Federal Register / Vol. 69, No. 247 / Monday, December 27, 2004 / Notices 77287

14 15 U.S.C. 78o–3(b)(6).

15Prohibition on the Use of Brokerage 

Commissions to Finance Distribution, note 10, 

supra, 69 FR 54728 at 54729–54730.

16See Notice, 69 FR 64609, 64610 n. 5.

17Previously designated as Rule 2830(k)(7)(A).

18 15 U.S.C. 78s(b)(2).

19 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).

20 17 CFR 200.30–3(a)(12).

1 15 U.S.C. 78s(b)(1).

2 17 CFR 240.19b–4.

3See letter from Darla C. Stuckey, Corporate 

Secretary, NYSE, to Michael A. Macchiaroli, 

Associate Director, Division of Market Regulation 

(‘‘Division’’), Commission, dated June 17, 2004 

(‘‘Amendment No. 2’’).

4See letter from Mary Yeager, Assistant Secretary, 

NYSE, to T.R. Lazo, Senior Special Counsel, 

Division of Market Regulation, Commission, dated 

August 20, 2002 (‘‘Amendment No. 1’’). In 

Amendment No. 1, the NYSE made technical 

corrections to its proposed rule language to 

eliminate any inconsistencies between its proposal 

and the Chicago Board Options Exchange, Inc.’s 

(‘‘CBOE’’) proposal pursuant to the Rule 431 

Committee’s (‘‘Committee’’) recommendations. See 

Securities Exchange Act Release No. 45630 (March 

22, 2002), 67 FR 15263 (March 29, 2002) (File No. 

SR–CBOE–2002–03) (‘‘CBOE Proposal’’).

5See Securities Exchange Act Release No. 46576 

(October 1, 2002), 67 FR 62843 (October 8, 2002).

6See letter from R. Allan Martin, President, Auric 

Trading Enterprises, Inc., to Secretary, Commission, 

dated October 9, 2002 (‘‘Martin Auric Letter’’); 

Continued

general, to protect investors and the 

public interest.14 The Commission 

believes that the proposed rule change 

is consistent with the provisions of the 

Act noted above because it will 

strengthen NASD’s rules against quid 

pro quo arrangements between NASD 

members and investment companies 

whereby investment companies 

compensate broker-dealers for 

promotion of their shares with 

brokerage commissions (or similar 

transaction-related remuneration), 

which are paid out of fund assets. The 

Commission has noted that such 

practices pose significant conflicts of 

interest and may be harmful to fund 

shareholders, as well as potential 

purchasers of fund shares, in that they 

may induce broker-dealers ‘‘to 

recommend funds that best compensate 

the broker rather than funds that meet 

the customer’s investment needs.’’ 15

The addition of new subparagraph 

(k)(2) to Rule 2830 would clarify that no 

member may sell the shares of, or act as 

an underwriter for, an investment 

company if the member knows, or has 

reason to know, that such investment 

company, or an investment adviser or 

principal underwriter of the company, 

has a written or oral agreement or 

understanding whereby the investment 

company directs, or is expected to 

direct, portfolio securities transactions 

(or any commission, markup or other 

remuneration resulting from any such 

transaction) to a broker-dealer in 

consideration for the promotion or sale 

of shares issued by the company or any 

other registered investment company. 

As NASD noted in its description of the 

proposed rule change,16 this 

requirement will differ from that in 

existing subparagraph (k)(1) of the rule 

because ‘‘the broker-dealer’s intent to 

favor or disfavor a particular fund 

would not be relevant.’’ Rather, the new 

provision will require NASD members 

to refrain from distributing the shares of 

an investment company in any case 

where the member knows, or has reason 

to know, of the investment company’s 

participation in such an arrangement. 

The Commission believes that this 

amendment of NASD’s rules is 

consistent with the protection of 

investors because it will clarify that 

broker-dealers may not enter into such 

quid pro quo distribution arrangements. 

One important purpose of Rule 2830(k) 

is to help eliminate conflicts of interest 

in the sale of investment company 

securities, and this rule change will 

improve NASD’s ability to achieve this 

objective.

NASD’s proposal would also strike 

subparagraph (7)(B) from Rule 2830(k). 

This provision of NASD’s rules has 

heretofore allowed NASD members to 

distribute shares of investment 

companies that, pursuant to a disclosed 

policy, consider sales of their shares by 

broker-dealers as a factor when selecting 

broker-dealers for the execution of 

transactions for a fund. NASD’s 

proposal would add new subparagraph 

(k)(2) to NASD Rule 2830. This 

subparagraph will now explicitly state 

that members are not permitted to sell 

the shares of investment companies that 

the member knows or has reason to 

know engages in such practices. The 

Commission believes that elimination of 

subparagraph (k)(7)(B) of Rule 2830 

should strengthen investor protection 

because it removes a possible incentive 

for brokers to recommend investments 

based on their own financial interests, 

rather than the best interests of their 

customers. 

Finally, the Commission notes that, 

under subparagraph (8)(A) of Rule 

2830(k),17 NASD members may still sell 

the shares of an investment company 

that directs fund portfolio transactions 

to the member, so long as the other 

provisions of the rule are satisfied. The 

Commission believes that this existing 

provision of the rule makes clear that an 

NASD member may continue to 

distribute the shares of investment 

companies for which the member 

executes investment portfolio 

transactions, where the member’s sales 

efforts are not connected to any 

arrangements for the direction of 

brokerage commissions in exchange for 

distribution. In this regard, the 

Commission notes that NASD Rule 3010 

requires NASD members to establish 

and maintain a supervisory system for 

registered representatives and 

associated persons that is reasonably 

designed to achieve compliance with 

applicable securities laws and 

regulations and with the NASD’s rules.

IV. Conclusion 

It is therefore ordered, pursuant to 

Section 19(b)(2) of the Act 18 that the 

proposed rule change (SR–NASD–2004–

027), as amended, be, and hereby is, 

approved.19

For the Commission, by the Division of 

Market Regulation, pursuant to delegated 

authority.20

Margaret H. McFarland, 

Deputy Secretary.

[FR Doc. E4–3806 Filed 12–23–04; 8:45 am] 

BILLING CODE 8010–01–P

SECURITIES AND EXCHANGE 

COMMISSION 

[Release No. 34–50885; File No. SR–NYSE–

2002–19] 

Self-Regulatory Organizations; Notice 

of Filing of Proposed Rule Change and 

Amendment Nos. 1 and 2 Thereto by 

the New York Stock Exchange, Inc. 

Relating to Customer Portfolio and 

Cross-Margining Requirements 

December 20, 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 June 21, 

2004, the New York Stock Exchange, 

Inc. (‘‘NYSE’’ or ‘‘Exchange’’) filed with 

the Securities and Exchange 

Commission (‘‘Commission’’ or ‘‘SEC’’) 

Amendment No. 2 3 to the proposed rule 

change as described in Items I, II, and 

III below, which Items have been 

prepared by the Exchange. The NYSE 

submitted the original proposed rule 

change to the Commission on May 13, 

2002 (‘‘Original Filing’’). On August 21, 

2002, the NYSE filed Amendment No. 1 

to the proposed rule change.4 The 

proposed rule change and Amendment 

No. 1 were published in the Federal 

Register on October 8, 2002.5 The 

Commission received three comment 

letters in response to proposed rule 

change.6 The NYSE is proposing 

77288 Federal Register / Vol. 69, No. 247 / Monday, December 27, 2004 / Notices 

Phupinder S. Gill, Managing Director and President, 

Chicago Mercantile Exchange Inc., to Jonathan G. 

