary to bring the position into 
compliance. Failure to abide by this provision shall be deemed to be a 
violation of Rules 412 and this Rule 2006 by the Member.
    (12) Violation of any of the provisions of this Rule, absent 
reasonable justification or excuse, shall result in withdrawal of the 
index hedge exemption and may form the basis for subsequent denial of 
an application for an index hedge exemption hereunder.
    (13) Each member (other than Exchange market-makers) that maintains 
a broad-based index options position on the same side of the market in 
excess of a Specified (as provided in Rule 2000) number of contracts 
for its own account or for the account of a customer, shall report 
information as to whether the positions are hedged and provide 
documentation as to how such contracts are hedged, in the manner and 
form required by the Exchange. The Exchange may impose other reporting 
requirements.
    (14) Whenever the Exchange determines that additional margin is 
warranted in light of the risks associated with an under-hedged options 
position in Specified (as provided in Rule 2000) broad-based indices, 
the Exchange may impose additional margin upon the account maintaining 
such under-hedged position pursuant to its authority under Rule 1204. 
The clearing firm carrying the account also will be subject to capital 
charges under Rule 15c3-1 under the Exchange Act to the extent of any 
margin deficiency resulting from the higher margin requirements.
    (b) Industry Index Hedge Exemption. The industry (narrow-based) 
index hedge exemption is in addition to the other exemptions available 
under Exchange Rules, interpretations and policies, and may not exceed 
twice the standard limit established under Rule 2005. Industry index 
options positions may be exempt from established position limits for 
each options contract ``hedged'' by an equivalent dollar amount of the 
underlying component securities or securities convertible into such 
components; provided that, in applying such hedge, each options 
position to be exempted is hedged by a position in at least seventy-
five percent (75%) of the number of component securities underlying the 
index. In addition, the underlying value of the options position may 
not exceed the value of the underlying portfolio. The value of the 
underlying portfolio is: (1) the total market value of the net stock 
position; and (2) for positions in excess of the standard limit, 
subtract the underlying market value of: (i) any offsetting calls and 
puts in the respective index option; (ii) any offsetting positions in 
related stock index futures or options; and (iii) any economically 
equivalent positions (assuming no other hedges for these contracts 
exist). The following procedures and criteria must be satisfied to 
qualify for an industry index hedge exemption:
    (1) The hedge exemption account must have received prior Exchange 
approval for the hedge exemption specifying the maximum number of 
contracts that may be exempt under this Interpretation. The hedge 
exemption account must have provided all information required on 
Exchange-approved forms and must have kept such information current. 
Exchange approval may be granted on the basis of verbal 
representations, in which event the hedge exemption account shall 
within two business days, or such other time period designated by the 
Exchange, furnish the Exchange with appropriate forms and documentation 
substantiating the basis for the exemption. The hedge exemption account 
may apply from time to time for an increase in the maximum number of 
contracts exempt from the position limits.
    (2) A hedge exemption account that is not carried by a Member must 
be carried by a member of a self-regulatory organization participating 
in the Intermarket Surveillance Group.
    (3) The hedge exemption account: shall liquidate and establish 
options, stock positions, or economically equivalent positions in an 
orderly fashion; shall not initiate or liquidate positions in a manner 
calculated to cause unreasonable price fluctuations or unwarranted 
price changes; and shall not initiate or liquidate a stock position or 
its equivalent with an equivalent index options position with a view 
toward taking advantage of any differential in price between a group of 
securities and an overlying stock index option. The hedge exemption 
account shall liquidate any options prior to or contemporaneously with 
a decrease in the hedged value of the portfolio which options would 
thereby be rendered excessive. The hedge exemption account shall 
promptly notify the Exchange of any change in the portfolio which 
materially affects the unhedged value of the portfolio.
    (4) If an exemption is granted, it will be effective at the time 
the decision is communicated. Retroactive exemptions will not be 
granted.
    (5) The hedge exemption account shall promptly provide to the 
Exchange any information requested concerning the portfolio.
    (6) Positions included in a portfolio that serve to secure an index 
hedge exemption may not also be used to secure any other position limit 
exemption granted by the Exchange or any other self regulatory 
organization or futures contract market.
    (7) Any Member that maintains an industry index options position in 
such Member's own account or in a customer account, and has reason to 
believe that such position is in excess of the applicable limit, shall 
promptly take the action necessary to bring the position into 
compliance. Failure to abide by this provision shall be deemed to be a 
violation of Rule 412 and this Rule 2006 by the Member.
    (8) Violation of any of the provisions of this Rule 2006, absent 
reasonable justification or excuse, shall result in withdrawal of the 
index hedge exemption and may form the basis for subsequent denial of 
an application for an index hedge exemption hereunder.

