[Federal Register Volume 69, Number 201 (Tuesday, October 19, 2004)]
[Notices]
[Pages 61533-61537]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E4-2709]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-50501; File No. SR-NASD-2004-138]


Self-Regulatory Organizations; Notice of Filing and Order 
Granting Accelerated Approval of a Proposed Rule Change by National 
Association of Securities Dealers, Inc. Relating to the Listing and 
Trading of Performance Leveraged Upside Securities Based on the Value 
of the Dow Jones Euro Stoxx 50 Index

October 7, 2004.
    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 September 14, 2004, the National Association of Securities Dealers, 
Inc. (``NASD''), through its subsidiary, The Nasdaq Stock Market, Inc. 
(``Nasdaq''), filed with the Securities and Exchange Commission 
(``Commission'' or ``SEC'') the proposed rule change as described in 
Items I and II below, which Items have been prepared by Nasdaq. The 
Commission is publishing this notice to solicit comments on the 
proposed rule change from interested persons and is approving the 
proposal on an accelerated basis.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of the 
Substance of the Proposed Rule Change

    Nasdaq proposes to list and trade Performance Leveraged Upside 
Securities \SM\ Based (``PLUS'') on the Value of the Dow Jones Euro 
Stoxx 50 Index (``Notes'') issued by Morgan Stanley (``Morgan 
Stanley'').

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

    In its filing with the Commission, Nasdaq 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. Nasdaq 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

 2. Purpose
    Nasdaq proposes to list and trade PLUS, the return on which is 
based upon the Dow Jones Euro Stoxx 50 Index (``Index'').
    Under NASD Rule 4420(f), Nasdaq may approve for listing and trading 
innovative securities that cannot be readily categorized under 
traditional listing guidelines.\3\ Nasdaq proposes to list and trade 
notes based on the Index under NASD Rule 4420(f).
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    \3\ See Securities Exchange Act Release No. 34-32988 (September 
29, 1993), 58 FR 52124 (October 6, 1993).
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    The Notes, which will be registered under Section 12 of the Act, 
will initially be subject to Nasdaq's listing criteria for other 
securities under NASD Rule 4420(f). Specifically, under NASD Rule 
4420(f)(1):
    (A) The issuer shall have assets in excess of $100 million and 
stockholders'

[[Page 61534]]