Katz, Secretary, Commission, dated October 21, 

2002 (‘‘Gill CBOE Letter’’); and E-mail from Mike 

Ianni, Private Investor to rule-comments@sec.gov,

dated November 7, 2002 (‘‘Ianni E-mail’’).

7See supra note 4.

Amendment No. 2 for the purpose of 

eliminating inconsistencies between the 

proposed NYSE and CBOE rules,7 and 

to incorporate certain substantive 

amendments requested by Commission 

staff. The Commission is publishing this 

notice to solicit comments on the 

proposed rule change, as amended, from 

interested persons.

I. Self-Regulatory Organization’s 

Statement of the Terms of Substance of 

the Proposed Rule Change 

The Exchange proposes to amend 

NYSE Rule 431 to permit self-clearing 

members and member organizations to 

margin listed, broad-based, market 

index options, index warrants and 

related exchange-traded funds according 

to a prescribed portfolio margin 

methodology relating to a portfolio 

margin account of a registered brokerdealer, any affiliate of a self-clearing 

member or member organization, certain 

qualified members of a national futures 

exchange, and any other person or 

entity that maintains account equity of 

at least $5 million. 

The Exchange further proposes to 

amend NYSE Rule 726 to require that a 

disclosure statement and written 

acknowledgement for use with the 

proposed portfolio margining and crossmargining changes be furnished to 

customers. The text of the proposed rule 

change is below. Additions are in 

italics. Deletions are in brackets.

* * * * *

Margin Requirements 

Rule 431. (a) through (f) unchanged. 

Portfolio Margin and Cross-Margin for 

Index Options 

(g) As an alternative to the ‘‘strategy’’

based margin requirements set forth in 

paragraphs (a) through (f) of this Rule, 

member organizations may elect margin 

for listed, broad-based U.S. index 

options, index warrants and underlying 

instruments (as defined below) in 

accordance with the portfolio margin 

requirements set forth in this Rule.

In addition, member organizations, 

provided they are a Futures Commission 

Merchant (‘‘FCM’’) and are either a 

clearing member of a futures clearing 

organization or have an affiliate that is 

a clearing member of a futures clearing 

organization, are permitted under this 

section to combine a customer’s related 

instruments (as defined below) and 

listed, broad-based U.S. index options, 

index warrants and underlying 

instruments and compute a margin 

requirement (‘‘cross margin’’) on a 

portfolio margin basis. Member 

organizations must confine crossmargin positions to a portfolio margin 

account dedicated exclusively to crossmargining.

The portfolio margin and crossmargining provisions of this Rule shall 

not apply to Individual Retirement 

Accounts (‘‘IRAs’’).

(1) Member organizations will be 

expected to monitor the risk of portfolio 

margin accounts and maintain a written 

risk analysis methodology for assessing 

the potential risk to the member 

organization’s capital over a specified 

range of possible market movements of 

positions maintained in such accounts. 

The risk analysis methodology shall 

specify the computations to be made, 

the frequency of computations, the 

records to be reviewed and maintained, 

and the position(s) within the 

organization responsible for the risk 

function. This risk analysis 

methodology shall be made available to 

the Exchange upon request. In 

performing the risk analysis of portfolio 

margin accounts required by this Rule, 

each member organization shall include 

the following in the written risk analysis 

methodology:

(A) Procedures and guidelines for the 

determination, review and approval of 

credit limits to each customer, and 

across all customers, utilizing a 

portfolio margin account.

(B) Procedures and guidelines for 

monitoring credit risk exposure to the 

member organization, including intraday credit risk, related to portfolio 

margin accounts.

(C) Procedures and guidelines for the 

use of stress testing of portfolio margin 

accounts in order to monitor market risk 

exposure from individual accounts and 

in the aggregate.

(D) Procedures providing for the 

regular review and testing of these risk 

analysis procedures by an independent 

unit such as internal audit or other 

comparable group.

(2) Definitions.—For purposes of this 

paragraph (g), the following terms shall 

have the meanings specified below:

(A) The term ‘‘listed option’’ shall 

mean any option traded on a registered 

national securities exchange or 

automated facility of a registered 

national securities association.

(B) The term ‘‘options class’’ refers to 

all options contracts covering the same 

underlying instrument.

(C) The term ‘‘portfolio’’ means 

options of the same options class 

grouped with their underlying 

instruments and related instruments.

(D) The term ‘‘option series’’ relates to 

listed options and means all option 

contracts of the same type (either a call 

or a put) and exercise style, covering the 

same underlying instrument with the 

same exercise price, expiration date, 

and number of underlying units.

(E) The term ‘‘related instrument’’

within an option class or product group 

means futures contracts and options on 

futures contracts covering the same 

underlying instrument.

(F) The term ‘‘underlying instrument’’

means long and short positions in an 

exchange traded fund or other fund 

product registered under the Investment 

Company Act of 1940, that holds the 

same securities, and in the same 

proportion, as contained in a broadbased index on which options are listed. 

The term underlying instrument shall 

not be deemed to include, futures 

contracts, options on futures contracts, 

underlying stock baskets, or unlisted 

instruments.

(G) The term ‘‘product group’’ means 

two or more portfolios of the same type 

(see sub-paragraph (g)(2)(H) below) for 

which it has been determined by Rule 

15c3–1a under the Securities Exchange 

Act of 1934 that a percentage of 

offsetting profits may be applied to 

losses at the same valuation point.

(H) The term ‘‘theoretical gains and 

losses’’ means the gain and loss in the 

value of individual option series and 

related instruments at 10 equidistant 

intervals (valuation points) ranging from 

an assumed movement (both up and 

down) in the current market value of the 

underlying instrument. The magnitude 

of the valuation point range shall be as 

follows:

Portfolio type 

Up/down market move (high 

& low valuation points) 

Non-High Capitalization, 

Broad-based U.S. Market 

Index Option 8.

+/¥10% 

High Capitalization, Broadbased U.S. Market Index 

Option 9.

+6%/¥8% 

8 In accordance with sub-paragraph 

(b)(1)(i)(B) of Rule 15c3–1a (Appendix A to 

Rule 15c3–1) under the Securities Exchange 

Act of 1934, 17 CFR 240.15c3–1a(b)(1)(i)(B). 9See footnote above.

(3) Approved Theoretical Pricing 

Models.—Theoretical pricing models 

must be approved by a Designated 

Examining Authority and reviewed by 

the Securities and Exchange 

Commission (‘‘The Commission’’) in 

order to qualify. Currently, the 

theoretical model utilized by The 

Federal Register / Vol. 69, No. 247 / Monday, December 27, 2004 / Notices 77289

Options Clearing Corporation (‘‘The 

OCC’’) is the only model qualified 

pursuant to The Commission’s Net 

Capital Rule. All member organizations 

participating in the pilot program shall 

obtain their theoretical values from The 

OCC.

