67674 Federal Register / Vol. 62, No. 248 / Monday, December 29, 1997 / Notices

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

2 17 CFR 240.19b–4.

3Securities Exchange Act Release No. 39188

(October 2, 1997), 62 FR 53373.

4The Commission notes that PCX, if it were to file

a proposed rule change to list and trade a new PDR,

would have to request the appropriate exemptions

for the new product under the Investment Company

Act of 1940 (‘‘Investment Company Act’’) (such as

those exemptions requested for SPDRs and MidCap

SPDRs), such an exemption from Investment

Company Act Section 22(d) and Rule 22c–1

thereunder to allow the PDR to trade in the

secondary market.

SECURITIES AND EXCHANGE

COMMISSION

[Release No. 34–39461; File No. SR–PCX–

97–35]

Self-Regulatory Organizations; Order

Granting Approval to Proposed Rule

Change by the Pacific Exchange Inc.,

Relating to Listing and Trading

Standards for Portfolio Depositary

Receipts

December 17, 1997.

I. Introduction

On August 25, 1997, the Pacific

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

submitted to the Securities and

Exchange Commission (‘‘Commission’’),

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

Securities Exchange Act of 1934

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

proposed rule change to add

Commentary to Rule 5.3(b) and add

Rule 8.300 of PCX’s rules relating to the

listing and trading of Portfolio

Depositary Receipts (‘‘PDRs’’).

The proposed rule change together

with the substance of the proposal, was

published for comment in the Federal

Register on October 14, 1997.3 No

comments were received on the

proposal. This order approves the

proposal.

II. Background and Description

The Exchange proposes to adopt new

Comnmentary to Rule 5.3(b) and new

Rule 8.300 to accommodate the trading

of PDRs, i.e., securities which are

interests in a unit investment trust

(‘‘Trust’’) holding a portfolio of

securities linked to an index. Each Trust

will provide investors with an

instrument that (i) closely tracks the

underlying portfolio of securities, (ii)

trades like a share of common stock, and

(iii) pays holders of the instrument

periodic dividends proportionate to

those paid with respect to the

underlying portfolio of securities, less

certain expenses (as described in the

Trust prospectus).

Under the proposal, the Exchange

may list and trade, or trade pursuant to

unlisted trading privileges (‘‘UTP’’),

PDRs based on one or more stock

indexes or securities portfolios. PDRs

based on each particular stock index or

portfolio shall be designated as a

separate series and identified by a

unique symbol. The stocks that are

included in an index or portfolio on

which PDRs are based shall be selected

by the Exchange, or by such other

person as shall have a proprietary

interest in and authorized use of such

index or portfolio, and may be revised

as deemed necessary or appropriate to

maintain the quality and character of

the index or portfolio. As discussed in

more detail below, PCX intends to trade

two existing PDRs currently traded on

the American Stock Exchange

(‘‘Amex’’)—Standard & Poor’s

Depositary Receipts (‘‘SPDRs’’) and

Standard & Poor’s MidCap 400

Depositary Receipts (‘‘MidCap

SPDRs’’)—pursuant to UTP upon

approval of these listing standards. PCX

is not asking for permission to list

SPDRs or MidCap SPDRs at this time,

but rather will trade SPDRs and MidCap

SPDRs pursuant to UTP once the

generic listing standards set forth herein

are approved. Pursuant to Rule 12f–5

under the Act, in order to trade a

particular class or type of security

pursuant to unlisted trading privileges,

PCX must have rules providing for

transactions in such class or type of

security. The Amex has enacted listing

standards for PDRs, and PCX’s proposed

rule change is designed to create similar

standards for PDR listing and/or trading

on PCX.

If at a later time PCX and the issuer

of the product desire to list SPDRs and

MidCap SPDRs or any other PDRs on

the Exchange, the Exchange will request

Commission approval for that listing in

a separate proposed rule the change

filed pursuant to Section 19(b) of the

Act.4 Additionally, in the event a new

PDR is listed on another exchange using

listing standards that are different than

current PCX listing standards or the

PCX listing standards proposed in this

filing, the PCX will file a proposed rule

change pursuant to Section 19(b) of the

Act to adopt the listing standard before

it trades that PDR pursuant to unlisted

trading privileges.

Criteria for Initial and Continued Listing

In connection with an initial listing,

the Exchange proposes that, for each

Trust of PDRs, the Exchange will

establish a minimum number of PDRs

required to be outstanding at the time of

commencement of Exchange trading,

and such minimum number will be filed

with the Commission in connection

with any required submission under

Rule 19b–4 for each Trust. If the

Exchange trades a particular PDR

pursuant to UTP, the Exchange will

follow the listing exchange’s

determination of the appropriate

minimum number.

Because the Trust operates on an

open-end type basis, and because the

number of PDR holders is subject to

substantial fluctuations depending on

market conditions, the Exchange

believes it would be inappropriate and

burdensome on PDR holders to consider

suspending trading in or delisting a

series of PDRs, with the consequent

termination of the Trust, unless the

number of holders remains severely

depressed during an extended time

period. Therefore, twelve months after

the formation of a Trust and

commencement of Exchange trading, the

Exchange will consider suspension of

trading in, or removal from listing of, a

Trust when, in its opinion, further

dealing in such securities appears

unwarranted under the following

circumstances:

(a) If the Trust on which the PDRs are

based has more than 60 days remaining

until termination and there have been

fewer than 50 record and/or beneficial

holders of the PDRs for 30 or more

consecutive trading days; or

(b) If the index on which the Trust is

based is no longer calculated; or

(c) If such other event shall occur or

condition exists which, in the opinion

of the Exchange, makes further dealings

on the Exchange inadvisable.