equity of at least $10 million.\4\ In the case of an issuer which is 
unable to satisfy the income criteria set forth in Rule 4420(a)(1), 
Nasdaq generally will require the issuer to have the following: (i) 
Assets in excess of $200 million and stockholders' equity of at least 
$10 million; or (ii) assets in excess of $100 million and stockholders' 
equity of at least $20 million;
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    \4\ Morgan Stanley satisfies this listing criterion.
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    (B) There must be a minimum of 400 holders of the security; 
provided, however, that if the instrument is traded in $1,000 
denominations, there must be a minimum of 100 holders;
    (C) For equity securities designated pursuant to this paragraph, 
there must be a minimum public distribution of 1,000,000 trading units; 
and
    (D) The aggregate market value/principal amount of the security 
will be at least $4 million.
    In addition, Morgan Stanley satisfies the listed marketplace 
requirement set forth in NASD Rule 4420(f)(2).\5\ Lastly, pursuant to 
NASD Rule 4420(f)(3), prior to the commencement of trading of the 
Notes, Nasdaq will distribute a circular to members providing guidance 
regarding compliance responsibilities and requirements, including 
suitability recommendations, and highlighting the special risks and 
characteristics of the Notes.\6\ In particular, Nasdaq will advise 
members recommending a transaction in the Notes to: (1) Determine that 
such transaction is suitable for the customer; and (2) have a 
reasonable basis for believing that the customer can evaluate the 
special characteristics of, and is able to bear the financial risks of, 
such transaction.
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    \5\ NASD Rule 4420(f)(2) requires issuers of securities 
designated pursuant to this paragraph to be listed on The Nasdaq 
National Market or the New York Stock Exchange, Inc. (``NYSE'') or 
be an affiliate of a company listed on The Nasdaq National Market or 
the NYSE; provided, however, that the provisions of NASD Rule 4450 
will be applied to sovereign issuers of ``other'' securities on a 
case-by-case basis.
    \6\ See NASD Rule 2310 and IM 2310-2, discussed below.
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    The Notes will be subject to Nasdaq's continued listing criterion 
for other securities pursuant to NASD Rule 4450(c). Under this 
criterion, the aggregate market value or principal amount of publicly-
held units must be at least $1 million. The Notes also must have at 
least two registered and active market makers as required by NASD Rule 
4310(c)(1). Nasdaq will also consider prohibiting the continued listing 
of the Notes if Morgan Stanley is not able to meet its obligations on 
the Notes.
    The Notes are medium-term, senior non-convertible debt securities 
that will be issued by Morgan Stanley. The original public offering 
price of the Notes will be $10 per PLUS. Unlike, ordinary debt 
securities, the Notes will not pay interest and do not guarantee any 
rate of return of principal at maturity. The Notes also are not subject 
to redemption by Morgan Stanley or at the option of any beneficial 
owner before maturity.\7\
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    \7\ The actual maturity date is September 30, 2009.
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    At maturity, if the value of the Index has increased, a beneficial 
owner will be entitled to receive a payment on the Notes based on 300% 
the amount of that percentage increase, subject to a maximum total 
payment at maturity that is expected to be between $15.85 and $16.30 
per Note (the ``Maximum Payment at Maturity'').\8\ Thus, the Notes 
provide investors the opportunity to obtain leveraged upside returns 
based on the Index subject to a cap that is expected to represent an 
appreciation of 58.5% to 63% over the original issue price of the 
Notes. Unlike ordinary debt securities, the Notes do not guarantee any 
return of principal at maturity. Therefore, if the value of the Index 
has declined from the time of pricing to the time of maturity, a 
beneficial owner will receive less, and possibly significantly less, 
than the original issue price of $10 per PLUS.
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    \8\ The actual Maximum Payment at Maturity will be determined at 
the time of pricing of the Notes.
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    Any payment that a beneficial owner will be entitled to receive at 
maturity depends entirely on: (a) The relation of the value of the 
Index generally on second trading day prior to the date when the Notes 
are due (the ``Final Index Value''); and (b) the value of the Index on 
the day they are priced for initial sale to the public (the ``Initial 
Index Value''). If the Final Index Value is greater than the Initial 
Index Value, the payment at maturity per PLUS will equal the lesser of: 
(a) $10 plus the Leveraged Upside Payment \9\ and (b) the Maximum 
Payment at Maturity. If the Final Index Value is less than or equal to 
the Initial Index Value, the payment at maturity per PLUS will equal 
$10 times the Index Performance Factor.\10\
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    \9\ The Leveraged Upside Payment is the product of (i) $10 and 
(ii) 300% and (iii) the Index Percent Increase (a fraction, the 
numerator of which is the Final Index Value minus the Initial Index 
Value and the denominator of which is the Initial Index Value).
    \10\ The Index Performance Factor is a fraction, the numerator 
of which is the Final Index Value and the denominator of which is 
the Initial Index Value.
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    The Notes are cash-settled in U.S. dollars and do not give the 
holder any right to receive a portfolio security, dividend payments or 
any other ownership right or interest in the portfolio or index of 
securities comprising the Index. The Commission has previously approved 
the listing of options on, and other securities the performance of 
which have been linked to or based on, the Index.\11\
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    \11\ See Securities Exchange Act Release Nos. 49715 (May 17, 
2004), 69 FR 29597 (May 24, 2004) (approving listing and trading of 
97% Protected Notes Linked to the Performance of the Global Equity 
Basket, which included the Index); 46021 (June 3, 2002), 67 FR 39753 
(June 10, 2002) (approving listing and trading of notes based on the 
Dow Jones EURO STOXX 50 Return Index, which is based on the Index); 
and 40303 (August 4, 1998), 63 FR 42892 (August 11, 1998) (approving 
listing and trading of BRoad InDex Guarded Equity-linked Securities 
linked to the value of the Index).
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    The Index was created and is published by STOXX Limited 
(``STOXX''), a joint venture founded by SWX-Swiss Exchange, Deutsche 
Boerse AG, and Dow Jones & Company.\12\ The companies that are included 
in the Index are selected by STOXX and are representative of a broad 
market and a wide array of European industries. The Index is composed 
of 50 components stocks of the large-cap markets of the European and 
Eurozone regions.\13\ The component stocks have a high degree of 
liquidity and represent the largest companies across all market sectors 
defined by the Dow Jones Global Classification Standard.'' Publication 
of the Index began on February 26, 1998, based on an initial value of 
the Index of 1,000 at December 31, 1991. The Index is currently 
calculated by (i) multiplying the per share price of each underlying 
security by the number of free-float adjusted outstanding shares (and, 
if the stock is not quoted in euros, then multiplied by the country 
currency and an exchange factor which reflects the exchange rate 
between the country currency and the euro); (ii) calculating the sum of 
all these products (the ``Index Aggregate Market Capitalization''); and 
(iii) dividing the Index Aggregate Market Capitalization by a divisor 
which represents the Index Aggregate Market Capitalization on the