(4) Eligible Participants.—The 

application of the portfolio margin 

provisions of this paragraph (g), 

including cross-margining, is limited to 

the following:

(A) any broker or dealer registered 

pursuant to Section 15 of the Securities 

Exchange Act of 1934;

(B) any affiliate of a self-clearing 

member organization;

(C) any member of a national futures 

exchange to the extent that listed index 

options hedge the member’s index 

futures; and

(D) any other person or entity not 

included in (4)(A) through (4)(C) above 

that has or establishes, and maintains, 

equity of at least 5 million dollars. For 

purposes of this equity requirement, all 

securities and futures accounts carried 

by the member organization for the 

same customer may be combined 

provided ownership across the accounts 

is identical. A guarantee pursuant to 

paragraph (f)(4) of this Rule is not 

permitted for purposes of the minimum 

equity requirement.

(5) Opening of Accounts.

(A) Only customers that have been 

approved for options transactions and 

approved to engage in uncovered short 

option contracts pursuant to Exchange 

Rule 721, are permitted to utilize a 

portfolio margin account.

(B) On or before the date of the initial 

transaction in a portfolio margin 

account, a member organization shall:

(i) furnish the customer with a special 

written disclosure statement describing 

the nature and risks of portfolio 

margining and cross-margining which 

includes an acknowledgement for all 

portfolio margin account owners to sign, 

and an additional acknowledgement for 

owners that also engage in crossmargining to sign, attesting that they 

have read and understood the 

disclosure statement, and agree to the 

terms under which a portfolio margin 

account and the cross-margin account 

respectively, are provided (see Exchange 

Rule 726 (d)), and

(ii) obtain the signed 

acknowledgement(s) noted above from 

the customer (both of which are 

required for cross-margining customers) 

and record the date of receipt.

(6) Establishing Account and Eligible 

Positions

(1) Portfolio Margin Account. For 

purposes of applying the portfolio 

margin requirements provided in this 

paragraph (g), member organizations 

are to establish and utilize a specific 

securities margin account, or subaccount of a margin account, clearly 

identified as a portfolio margin account 

that is separate from any other 

securities account carried for a 

customer.

(2) Cross-Margin Account. For 

purposes of combining related 

instruments and listed, broad-based 

U.S. index options, index warrants and 

underlying instruments and applying 

the portfolio margin requirements 

members are to establish and utilize a 

portfolio margin account, clearly 

identified as a cross-margin account, 

that is separate from any other 

securities account or portfolio margin 

account carried for a customer.

A margin deficit in either the portfolio 

margin account or the cross-margin 

account of a customer may not be 

considered as satisfied by excess equity 

in the other account. Funds and/or 

securities must be transferred to the 

deficient account and a written record 

created and maintained.

(A) Portfolio Margin Account—

Eligible Positions

(i) A transaction in, or transfer of, a 

listed, broad-based U.S. index option or 

index warrant may be effected in the 

portfolio margin account.

(ii) A transaction in, or transfer of, an 

underlying instrument may be effected 

in the portfolio margin account 

provided a position in an offsetting 

listed, broad-based U.S. index option or 

index warrant is in the account or is 

established in the account on the same 

day.

(iii) If, in the portfolio margin 

account, the listed, broad-based U.S. 

index option or index warrant position 

offsetting an underlying instrument 

position ceases to exist and is not 

replaced within ten business days, the 

underlying instrument position must be 

transferred to a regular margin account, 

subject to initial Regulation T margin 

and margined according to the other 

provisions of this Rule. Member 

organizations will be expected to 

monitor portfolio margin accounts for 

possible abuse of this provision.

(iv) In the event that fully paid for 

long options and /or index warrants are 

the only positions contained within a 

portfolio margin account, such long 

positions must be transferred to a 

securities account other than a portfolio 

margin account or cross ‘‘margin 

account within 10 business days, subject 

to the margin required, unless the status 

of the account changes such that it is no 

longer composed solely of fully paid for 

long options and/or index warrants.

(B) Cross-Margin Account—Eligible 

Positions

(i) A transaction in, or transfer of, a 

related instrument may be effected in 

the cross margin account provided a 

position in an offsetting listed, U.S. 

broad-based index option, index 

warrant or underlying instrument is in 

the account or is established in the 

account on the same day.

(ii) If the listed, U.S. broad-based 

index option, index warrant or 

underlying instrument position 

offsetting a related instrument ceases to 

exist and is not replaced within ten 

business days, the related instrument 

position must be transferred to a futures 

account and margined accordingly. 

Member organizations will be expected 

to monitor cross-margin accounts for 

possible abuse of this provision.

(iii) In the event that fully paid for 

long options and/or index warrants 

(securities) are the only positions 

contained within a cross-margin 

account, such long positions must be 

transferred to a securities account other 

than a portfolio margin account or cross 

margin account within 10 business 

days, subject to the margin required, 

unless the status of the account changes 

such that it is no longer composed solely 

of fully paid for long options and/or 

index warrants.

(7) Initial and Maintenance Margin 

Required.— The amount of margin 

required under this paragraph (g) for 

each portfolio shall be the greater of:

(A) the amount for any of the 10 

equidistant valuation points 

representing the largest theoretical loss 

as calculated pursuant to paragraph 

(g)(8) below, or

(B) $.375 for each listed index option 

and related instrument multiplied by 

the contract’s or instrument’s multiplier, 

not to exceed the market value in the 

case of long positions in listed options 

and options on futures contracts.

(C) Account guarantees pursuant to 

paragraph (f)(4) of this Rule are not 

permitted for purposes of meeting initial 

and maintenance margin requirements.

(8) Method of Calculation.

(A) Long and short positions in listed 

options, underlying instruments and 

related instruments are to be grouped by 

option class; each option class group 

being a ‘‘portfolio’’. Each portfolio is 

categorized as one of the portfolio types 

specified in sub-paragraph (g)(2)(H) 

above.

(B) For each portfolio, theoretical 

gains and losses are calculated for each 

position as specified in sub-paragraph 

(g)(2)(H) above. For purposes of 

determining the theoretical gains and 

losses at each valuation point, member 

organizations shall obtain and utilize 

77290 Federal Register / Vol. 69, No. 247 / Monday, December 27, 2004 / Notices 

the theoretical value of a listed index 

option, underlying instrument or related 

instrument rendered by a theoretical 

pricing model that, in accordance with 

sub-paragraph (b)(1)(i)(B) of Rule 15c3–

1a under the Securities Exchange Act of 

1934, qualifies for purposes of 

determining the amount to be deducted 

in computing net capital under a 

portfolio based methodology.

(C) Offsets. Within each portfolio, 

theoretical gains and losses may be 

netted fully at each valuation point.

Offsets between portfolios within the 

High Capitalization, Broad-based Index 

Option product group and the Non-High 

Capitalization, Broad-based Index 

Option product group may then be 

applied as permitted by Rule 15c3–1a 

under the Securities Exchange Act of 

1934.

