[Federal Register Volume 68, Number 208 (Tuesday, October 28, 2003)]
[Notices]
[Pages 61535-61544]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 03-27094]



[[Page 61535]]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-48662; File No. SR-PCX-2003-41]


Self-Regulatory Organizations; Notice of Filing and Order 
Granting Accelerated Approval of Proposed Rule Change and Amendment No. 
1 Thereto by the Pacific Exchange, Inc. To Trade, Either by Listing or 
Pursuant to Unlisted Trading Privileges, Fixed Income Exchange Traded 
Funds

October 20, 2003.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Exchange Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby 
given that on September 2, 2003, the Pacific Exchange, Inc. (``PCX'' or 
``Exchange'') filed with the Securities and Exchange Commission 
(``Commission'') the proposed rule change as described in Items I and 
II below, which Items have been prepared by the Exchange. On October 
14, 2003, PCX filed Amendment No. 1 to the proposed rule change.\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.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See letter from Tania J. Cho, Staff Attorney, Regulatory 
Policy, PCX, to Nancy J. Sanow, Assistant Director, Division of 
Market Regulation, Commission, dated October 13, 2003 (``Amendment 
No. 1'').
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    PCX, through its wholly owned subsidiary PCX Equities, Inc. 
(``PCXE''), proposes to amend its rules governing the Archipelago 
Exchange (``ArcaEx''), the equities trading facility of PCXE. With this 
filing, PCX proposes to amend PCXE Rule 5.2(j)(3) to permit trading, 
either by listing or pursuant to unlisted trading privileges 
(``UTPs''), certain fixed income Exchange Traded Funds (``ETFs''). The 
text of the proposed rule change is below. Proposed new language is 
italicized; deleted language is in brackets.
* * * * *
    Rule 5.2(j)(3)--No change.
    (A) Original Unit Listing Standards.
    (i) The Investment Company must:
    (a)[(I)] hold securities (including fixed income securities) 
comprising, or otherwise based on or representing an interest in, an 
index or portfolio or securities; or
    (b)[(II)] hold securities in another registered investment company 
that holds securities as described in (a) above.
    An index or portfolio may be revised as necessary or appropriate to 
maintain the quality and character of the index or portfolio.
    (ii) The Investment Company must issue Units in a specified 
aggregate number in return for a deposit (the ``Deposit'') consisting 
of either:
    (a)[(I)] a specified number of shares of securities (or, if 
applicable, a specified portfolio of fixed income securities) that 
comprise the index or portfolio, or are otherwise based on or represent 
an investment in securities comprising such index or portfolio, and/or 
a cash amount; or
    (b)[(II)] shares of a registered investment company, as described 
in subsection (A)(i)(a)[(I)] above, and/or a cash amount.
    (iii) Units must be redeemable, directly or indirectly, from the 
Investment Company for securities (including fixed income securities) 
and/or cash then comprising the Deposit. Units must pay holders 
periodic cash payments corresponding to the regular cash dividends or 
distributions declared with respect to the securities held by the 
Investment Company, less applicable expenses and charges.
    (iv)--No change.
    (B)-(D)--No change.
Commentary
    .01--No change.
* * * * *

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, PCX 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. PCX 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

Purpose
    The Exchange proposes to amend PCXE Rule 5.2(j)(3) to permit the 
listing and trading of fixed income ETFs. Additionally, PCXE seeks 
approval to trade, on a UTP basis, the following series of the iShares 
Trust: iShares 1-3 Year Treasury Index Fund, iShares 7-10 Year Treasury 
Index Fund, iShares 20+ Year Treasury Index Fund, and iShares GS $ 
InvesTopTM Corporate Bond Fund.
1. Listing and Trading ETFs
    PCXE Rule 5.2(j)(3) provides standards for listing an Investment 
Company Unit (``ICU''), which is defined as ``a security that 
represents an interest in a registered investment company (``Investment 
Company'') that could be organized as a unit investment trust, open-end 
management investment company or similar entity.'' In addition to being 
registered under the Investment Company Act of 1940 (``1940 Act''), 
these securities are also registered under the Exchange Act. The 
Exchange proposes to amend this definition to permit the listing and 
trading of index-based fixed income investment products (e.g., ETFs) 
that are based on an index of fixed income securities. Examples of such 
products include U.S. government securities and corporate and non-
corporate (other than U.S. government) debt securities. As amended, 
PCXE Rule 5.2(j)(3) would accommodate the listing and trading of units 
of trading (``Units'') \4\ based on an index of U.S. government debt 
securities (e.g., securities issued or guaranteed by the U.S. Treasury, 
an agency or instrumentality of the U.S. government, or by a 
government-sponsored entity). Other products that could be listed or 
traded under this rule, as amended, could include Units based on an 
index of corporate and/or non-corporate debt securities.\5\ The 
Commission has approved the requests of the American Stock Exchange LLC 
(``Amex''), the New York Stock Exchange (``NYSE'') and the Chicago 
Stock Exchange (``CHX'') to list and trade fixed income ETFs.\6\ The 
Exchange believes that its proposed rule change is substantially 
similar to those filed and approved for the Amex, NYSE and CHX.
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    \4\ See PCXE Rule 5.1(b)(15) for the definition of ``Unit'.
    \5\ ICUs based on a fixed income securities index are not 
currently eligible for listing or trading under the Exchange's 
generic listing criteria (See PCXE Rule 5.2) pursuant to Rule 19b-
4(e) of the Exchange Act. The Exchange understands that it must make 
separate rule filings for any additional series of such ICUs based 
on fixed income indices prior to listing or trading those products, 
even if the Exchange is only trading the product on a UTP basis.
    \6\ See Securities Exchange Act Release No. 46252 (July 24, 
2002), 67 FR 49715 (July 31, 2002) (SR-Amex-2001-35) (``Amex 
Approval Order''); Securities Exchange Act Release No. 46299 (August 
1, 2002), 67 FR 51907 (August 9, 2002) (SR-NYSE-2002-26); and 
Securities Exchange Act Release No. 46834 (November 14, 2002), 67 FR 
70276 (November 21, 2002) (SR-CHX-2002-27).
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    Accordingly, the Exchange proposes to amend PCXE Rule 5.2(j)(3) to 
specify

[[Page 61536]]