[[Page 61535]]

base date of the Index and which can be adjusted to allow changes in 
the issued share capital of individual underlying securities, including 
the deletion and addition of stocks, the substitution of stocks, stock 
dividends and stock splits, to be made without distorting the Index.
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    \12\ STOXX has an advisory committee composed, in part, of 
securities firms. STOXX states that while its advisory committee 
generally advises the STOXX Supervisory Board on the composition, 
accuracy, transparency and methodology of the indexes in line with 
the current Dow Jones STOXX Index Guide, the Supervisory Board makes 
all decisions on the composition and accuracy of the Index and all 
changes to the Index methodology. STOXX advises that STOXX has 
implemented and maintains procedures designed to prevent the use and 
dissemination of material, non-public information relating to the 
Dow Jones Euro STOXX 50 Index. Telephone conversation between Alex 
Kogan, Associate General Counsel, Amex, to Florence Harmon, Senior 
Special Counsel, Division of Market Regulation (``Division''), 
Commission, dated October 6, 2004.
    \13\ Telephone conversation between Alex Kogan, Associate 
General Counsel, Amex, to Florence Harmon, Senior Special Counsel, 
Division, Commission, dated October 5, 2004.
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    The value of the Index is updated by STOXX every 15 seconds when 
European markets are open. The 15-second value of the Index, the list 
of the Index components and the current divisor can also be found can 
be accessed from http://www.stoxx.com. Real-time dissemination of the 
Index, adjusted for fluctuations in foreign currency trading prices 
after European markets close, is available through vendors such as 
Bloomberg. In the event, SWX-Swiss Exchange, Deutsche Boerse AG and Dow 
Jones & Company cease to maintain and disseminate the Index, Nasdaq 
will contact the Commission staff to consider prohibiting the continued 
trading of the Notes.\14\
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    \14\ Telephone conference between Alex Kogan, Associate General 
Counsel, Nasdaq, and Florence Harmon, Senior Special Counsel, 
Division, dated October 4, 2004.
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    As of August 30, 2004, the highest-weighted stock in the Index had 
the weight of approximately 7.5%; all other components had lower 
weights. The top five stocks in the Index had the cumulative weight of 
approximately 25.1%. The following stock markets are (as of August 30, 
2004) the primary listing markets for the Index components: Deutsche 
Boerse (23.5% of the Index weight), Euronext Amsterdam (18.8%),\15\ 
Borsa Italiana (11.1%), Euronext Paris (30.2%), the Spanish Stock 
Market (12.9%) and HEX Helsinki (3.5%). A number of the Index 
components are traded on more than one major European market. In 
addition, 31 of the 50 Index issuers currently have sponsored ADRs 
listed on the NYSE, and 9 have non-sponsored ADRs trading in the United 
States.
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    \15\ One of the component stocks with a primary listing in 
Amsterdam maintains a second ``primary listing'' on Euronext 
Brussels. This component comprises approximately 1.6% of the total 
Index weight.
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    As of August 30, 2004, the average daily trading volume for a 
single Index component was approximately 9.63 million shares.\16\ As of 
the same date, the market capitalization of the components ranged from 
approximately 105 billion euros to approximately 8 billion euros. These 
figures corresponded approximately to 126.8 billion U.S. dollars and 
9.6 billion U.S. dollars.
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    \16\ This figure represents the average of the average number of 
shares of each Index component traded for the past 30 trading days. 
It is calculated by taking the sum of the volumes of the individual 
Index components for the past 30 trading days, dividing it by the 
total number of components (50), and then dividing the result by 30.
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    The composition of the Index is reviewed annually, and changes are 
implemented on the third Friday in September, using market data from 
the end of July as the basis for the review process. Changes in the 
composition of the Index are made to ensure that the Index includes 
those companies that, within the eligible countries and within each 
industry sector, have the greatest market capitalization. The Index is 
also reviewed on an on-going basis, and changes in the composition of 
the Index may be necessary if there have been extraordinary events for 
one of the issuers of the underlying securities, e.g., delisting, 