(D) After applying the Offsets above, 

the sum of the greatest loss from each 

portfolio is computed to arrive at the 

total margin required for the account 

(subject to the per contract minimum).

(9) Equity Deficiency.—If, at any time, 

equity declines below the 5 million 

dollar minimum required under subparagraph (4)(D) of this paragraph (g) 

and is not restored to at least 5 million 

dollars within three (3) business days 

(T+3) by a deposit of funds and/or 

securities; member organizations are 

prohibited from accepting opening 

orders starting on T+4, except that 

opening orders entered for the purpose 

of hedging existing positions may be 

accepted if the result would be to lower 

margin requirements. This prohibition 

shall remain in effect until equity of 5 

million dollars is established.

(10) Determination of Value for 

Margin Purposes.—For the purposes of 

this paragraph (g), all listed index 

options and related instrument 

positions shall be valued at current 

market prices. Account equity for the 

purposes of this paragraph (g) shall be 

calculated separately for each portfolio 

margin account by adding the current 

market value of all long positions, 

subtracting the current market value of 

all short positions, and adding the 

credit (or subtracting the debit) balance 

in the account.

(11) Additional Margin.—If at any 

time, the equity in any portfolio margin 

account is less than the margin 

required, the customer may deposit 

additional margin or establish a hedge 

to meet the margin requirement within 

one business day (T+1). In the event a 

customer fails to hedge existing 

positions or deposit additional margin 

within one business day, the member 

organization must liquidate positions in 

an amount sufficient to, at a minimum, 

lower the total margin required to an 

amount less than or equal to account 

equity. Paragraph (f)(7) of this Rule—

Practice of Meeting Regulation T Margin 

Calls by Liquidation Prohibited shall not 

apply to portfolio margin accounts. 

However, member organizations will be 

expected to monitor portfolio margin 

and cross-margin accounts for possible 

abuse of this provision.

(12) Net Capital Treatment of 

Portfolio Margin and Cross Margin 

Accounts.

(A) No member organization that 

requires margin in any customer 

account pursuant to paragraph (g) of 

this Rule shall permit gross customer 

portfolio margin requirements to exceed 

1,000 percent of its net capital for any 

period exceeding three business days. 

The member organization shall, 

beginning on the fourth business day, 

cease opening new portfolio margin 

accounts until compliance is achieved.

(B) If, at any time, a member 

organization’s gross customer portfolio 

margin requirements exceed 1,000 

percent of its net capital, the member 

organization shall immediately transmit 

telegraphic or facsimile notice of such 

deficiency to the Securities and 

Exchange Commission, 450 Fifth Street 

NW, Washington, DC, 20549; to the 

district or regional office of the 

Securities and Exchange Commission 

for the district or region in which the 

member organization maintains its 

principal place of business; and to its 

Designated Examining Authority.

(13) Day Trading Requirements.—The 

requirements of sub-paragraph (f)(8)(B) 

of this Rule—Day-Trading shall not 

apply to portfolio margin accounts 

including cross margin accounts.

(14) Cross Margin Accounts—

Requirements to Liquidate

(A) A member is required immediately 

either to liquidate, or transfer to another 

broker-dealer eligible to carry crossmargin accounts, all customer crossmargin accounts that contain positions 

in futures and/or options on futures if 

the member is:

(i) Insolvent as defined in section 101 

of title 11 of the United States Code, or 

is unable to meet its obligations as they 

mature;

(ii) The subject of a proceeding 

pending in any court or before any 

agency of the United States or any State 

in which a receiver, trustee, or 

liquidator for such debtor has been 

appointed;

(iii) Not in compliance with 

applicable requirements under the 

Securities Exchange Act of 1934 or rules 

of the Securities and Exchange 

Commission or any self-regulatory 

organization with respect to financial 

responsibility or hypothecation of 

customer’s securities; or

(iv) Unable to make such 

computations as may be necessary to 

establish compliance with such 

financial responsibility or 

hypothecation rules.

(B) Nothing in this paragraph (14) 

shall be construed as limiting or 

restricting in any way the exercise of 

any right of a registered clearing agency 

to liquidate or cause the liquidation of 

positions in accordance with its by-laws 

and rules.

* * * * *

Delivery of Options Disclosure 

Document and Prospectus 

Rule 726 (a) through (c) unchanged. 

Portfolio Margining and CrossMargining Disclosure Statement and 

Acknowledgement 

(d) The special written disclosure 

statement describing the nature and 

risks of portfolio margining and crossmargining, and acknowledgement for 

customer signature, required by Rule 

431(g)(5)(B) shall be in a format 

prescribed by the Exchange or in a 

format developed by the member 

organization, provided it contains 

substantially similar information as in 

the prescribed Exchange format and has 

received the prior written approval of 

the Exchange.

Sample Portfolio Margining and CrossMargining Risk Disclosure Statement to 

Satisfy Requirements of Exchange Rule 

431(g) 

Overview of Portfolio Margining 

1. Portfolio margining is a margin 

methodology that sets margin 

requirements for an account based on 

the greatest projected net loss of all 

positions in a ‘‘product class’’ or 

‘‘product group’’ as determined by an 

options pricing model using multiple 

pricing scenarios. These pricing 

scenarios are designed to measure the 

theoretical loss of the positions given 

changes in both the underlying price 

and implied volatility inputs to the 

model. Portfolio margining is currently 

limited to product classes and groups of 

index products relating to broad-based 

market indexes.

2. The goal of portfolio margining is 

to set levels of margin that more 

precisely reflects actual net risk. The 

customer benefits from portfolio 

margining in that margin requirements 

calculated on net risk are generally 

lower than alternative ‘‘position’’ or 

‘‘strategy’’ based methodologies for 

determining margin requirements. 

Lower margin requirements allow the 

customer more leverage in an account.

Federal Register / Vol. 69, No. 247 / Monday, December 27, 2004 / Notices 77291

10 For purposes of this Rule, the term ‘‘related 

instruments,’’ within an option class or product 

means futures contracts, and options on futures 

contracts covering the same underlying instrument.

Customers Eligible for Portfolio 

Margining 

3. To be eligible for portfolio 

margining, customers (other than 

broker-dealers and certain non-brokerdealer affiliates of the carrying brokerdealer) must meet the basic standards 

for having an options account that is 

approved for uncovered writing and 

must have and maintain at all times 

account net equity of not less than $5 

million, aggregated across all accounts 

under identical ownership at the 

clearing broker. The identical ownership 

requirement excludes accounts held by 

the same customer in different 

capacities (e.g., as a trustee and as an 

individual) and accounts where 

ownership is overlapping but not 

identical (e.g., individual accounts and 

joint accounts).

Positions Eligible for a Portfolio Margin 

Account 

4. All positions in broad-based U.S. 

market index options and index 

warrants listed on a national securities 

exchange, and exchange traded funds 

and other products registered under the 

Investment Company Act of 1940 that 

are managed to track the same index 

that underlies permitted index options, 

are eligible for a portfolio margin 

account.

Special Rules for Portfolio Margin 

Accounts 

5. A portfolio margin account may be 

either a separate account or a subaccount of a customer’s regular margin 

account. In the case of a sub-account, 

equity in the regular account will be 

available to satisfy any margin 

requirement in the portfolio margin subaccount without transfer to the subaccount.