A Trust shall terminate upon removal

from Exchange listing and its PDRs will

be redeemed in accordance with

provisions of the Trust prospectus. A

Trust may also terminate under such

other conditions as may be set forth in

the Trust prospectus. For example, the

sponsor of the Trust (‘‘Sponsor’’),

following notice to PDR holders, shall

have discretion to direct that the Trust

be terminated if the value of securities

in such Trust falls below a specified

amount.

Trading of PDRs

Dealings in PDRs on the Exchange

will be conducted pursuant to the

Exchange’s general agency-auction

trading rules. The Exchange’s general

dealing and settlement rules will apply,

including its rules on clearance and

settlement of securities transactions and

its equity margin rules. Other generally

applicable Exchange equity rules and

procedures will also apply, including,

among others, rules governing the
Federal Register / Vol. 62, No. 248 / Monday, December 29, 1997 / Notices 67675

5PCX Rule 9.2(a) will also apply to transactions

in PDRs, including SPDRs and MidCap SPDRs. That

rule provides, in part, that every member and

member firm shall use due diligence to learn the

essential facts relative to every customer, every

order, every account accepted or carried by such

member or member firm.

6See Securities Exchange Act Release No. 38221

(January 31, 1997), 62 FR 5871 (February 7, 1997)

and not 7 therein.

7PCX plans to notify its members in an

information circular that it is their responsibility to

inform customers of the nature and terms of SPDRs

and MidCap SPDRs prior to recommending their

purchase. The circular also states that members

must deliver a SPDR or MidCap SPDR product

description to all purchasers of the products and

that they must provide the prospectus upon request.

8See Securities Exchange Act Release No. 31591

(December 11, 1992), 57 FR 60253 (December 18,

1992) (‘‘Amex Approval Order’’).

9The S&P MidCap 400 Index is a capitalizationweighted index of 400 actively traded securities

that includes issues selected from a population of

1,700 securities, each with a year-end market-value

capitalization of between $200 million and $5

billion. The issues included in the Index cover a

broad range of major industry groups, including

industrials, transportation, utilities, and financials.

10See Securities Exchange Act Release No. 35534

(March 24, 1995), 60 FR 16686 (March 31, 1995)

(‘‘Amex MidCap Approval Order’’).

11The Commission recently approved rule

change proposals covering the trading and listing of

PDRs on the Chicago Stock Exchange (‘‘CHX’’) and

the Cincinnati Stock Exchange (‘‘CSE’’), including

SPDRs and MidCap SPDRs. See Securities Exchange

Act Release Nos. 39076 (September 15, 1997), 62 FR

49270 (September 19, 1997) (‘‘CHX approval order);

39268 (October 22, 1997), 62 FR 56211 (October 29,

1997) (‘‘CSE approval order’’).

12To be eligible to place orders to create MidCap

SPDRs as described below, an entity or person

Continued

priority, parity and precedence of orders

and the responsibilities of specialists.5

With respect to trading halts, the

trading of PDRs will be halted, along

with the trading of all other listed or

traded stocks, in the event the ‘‘circuit

breaker’’ thresholds are reached.6 In

addition, for PDRs tied to an index, the

triggering of futures price limits for the

Standard & Poor’s 500 Composite Price

Index (‘‘S&P 500 Index’’), Standard &

Poor’s 100 Composite Price Stock Index

(‘‘S&P 100 Index’’), or Major Market

Index (‘‘MMI’’) futures contracts will

not in itself, result in a halt in PDR

trading or a delayed opening. However,

the Exchange could consider such an

event, along with other factors, such as

a halt in trading in S&P 100 Index

Options (‘‘OEX’’), S&P 500 Index

Options (‘‘SPX’’), or MMI Options

(‘‘XMI’’), in deciding whether to halt

trading in PDRs.

The Exchange will issue a circular to

members informing them of Exchange

policies regarding trading halts in such

securities. The circular will make clear

that, in addition to other factors that

may be relevant, the Exchange may

consider factors such as those set forth

in Rule 7.11 the Exchange’s rule

governing trading halts for index

options in exercising its discretion to

halt or suspend trading. For a PDR

based on an index, these factors would

include whether trading has been halted

or suspended in the primary market(s)

for any combination of underlying

stocks accounting for 20% or more of

the applicable current index group

value, or whether other unusual

conditions or circumstance detrimental

to the maintenance of a fair and orderly

market are present.

Disclosure

Proposed Rule 8.300(c) requires that

members and member organizations

provide to all purchasers of each series

of PDRs a written description of the

terms and characteristics of such

securities, in a form approved by the

Exchange, not later than the time a

confirmation of the first transaction in

such series of PDRs is delivered to such

purchaser. In this regard, a member or

member organization carrying an

omnibus account for a non-member

broker-dealer will be required to inform

such non-member that execution of an

order to purchase PDRs for such

omnibus account will be deemed to

constitute an agreement by the nonmember to make such written

description available to its customers on

the same terms as are directly applicable

to member and member organizations.