bankruptcy, merger or takeover. In these cases, the event is taken into 
account as soon as it is effective. The underlying securities may be 
changed at any time for any reason. Neither STOXX nor any of its 
founders is affiliated with Morgan Stanley and neither has participated 
in any way in the creation of the Notes.\17\
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    \17\ Telephone conversation between Alex Kogan, Associate 
General Counsel, Amex, to Florence Harmon, Senior Special Counsel, 
Division, Commission, dated October 6, 2004.
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    In calculating the Index, STOXX uses a divisor, currently equal to 
512.863106, which represents the Index Aggregate Market Capitalization 
on the base date and which can be adjusted to allow changes in the 
issues share capital of individual underlying securities, including the 
deletion and addition of stocks, the substitution of stocks, stock 
dividends and stock splits, to be made without distorting the 
Index.\18\
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    \18\ Telephone conference between Alex Kogan, Associate General 
Counsel, Nasdaq, and Florence Harmon, Senior Special Counsel, 
Division, dated October 4, 2004.
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    Nasdaq represents that NASD's surveillance procedures are adequate 
to properly monitor the trading of the Notes. Specifically, NASD will 
rely on its current surveillance procedures governing equity securities 
and will include additional monitoring on key pricing dates.
    If manipulative activity or other types of trading activity that 
raise regulatory concerns are suspected and involve Index component 
stocks, then, in order to obtain the needed information, the NASD will 
rely on the Intermarket Surveillance Group (``ISG'') Agreement, to 
which the NASD and some of the Index component markets are parties, on 
the Memoranda of Understanding and similar arrangements (``MOUs'') 
between the Commission (or the United States) and the relevant foreign 
regulators or countries (the ISG Agreement and the MOUs are referred to 
collectively as ``Surveillance Information Sharing Arrangements''), and 
on information available domestically with respect to those issuers 
that list sponsored ADRs in the United States. At present, in excess of 
90% of the capitalization of the Index is subject to the Surveillance 
Information Sharing Arrangements.\19\
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    \19\ Nasdaq represents that there is only one foreign stock 
exchange, HEX Helsinki, currently represented in the Index that is 
not subject either to the ISG Agreement with the NASD or to an MOU 
with the Commission. There is one Index stock that is currently 
listed on that exchange. This stock, Nokia, represents approximately 
4 percent of the weight of the Index, and has a sponsored ADR listed 
on the NYSE. Telephone conference between Alex Kogan, Associate 
General Counsel, Nasdaq, and Florence Harmon, Senior Special 
Counsel, Division, dated October 5, 2004.
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    Nasdaq will contact Commission staff regarding continued listing of 
the Notes if: (i) The home countries of the component securities 
representing more than 50% of the capitalization of the Index are not 
subject to Surveillance Information Sharing Arrangements with the NASD; 
(ii) a home country of the component securities representing more than 
20% of the capitalization of the Index is not subject to Surveillance 
Information Sharing Arrangements; and (iii) two home countries of 
component securities representing more than 33\1/3\% of the 
capitalization of the Index are not subject to the Surveillance 
Information Sharing Arrangements with the NASD.\20\
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    \20\ Cf. Securities Exchange Act Release No. 34-46021 (June 3, 
2002), 67 FR 39753 (June 10, 2002) (approving the listing and 
trading of notes based on the Select European 50 Index with similar 
statement regarding surveillance obligations).
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    Since the Notes will be deemed equity securities for the purpose of 
NASD Rule 4420(f), the NASD and Nasdaq's existing equity trading rules 
will apply to the Notes. Pursuant to NASD Rule 2310 and IM-2310-2, 
members must have reasonable grounds for believing that a 
recommendation to a customer regarding the purchase, sale or exchange 
of any security is suitable for such customer upon the basis of the 
facts, if any, disclosed by such customer as to his other security 
holdings and as to his financial situation and needs.\21\ In addition, 
as previously described, Nasdaq will distribute a circular to members 
providing guidance regarding compliance responsibilities and