6. A portfolio margin account or subaccount will be subject to a minimum 

margin requirement of $.375 multiplied 

by the index multiplier for every option 

contract or index warrant carried long 

or short in the account. No minimum 

margin is required in the case of eligible 

exchange traded funds or other eligible 

fund products.

7. Margin calls in the portfolio margin 

account or sub-account, regardless of 

whether due to new commitments or the 

effect of adverse market moves on 

existing positions, must be met within 

one business day. Any shortfall in 

aggregate net equity across accounts 

must be met within three business days. 

Failure to meet a margin call when due 

will result in immediate liquidation of 

positions to the extent necessary to 

reduce the margin requirement. Failure 

to meet an equity call prior to the end 

of the third business day will result in 

a prohibition on entering any opening 

orders, with the exception of opening 

orders that hedge existing positions, 

beginning on the fourth business day 

and continuing until such time as the 

minimum equity requirement is 

satisfied.

8. A position in an exchange traded 

index fund or other eligible fund 

product may not be established in a 

portfolio margin account unless there 

exists, or there is established on the 

same day, an offsetting position in 

securities options, or other eligible 

securities. Exchange traded index funds 

and/or other eligible funds will be 

transferred out of the portfolio margin 

account and into a regular securities 

account subject to initial Regulation T 

and NYSE Rule 431 margin if the 

offsetting securities options, other 

eligible securities and/or related 

instruments no longer remain in the 

account for ten business days.

9. When a broker-dealer carries a 

regular cash account or margin account 

for a customer, the broker-dealer is 

limited by rules of the Securities and 

Exchange Commission and of The 

Options Clearing Corporation (‘‘OCC’’) 

to the extent to which the broker-dealer 

may permit OCC to have a lien against 

long option positions in those accounts. 

In contrast, OCC will have a lien against 

all long option positions that are carried 

by a broker-dealer in a portfolio margin 

account, and this could, under certain 

circumstances, result in greater losses to 

a customer having long option positions 

in such an account in the event of the 

insolvency of the customer’s broker. 

Accordingly, to the extent that a 

customer does not borrow against long 

option positions in a portfolio margin 

account or have margin requirements in 

the account against which the long 

option can be credited, there is no 

advantage to carrying the long options 

in a portfolio margin account and the 

customer should consider carrying them 

in an account other than a portfolio 

margin account.

Special Risks of Portfolio Margin 

Accounts 

10. Portfolio margining generally 

permits greater leverage in an account, 

and greater leverage creates greater 

losses in the event of adverse market 

movements.

11. Because the time limit for meeting 

margin calls is shorter than in a regular 

margin account, there is increased risk 

that a customer’s portfolio margin 

account will be liquidated involuntarily, 

possibly causing losses to the customer.

12. Because portfolio margin 

requirements are determined using 

sophisticated mathematical calculations 

and theoretical values that must be 

calculated from market data, it may be 

more difficult for customers to predict 

the size of future margin calls in a 

portfolio margin account. This is 

particularly true in the case of 

customers who do not have access to 

specialized software necessary to make 

such calculations or who do not receive 

theoretical values calculated and 

distributed periodically by The Options 

Clearing Corporation.

13. For the reasons noted above, a 

customer that carries long options 

positions in a portfolio margin account 

could, under certain circumstances, be 

less likely to recover the full value of 

those positions in the event of the 

insolvency of the carrying broker.

14. Trading of securities index 

products in a portfolio margin account 

is generally subject to all the risks of 

trading those same products in a regular 

securities margin account. Customers 

should be thoroughly familiar with the 

risk disclosure materials applicable to 

those products, including the booklet 

entitled Characteristics and Risks of 

Standardized Options.

15. Customers should consult with 

their tax advisers to be certain that they 

are familiar with the tax treatment of 

transactions in securities index 

products.

16. The descriptions in this disclosure 

statement relating to eligibility 

requirements for portfolio margin 

accounts, and minimum equity and 

margin requirements for those accounts, 

are minimums imposed under Exchange 

rules. Time frames within which margin 

and equity calls must be met are 

maximums imposed under Exchange 

rules. Broker-dealers may impose their 

own more stringent requirements.

Overview of Cross-Margining 

17. With cross-margining, index 

futures and options on index futures are 

combined with offsetting positions in 

securities index options and underlying 

instruments, for the purpose of 

computing a margin requirement based 

on the net risk. This generally produces 

lower margin requirements than if the 

related instruments 10 and securities 

products are viewed separately, thus 

providing more leverage in the account.

18. Cross-margining must be done in 

a portfolio margin account type. A 

separate portfolio margin account must 

be established exclusively for crossmargining.

77292 Federal Register / Vol. 69, No. 247 / Monday, December 27, 2004 / Notices 

19. When index futures and options 

on futures are combined with offsetting 

positions in index options and 

underlying instruments in a dedicated 

account, and a portfolio margining 

methodology is applied to them, crossmargining is achieved.

Customers Eligible for Cross-Margining 

20. The eligibility requirements for 

cross-margining are generally the same 

as for portfolio margining, and any 

customer eligible for portfolio margining 

is eligible for cross-margining.

21. Members of futures exchanges on 

which cross-margining eligible index 

contracts are traded are also permitted 

to carry positions in cross-margin 

accounts without regard to the 

minimum aggregate account equity.

Positions Eligible for Cross-Margining 

22. All securities products eligible for 

portfolio margining are also eligible for 

cross-margining.

23. All broad-based U.S. listed market 

index futures and options on index 

futures traded on a designated contract 

market subject to the jurisdiction of the 

Commodity Futures Trading 

Commission (‘‘CFTC’’) are eligible for 

cross-margining.

Special Rules for Cross-Margining 

24. Cross-margining must be 

conducted in a portfolio margin account 

type. A separate portfolio margin 

account must be established exclusively 

for cross-margining. A cross margin 

account is a securities account, and 

must be maintained separate from all 

other securities account.

25. Cross-margining is automatically 

accomplished with the portfolio 

margining methodology. Cross-margin 

positions are subject to the same 

minimum margin requirement for every 

contract, including futures contracts.

26. Margin calls arising in crossmargin account, and any shortfall in 

aggregate net equity across accounts, 

must be satisfied within the same 

timeframe, and subject to the same 

consequences, as in a portfolio margin 

account.

27. A position in a futures product 

may not be established in a crossmargin account unless there exists, or 

there is established on the same day, an 

offsetting position in securities options 

and/or other eligible securities. Related 

instruments will be transferred out of 

the cross margin account and into a 

futures account if, for more than ten 

business days and for any reason, the 

offsetting securities options and/or other 

eligible securities no longer remain in 

the account. If the transfer of related 

instruments to a futures account causes 

the futures account to be 

undermargined, a margin call will be 

issued or positions will be liquidated to 

the extent necessary to eliminate the 

deficit.

28. Customers participating in crossmargining will be required to sign an 

agreement acknowledging that their 

positions and property in the crossmargin account will be subject to the 

customer protection provisions of Rule 

15c3–3 under the Securities Exchange 

Act of 1934 and the Securities Investor 

Protection Act, and will not be subject 

to the provisions of the Commodity 

Exchange Act, including segregation of 

funds.

