[Federal Register Volume 68, Number 119 (Friday, June 20, 2003)]
[Notices]
[Pages 37036-37039]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 03-15650]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-48033; File No. SR-ISE-2003-17]


Self-Regulatory Organizations; Notice of Filing and Order 
Granting Accelerated Approval of a Proposed Rule Change and Amendment 
No. 1 by the International Securities Exchange, Inc. To Initiate a 
Pilot Program That Allows the Listing of Strike Prices at One-Point 
Intervals for Certain Stocks Trading Under $20

June 16, 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 June 11, 2003, the International Securities Exchange, Inc. (``ISE'' 
or ``Exchange'') filed with the Securities and Exchange Commission 
(``SEC'' or ``Commission'') the proposed rule change as described in 
Items I and II below, which Items have been prepared by the Exchange. 
The ISE filed Amendment No. 1 to the proposal on June 13, 2003.\3\ The 
Commission is publishing this notice to solicit comments on the 
proposed rule change, as amended, from interested persons and to grant 
accelerated approval to the proposed rule change, as amended, through 
June 5, 2004.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See letter from Michael Simon, Senior Vice President and 
General Counsel, ISE, to Nancy Sanow, Assistant Director, Division 
of Market Regulation, Commission, dated June 13, 2003 (``Amendment 
No. 1''). In Amendment No. 1, the Exchange amended its proposed rule 
text to state that the proposed pilot program will expire on June 5, 
2004.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes to initiate a pilot program (``Pilot 
Program'') that will allow the Exchange to list options on selected 
stocks trading below $20 at one-point intervals. The text of the 
proposed rule change appears below. Additions are in italics; deletions 
are in brackets.

Rule 504. Series of Options Contracts Open for Trading

* * * * *
    (d) Except as otherwise provided in this Rule 504 and Supplementary 
Material hereto, [T]the interval between strike prices of series of 
options on individual stocks will be:
    (1) $2.50 or greater where the strike price is $25.00 or less;
    (2) $5.00 or greater where the strike price is greater than $25.00; 
and
    (3) $10 or greater where the strike price is greater than $200.00.
* * * * *

Supplementary Material

    .01 $1 Strike Pilot Program: The interval between strike prices of 
series of options on individual stocks may be $1.00 or greater (``$1 
strike prices'') provided the strike price is $20.00 or less, but not 
less than $3. The listing of $1 strike prices shall be limited to 
options classes overlying no more than five (5) individual stocks (the 
``$1 Strike Pilot Program'') as specifically designated by the 
Exchange. The Exchange may list $1 strike prices on any other options 
class if those classes are specifically designated by other securities 
exchanges that employ a $1 Strike Pilot under their respective rules.
    To be eligible for inclusion into the $1 Strike Pilot Program, an 
underlying stock must close below $20 in its primary market on the 
previous trading day. After a stock is added to the $1 Strike Pilot 
Program, the Exchange may list $1 strike prices from $3 to $20 that are 
no more than $5 from the closing price of the underlying on the 
preceding day. For example, if the underlying stock closes at $13, the 
Exchange may list strike prices from $8 to $18. The Exchange may not 
list series with $1 intervals within $0.50 of an existing $2.50 strike 
price (e.g., $12.50, $17.50) in the same series, and may not list $2.50 
intervals (e.g., $12.50, $17.50) below $20 under paragraph (d)(1) of 
Rule 504 for any class included within the $1 Strike Pilot Program if 
the addition of $2.50 intervals would cause the class to have strike 
price intervals that are $.50 apart. Additionally, the Exchange may not 
list long-term option series at $1 strike price intervals for any 
option class selected for the $1 Strike Pilot Program.
    A stock shall remain in the $1 Strike Pilot Program until otherwise 
designated by the Exchange. The $1 Strike Pilot Program shall expire on 
June 5, 2004.

[[Page 37037]]

