[Federal Register Volume 62, Number 204 (Wednesday, October 22, 1997)]
[Notices]
[Pages 54889-54891]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-27903]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-39211; File No. SR-Amex-97-27]


Self-Regulatory Organizations; Notice of Filing and Immediate 
Effectiveness of Proposed Rule Change and Amendment No. 1 Thereto by 
the American Stock Exchange, Inc., to Establish Hedge Exemptions From 
Narrow-Based and Broad-Based Index Options Position and Exercise Limits

October 7, 1997.
    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 August 4, 1997, the American Stock Exchange, Inc. (``Amex'' or 
``Exchange'') filed with the Securities and Exchange Commission 
(``Commission'') the proposed rule change as described in Items I, II, 
and III below, which Items have been prepared by the self-regulatory 
organization. On August 18, 1997, the Amex submitted to the Commission 
an amendment to the proposal.\3\ The Amex also submitted a letter 
regarding certain aspects of its proposal.\4\ This order approves the 
Amex's proposal, as amended, and solicits comments from interested 
persons.
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    \1\ 15 U.S.C. Sec. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See letter from Claire McGrath, Vice President and Special 
Counsel, Derivative Securities, Amex, to Ivette Lopez, Assistant 
Director, Office of Market Supervision, Division of Market 
Regulation, Commission, dated August 18, 1997 (``Amendment No. 1'').
    \4\ See letter from Claire McGrath, Vice President and Special 
Counsel, Derivative Securities, Amex, to Sharon Lawson, Senior 
Special Counsel, Office of Market Supervision, Division of Market 
Regulation, Commission, dated September 18, 1997.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes to amend (1) Amex Rule 904C to establish 
hedge exemptions from narrow-based and broad-based index option 
position limits, and (2) Amex Rule 905C to establish corresponding 
exemptions from index option exercise limits.

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

    In its filing with the Commission, the Amex 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 Amex has prepared summaries, set forth in Sections 
A, B, and C below, of the most significant aspects of such statements.

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

1. Purpose
    Currently, position and exercise limits for index options are the 
same for all investors, regardless of whether the investor holds a 
portfolio of stocks which could hedge an index options position. The 
Exchange now proposes to adopt a hedge exemption from narrow-based and 
broad-based index options position and exercise limits. The Exchange 
believes that such an exemption is necessary to meet the needs of 
investors who use index options for investment and hedging purposes.
    According to the Exchange, on various occasions during the last few 
months, member firms have, on behalf of managers of large portfolios, 
such as pension and insurance funds, indicated that the current 
position limits for index options have restricted the use of such 
options in hedging stock portfolios. Many institutional investors and 
portfolio managers invest in portfolios of stocks which could be 
readily hedged with Exchange traded index options. Current position and 
exercise limits, however, hamper their ability to fully utilize index 
options to hedge their positions. According to the Exchange, the 
proposed hedge exemptions from index option position and exercise 
limits should increase the depth and liquidity of index options markets 
and allow more effective hedging by investors without increasing the 
potential for market disruption. The exemptions are similar to 
exemptions previously approved by the Commission for the Philadelphia 
Stock Exchange, Inc. (``Phlx'').\5\
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    \5\ See Securities Exchange Act Release Nos. 36858 (February 16, 
1996), 61 FR 7295 (February 27, 1996) (approval order relating to 
industry index option hedge exemption) (File No. SR-Phlx-95-45); 
37320 (June 18, 1996) 61 FR 32878 (June 25, 1996) (approval order 
relating to market index option hedge exemption) (File No. SR-Phlx-
96-07).

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[[Page 54890]]