29. According to the rules of the 

exchanges, a broker dealer is required to 

immediately liquidate, or, if feasible, 

transfer to another broker-dealer eligible 

to carry cross-margin accounts, all 

customer cross-margin accounts that 

contain positions in futures and/or 

options on futures in the event that the 

carrying broker-dealer becomes 

insolvent.

30. In signing the agreement referred 

to in paragraph 28 above, a customer 

also acknowledges that a cross-margin 

account that contains positions in 

futures and/or options on futures will be 

immediately liquidated, or, if feasible, 

transferred to another broker-dealer 

eligible to carry cross-margin accounts, 

in the event that the carrying brokerdealer becomes insolvent.

Special Risks of Cross-Margining 

31. Cross-margining must be 

conducted in a portfolio margin account 

type. Generally, cross-margining and the 

portfolio margining methodology both 

contribute to provide greater leverage 

than a regular margin account, and 

greater leverage creates greater losses in 

the event of adverse market movements.

32. Since cross-margining must be 

conducted in a portfolio margin account 

type, the time required for meeting 

margin calls is shorter than in a regular 

securities margin account and may be 

shorter than the time ordinarily required 

by a futures commission merchant for 

meeting margin calls in a futures 

account. Consequently, there is 

increased risk that a customer’s crossmargin positions will be liquidated 

involuntarily, causing possible loss to 

the customer.

33. As noted above, cross margin 

accounts are securities accounts and are 

subject to the customer protections setforth in Rule 15c3–3 under the 

Securities Exchange Act of 1934 and the 

Securities Investor Protection Act. 

Cross-margin positions are not subject 

to the customer protection rules under 

the segregation provisions of the 

Commodity Exchange Act and the rules 

of the CFTC adopted pursuant to the 

Commodity Exchange Act.

34. Trading of index options and 

futures contracts in a cross-margin 

account is generally subject to all the 

risks of trading those same products in 

a futures account or a regular securities 

margin account. Customers should be 

thoroughly familiar with the risk 

disclosure materials applicable to those 

products, including the booklet entitled 

Characteristics and Risks of 

Standardized Options and the risk 

disclosure document required by the 

CFTC to be delivered to futures 

customers. Because this disclosure 

statement does not disclose the risks 

and other significant aspects of trading 

in futures and options, customers 

should review those materials carefully 

before trading in a cross-margin 

account.

35. Customers should bear in mind 

that the discrepancies in the cash flow 

characteristics of futures and certain 

options are still present even when those 

products are carried together in a cross 

margin account. Both futures and 

options contracts are generally marked 

to the market at least once each 

business day, but the marks may take 

place with different frequency and at 

different times within the day. When a 

futures contract is marked to the 

market, the gain or loss is immediately 

credited to or debited from, respectively, 

the customer’s account in cash. While 

an increase in the value of a long option 

contract may increase the equity in the 

account, the gain is not realized until 

the option is sold or exercised. 

Accordingly, a customer may be 

required to deposit cash in the account 

in order to meet a variation payment on 

a futures contract even though the 

customer is in a hedged position and 

has experienced a corresponding (but 

yet unrealized) gain on a long option. 

Alternatively, a customer who is in a 

hedged position and would otherwise be 

entitled to receive a variation payment 

on a futures contract may find that the 

cash is required to be held in the 

account as margin collateral on an 

offsetting option position.

36. Customers should consult with 

their tax advisers to be certain that they 

are familiar with the tax treatment of 

transactions in index products, 

including tax consequences of trading 

strategies involving both futures and 

option contracts.

37. The descriptions in this disclosure 

statement relating to eligibility 

requirements for cross-margining, and 

minimum equity and margin 

requirements for cross margin accounts, 

are minimums imposed under Exchange 

Federal Register / Vol. 69, No. 247 / Monday, December 27, 2004 / Notices 77293

rules. Time frames within which margin 

and equity calls must be met are 

maximums imposed under Exchange 

rules. The broker-dealer carrying a 

customer’s portfolio margin account, 

including any cross-margin account, 

may impose its own more stringent 

requirements.

* * * * *

Sample Portfolio Margining and CrossMargining Acknowledgements 

Acknowledgement for Customers 

Utilizing a Portfolio Margin Account 

—Cross-Margining and Non-CrossMargining—

Rule 15c3–3 under the Securities 

Exchange Act of 1934 requires that a 

broker or dealer promptly obtain and 

maintain physical possession or control 

of all fully-paid securities and excess 

margin securities of a customer. Fullypaid securities are securities carried in 

a cash account and margin equity 

securities carried in a margin or special 

account (other than a cash account) that 

have been fully paid for. Excess margin 

securities are a customer’s margin 

securities having a market value in 

excess of 140% of the total of the debit 

balances in the customer’s non-cash 

accounts. For the purposes of Rule 

15c3–3, securities held subject to a lien 

to secure obligations of the brokerdealer are not within the broker-dealer’s 

physical possession or control. The 

Commission staff has taken the position 

that all long option positions in a 

customer’s portfolio-margining account 

(including any cross-margin account) 

may be subject to such a lien by OCC 

and will not be deemed fully-paid or 

excess margin securities under Rule 

15c3–3.

The hypothecation rules under the 

Securities Exchange Act of 1934 (Rules 

8c–1 and 15c2–1), prohibit brokerdealers from permitting the 

hypothecation of customer securities in 

a manner that allows those securities to 

be subject to any lien or liens in an 

amount that exceeds the customer’s 

aggregate indebtedness. However, all 

long option positions in a portfoliomargining account (including any crossmargining account) will be subject to 

OCC’s lien, including any positions that 

exceed the customer’s aggregate 

indebtedness. The Commission staff has 

taken a position that would allow 

customers to carry positions in 

portfolio-margining accounts, (including 

any cross-margining account) even 

when those positions exceed the 

customer’s aggregate indebtedness. 

Accordingly, within a portfolio margin 

account or cross-margin account, to the 

extent that you have long option 

positions that do not operate to offset 

your aggregate indebtedness and 

thereby reduce your margin requirement 

you receive no benefit from carrying 

those positions in your portfolio-margin 

account or cross-margin account and 

incur the additional risk of OCC’s lien 

on your long option position(s).

By signing below the customer affirms 

that the customer has read and 

understood the foregoing disclosure 

statement and acknowledges and agrees 

that long option positions in portfoliomargining accounts, and crossmargining accounts, will be exempted 

from certain customer protection rules 

of the Securities and Exchange 

Commission as described above and will 

be subject to a lien by the Options 

Clearing Corporation without regard to 

such rules.

Customer Name: llllllllll

By: llllllllllllllll

(Signature/title)

Date: llllllllllllllll

Acknowledgement for Customers 

Engaged in Cross-Margining 

As disclosed above, futures contracts 

and other property carried in customer 

accounts with Futures Commission 

Merchants (‘‘FCM’’) are normally subject 

to special protection afforded under the 

customer segregation provisions of the 

Commodity Exchange Act (‘‘CEA’’) and 

the rules of the Commodity Futures 

Trading Commission adopted pursuant 

to the CEA. These rules require that 

customer funds be segregated from the 

accounts of financial intermediaries and 

be accounted for separately. However, 

they do not provide for, and regular 

futures accounts do not enjoy the 

benefit of, insurance protecting 

customer accounts against loss in the 

event of the insolvency of the 

intermediary carrying the accounts.