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 III 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
    ISE Rule 504 establishes the guidelines regarding the addition of 
series for trading on the Exchange. Under ISE Rule 504(d), the ISE 
currently has the ability to list $2.50 intervals for strike prices 
under $25, $5 intervals for strikes between $25 and $200, and $10 
intervals for strikes above $200.\4\ The ISE currently lists options on 
205 stocks trading under $20, including Cisco, Oracle, SunMicrosystems, 
Lucent, Nortel, JDS Uniphase, Amazon, Nextel, AT&T, Motorola and 
Hewlett-Packard. These stocks are among the most widely held and 
actively traded equities listed on the New York Stock Exchange, Inc. or 
Nasdaq, and the options overlying these stocks are actively traded as 
well.
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    \4\ ISE Rule 504(g) establishes guidelines for listing $2.50 
strikes for a set number of options classes with series trading 
between $25 and $50.
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    The ISE notes that when a stock underlying an option trades at a 
lower price, it takes a larger percentage gain in the stock for an 
option to become in-the-money. For example, when a stock trades at $8, 
an investor who wants to buy a slightly out-of-the-money call option 
would need to buy the call with a $10 strike price. At these levels, 
the stock price would need to register a 25% change before it reached 
$10 (i.e., in-the-money status). The ISE notes that a 25% gain in the 
underlying is especially large given the lessened degree of volatility 
that has accompanied many stocks and options over the past several 
months. Due to the recent preponderance of low priced stocks, member 
firms have expressed an interest in listing additional strike prices on 
these classes so that they can provide their customers with greater 
flexibility in their investment choices. For this reason, the Exchange 
proposes to implement a Pilot Program, as described below.
    Pilot Program Eligibility: The Exchange proposes to add 
Supplementary Material .01 to ISE Rule 504 to allow the ISE to list 
series with $1 strike price intervals on equity option classes that 
overlie up to five individual stocks, provided that the strike prices 
are $20 or less, but not less than $3. The Exchange would make the 
determination of which underlying stocks are to be included in the 
Pilot Program. A class becomes eligible for inclusion in the Pilot 
Program when the underlying stock price closes below $20 in its primary 
market on the previous business day. Underlying stocks trading under 
$20 that are not a part of the Pilot Program would continue to be 
eligible for trading in $2.50 and $5.00 intervals.
    Although the ISE may select only up to five individual stocks to be 
included in the Pilot Program, the Exchange would not be precluded from 
also listing options on other individual stocks at $1 strike price 
intervals if other options exchanges listed those series pursuant to 
their respective rules.
    Procedures for Adding $1 Strike Price Intervals: The Exchange 
proposes to adopt new Supplementary Material .01 to ISE Rule 504 to 
specify the standards that will apply when adding additional $1 strike 
price intervals under the Pilot Program.\5\ Under the proposal, the 
closing price of the underlying stock serves as the reference point for 
determining which $1 strike prices the Exchange may open for trading. 
Specifically, the Exchange will only list $1 strike prices that fall 
within a $5 range of the underlying stock price, and no strike prices 
will be added outside of the $5 range. For example, if the underlying 
stock trades at $6, the Exchange could list $1 strikes from $3 to 
$11.\6\ The ISE believes that this proposed range-format will 
significantly restrict the number of series that may be added at any 
one time.
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    \5\ ISE Rule 504(c) provides for the addition of series ``when 
the Exchange deems it necessary to maintain an orderly market, to 
meet customer demand, or when the market price of the underlying 
stock moves substantially from the initial exercise prices.'' If the 
Exchange initiates options trading on a new class whose underlying 
stock is below $20, Rule 504(b) governs the establishment of strike 
prices.
    \6\ As indicated above, strike prices for options included in 
the Pilot Program may not be less than $3 or greater than $20.
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    Under ISE Rule 504, the Exchange may list strike prices with $2.50 
intervals when an underlying stock trades below $25. Accordingly, 
several options classes have $7.50, $12.50 and $17.50 strike prices 
(the ``$2.50 series'' or ``$2.50 intervals''). To further avoid the 
proliferation of series, the Exchange does not intend to list $1 strike 
prices at levels that ``bracket'' existing $2.50 intervals (e.g., $7 
and $8 strikes would not be added if there is an existing $7.50 
strike). Accordingly, the Exchange will not list $7, $8, $12, $13, $17 
and $18 levels in an expiration month where there are corresponding 
$2.50 intervals. As the $2.50 intervals are ``phased-out,'' as 
described below, the Exchange would introduce the $1 levels that 
bracket the phased-out price. For example, when the $7.50 series 
expires, the Exchange would replace it by issuing a new month with $7 
and $8 intervals.
    Procedures for Phasing-Out $2.50 Strike Price Intervals: When a 
stock becomes part of the Pilot Program, the Exchange will begin the 
corresponding process of phasing-out the existing $2.50 intervals on 
the same stock in favor of $1 intervals. To phase-out the $2.50 
intervals, the Exchange would first delist those $2.50 series for which 
there is no open interest. Second, the Exchange would no longer add new 
expiration months at $2.50 intervals below $20 when the existing months 
expire. This would cause the $2.50 strike price intervals below $20 to 
be phased-out when the farthest-out month with a $2.50 interval 
eventually expires.
    $1 Strikes for Long-Term Options: The ISE will not list long-term 
options (also known as ``LEAPS'') in equity options classes at $1 
strike price intervals.
    Procedures for Adding Expiration Months: ISE Rule 504(e) will 
continue to govern the addition of expiration months for all options, 
including those included in the Pilot Program. Pursuant to this rule, 
the Exchange generally opens four expiration months for each class upon 
initial listing of an options class for trading, and upon expiration of 
the near-term month, the Exchange lists an additional expiration month. 
With respect to options in the Pilot Program, the Exchange may list an 
additional expiration month for a $1 strike series provided that the 
underlying stock price closes below $20 on its primary market on 
expiration Friday. If the underlying closes at or above $20 on 
expiration Friday, the Exchange would not list an additional month for 
a $1 strike series until the stock again closes below $20.
    Procedures for Deleting $1 Strike Price Intervals: At any time, the 
Exchange may cease trading options series, including series with $1 
strike prices, by submitting a cessation notice to The Options Clearing 
Corporation (``OCC'').\7\ As discussed above, if the