[[Page 61536]]

requirements, including suitability recommendations, and highlighting 
the special risks and characteristics of the Notes. Furthermore, the 
Notes will be subject to the equity margin rules. Lastly, the regular 
equity trading hours of 9:30 am to 4 pm will apply to transactions in 
the Notes.
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    \21\ Prior to the execution of a transaction in the Notes that 
has been recommended to a non-institutional customer, NASD Rule 
2310(b) requires a member to make reasonable efforts to obtain 
information concerning a customer's financial status, a customer's 
tax status, the customer's investment objectives, and such other 
information used or considered to be reasonable by such member or 
registered representative in making recommendations to the customer.
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    Pursuant to Rule 10A-3 of the Act \22\ and Section 3 of the 
Sarbanes-Oxley Act of 2002,\23\ Nasdaq will prohibit the initial or 
continued listing of any security of an issuer that is not in 
compliance with the requirements set forth therein.
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    \22\ 17 CFR 240.10A-3.
    \23\ Pub. L. 107-204, 116 Stat. 745 (2002).
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    Morgan Stanley will deliver a prospectus in connection with the 
initial purchase of the Notes. The procedure for the delivery of a 
prospectus will be the same as Morgan Stanley's current procedure 
involving primary offerings.
2. Statutory Basis
    Nasdaq believes that the proposed rule change is consistent with 
the provisions of Section 15A of the Act,\24\ in general, and with 
Section 15A(b)(6) of the Act,\25\ in particular, in that the proposal 
is designed to prevent fraudulent and manipulative acts and practices, 
to promote just and equitable principles of trade, to remove 
impediments to and perfect the mechanism of a free and open market and, 
in general, to protect investors and the public interest. Specifically, 
the proposed rule change will provide investors with another investment 
vehicle based on the Index.
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    \24\ 15 U.S.C. 78o-3.
    \25\ 15 U.S.C. 78o-3(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    Nasdaq does not believe that the proposed rule change will result 
in any burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act.

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

    Written comments were neither solicited nor received.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change, is consistent with the Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
     Send an e-mail to [email protected]. Please include 
File Number SR-NASD-2004-138 on the subject line.

Paper Comments

     Send paper comments in triplicate to Jonathan G. Katz, 
Secretary, Securities and Exchange Commission, 450 Fifth Street, NW., 
Washington, DC 20549-0609.
    All submissions should refer to File Number SR-NASD-2004-138. This 
file number should be included on the subject line if e-mail is used. 
To help the Commission process and review your comments more 
efficiently, please use only one method. The Commission will post all 
comments on the Commission's Internet Web site (http://www.sec.gov/rules/sro.shtml). 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 Section, 450 Fifth 
Street, NW., Washington, DC 20549. Copies of such filing also will be 
available for inspection and copying at the principal office of the 
NASD. All comments received will be posted without change; the 
Commission does not edit personal identifying information from 
submissions. You should submit only information that you wish to make 
available publicly.
    All submissions should refer to File Number SR-NASD-2004-138 and 
should be submitted on or before November 8, 2004.