As discussed above, cross-margining 

must be conducted in a portfolio margin 

account, dedicated exclusively to cross 

margining and cross margin accounts 

are not treated as a futures account with 

an FCM. Instead, cross margin accounts 

are treated as securities accounts 

carried with broker-dealers. As such, 

cross margin accounts are covered by 

Rule 15c3–3 under the Securities 

Exchange Act of 1934, which protects 

customer accounts. Rule 15c3–3, among 

other things, requires a broker-dealer to 

maintain physical possession or control 

of all fully-paid and excess margin 

securities and maintain a special 

reserve account for the benefit of their 

customers. However, with regard to 

cross margin accounts, there is an 

exception to the possession or control 

requirement of Rule 15c3–3 that permits 

The Options Clearing Corporation to 

have a lien on long positions. This 

exception is outlined in a separate 

acknowledgement form that must be 

signed prior to or concurrent with this 

form. Additionally, the Securities 

Investor Protection Corporation 

(‘‘SIPC’’) insures customer accounts 

against the financial insolvency of a 

broker-dealer in the amount of up to 

$500,000 to protect against the loss of 

registered securities and cash 

maintained in the account for 

purchasing securities or as proceeds 

from selling securities (although the 

limit on cash claims is $100,000). 

According to the rules of the exchanges, 

a broker-dealer is required to 

immediately liquidate, or, if feasible, 

transfer to another broker-dealer eligible 

to carry cross-margin accounts, all 

customer cross margin accounts that 

contain positions in futures and/or 

options on futures in the event that the 

carrying broker-dealer becomes 

insolvent.

By signing below the customer affirms 

that the customer has read and 

understood the foregoing disclosure 

statement and acknowledges and agrees 

that: (1) Positions and property in crossmargining accounts, will not be subject 

to the customer protection rules under 

the customer segregation provisions of 

the Commodity Exchange Act and the 

rules of the Commodity Futures Trading 

Commission adopted pursuant to the 

CEA and (2) cross-margining accounts 

that contain positions in futures and/or 

options on futures will be immediately 

liquidated, or if feasible, transferred to 

another broker-dealer eligible to carry 

cross-margin accounts in the event that 

the carrying broker-dealer becomes 

insolvent.

Customer Name: llllllllll

By: llllllllllllllll

(Signature/title)

Date: llllllllllllllll

* * * * *

I. Self-Regulatory Organization’s 

Statement of the Purpose of, and 

Statutory Basis for, the Proposed Rule 

Change 

In its filing with the Commission, the 

Exchange included statements 

concerning the purpose of and basis for 

the proposed rule change and discussed 

any comments it received on the 

proposed rule change. The text of these 

statements may be examined at the 

places specified in Item IV below. The 

Exchange has prepared summaries, set 

forth in Sections A, B, and C below, of 

the most significant aspects of such 

statements.

77294 Federal Register / Vol. 69, No. 247 / Monday, December 27, 2004 / Notices 

11Many aspects of the proposed rule change are 

similar to the CBOE’s proposed rule change to 

permit customer portfolio margining and crossmargining. See CBOE Proposal, supra note 4.

12See CBOE Proposal, supra note 4.

13The Original Proposal and Amendment No. 1 

permitted cross-margin positions to either be 

combined in the same account with other portfolio 

margin positions, or carried in a separate crossmargin account.

A. Self-Regulatory Organization’s 

Statement of the Purpose of, and 

Statutory Basis for, the Proposed Rule 

Change 

1. Purpose 

a. Background 

NYSE Rule 431 generally prescribes 

minimum maintenance margin 

requirements for customer accounts 

held at members and member 

organizations. In April 1996, the 

Exchange established the Committee to 

assess the adequacy of NYSE Rule 431 

on an ongoing basis, review margin 

requirements, and make 

recommendations for change. A number 

of proposed amendments resulting from 

the Committee’s recommendations have 

been approved by the Exchange’s Board 

of Directors since the Committee was 

established. Similarly, the proposed 

amendments discussed below have been 

recommended by the Committee and 

have been adopted by the Exchange in 

this proposal, as amended.11 The 

Exchange represents that the proposed 

portfolio margin and cross-margin rules 

have been developed in conjunction 

with the CBOE, The Options Clearing 

Corporation, the American Stock 

Exchange LLC, the Board of Trade of the 

City of Chicago, Inc., the Chicago 

Mercantile Exchange Inc., and the 

National Association of Securities 

Dealers, Inc.

The Exchange filed Amendment No. 2 

for the purpose of eliminating 

inconsistencies between the proposed 

NYSE and CBOE rules,12 and to 

incorporate certain substantive 

amendments requested by Commission 

staff.

b. Portfolio Margin 

The Exchange proposes to amend 

NYSE Rule 431 to expand the scope of 

its margin rule by providing a portfolio 

margin methodology for listed, broadbased market index options, index 

warrants and related exchange-traded 

funds. The Exchange believes that the 

proposed amendments would allow 

clearing members and member 

organizations to extend a portfolio 

margin methodology to eligible 

customers as an alternative to the 

current strategy-based margin 

requirements. The Exchange further 

believes that the proposed rule also 

would allow broad-based market index 

futures and options on such futures to 

be included in a portfolio margin 

account, thus providing a cross-margin 

capability. The Exchange proposes to 

introduce the amendments as a two-year 

pilot program that would be available 

on a voluntary basis to member 

organizations. 

Portfolio margining is a margin 

methodology that sets margin 

requirements for an account based on 

the greatest projected net loss of all 

positions in a product class or group as 

determined by the Commissionapproved options pricing model using 

multiple pricing scenarios. These 

scenarios are designed to measure the 

theoretical loss of the positions given 

changes in both the underlying price 

and implied volatility inputs to the 

model. Accordingly, the margin 

required is based on the greatest loss 

that would be incurred in a portfolio if 

the value of its components move up or 

down by a predetermined amount. 

The Exchange represents that the 

purpose and benefit of portfolio 

margining is to efficiently set levels of 

margin that more precisely reflect actual 

net risk of all positions in the account. 

A customer benefits from portfolio 

margining in that margin requirements 

calculated on net position risk are 

generally lower than strategy-based 

margin methodologies currently in 

place. In permitting margin computation 

based on actual net risk, members and 

member organizations will no longer be 

required to compute a margin 

requirement for each individual 

position or strategy in a customer’s 

account. 