The written description must be

included with any sales material on that

series of PDRs that a member provides

to customers or the public. Moreover,

other written materials provided by a

member or member organization to

customers or the public making specific

reference to a series of PDRs as an

investment vehicle must include a

statement in substantially the following

form: ‘‘A circular describing the terms

and characteristic of [the series of PDRs]

is available from your broker. It is

recommended that you obtain and

review such circular before purchasing

[the series of PDRs]. In addition, upon

request you may obtain from your

broker a prospectus for [the series of

PDRs].’’ Additionally, as noted above,

the Exchange requires that members and

member organizations provide

customers with a copy of the prospectus

for a series of PDRs upon request.

With respect to disclosure, because

SPDRs and MidCap SPDRs will be

traded pursuant to UTP and will not be

listed on PCX at this time, PCX does not

intend to create its own product

description to satisfy the requirements

of proposed Rule 8.300(c) which

requires members to provide to

purchasers, a written description of the

terms and characteristics of SPDRs and

MidCap SPDRs in a form approved by

the Exchange. Instead, the PCX will

deem a member or member organization

to be in compliance with this

requirement if the member delivers

either (i) the current product description

produced by the Amex from time to

time, or (ii) the current prospectus for

the SPDR or MidCap SPDR, as the case

may be.7 It will be the member’s

responsibility to obtain these materials

directly from Amex for forwarding to

purchasers in the time frames

prescribed by PCX and Commission

rules. The PCX will notify members and

member organizations of this

requirement in a notice to members.

SPDRs and MidCap SPDRs Generally

As discussed above, rules to

accommodate the trading of PDRs

generally on Amex, along with Amex’s

trading of SPDRs and MidCap SPDRs,

were previously approved by the

Commission.8 The information provided

below is intended to provide a

description of how SPDRs and MidCap

SPDRs are created and traded and is

almost identical to that discussed in the

original Amex Approval Order. The

Sponsor of each series of PDRs traded

on the Amex is PDR Services

Corporation, a wholly-owned subsidiary

of the Amex. The PDRs are issued by a

Trust in a specified minimum aggregate

quantity (‘‘Creation Unit’’) in return for

a deposit consisting of specified

numbers of shares of stock plus a cash

amount.

The first Trust to be formed in

connection with the issuance of PDRs

was based on the S&P 500 Index, known

as SPDRs. SPDRs have been trading on

the Amex since January 29, 1993. The

second Trust to be formed in connection

with the issuance of PDRs was based on

the S&P MidCap 400 index,9 known as

MidCap SPDRs.10 The Sponsor of the

two Trusts has entered into trust

agreements with a trustee in accordance

with Section 26 of the Investment

Company Act. PDR Distributors, Inc.

(‘‘Distributor’’) acts as underwriter of

both SPDRs and MidCap SPDRs on an

agency basis. The Distributor is a

registered broker-dealer, a member of

the National Association of Securities

Dealers, Inc., and a wholly-owned

subsidiary of Signature Financial Group,

Inc.11

SPDR and MidCap SPDR Creation

All orders to create SPDRs or MidCap

SPDRs in creation unit size must be

placed with the Distributor, and it is the

responsibility of the Distributor to

transmit such orders to the Trustee.12
67676 Federal Register / Vol. 62, No. 248 / Monday, December 29, 1997 / Notices

either must be a participant in the Continuous Net

Settlement. (‘‘CNS’’) system of the National

Securities Clearing Corporation (‘‘NSCC’’) or a

Depository Trust Company (‘‘DTC’’) participant.

Upon acceptance of an order to create MidCap

SPDRs, the Distributor will instruct the Trustee to

initiate the book-entry movement of the appropriate

number of MidCap SPDRs to the account of the

entity placing the order. MidCap SPDRs will be

maintained in book-entry form at DTC.

13A Portfolio Deposit also will include a cash

payment equal to a pro rata portion of the dividends

accrued on the Trust’s portfolio securities since the

last dividend payment by the Trust, plus or minus

an amount designed to compensate for any

difference between the net asset value of the

Portfolio Deposit and the underlying Index caused

by, among other things, the fact that a Portfolio

Deposit cannot contain fractional shares.

14The Trust will issue SPDRs in exchange for

‘‘Portfolio Deposits’’ of all of the S&P 500 Index

securities, weighted according to their

representation in the Index. The Trust is structured

so that the net asset value of an individual SPDR

should equal one-tenth of the value of the S&P 500

Index.

15The Trustee of the SPDR Trust will have the

right to vote any of the voting stocks held by the

Trust, and will vote such stocks of each issuer in

the same proportion as all other voting shares of

that issuer voted. Therefore, SPDR holders will not

be able to directly vote the shares of the issuers

underlying the SPDRs.

16An investor redeeming a Creation Unit will

receive Index securities and cash identical to the

Portfolio Deposit required of an investor wishing to

purchase a Creation Unit on that particular day.

Since the Trust will redeem in kind rather than for

cash, the Trustee will not be forced to maintain

cash reserves for redemptions. This should allow

the Trust’s resources to be committed as fully as

possible to tracking the underlying index, enabling

the Trust to track the Index more closely than other

basket products that must allocate a portion of their

assets for cash redemptions.