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

    Nasdaq requests that the Commission approve this filing on an 
accelerated basis since it raises no new or novel issues and will 
enable Nasdaq to accommodate the timetable of listing the Notes. In 
this regard, Nasdaq notes, and the Commission concurs, that the 
Commission has previously approved the listing of options on, and/or 
securities the based on the Index.\26\ The Commission has also 
previously approved the listing of securities with a structure that is 
the same or substantially the same as that of the Notes.
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    \26\ See Securities Exchange Act Release Nos. 49715 (May 17, 
2004), 69 FR 29597 (May 24, 2004) (approving listing and trading of 
97% Protected Notes Linked to the Performance of the Global Equity 
Basket, which included the Index); 46021 (June 3, 2002), 67 FR 39753 
(June 10, 2002) (approving listing and trading of notes based on the 
Dow Jones EURO STOXX 50 Return Index, which is based on the Index); 
and 40303 (August 4, 1998), 63 FR 42892 (August 11, 1998) (approving 
listing and trading of BRoad InDex Guarded Equity-linked Securities 
linked to the value of the Index).
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    After careful consideration, 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 
association, and, in particular, with the requirements of Section 
15A(b)(6) of the Act \27\ in that it is designed to promote just and 
equitable principles of trade, to remove impediments to and perfect the 
mechanism of a free and open market, and, in general, to protect 
investors and the public interest.\28\ The Commission believes that the 
Notes will provide investors with a means of participating in the 
market for foreign securities.
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    \27\ 15 U.S.C. 78o-3(b)(6).
    \28\ In approving the proposed rule, the Commission has 
considered the proposed rule's impact on efficiency, competition, 
and capital formation. 15 U.S.C. 78c(f).
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    The Notes are a medium-term, senior non-convertible debt securities 
whose price will be based on the value of the Index. In particular, the 
Commission believes that the Notes provide investors the opportunity to 
obtain upside leveraged returns based on the Index subject to a cap 
that is expected to represent an appreciation of 58.5% to 63% over the 
original issue price of the Notes. Unlike ordinary debt securities, the 
Notes do not pay interest or guarantee any return of principal at 
maturity. If the value of the Index has declined from the time of 
pricing to the time of maturity, a beneficial owner will receive less, 
and possibly significantly less, than the original issue price of $10 
per PLUS. The Commission notes that the return of the Notes, if the 
Index declines, is not leveraged.
    At maturity, if the value of the Index has increased, a beneficial 
owner will be entitled to receive a payment on the Notes based on 300% 
the amount of that percentage increase, subject to the Maximum Total 
Payment at Maturity, which is expected to be between $15.85 and $16.30 
per Note. Any payment that a beneficial owner will be entitled to 
receive at maturity depends entirely on

[[Page 61537]]