Rule 2007. Exercise Limits

    (a) In determining compliance with Rule 414, exercise limits for 
index options contracts shall be equivalent to the position limits 
prescribed for options contracts with the nearest expiration date in 
Rule 2004 or 2005. There may be no exercise limits for

[[Page 23514]]

Specified (as provided in Rule 2000) broad-based index options.
    (b) For a market-maker granted an exemption to position limits 
pursuant to Rule 413(b), the number of contracts that can be exercised 
over a five business day period shall equal the market-maker's exempted 
position.
    (c) In determining compliance with exercise limits applicable to 
stock index options, options contracts on a stock index group shall not 
be aggregated with options contracts on an underlying stock or stocks 
included in such group, options contracts on one stock index group 
shall not be aggregated with options contracts on any other stock index 
group.
    (d) With respect to index options contracts for which an exemption 
has been granted in accordance with the provisions of Rule 2006(a), the 
exercise limit shall be equal to the amount of the exemption.

Rule 2008. Trading Sessions

    (a) Days and Hours of Business. Except as otherwise provided in 
this Rule or under unusual conditions as may be determined by the 
President or his designee, transactions in index options may be 
effected on the Exchange between the hours of 9:30 a.m. and 4:15 p.m. 
Eastern time. With respect to options on foreign indexes, an Exchange 
official designated by the Board shall determine the days and hours of 
business.
    (b) Trading Rotations. The opening rotation for index options shall 
be held at or as soon as practicable after 9:30 a.m. Eastern time. An 
Exchange official designated by the Board may delay the commencement of 
the opening rotation in an index option whenever in the judgment of 
that official such action is appropriate in the interests of a fair and 
orderly market. Among the factors that may be considered in making 
these determinations are: (1) Unusual conditions or circumstances in 
other markets; (2) an influx of orders that has adversely affected the 
ability of the Primary Market Maker to provide and to maintain fair and 
orderly markets; (3) activation of opening price limits in stock index 
futures on one or more futures exchanges; (4) activation of daily price 
limits in stock index futures on one or more futures exchanges; (5) the 
extent to which either there has been a delay in opening or trading is 
not occurring in stocks underlying the index; and (6) circumstances 
such as those which would result in the declaration of a fast market 
under Rule 804(d).
    (c) Instituting Halts and Suspensions. Trading on the Exchange in 
any index option shall be halted or suspended whenever trading in 
underlying securities whose weighted value represents more than twenty 
percent (20%), in the case of a broad based index, and ten percent 
(10%) for all other indices, of the index value is halted or suspended. 
An Exchange official designated by the Board also may halt trading in 
an index option when, in his or her judgment, such action is 
appropriate in the interests of a fair and orderly market and to 
protect investors. Among the facts that may be considered are the 
following:
    (1) Whether all trading has been halted or suspended in the market 
that is the primary market for a plurality of the underlying stocks;
    (2) Whether the current calculation of the index derived from the 
current market prices of the stocks is not available;
    (3) The extent to which the rotation has been completed or other 
factors regarding the status of the rotation; and
    (4) Other unusual conditions or circumstances detrimental to the 
maintenance of a fair and orderly market are present, including, but 
not limited to, the activation of price limits on futures exchanges.
    (d) Resumption of Trading Following a Halt or Suspension. Trading 
in options of a class or series that has been the subject of a halt or 
suspension by the Exchange may resume if an Exchange official 
designated by the Board determines that the interests of a fair and 
orderly market are served by a resumption of trading. Among the factors 
to be considered in making this determination are whether the 
conditions that led to the halt or suspension are no longer present, 
and the extent to which trading is occurring in stocks underlying the 
index. Upon reopening, a rotation shall be held in each class of index 
options unless an Exchange official designated by the Board concludes 
that a different method of reopening is appropriate under the 
circumstances, including but not limited to, no rotation, an 
abbreviated rotation or any other variation in the manner of the 
rotation.
    (e) Circuit Breakers. Rule 703 applies to index options trading 
with respect to the initiation of a marketwide trading halt commonly 
known as a ``circuit breaker.''
    (f) Special Provisions for Foreign Indices. When the hours of 
trading of the underlying primary securities market for an index option 
do not overlap or coincide with those of the Exchange, all of the 
provisions as described in paragraphs (c), (d) and (e) above shall not 
apply except for (c)(4).
    (g) Pricing When Primary Market Does Not Open. When the primary 
market for a security underlying the current index value of an index 
option does not open for trading on a given day, the price of that 
security shall be determined, for the purposes of calculating the 
current index value at expiration, based on the opening price of that 
security on the next day that its primary market is open for trading. 
This procedure shall not be used if the current index value at 
expiration is fixed in accordance with the Rules and By-Laws of the 
Clearing Corporation.