17The creation of PDRs in connection with the

DTC DRS represents the only circumstances under

which PDRs can be created in other than Creation

Unit size aggregations.

18 15 U.S.C. 78f(b)(5).

Payment with respect to creation orders

placed through the Distributor will be

made by (1) the ‘‘in-kind’’ deposit with

the Trustee of a specified portfolio of

securities that is formulated to mirror, to

the extent practicable, the component

securities of the underlying index or

portfolio, and (2) a cash payment

sufficient to enable the Trustee to make

a distribution to the holders of

beneficial interests in the Trust on the

next dividend payment date as if all the

securities had been held for the entire

accumulation period for the distribution

(‘‘Dividend Equivalent Payment’’),

subject to certain specified adjustments.

The securities and cash accepted by the

Trustee are referred to, in the aggregate,

as a ‘‘Portfolio Deposit.’’ 13 Upon receipt

of a Portfolio Deposit in payment for a

creation order placed through the

Distributor as described above, the

Trustee will issue a specified number of

SPDRs or MidCap SPDRs, which

aggregate numbers are referred to as a

‘‘Creation Unit.’’ Currently, a Creation

Unit will be made up of 25,000 MidCap

SPDRs or 50,000 SPDRs.14 Individual

SPDRs or MidCap SPDRs can then be

traded in the secondary market like

other equity securities. Portfolio

Deposits are expected to be made

primarily by institutional investors,

arbitragers, and the Exchange specialist.

The price of SPDRs and MidCap SPDRs

will be based on a current bid/offer

market. The minimum fraction for

trading in SPDRs and MidCap SPDRs on

Amex is 1⁄64ths. The PCX has proposed

this same minimum variation for the

trading of SPDRs and MidCap SPDRs on

PCX.

The Trustee or Sponsor will make

available (1) on a daily basis, a list of the

names and required number of shares

for each of the securities in the current

Portfolio Deposit; (2) on a minute-byminute basis throughout the day, a

number representing the value (on a per

SPDR or MidCap SPDR basis) of the

securities portion of a Portfolio Deposit

in effect on such day; and (3) on a daily

basis, the accumulated dividends, less

expenses, per outstanding SPDR or

MidCap SPDR.15

Redemption of SPDRs and MidCap

SPDRs

SPDRs and MidCap SPDRs in

Creation Unit size aggregations will be

redeemable in kind by tendering them

to the Trustee. While holders may sell

SPDRs and MidCap SPDRs in the

secondary market at any time, they must

accumulate at least 50,000 (or multiples

thereof) to redeem SPDRs or 25,000 (or

multiples thereof) to redeem MidCap

SPDRs through the Trust. SPDRs and

MidCap SPDRs will remain outstanding

until redeemed or until the termination

of the Trust. Creation Units will be

redeemable on any business day in

exchange for a portfolio of the securities

held by the Trust identical in weighting

and composition to the securities

portion of a Portfolio Deposit in effect

on the date a request is made for

redemption, together with a ‘‘Cash

Component’’ (as defined in the Trust

prospectus), including accumulated

dividends, less expenses, through the

date of redemption. The number of

shares of each of the securities

transferred to the redeeming holder will

be the number of shares of each of the

component stocks in a Portfolio Deposit

on the day a redemption notice is

received by the Trustee, multiplied by

the number of Creation Units being

redeemed. Nominal service fees may be

charged in connection with the creation

and redemption of Creation Units. The

Trustee will cancel all tendered

Creation Units upon redemption.16

Distribution of SPDRs and MidCap

SPDRs

The SPDR Trust and the MidCap

SPDR Trust pay dividends quarterly.

The regular quarterly ex-dividend date

for SPDRs and MidCap SPDRs is the

third Friday in March, June, September,

and December, unless that day is a New

York Stock Exchange holiday, in which

case the ex-dividend date will be the

preceding Thursday. Holders of SPDRs

and MidCap SPDRs on the business day

preceding the ex-dividend date will be

entitled to receive an amount

representing dividends accumulated

through the quarterly dividend period

preceding such ex-dividend date net of

fees and expenses for such period. The

payment of dividends will be made on

the last Exchange business day in the

calendar month following the exdividend date (‘‘Dividend Payment

Date’’). On the Dividend Payment Date,

dividends payable for those securities

with ex-dividend dates falling within

the period from the ex-dividend date

most recently preceding the current exdividend date will be distributed. The

Trustee will compute on a daily basis

the dividends accumulated within each

quarterly dividend period. Dividend

payments will be made through DTC

and its participants to all such holders

with fund received from the Trustee.

The MidCap SPDR Trust intends to

make the DTC DRS available for use by

MidCap SPDR holders through DTC

participants brokers for reinvestment of

their cash proceeds. The DTC DRS is

also available to holders of SPDRs.

Because some brokers may choose not to

offer the DTC DRS, an interested

investor would have to consult his or

her broker to ascertain the availability of

dividend reinvestment through that

broker. The Trustee will use the cash

proceeds of MidCap SPDR holders

participating in the reinvestment to

obtain the Index securities necessary to

create the requisite number of SPDRs.17

Any cash remaining will be distributed

pro rata to participants in the dividend

reinvestment.