the relation of the value of the Index and the value of the Index on 
the day they are priced for initial sale to the public. If the Final 
Index Value is greater than the Initial Index Value, the payment at 
maturity per PLUS will equal the lesser of: (a) $10 plus the Leveraged 
Upside Payment and (b) the Maximum Payment at Maturity. If the Final 
Index Value is less than or equal to the Initial Index Value, the 
payment at maturity per PLUS will equal $10 times the Index Performance 
Factor.
    Because the Final Index Value on the Notes is derivatively priced 
and based upon the performance value of the Index, there are several 
issues regarding the trading of this type of product. For reasons 
discussed below, the Commission believes that Nasdaq's proposal 
adequately addresses the concerns raised by this type of product.
    First, the Commission notes that the protections of NASD Rule 
4420(f) were designed to address the concerns attendant to the trading 
of hybrid securities like the Notes.\29\ In particular, by imposing the 
hybrid listing standards, suitability for recommendations,\30\ and 
compliance requirements, noted above, the Commission believes that 
Nasdaq has adequately addressed the potential problems that could arise 
from the hybrid nature of the Notes. The Commission notes that Nasdaq 
will distribute a circular to its membership that provides guidance 
regarding member firm compliance responsibilities and requirements, 
including suitability recommendations, and highlights the special risks 
and characteristics associated with the Notes. Specifically, among 
other things, the circular will indicate that the Notes do not 
guarantee a total return of principal at maturity, that the upside 
return on the Notes is expected to be capped between 58.5% to 63% over 
the original issue price $10 per PLUS,\31\ that the Notes will not pay 
interest, and that the Notes will provide exposure in the Index. 
Distribution of the circular should help to ensure that only customers 
with an understanding of the risks attendant to the trading of the 
Notes and who are able to bear the financial risks associated with 
transactions in the Notes will trade the Notes. In addition, the 
Commission notes that Morgan Stanley will deliver a prospectus in 
connection with the initial purchase of the Notes.
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    \29\ See 1993 Order, supra note 3.
    \30\ As discussed above, Nasdaq will advise members recommending 
a transaction in the Notes to: (1) Determine that the transaction is 
suitable for the customer; and (2) have a reasonable basis for 
believing that the customer can evaluate the special characteristics 
of, and is able to bear the financial risks of, the transaction.
    \31\ The Commission notes that the actual Initial Index Value on 
the day the Notes are priced for initial sale to the public will be 
disclosed in the final prospectus supplement.
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    Second, the Commission notes that the final rate of return on the 
Notes depends, in part, upon the individual credit of the issuer, 
Morgan Stanley. To some extent this credit risk is minimized by the 
NASD's listing standards in NASD Rule 4420(f), which provide that only 
issuers satisfying substantial asset and equity requirements may issue 
these types of hybrid securities. In addition, the NASD's hybrid 
listing standards further require that the Notes have at least $4 
million in market value.
    Third, the Notes will be registered under Section 12 of the Act. As 
noted above, the NASD's and Nasdaq's existing equity trading rules will 
apply to the Notes, which will be subject to equity margin rules and 
will trade during the regular equity trading hours of 9:30 a.m. to 4 
p.m. NASD Regulation's surveillance procedures for the Notes will be 
the same as its current surveillance procedures for equity securities 
and will include additional monitoring on key pricing dates.
    Fourth, the Commission has a systemic concern that a broker-dealer, 
such as Morgan Stanley, or a subsidiary providing a hedge for the 
issuer will incur position exposure. However, as the Commission has 
concluded in previous approval orders for the hybrid instruments issued 
by broker-dealers,\32\ the Commission believes that this concern is 
minimal given the size of the Notes issuance in relation to the net 
worth of Morgan Stanley.\33\
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    \32\ See Securities Exchange Act Release Nos. 44913 (October 9, 
2001), 66 FR 52469 (October 15, 2001) (order approving File No. SR-
NASD-2001-73) (approving the listing and trading of notes issued by 
Morgan Stanley Dean Witter & Co. whose return is based on the 
performance of the Index); 44483 (June 27, 2001), 66 FR 35677 (July 
6, 2001) (order approving File No. SR-Amex-2001-40) (approving the 
listing and trading of notes issued by Merrill Lynch whose return is 
based on a portfolio of 20 securities selected from the Amex 
Institutional Index); and 37744 (September 27, 1996), 61 FR 52480 
(October 7, 1996) (order approving File No. SR-Amex-96-27) 
(approving the listing and trading of notes issued by Merrill Lynch 
whose return is based on a weighted portfolio of healthcare/
biotechnology industry securities).
    \33\ The original issue price of the Notes includes commissions 
(and the secondary market prices are likely to exclude commissions) 
and Morgan Stanley's costs of hedging its obligations under the 
Notes. The costs could increase the Initial Value of the Notes, thus 
affecting the payment investors receive at maturity. The Commission 
expects such hedging activity to be conducted in accordance with 
applicable regulatory requirements.
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    The Commission finds good cause for approving the proposed rule 
change prior to the thirtieth day after the publication of the notice 
of filing thereof in the Federal Register. The Commission believes the 
Notes will provide investors with an additional investment choice and 
the accelerated approval of the proposal and allow investors to begin 
trading the Notes promptly.
    In addition, the Commission notes that it has previously approved 
the listing of options on, and/or securities the performance of which 
is based on the Index.\34\ The Commission has also previously approved 
the listing of securities with a structure that is the same or 
substantially the same as the Notes.\35\
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    \34\ See supra note 11.
    \35\ See Securities Exchange Act Release Nos. 48677 (October 21, 
2003), 68 FR 61524 (October 28, 2003) (approving the listing and 
trading of Accelerated Return Notes linked to the S&P 500); 47464 
(March 7, 2003), 68 FR 12116 (March 13, 2003) (approving the listing 
and trading of Market Recovery Notes Linked to the S&P 500); 30394 
(February 21, 1992), 57 FR 7409 (March 2, 1992) (approving the 
listing and trading of a unit investment trust linked to the S&P 
500); 27382 (October 26, 1989), 54 FR 45834 (October 31, 1989) 
(approving the listing and trading of Exchange Stock Portfolios 
based on the value of the S&P 500); 31591 (December 11, 1992), 57 FR 
60253 (December 18, 1992) (approving the listing and trading of 
Portfolio Depositary Receipts based on the S&P 500); and 19907 (June 
24, 1983), 48 FR 30814 (July 5, 1983) (approving the listing and 
trading of options on the S&P 500).
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    Accordingly, the Commission believes there is good cause, 
consistent with Sections 15A(b)(6) and 19(b)(2) of the Act,\36\ to 
approve the proposal, on an accelerated basis.
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    \36\ 15 U.S.C. 78o3(b)(6) and 78s(b)(2).
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V. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\37\ that the proposed rule change (SR-NASD-2004-138) is hereby 
approved on an accelerated basis.
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    \37\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\38\
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    \38\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
 [FR Doc. E4-2709 Filed 10-18-04; 8:45 am]
BILLING CODE 8010-01-P