that ETFs may be: (1) Based on a portfolio of fixed income securities; 
(2) issued in return for a deposit of a specified portfolio of fixed 
income securities and/or cash; and (3) redeemed at a holder's request 
by the investment company, which will pay the redeeming holder fixed 
income securities and/or cash.\7\
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    \7\ See supra, note 4.
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    Upon approval of the proposed amendments to PCXE Rule 5.2(j)(3), 
the Exchange also proposes to trade, on a UTP basis, the following four 
series of the iShares Trust, a registered open-end management 
investment company (the ``Trust''): iShares 1-3 Year Treasury Index 
Fund, iShares 7-10 Year Treasury Index Fund, iShares 20+ Year Treasury 
Index Fund, and iShares GS $ InvesTopTM Corporate Bond Fund 
(each, a ``Fund,'' and jointly, the ``Funds'').
    Each Fund will hold certain fixed income securities selected to 
correspond generally to the price and yield performance of a specified 
U.S. Treasury, Government/Credit, or Corporate Bond Index (each, an 
``Underlying Index'') maintained either by Lehman Brothers, or, for the 
Goldman Sachs Corporate Bond Fund, by Goldman Sachs & Co. Barclays 
Global Fund Advisors (``Advisor'') is the investment advisor to each 
Fund. The Advisor is registered under the 1940 Act. The Advisor is a 
wholly owned subsidiary of Barclays Global Investors, N.A., which, is 
in turn, a wholly owned indirect subsidiary of Barclays Bank PLC of the 
United Kingdom. SEI Investments Distribution Co. (``Distributor''), a 
Pennsylvania corporation and broker-dealer registered under the 
Exchange Act, is the principal underwriter and distributor of Creation 
Unit Aggregations (as defined below) of iShares. The Distributor is not 
affiliated with the Exchange or the Advisor.
A. Operation of the Funds
    Each Fund is designed to provide investment results that correspond 
generally to the price and yield performance of its Underlying Index. 
In seeking to achieve its respective investment objective, each Fund 
will utilize ``passive'' indexing investment strategies. Each Fund may 
fully replicate its Underlying Index, but currently intends to use a 
``representative sampling'' strategy to track its Underlying Index. A 
Fund utilizing a representative sampling strategy generally will hold a 
basket of the component securities (``Component Securities'') of its 
Underlying Index, but it may not hold all of the Component Securities 
of its Underlying Index (as compared to a Fund that uses a replication 
strategy which invests in substantially all of the Component Securities 
in its Underlying Index in the same approximate proportions as in the 
Underlying Index).\8\
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    \8\ The Commission approved an ``Application'' by the Trust, the 
Advisor and the Distributor (``Applicants'') for an Order under 
Sections 6(c) and 17(b) of the 1940 Act for the purpose of exempting 
the Funds from various provisions of the 1940 Act. See Investment 
Company Act Release No. 25622 (June 24, 2002) (approving File No. 
812-12390). See also supra note 6.
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    When using a representative sampling strategy, the Advisor attempts 
to match the risk and return characteristics of a Fund's portfolio to 
the risk and return characteristics of the Underlying Index. As part of 
this process, the Advisor subdivides each Underlying Index into 
smaller, more homogenous pieces. These subdivisions are sometimes 
referred to as ``cells.'' A cell will contain securities with similar 
characteristics. For fixed income indices, the Advisor generally 
divides the index according to the five parameters that determine a 
bond's risk and expected return: duration, sector, credit rating, 
coupon and the presence of embedded options. When completed, all bonds 
in the index will have been assigned a cell. The Advisor then begins to 
construct the portfolio by selecting representative bonds from these 
cells. The representative sample of bonds chosen from each cell is 
designed closely to correlate to the duration, sector, credit rating, 
coupon and embedded option characteristics of each cell. The 
characteristics of each cell when combined are, in turn, designed to 
closely correlate to the duration, sector, credit rating, coupon and 
embedded option characteristics of the Underlying Index as a whole. The 
Advisor may exclude less liquid bonds in order to create a more 
tradable portfolio and improve arbitrage opportunities.\9\
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    \9\ As stated in the Application, the Goldman Sachs Index 
excludes bonds with embedded options. Although the Lehman Indices 
may include bonds with embedded options, the bonds in each Lehman 
Index (and the respective Deposit Securities and Fund Securities, as 
defined herein) should be liquid and easily tradable because each 
Lehman Index consists of U.S. Treasury and agency securities and/or 
liquid corporate and non-corporate bonds. To the extent a particular 
bond is less liquid than another bond with similar characteristics, 
the Advisor's representative sampling techniques should permit the 
Advisor to replace the less liquid bond with a more liquid one. For 
these reasons, the Applicants do not believe the presence of bonds 
with embedded options in an Underlying Index, the Deposit Securities 
or Fund Securities would have any material impact on the creation/
redemption process and the efficiency of the arbitrage mechanism for 
each Fund.
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    According to the Application, the representative sampling 
techniques used by the Advisor to manage fixed income funds do not 
materially differ from the representative sampling techniques it uses 
to manage equity funds. Due to the differences between bonds and 
equities, the Advisor analyzes different information (e.g., coupon 
rates instead of dividend payments).
    According to the Application, the Funds' use of the representative 
sampling strategy is beneficial for a number of reasons. First, the 
Advisor can avoid bonds that are ``expensive names'' (i.e., bonds that 
trade at perceived higher prices or lower yields because they are in 
short supply) but have the same essential risk, value, duration and 
other characteristics as less expensive names. Second, the use of 
representative sampling techniques permits the Advisor to exclude bonds 
that it believes will soon be deleted from the Underlying Index. Third, 
the Advisor can avoid holding bonds it deems less liquid than other 
bonds with similar characteristics. Fourth, the Advisor can develop a 
basket that is easier to construct and cheaper to trade, thereby 
potentially improving arbitrage opportunities. From time to time, 
adjustments may be made in the portfolio of each Fund in accordance 
with changes in the composition of the Underlying Index or to maintain 
compliance with requirements applicable to a regulated investment 
company (``RIC'') under the Internal Revenue Code. For example, if at 
the end of a calendar quarter a Fund would not comply with the RIC 
diversification tests, the Advisor would make adjustments to the 
portfolio to ensure continued RIC status. The Exchange notes, however, 
that Applicants do not anticipate that the Funds would need to make 
such adjustments, particularly since these Funds (other than the 
iShares Lehman Corporate Bond Fund and the iShares GS $ 
InvesTopTM Corporate Bond Fund) invest a very large 
percentage of their assets in U.S. Treasury securities.
    The Exchange represents that the Advisor expects that each Fund 
will have a tracking error relative to the performance of its 
respective Underlying Index of no more than five percent (5%). Each 
Fund's investment objectives, policies and investment strategies will 
be fully disclosed in its prospectus (``Prospectus'') and statement of 
additional information (``SAI''). At least 90% of each of the iShares 
1-3 Year Treasury Index Fund, iShares 7-10 Year Treasury Index Fund, 
and iShares 20+ Year Treasury Index Fund's assets will be invested in 
Component Securities of its respective Underlying Index. Each of these 
Funds

[[Page 61537]]