However, as a pre-condition to 

permitting portfolio margining, the 

member or member organization would 

be required to establish procedures and 

guidelines to monitor credit risk to the 

member or member organization’s 

capital, including intra-day credit risk, 

and stress testing of portfolio margin 

accounts. Further, members and 

member organizations would have to 

establish procedures for regular review 

and testing of these required risk 

analysis procedures. 

c. Cross-Margining Capability 

Amendment No. 2 requires a clearing 

member or member organization to 

establish a separate portfolio margin 

account (securities margin account) 

exclusively for cross-margining.13 In 

this regard, related index futures and 

options on such futures would be 

carried in a separate cross-margin 

account, thus affording a cross-margin 

capability. In a portfolio margin account 

that is used exclusively for crossmargining, separate portfolios may be 

established containing index options, 

index warrants and exchange-traded 

funds structured to replicate the 

composition of the index underlying a 

particular portfolio, as well as related 

index futures and options on such 

futures.

To determine theoretical gains and 

losses, and resulting margin 

requirements, the same portfolio margin 

computation procedure will be applied 

to a portfolio margin account that is 

identified as a cross-margin account.

The liquidation/transfer requirement 

set forth in Amendment No. 2 

necessitates that cross-margin positions 

be carried in a separate account, 

whereas the Original Proposal and 

Amendment No. 1 permitted crossmargin positions to either be combined 

in the same account with other portfolio 

margin positions, or carried in a 

separate cross-margin account. 

Amendment No. 2 also proposes 

changes to numerous sections of Rule 

431 to remove references to the ability 

to co-mingle cross-margin positions 

along with all other portfolio margin 

positions. 

Another change in Amendment No. 2 

is the incorporation of a provision, as 

requested by Commission staff, that 

requires liquidation or transfer of crossmargin accounts in the event that a 

carrying broker-dealer becomes 

insolvent. This requirement would 

provide for Securities Investor 

Protection Corporation (‘‘SIPC’’) 

coverage of futures and options on 

futures in a securities account because 

such instruments would be viewed as 

converted to cash in the event of a firm 

insolvency. 

d. Disclosure Document and Customer 

Attestation 

Exchange Rule 726 prescribes 

requirements for the delivery of options 

disclosure documents concerning the 

opening of customer accounts. As 

proposed by the Exchange, members 

and member organizations would be 

required to provide every portfolio 

margin customer with a written risk 

disclosure statement at or prior to the 

initial opening of a portfolio margin 

account. The disclosure statement is 

divided into two sections, one dealing 

with portfolio margining, and the other 

with cross-margining. 

The statement would disclose the risk 

and operation of portfolio margin 

accounts, including cross-margining, 

and the differences between portfolio 

margin and strategy-based margin 

requirements. The disclosure statement 

Federal Register / Vol. 69, No. 247 / Monday, December 27, 2004 / Notices 77295

14 15 U.S.C. 78f(b).

15 15 U.S.C. 78f(b)(5). 16 15 U.S.C. 78f(b)(5).

17 17 CFR 200.30–3(a)(12).

1 15 U.S.C. 78s(b)(1).

2 17 CFR 240.19–4.

would also address who is eligible to 

open a portfolio margin account, the 

instruments that are allowed, and when 

deposits to meet margin and minimum 

equity are required. 

Included within the portfolio margin 

section of the disclosure statement 

would be a list of certain of the risks 

unique to portfolio margin accounts, 

such as: Increased leverage; shorter time 

for meeting margin; involuntary 

liquidation if margin not received; 

inability to calculate future margin 

requirements because of the data and 

calculations required; and that long 

positions are subject to a lien. The risks 

and operation of a cross-margin feature 

are delineated in the cross-margin 

section of the disclosure statement, and 

a list of certain of the risks associated 

with cross-margining will be included 

as well. 

In addition, at or prior to the time a 

portfolio margin account is initially 

opened, members and member 

organizations would be required to 

obtain a signed acknowledgement 

regarding certain implications of 

portfolio margining (e.g., treatment 

under SEC Rules 8c–1, 15c2–1 and 

15c3–3 under the Act) from the 

customer. Further, prior to providing 

cross-margining, members and member 

organizations would be required to 

obtain a second signed customer 

acknowledgement relative to the 

segregation treatment for futures 

contracts and SIPC coverage. 

Amendment No. 2 reflects changes to 

the risk disclosure statement and 

acknowledgement forms to reflect 

proposed amendments to the rule 

language concerning separation of crossmargining from all other portfolio 

margining. The acknowledgement form 

in Amendment No. 2 will require that 

by signing the cross-margin agreement, 

the signer acknowledges that all 

positions carried in a cross-margin 

account will be immediately liquidated 

or transferred to another broker-dealer 

eligible to carry cross-margin accounts 

in the event that the carrying brokerdealer becomes insolvent.

2. Statutory Basis 

The Exchange believes the proposed 

rule change, as amended, is consistent 

with Section 6(b) of the Act 14 in 

general, and furthers the objectives of 

Section 6(b)(5) of the Act 15 in 

particular, because it 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 a national market system, and, in 

general, to protect investors and the 

public interest. In addition, the 

Exchange believes that Section 6(b)(5) of 

the Act 16 requires that the rules of an 

exchange foster cooperation and 

coordination with persons engaged in 

regulating transactions in securities.

B. Self-Regulatory Organization’s 

Statement on Burden on Competition 

The Exchange does not believe that 

the proposed rule change will impose 

any burden on competition that is not 

necessary or appropriate in the 

furtherance of the purposes of the Act. 

C. Self-Regulatory Organization’s 

Statement on Comments on the 

Proposed Rule Change Received From 

Members, Participants, or Others 

No written comments were either 

solicited or received. 

III. Date of Effectiveness of the 

Proposed Rule Change and Timing for 

Commission Action 

Within 35 days of the date of 

publication of this notice in the Federal 

Register or within such longer period (i) 

as the Commission may designate up to 

90 days of such date if it finds such 

longer period to be appropriate and 

publishes its reasons for so finding or 

(ii) as to which the Exchange consents, 

the Commission will: 

(A) By order approve such proposed 

rule change, as amended, or 

(B) Institute proceedings to determine 

whether the proposed rule change 

should be disapproved. 

IV. Solicitation of Comments 

Interested persons are invited to 

submit written data, views, and 

arguments concerning the foregoing, 

including whether the proposed rule 

change 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 rulecomments@sec.gov. Please include File 

Number SR–NYSE–2002–19 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–NYSE–2002–19. 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 NYSE. 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–NYSE–

2002–19 and should be submitted on or 

before January 18, 2005.

For the Commission, by the Division of 

Market Regulation, pursuant to delegated 

authority.17

Margaret H. McFarland, 

Deputy Secretary.

[FR Doc. 04–28183 Filed 12–23–04; 8:45 am] 

BILLING CODE 8010–01–P

SECURITIES AND EXCHANGE 

COMMISSION 

[Release No.34–50877; File No. SR–Phlx–

2004–90] 

Self-Regulatory Organizations; Notice 

of Filing of Proposed Rule Change by 

the Philadelphia Stock Exchange, Inc. 

Relating to Remote Streaming Quote 

Traders 

December 17, 2004. 

Pursuant to Section 19(b)(1) of the 

Securities Exchange Act of 1934 

(‘‘Act’’) 1, and Rule 19b–4 2 thereunder, 

notice is hereby given that on December 

9, 2004, the Philadelphia Stock 

Exchange, Inc. (‘‘Phlx’’ or ‘‘Exchange’’) 

filed with the Securities and Exchange