Rule 2009. Terms of Index Options Contracts

    (a) General.
    (1) Meaning of Premium Bids and Offers. Bids and offers shall be 
expressed in terms of dollars and cents per unit of the index.
    (2) Exercise Prices. The Exchange shall determine fixed-point 
intervals of exercise prices for call and put options.
    (3) Expiration Months. Index options contracts may expire at three 
(3)-month intervals or in consecutive months. The Exchange may list up 
to six (6) expiration months at any one time, but will not list index 
options that expire more than twelve (12) months out.
    (4) ``European-Style Exercise.'' Specified (as provided in Rule 
2000) European-style index options, some of which may be A.M.-settled 
as provided in paragraph (a)(5), may be approved for trading on the 
Exchange.
    (5) A.M.-Settled Index Options. The last day of trading for A.M.-
settled index options shall be the business day preceding the last day 
of trading in the underlying securities prior to expiration. The 
current index value at the expiration of an A.M.-settled index option 
shall be determined, for all purposes under these Rules and the Rules 
of the Clearing Corporation, on the last day of trading in the 
underlying securities prior to expiration, by reference to the reported 
level of such index as derived from first reported sale (opening) 
prices of the underlying securities on such day, except that:
    (i) In the event that the primary market for an underlying security 
does not open for trading on that day, the price of that security shall 
be determined, for the purposes of calculating the current index value 
at expiration, as set forth in Rule 2008(g), unless the current index 
value at expiration is fixed in accordance with the Rules and By-Laws 
of the Clearing Corporation; and
    (ii) In the event that the primary market for an underlying 
security is open for trading on that day, but that

[[Page 23515]]