may also invest up to 10% of its assets in bonds not included in its 
Underlying Index, but which the Advisor believes will help the Fund 
track its Underlying Index, as well as in certain futures, options and 
swap contracts, cash and cash equivalents. For example, these Funds may 
invest in securities not included in the relevant Underlying Index in 
order to reflect prospective changes in the relevant Underlying Index 
(such as future corporate actions and index reconstitutions, additions 
and deletions). The iShares GS $ InvesTopTM Corporate Bond 
Fund generally will invest at least 90% of its assets in Component 
Securities of its respective Underlying Index. However, the iShares GS 
$ InvesTopTM Corporate Bond Fund may at times invest up to 
20% of its assets in certain futures, options and swap contracts, cash 
and cash equivalents as well as in bonds not included in its Underlying 
Index, but which the Advisor believes will help the Fund track its 
Underlying Index and which are either (i) included in the broader index 
upon which such Underlying Index is based (i.e., the Lehman Credit 
Index for the Lehman Credit VLI Index or the Goldman Sachs Investment 
Grade Index for the Goldman Sachs InvesTop Index); or (ii) new issues 
entering or about to enter the Underlying Index or the broader index 
upon which such Underlying Index is based.
B. Issuance of Creation Unit Aggregations
1. In General
    Shares of each Fund (the ``iShares'') will be issued on a 
continuous offering basis in groups of 50,000 or more. These ``groups'' 
of shares are called ``Creation Unit Aggregations.'' The Funds will 
issue and redeem iShares only in Creation Unit Aggregations.\10\ As 
with other open-end investment companies, iShares will be issued at the 
net asset value (``NAV'') per share next determined after an order in 
proper form is received.
    The NAV per share of each Fund is determined at the close of the 
regular trading session based upon the methodology employed by the 
specific Fund. The Trust sells Creation Unit Aggregations of each Fund 
only on business days at the next determined NAV of each Fund. Each 
Fund will issue Creation Unit Aggregations in exchange for the in-kind 
deposit of portfolio securities designated by the Advisor to correspond 
generally to the price and yield performance of the Fund's Underlying 
Index (the ``Deposit Securities''). Purchasers will generally be 
required to deposit a specified cash payment in the manner more fully 
described in the Application. Creation Unit Aggregations will be 
redeemed by each fund in exchange for portfolio securities of the Fund 
(``Fund Securities'') and a specified cash payment in the manner more 
fully described herein. Fund Securities received on redemption may not 
be identical to Deposit Securities deposited in connection with 
creations of Creation Unit Aggregations for the same day.
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    \10\ Each Creation Unit Aggregation will consist of 50,000 or 
more iShares and the estimated initial value per Creation Unit 
Aggregation will be approximately $5 million.
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    The Distributor will act on an agency basis and will be the Trust's 
principal underwriter for the iShares in Creation Unit Aggregations of 
each Fund. All orders to purchase iShares in Creation Unit Aggregations 
must be placed with the Distributor by or through an authorized 
participant (``Authorized Participant''). Authorized Participants, 
which are required to be Depository Trust Company (``DTC'') 
participants, must enter into a participant agreement with the 
Distributor. The Distributor will transmit such orders to the 
applicable Fund and furnish to those placing orders confirmation that 
the orders have been accepted. The Distributor may reject any order 
that is not submitted in proper form. The Distributor will be 
responsible for delivering the prospectus to those persons creating 
iShares in Creation Unit Aggregations and for maintaining records of 
both the orders placed with it and the confirmations of acceptance 
furnished by it. In addition, the Distributor will maintain a record of 
the instructions given to the Trust to implement the delivery of 
iShares.
2. In-Kind Deposit of Portfolio Securities
    Payment for Creation Unit Aggregations placed through the 
Distributor will be made by the purchasers generally by an in-kind 
deposit with the Fund of the Deposit Securities together with an amount 
of cash (the ``Balancing Amount'') specified by the Advisor in the 
manner described below. The Balancing Amount is an amount equal to the 
differences between (1) the NAV (per Creation Unit Aggregation) of the 
Fund and (2) the total aggregate market value (per Creation Unit 
Aggregation) of the Deposit Securities (such value referred to herein 
as the ``Deposit Amount''). The Balancing Amount serves the function of 
compensating for differences, if any, between the NAV per Creation Unit 
Aggregation and that of the Deposit Amount. The deposit of the 
requisite Deposit Securities and the Balancing Amount are collectively 
referred to herein as a ``Portfolio Deposit.''
    The Advisor will make available to the market through the National 
Securities Clearing Corporation (the ``NSCC'') on each Business Day, 
prior to the Core Trading Session \11\ trading on ArcaEx (currently 
9:30 a.m. Eastern Time), the list of the names and the required number 
of shares of each Deposit Security included in the current Portfolio 
Deposit (based on the information at the end of the previous Business 
Day) for the relevant Fund. The Portfolio Deposit will be applicable to 
a Fund (subject to any adjustments to the Balancing Amount, as 
described below) in order to effect purchases of Creation Unit 
Aggregations of the Fund until such time as the next-announced 
Portfolio Deposit composition is made available.
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    \11\ The Exchange operates three trading sessions each day it is 
open. The three trading sessions are (1) the Opening Session; (2) 
the Core Trading Session; and (3) the Late Trading Session. See PCXE 
Rule 7.34(a).
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    The identity and number of shares of the Deposit Securities 
required for the Portfolio Deposit for each Fund will change from time 
to time. The composition of the Deposit Securities may change in 
response to adjustments to the weighting of composition of the 
Component Securities in the relevant Underlying Index. These 
adjustments will reflect changes, known to the Advisor to be in effect 
by the time of determination of the Deposit Securities, in the 
composition of the Underlying Index being tracked by the relevant Fund, 
or resulting from rebalance or additions or deletions to the relevant 
Underlying Index. In addition, the Trust reserves the right with 
respect to each Fund to permit or require the substitution of an amount 
of cash (i.e., a ``cash in lieu'' amount) to be added to the Balancing 
Amount to replace any Deposit Security: (1) That may be unavailable or 
not available in sufficient quantity for delivery to the Trust upon the 
purchase of iShares in Creation Unit Aggregations, or (2) that may not 
be eligible for trading by an Authorized Participant or the investor on 
whose behalf the Authorized Participant is acting.
C. Availability of Information Regarding iShares and Underlying Indices
1. In General
    On each Business Day, the list of names and amount of each treasury 
security, government security or corporate bond constituting the 
current

[[Page 61538]]