III. Discussion

The Commission finds that the

proposed rule changes are consistent

with the requirements of the Act and the

rules and regulations thereunder

applicable to a national securities

exchange, and, in particular, with the

requirements of Section 6(b)(5).18 The

Commission believes that providing for

the exchange-trading on PCX of PDRs,

in general, and SPDRs and MidCap

SPDRs, in particular, will offer investors

an efficient way of participating in the

securities markets. Specifically, the
Federal Register / Vol. 62, No. 248 / Monday, December 29, 1997 / Notices 67677

19The Commission notes, however, that unlike

open-end funds where investors have the right to

redeem their fund shares on a daily basis, investors

could only redeem PDRs in creation unit share

sizes. Nevertheless, PDRs would have the added

benefit of liquidity from the secondary market and

PDR holders, unlike holders of most other open-end

funds, would be able to dispose of their shares in

a secondary market transaction.

20 In approving this rule, the Commission notes

that it has considered the proposed rule’s impact on

efficiency, competition, and capital formation. 15

U.S.C. 78c(f).

21See supra notes 8 and 10.

22Program trading is defined as index arbitrage or

any trading strategy involving the related purchase

or sale of a ‘‘basket’’ or group of fifteen or more

stocks having a total market value of $1 million or

more.

23Because of potential arbitrage opportunities,

the Commission believes that PDRs will not trade

at a material discount or premium in relation to

their net asset value. The mere potential for

arbitrage should keep the market price of a PDR

comparable to its net asset value, and therefore,

arbitrage activity likely will be minimal. In

addition, the Commission believes the Trust will

tract the underlying index more closely than an

open-end index fund because the Trust will accept

only in-kind deposits, and, therefore, will not incur

brokerage expenses in assembling its portfolio. In

addition, the Trust will redeem in kind, thereby

enabling the Trust to invest virtually all of its assets

in securities comprising the underlying index.

24 Investment Company Act Rule 22c–1 generally

requires that a registered investment company

issuing a redeemable security, its principal

underwriter, and dealers in that security, may sell,

redeem, or repurchase the security only at a price

based on the net asset value next computed after

receipt of an investor’s request to purchase, redeem,

or resell. The net asset value of a mutual fund

generally is computed once daily Monday through

Friday as designated by the investment company’s

board of directors. The Commission granted SPDRs

and MidCap SPDRs an exemption from this

provision in order to allow them to trade at

negotiated prices. In the secondary market. The

Commission notes that PCX would need to apply

for a similar exemption in the instance that it

wishes to list and trade a new PDR because the

exemptions are specific to SPDRs and MidCap

SPDRs.

25 Id.

26See supra note 8.

27The Commission notes that, in the context of

a proposed change by the Chicago Stock Exchange

(‘‘CHX’’) to add rules for listing and trading of PDRs

in general, and to trade SPDRs and MidCap SPDRs

pursuant to UTP, Amex commented on CHX’s

proposed method regarding the delivery of the

SPDR and the MidCap SPDR product descriptions,

and reserved the right to charge CHX members for

supplying the product description should the task

become burdensome to Amex. Amex did not object

to the underlying policy of CHX members obtaining

the product description from Amex. See CHX

Approval Order, supra note 11.

Commission believes that the trading on

PCX of PDRs, in general, and SPDRs and

MidCap SPDRs pursuant to UTP, in

particular, will provide investors with

increased flexibility in satisfying their

investment needs by allowing them to

purchase and sell a low-cost security

replicating the performance of a broad

portfolio of stocks at negotiated prices

throughout the business day, and by

increasing the availability of SPDRs and

MidCap SPDRs as an investment tool.

The Commission also believes that PDRs

will benefit investors by allowing them

to trade securities based on unit

investment trusts in secondary market

transactions.19 Accordingly, as

discussed below, the proposed rule

change is consistent with the

requirements of Section 6(b)(5) of the

Act that Exchange rules facilitate

transactions in securities while

continuing to further investor protection

and the public interest.20

As the Commission noted in the

orders approving SPDRs and MidCap

SPDRs for listing and trading on

Amex,21 the Commission believes that

the trading on PCX of a security like

PDRs in general, and SPDRs and

MidCap SPDRs in particular, which

replicate the performance of a broad

portfolio of stocks, could benefit the

securities markets by, among other

things, helping to ameliorate the

volatility occasionally experienced in

these markets. The Commission believes

that the creation of one or more

products where actual portfolios of

stocks or instruments representing a

portfolio of stocks, such as PDRs, can

trade at a single location in an auction

market environment could alter the

dynamics of program trading, because

the availability of such single

transaction portfolio trading could, in

effect, restore the execution of program

trades to more traditional block trading

techniques.22

An individual SPDR has a value

approximately equal to one-tenth of the

value of the S&P 500 Index, and an

individual MidCap SPDR has a value of

approximately one-fifth of the value of

the S&P MidCap 400 Index, making

them more available and useful to

individual retail investors desiring to

hold a security replicating the

performance of a broad portfolio of

stocks. Accordingly, the Commission

believes that trading of SPDRs and MidCap SPDRs on PCX will provide retail

investors with a cost efficient means to

make investment decisions based on the

direction of the market as a whole and

may provide market participants several

advantages over existing methods of

effecting program trades involving

stocks.