particular security does not open for trading on that day, the price of 
that security, for the purposes of calculating the current index value 
at expiration, shall be the last reported sale price of the security.
    A.M.-settled index options that are approved for trading on the 
Exchange shall be Specified (as provided in Rule 2000) in this 
subparagraph (a)(5).
    (b) Long-Term Index Options Series.
    (1) Notwithstanding the provisions of Paragraph (a)(3), above, the 
Exchange may list long-term index options series that expire from 
twelve (12) to sixty (60) months from the date of issuance.
    (i) Index long term options series may be based on either the full 
or reduced value of the underlying index. There may be up to ten (10) 
expiration months, none further out than sixty (60) months. Strike 
price interval, bid/ask differential and continuity Rules shall not 
apply to such options series until the time to expiration is less than 
twelve (12) months.
    (ii) When a new Index long term options series is listed, such 
series will be opened for trading either when there is buying or 
selling interest, or forty (40) minutes prior to the close, whichever 
occurs first. No quotations will be posted for such options series 
until they are opened for trading.
    (2) Reduced-Value Long Term Options Series.
    (i) Reduced-value long term options series may be approved for 
trading on Specified (as provided in Rule 2000) indices.
    (ii) Expiration Months. Reduced-value long term options series may 
expire at six-month intervals. When a new expiration month is listed, 
series may be near or bracketing the current index value. Additional 
series may be added when the value of the underlying index increases or 
decreases by ten (10) to fifteen (15) percent.
    (c) Procedures for Adding and Deleting Strike Prices. The 
procedures for adding and deleting strike prices for index options are 
provided in Rule 504, as amended by the following:
    (1) The interval between strike prices will be no less than $5.00; 
provided, that in the case of the certain Specified (as provided in 
Rule 2000) classes of index options, the interval between strike prices 
will be no less than $2.50.
    (2) New series of index options contracts may be added up to the 
fifth business day prior to expiration.
    (3) When new series of index options with a new expiration date are 
opened for trading, or when additional series of index options in an 
existing expiration date are opened for trading as the current value of 
the underlying index to which such series relate moves substantially 
from the exercise prices of series already opened, the exercise prices 
of such new or additional series shall be reasonably related to the 
current value of the underlying index at the time such series are first 
opened for trading. In the case of all classes of index options, the 
term ``reasonably related to the current value of the underlying 
index'' shall have the meaning set forth in Paragraph (c)(4) below.
    (4) Notwithstanding any other provision of this paragraph (c), the 
Exchange may open for trading additional series of the same class of 
index options as the current index value of the underlying index moves 
substantially from the exercise price of those index options that 
already have been opened for trading on the Exchange. The exercise 
price of each series of index options opened for trading on the 
Exchange shall be reasonably related to the current index value of the 
underlying index to which such series relates at or about the time such 
series of options is first opened for trading on the Exchange. The term 
``reasonably related to the current index value of the underlying 
index'' means that the exercise price is within thirty percent (30%) of 
the current index value. The Exchange may also open for trading 
additional series of index options that are more than thirty percent 
(30%) away from the current index value, provided that demonstrated 
customer interest exists for such series, as expressed by 
institutional, corporate, or individual customers or their brokers. 
Market-makers trading for their own account shall not be considered 
when determining customer interest under this provision.
    (d) Index Level on the Last Day of Trading. The reported level of 
the underlying index that is calculated by the reporting authority on 
the last day of trading in the underlying securities prior to 
expiration for purposes of determining the current index value at the 
expiration of an A.M.-settled index option may differ from the level of 
the index that is separately calculated and reported by the reporting 
authority and that reflects trading activity subsequent to the opening 
of trading in any of the underlying securities.
    (e) Index Values for Settlement. The Rules of the Clearing 
Corporation specify that, unless the Rules of the Exchange provide 
otherwise, the current index value used to settle the exercise of an 
index options contract shall be the closing index for the day on which 
the index options contract is exercised in accordance with the Rules of 
the Clearing Corporation or, if such day is not a business day, for the 
most recent business day.