Deposit Securities of the Portfolio Deposit and the Balancing Amount 
effective as of the previous Business Day will be made available. An 
amount per iShare representing the sum of the estimated Balancing 
Amount effective through and including the previous Business Day, plus 
the current value of the Deposit Securities, on a per iShare basis (the 
``Intra-day Optimized Portfolio Value'' or ``IOPV'') will be calculated 
by Bloomberg L.P. (``Bloomberg'') every 15 seconds during the 
Exchange's core trading hours and disseminated every 15 seconds on the 
Consolidated Tape. Bloomberg will use Bloomberg Generic Prices (``BGN 
Prices'') to reflect changing bond prices and update the IOPV 
throughout the day. BGN Prices are current prices on individual bonds 
as determined by Bloomberg using an automated pricing program that 
analyzes multiple bond prices contributed to Bloomberg by third-party 
price contributors (such as broker-dealers). BGN Prices are updated 
throughout the day based on an ongoing analysis of the bid/ask prices 
submitted by the third-party price contributors. When Bloomberg 
receives bid/ask prices from a price contributor, the prices are 
filtered and screened according to pre-determined criteria and set 
parameters in order to maximize the accuracy of the pricing data. The 
net result of this process is an individual bond ``price'' based on an 
analysis of multiple pricing sources. BGN Prices are available on 
Bloomberg systems and Applicants expect that the pricing of the Deposit 
Securities will be transparent to anyone with access to Bloomberg 
systems.
    The Lehman Indices and the Goldman Sachs Index will not be 
calculated or disseminated intra-day. The value and return of each 
Lehman Index is updated on a daily basis by Lehman Brothers. Goldman 
Sachs updates the value and return of the Goldman Sachs Index on a 
daily basis.
    Each Fund will make available through NSCC on a daily basis the 
names and required number of shares of each of the Deposit Securities 
in a Creation Unit Aggregation, as well as information regarding the 
Balancing Amount. The NAV for each Fund will be calculated and 
disseminated daily. There will also be disseminated a variety of data 
with respect to each Fund on a daily basis by means of CTA and CQ High 
Speed Lines; information with respect to recent NAV, shares 
outstanding, estimated cash amount and total cash amount per Creation 
Unit Aggregation will be made available prior to the opening of the 
Exchange. The closing prices of the Funds' Deposit Securities are 
available from published or other public sources, or on-line 
information services provided by Merrill Lynch, IDC, Bridge, Bloomberg, 
Lehman Brothers and other pricing services commonly used by bond mutual 
funds. In addition, the Web site for the Trust, which will be publicly 
accessible at no charge,\12\ will contain the following information, on 
a per iShare basis, for each Fund: (a) The prior Business Day's NAV and 
the mid-point of the bid-ask price \13\ at the time of calculation of 
such NAV (``Bid/Ask Price''), and a calculation of the premium or 
discount of such price against such NAV; and (b) data in chart format 
displaying the frequency distribution of discounts and premiums of the 
Bid/Ask Price against the NAV, within appropriate ranges, for each of 
the four previous calendar quarters.
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    \12\ See http://www.ishares.com.
    \13\ The Bid-Ask Price of a Fund is determined using the highest 
bid and lowest offer on the Exchange as of the time of calculation 
of each Fund's NAV.
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2. Information Regarding the Underlying Debt Securities
    The secondary market for Treasury securities is a highly organized 
over-the-counter market. Many dealers, and particularly the primary 
dealers, make markets in Treasury securities. Trading activity takes 
place between primary dealers, non-primary dealers, and customers of 
these dealers, including financial institutions, non-financial 
institutions and individuals. Increasingly, trading in Treasury 
securities occurs through automated trading systems.\14\
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    \14\ See ``eCommerce in the Fixed-Income Markets: The 2001 
Review of Electronic Transaction Systems,'' December 2001. This 
survey of electronic trading systems in the bond market was prepared 
by the staff of The Bond Market Association and is available through 
the Association's Web site: http://www.bondmarkets.com.
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    The primary dealers are among the most active participants in the 
secondary market for Treasury securities. The primary dealers and other 
large market participants frequently trade with each other, and most of 
these transactions occur through an interdealer broker.\15\ The 
interdealer brokers provide primary dealers and other large 
participants in the Treasury market with electronic screens that 
display the bid and offer prices among dealers and allow trades to be 
consummated.
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    \15\ See e.g., BrokerTec Global, Cantor Fitzgerald, Garban-
Intercapital, and Liberty Brokerage.
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    Quote and trade information regarding Treasury securities is widely 
available to market participants from a variety of sources. The 
electronic trade and quote systems of the dealers and interdealer 
brokers are one such source. Groups of dealers and interdealer brokers 
also furnish trade and quote information to vendors such as Bloomberg, 
Reuters, Bridge, Moneyline Telerate, and CQG. GovPX,\16\ for example, 
is a consortium of leading government securities dealers and 
subscribers that provides market data from leading government 
securities dealers and interdealer brokers to market data vendors and 
subscribers. TradeWeb, another example, is a consortium of 18 primary 
dealers that, in addition to providing a trading platform, also 
provides market data direct to subscribers or to other market data 
vendors.\17\
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    \16\ See http://www.govpx.com.
    \17\ See http://www.tradeweb.com.
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    Real-time price quotes for corporate \18\ and non-corporate debt 
securities are available to institutional investors via proprietary 
systems such as Bloomberg, Reuters and Dow Jones Telerate. Additional 
analytical data and pricing information may also be obtained through 
vendors such as Bridge Information Systems, Muller Data, Capital 
Management Sciences, Interactive Data Corporation and Barra.
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    \18\ See Securities Exchange Act Release No. 43873 (January 23, 
2001), 66 FR 8131 (January 29, 2001) (SR-NASD-65) for a discussion 
of the Trade Reporting and Compliance Engine (``TRACE'') which 
requires mandatory reporting relating to price transparency and 
oversight for the corporate debt market.
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    Retail investors do have access to free intra-day bellwether 
quotes.\19\ The Bond Market Association provides links to price and 
other bond information sources on its investor Web site at http://www.investinginbonds.com. In addition, transaction prices and volume 
data for the most actively-traded bonds on the exchanges are published 
daily in newspapers and on a variety of financial Web sites.
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    \19\ Corporate prices are available at 20-minute intervals from 
Capital Management Services at http://www.bondvu.com/quotmenu.htm.
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    Closing corporate and non-corporate bond prices are also available 
through subscription services (e.g., IDC, Bridge) that provide 
aggregate pricing information based on prices from several dealers, as 
well as subscription services from broker-dealers with a large bond 
trading operation, such as Lehman Brothers and Goldman, Sachs & Co.
D. Redemption of iShares
    Creation Unit Aggregations of each Fund will be redeemable at the 
NAV next determined after receipt of a request for redemption. Creation 
Unit Aggregations of each Fund will be redeemed principally in-kind, 
together with a balancing cash payment

[[Page 61539]]

(although, as described below, Creation Unit Aggregations may sometimes 
be redeemed for cash). The value of each Fund's redemption payments on 
a Creation Unit Aggregation basis will equal the NAV per the 
appropriate number of iShares of such Fund. Owners of iShares may sell 
their iShares in the secondary market, but must accumulate enough 
iShares to constitute a Creation Unit Aggregation in order to redeem 
through the Fund. Redemption orders must be placed by or through an 
Authorized Participant.
    Creation Unit Aggregations of any Fund generally will be redeemable 
on any Business Day in exchange for Fund Securities and the Cash 
Redemption Payment (defined below) in effect on the date a request for 
redemption is made. The Advisor will publish daily through NSCC the 
list of securities that a creator of Creation Unit Aggregations must 
deliver to the Fund (the ``Creation List'') and which a redeemer will 
receive from the Fund (the ``Redemption List''). The Creation List is 
identical to the list of the names and the required numbers of shares 
of each Deposit Security included in the current Portfolio Deposit.
    In addition, just as the purchaser of Creation Unit Aggregations 
delivers the Balancing Amount to the Fund, the Trust will also deliver 
to the redeeming Beneficial Owner in cash the ``Cash Redemption 
Payment.'' The Cash Redemption Payment on any given Business Day will 
be an amount calculated in the same manner as that for the Balancing 
Amount, although the actual amounts may differ in the Fund Securities 
received upon redemption are not identical to the Deposit Securities 
applicable for creations on the same day. To the extent that the Fund 
Securities have a value greater than the NAV of iShares being redeemed, 
a cash payment equal to the differential is required to be paid by the 
redeeming Beneficial Owner to the Fund. The Trust may also make 
redemptions in cash in lieu of transferring one or more Fund Securities 
to a redeemer if the Trust determines, in its discretion, that such 
method is warranted due to unusual circumstances. An unusual 
circumstance could arise, for example, when a redeeming entity is 
restrained by regulation or policy from transacting in certain Fund 
Securities, such as the presence of such Fund Securities, on a 
redeeming investment banking firm's restricted list.
E. Clearance and Settlement
    The Deposit Securities and Fund Securities of each Fund will settle 
via free delivery through the Federal Reserve System for U.S. 
government securities and the DTC for corporate securities and non-
corporate (other than U.S. government securities). The iShares will 
settle through the DTC. The Custodian will monitor the movement of the 
Deposit Securities and will instruct the movement of the iShares only 
upon validation that the Deposit Securities have settled correctly or 
that required collateral is in place.
    As with the settlement of domestic ETF transactions outside of the 
NSCC Continuous Net Settlement System (the ``CNS System''), (i) iShares 
of the Funds and corporate and non-corporate securities (other than 
U.S. government securities) will clear and settle through DTC, and (ii) 
U.S. government securities and cash will clear and settle through the 
Federal Reserve system. More specifically, creation transactions will 
settle as follows. On settlement date (T + 3), an Authorized 
Participant will transfer Deposit Securities that are corporate and 
non-corporate bonds (other than U.S. government securities) through DTC 
to a DTC account maintained by the Funds' Custodian, and Deposit 
Securities that are U.S. government securities, together with any 
Balancing Amount, to the Custodian through the Federal Reserve system. 
Once the Custodian has verified the receipt of all the Deposit 
Securities (or in the case of failed delivery of one or more bonds, 
collateral in the amount of 105% or more of the missing Deposit 
Securities) and the receipt of any Balancing Amount, the Custodian will 
notify the Distributor and the Advisor. The Fund will issue Creation 
Unit Aggregations of iShares and the Custodian will deliver the iShares 
to the Authorized Participant through DTC. DTC will then credit the 
Authorized Participant's DTC account. The clearance and settlement of 
redemption transactions essentially reverses the process described 
above. After the Trust has received a redemption request in proper form 
and the Authorized Participant transfers Creation Unit Aggregations of 
iShares to the Funds' Custodian through DTC, the Trust will cause the 
Custodian to initiate procedures to transfer the requisite Fund 
Securities and any Cash Redemption Payment. On T + 3, assuming the 
Custodian has verified receipt of the Creation Unit Aggregations, the 
Custodian will transfer Fund Securities that are corporate and non-
corporate bonds to the Authorized Participant through DTC and Fund 
Securities that are U.S. government securities, together with any Cash 
Redemption Payment, through the Federal Reserve system.
    iShares of the Funds will be debited or credited by the Custodian 
directly to the DTC accounts of the Authorized Participants. With 
respect to domestic equity-based ETFs using the CNS System, Creation 
Unit Aggregations of iShares are deposited or charged to the Authorized 
Participants' DTC accounts through the CNS System. Since creation/
redemption transactions for iShares of the Funds will not clear and 
settle through the CNS System, the failed delivery of one or more 
Deposit Securities (on a create) or one or more Fund Securities (on a 
redemption) will not be facilitated by the CNS System. Therefore, 
Authorized Participants will be required to provide collateral to cover 
the failed delivery of Deposit Securities in connection with an ``in-
kind'' creation of iShares. In case of a failed delivery of one or more 
Deposit Securities, the Funds will hold the collateral until the 
delivery of such Deposit Security. The Funds will be protected from 
failure to receive the Deposit Securities because the Custodian will 
not effect the Fund's side of the transaction (the issuance of iShares) 
until the Custodian has received confirmation of receipt of the 
Authorized Participant's incoming Deposit Securities (or collateral for 
failed Deposit Securities) and Balancing Amount. In the case of 
redemption transactions, the Funds will be protected from failure to 
receive Creation Unit Aggregations of iShares because the Custodian 
will not now effect the Fund's side of the transaction (the delivery of 
Fund Securities and the Cash Redemption Payment) until the Transfer 
Agent has received confirmation of receipt of the Authorized 
Participant's incoming Creation Unit Aggregations. In order to simplify 
the transfer agency process and align the settlement of iShares of the 
Funds with the settlement of the Deposit Securities and Fund 
Securities, Applicants plan to settle transactions in U.S. government 
securities, corporate bonds, non-corporate bonds (other than U.S. 
government securities) and iShares on the same T + 3 settlement cycle. 
The issuer does not believe that the clearing and settlement process 
will affect the arbitrage of iShares of the Funds.
F. Dividends and Distributions
    Dividends from net investment income will be declared and paid to 
Beneficial Owners of record at least annually by each Fund. Certain of 
the Funds may pay dividends, if any, on a quarterly or more frequent 
basis. Distributions of realized securities