The Commission also believes that

PDRs, in general, and SPDRs and

MidCap SPDRs, in particular, will

provide investors with several

advantages over standard open-end S&P

500 Index and S&P MidCap 400 Index

mutual fund shares. In particular,

investors will have the ability to trade

PDRs continuously throughout the

business day in secondary market

transactions at negotiated prices.23 In

contrast, pursuant to Investment

Company Act Rule 22c–1,24 holders and

prospective holders of open-end mutual

fund shares are limited to purchasing or

redeeming securities of the fund based

on the net asset value of the securities

held by the fund as designated by the

board of directors.25 Accordingly, PDRs

in general, and SPDRs and MidCap

SPDRs in particular, will allow

investors to (1) respond quickly to

changes in the market; (2) trade at a

known price; (3) engage in hedging

strategies not currently available to

retail investors; and (4) reduce

transaction costs for trading a portfolio

of securities.

Although PDRs in general, and SPDRs

and MidCap SPDRs in particular, are

not leveraged instruments, and,

therefore, do not possess any of the

attributes of stock index options, their

prices will still be derived and based

upon the securities held in their

respective Trusts. In essence, SPDRs are

equity securities that are priced off a

portfolio of stocks based on the S&P 500

Index and MidCap SPDRs are equity

securities that are price off a portfolio of

stocks based on the S&P MidCap 400

Index. Accordingly, the level of risk

involved in the purchase or sale of a

SPDR or MidCap SPDR (or a PDR in

general) is similar to the risk involved

in the purchase or sale of traditional

common stock, with the exception that

the pricing mechanism for SPDRs and

MidCap SPDRs (and PDRs in general) is

based on a basket of stocks.

Nonetheless, the Commission has

several specific concerns regarding the

trading of these securities. In particular,

PDRs raise disclosure, market impact,

and secondary market trading issues

that must be addressed adequately. As

discussed in more detail below, and in

the Amex Approval Order,26 the

Commission believes PCX adequately

addresses these concerns.

The Commission believes that the

PCX proposal contains several

provisions that will ensure that

investors are adequately apprised of the

terms, characteristics, and risks of

trading PDRs. As noted above, the

proposal contains four aspects

addressing disclosure concerns. First,

PCX members must provide their

customers trading PDRs with a written

explanation of any special

characteristics and risks attendant to

trading such PDR securities (such as

SPDRs or MidCap SPDRs), in a form

approved by PCX. As discussed above,

PCX’s filing states that SPDRs and

MidCap SPDRs product descriptions

should be obtained from Amex.27 The
67678 Federal Register / Vol. 62, No. 248 / Monday, December 29, 1997 / Notices

28The Commission notes that the exemptions

granted by the Commission under the Investment

Company Act that permit the secondary market

trading of SPDRs and MidCap SPDRs are

specifically conditioned upon the customer

disclosure requirements described above.

Accordingly, PCX rules adequately ensure its

members must deliver the current product

description to all investors in SPDRs and MidCap

SPDRs.

29The Commission notes that Amex would need

to file a proposed rule change under Section 19(b)

of the Act in the event it decides to charge a fee

for supplying the SPDR or MidCap SPDR product

descriptions. The Commission notes that reasonable

fees would have to be imposed on the member firms

rather than the customers entitled to receive the

prospectus or the product description.

30See supra note. 5.

31 In addition, for PDRs tied to an index, the

triggering of futures price limits for the S&P 500

Index, S&P 100 Index, or MMI futures contracts will

not, in itself, result in a halt in PDR trading or a

delayed opening. However, the Exchange could

consider such an event, along with other factors,

such as a halt in trading in OEX, SPX, or MMI

options, in deciding whether to halt trading in

PDRs.

32Even though PDR transactions may serve as

substitutes for transactions in the cash market, and

possibly make the order flow in individual stocks

smaller than would otherwise be the case, the

Commission acknowledges that during turbulent

market conditions the ability of large institutions to

redeem or create PDRs could conceivably have an

impact on price levels in the cash market. In

particular, if a PDR is redeemed, the resulting long

stock position could be sold into the market,

thereby depressing stock prices further. The

Commission notes, however, that the redemption or

creation of PDRs likely will not exacerbate a price

movement because PDRs will be subject to the

equity margin requirements of 50% and PDRs are

non-leveraged instruments. In addition, as noted

above, during turbulent market conditions, the

Commission believes PDRs and SPDRs and MidCap

SPDRs, in particular, will serve as a vehicle to

accommodate and ‘‘bundle’’ order flow that

otherwise would flow to the cash market, thereby

allowing such order flow to be handled more

efficiently and effectively. Accordingly, although

PDRs and SPDRs and MidCap SPDRs could, in

certain circumstances, have an impact on the cash

market, on balance we believe the product will be

beneficial to the marketplace and can actually aid

in maintaining orderly markets.

33 15 U.S.C. 78s(b)(2).

34 17 CFR 200.30–3(a)(12).

Commission believes that it is

reasonable under the Act to allow PCX

to require its members to obtain the

product description for SPDRs and

MidCap SPDRs from Amex.28 Amex

might decide to impose a reasonable

charge for this service.29 The

Commission also notes that Amex states

that the SPDR and MidCap SPDR

product descriptions are only available

from Amex, not the Distributor, and

therefore PCX members cannot obtain

them from the Distributor.