Rule 2010. Debit Put Spread Cash Account Transactions

    Debit put spread positions in European-style, broad-based index 
options traded on the Exchange (hereinafter ``debit put spreads'') may 
be maintained in a cash account as defined by Federal Reserve Board 
Regulation T Section 220.8 by a Public Customer, provided that the 
following procedures and criteria are met:
    (a) The customer has received Exchange approval to maintain debit 
put spreads in a cash account carried by an Exchange member 
organization. A customer so approved is hereinafter referred to as a 
``spread exemption customer.''
    (b) The spread exemption customer has provided all information 
required on Exchange-approved forms and has kept such information 
current.
    (c) The customer holds a net long position in each of the stocks of 
a portfolio that has been previously established or in securities 
readily convertible, and additionally in the case of convertible bonds 
economically convertible, into common stocks which would comprise a 
portfolio. The debit put spread position must be carried in an account 
with a member of a self-regulatory organization participating in the 
Intermarket Surveillance Group.
    (d) The stock portfolio or its equivalent is composed of net long 
positions in common stocks in at least four industry groups and 
contains at least twenty (20) stocks, none of which accounts for more 
than fifteen percent (15%) of the value of the portfolio (hereinafter 
``qualified portfolio''). To remain qualified, a portfolio must at all 
times meet these standards notwithstanding trading activity in the 
stocks.
    (e) The exemption applies to European-style broad-based index 
options dealt in on the Exchange to the extent the underlying value of 
such options position does not exceed the unhedged value of the 
qualified portfolio. The unhedged value would be determined as follows: 
(1) The values of the net long or short positions of all qualifying 
products in the portfolio are totaled; (2) for positions in excess of 
the standard limit, the underlying market value (A) of any economically 
equivalent opposite side of the market calls and puts in broad-based 
index options, and (B) of any opposite side of the market positions in 
stock index futures, options on stock index futures,

[[Page 23516]]

and any economically equivalent opposite side of the market positions, 
assuming no other hedges for these contracts exist, is subtracted from 
the qualified portfolio; and (3) the market value of the resulting 
unhedged portfolio is equated to the appropriate number of exempt 
contracts as follows `` the unhedged qualified portfolio is divided by 
the correspondent closing index value and the quotient is then divided 
by the index multiplier or 100.
    (f) A debit put spread in Exchange-traded broad-based index options 
with European-style exercises is defined as a long put position coupled 
with a short put position overlying the same broad-based index and 
having an equivalent underlying aggregate index value, where the short 
put(s) expires with the long put(s), and the strike price of the long 
put(s) exceeds the strike price of the short put(s). A debit put spread 
will be permitted in the cash account as long as it is continuously 
associated with a qualified portfolio of securities with a current 
market value at least equal to the underlying aggregate index value of 
the long side of the debit put spread.
    (g) The qualified portfolio must be maintained with either a 
Member, another broker-dealer, a bank, or securities depository.
    (h) The spread exemption customer shall agree promptly to provide 
the Exchange any information requested concerning the dollar value and 
composition of the customer's stock portfolio, and the current debit 
put spread positions.
    (1) The spread exemption customer shall agree to and any Member 
carrying an account for the customer shall:
    (i) Comply with all Exchange Rules and regulations;
    (ii) liquidate any debit put spreads prior to or contemporaneously 
with a decrease in the market value of the qualified portfolio, which 
debit put spreads would thereby be rendered excessive; and
    (iii) promptly notify the Exchange of any change in the qualified 
portfolio or the debit put spread position which causes the debit put 
spreads maintained in the cash account to be rendered excessive.
    (i) If any Member carrying a cash account for a spread exemption 
customer with a debit put spread position dealt in on the Exchange has 
a reason to believe that as a result of an opening options transaction 
the customer would violate this spread exemption, and such opening 
transaction occurs, then the Member has violated this Rule 2010.
    (j) Violation of any of these provisions, absent reasonable 
justification or excuse, shall result in withdrawal of the spread 
exemption and may form the basis for subsequent denial of an 
application for a spread exemption hereunder.