[[Page 37038]]

underlying closes at or above $20 on expiration Friday, the Exchange 
would not list any additional months with $1 strike prices until the 
stock subsequently closed below $20. If the underlying does not 
subsequently close below $20, thereby precluding the listing of 
additional strike prices and months, the existing $1 series will 
eventually expire. When the near-term month is the only series 
available for trading, the Exchange may submit a cessation notice to 
OCC. Upon submission of that notice, the underlying stock would no 
longer count towards the five stock Pilot Program, thereby allowing the 
Exchange to list classes on an additional stock. Once the Exchange 
submits the cessation notice, it would not list any additional months 
for trading with $1 strikes below $20 (unless the underlying once again 
closed below $20).\8\
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    \7\ Among the reasons for submitting a cessation notice are the 
expiration of available $1 strikes (i.e., the underlying stock price 
remains at or above $20), series proliferation concerns, and 
delisting because of low price, merger, takeover or other events. In 
any event, with prior notice to the membership and customers, ISE 
would continue to have the ability to cease trading series that 
become inactive and have no open interest.
    \8\ If the underlying stock trades below $20 after submission of 
the cessation notice by the Exchange, the ISE could list $1 strike 
prices again provided it included the class as one of the five 
classes permitted under the Pilot Program.
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    OPRA Capacity: The ISE believes that OPRA has the capacity to 
accommodate the increase in the number of series added pursuant to the 
Pilot Program. The Pilot Program is limited to only five underlying 
securities, and the Pilot Program will result in an increase of between 
seven and 14 additional strikes for each underlying (depending on the 
number of existing $2.50 strikes listed). Thus, the Pilot Program will 
result in a maximum of 70 additional series, which is a small increase 
in the approximately 47,000 thousand series currently traded on the 
ISE. Currently, OPRA's one-minute peak has been less than one-third of 
its total capacity.
2. Basis
    The Exchange believes that the addition of $1 strike prices would 
stimulate customer interest in options overlying lower-priced stocks by 
creating greater trading opportunities and flexibility. The Exchange 
further believes that $1 strike prices would provide customers with the 
ability to more closely tailor investment strategies to the precise 
movement of the underlying security. For these reasons, the Exchange 
believes the proposed rule change is consistent with the Act and the 
rules and regulations thereunder and, in particular, the requirements 
of section 6(b) of the Act.\9\ Specifically, the Exchange believes the 
proposed rule change is consistent with section 6(b)(5)\10\ 
requirements that the rules of an exchange be designed to promote just 
and equitable principles of trade, to prevent fraudulent and 
manipulative acts, 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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    \9\ 15 U.S.C. 78f(b).
    \10\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The ISE believes that this proposed rule change does not impose 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

    The ISE has not solicited, and does not intend to solicit, comments 
on this proposed rule change. The ISE has not received any unsolicited 
written comments from members or other interested persons.

III. 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 that are 
filed with the Commission, and all written communications relating to 
the proposed rule change between the Commission and any person, other 
than those that may be withheld from the public in accordance with the 
provisions of 5 U.S.C. 552, will be available for inspection and 
copying in the Commission's Public Reference Room. Copies of such 
filings will also be available for inspection and copying at the 
principal office of the Exchange. All submissions should refer to File 
No. SR-ISE-2003-17 and should be submitted by July 11, 2003.