[[Page 61540]]

gains, if any, generally will be declared and paid once a year, but 
each Fund may make distributions on a more frequent basis to comply 
with the distribution requirements of the Internal Revenue Code and 
consistent with the 1940 Act.
    Dividends and other distributions on iShares of each Fund will be 
distributed on a pro rata basis to Beneficial Owners of such iShares. 
Dividend payments will be made through the Depository and the DTC 
Participants to Beneficial Owners then of record with amount received 
from each Fund.
    The Trust will not make the DTC book-entry Dividend Reinvestment 
Service (the ``Service'') available for use by Beneficial Owners for 
reinvestment of their cash proceeds, but certain individual brokers may 
make the Service available to their clients. The SAI will inform 
investors of this fact and direct interested investors to contact such 
investor's broker to ascertain the availability and a description of 
the Service through such broker. The SAI will also caution interested 
Beneficial Owners that they should note that each broker may require 
investors to adhere to specific procedures and timetables in order to 
participate in the Service and such investors should ascertain from 
their broker such necessary details. iShares acquired pursuant to the 
Service will be held by the Beneficial Owners in the same manner, and 
subject to the same terms and conditions, as for original ownership of 
iShares.
G. Other Issues
1. Criteria for Initial and Continued Listing
    iShares are subject to the criteria for initial and continued 
listing of ICUs in PCXE Rule 5.2(j)(3) and PCXE Rule 5.5(g)(2), 
respectively. It is anticipated that a minimum of one Creation Unit 
(100,000 iShares) will be required to be outstanding at the start of 
trading. This minimum number of iShares required to be outstanding at 
the start of trading will be comparable to requirements that have been 
applied to previously traded series of ICUs.
    The Exchange believes that the proposed minimum number of iShares 
outstanding at the start of trading is sufficient to provide market 
liquidity and to further the Trust's objective to seek to provide 
investment results that correspond generally to the price and yield 
performance of the Index.
2. Original and Annual Listing Fees
    Because the ETFs will be traded on a UTP basis, the Exchange does 
not presently assess original or annual listing fees that are 
applicable to the fixed income ETF rule filing. However, once the fixed 
income ETFs are listed, the Exchange will submit a rule filing to 
reflect the original and annual listing fees.
3. Stop and Stop Limit Orders
    Notwithstanding that the value of the ETF is derivatively priced 
based upon another security or index of securities, a Stop Order or 
Limit Order to buy or sale an ETF will be handled as provided in PCXE 
Rule 7.31(l) \20\ and PCXE Rule 7.31(n).\21\
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    \20\ On the ArcaEx, a stop order to buy (sell) becomes a market 
order when a transaction in the security occurs on the Exchange or 
on another national securities exchange or association at or above 
(below) the stop price. Stop Order shall not have standing in any 
Order Process in the Arca Book and shall not be displayed.
    \21\ On the ArcaEx, a stop limit order to buy (sell) becomes a 
limit order when a transaction in the security occurs on the 
Exchange or on another national securities exchange or association 
at or above (below) the stop price.
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4. Specialist Trading of ETFs
    ArcaEx does not currently offer trading by specialists. However, 
ArcaEx does allow trading by Market Makers (``MMs'') or Market Maker 
Authorized Traders (``MMATs'').\22\ Nothing in the PCXE Rules should be 
construed to restrict a MM or MMAT in a security issued by an 
investment company from purchasing and redeeming the listed security, 
or securities that can be subdivided or converted into the listed 
security, from the issuer as appropriate to facilitate the maintenance 
of a fair and orderly market.
---------------------------------------------------------------------------