Rule 2011. Disclaimers

    (a) Applicability of Disclaimers. The disclaimers in paragraph (b) 
below shall apply to the reporting authorities identified in the 
Supplemental Material to Rule 2001.
    (b) Disclaimer. No reporting authority, and no affiliate of a 
reporting authority (each such reporting authority, its affiliates, and 
any other entity identified in this Rule are referred to collectively 
as a ``Reporting Authority''), makes any warranty, express or implied, 
as to the results to be obtained by any person or entity from the use 
of an index it publishes, any opening, intra-day or closing value 
therefor, or any data included therein or relating thereto, in 
connection with the trading of any options contract based thereon or 
for any other purpose. The Reporting Authority shall obtain information 
for inclusion in, or for use in the calculation of, such index from 
sources it believes to be reliable, but the Reporting Authority does 
not guarantee the accuracy or completeness of such index, any opening, 
intra-day or closing value therefor, or any date included therein or 
related thereto. The Reporting Authority hereby disclaims all 
warranties of merchantability or fitness for a particular purpose or 
use with respect to such index, any opening, intra-day, or closing 
value therefor, any data included therein or relating thereto, or any 
options contract based thereon. The Reporting Authority shall have no 
liability for any damages, claims, losses (including any indirect or 
consequential losses), expenses, or delays, whether direct or indirect, 
foreseen or unforeseen, suffered by any person arising out of any 
circumstance or occurrence relating to the person's use of such index, 
any opening, intra-day or closing value therefor, any data included 
therein or relating thereto, or any options contract based thereon, or 
arising out of any errors or delays in calculating or disseminating 
such index.

Rule 2012. Exercise of American-Style Index Options

    No Member may prepare, time stamp or submit an exercise instruction 
for an American-style index options series if the Member knows or has 
reason to know that the exercise instruction calls for the exercise of 
more contracts than the then ``net long position'' of the account for 
which the exercise instruction is to be tendered. For purposes of this 
Rule: (i) The term ``net long position'' shall mean the net position of 
the account in such option at the opening of business of the day of 
such exercise instruction, plus the total number of such options 
purchased that day in opening purchase transactions up to the time of 
exercise, less the total number of such options sold that day in 
closing sale transactions up to the time of exercise; (ii) the 
``account'' shall be the individual account of the particular customer, 
market-maker or ``non-customer'' (as that term is defined in the By-
Laws of the Clearing Corporation) who wishes to exercise; and (iii) 
every transaction in an options series effected by a market-maker in a 
market-maker's account shall be deemed to be a closing transaction in 
respect of the market-maker's then positions in such options series. No 
Member may adjust the designation of an ``opening transaction'' in any 
such option to a ``closing transaction'' except to remedy mistakes or 
errors made in good faith.

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 ISE included statements 
concerning the purpose of, and basis for, the proposed rule change, as 
amended, and discussed any comments it received on the proposed rule 
change, as amended. The text of these statements may be examined at the 
places specified in Item IV below. The ISE 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 ISE seeks to adopt rules necessary to allow the Exchange to 
list and trade options on indices. The proposed rules include listing 
and maintenance criteria for options on underlying indices, rules on 
dissemination of index values, position and exercise limits for index 
options, exemptions from the limits, and terms of index options 
contracts. All of the proposed rules and changes to existing Exchange 
Rules are based on the existing rules of the other four options 
exchanges.\5\
---------------------------------------------------------------------------

    \5\ See, e.g. CBOE Rules 4.11, 4.16, 6.2, 6.7, 8.7, 11.1, 15.10, 
and 24.1 through 24.20, PCX Rules 7.11 and 13.2, Amex Rule 905C, and 
Phlx Rule 1033A.
---------------------------------------------------------------------------

    Because the rules related to trading options on indices are product 
specific in many areas, the Exchange will need