Second, members and member

organizations must include this written

product description with any sales

material relating to the series of PDRs

that is provided to customers or the

public. Third, any other written

materials provided by a member or

member organization to customers or

the public referencing PDRs as an

investment vehicle must include a

statement, in a form specified by PCX,

that a circular and prospectus are

available from a broker upon request.

Fourth, a member or member

organization carrying an omnibus

account for a non-member broker-dealer

is required to inform such non-member

that execution of an order to purchase

a series of PDRs for such omnibus

account will be deemed to constitute

agreement by the non-member to make

the written product description

available to its customers on the same

terms as member firms. Accordingly, the

Commission believes that investors in

PDR securities, in general, and SPDRs

and MidCap SPDRs, in particular, will

be provided with adequate disclosure of

the unique characteristics of the PDR

instruments and other relevant

information pertaining to the

instruments. Finally, PCX’s rule 9.2(a),

Diligence as to Accounts, will apply to

the trading of PDRs, including

transactions in SPDRs and MidCap

SPDRs.30

The Commission believes PCX has

adequately addressed the potential

market impact concerns raised by the

proposal. First, PCX’s proposal permits

listing and trading of specific PDRs only

after review by the Commission.

Second, PCX has developed policies

regarding trading halts in PDRs.

Specifically, the exchange would halt

PDR trading if the circuit breaker

parameters under PCX Rule 7.11 were

reached.31 In addition, in deciding

whether to halt trading or conduct a

delayed opening in PDRs, in general,

and SPDRs and MidCap SPDRs, in

particular, PCX represents that it will be

guided by, but not necessarily bound to,

relevant stock index option trading

rules. Specifically, consistent with PCX

Rule 7.11, PCX may consider whether

trading has been halted or suspended in

the primary market(s) for any

combination of underlying stocks

accounting for 20% or more of the

applicable current index group value or

whether other unusual conditions or

circumstances detrimental to the

maintenance of a fair and orderly

market are present.

The Commission believes that the

trading of PDRs in general on PCX

should not adversely impact U.S.

securities markets. As to the trading of

SPDRs and MidCap SPDRs pursuant to

UTP, the Commission notes that the

corpus of the SPDR Trust is a portfolio

of stocks replicating the S&P 500 Index,

a broad-based capitalization-weighted

index consisting of 500 of the most

actively-traded and liquid stocks in the

U.S. The corpus of the MidCap SPDR

Trust is a portfolio of stocks replicating

the S&P MidCap 400 Index, also a

broad-based, capitalization-weighted

index consisting of 400 actively traded

and liquid U.S. stocks. In fact, as

described above, the Commission

believes SPDRs and MidCap SPDRs may

provide substantial benefits to the

marketplace and investors, including,

among others, enhancing the stability of

the markets for individual stocks.32

Accordingly, the Commission believes

that SPDRs and MidCap SPDRs do not

contain features that will make them

likely to impact adversely the U.S.

securities markets, and that the addition

of their trading on PCX pursuant to UTP

could produce added benefits to

investors through the increased

competition between other market

centers trading the product.

Finally, the Commission notes that

PCX has submitted surveillance

procedures for the trading of PDRs,

specifically SPDRs and MidCap SPDRs,

and believes that those procedures,

which incorporate and rely upon

existing PCX surveillance procedures

governing equities, are adequate under

the Act.

The Commission finds that PCX’s

proposal contains adequate rules and

procedures to govern the trading of PDR

securities, including trading SPDRs and

MidCap SPDRs pursuant to UTP.

Specifically, PDRs are equity securities

that will be subject to the full panoply

of PCX rules governing the trading of

equity securities on PCX, including,

among others, rules governing the

priority, parity and precedence of orders

and the responsibilities of specialists. In

addition, PCX has developed specific

listing and delisting criteria for PDRs

that will help to ensure that the markets

for PDRs will be deep and liquid. As

noted above, PCX’s proposal provides

for trading halt procedures governing

PDRs. Finally, the Commission notes

that PCX has stated that Rule 9.2(a),

Diligence as to Accounts, will apply to

the trading of PDRs in general, and

SPDRs and MidCap SPDRs, in

particular.

IV. Conclusion

It Is Therefore Ordered, pursuant to

Section 19(b)(2) of the Act,33 that the

proposed rule change (SR–PCX–97–35)

is approved.

For the Commission, by the Division of

Market Regulation, pursuant to delegated

authority.34
Federal Register / Vol. 62, No. 248 / Monday, December 29, 1997 / Notices 67679

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

2 17 CFR 240.19b–4.

3On November 3, 1997, the Exchange filed with

the Commission a proposed rule change (PCX–97–

42) containing the same substance as the present

filing. That filing was submitted pursuant to

Section 19(b)(3)(A)(iii) of the Act and Rule 19b-4(6)

thereunder. The filing was withdrawn on November

6, 1997. See letter from Michael D. Pierson, Senor

Attorney, Regulatory Policy, PCX, to Michael A.

Walinskas, Division of Market Regulation, SEC, date

November 6, 1997. Regarding the present filing

(PCX–97–45), on November 21, 1997, the Exchange

filed Amendment No. 1 with the Commission.