    \22\ See PCXE Rule 1.1(u) and PCXE Rule 7.31(v) for the 
definition of ``Market Maker'' and ``Market Maker Authorized 
Trader,'' respectively.
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5. Prospectus Delivery/Disclosures
    The Exchange represents that in an Information Circular to ETP 
Holders,\23\ it will inform ETP Holders, prior to commencement of 
trading, of the prospectus or product description delivery requirements 
applicable to iShares. The Commission granted the Applicants' request 
for an exemptive order granting relief from a certain prospectus 
delivery requirement under Section 24(d) of the 1940 Act.\24\ Any 
product description used in reliance of a Section 24(d) exemptive order 
will comply with all representations made therein and all conditions 
thereto. The Information Circular will also remind ETP Holders of their 
obligations to provide all purchasers of a series of Units a written 
description of the term and characteristics of those securities at the 
time of the confirmation of the first transaction in such a series. 
Additionally, ETP Holders will include such written description with 
any sales material relating to a series of Units that is provided to 
the customers or public.
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    \23\ An ETP Holder is a sole proprietorship, partnership, 
corporation, limited liability company or other organization in good 
standing that has been issued an ETP for effecting approved 
securities transactions on the ArcaEx. An ETP Holder must be a 
registered broker or dealer pursuant to Section 15 of the Exchange 
Act. See PCXE Rule 1.1(n) and PCXE Rule 1.1(m).
    \24\ See Investment Company Act Release No. 25623 (June 25, 
2002).
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6. Trading Halts
    Any decision to halt trading of fixed income ETFs will be conducted 
in accordance with PCXE Rule 7.12, if circuit breaker parameters have 
been reached.
7. Suitability
    Prior to the commencement of trading, the Exchange will issue an 
Information Circular informing ETP Holders of the characteristics of 
the fixed income ETFs and of the applicable PCXE rules, as well as the 
requirement of PCXE Rule 9.2(a) (``Diligence as to Accounts.''). Rule 
9.2(a) generally requires members to use due diligence to learn the 
essential facts relative to every customer.
8. Purchases and Redemptions in Creation Unit Size
    The Exchange represents that in the Information Circular referenced 
above, ETP Holders will be informed that procedures for purchases and 
redemptions of iShares in Creation Unit Size are described in the Fund 
prospectus and SAI, and that iShares are not individually redeemable, 
but may redeemed only in Creation Unit Size aggregations or multiples 
thereof.
9. Surveillance
    The Exchange will implement written surveillance procedures for the 
ETFs that it trades. The Exchange intends to use its existing 
surveillance technology and procedures applicable to other ICUs 
currently trading on the Exchange.\25\ The Exchange believes that these 
surveillance efforts will effectively monitor the trading of the Funds 
so as to ensure full compliance with Exchange rules and the federal 
securities laws.
---------------------------------------------------------------------------

    \25\ PCXE currently trades a variety of ETFs.
---------------------------------------------------------------------------

    The Exchange also recognizes that certain concerns are raised when 
a broker-dealer, such as Lehman or Goldman, is involved in the 
development and maintenance of a stock or bond index upon which an ETF

[[Page 61541]]

is based.\26\ The Exchange notes that the Commission previously made a 
finding that Lehman and Goldman each have sufficient policies and 
procedures in place to prevent the misuse of material non-public 
information.\27\ The Exchange believes that these provisions should 
help to address concerns raised by Goldman and Lehman's involvement in 
the management of the indices.
---------------------------------------------------------------------------

    \26\ PCX changed this sentence from the original filing to refer 
to a stock or bond index. Telephone call between Tania J. Cho, Staff 
Attorney, PCX, and Jennifer Lewis, Special Counsel, Division of 
Market Regulation, Commission, on October 16, 2003.
    \27\ See Amex Approval Order, supra note 6.
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10. Hours of Trading/Minimum Price Variation
    The Funds will be eligible to trade on the Exchange during each of 
the three trading sessions available each day the Exchange is open for 
business.\28\ The minimum price variation for quoting will be $.01.\29\
---------------------------------------------------------------------------

    \28\ See supra, note 8.
    \29\ See Commentary .03 to PCXE Rule 7.6(a).
---------------------------------------------------------------------------

Statutory Basis
    The Exchange believes that the proposed rule change is consistent 
with Section 6(b) of the Exchange Act,\30\ in general, and furthers the 
objectives of Section 6(b)(5),\31\ in particular, in that it is 
designed to facilitate transactions in securities, to promote just and 
equitable principles of trade, to enhance competition and to protect 
investors and the public interest.
---------------------------------------------------------------------------

    \30\ 15 U.S.C. 78f(b).
    \31\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------

B. Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange does not believe that the proposed rule change, as 
amended, will impose any burden on competition that is not necessary or 
appropriate in furtherance of the purposes of the Exchange Act.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants, or Others

    Written comments on the proposed rule change were neither solicited 
nor received.

III. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the foregoing, including whether the proposal is 
consistent with the Exchange 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 filing will also be 
available for inspection and copying at the principal office of the 
PCX. All submissions should refer to File No. SR-PCX-2003-41 and should 
be submitted by [insert date 21 days from date of publication].

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

    After careful review, the Commission finds that implementation of 
the proposed rule change, as amended, is consistent with the 
requirements of Section 6 of the Exchange Act,\32\ and the rules and 
regulations thereunder applicable to a national securities 
exchange.\33\ Specifically, the Commission believes that the proposal 
is consistent with Section 6(b)(5) of the Exchange Act.\34\ The 
Commission believes that the Exchange's proposal to list and trade 
fixed income ETFs (including the trading thereof on a UTP basis)\35\ 
will provide investors with a convenient way of participating in the 
U.S. government, corporate and non-corporate (other than U.S. 
government) fixed income markets. The Exchange's proposal should help 
to provide investors with increased flexibility in satisfying their 
investment needs by allowing them to purchase and sell securities at 
negotiated prices throughout the business day that replicate the 
performance of several portfolios of stocks. The Commission believes 
that the availability of the Funds will provide an instrument for 
investors to achieve desired investment results that correspond 
generally to the price and yield performance of the underlying U.S. 
Treasury, Government/Credit, or Corporate Bond Index. The investment 
objective of each Fund will be to provide investment results that 
correspond generally to the price and yield performance of the 
underlying index based on fixed income securities. Accordingly, the 
Commission finds that the Exchange's proposal will facilitate 
transactions in securities, remove impediments to and perfect the 
mechanism of a free and open market and a national market system, and, 
in general, protect investors and the public interest, and is not 
designed to permit unfair discrimination between customers, issuers, 
brokers, or dealers.\36\
---------------------------------------------------------------------------

    \32\ 15 U.S.C. 78f.
    \33\ In approving this proposed rule change, the Commission 
notes that it has considered the proposed rule's impact on 
efficiency, competition, and capital formation. 15 U.S.C. 78c(f).
    \34\ 15 U.S.C. 78f(b)(5).
    \35\ The Commission notes that, pursuant to Rule 12f-5 under the 
Exchange Act, prior to trading a particular class or type of 
security pursuant to UTP, PCX must have listing standards comparable 
to those of the primary market on which the security is listed. 17 
CFR 240.12f-5. The Commission finds that adequate rules and 
procedures exist to govern the trading of the Funds on PCX, pursuant 
to UTP.
    \36\ Pursuant to Section 6(b)(5) of the Exchange Act, the 
Commission must predicate approval of exchange trading for new 
products upon a finding that the introduction of the product is in 
the public interest. Such a finding would be difficult with respect 
to a product that served no investment, hedging or other economic 
functions, because any benefits that might be derived by market 
participants would likely be outweighed by the potential for 
manipulation, diminished public confidence in the integrity of the 
markets, and other valid regulatory concerns.
---------------------------------------------------------------------------

    iShares Trust and iShares, Inc. are each registered in the 1940 Act 
as an open-ended management investment company with multiple series. 
iShares Trust has created (or identified for creation) over 50 separate 
series, while iShares, Inc. has created (or identified for creation) 
over 20 separate series. All of these series operate (or will operate) 
as ETFs pursuant to six prior exemptive orders from the 1940 Act, and 
each of the ETFs seeks to match the return of an equity securities 
index. Additionally, the Commission has granted the Funds appropriate 
relief under various sections of the 1940 Act, including sections 6(c) 
and 17(b), so that each Fund may register under the 1940 Act as an 
open-end fund and issue shares that are redeemable in Creation Units, 
shares of Funds may trade in the secondary market at negotiated prices, 
and certain persons affiliated with a Fund by reason of owning 5% or 
more, and in some cases more than 25%, of its outstanding securities 
may do in-kind purchases and redemptions of Creation Units.\37\
---------------------------------------------------------------------------