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

    After careful review, the Commission finds that the proposed rule 
change is consistent with the requirements of the Act and the rules and 
regulations thereunder applicable to a national securities 
exchange.\11\ In particular, the Commission finds that the proposed 
rule change is consistent with section 6(b)(5) of the Act,\12\ which 
requires, among other things, that the rules of a national securities 
exchange be designed to remove impediments to and perfect the mechanism 
of a free and open market and a national market system, and, in 
general, to protect investors and the public interest. Specifically, 
the Commission believes that the proposed listing of one point strike 
price intervals in selected equity options on a pilot basis should 
provide investors with more flexibility in the trading of equity 
options overlying stocks trading at more than $3 but less than $20, 
thereby furthering the public interest by allowing investors to 
establish equity options positions that are better tailored to meet 
their investment objectives. The Commission also believes that the 
Exchange's limited Pilot Program strikes a reasonable balance between 
the Exchange's desire to accommodate market participants by offering a 
wide array of investment opportunities and the need to avoid 
unnecessary proliferation of options series. The Commission expects the 
Exchange to monitor the applicable equity options activity closely to 
detect any proliferation of illiquid options series resulting from the 
narrower strike price intervals and to act promptly to remedy this 
situation should it occur. In addition, the Commission requests that 
the ISE monitor the trading volume associated with the additional 
options series listed as a result of the Pilot Program and the effect 
of these additional series on market fragmentation and on the capacity 
of the Exchange's, OPRA's, and vendors' automated systems.
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    \11\ In approving this proposed rule change, the Commission has 
considered the proposed rule's impact on efficiency, competition, 
and capital formation. 15 U.S.C. 78c(f).
    \12\ 15 U.S.C. 78f(b)(5).
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    As noted above, the Commission is approving the ISE's proposal on a 
pilot basis. In the event that ISE proposes to extend the Pilot Program 
beyond June 5, 2004, expand the number of options eligible for 
inclusion in the Pilot Program, or seek permanent approval of the Pilot 
Program, it should submit a Pilot Program report to the Commission

[[Page 37039]]

along with the filing of such proposal.\13\ The report must cover the 
entire time the Pilot Program was in effect, and must include: (1) Data 
and written analysis on the open interest and trading volume for 
options (at all strike price intervals) selected for the Pilot Program; 
(2) delisted options series (for all strike price intervals) for all 
options selected for the Pilot Program; (3) an assessment of the 
appropriateness of $1 strike price intervals for the options the ISE 
selected for the Pilot Program; (4) an assessment of the impact of the 
Pilot Program on the capacity of the ISE's, OPRA's, and vendors' 
automated systems; (5) any capacity problems or other problems that 
arose during the operation of the Pilot Program and how the ISE 
addressed them; (6) any complaints that the ISE received during the 
operation of the Pilot Program and how the ISE addressed them; and (7) 
any additional information that would help to assess the operation of 
the Pilot Program.
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    \13\ The Commission expects the ISE to submit a proposed rule 
change at least 60 days before the expiration of the Pilot Program 
in the event the ISE wishes to extend, expand, or seek permanent 
approval of the Pilot Program.
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    The Commission finds good cause for approving the proposal prior to 
the thirtieth day after the date of publication of notice of filing 
thereof in the Federal Register. The ISE's Pilot Program is identical 
to a CBOE pilot program (``CBOE Pilot'') that the Commission 
approved.\14\ Notice of the CBOE Pilot was published for comment \15\ 
and the Commission received one comment letter, which supported the 
CBOE's proposal. Accordingly, the Commission believes that the ISE's 
Pilot Program proposal raises no issues of regulatory concern. 
Amendment No. 1 to the proposal clarifies the proposal by specifying 
the date on which the Pilot Program will expire. For these reasons, the 
Commission believes that there is good cause, consistent with sections 
6(b)(5) and 19(b) of the Act,\16\ to approve the ISE's proposal, as 
amended, on an accelerated basis.
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    \14\ See Securities Exchange Act Release No. 47991 (June 5, 
2003), 68 FR 35243 (June 12, 2003) (order approving File No. SR-
CBOE-2001-60).
    \15\ See Securities Exchange Act Release No. 47753 (April 29, 
2003), 68 FR 23784 (May 5, 2003).
    \16\ 15 U.S.C. 78f(b)(5) and 78s(b).
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V. Conclusion

    It is therefore ordered, pursuant to section 19(b)(2) of the 
Act,\17\ that the proposed rule change (SR-ISE-2003-17) and Amendment 
No. 1 thereto are hereby approved, on an accelerated basis and as a 
pilot program, through June 5, 2004.
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    \17\ 15 U.S.C. 78s(b)(2).

    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).

Jill M. Peterson,
Assistant Secretary.
[FR Doc. 03-15650 Filed 6-19-03; 8:45 am]
BILLING CODE 8010-01-P