Amendments No. 1 constitute a substantive change

in the proposal in that it redesignates the proposal

as a ‘‘non-controversial’’ rule filing under Rule 19b–

4(e)(6) rather than Rule 19b–(e)(5). See letter from

Michael D. Pierson, Senior Attorney, Regulatory

Policy, PCX, to Victoria Berberi-Doumar, Division

of Market Regulation, Commission, dated November

21, 1997. On December 17, 1997. the Exchange filed

Amendment No. 2 with the Commission.

Amendment No. 2 modified the text of the rule to

clarify the proposed change.

4The Exchange has represented that the proposed

rule change will not significantly affect the

protection of investors or the public interest, and

will not impose any significant burden on

competition. See, letter from Michael D. Pierson,

Senior Attorney, Regulatory Policy, PCX, to Vitoria

Berberi-Doumar, Division of Market Regulation,

SEC, date December 17, 1997.

5ASAP Memberships are governed by PCX Rule

1.14. Rule 1.14 sets for the terms and conditons of

the Exchange’s program for Electronic. Access

Membership. The rule provides that ASAP

Members must be registered broker-dealers subject

to the Exchange’s disciplinary jurisdiction, and

must pay an annual fee. The Rule further provides

that such Members are entitled to access to Pacific

Computerized Order Access sySTem (‘‘P/COAST’’),

Pacific Options Exchange Trading System

(‘‘POETS’’), and other systems approved by the

Board of Governors.

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 97–33712 Filed 12–24–97; 8:45 am]

BILLING CODE 8010–01–M

SECURITIES AND EXCANAGE

COMMISSION

[Release No. 34–39469; File No. SR–PCX–

97–45]

Self-Regulatory Organizations; Notice

of Filing and Immediate Effectiveness

of Proposed Rule Change by the

Pacific Exchange, Inc. Relating to

ASAP Membership Requirements

December 19, 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 November

10, 1997,3 the Pacific Exchange, Inc.

(‘‘PCX’’ or ‘‘Echange’’) filed with the

Securities and Exchange Commission

(‘‘Commission’’ or ‘‘SEC’’) the proposed

rule change as described in Items I, II

and III below, which Items have been

prepared by the self-reuglaory

organization. The Exchange has

designated this proposal as noncontroversial pursuant to Rule 19b4(e)(b) under the Act.4 The Commission

is publishing this notice to solicit

comments on the proposed rule change

from interested persons.

I. Self-Regulatory Organization’s

Statement of the Terms of Substance of

the Proposed Rule Change

PCX is proposing to amend its rules

on Automated System Access Privilege

(‘‘ASAP’’) Memberships.5 The text of

teh proposed rule change is available at

the Office of Secretary, Amex, and at the

Commission.

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

self-regulatory organization included

statements concerning the purpose of

the 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

exaimed at the places specified in Item

IV below. The self-regulatory

organization 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

The Exchange is proposing to modify

Rule 1.14 in two respects. First, Rule

1.14(a)(3) currently provides that

telephone access is prohibited to ASAP

Members, except by special exemption

granted by the Board of Governors. The

Exchange is proposing to eliminate this

provision, so that ASAP Members may

place orders over the telephone with

Floor Brokers without first obtaining an

exemption from the Board of Governors.

Second, the Exchange is proposing to

add a provision to Rule 1.14 stating that

at least 80% of an ASAP Member’s total

PCX trade (per calendar quarter) and at

least 80% of an ASAP Member’s total

PCX volume (per calandar quater) must

be executed electronically through

POETS on P/COAST. The 80%

requirements will apply to option

contracts and equity securities

individually. The proposed rule futher

states that the Board of Governors may

grant exemptions to the 80%

requirements on a case-by-case basis.

Currently, under PCX Rules. 1.14(a)(3)

and (1)(5), as ASAP Member may

receive access to P/COAST and POETS

(and other systems approved by the

Board of Governors), but may not have

telephone access to the Trading Floors

without and exemption from the Board

of Governors. Thus, currently, the only

orders that an ASAP Member may send

directly to the Trading Floors are orders

entered electronically (unless and

exemption has been granted). The rule

change will codify a limited exemption

to the current requirement that, in

general ASAP Members may only enter

orders electronically. Specifically, it

will allow up to 20% of an ASAP

Member’s PCX orders to be executed by

telephone. The Exchange believes that

codifying this limited exemption will

make the ASAP Membership program

more attractive to investors and thus

will promote a greaer use of electronic

entry orders on the Exchange. It will

also assure that Members holding

‘‘electronic’’ memberships are entering

the vast majority of their PCX trades

electronically.

The Exchange believes the proposal

will make the Exchange’s program for

electronic membership more viable, and

as such, will allow the Exchange to be

more competive in attracting order flow

to the Exchange.

2. Statutory Basis

The proposal is consistent with

Section 6(b) of the Act, in general, and

Section 6(b)(4), in particular, in that its

designed to facilitate in securities and

promote just and equitable principles of

trade.

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.

C. Self-Regulatory Organization’s

Statement on Comments on the

Proposed Rule Change Received From

Members, Participants, or Others

Written comments on the proposed

rule change were neither solicited nor

received.

III. Date of Effectiveness of the

Proposed Rule Change and Timing for

Commission Action

The Exchange has asserted that the

proposed rule change (i) will not

significantly affect the protection of

investors or the public interest, (ii) will

not impose any significant burden on

competition, and (iii) will not become

operative for 30 days after the date of