    \37\ Investment Company Act Release No. 25622 (June 25, 2002).
---------------------------------------------------------------------------

    Barclays is registered as an investment adviser under the 1940 Act 
and serves as the investment adviser to the series of iShares Trust and 
iShares, Inc. The Distributor acts as the principal underwriter and 
distributor for iShares Trust and iShares, Inc.
    iShares Trust created seven new series each of which operates as an 
ETF seeking to match the performance of a fixed income securities 
index. Four of the seven indices are the following:

[[Page 61542]]

    [sbull] Lehman Brothers 1-3 Year U.S. Treasury Index (containing 
U.S. Treasury securities with remaining maturities of between 1 and 3 
years);
    [sbull] Lehman Brothers 7-10 Year U.S. Treasury Index (containing 
U.S. Treasury securities with remaining maturities of between 7 and 10 
years);
    [sbull] Lehman 20+ Year U.S. Treasury Index (containing U.S. 
Treasury securities with remaining maturities of more than 20 years); 
and
    [sbull] Goldman Sachs InvesTop Index (containing the 100 most 
liquid and representative bonds in the U.S. investment grade corporate 
market with remaining maturities of at least 3 years).
    The Commission noted in the Amex Approval Order that this was the 
first ETF based on an underlying index of fixed income securities 
(``Fixed Income ETFs''). The Funds will operate in substantially the 
same manner as Equity ETFs. Like many other ETFs, each Fund will use a 
representative sampling strategy to track its index. With a sampling 
strategy, a Fund will seek to match the return of its index by holding 
some, but not all, of the fixed income securities contained in its 
underlying index. In constructing the portfolio for a Fund, Barclays 
will select a sample of bonds that will correlate to the duration, 
sector, credit rating, coupon, and embedded option characteristics of 
the underlying index as a whole. Barclays may also exclude less liquid 
bonds in order to create a more tradable portfolio to enhance arbitrage 
efficiency. As with its Equity ETFs, Barclays represents that the Funds 
will have a tracking error relative to the performance of their 
respective underlying indices of no more than 5%.
    Shares of the Funds will be issued and redeemed in Creation Units 
priced at NAV in exchange for Portfolio Deposits and Redemption Baskets 
consisting of Bonds selected and announced by Barclays at the beginning 
of each business day.
    The Commission finds that the Funds will provide benefits to 
investors in allowing investors to trade baskets of bonds in a single 
transaction at a cost comparable to that of trading existing equity 
securities and will allow investors to trade baskets of bonds 
throughout the day and thereby permit them to take advantage of (or 
protect themselves against) intra-day market movements. The Funds may 
make it easier for individual investors to diversify their portfolios 
across a broader range of assets and will provide institutional and 
other large investors with an alternative to futures for various 
hedging and other investment strategies that involve fixed income 
securities. Finally, the Funds will provide investors with a fund 
product that discloses its portfolio on a daily basis rather than semi-
annually.
    While the Funds will be operated in a manner that closely parallels 
the manner in which Equity ETFs are operated, one key potential 
difference may be the efficiency of the arbitrage process. The 
arbitrage mechanism for Equity ETFs generally has caused the market 
price of ETF shares to track closely the NAV of the ETF shares. With 
respect to liquidity of the debt securities likely to be in the ETF 
portfolios, to the extent these debt securities could not be readily 
purchased and sold, the arbitrage process would be less efficient. 
However, the Commission notes that the Funds will invest in some of the 
most liquid debt securities, including U.S. Government securities and 
investment grade corporate and non-corporate bonds.\38\ In addition, 
Barclays will employ a sampling method of portfolio management that 
would allow the Funds to exclude any bonds contained in an underlying 
index that may not have sufficient liquidity for easy trading. As a 
result, the Commission believes that the Funds have addressed the 
liquidity issues that might hamper arbitrage.
---------------------------------------------------------------------------

    \38\ The Goldman Sachs InvesTop Index may include investment 
grade corporate and non-corporate bonds issued by non-U.S. issuers 
(sovereign, supra-national, foreign agency, and foreign local 
government). In Barclays' 1940 Act Application, it stated that these 
bonds will be dollar denominated, registered for sale in the U.S., 
and traded on U.S. markets at negotiated and readily available 
prices. Barclays does not believe that these bonds present any 
unique pricing or liquidity issues and does not expect the bonds to 
negatively affect arbitrage efficiency. The Commission notes that if 
any of these major characteristics of these fixed income indices 
(e.g., investment grade, face amount issued, maturity 
classification) were to materially change, the Commission would 
expect PCX to amend these listing standards accordingly.
---------------------------------------------------------------------------

    In addition, differences in the degree of price transparency in the 
debt and equity markets could lead to larger discounts and premiums for 
the Funds than have been experienced by Equity ETFs. Specifically, 
because the pricing of debt securities can be less transparent than the 
pricing of equity securities, arbitrageurs might account for pricing 
uncertainty by waiting for greater premiums or discounts to develop in 
the market price of the ETF shares before engaging in arbitrage 
transactions.
    The Commission finds that because of the nature of the particular 
debt securities to be included in the portfolios of the Funds (i.e., 
U.S. Government securities and investment grade corporate and non-
corporate bonds), the pricing information should be available. The 
Exchange has indicated that real-time price quotes for corporate and 
non-corporate debt securities are available to institutional investors 
via proprietary systems such as Bloomberg, Reuters and Dow Jones 
Telerate. Additional analytical data and pricing information may also 
be obtained through vendors such as Bridge Information Systems, Muller 
Data, Capital Management Sciences, Interactive Data Corporation and 
Barra.
    The Exchange has also represented that retail investors would have 
access to free intra-day bellwether quotes.\39\ For instance, the Bond 
Market Association provides links to price and other bond information 
sources on its investor Web site at http://www.investinginbonds.com. In 
addition, transaction prices and volume data for the most actively 
traded bonds on the exchanges are published daily in newspapers and on 
a variety of financial Web sites. Closing corporate and non-corporate 
bond prices are also available through subscription services (e.g., 
IDC, Bridge) that provide aggregate pricing information based on prices 
from several dealers, as well as subscription services from broker-
dealers with a large bond trading operation, such as Lehman Brothers 
and Goldman Sachs & Co.
---------------------------------------------------------------------------

    \39\ Corporate prices are available at 20-minute intervals from 
Capital Management Services at http://www.bondvu.com/quotmenu.htm. 
TRACE also disseminates last sale information on certain investment 
grade bonds. See http://www.nasdbondinfo.com.
---------------------------------------------------------------------------

    The Commission also believes that pricing information for the 
Treasury securities should also be available. Quote and trade 
information regarding Treasury securities is widely available to market 
participants from a variety of sources. The electronic trade and quote 
systems of the dealers and interdealer brokers are one such source. 
Groups of dealers and interdealer brokers also furnish trade and quote 
information to vendors such as Bloomberg, Reuters, Bridge, Moneyline 
Telerate, and CQG.
    PCX represents that every 15 seconds a price calculated by 
Bloomberg reflecting the current value of the Portfolio Deposit on a 
per ETF share basis for the Funds will be disseminated. To calculate 
this intra-day value, Bloomberg intends to use Bloomberg Generic 
Prices, which are current prices for individual bonds as determined by 
Bloomberg using an automated pricing program that analyzed multiple 
bond prices contributed by third-part price contributors such as 
broker-dealers.\40\

[[Page 61543]]