[[Page 23517]]

to file additional proposed rule changes with the Commission when the 
Exchange identifies specific products. For purposes of this proposed 
rule change, certain rules indicate that they apply to ``specified'' 
indices. ISE Rules 2001(l), 2004(a), 2006(a), 2007(a), 2009, and 2011 
all contain provisions that are dependant upon the Exchange identifying 
specific index products in the rule. Accordingly, ISE Rule 2000 states 
that where the rules in Chapter 20 indicate that particular indices or 
requirements with respect to particular indices will be ``Specified,'' 
the ISE shall file a proposed rule change with the Commission pursuant 
to Section 19 of the Act \6\ and Rule 19b-4 thereunder \7\ to specify 
such indices or requirements.
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    \6\ 15 U.S.C 78s.
    \7\ 17 CFR 240.19b-4.
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    The ISE proposes to add a new Chapter 20 to the Exchange rules, as 
well as conforming changes to certain existing ISE rules. The following 
are the specific rule changes:
    Proposed ISE Rule 2000: This proposed rule specifies that Chapter 
20 is applicable only to index options, and that the rules in Chapters 
1 through 19 also apply to index options unless they are replaced by 
the new rules or the context otherwise requires.
    Proposed ISE Rule 2001: This proposed rule contains the necessary 
definitions for index options trading.
    Proposed ISE Rule 2002: This proposed rule contains the general 
listing standards for index option.
    Proposed ISE Rule 2003: This proposed rule requires the 
dissemination of index values as a condition to the trading of options 
on an index.
    Proposed ISE Rules 2004 through 2007: These proposed rules contain 
the standard position limit and exercise limits for index options, as 
well as exemption standards and the procedures for requesting 
exemptions from those proposed rules.
    Proposed ISE Rule 2008: This proposed rule provides that index 
options will trade until 4:15 p.m. Eastern Time, the same as on other 
exchanges. The proposed rule also contains procedures for trading 
rotations, as well as trading halts and suspensions.
    Proposed ISE Rules 2009 and 2010: Proposed ISE Rule 2009 outlines 
the terms of index options contracts, while proposed ISE Rule 2010 
applies to debit put spreads.
    Proposed ISE Rule 2011: This proposed rule disclaims liability for 
index reporting authorities.
    Proposed ISE Rule 2012: This proposed rule contains standards for 
exercising American-style index options.
    Amendment to ISE Rule 413: This proposed amendment adds broad-based 
index options to the market maker exemption from position limits.
    Amendments to ISE Rules 418 and 1100: In conjunction with proposed 
ISE Rule 2012, this proposed rule will govern the exercise of American-
style, cash settled index options.
    Amendment to ISE Rule 701: This proposed amendment applies the 
trading rotation rule to index options.
    Amendment to ISE Rule 705: In conjunction with ISE Rule 2011, this 
proposed rule would limit liability regarding the dissemination of 
index information.
    Amendment to ISE Rule 803: This proposed amendment provides the 
Exchange with greater flexibility on applying market making obligations 
when the primary underlying securities market is not open for trading. 
It would apply only to the trading of options on non-U.S. indices.
    Amendment to ISE Rule 1407: This proposed amendment would apply an 
exemption from the Nasdaq short sale rule to Nasdaq NMS securities 
underlying index options.
2. Statutory Basis
    The ISE believes that the proposed rule change, as amended, is 
consistent with and furthers the objectives of section 6(b)(5) of the 
Act,\8\ in that it is designed to foster cooperation and coordination 
with persons engaged in regulating, clearing, settling, processing 
information with respect to, and facilitating transaction in 
securities, to remove impediments to and perfect the mechanism for a 
free and open market and a national market system, and, in general, to 
protect investors and the public interest.
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    \8\ 15 U.S.C. 78(f)(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The ISE does not believe that the proposed rule change, as amended, 
will result in any burden on competition that is not 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, as amended.

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 ISE consents, the Commission will:
    (A) By order approve such proposed rule change, as amended; or
    (B) Institute proceedings to determine whether the proposed rule 
change, as amended, 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, as amended, 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, as 
amended, that are filed with the Commission, and all written 
communications relating to the proposed rule change, as amended, 
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 filings will also be available 
for inspection and copying at the principal office of ISE. All 
submissions should refer to File No. SR-ISE-2003-05 and should be 
submitted by May 23, 2003.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\9\
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    \9\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 03-10822 Filed 5-1-03; 8:45 am]
BILLING CODE 8010-01-P