    Index option positions hedged in accordance with the proposal would 
be entitled to exceed existing position and exercise limits by up to 
two times above and in addition to the current limits.\6\
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    \6\ The Commission notes that the hedge exemptions are in 
addition to any other exemptions available under the Exchange's 
rules.
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    In order to qualify for an exemption, each option position must be 
hedged by a position in at least: (1) with respect to narrow-based 
index options, 75% of the number of component stocks or securities 
readily convertible into component stocks underlying the index; or (2) 
with respect to broad-based index options, 20 stocks or securities 
readily convertible into stocks in four industry groups represented in 
the index, of which no one component stock accounts for more than 15% 
of the value of the portfolio hedging the index option position.
    In addition, the value of the option position may not exceed the 
value of the underlying portfolio employed as the hedge. The value of 
the underlying portfolio is determined as follows: (1) the total market 
value of the net stock position; less (2) the value of (a) any 
offsetting calls and puts in the respective index option; and (b) any 
offsetting positions in related stock index futures or options; and (c) 
any economically equivalent positions.
    The stock portfolio employed as the hedge must be established prior 
to the index option positions and the options positions must be carried 
in an account with an Exchange member. Also, securities used to secure 
an index hedge exemption may not also be used to hedge other option 
positions.
    Exercise limits under the proposal will continue to correspond to 
position limits, so that investors may exercise up to the number of 
contracts set forth as the position limit, as well as those contracts 
exempted by this proposal, during five consecutive business days.
    The Amex proposes to exempt positions in index options in a manner 
which balances the hedging needs of index options investors with the 
Exchange's obligation to maintain a fair and orderly market. The Amex 
believes that a hedge exemption of up to two times above the current 
limit or index options would considerably enhance the attractiveness of 
these products for institutional investors, who would, in turn, trade 
more of the products in a hedged manner and thereby provide stabilizing 
liquidity in both the index options and the underlying securities.
    The Exchange also believes that the proposed index option hedge 
exemptions should not increase the potential for disruption or 
manipulation in the markets for the stocks underlying each index. The 
proposal incorporates several safeguards the Amex will employ to 
monitor the use of the exemptions. Specifically, prior Exchange 
approval on the appropriate form designated by the Exchange is 
required, which should ensure that the hedges are appropriate for the 
position being taken and are in compliance with Amex rules, including 
those governing the composition and dollar value of the underlying 
stock portfolio. The Exchange may grant an exemption for less than the 
maximum of two times above the existing limit. The hedge exemption form 
must be kept current, with information updated as warranted. Any 
information concerning the dollar value and composition of the stock 
portfolio,\7\ or its equivalent, the current hedged and aggregate 
options positions, and any stock index futures positions must be 
promptly provided to the Exchange.
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    \7\ The Exchange notes that as the dollar value of the hedging 
portfolio fluctuates, the number of exempt contracts may need to be 
adjusted.
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    In addition, the exemption requires that both the options and stock 
positions be initiated and liquidated in an orderly manner. An account 
in which the exempt option positions are held must liquidate any 
options prior to or contemporaneously with a decrease in the hedged 
value of the underlying portfolio to the extent the dollar value of 
such options would otherwise be excessive under the rule. Also, 
initiating or liquidating positions should not be conducted in a manner 
calculated to cause unreasonable price fluctuations or unwarranted 
price changes or with a view toward taking advantage of any 
differential price between a group of securities and an overlying stock 
position.
    The Amex's surveillance procedures are designed to detect as well 
as to deter manipulation and market disruptions. In particular, the 
Exchange will monitor trading activity in Amex traded index options and 
the stocks underlying those indexes to detect potential frontrunning 
and manipulation, as well as review such trading to ensure that the 
closing of positions subject to the exemptions are conducted in a fair 
and orderly manner. This means that a reduction of the option positions 
must occur at or before the corresponding reduction in the stock 
portfolio positions, thereby helping to ensure that the stock 
transactions are not used to impact the market so as to benefit the 
option positions. Furthermore, the Exchange must be notified in writing 
for approval prior to liquidating or initiating any such position as 
well as of any material change in the portfolio or futures positions 
which materially effects the unhedged value of the qualified 
portfolio.\8\ On a daily basis, the Exchange will also monitor each 
option contract to ensure that it is hedged by the equivalent dollar 
amount of component securities.
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    \8\ See Amendment No. 1, supra note 3.
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    If any member or member organization that maintains an index option 
position in such member's or member organization's own account or in a 
customer account has reason to believe that such position is in excess 
of the applicable limit, then it must promptly take action necessary to 
bring the position into compliance pursuant to Amex Rule 904C, 
Commentary .01(f).\9\
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    \9\ The Commission notes that under Exchange Rule 904(a), member 
organizations are prohibited from effecting opening transactions in 
option contracts on behalf of a customer where the transaction would 
cause the customer account to be in violation of the position limits 
set forth under Rule 904. Rule 904C incorporates Rule 904 by 
reference; therefore, the Commission believes that, under Exchange 
rules, failure to reduce a limit in a customer account in accordance 
with Amex Rule 904C, Commentary .01(f) would be considered a 
violation by the member firm carrying the customer account. See Amex 
Rules 904 and 904C.
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    Lastly, violation of any of the provisions of the index options 
hedge exemption, absent reasonable justification or excuse, will result 
in withdrawal of the hedge exemption and may form the basis for 
subsequent denial of an application for an index hedge exemption.
2. Statutory Basis
    The Exchange believes that the proposed rule change is consistent 
with Section 6(b) of the Act in general and furthers the objectives of 
Section 6(b)(5) in particular in that it is designed to prevent 
fraudulent and manipulative acts and practices, to promote just and 
equitable principles of trade, and is not designed to permit unfair 
discrimination between customers, issuers, brokers, and dealers.

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

    The Exchange does not believe the proposed rule change will impose 
any inappropriate burden on competition.

[[Page 54891]]

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

    The Exchange has neither solicited nor received written comments 
with respect to the proposed rule change.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Because the foregoing proposed rule change: (1) does not 
significantly affect the protection of investors or the public 
interest; (2) does not impose any significant burden on competition; 
(3) was provided to the Commission for review at least five business 
days prior to the filing date; and (4) does not become operative for 30 
days from August 18, 1997, \10\ the proposed rule change has become 
effective pursuant to Section 19(b)(3)(A) of the Act and Rule 19b-
4(e)(6) thereunder. In particular, the Commission believes that the 
proposal qualifies as a ``noncontroversial filing'' in that the 
proposal does not significantly affect the protection of investors or 
the public interest and does not impose any significant burden on 
competition. At any time within 60 days of the filing of the proposed 
rule change, the Commission may summarily abrogate such rule change if 
it appears to the Commission that such action is necessary or 
appropriate for the public interest, for the protection of investors, 
or otherwise in furtherance of the purposes of the Act.
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    \10\ Because the Exchange filed Amendment No. 1 subsequent to 
the original filing date, the 30-day period commences on the filing 
date of Amendment No. 1.
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IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing. Persons making written submissions 
should file six copies thereof with the Secretary, Securities and 
Exchange Commission, 450 Fifth Street, NW, Washington, DC 20549. 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. Sec. 552, will be available for inspection and copying at 
the Commission's Public Reference Room. Copies of such filing will also 
be available for inspection and copying at the Commission's Public 
Reference Room. Copies of such filing will also be available for 
inspection and copying at the principal office of the Amex.
    All submissions should refer to File No. SR-Amex-97-27 and should 
be submitted by November 12, 1997.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\11\
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    \11\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-27903 Filed 10-21-97; 8:45 am]
BILLING CODE 8010-01-M