Accordingly, PCX believes that the pricing of the bonds included in the 
Portfolio Deposit (and in the Redemption Basket) will be transparent to 
anyone with access to Bloomberg systems. Because the arbitrageurs of 
ETF shares are generally large institutional investors, including 
broker-dealers, the Commission believes that these investors likely 
will have access to Bloomberg systems, as well as other bond pricing 
information sources that should permit efficient arbitrage to occur. 
While the Commission believes that differences in the liquidity and 
pricing transparency of the underlying fixed income markets, as 
compared to the equity markets, may result in the Funds trading at 
slightly higher discounts and premiums, the Commission does not believe 
that this effect is likely to be so substantial as to undermine the 
benefits that Funds will provide to the markets and to investors. The 
Commission expects the Exchange to review the discounts or premiums for 
these products and to respond appropriately if there is in fact a 
significant pricing disparity.
---------------------------------------------------------------------------

    \40\ The Lehman Indices and the Goldman Sachs Index will not be 
calculated or disseminated intra-day. The value and return of each 
Lehman Index is updated on a daily basis by Lehman Brothers. The 
value and return of the Goldman Sachs Index is updated on a daily 
basis by Goldman Sachs.
---------------------------------------------------------------------------

    The Commission has also granted the issuer, Barclays, exemptive 
relief from Section 24(d) of the 1940 Act so that dealers may effect 
secondary market transaction in Barclays ETF shares without delivery a 
prospectus to the purchaser. Instead, under the exemption and under 
PCX's listing standards, sales in the secondary market must be 
accompanied by a ``product description,'' describing the ETF and its 
shares.\41\ The Commission believes a product description, which not 
only highlights the basic characteristics of the product and the manner 
in which the ETF shares trade in the secondary market, but also 
highlights the differences of the Funds from existing equity ETFs and 
notes the unique characteristics and risks of this product, should 
provide market participants with adequate notice of the salient 
features of the product.
---------------------------------------------------------------------------

    \41\ When the Commission approved Nasdaq listing standards for 
ETFs, it clarified that NASD members trading equity ETFs through 
electronic communication networks (``ECNs'') would be subject to 
NASD Rules 4420(i)(2) and 4420(j)(2) requiring the delivery of 
product descriptions in connection with sales of ETF shares. See 
Securities Exchange Act Release No. 45920 (May 13, 2002), 67 FR 
35605 (May 20, 2002). The Commission expects NASD members to observe 
the same standards for the secondary market trading of Funds.
---------------------------------------------------------------------------

    The Commission also notes that upon the initial listing of any ETF 
under PCXE Rule 5.2(j) the Exchange issues a circular to its members 
explaining the unique characteristics and risks of the security; in 
this instance, Fixed Income ETFs. In particular, the circular should 
include, among other things, a discussion of the risks that may be 
associated with the Funds, in addition to details on the composition of 
the fixed income indices upon which they are based and how each Fund 
would use a representative sampling strategy to track its index. The 
circular also should note Exchange members' responsibilities under PCXE 
Rule 9.2(a) which generally requires that members use due diligence to 
learn the essential facts relative to every customer. The circular also 
will address members' prospectus delivery requirements as well as 
highlight the characteristics of purchases in Funds, including that 
they only are redeemable in Creation Unit size aggregations. Based on 
these factors, the Commission finds that the proposal to trade the 
Funds is consistent with Section 6(b)(5) of the Exchange Act.\42\
    The Commission also notes that the Exchange's rules and procedures 
should address the special concerns attendant to the trading of new 
derivative products. In particular, by imposing the Investment Company 
Unit listing standards in PCXE Rules 5.2(j) and 5.5(g)(2), and 
addressing the suitability, disclosure, and compliance requirements 
noted above, the Commission believes that the Exchange has addressed 
adequately the potential problems that could arise from the derivative 
nature of the Funds.
---------------------------------------------------------------------------

    \42\ 15 U.S.C. 78f(b)(f).
---------------------------------------------------------------------------

    In particular, the Commission finds that adequate rules and 
procedures exist to govern the trading of Investment Company Units, 
including Funds. Funds will be deemed equity securities subject to PCX 
rules governing the trading of equity securities. These rules include: 
Business Conduct and Equity Trading Rules, such as priority, parity, 
and precedence of orders, market volatility related trading halt 
provisions pursuant to PCXE Rule 7.12, members dealing for their own 
accounts, specialists, odd-lot brokers, and registered traders, 
handling of orders and reports, duty to report transactions, 
comparisons of transactions, marking to the market, delivery of 
securities, dividends and interest, closing of contracts, and money and 
security loans;\43\ and Conducting Business with the Public Rules, such 
as conduct of accounts, margin rules, and advertising.\44\ PCX also 
will consider halting trading in any series of Investment Company Units 
under certain other circumstances regarding the presence of other 
unusual conditions or circumstances detrimental to the maintenance of a 
fair and orderly market. The Commission believes that the application 
of these rules should strengthen the integrity of the Funds.
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    \43\ PCXE Rules 6.1-7.64.
    \44\ PCXE Rules 9.1-9.28.
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    The Commission also notes that certain concerns are raised when a 
broker-dealer, such as Lehman or Goldman, is involved in the 
development and maintenance of a stock index upon which an ETF is 
based. Previously, the Commission noted the importance of an exchange 
adopting adequate procedures to prevent the misuse of material, non-
public information regarding changes to component stocks in a fixed 
income securities index.\45\ In the Amex Approval Order, the Commission 
noted that Goldman and Lehman each have procedures in place to prevent 
the misuse of material, non-public information regarding changes to 
component stocks to the Funds.\46\ The Commission believes that these 
provisions should help to address concerns raised by Goldman and 
Lehman's involvement in the management of the indices.
    The Commission also believes that PCX has appropriate surveillance 
procedures in place to detect and deter potential manipulation for 
similar index-linked products. By applying these procedures to the 
Funds, the Commission believes that the potential for manipulation 
should be minimized, while protecting investors and the public 
interest.
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    \45\ See Amex Approval Order, supra note 6.
    \46\ The Commission expects that the procedures implemented by 
Goldman and Lehman will monitor and prevent the misuse of material, 
non-public information as it relates to the development, maintenance 
and calculation of the indices.
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    PCX has requested that the Commission find good cause for approving 
the proposed rule change prior to the thirtieth day after the date of 
publication of notice thereof in the Federal Register. PCX has 
requested accelerated approval because the 1940 Act Application 
relating to the Funds has been reviewed by the Division of Investment 
Management and notice of the Application has been published in the 
Federal Register.\47\ The Application disclosed the characteristics and 
risks associated with the Funds. No comments were submitted and the 
Commission granted the relief requested in the Application.\48\ The 
Funds will trade on the Exchange in the same

[[Page 61544]]

manner as Investment Company Units previously approved by the 
Commission. Furthermore, the Commission notes that it granted 
accelerated approval to the request of the Amex, NYSE, and CHX to list 
and trade fixed income ETFs.\49\ Based on the above, the Commission 
finds good cause to accelerate approval of the proposed rule change, as 
amended.
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    \47\ Investment Company Act Release No. 25594 (May 29, 2002), 67 
FR 38681 (June 5, 2002).
    \48\ Investment Company Act Release No. 25622 (June 25, 2002).
    \49\ See supra, note 5.
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    It Is therefore ordered, pursuant to Section 19(b)(2) of the 
Exchange Act,\50\ that the proposed rule change, as amended, (File No. 
SR-PCX 2003-41) is hereby approved on an accelerated basis.
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    \50\ 15 U.S.C. 78s(b)(2).

    For the Commission by the Division of Market Regulation, 
pursuant to delegated authority.\51\
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    \51\ 17 CFR 200.3-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 03-27094 Filed 10-27-03; 8:45 am]
BILLING CODE 8010-01-P